Corporate Finance
Working capital management
Working capital is the cash tied up in receivables and inventory, net of what suppliers finance.
Definition
Working capital is current assets minus current liabilities. Operating working capital focuses on the day-to-day cycle: inventory sitting before sale, receivables waiting to be collected, and payables deferring payment to suppliers.
The cash conversion cycle measures how many days cash is committed: inventory days plus receivable days minus payable days. Shortening it releases cash without borrowing or raising equity.
Intuition
Every day a receivable is unpaid and every day inventory sits, the business is financing someone else. Giving customers credit ties up cash; taking longer to pay suppliers frees it.
When to use it
- Diagnosing why a profitable business is short of cash.
- Setting credit policy, inventory policy, and supplier terms.
When not to use it
- Stretching payables so far that supplier relationships or early-settlement discounts are lost.
- Cutting inventory so hard that stockouts cost more in lost sales than the cash saved.
Formula
Cash conversion cycle
CCC = Inventory days + Receivable days − Payable days
Formula
Inventory days
(Inventory ÷ Cost of goods sold) × 365
Formula
Receivable days
(Receivables ÷ Revenue) × 365
Worked example
Releasing cash from receivables
Inventory days 60; receivable days 45; payable days 30. Revenue is 3,650,000 a year.
- 1
Cash conversion cycle
60 + 45 − 30 = 75 days.
- 2
Daily revenue
3,650,000 ÷ 365 = 10,000 per day.
- 3
Collect ten days faster
10 × 10,000 = 100,000 released.
The cycle is 75 days. Cutting receivable days by ten releases 100,000 of cash with no new financing.
Measured by
These scoreboard metrics track or interpret this idea across the Lab.
Common mistakes
- Using revenue in the inventory-days formula instead of cost of goods sold.
- Chasing a shorter cycle without checking the cost in lost sales or lost discounts.
- Ignoring seasonality when reading average balances.
How it connects
affects
Changing the source moves the target.
- Financial risk management: A long cash cycle squeezes liquidity.
is an advanced form of
The source extends the target once the basics are secure.
relates to
Useful to study together, in either order.