Sufficient cash flow is incredibly important to the success of your business.
It’s a critical metric in business health. The amount of available cash your business has on hand at any given time affects both your daily and long-term operations.
Poor cash flow makes your day-to-day business operations more challenging and it also negatively affects your timeline on paying creditors.
Fortunately, there are ways to shorten your cash conversion cycle. Reducing the cycle length can even boost your bottom line through interest savings.
Check out our proven tips for business executives below:
Improve Your Cash Flow Management: Tracking the timing and amounts of cash inflows and outflows is an important part of cash flow management. Cash inflows arise from cash sales to customers, conversion of accounts receivable to cash, loans and borrowing, and asset sales. Cash outflows come from cash payments for expenses, conversion of accounts payable to cash via bill payments, and principal and interest payments on debt. Businesses with sound cash flow management policies and procedures in place typically have shorter cash conversion cycles.
Collect Your Accounts Receivables Faster: How quickly your customers pay has a significant impact on your cash cycle. Companies can shorten this cycle by requesting upfront payments or deposits and by billing as soon as information comes in from sales. You also could consider offering a small discount for early payment, say 2% if a bill is paid within 10 instead of 30 days. Businesses can also reduce cash cycles by keeping credit terms for customers at 30 or fewer days and actively following up with customers to ensure timely payments. It also pays to keep on top of past-due receivables, as the chances of collecting reduce dramatically over time.
Improve Your Accounts Receivables Process: Several people generally have a hand in a company’s billing and invoicing process. If you look for ways to increase those employees’ efficiencies, your cash conversion cycle will likely improve. One way is to automate your invoice creation process in order to ensure maximum efficiency in the billing process. This will lead to faster turnaround times on pay received from those who owe you money.
Disburse your accounts payable more slowly: While it’s beneficial to you if your customers pay early, your cash on hand increases if you disburse your accounts payable later. While it’s recommended you pay invoices according to terms you’ve negotiated with your suppliers, you receive no benefit from paying early. To increase your cash on hand, work with your accounting department to set up a payables management system where all invoices are paid as close to the due dates as possible.
Manage your inventory more efficiently: Companies can reduce their cash conversion cycles by turning over inventory faster. The quicker a business sells its goods, the sooner it takes in cash from sales and begins its accounts receivable aging. Consider implementing a just-in-time – or JIT – inventory management, where supplies are delivered as they’re needed, not weeks – or even months – early. Also, consider cutting your losses on slow-moving inventory items, even if this means selling them at a big discount. Doing so will free up valuable cash that can help carry you through the cash conversion cycle.
Take advantage of your bank’s treasury management services: Check with your bank about treasury management products and services that can help accelerate collection and posting of your accounts receivable. These may include wholesale lockbox, remote deposit capture and electronic payments via the automated clearing house. With wholesale lockbox, check float is reduced considerably: Your customers send payments to a special post office box where the bank picks them up and deposits them immediately. Remote deposit capture, meanwhile, lets you deposit checks remotely from the convenience of your office without even having to go to the bank. And the ACH eliminates check float completely by sending payments electronically, instead of by check. There also are companies such as Fundbox, which help small businesses clear unpaid invoices and improve cash flow for a small fee.
In addition to giving you more cash on hand, a shorter cash conversion cycle also can increase your company’s bottom line. Check out this example from Strategic CFO. In the example:
- CCC means cash conversion cycle
- DIO equals days inventory outstanding
- DSO means days sales outstanding
- DPO stands for days payable outstanding
In Strategic CFO example, a company with $25 million in sales volume (with gross margin of 35% after a 65% costs of goods sold rate) could free up over $2 million in cash by collecting receivables one week sooner, turning inventory once more per year and stretching payables by one week. At a cost of capital of 5.25%, the company also would see an additional savings of over $100,000 in interest fall straight to the bottom line, the organization found.
Even if you’re not a $25 million company, there can be significant savings found by reducing your cash conversion cycle. Contact us to run a scenario for you, or for more tips on how to reduce your company’s cycle.