Effective working capital management is all about juggling inventory, debtors and creditors. However, maintaining a healthy level of cash flow is a real challenge. However, how can you optimise your approach to cash flow management in order to free up invaluable capital?
What is working capital?
What is working capital?According to Investopedia, Working capital is the amount of cash needed for the day-to-day business, i.e. to finance the conversion of raw materials into finished products that the company can sell and to bridge the period until customers pay for those goods. An important aspect of cash flow management is the inventory risk due to products with a limited shelf life perishing or due to obsolete stock.
What is stock turn?
Inventory turnover days are used as an efficiency ratio based on the average number of days an item spends in stock before being sold. The working capital is tied up in stock for that time. The inventory turnover days are calculated based on the cost of goods sold rather than revenue.
What is a cash conversion cycle?
The cash conversion cycle is the number of days from the moment that a purchase order is paid until the moment that payment of the associated sales invoice is received. The company must use its own resources to fund the stock in the interim period. One important calculation is ‘Earn x Turn’, a product’s margin multiplied by the annual number of stock turns.
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