Cash conversion rate formula

You use this information to calculate days of inventory outstanding, days of sales outstanding, and days of payables outstanding. The CCC uses the average times to pay suppliers, create inventory, sell products, and collect customer payments. You may need to look at the separate elements of the calculation to determine what happened—suppliers or customers could have financial problems that affected payments, raw material shortages, or transportation issues that affected deliveries.

Learn more about the cash conversion cycle and how to calculate it and use it in an analysis. In , the company had a CCC of —this is a decline between the ends of fiscal years and You might think that the change between these two years is significant—and it is, but it should indicate to you that you should investigate more to find out what might have happened.

Cash Conversion Rate (CCR): Definition and calculation

Here's an example—the data below are from the financial statements of a fictional retailer, Company X. All numbers are in millions of dollars. The cash conversion cycle CCC is one of several metrics used to gauge how well management uses working capital. To calculate it, you first need to determine average inventory:.

This metric reflects the company's payment of its own bills or accounts payable AP. If this can be maximized, the company holds onto cash longer, maximizing its investment potential. CCC should also be calculated for the same periods for the company's competitors to establish a comparison. It is used to measure the company's efficiency in using its working capital.

Cash Conversion Ratio - Financial Edge

To make things more interesting, assume that Company X has an online retailer competitor, Company Z. Company Z's CCC for the same period is negative , coming in at This means that Company Z does not pay its suppliers for the goods it buys until after it receives payment for selling those goods. On its own, CCC does not mean very much.

The company with the lowest CCC is often—but not always—using its resources more efficiently. You should also compare CCC changes over periods of several years to obtain the best sense of how a company is changing. DPO is days payable outstanding. Instead, it should be used to see if a company is improving over time and to compare it to its competitors.

Therefore, a longer DPO is better. Examine external influences like market and economic conditions to see if something affected sales. Now, using the above formulas, the CCC is calculated:. You then use the value for each element to calculate the Cash Conversion Cycle:.

Cash Conversion Rate

Generally, the shorter this timeframe is, the better it is for the company. Therefore, Company Z does not need to hold much inventory and still holds onto its money for a longer period. The CCC over several years can reveal an improving or worsening value when tracked over time. First, calculate the average accounts receivable AR :.

However, remember that CCC should not be the only metric used to evaluate the company or the management; return on equity and return on assets are also valuable tools for determining management's effectiveness. Then, use it to calculate DIO:. To calculate CCC, you need to collect information from the company's financial statements :.

DIO is how many days it takes to sell the entire inventory. Outstanding inventory is inventory that has not been sold, accounts receivable are the accounts that the company needs to collect on, and accounts payable are accounts the company needs to make payments to. Compared with Company X, Company Y is doing a better job. Working capital is the money used in day-to-day operations.

The cash conversion cycle is the amount of time a company needs or takes to convert funds invested in production and sales to cash. This metric measures the amount of time a company takes to turn money invested in operations into cash. Then, calculate the DSO:. DSO is days sales outstanding or the number of days a company takes to collect on sales.

The smaller the number, the better.