Calculating the cash conversion - Essay Example

Cash conversion cycle Cash conversion cycle Cash conversion cycle is the total number of days that a company needs to convert its resources into cash flows. It calculates the period of time during which every dollar input is devoted to the process of sales and production prior to its conversion to cash via the process of receivable accounts. The primary purpose of the process of cash conversion is to provide insight into the company’s financial stability because it indicates the period of time during which assets are committed to business (Brigham & Ehrhardt, 2008).

Therefore, the cash is not available for investment to obtain greater returns. This is why a shorter conversion cycle is better.From the excerpt, it is evident that money is held in the stock up to the time when it is sold. It infers that invested cash, or money that was used to purchase this stock is not available, and cannot be used for any other purpose (Brigham & Houston, 2012). Therefore, business must maintain short cash conversion cycle in order to reduce costs associated with inventory storage and depreciation and maintain business liquidity at a higher point.

In a nut shell, the cash conversion cycle measure the time in days that the company takes to convert its input resources into cash flows. That is, it reflects the period of time in days that the company takes to sell its stock, collect all cash receivables, and settle its bills (Whittington, 2012). It is conventionally agreed that a company that takes the shortest time is at its bets operations. This is because the cash becomes free as the cash conversion cycle shortens, and the company can invest it, use it for other activities such as purchasing new equipment, infrastructure to boost the returns.

Cash conversion cycle is also significant in assessing the efficiency of the management and competitor comparison (Graham & Smart, 2012).ReferencesBrigham, E. F., & Ehrhardt, M. C. (2008). Financial management: Theory & practice. Mason, Ohio: Thomson Business and Economics.Brigham, E. F., & Houston, J. F. (2012). Fundamentals of financial management. Mason, Ohio: South-Western Cengage Learning.Graham, J. & Smart, S. (2012). Introduction to corporate finance. Mason, Ohio: South-Western Cengage Learning.

http://smallbusiness.chron.com/difference-between-operating-cash-conversion-cycles-24738.htmlWhittington, O. R. (2012). Wiley CPA Exam Review 2013, Business Environment and Concepts. Hoboken: Wiley.