Key takeaways
- Working capital is the cash tied up in receivables and inventory, less the part that trade payables fund. CCC shows how many days that cash is tied up.
- Cutting DSO by 10 days releases cash equal to 10 days of sales, or 2.7% of annual revenue. It is not a double-digit figure.
- In the example, adjusting DSO, DIO and DPO releases THB 9.41 million, and this is a one-off effect.
Sales rise, but customers who used to pay in 60 days now take 120. The money has not gone anywhere; it is sitting in receivables. Pouring water into a leaking tank that never fills is the picture of a company that keeps winning new customers but is left with no cash. Working capital is like blood in the body: if it flows slowly, the body weakens even when it eats well.
Definitions used
Trade net working capital = trade receivables + inventory - trade payables
CCC = DSO + DIO - DPO
- DSO = trade receivables ÷ revenue × 365, the time taken to collect cash
- DIO = inventory ÷ cost of sales × 365, the time inventory sits before it is sold
- DPO = trade payables ÷ cost of sales × 365, the time suppliers give as credit
If you use monthly or quarterly figures, replace 365 with the number of days in that period, and use averages when sales swing with the seasons.
Is negative working capital good or bad?
Two cases are often confused. Some businesses collect cash before paying suppliers, such as supermarkets or cash-sale retailers, so NWC is negative and growth helps generate cash. The other case is NWC that is negative because the company cannot pay its creditors on time. The latter is a danger signal, so always read payables ageing alongside it. The problem known as "the more you sell, the poorer you get" usually arises from positive NWC and a long CCC, which means every extra THB 1 of sales needs another block of cash to support it.
Example: calculating CCC and the cash that can be released
Hypothetical example: revenue THB 120 million a year, cost of sales THB 84 million, receivables THB 20 million, inventory THB 14 million, payables THB 7 million, NWC THB 27 million.
| Indicator | Current (days) | Target (days) | Current cash (THB million) | Target cash (THB million) | Cash released (THB million) |
|---|---|---|---|---|---|
| DSO | 60.8 | 50 | 20.00 | 16.44 | 3.56 |
| DIO | 60.8 | 45 | 14.00 | 10.36 | 3.64 |
| DPO | 30.4 | 40 | 7.00 | 9.21 | 2.21 |
| CCC | 91.2 | 55 | 9.41 |
If the interest rate on the revolving credit facility is 6%, the released cash reduces interest by about THB 0.56 million a year. But the main benefit is that the THB 9.41 million is liquidity that can be used immediately.
Quick calculation rule: cutting DSO by 10 days releases cash equal to 10 days of revenue, that is 120 ÷ 365 × 10 = THB 3.29 million, or 2.7% of revenue. Cutting DIO or increasing DPO by 10 days uses the cost of sales as the base, which gives THB 2.30 million. This cash is received once, for as long as the new level can be maintained; it is not annual income.
What each area can do
Receivables
Set credit limits by customer, issue the invoice as soon as the work is delivered, fix documentation problems that let customers claim they cannot pay, follow up before the due date, and link sales commission to cash collected. Early-payment discounts must be compared with the cost of money, because a 1% discount for paying 30 days earlier equates to a cost of about 12% a year.
Inventory
Separate inventory into fast-moving and slow-moving groups, set reorder points from actual sales, and deal with non-moving stock before its value disappears on its own. Increasing order quantities to obtain a discount may improve profit, but it keeps cash tied up for longer.
Payables
Negotiate credit openly and pay on the agreed date rather than simply paying late. Stretching payables without notice may lead suppliers to raise prices, cut credit or stop deliveries, and it puts the relationship at risk just when you need their help.
The CCC formula has limited use for property development projects, because land and construction work sit in inventory for several years. Look instead at progress payments received from buyers, payments made according to the S-curve, and retention.
Why averages can mislead
A DSO of 60 days may consist of most customers paying within 40 days and a few customers more than 180 days overdue. The fix is therefore different from the case where every customer pays slightly late. Period-end figures can also be made to look better by rushing collections on the last days of the month or by delaying payments to creditors, so look at multi-month average trends alongside the ageing report.
Releasing cash has to be weighed against the effect on revenue. Cutting customer credit may lose sales, and reducing stock may cause stock-outs. Start with the areas that do not affect customers, such as incorrect documents, late invoicing and non-moving stock.
Next steps
- Calculate DSO, DIO, DPO and CCC for at least the past 12 months
- Look at the ageing of receivables, inventory and payables rather than relying on averages alone
- Identify the customers and products that push the average up the most
- Set targets in days, with the cash expected to be released and an owner for each
- Decide whether the released cash will be used to reduce debt or held as a reserve
- Compare with competitors using disclosed financial statement data, and adjust for the seasonality of the business