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Tuesday, January 03, 2006

Calculating the Cash Conversion Cycle

One of the key concepts in working capital management is the idea of a cash conversion cycle. Simply put, this cycle is the length of time from when you pay for raw materials to when you collect on the accounts receivables resulting from the sale of the resulting finished goods. I teach it in my principles of finance class every semester.

The cash conversion cycle is particularly important for young, fast growing companies, because for them, a lack of cash is one of the (if not the single most) important causes of business failure. So, knowing the length of your cash conversion cycle clues you in to how much cash reserves you'll need toi ride out the cycle.

The Motley Fool has a short explanation as to how to calculate the Cash Conversion Cycle here.

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