Cash is king – Mastering working capital and cash conversion cycle

Cash is not profit

This might be the most repeated cliché in finance, but it remains one of the most misunderstood.

Let me share a story from my journey to illustrate it clearly.

Three years ago, I became the CFO at Transformer Table.

The company had no debt and an impressive profitability.

Yet, rapid growth (quadrupling revenue in just three years) created a hidden threat.

Management was laser-focused on EBITDA targets, but they didn't see the imminent cash crunch.

It was March 2022.

My calculations forecasted we'd run into a cash wall by September.

But as a newcomer, my voice was completely ignored.

Moreover, finance was probably the most untrusted department in the whole company.

Thus, I moved to plan B.

I pivoted and secured a robust credit line from a local bank.

A safety net that seemed extravagant at the time.

By late May, reality caught up.

Cash reserves began to disappear faster than an ice cream on a July afternoon.

Suddenly, finance was seen as more than just number crunchers.

We did not become the critical strategists we are today but we increased the trust level within the organization.

This experience taught me three powerful lessons:

• Speak their language: Executives ignored me initially because my financial models were cryptic. Communication is effective when you speak your audience’s language, not yours.

• Profit ≠ Cash: They saw monthly profits but overlooked cash flows. Profitability doesn’t guarantee liquidity.

• Balance sheets matter: Most people focus only on the P&L, missing over half the business story hidden in the balance sheet and cash flow statements.

Mastering your balance sheet places you miles ahead of your peers.

Today, we won’t be studying the whole balance sheet, but we will dive into a crucial part of it… the working capital.

🛠 THE CFO EFFECT PLAYBOOK (Part I)

A Real-World Definition of Working Capital

Forget textbook definitions.

Simply put, working capital reveals how your business finances its short-term operations.

That’s it. As easy as that.

But the reasons it’s important to look at it that way is the following:

• Positive working capital: You're using current liabilities and some of your long-term liabilities to cover short-term assets. You have enough buffer. This is generally safe.

• Negative working capital: You're financing long-term assets with short-term liabilities. This is risky and unsustainable because your long term assets will take more time to turn into cash than the maturity of your short term liabilities.

Remember these three critical points:

• Negative working capital signals financial imbalance.

• It creates liquidity problems that deserve immediate attention.

• As counterintuitive as it maybe, only long-term solutions fix working capital issues.

The Cash Conversion Cycle (CCC): Your Secret Weapon

The CCC is a powerful metric.

It measures how quickly your business turns short term assets into cash.

Here’s the simple formula:

CCC = Days Inventory Outstanding (DIO) + Days Sales Outstanding (DSO) – Days Payable Outstanding (DPO)

The shorter your CCC, the healthier your business.

A high CCC demands stable margins, operational efficiency, and substantial capital.

Consider a mining parts business I encountered:

• Inventory (DIO): 120 days

• Payables (DPO): 30 days

• Receivables (DSO): 180 days

Their CCC was a staggering 270 days.

High CCC means more capital trapped, requiring careful management and potentially limiting growth.

Unlocking Unlimited Growth with a Short CCC

At first glance, the Cash Conversion Cycle (CCC) might appear straightforward; perhaps even deceptively simple.

But let me share a personal experience that revealed its immense strategic power.

Back in 2022, Transformer Table was booming.

We had no debt on our balance sheet and were growing revenue by an impressive 40% year-over-year.

Yet, despite all this rapid growth, we faced a financial puzzle:

Our suppliers were being paid in roughly 20 days (our DPO).

This relatively short payment terms didn’t give us much leverage.

Typically, businesses growing at our pace might extend these terms significantly, using suppliers as a financial buffer.

But we weren’t doing that.

So, how exactly did we finance this explosive growth without leveraging suppliers or taking on debt?

The answer lays in the nature of our business model (e-commerce).

One of e-commerce's hidden superpowers is the timing of payments.

Customers pay upfront, before the product ships.

This essentially turns your customers into your financiers, one of the least expensive sources of financing imaginable.

Our CCC calculation vividly illustrated this advantage:

CCC = Inventory Days (118 days) + Receivables Days (-92 days) – Payable Days (20 days) = 6 days

The negative receivables number might seem unusual, but it makes sense in our context.

We received cash months before shipping the products, leading to negative receivables (unearned revenue).

But here's where things got interesting.

You must be wondering how did we have 118 days' worth of inventory and we weren't immediately shipping products out?

I'll get to that in a moment because it’s a crucial lesson on managing cash tied up in inventory.

Navigating the Inventory Trap

When I first joined Transformer Table, I quickly became the curious new CFO.

Perhaps too curious for some people.

I relentlessly asked questions about inventory: production times, shipping processes, product mixes, lead times…well, everything.

I wanted to see the complete picture, from factory floor to customer doorstep.

The head of operations soon began showing signs of irritation.

One day, clearly frustrated, he bluntly asked, “Why are you so concerned about inventory? Isn’t that operations’ job?”

Rather than being defensive, I was thrilled by this question.

It gave me the chance to illustrate exactly why a finance leader needs to be deeply involved in inventory management.

I explained, “You're right, inventory is operationally managed by your team. And the finance team’s role isn’t to step into your shoes; it’s to provide insights that help you manage operations more effectively. Here’s why it matters:

• Excess inventory traps cash. Money invested in inventory can’t be used elsewhere, limiting strategic flexibility.

• It increases costs. Excess inventory leads to higher warehousing fees, coupled with cash tied up in inventory, this pushes us to rely more heavily on credit lines, driving up interest expenses and further squeezing cash flow.

• Obsolescence risk. If excess inventory becomes outdated or is linked to discontinued products, we’re forced to revalue it downward, leading to painful losses.

• Operational friction. Poorly managed inventory can disrupt timely shipping, cause customer frustration, trigger refunds, and even increase customer acquisition costs.

Inventory management might seem like a purely operational task, but it directly affects the financial health of the company.”

After this conversation, something clicked for him.

He began proactively considering the financial implications of operational decisions.

Later, I often heard him caution his team, “We need to be careful; that decision could trap our cash in inventory.”

On my end, I learned an important lesson: to always communicate clearly why I was asking my questions.

Assumptions had no place in these critical dialogues.

Now, to answer the earlier question: why exactly did we have so much inventory despite negative accounts receivable?

Two main factors caused this unusual situation:

• Inventory in transit: Most of our inventory (approximately 70%) was on water, on the way from factories. Shipping lead times had stretched from an average of 30-45 days to 60-90 days due to global logistics challenges.

• Inventory mismatch: Some inventory in our warehouse didn’t match the products we’d sold.

Later, this mismatch led to our Days Inventory Outstanding (DIO) ballooning to around 180 days.

Simultaneously, as we increased our B2B contribution to the topline, our Days Sales Outstanding (DSO) moved from -92 days to -43 days.

Consequently, our CCC expanded dramatically from 6 days to 117 days, creating severe cash flow pressures.

This wasn't just a minor inconvenience, it became a major cash flow stressor that highlighted exactly why finance, sales, and operations needed to closely collaborate.

Optimizing the CCC

Understanding CCC deeply is not merely academic; it's a fundamental strategic capability that can profoundly shape a company’s growth trajectory.

Think about it this way: the shorter your CCC, the faster you get your money back into your pocket, reducing warehousing fees, cutting interest payments, and providing funds to fuel growth initiatives.

Consider the common scenario where your VP of sales wants to extend payment terms to clients.

While this might boost short-term sales, longer payment terms mean your money stays trapped longer in accounts receivable, increasing both cash collection risks and costs.

Always scrutinize such decisions carefully.

Everything is negotiable, so calculate the financial implications before extending payment terms.

Ask yourself: what premium should the customer pay to justify this privilege?

Here’s how to tactically improve your CCC:

• Lower your DIO: Streamline inventory management, eliminate slow-moving stock, and optimize product mix.

• Extend your DPO: Negotiate longer payment terms with suppliers or use standby letters of credit (SBLC) to reassure your suppliers, giving them liquidity without straining your cash.

• Reduce your DSO: Tighten collections, reassess your credit policies, or leverage prepayment models wherever possible.

And with this my friend you’re well prepared to drive value through proactive cash flow management.

Start right now.

Next Week’s Episode:

🔜 Stop tracking everything – performance metrics that actually matter

Tracking everything isn't just inefficient; it's blinding.

Too many metrics bury the real insights you need to drive growth and profitability.

Next Sunday, I'll break down:

✅ How to identify and focus exclusively on metrics that directly influence strategic decisions
✅ How to eliminate distracting KPIs that drain your team’s energy and dilute your impact
✅ How to build clear, actionable insights using the right designs

Because the best finance leaders don't just measure performance; they laser-focus on what truly matters, turning clarity into competitive advantage.

If you're ready to cut through the noise, sharpen your metrics, and make finance indispensable, you don’t want to miss it.

Talk soon,