Do You Have Proper Cash Flow Control Procedures?

The are four key cash flow control procedure areas. How cash flows through these areas makes up the Cash to Cash Cycle.

The cash cycle is undoubtedly the single most important process to optimize for any business – from when you spend money to when you get money. Let’s put the cash flow control procedures together.

Cash to Cash Cycle Definition

By definition, the cash to cash cycle is a financial ratio that shows the length time for which a company must finance its own inventory. It measures the number of days between the initial cash outflow (when the company pays its suppliers) to the subsequent cash inflow (Accounts Receivable).

Cash Conversion Cycle and Cash Flows

One way to express this cash flow is the control over the length of time between the purchase of Inventory (raw materials, etc) and the collection of accounts Receivable created from the sale of your product — also called the cash conversion cycle.

Why is this most important? Because this is your cash flow and because;

Operations Assessment and Working Capital

Businesses live and die by the cash generated from operations. If your operations don’t create cash, then they consume it. A cash-consuming operation means that you have negative cash flow and you are living on financing (debt or equity). But the Cash to Cash Cycle also shows you the amount of working capital you have committed to your organization.

Just add the number of days of inventory to the number of days of receivables outstanding, and then subtract the number of days of payables outstanding. The result is the number of days of working capital your organization has tied up in managing your supply chain. This can be quite a significant number – one not to overlook.

Cash-to-Cash Cycle Formula

This can also be expressed by the Cash-to-Cash Cycle formula:

Stock Days + Debtor Days – Creditor Days = Cash-to-Cash Cycle

So, for example, a company that keeps its stock for on average 30 days, gets paid by its debtors on average within 30 days and pays its creditors on average within 30 days will have a cash-to-cash cycle of 30 days.

Good Cash Flow Control

Companies that receive cash from their customers at the point of sale and that have their inventory under good control will have a short cash-to-cash cycle. A company could even have either a negative cycle or a cycle time of zero.

Zero Cash Cycle

For example, if a business’ receivables and payables are held in check at 30 days while inventory runs at Just-In-Time (JIT) levels, then the cash cycle is zero – meaning that this company is in good shape with no working capital needs. And, of course, when receivable days are less than payables with JIT inventory, then the company will enjoy a positive cash-to-cash cycle – creating more cash on hand.

Poor Cash Flow Control

On the other hand, however, if a company lowers accounts payables down to 15 days and allows accounts receivables to grow to 45 days, while inventory remains at steady levels, the cash cycle will be high. Now, working capital will be constrained to compensate for these inefficiencies.

Processes and Procedures Investments

Did you realize that working capital is the investment you are making in the inefficiencies of your processes and procedures plus your investment in your suppliers’ and your customers’ inefficiencies too? Investing in inefficiency is like burning cash.

In other words, if you do not monitor inventory, accounts receivable, sales and marketing and accounts payable to ensure a healthy cash-to-cash cycle, then your working capital needs will not maintain a strong cash flow. The Cash Flow Process will be out of control, and will not be optimized to create the greatest amount of financial effectiveness for the company.

Cash Flow Control Procedures

• Inventory
• Accounts Receivable
• Sales and Marketing
• Accounts Payable

So now you can see the relationship of your Cash Flow Control Procedures and your cash flow, your working capital and your cash to cash cycle. In order to increase your cash flow, you need to increase the velocity of your cash to cash cycle by reducing the inefficiencies found in your processes, your suppliers’ processes and your customers’ processes. The result is a decrease in your working capital and an increase in your cash. And, as we’ve seen, this can be a significant cash flow number – again, one that you shouldn’t overlook.

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