The CCC is your “cash conversion cycle” (or simply referred to as the “cash cycle”) and it tells you how many days it takes for your company to turn your inventory purchases into cash. The shorter the CCC, the more flexible your working capital, and that is every business owner and CFO’s dream.
With a shorter CCC, you’ll be able to pay bills, make payroll, take advantage of supplier discounts, order new product or inventory, and execute on your growth strategy with much more ease.
But to shorten the cash cycle, you need to first find a way of adjusting these three key variables:
- DIO: Days Inventory Outstanding.
- The average # days you turn inventory into sales.
- DPO: Days Payable Outstanding
- The # of days it takes to pay your accounts payable.
- DSO: Days Sales Outstanding
- The # of days it will take to collect on sales after they’ve been made.
Want more details on CCC including DIO, DPO and DSO? Read part 1 now.
To positively impact the three variables and shorten your CCC, you have multiple options:
1. Improve sales times
If your sales team can speed up the time to make deals, you’ll be shortening your DIO – the time it takes to turn your inventory into sales. Sell faster – it’s every company’s goal, but often easier said than done.
2. Enhance supplier relationships
Likewise, improving your supply chain can create efficiencies in your DIO. By developing good relationships with suppliers you can take advantage of just-in-time inventory practices, where your goods arrive only as needed. This may already be a common option for some industries, like manufacturing and perishables, but it is also becoming more popular in retail with the rise in drop shipping, where companies never handle their own inventory – instead, when your customer orders arrive you’ll purchase the inventory from a third party who ships directly to the end customer on your behalf.
3. Better credit and collection process
There’s no doubt that an effective collections department will improve your ability to collect customer invoices on time. Effective collections can help create a more stable and reliable DSO. However, this requires staff training, likely more personnel hours (translating into payroll costs) and leadership’s time to make sure this process is effectively managed.
4. Ask for extended payment terms
Extending your accounts payable will increase your DPO, and help offset the other two factors of your CCC. But this could negatively impact your relationships with suppliers if you extend too much, and breaching the terms could put you at risk of becoming the delinquent account you’re trying to avoid in your own A/R.
5. Reduce your 30/60/90 day payment terms
Fortunately, you’re in control of your accounts receivable terms and can shorten them to receive payment earlier. By reducing your terms, you lower your DSO and speed up your cash cycle.
Unfortunately, many customers request and expect longer terms. Some industries abide by certain time frames to pay, which may not match up with your cash flow needs. And other customers will be delinquent on payment no matter what terms you agree upon. You may risk losing sales to competitors offering better terms.
6. Early pay discounts
These are generally not very effective at reducing your DSO and some customers take the discount even when they pay on normal schedules. Overall, this can lead to lower revenue than expected, which doesn’t amount to a cheap option.
7. Smart & strategic financing
Being strategic with your billing and collections is one of the most accessible ways to improve your cash cycle, and you can use commercial finance solutions to dramatically shorten your DSO. In fact, instead of having a DSO of 30/60/90 or more days, you can have a DSO of one day.