Operating cycles and cash cycles are two measurements investors look at to determine a business' financial health. Although both of these cycles measure how long it takes for money to flow into the business, they measure slightly different aspects of cash flow, and thus provide different information to investors about how well the business is doing.
The operating cycle measures the time between receiving inventory or raw materials and receiving cash for them. The cash cycle measures the time between paying cash out for a variety of expenses and receiving cash into the business. For example, if a business makes and sells shoes, the operating cycle measures the time between receiving the materials to make the shoes and when someone buys a pair. The cash cycle measures the time between purchasing the materials to make the shoes and getting the money for the shoes.
The operating cycle and cash cycle by necessity overlap. The cash cycle may measure a longer period of time, as it begins measuring when materials are purchased rather than when they are received in the business' workshop. Both cycles use the date that cash comes back into the business as the end point of the cycle.
The operating cycle provides information for the business about how long it takes to make and sell finished products, while the cash cycle measures how profitable the business is. The cash cycle may be used when preparing financial statements to measure of how often cash flows into the business, and how much cash comes in relative to money going out for expenses.
The cash cycle and operating cycle affect one another. If a business takes a long time to manufacture products to sell, it must keep inventory in stock for longer periods of time. Thus, the cash cycle may become longer due to purchasing more inventory if the operating cycle becomes longer. Similarly, if the operating cycle is short, business owners can concentrate on selling as much product as quickly as possible, which may make the cash cycle shorter and stronger.
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