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Operating Cycle
andCash Conversion Cycle
Presented By:-
Abhishek Kumar-05
Abhishek Mahrotra-06Bhabani Prasad Dehury-14
Naveen Singh-36
Mayank Agarwal-83
Paritosh Tandon-270
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Introduction
Working capital operating cycle
Investment in working capital is influenced by four key events
in the
production and sales cycle.
These events are:purchase of raw materials, payment for their
purchase, the sale of
finished goods, and collection of cash for the sales made.
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Operating cycle
The time lag between the purchase of raw materials and the
collection of cash for sales is referred to as the operating
cycle for
the company.
Cash Cycle
The time lag between the payment for raw materials purchases
and the collection of cash from sales is referred to as the
cashcycle.
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Operating cycle can be depicted as:
The stage between purchase of raw materials and their
payment is known as the creditors payables period.
The period between purchase of raw materials and
production of finished goods is known as the inventory
period.
The period between sale of finished goods and thecollection of
receivables is known as the accounts
receivable period.
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Cash Conversion CycleThe cash conversion cycle is a measure of
working capital efficiency, often giving
valuable clues about the underlying health of a business.
The cycle measures the average number of days that working
capital is invested in
the operating cycle. It starts by adding days inventory
outstanding (DIO) to
days sales outstanding (DSO).
This is because a company "invests" its cash to acquire/build
inventory, but does
not collect cash until the inventory is sold and the accounts
receivable are finallycollected.
Receivables are essentially loans extended to customers that
consume working
capital; therefore, greater levels of DIO and DSO consume more
working capital.
Days payable outstanding (DPO), which essentially represent
loans fromvendors to the company, are subtracted to help offset
working capital needs.
In summary, the cash conversion cycle is measured in days and
equals
DIO + DSO DPO
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Kohl's (a retail department store) most recent income statement
and a few lines
from their working capital accounts.
CaseStudy
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Kohl's collects its receivables in 38 days.
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Jimmys Computer Builders (Upfront Payments)
In the case of Jimmys business, as the Company receives more
and more customers, each customer pays up front and allowsJimmy
to use their money to finance his business growth as he
can take their payments and invest in new inventory to build
and
sell.Jimmy has a negative working capital business.
Joeys No-Money Down Computers (Delayed Payments)
Joey, on the other hand, requires financing to get his
business
started. He needs to find money (probably through issued debt)
in
order to get inventories and pay suppliers while he waits for
his
customers to pay 60 days later. Joey has a positive working
capital
(think: he requires capital to do work) business. As Joeys
business
grows, he will need more and more outside financing to invest
to
service his increasing customers.
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