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Editors Note: This is the one in a series of articles that explains different financial indicators used to measure how efficiently
a company is operating from a Lean perspective. Each article will explain the metric, its use, how to calculate it, what good
performance on the metric is (or where you can locate current information on good performance), and what the pitfalls are in
using the metric. We look forward to your feedback on these articles and to your suggestions for which metrics we should
address next.

Cash-to-Cash Cycle - Jacob J. Bierley, Jr., MBA

Contents
Introduction
The Cash to Cash Cycle
When is Cash Out of Reach?
Cash to Cash and the Extended
Value Stream
How to Compute Cash-to-Cash
Cycle
Example
Desired Results of Cash-to-Cash
Cycle
Interpreting Inventory Turnover
Cautions
How to Improve Cash-to-Cash Cycle
About the Author
Feedback Please

Introduction
Lean views a business as a stream of value-adding
activities that culminate in satisfying a customers' real
needs. Key agents propel this stream. First and foremost
Improve
of these are people. Their decisions and actions are the
Your
fundamental drivers of the value stream. Another is
Business's
operating equipment. Some equipment transforms
Cash-to-Cash
materials into the finished offering the business delivers
Cycle
to its customers. Other equipment transfers the offerings
With
to the customer. A third factor that propels the value
Kaizen!
stream is cash. Yes, cash is a factor that fuels value
stream activity. It is used to acquire and support activity
by the other factors of production and, in that sense,
shares in enabling their productivity. Like any of these factors, its availability for service constrains its
utilityi.e., when it is not available, it cannot be adding value and therefore is simply waste. Use the
concept of machine uptime as an analog for cash availability. If a machine is up, it can be put to
productive use. If it is down for maintenance or repairit is non-productive and thereby waste. When
cash sits locked up and out of reach such that it cannot be invested in activities that propel the value
stream, it too is non-productive and therefore waste.
How do you measure whether you are operating "lean" with regard to cash? And, how does
implementing lean improvements free cash to be value adding?

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The Cash-to-Cash Cycle

One way to detect how lean you are operating with regard to operating capitalthe funds available for
use in financing the day-to-day activities of a businessis to measure the length of the cash-to-cash
cycle. The cash-to-cash cycle1 calculates the time operating capital (cash) is out of reach for use by your
business. The speedier your cash-to-cash cycle, the fewer days your cash is unavailable for use in
propelling your value stream. You can use this metric to gauge whether you are operating "lean" with
regard to cash. Also, good performance on the cash-to-cash measurement has been associated with
improved earnings per share (Ward, 20042).

When is Cash Out of Reach?

Your business's cash is out of reach when it is uncollected from customers and when it is soaked up by
inventory that sits on the shop floor, in office storage areas, or on computer disks.
Uncollected payments are termed "receivables" and are reported on your business's balance sheet. How
quickly a receivable is registered and how long it sits uncollected is determined by your business's
order-to-cash-receipt value stream.
Inventory is cash converted into materials and intermediate outputs that are not ready to benefit a
customer. Think of inventory as a cash absorbing sponge. As long as inventory sits, it holds your cash
captive. How long it sits is a function of how well your supply chain and production value streams are
synchronized with customer demand. When these systems flow, are pulled by the customer, and free of
all wasteinventory is zero.

Cash to Cash and the Extended Value Stream

A neat feature of the cash-to-cash cycle is its ability to represent how efficiently the extended value
stream is operating (Exhibit 1, below). As you know, for an enterprise to be truly lean, it must apply lean
thinking to improving the operations of both its suppliers and its customers as well as itself.3 For the flow
of cash to be optimized,4 you need alignment and synergy across the extended value stream.

How to Compute the Cash-to-Cash Cycle

The cash-to-cash cycle is computed using the number of days that cash is invested in inventory plus the
days that your uncollected earnings sit as receivables less the days cash remains available to your
business because your business has yet to pay its bills (e.g., for goods or services from its suppliers).

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This last element may seem odd since one typically thinks of debts as money spent and gone. But, in
business, just as in our personal lives, the longer a debt goes unpaid, the longer that cash remains with
the business (or us) and therefore available for use. This reverse benefit from not paying debts does
create an opportunity to improve your cash-to-cash cycle in ways that are inconsistent with the lean
modeland we will discuss this below. For now, it should seem clear that the faster your business turns
over its inventory, the faster it bills and collects what is owed to it, and the slower it pays its debtsthe
better its operating cash position. Exhibit 2 presents how to compute the cash-to-cash cycle time.
Exhibit 2. How the Cash-to-Cash Cycle Is Computed
for a Given Reporting Period
Cash-to-Cash Cycle =
+ Days Cash is Locked-Up as Inventory
+ Days Cash is Locked-Up in Receivables
- Days Cash Is Free Because the Business Has Not
Paid Its Bills

Think about this formula for a moment and it should make sense. The days a business's cash sits
locked-up as inventory, it is unavailable. Since these days extend the cash-to-cash period, add them.
The more days the cash a business earns through sales is uncollected, the longer the cash remains
unapplied to adding value, so we add these days as well. On the other hand, the longer the business
holds on to its cash by not paying a debt it owes, the more cash it has to propel its value stream. We
therefore deduct these days from the cycle to reflect that cash is available. Again, this last element has a
funny ring to it because it suggests that it is to a business's benefit to drag its feet in paying what it owes
or pressure vendors to accept longer and longer repayment period. And, as you can see from the
formula, it will make the business look better on this metric.5 But, put that concern aside. For now, see
how this metric works. Exhibit 3 presents how to calculate each component that contributes to the
cash-to-cash cycle time.
Exhibit 3. Components of the Formula Used to Compute
the Cash-to-Cash Cycle
Component
Inventory
Days Cash is
Locked-Up as
Inventory

How to Calculate It
Average Dollar
Value Inventory
During the
Reporting Period

Average Dollar
Value of
Accounts
Receivable
During the
Reporting Period
Average Dollar
Unpaid Bills
Days Cash Is Free Value of
Accounts
Because the
Business Has Not Payable During
the Reporting
Paid Its Bills
Period
Receivables
Days Cash is
Locked-Up in
Receivables

(Cost of Goods
Sold)* /
Number of
Days in the
Reporting
Period)
(Sales /
Number of
Days in the
Reporting
Period)
(Cost of Goods
Sold / Number
of Days in the
Reporting
Period)

*Obtain the Cost of Goods Sold (COGS)6) for the reporting period from the
business's Profit/Loss statement for that period. If it is not available,
compute the cost of goods sold (COGS) using the following formula: COGS
= Dollar Value of Inventory at the Beginning of the Reporting Period + Dollar
Value of Purchases During the Reporting Period - Dollar Value of Inventory
at the End of the Reporting Period. "Purchases" refers to materials and
supplies bought for producing new outputs.

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Example
Exhibit 4 presents excerpts from the XYZ Business's Balance Sheet and Profit/Loss statement for
January 2006. All dollars are reported in units of a million.
Exhibit 4. Excerpts From XYZ's Financial
Statements
Information

Jan 1

Jan 31

Balance Sheet
Accounts Receivables
Raw & Finished Goods
Inventory

$400
$500

$600
$300

Accounts Payable

-$300

-$100

Profit/Loss Statement
Sales
Cost of Goods Sold
Gross Margins

$1,000
-$ 700
$ 300

Using the information in Exhibit 4, we can compute XYZ'z cash-to-cash cycle time for January (Exhibit 5).
Exhibit 5. XYZ's Cash-to-Cash Cycle for the Period January 1 Through
January 31
Component
Inventory - Average
number of days
Receivables - Average
number of days
uncollected
Days Cash Is Free
Because the Business
Has Not Paid Its Bills

Computation

Result

= ($500 + $300 / 2) / ($700 / 31 days) = 17.70

= ($400 + $600 / 2) / ($1,000 / 31
days)

= 15.50

= (-$300 + -100 / 2) / ($700 / 31 days) = -8.80

Cash-to-Cash Cycle (in days)

24.40

Based on this information, XYZ had its operating capital locked-up for 24.4 days before it became
available. The performance is less speedy when the effects of holding payments to vendors is extracted
(33.2 days).

Desired Results of Cash-to-Cash Cycle

In a truly Lean system, there is no waste in any value stream. Goods are not manufactured or shipped to
the customer unless pulled and they are produced by production systems that flow continuously
without reliance on inventory. Raw materials are not acquired and processed unless a customer
demands a finished output. Customers are billed and pay immediately upon receipt of a purchased
product or service. In its ideal state, it is a just-in-time system from the origins of its supply chain through
to the receipt and payment by its customer. In this scenario, the lean producer also pays its suppliers
upon receipt as its customers pay upon delivery. There are zero receivables, inventory, and payables
and thus a zero day cash-to-cash cycle time. Although a zero-day cash-to-cash cycle is truly Lean, your
business approaches its best achievable state progressively by shortening the cycle times it initially

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displays.

Interpreting Cash-to-Cash Cycle

While a shorter cash-to-cash cycle is generally considered a positive indicator of operating leaner, you
need to look deeper to be sure. You can achieve shorter or even negative cycle times by means that are
inconsistent with lean. As stated previously, you can shorten your cycle times by pressuring your
vendors to accept delayed payments for goods they deliver.7 With regard to longer cycles, some
industries have inherently longer lead times for accomplishing their value streams than other industries.
If you build large complex outputs like warships or office towers for example, your business's cash will
be tied up longer than say for a business that is a computer systems integrator, like a Dell or Gateway,
where they assemble their products in minutes.
To properly evaluate your cash-to-cash cycle performance, you need to analyze your cycle time in
conjunction with other information. First, always assess it over time. The trend of your cycle time is more
critical than its value at a single point. Second, if you want to understand a point-in-time value, look to
the typical cash-to-cash cycle for other businesses in your industry.6 You always want to have faster
conversion cycles than your competitors. Third, before celebrating any apparent achievement in
cash-to-cash speed, make certain that you read and apply the cautions described below. Each explains
a way you can achieve fast cash turnaround that we would not perceive as worthy or smart from a lean
perspective.

Cautions
1. Squeezing suppliers Some companies shorten their cash-to-cash cycle and can achieve negative
cycle times by squeezing their suppliers to accept long payment periods. This is possible for
companies that have size and great buying power relative to the vendors whose products or services
they purchase. The buyer uses its power to control its suppliers behavior. From a lean perspective,
such control strategies corrupt the extended value stream by pitting components against each other.
On a purely pragmatic level, such squeezing can undermine the viability of your suppliers and do
undermine your supply relationships. Threatened and exploited suppliers are provoked to develop a
counterbalancing force to offset your buying power. They will seek to dilute that power through
commercial or political action that progressively erupts into full blown adversarial relationships.
Failsafe: A simple check is to obtain the computed value for the "Days Cash Is Free Because the
Business Has Not Paid Its Bills." In the example presented in Exhibit 4, above, the number is
negative. The ideal value from a lean perspective is actually zero (0). You can also request from
accounting an aged payables report. This report will show you the distribution of payables by various
time periodse.g., 30 days, 31 to 45 days, 46 to 60 days, over 60 days. Almost all payables should
be under 45 days in age. If you note that 10% or more of the payables are unpaid for longer than 45
days, then consider yourself as using your vendor's cash to augment your operating capital.
2. Verify Turnover Success Is Due to Lean Improvements - Before celebrating a reduction in your
cash-to-cash cycle time due to reduced days of inventory, make sure your inventory success results
from being truly lean. Use the guidance in the article Inventory Turnover to make this judgment. You
need to analyze your improvement with inventory in conjunction with other trends within your financial
statements to ensure that your operations are truly business beneficial. For example, you can get
apparent improvements in inventory management by advanced sales, phantom sales, or discountdriven sales. Advance sales cause a point-in-time improvement that reverses in the very next
reporting period. The other two methods actually harm your business. Also, you can produce
improved inventory results by applying control strategies that force customers to take finished
products before they need them.
Failsafe: Use the guidance in the section Interpreting Inventory Turnover, to verify that your success
with reducing the days of inventory your business maintains is due to the effective application of lean
thinking.

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How to Improve Cash-to-Cash Cycle

To improve your cash-to-cash cycle, begin internally. Start by reducing your inventory and increasing
inventory turnover. This will speed the cash-to-cash cycle. In parallel, Kaizen your order-to-cash-receipt
work processes. Speed the invoicing process, reduce billing errors, speed response to overdue bills, and
reduce the incidence of bad debts. As your cycle time and error rates come down, cash becomes
available to enable timely payment of your suppliers and redeployment in your business. Next, develop a
supply chain that reliably provides you exactly what you need, just when you need it, with the least
waste incurred on the part of your suppliers and your business. This will minimize both inventory and the
cash you need to spend for the inputs you require.
Remember, as you pursue perfection, be certain to implement improvements that benefit all members of
the extended value stream. Lean requires inclusive thinking so that optimization of one component does
not create waste or diminish value in another component.

About the Author

Jacob J. Bierley, Jr. received both his MBA in Finance and BS in Accounting from Indiana University's
Kelley School of Business. He has 14 years in auditing and accounting management. Mr. Bierley is
currently the Controller for Bunge Oils for Bunge North America where he coordinates all aspects of
accounting controls, practices, processes, and policies in support of Bunge Oils. Bunge North America is
a primary supplier of high-quality agricultural commodities and value-added, specialized food and feed
ingredients and food products to the global marketplace.

Footnotes
1
Also referred to as the "cash conversion cycle."
2
Ward, Peter (2004) Cash-to-cash is what counts. Journal of Commerce, February 16, 2004. Available online at:
www.hitachiconsulting.com/downloadPdf.cfm?ID=57.
3
Womack, James P. and Jones, Daniel T. (2003) Lean Thinking. (Revised and Updated) New York, NY: Free Press, page 327.
4
Optimizing the cash-to-cash cycle time from a lean perspective has a different meaning than from a traditional producerfocused perspective. In a lean perspective, optimum sustained competitive advantage comes from working interdependently with
your suppliers and customers. In a producer-focused competitive strategy, advantage is believed to result from controlling the
behavior of suppliers and customers to advantage your business. For example, given the opportunity, you would force vendors to
accept longer payment periods so they, in effect, extend your business interest free loans. Also, you would use market
controlling methods to restrict customer choicese.g., advocating for tariffs on the offerings from competitors.
5
From a lean perspective, benchmarking can be a distraction as your intent is perfection, not just performance better than your
competitors. Nonetheless, if you need to evaluate a point-in-time value, comparison to a benchmark is needed. If possible,
consider industry average, best in class, and world-class benchmarks. Ward (2004) offers some benchmarks based on his
research. Ward reports the following cash-to-cash cycle times: For "Tier 1" automotive companies - 40 days; heavy industry
companies - 200 days; consumer goods sector between 50 and 150 days; and supermarket chains - 10 to 35 days.
6
There are alternatives to using COGS is this computation. For example, one might use Annualized Materials Cost as a
substitute. Neither is ideal. Both metrics have a degree of distortion in them. COGS inflates payables to suppliers by including
the cost of goods and services supplied internally. On the other hand, annualized materials cost deflates payables to suppliers
by not including the cost of contracted services (e.g., personnel, utilities, other services). In some industries, these non-material
supplier costs are a great deal of money. So, each has a degree of distortion and the distortion varies by industry. The ideal
would be segmenting payables by supplier type so that employee labor, for example, might be extracted and a "pure" and
complete externally sourced cost computed. I like COGS because it allows you to compare cash cycle metrics between
different companies and industries. Also, COGS is a commonly reported item in financial reports, whereas material cost may not
always be reported as it is a subset of COGS. If you have a choice within your company as to which metric to use, I suggest
selecting the metric that reliably provides you the most accurate information about all your supplier payables.

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