Tag Archives | operating cycle

Managing Cash Flow

Effectively managing cash flow is an issue that all businesses face, whether they have plenty of cash or are experiencing a cash crunch.  Cash is the lifeblood that fuels current operations and allows for growth, so developing a strategy to manage this most important asset is key.

Effectively Managing Cash Flow

So how do you effectively manage cash flow?  In the article “Track Money In and Out of a Company“, Jim Wilkinson suggests the following strategies:

  1. Prepare cash flow projections
  2. Manage and work your operating cycle
  3. Watch expenses carefully
  4. Use your cash wisely

The article lists specific examples of what these strategies look like and how to implement them. Click here to read more about it.

For more tips on how to improve cash flow, click here to access our 25 Ways to Improve Cash Flow whitepaper.

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Operating Cycle Definition

Operating Cycle Definition

The Operating cycle definition establishes how many days it takes to turn purchases of inventory into cash receipts from its eventual sale. It is also known as cash operating cycle, cash conversion cycle, or asset conversion cycle. Operating cycle has three components of payable turnover days, Inventory Turnover days and Accounts Receivable Turnover days. These come together to form the complete measurement of operating cycle days. The operating cycle formula and operating cycle analysis stems logically from these.

The payable turnover days are the period of time in which a company keeps track of how quickly they can pay off their financial obligations to suppliers. Inventory turnover is the ratio that indicates how many times a company sells and replaces their inventory over time. Usually, calculate this ratio by dividing the overall sales by the overall inventory. However, you can also calculate the ratio by dividing COGS by the average inventory. Finally, the accounts receivable turnover days is the period of time the company is evaluated on how fast they can receive payments for their sales. In conclusion, the operating cycle is complete when you put together all of these steps.


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Operating Cycle Applications

The operating cycle concept indicates a company’s true liquidity. By tracking the historical record of the operating cycle of a company and comparing it to its peers in the same industry, it gives investors investment quality of a company. A short company operating cycle is preferable. This is because a company realizes its profits quickly. Thus, it allows a company to quickly acquire cash to use for reinvestment. A long business operating cycle means it takes longer time for a company to turn purchases into cash through sales.

In general, the shorter the cycle, the better a company is. Tie up less time capital in the business process. In other words, it is in a business’ best interest to shorten the business cycle over time. Try to shorten each of the three cycle sections by a small amount. The aggregate change that comes from the shortening of these sections can create a significant change in the overall business cycle. Thus, it can consequently lead to a more successful business.

operating cycle definition

See Also:
Operating Cycle Analysis

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Why Don’t I Have Cash?

See Also:
Cash Cycle
Cash Flow Statement
Free Cash Flow
External Sources of Cash

Why Don’t I Have Cash?

I was involved in a meeting with a prospect a few weeks ago who we will call Don. Don owns a manufacturing company which is presently experiencing a growth rate of thirty percent annually. He is showing a profit, but his bank will not increase his line of credit. As a result, Don’s company is having cash flow problems. He told me that he has to extend payments to his suppliers, but they are not happy with him. Don also told me he is unable to call most of his customers for payment, because they are within their credit terms; he feels he would be harassing them. He asked me “Why don’t I have cash?”

Operating Cycle Trap

I told him he was caught in what I call the operating cycle trap. Don looked at me and said “What is that?” I told him his operating cycle is; 1) the time from when he first purchases raw materials, 2) converts the raw materials to a finished product, 3) sells the finished products, 4) converts the accounts receivable to cash. I continued by saying your problem arises when the operating cycle is greater than the credit terms you receive from your suppliers.

The operating cycle problem is increased when your bank, being a historical lender, bases your line of credit on what your company has done in the past, not the opportunities in front of you. They will not increase your line of credit. Finally, your profit margin is not large enough to fund your current growth rate. Don looked at me and said “Is there anything I can do?”

Alternatives to Improve Cash Flow

I said, “Yes, Don you do have some alternatives.” If possible, the way to solve this problem, at no additional cost to the company, is to get your suppliers to give you longer credit terms. Then, give your customers shorter credit terms. This will shorten your operating cycle, and a goal for any business should be to minimize their operating cycle. Don said “I know that will not work because my creditors are asking me to pay faster and the competition within my industry will not allow me to shorten my credit terms to my customers.”

Another way to solve your company’s needs is to consider approaching another bank that may take a more aggressive approach to increasing your line of credit. He then told me that he has been to three different banks. They all said they think they will be able to increase his credit line. The end result has been every bank has either a) they want Don’s business, but the line would be the same as his current line of credit, or b) the increase was so small it really wouldn’t solve his problem. I told him that is what I would expect. Bankers’ underwriting policies for lines of credit are similar.

A third solution would be to get an equity partner. A person or entity would invest the amount of cash to pay the bank off and to fund your projected growth for three to five years. He looked at me and said “The last thing I want is a partner.”

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Track Money In and Out of a Company

See Also:
How to Develop a Daily Cash Report
Cash Flow Projections
Discounted Cash Flow Analysis
Cash Flow Statement
Free Cash Flow Analysis

Track Money In and Out of a Company

We have all heard CASH IS KING and HE WHO HAS THE GOLD RULES. I was talking with a business owner of a growing company. He was complaining about the lag between the time he had to pay his suppliers and employees and the time it took him to collect from his customers. He told me that is his biggest problem. Then he asked me how to resolve it. The trick is to track money in and out of a company.

Cash Flow Management

I said the solution is cash flow management. He looked at me and asked “what do you mean cash flow management?” I told him the most basic definition of cash flow management is delaying outlays of cash as long as possible, while encouraging anyone who owes you money to pay it as rapidly as possible.

He looked and me and said if he could do that, then he would not be talking to me. In reality he said his suppliers will not give him the credit he needs and his customers will not pay him when their receivables were due. I told him that his situation was normal and not unusual. He then asked what I would suggest for him to have good cash flow management.

Prepare Cash Flow Projections

I told him first of all, you can not manage anything if you can not measure it. So, you should consider preparing cash flow projections for next year, next quarter and, if you’re on shaky ground, next week. The objective and results of an accurate cash flow projection is they will alert you to negative cash flow situations well before the money is not there.

However, you must understand that cash flow plans are not glimpses into the future. Cash flow plans are only estimates that will take into account such items as your customerspayment histories, your upcoming purchases, and your vendors’ patience.

Additionally, to make an accurate projection you need detailed understanding of amounts and dates of upcoming cash outlays. This means you need to account for every dollar that will be spent, as well as what it will be spent on.


Download The 25 Ways to Improve Cash Flow


Manage Operating Cycle

Secondly, you must manage and work your operating cycle. You know if you were paid for sales the instant you made them, you would never have a cash flow problem. Unfortunately, that doesn’t happen in business to business transactions. You can still improve your cash flow by managing your operating cycle. The basic idea is to speed your operating cycle, which is the time it takes to turn materials and supplies into products, inventory into receivables, and receivables into cash. Some techniques for doing this include, offer discounts to customers who pay their bills rapidly, ask customers to make deposit payments at the time of ordering, issue invoices promptly, and follow up immediately if payments are slow in coming.

Understand Sales Growth

Another area to help your cash flow is to understand that sales growth will conceal problems. Don’t be lulled into complacency by simply expanding sales. You need to watch expenses carefully. Any time and any place you see expenses growing faster than sales, examine costs carefully to find places to cut or control them. You must use your cash wisely. Some ways to achieve this is to take full advantage of creditor payment terms. If a payment is due in 30 days, don’t pay them early, consider using electronic funds transfer or credit cards to make payments on the last day they are due. And, don’t always focus on the lowest price when choosing suppliers. Sometimes more flexible payment terms can improve your cash flow more than a bargain-basement price.

With this information, he told me he is now prepared work on his cash flow management.

For more tips on how to improve cash flow, click here to access our 25 Ways to Improve Cash Flow whitepaper.

Track Money In and Out of a Company, Cash Flow Management
Strategic CFO Lab Member Extra

Access your Strategic Pricing Model Execution Plan in SCFO Lab. The step-by-step plan to set your prices to maximize profits.

Click here to access your Execution Plan. Not a Lab Member?

Click here to learn more about SCFO Labs

Track Money In and Out of a Company, Cash Flow Management

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Operating Cycle Definition

See Also:
Operating Cycle Analysis

Operating Cycle Definition

The Operating cycle definition establishes how many days it takes for a company to turn purchases of inventory into cash receipts from its eventual sale. It is also known as cash operating cycle or cash conversion cycle or asset conversion cycle. Operating cycle has three components of payable turnover days, Inventory Turnover days and Accounts Receivable Turnover days. These come together to form the complete measurement of operating cycle days. The operating cycle formula and operating cycle analysis stems logically from these. To be more specific, the payable turnover days are the period of time a company keeps track of how quickly they can pay off their financial obligations to suppliers.

The next step, inventory turnover, is the ratio that indicates how many times a company sells and replaces their inventory over time. Usually, calculate this ratio by taking the overall sales and dividing it by the overall inventory. However, calculate the ratio by dividing the cost of goods sold by the average inventory. The final step, the accounts receivable turnover days, encase the period of time in which the company is evaluated on how fast they can receive payments for their sales. As said before, when you put together all of these steps, the operating cycle is complete

Operating Cycle Applications

The operating cycle concept indicates a company’s true liquidity. By tracking the historical record of the operating cycle of a company and comparing it to its peer groups in the same industry, it gives investors investment quality of a company. A short company operating cycle is preferable since a company realizes its profits quickly. It also allows a company to quickly acquire cash to use for reinvestment. A long business operating cycle means it takes longer time for a company to turn purchases into cash through sales.

In general, the shorter the cycle, the better a company is. This is since less capital is tied up in the business process. In other words, it is in a business’ best interest to shorten the business cycle over time. The easiest way is to shorten each of the three cycle sections by, at least, a small amount. The aggregate change that comes from the shortening of these sections can create a significant change in the overall business cycle. As a result, it can consequently lead to a more successful business.

For more ways to add value to your company, download your free A/R Checklist to see how simple changes in your A/R process can free up a significant amount of cash.

Operating Cycle Definition

Strategic CFO Lab Member Extra

Access your Projections Execution Plan in SCFO Lab. The step-by-step plan to get ahead of your cash flow.

Click here to access your Execution Plan. Not a Lab Member?

Click here to learn more about SCFO Labs

Operating Cycle Definition

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Operating Cycle Analysis

See Also:
Operating Cycle Definition
days inventory outstanding
Cash Cycle
day sales outstanding
days payable outstanding
Financial Ratios

Operating Cycle Formula

Complete operating cycle analysis calculations simply with the following formula:

Operating cycle = DIO + DSO – DPO

Where

DIO represents days inventory outstanding

DSO represents day sales outstanding

DPO represents days payable outstanding

Operating Cycle Calculation

Calculating operating cycle may seem daunting but results in extremely valuable information.

DIO = (Average inventories / cost of sales) * 365 DSO = (Average accounts receivables / net sales) * 365

DPO = (Average accounts payables / cost sales) * 365

For example, what is the operating cycle of a business? A company has 90 days in days inventory outstanding, 60 days in days sales outstanding and 70 in days payable outstanding. See the following calculation to see how to work it out:

Operating cycle = 90 + 60 – 70 = 80

In conclusion, it takes an average 80 days for a company to turn purchasing inventories into cash sales. In regards to accounting, operating cycles are essential to maintaining levels of cash necessary to survive. As a result, maintaining a beneficial net operating cycle ratio is a life or death matter.

Resources

If you want statistical information about industry financial ratios, then go to the following websites: www.bizstats.com and www.valueline.com.

For more ways to add value to your company, download your free A/R Checklist to see how simple changes in your A/R process can free up a significant amount of cash.

Operating Cycle Analysis

Strategic CFO Lab Member Extra

Access your Projections Execution Plan in SCFO Lab. The step-by-step plan to get ahead of your cash flow.

Click here to access your Execution Plan. Not a Lab Member?

Click here to learn more about SCFO Labs

Operating Cycle Analysis

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Fixed Asset Definition

See Also:
Accounting Depreciation
Accelerated Method of Depreciation
Double Declining Method Depreciation
Straight Line Depreciation
Chart of Accounts (COA)
Standard Chart of Accounts
Asset Disposal

Non-Current Assets Definition (Fixed Asset Definition)

In accounting, the fixed asset definition or non-current assets definition is a long-term tangible asset. You can also call fixed assets non-current assets, long-term assets, or property, plant and equipment (PP&E). Fixed assets are often large and illiquid physical assets important to a company’s core business operations.

In addition, fixed assets are long-term. That means that the company will hold them longer than one year or one operating cycle. Therefore, a company will not use up the assets or convert them into cash within one year or one operating cycle. Furthermore, fixed assets are tangible; they are physical property, like real estate, buildings, and equipment.


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Record fixed assets on the balance sheet at their net depreciated value. Net depreciated value is purchase price minus accumulated depreciation. The value of a fixed asset will depreciate over its lifespan, and the amount of depreciated value will accumulate on the balance sheet in a contra-asset account that is subtracted from the value of the fixed asset to get its net depreciated value.

Fixed assets, or non-current assets, are in contrast to current assets. Current assets are short-term assets that are expected to be used up or converted to cash within one year or one operating cycle.

If you want to increase the value of your organization, then click here to download the Know Your Economics Worksheet.

fixed asset definition, Non-Current Assets Definition

Strategic CFO Lab Member Extra

Access your Strategic Pricing Model Execution Plan in SCFO Lab. The step-by-step plan to set your prices to maximize profits.

Click here to access your Execution Plan. Not a Lab Member?

Click here to learn more about SCFO Labs

fixed asset definition, Non-Current Assets Definition

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