Lesson 1 of 7 · 13 min
The operating cycle and the cash conversion cycle
The cash conversion cycle counts the days between paying suppliers and collecting cash from customers: the shorter it is, the less financing the business needs.
In short
- The operating cycle runs from buying materials, through production and sale, to collecting cash. Cash rarely moves at the same moment as the activity.
- Three balances track the timing gaps: accounts receivable (cash still to come from customers), inventory (goods not yet sold) and accounts payable (cash still owed to suppliers).
- Their average lives are days sales outstanding (DSO), days of inventory on hand (DOH) and days payable outstanding (DPO).
- Cash conversion cycle = DOH + DSO − DPO. It is the gap between cash going out to suppliers and cash coming in from customers.
- A short, or even negative, cycle is ideal. A cycle that is longer than peers' or lengthening over time is a warning sign.
Unlock this lesson free for 7 days
Create a free account to get 7 days of full access — every lesson, video, flashcard, mock and the question bank. No card needed.