The working capital cycle is a measure of how efficiently a business manages its cash flow. It represents the length of time it takes to convert net current assets and current liabilities into cash. The cycle is made up of three core components: inventory, accounts receivable, and accounts payable. The working capital cycle formula is: Working Capital Cycle = Inventory Cycle + Receivable Cycle - Payable Cycle.

The working capital cycle for a business is the length of time it takes to convert the total net working capital (current assets less current liabilities) into cash. The cycle starts when a company gets the materials it needs to produce inventory but doesn’t initially dispense any cash (purchased on credit under accounts payable). In 90 days’ time, it will have to pay for those materials. Eighty-five days after buying the materials, the finished goods are made and sold, but the company doesn’t receive cash for them immediately, as they are sold on credit (recorded under accounts receivable). Twenty days after selling the goods, the company receives cash, and the working capital cycle is complete.

The working capital cycle is important because it helps businesses understand how long their money will be tied up in stock and inventory. A long cycle means tying up capital for a longer time without earning a return, while short cycles allow businesses to free up cash faster and be more agile. Understanding the cycle lets businesses predict how quickly they’ll get money into their business so they can budget and plan properly.

In summary, the working capital cycle is a measure of how efficiently a business manages its cash flow. It represents the length of time it takes to convert net current assets and current liabilities into cash. The cycle is made up of three core components: inventory, accounts receivable, and accounts payable. Understanding the cycle is important for businesses to manage their cash flow and plan for the future.