The financial cycle allows you to measure the efficiency of the enterprise, which is determined by the final profit. Profit, in turn, is generated by the money at the disposal of the firm. This is especially true for enterprises engaged in trading activities. The more funds are in circulation, the more profit can be generated.
Working capital is very limited in volume. To achieve maximum efficiency, you need to carefully consider the strategy for their use. Otherwise, you can even leave a minus. Efficiency is determined by the amount of generated profit or the ratio of income to expenses. As a rule, data for 1 year are taken for measurement. This process is greatly influenced by the turnover of goods (profitability and number of sales).
To get the idea right, you need to give an example. Let's say there are two trades. One has sales of $ 100,000, ROI is 50%, and the turnaround time is two months. Another has the same amount of sales, profitability 25%, duration - one month. The efficiency of these two trades will be the same.
Financial cycle concept
The financial cycle is the period during which the funds included in the company's turnover are fully involved and cannot be used in an arbitrary way. Simply put, the financial cycle is the period of time that elapses between the payment of an advance (accounts payable) to the supplier of resources and the receipt of funds from buyers for the shipped products.
Let's say you sell digital TVs. Your financial cycle will be the period from the purchase of the necessary materials for the production of equipment until the moment when the trading floors pay you money for the products sold (or simply do not buy it, depending on the form of cooperation).
The sales department uses this term to determine the effectiveness of a transaction. The finance cycle is a good tool for communicating with customers, analyzing discounts and markups, and drawing up a strategic plan for the company.
Using the financial cycle
First, you need to define the structure. What stages does finance need to go through before it returns to you in the form of profit. For example, it can be "shipping", "customs clearance" or "warehousing". That is, you need to write down all the main costs.
Then analyze the effectiveness of each individual item. In particular, pay attention to the time. Since it is impossible to withdraw working capital before the end of the cycle, you will have to optimize the work of the main elements of the structure.
For example, you have 5 items in a loop. Each of them takes 3 days and increases profits by 15%. That is, every 15 days, your working capital increases by 15%. Now imagine that you managed to reduce the time of each item by 1 day. Now your profits are growing every ten days, and on a firm scale this is a lot of money.
