What is CCC?
Inventory that just lies around, doing nothing, is the eyesore of every business owner. This sitting-around time or CCC, as it’s called, is the answer to every owner’s frustrated sigh of “How long?”
CCC or Cash Conversion Cycle is the number of days it takes an ecommerce store to convert its inventory to cash. Easily understood as the time between paying suppliers for inventory and collecting the money from the same inventory sale.
It is a super important metric. A low or stable CCC is a good sign, while a rising CCC should mandate some investigation.
Fun fact: An extremely low CCC (negative in particular) is how Amazon is said to have survived the dot-com bubble!
How to calculate your store’s CCC?
Say you’ve got a hat store and want to convert one inventory unit to cash; you will have to take these three steps:
- Make the sale of the hat.
- Collect the amount ($10) from the buyer.
- Pay the amount owed ($5) to the supplier of the hat.
If it takes you three days to make the sale, two days to collect the amount, and one day to pay the bills, then the CCC would be (3+2-1) 5 days.
Similarly, for the entire stock, the formula to calculate CCC is as follows:
CCC = DIO + DSO - DPO, where,
Days Inventory Outstanding (DIO) represents the current inventory level and how much time it takes the store to sell it off.
DIO = (Average Inventory / Cost of Goods Sold) * 365
Days Sales Outstanding (DSO) tells how long it takes the store to collect the cash from the sales. A lot of buyers purchase in credit, and these are added to accounts receivable. A low value means that the company can collect the cash in a short period of time, and a prolonged period would mean a lot of buyers are simply dilly-dallying.
DSO = (Accounts Receivable / Net Credit Sales) * 365
Days Payable Outstanding (DPO) tells how much money the store owes its current suppliers for the inventory purchased and when the store will have to pay off its vendors.
DPO = (Accounts Payable) / Cost of Goods Sold) * 365
What can CCC tell you about your ecommerce store?
The goal of each store is to make a profit. And having a lot of cash around helps do that. If cash is readily available, one can purchase more goods and churn out more sales.
On the other hand, having working capital stuck in inventory can bring the revenue down and pose a liquidity crisis. Hence, lower CCC is always desirable.
In this way, one can view CCC as a sales efficiency calculation. It shows how quickly and efficiently a store can buy, sell, and collect on its inventory.
Before you calculate the CCC, here’s a caveat - CCC of one year alone doesn’t represent much. You need to calculate it over multiple time-periods and compare it with competitors to know whether your CCC needs saving!
What are the three ways to improve CCC?
Lower the CCC, the better. Since there are three elements in a CCC, you can focus on any or all of them to bring your metric to the desired level.
Here are the three best ways to improve your CCC:
1. Get the customers to pay sooner
Often, someone doesn’t pay on time simply because you didn’t ask them or they forgot. Merely asking them (or having a good payment reminder system) can go a long way. If that doesn’t work, incentivize them to pay as soon as possible. You can give a small offer to those who pay in advance or on the same day, an offer they can’t refuse.
2. Manage supplier payments
Although you want your customers to pay you ASAP, you’d ideally like to pay off your suppliers as late as possible to improve your CCC. The caveat here is you can’t afford to delay payment so much that you appear to be taking advantage of them.
After all, your supply chain is more important than any metric. You can do this by reviewing your contracts periodically and making sure you don’t pay a lot ahead of the payment deadline.
3. Optimize inventory levels
This is the go-to advice for improving any sales efficiency ratio. Your inventory level should be both quickly responsive and should minimize the amount of cash tied to it.
To do so, you can,
- Adopt logistics techniques (e.g., JIT and VMI)
- Eliminate unnecessary channel intermediaries
- Improve sales forecast and demand planning
That’s about it. To sum it up, keep your CCC as low as possible but don’t over-optimize such that the vendors lose trust in you.