Liquidity Rules: Getting to Cash Faster


Getting money in-house faster can help reduce costs and stabilize cash flow, two outcomes with great potential to improve the performance of any business. In accounting terms, this concept is known as the cash-conversion cycle, or CCC, but harnessing it to get the most benefit for your business involves more than just invoicing quickly and staying on top of collections.

The lifeblood of any business is cash, says Phillip S. Bessler, associate professor and business clinic director at Baldwin Wallace University in Berea, Ohio. “The ability to pay your employees and vendors, to take advantage of trade credit, and to pay other expenses as they come due can only happen if you have a positive cash balance in the bank,” he says. “Knowing your CCC allows you to plan on having available cash from your customers, which generally is the absolute best source of cash.” Most other sources of cash -- credit lines, factoring of accounts receivables, granting trade credit, etc. -- cost you money, Bessler notes. “By optimizing your CCC, you can significantly decrease your operating costs and improve your operating profitability.”

CCC Formula

The classic formula for calculating the cash-conversion cycle is:

CCC = Inventory Days on Hand + Accounts Receivable Collection Period - Accounts Payable Payment Period.

For service businesses:

CCC = Accounts Receivable Collection Period - Accounts Payable + Compensation Payable Payment Period.

Ted Clark, executive director of Northeastern University’s Center for Family Business in Boston, says businesses should think of it in terms of having “the cash conversation,” which tells you how fast a company can convert the purchase of inventory or delivery of services into cash.

The benefits of spurring turnover

“Understanding how long your money is tied up in the business as inventory  or work in progress (for service businesses) is important if you want to use your money efficiently; the longer it’s tied up, the more it costs the business,” Clark says. Money tied up in unproductive assets such as inventory or uncollected payments for services already provided returns no financial benefits to your business, so there is strong incentive to convert those resources into cash you can use for other business needs as fast as possible. Comparing your cash-conversion cycle over a period of time may also provide insight to potential problems or opportunities for improvement in your inventory management, service delivery processes, and/or collections practices, he suggests.

Improving CCC through accounts receivable

Accounts receivable is an area rife with opportunities to improve your cash-conversion cycle, financial experts say. For example, if your terms to customers are net 30 and your Accounts Receivable Collection Period is 60 days, “the sad truth is your customers are using you as the bank for an interest-free loan, and you are paying the price, probably by having to borrow more money,” says Gary Naumann, professor of entrepreneurship and director of the Spirit of Enterprise Center at Arizona State University’s W.P. Carey School of Business in Tempe.

Getting cash into your business more quickly starts at the front end of the accounts receivable process, with a thorough vetting of any customers requesting credit. Get financial statements and D&B reports if possible, and go over them carefully. Ask for bank and trade references and follow up on them. In some cases, you might want to get a personal guarantee from the owner.

It’s also important that your terms be clearly spelled out on your invoices, and that they match the terms in your supporting documentation. “Never give a customer any reason to question the invoice,” Naumann says. Bessler stresses the importance of having a “formal, bullet-proof invoicing system” in place. “Your invoice processing should as efficient as your shipping or service delivery process, if not more so,” he says. For in-person transactions, an invoice should be presented at the close of the sale; for online purchases, clicking the “submit” button should automatically trigger an invoice to be emailed.

No matter how thorough you are in vetting accounts, you’re likely to have instances where customers fail to pay on time. How you respond to such situations can have a direct impact on your CCC. Naumann suggests having a set procedures of escalating intensity in place to collect under the agreed upon terms and following through on them consistently, starting with a “soft” reminder a week prior to the payment due date and progressing to the use of a collection agency for severely overdue accounts.

In some cases, subscription-based models, such as maintenance and service plans, can help boost cash flow, but Tony Kiene, a CPA and senior director of global X, a strategic tax consulting firm based in Cleveland, Ohio, cautions they may also require some investment. “If the costs of the services can be reasonably estimated, then the subscription fees can be reserved to cover them,” he says. “In theory, there will be collections prior to any outlay of cash, but it takes discipline to reserve that cash and not use it for other working capital needs.”

Accounts payable strategies

On the other end of the spectrum, flexibility in your approach to accounts payable can return the greatest benefits if you match your strategies to your changing business needs, Kiene advises. “For startups, deferral of payment until the invoice due date improves cash flow as long as service charges are not being incurred. Once the business has solid positive cash flow, taking advantage of early payment discounts will result in significant cash saving,” he says.

A best practice is to work with each of your key suppliers to find out what kinds of terms they are willing to offer, but this can be tricky, Naumann says. “You don’t want to damage supplier relationships by being overly aggressive in this area, but at the same time, you want to take advantage of what is deemed to be fair dealing in your industry.”  Most importantly, keep your communication level with suppliers high, he adds. “Here’s the key: You have to be a good customer, i.e., not a grinder for every last dime. And whatever you agree to, keep your word.”

To learn more about optimizing your cash conversion cycle, call a BMO Harris Small Business Banker at 1-888-340-2265, or visit

Last updated: Sep 1, 2013