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Sin number 7 - Not knowing your operating cash cycle.

By Greg Carroll 

 

The operating cash cycle is the time difference between when a business must pay money out for goods or materials, processing those goods or materials, selling the finished product or service, and actually getting paid for delivering the finished goods or services. Understanding this cycle will give you a good idea of how much cash you need to carry in your business at any point in time.

 

Looking at a very simple example. Let's assume you were a distributor. Your sales process would be something like this:

 

  1. Purchase stock
  2. Promote stock for sale
  3. Pay supplier for stock
  4. Sell stock
  5. Pay for promotion of stock
  6. Payment for sales received

 

Straight away you can see that you have had to pay money out for both the purchase of stock and the promotion of stock before you have received any money back in. You also have to fund your businesses operating expenses during this period. So if your sales process took 60 days from start to finish you would need to be holding sufficient cash to cover the purchase of stock, payment of promotion costs, plus two months operating expenses.

 

Remember back in the example with ABC, while they were making a profit they did not have sufficient cash to cover their expenses while they were waiting to get paid.

 

So understanding this cycle is going to give you a better idea of how much cash you need to be carrying at any point in time. If your cash level slips below this figure then this is your first early warning sign that there could be trouble ahead. Remember in the real world your debtors do not always pay on time, so this figure is a bare minimum.    

 

Are you on top of your cash flow?

Are you currently in business or planning to start a business in the near future?  Do you have cash flow concerns or want to find ways to improve your cashflow? Are there things you should or could be doing to improve your cash flow now?

 

To find out simply complete our Cashflow Review Form or complete the form below for an initial interview.

This course is not a substitute for independent professional advice. We do not warrant the accuracy, completeness or adequacy of the information or material in this course. All information is subject to change without notice. We and each party providing material displayed in this course disclaim liability to all persons or organizations in relation to any action(s) taken on the basis of currency or accuracy of the information or material, or any loss or damage suffered in connection with that information or material.