Home / Glossary / What is the cash conversion cycle (CCC)?

What is the cash conversion cycle (CCC)?

The cash conversion cycle (CCC) – also known as the cash cycle – is a metric expressing how many days it takes a company to convert the cash it spends on inventory back into cash by selling its product. The shorter a company’s CCC, the less time it has money tied up in accounts receivable and inventory.

The cash cycle is an important working capital metric for all companies that buy and manage inventory. It’s an indicator of operational efficiency, liquidity risk, and overall financial health. That said, it should not be looked at in isolation, but in conjunction with other financial metrics such as return on equity. It is also important to note that the cash cycle is not a significant consideration for companies that don’t hold physical inventory.

Calculating the cash conversion cycle

The cash conversion cycle encapsulates three key stages of a company’s sales activity:

  • Selling current inventory
  • Collecting cash from current sales
  • Paying vendors for goods and services purchased

As such, the CCC is calculated using three other working capital metrics: Days Inventory Outstanding (DIO), Days Sales Outstanding (DSO) and Days Payable Outstanding (DPO). DIO and DSO are short-term assets, while DPO is classed as a liability.

Cash conversion cycle formula

The cash conversion cycle formula is as follows:

CCC = DIO + DSO – DPO

Where:
DIO = Days Inventory Outstanding (average inventory/cost of goods sold x number of days)
DSO = Days Sales Outstanding (accounts receivable x number of days/total credit sales)
DPO = Days Payable Outstanding (accounts payable x number of days/cost of goods sold)

So for example, if a company has DIO of 70 days, DSO of 30 days and DPO of 45 days, its cash conversion cycle will be calculated as follows:

CCC = 70 + 30 – 45

= 55 days

Analyzing the cash conversion cycle

The typical length of the cash conversion cycle will vary considerably between different industries meaning there is no single figure that represents a ‘good’ or ‘bad’ cash conversion cycle. However, it can be useful to compare the CCC of two companies within the same industry, as a lower CCC may indicate that one company is managing its working capital more effectively than the other. It can also be useful to track the CCC of an individual company over time, as this can demonstrate whether the business is becoming more or less efficient.

Because the CCC includes DIO, DSO and DPO, a high (poor) CCC may also be an indication of specific issues. For example, a company with a high CCC may take a long time to collect payment from its customers, or it may be ineffective at forecasting demand for its products, meaning that it takes a long time to convert inventory into sales. A high or increasing CCC may also suggest that a company is not using its short-terms assets as efficiently as it could.

Negative cash conversion cycle

While the cash conversion cycle is usually a positive figure, some companies may have a negative cash conversion cycle. In this situation, the company is effectively receiving payments for the goods it sells before paying its suppliers for materials. This can be achieved through a combination of selling inventory rapidly, collecting payment from customers promptly, and paying the company’s suppliers at a later date. Typically, a negative cash conversion cycle is associated with highly efficient online retailers.

How to improve the cash conversion cycle

In order to improve (reduce) the CCC, companies can focus on any of its three components. Increasing DPO, reducing DSO or reducing DIO will all reduce the CCC. Companies can therefore improve the cash conversion cycle and avoid common cash flow problems in one of several ways:

  • Convert inventory into sales faster
  • Collect payment from customers sooner
  • Extend the time taken to pay suppliers

However, it is important to understand that a company’s cash conversion cycle does not exist in isolation, as it describes the way a company interacts with its suppliers and customers. So, if a company extends the time it takes to pay its suppliers, those suppliers will see an adverse impact to their own cash conversion cycle via an increase in their DSO. In some cases, suppliers may face cash flow pressures that could potentially hinder their ability to fulfil orders on time.

Consequently, purchasing companies may choose to strengthen their supply chains by taking advantage of early payment programs such as supply chain finance. Suppliers can thereby receive early payment on their invoices from a third-party funder, while the company pays the invoice at a later date. This type of solution can enable both buyer and supplier to optimize their working capital positions.

FAQs

What is a good cash conversion cycle?

Research indicates that the median cash conversion cycle is between 30 days and around 45 days. Aiming to reduce your cash cycle to 45 days or less would mean you turn cash into inventory and back again quicker than the average business. However, what really constitutes a ‘good’ CCC depends on a range of factors, including the sector you’re operating in.

How can you reduce the cash conversion cycle?

Companies can reduce their cash conversion cycle by turning over inventory faster. The quicker product is sold, the sooner cash can be received for the sale. Managing inventory more effectively by prioritizing quick turnover is conducive to a low cash conversion cycle.

Reducing the length of the cash conversion cycle is also possible by improving performance in any one of the three metrics used to calculate it: days payable outstanding (DPO), days sales outstanding (DSO), and days inventory outstanding (DIO). Increasing DPO, decreasing DSO, or decreasing DIO will result in a shorter cash conversion cycle.

To increase DPO, you can try to negotiate longer payment terms with your suppliers so you can keep hold of your cash for longer. To decrease DSO, think about changes you can make to speed up your collections process, such as automating the invoicing process. To decrease DIO, reconsider your inventory management strategy and make changes to minimize stock on hand.

What does a negative cash conversion cycle mean?

Most companies will have a positive cash conversion cycle, representing that it takes X number of days for them to turn cash into inventory and back again. However, a negative CCC is also possible when a business receives payments for the goods it sells before it’s paid any of its suppliers. Where that’s the case, the cash conversion cycle will represent how many days before paying its suppliers the business is receiving payment from its customers. This can result in a CCC of -X days.

This is most common with highly efficient e-commerce businesses with high product turnover rates, and especially those that make use of drop shipping. Drop shipping is an inventory management strategy that reduces the burden of carrying inventory on the seller business to zero. Instead of being stored by the retailer, drop shipped products and shipped directly from manufacturer to customer.

Accounts receivable automation (or AR automation) is the practice of automating parts of the accounts receivable process in a business. Learn more here.
Flexible Funding is a feature for Taulia Payables that allows buyer organizations to use the right funding at the right time. It gives corporate treasurers options to meet their short-term cash flow needs without restricting the liquidity suppliers rely on.
A working capital funding gap is the difference between short term assets and short-term liabilities. Learn everything you need to know about funding gaps here.
The accounts receivable (AR) process is the series of actions businesses carry out to collect their accounts receivable. Learn more about it here.
The accounts receivable (AR) process is the series of actions businesses carry out to collect their accounts receivable. Learn more about it here.
Accounts receivable factoring is a way for businesses to secure financing by selling their unpaid invoices for cash. Learn more in our glossary post.
Debt financing allows businesses to borrow money to fund their short-term needs. Get a full definition and explanation in our guide to debt finance.
Working capital funding, also known as working capital financing, is a method of business financing. Learn more about the types of working capital funding here.
Integrated ERP systems refers to the combination of an ERP with integrated modules that can help you manage diverse business processes from one platform.
Lean supply chains are designed to maximize efficiency. Learn all about the principles of lean supply chain management in our glossary entry.
Learn everything you need to know about supplier segmentation, including what supplier segmentation model to use and how to tackle the process, in our guide.
What is ESG? ESG stands for environmental, social and governance. Together, these three principles form a framework that’s used to measure how sustainably, ethically, and responsibly an organization is acting. ESG is most often used to describe the efforts companies take to mitigate the potential negative outcomes of their operations. It also refers to a…
What is supply chain management? Supply chain management (SCM) describes the process businesses use to manage the flow of goods, data, and payments throughout a supply chain. Effective supply chain management is instrumental in ensuring every element of the supply chain works towards achieving broader business objectives, whether that’s cost-efficiency, resilience, quick order fulfillment, or…
What is supply chain optimization? Supply chain optimization is the process of refining the structure and operation of a supply chain. It aims to make the best use of resources and technology to extract greater efficiency and performance from the supply chain network. Well-optimized supply chains enable businesses to meet their broader objectives, whether that’s…
What is accounts receivable? Accounts receivable (AR) is the term used to describe money owed to a business by its customers for purchases made on credit. It’s listed as a current asset on the balance sheet, representing the total value of outstanding invoices for products or services sold but not yet paid for. Total accounts…
What is cash flow management? Cash flow management is the process of optimizing the flow of money in and out of a business to achieve a specific operational aim. Effective cash flow management enables businesses to use their working capital better and fuel growth or build resilience. It involves using several levers, including the approach…
What is strategic sourcing? Strategic sourcing is the term used to describe a strategic approach to the sourcing process. It involves the same fundamental steps – research, analysis, negotiation, contracting, and onboarding of new suppliers to fulfill demand for goods or services – but is oriented to contribute to broader business objectives. It also often…
What is automated spend analysis? Automated spend analysis is an automatic digital process that captures, consolidates, and interprets spend data across an organization. It’s used to provide insights into spend efficiency and effectiveness, informing sourcing and purchasing decisions. It’s typically facilitated through dedicated automated spend analysis software, usually integrated with a wider enterprise resource planning…
What is the new FASB accounting treatment for supply chain finance? In September 2022, the Financial Accounting Standards Board (FASB) — the governing body for accounting standards in the United States — updated its standards to include a requirement for SCF disclosure on company financial statements. For most organizations, disclosure of an existing SCF program…
What is spend visibility? Spend visibility refers to how well a company can understand and track how, where, and why capital is used in their business operations. Spend visibility increases when finance teams can more accurately see where company money is being spent. Low spend visibility is defined by difficulties tracking spend comprehensively or accurately….
What is 2/10 net 30? 2/10 net 30 is a trade credit often offered by suppliers to buyers. It represents an agreement that the buyer will receive a 2% discount on the net invoice amount if they pay within 10 days. Otherwise, the full invoice amount is due within 30 days. It’s one of the…
What is working capital ratio? Working capital ratio is a measurement that shows a business’s current assets as a proportion of its liabilities. It’s a metric that provides an overview of financial health and liquidity, indicating whether current liabilities can be paid by existing assets. In the case of working capital ratio, assets are typically…
What is a virtual card? A virtual card is a payment method that is virtual rather than physical. It functions similarly to a traditional credit card but takes the form of a single-use 16-digit number and three-digit CVV code generated online, instead of a plastic or metal card that is received through the post. Virtual…
What is e-procurement? E-procurement refers to the set of digital processes that dictate B2B buyer-supplier relationships in the supply chain. Utilizing technology, e-procurement aims to centralize the workflows involved in purchasing goods or services and bring about efficiency improvements. It’s essentially the digitization of the standard procurement process. E-procurement, short for electronic procurement, replaces traditional…
What is source-to-pay? Source-to-pay (or S2P) is the process that outlines how organizations fulfill their sourcing and procurement needs. It begins with the identification of demand for a product or service, encompasses steps including supplier selection, contract management, and requisition, and ends with a payment being made. It can be split into two composite sections:…
What is supplier relationship management? Supplier relationship management is the set of processes that organizations use to build, manage, and maintain relationships with their suppliers, or vendors. A supplier relationship management strategy is essential to ensure that relationships are built productively, with a view to increasing the overall effectiveness and resilience of the supply chain….
What is supplier information management? Supplier information management (SIM) refers to the set of processes or the system that organizations use to collect, store, access, and update important data about their suppliers. From contact details to contractual documentation, the data involved in supplier information management is essential in the broader process of vendor management. A…
What is AP automation? AP automation, short for accounts payable automation, is the use of software to automate part or all of the accounts payable process. It aims to create efficiency in the accounts payable workflow by digitizing how vendor invoices are received, processed, and stored. In removing manual processes and the need for paper-based…
What is accounts payable? Accounts payable (AP) represents the amount that a company owes to its creditors and suppliers (also referred to as a current liability account). Accounts payable is recorded on the balance sheet under current liabilities. When a business purchases goods or services from a supplier on credit, payment isn’t made straight away,…
What is accounts receivable (AR) financing? Accounts receivable or AR financing is a type of financing arrangement which is based on a company receiving financing capital in return for a chosen portion of its accounts receivable. An AR financing arrangement can be structured in several ways, including as an asset sale or a loan. Essentially,…
What is the cash conversion cycle (CCC)? The cash conversion cycle (CCC) – also known as the cash cycle – is a metric expressing how many days it takes a company to convert the cash it spends on inventory back into cash by selling its product. The shorter a company’s CCC, the less time it…
What is cash flow forecasting? Cash flow forecasting, also known as cash forecasting, estimates the expected flow of cash coming in and out of your business, across all areas, over a given period of time. A short-term cash forecast may cover the next 30 days and can be used to identify any funding needs or…
What is Days Inventory Outstanding? (DIO) Days inventory outstanding (DIO) is a working capital management ratio that measures the average number of days that a company holds inventory for before turning it into sales. The lower the figure, the shorter the period that cash is tied up in inventory and the lower the risk that…
What is Days Payable Outstanding? (DPO) Days payable outstanding (DPO) is a useful working capital ratio used in finance departments that measures how many days, on average, it takes a company to pay its suppliers. As such, DPO is an important consideration when it comes to managing a company’s accounts payable – in other words,…
What is Days Sales Outstanding? (DSO) Days sales outstanding (DSO) is a working capital ratio which measures the number of days that a company takes, on average, to collect its accounts receivable. The shorter the DSO, the faster the company collects payment from its customers – and the sooner it is able to make use…
What is dynamic discounting? Dynamic discounting is a solution that provides suppliers with the option of receiving early payment in exchange for a discount on their invoice. As a result, suppliers can typically access lower cost funding than they might otherwise receive, while harnessing working capital in order to invest in growth and innovation. Buyers, meanwhile,…
What is an early payment discount? An early payment discount is a form of trade finance, allowing buyers to pay a discounted amount to suppliers in exchange for settling invoices before their maturity date. Also known as a prompt payment discount or early settlement discount, it’s typically calculated as a percentage of the goods and…
What is inventory management? Inventory management is a systematic approach to sourcing, storing, and selling inventory. Effective inventory management involves optimizing the flow of goods within an organization, from purchase right through to sale, always ensuring that an appropriate quantity is available in the right place and at the right time to meet customer demand. Inventory in…
What is invoice processing? Invoice processing is a business function that involves managing incoming invoices from initial receipt through to payment. It’s carried out by the accounts payable department and is a critical component of the procure-to-pay process as the final step of any procurement activity. The invoice processing cycle is made up of several composite…
What is inventory cycle time? Inventory cycle time is the amount of time it takes to produce and deliver an order from a customer, usually measured in days. It essentially measures the speed at which a company can complete the manufacturing or assembly process from start to end, turning raw materials or components into a…
What is procure-to-pay? (P2P) Procure-to-pay is a term that encompasses the processes which take place when a company purchases, receives and pays for goods and services. The activities that make up the procure-to-pay process range from identifying the initial need for procurement of goods or services to the final steps of approving invoices and paying…
What is the procurement life cycle? The procurement cycle is the process businesses use to find and obtain goods. It involves multiple steps, including identifying the need for a good or service, finding the right supplier, negotiating terms, creating a purchase order, and receiving the delivery. It’s also known as the procurement life cycle or,…
What is receivables finance? Receivables finance, or receivables financing, is a trade finance method businesses can use to receive funding matching the amounts owed to it by its customers in outstanding invoices. These amounts are known as trade receivables or accounts receivable. By financing its receivables, a business can receive payments earlier, meaning it can…
What is reverse factoring? Reverse factoring is a type of supplier finance solution that companies can use to offer early payments to their suppliers based on approved invoices. Suppliers participating in a reverse factoring program can request early payment on invoices from the bank or other finance provider, with the buyer sending payment to the…
What is trade finance? Trade finance is the term used to describe the tools, techniques, and instruments that facilitate trade and protect both buyers and sellers from trade-related risks. The purpose of trade finance is to make it easier for businesses to transact with each other. It also helps to reduce the risks involved in…
What are trade receivables? Trade receivables are defined as the amount owed to a business by its customers following the sale of products or services on credit. Also known as accounts receivable, trade receivables are classified as current assets on the balance sheet. Most companies allow their customers to use credit on purchases of goods…
What is strategic procurement? Strategic procurement, or procurement strategy, is the process businesses use to acquire goods or services of the right quality, at the right price, and in time to meet customer demand. It brings procurement activities in-line with a company’s broader objectives, while also reducing supply chain risk. Strategic procurement is a long-term, organization-wide…
What is supply chain finance? Supply chain finance, also known as supplier finance or reverse factoring, is a financing solution in which suppliers can receive early payment on their invoices. Supply chain finance reduces the risk of supply chain disruption and enables both buyers and suppliers to optimize their working capital. Unlike other receivables finance…
What is vendor management? Vendor management is a term that describes the processes organizations use to manage their suppliers, who are also known as vendors. Vendor management includes activities such as selecting vendors, negotiating contracts, controlling costs, reducing vendor-related risks and ensuring service delivery. The vendors used by a company will vary considerably depending on…
What is working capital management? Working capital management is a business process that helps companies make effective use of their current assets and optimize cash flow. It’s oriented around ensuring short-term financial obligations and expenses can be met, while also contributing towards longer-term business objectives. The goal of working capital management is to maximize operational…