Cash to Cash Cycle Time
The components of your cash-to-cash cycle time depends on your business but generally includes procurement, raw materials inventory, production, finished goods inventory, logistics, and your accounts receivable. To reduce cash-to-cash cycle time, you can reduce all or any one component. Let’s start at the front end of a typical process and work our way to collecting our cash.
Cash-to-cash cycle time starts when you have to pay for your raw materials. This means that we take into account your payment terms. Consider the raw material on hand. If you received an invoice with your shipment, and if it’s due in 30 days from the date shipped, and it spends 4 days in transit, and you normally operate with 90 days of inventory on hand, you then have 64 days that count toward your cash-to-cash cycle time. If you are given the option to take a 2% discount if you pay within 10 days, then that effects both your Throughput and your cash-to-cash cycle time. We’ll come back to that option later. If you have multiple raw materials with different terms, transit times, different prices, and different amounts of inventory you can calculate a weighted average but let’s keep our conversation simple.
Next, we convert the raw material into our product. Let’s say that our manufacturing lead-time is 4 weeks or 28 days. That’s the time from when we take the raw material out of inventory and start to convert it to our end product.
We are in a make to order environment, so when we complete the order we ship the order to our customer. So we have no finished goods inventory. Our terms to our customers are 30 days from our ship date, but our accounts receivable (A/R) is typically 42 days.
In this example our cash-to-cash cycle time is 64 + 28 + 42 = 134 days. Let’s further say that we sell our product for $400 and that our raw materials are $100.
To reduce the cycle time, we can:
- Reduce the number of days to produce and ship the product
- Reduce the number of days the raw material is on-hand
- Reduce the time it takes to collect payment from our customers
Cash to cash cycle time is converted extensively in Dr Lisa’s book Increasing Cash Velocity.