Financial Management and Strategic Management · Introduction to Working Capital Management

Operating Cycle and Cash Conversion Cycle: Formulas and Solved Problems for CA Intermediate

Updated 4 October 2026 · Fact-checked

The **operating cycle** is the time from buying raw material to collecting cash from customers. Operating cycle = inventory period + receivable period. The **cash conversion cycle** (cash cycle) = operating cycle − payables period. Find each period in days, then add and subtract. A shorter cycle means less working capital is locked up.

Understand Operating Cycle and Cash Conversion Cycle

A business does not earn cash the moment it buys goods. It buys raw material, converts it into finished goods, sells on credit, and then waits for the customer to pay. Money is tied up for that whole time. The operating cycle measures how long.

For a manufacturing firm the stages are: raw material stored, work-in-progress (production), finished goods stored, and receivables outstanding. Each stage has a period in days. The sum of these periods is the operating cycle (also called the gross operating cycle).

You do not pay for everything on the day you buy it. Suppliers give credit, so part of the cycle is funded by them. The time you take to pay suppliers is the payables period (creditors deferral period). Deduct it from the operating cycle and you get the cash conversion cycle, also called the net operating cycle or cash cycle. It is the number of days for which funds are actually tied up and need to be financed, from own funds or borrowings.

Why it matters: the longer the cash cycle, the more working capital you need. A firm with annual cost of ₹3,65,000 (₹1,000 per day) and a cash cycle of 60 days needs about ₹60,000 of working capital finance, from own funds or borrowings, to cover the cash cycle. Shorten the cycle by faster stock movement, quicker collection or longer (but sensible) supplier credit, and the need falls.

The periods are computed from balance sheet and profit and loss figures, so the base you divide by matters. Stock and payables are linked to cost or purchases. Receivables are linked to sales (or credit sales). Match each item to its correct base.

Key rules to remember

Raw material storage period: Average raw material stock ÷ Raw material consumed per day; Raw material consumed per day = annual consumption ÷ 365 (or 360 if the question says so).
Work-in-progress period: Average WIP stock ÷ Cost of production per day; If WIP is only partly complete, adjust the cost of production for the degree of completion when the question gives it.
Finished goods storage period: Average finished goods stock ÷ Cost of goods sold per day; Use cost of goods sold, not sales.
Receivables (debtors) collection period: Average debtors ÷ Credit sales per day; ICAI problems sometimes use cost of sales when sales value is not given. Follow the data in the question.
Payables (creditors) deferral period: Average creditors ÷ Credit purchases per day; Use credit purchases of raw material.
Operating cycle: R + W + F + D; R = raw material period, W = WIP period, F = finished goods period, D = debtors period. For a trader: inventory period + debtors period.
Cash conversion cycle: Operating cycle − Payables period = R + W + F + D − C; C = creditors period. Also called net operating cycle.
Working capital linked to the cycle: Cash cost per day × Cash conversion cycle (days); A quick estimate of funds locked up. Use cost excluding depreciation if the question asks for cash cost.

How to solve Operating Cycle and Cash Conversion Cycle questions

Use this order for any operating cycle question. It keeps each period tied to the right base and earns step marks.

1Read the data and note the number of days in the year (365 or 360). Use what the question says.
2Work out the average balances: (opening + closing) ÷ 2. If only one balance is given, use it.
3Compute the daily base for each item: raw material consumed, cost of production, cost of goods sold, credit sales, credit purchases, each divided by days.
4Calculate each period in days: raw material, WIP, finished goods, debtors, creditors. Show each division.
5Add the first four to get the operating cycle. Show the total on its own line.
6Deduct the creditors period to get the cash conversion cycle.
7If asked, convert into funds needed: cash cost per day × cash cycle days, or comment on whether the cycle is long or short.
8Add a one-line interpretation, such as which stage drags the cycle and what to change.

Quickest way: Fast route for MCQs and a clean written format

When to use it: Use it when the paper gives 30 marks of MCQs with no negative marking and when you have limited time on a 70-mark descriptive section.

MCQ: first check whether the question asks for operating cycle or cash cycle. Many wrong options are the other one.
MCQ: if periods are already in days, just add the four and subtract creditors. Do not recompute.
MCQ: eliminate options where the cash cycle is not equal to the operating cycle minus the creditors period.
MCQ: use 365 days unless told otherwise, and round only at the end.
Written: draw a small table with columns Item, Balance, Daily base, Days. Fill it row by row.
Written: put the totals for operating cycle and cash cycle on separate lines and underline the final answer.
Written: state assumptions, such as 365 days and use of closing balances, in one line at the top.

Common mistakes in Operating Cycle and Cash Conversion Cycle

Treating the operating cycle and the cash conversion cycle as the same.
Both terms sound alike and the payables step is easy to forget.
Fix: Remember: operating cycle ends at cash collection from debtors. Cash cycle subtracts the creditors period.
Dividing every item by sales.
Students use one base for convenience.
Fix: Use raw material consumption for raw material, cost of production for WIP, cost of goods sold for finished goods, sales for debtors, and purchases for creditors.
Adding the creditors period to the cycle.
Students add all five periods by habit.
Fix: Creditors give you free time. Subtract the creditors period only when finding the cash cycle.
Ignoring average balances and using the closing balance when opening is given.
Rushing through the data.
Fix: If opening and closing figures are both given, average them unless the question says to use closing figures.
Mixing 360 and 365 days in one answer.
Switching between questions or textbook examples.
Fix: Fix the number of days at the start and use it throughout.
Using total sales when credit sales are given, or total purchases when credit purchases are given.
Students skim the data and pick the nearest number.
Fix: Underline the words credit sales and credit purchases and use only those where they are provided.

Worked examples

Example 1

A manufacturing company has the following data for the year (take 365 days): raw material consumed ₹7,30,000; credit sales ₹18,25,000; credit purchases of raw material ₹7,30,000. Cost of production and cost of goods sold are both ₹14,60,000 (use this for WIP and finished goods). Average balances: raw material ₹60,000; WIP ₹40,000; finished goods ₹1,20,000; debtors ₹1,50,000; creditors ₹80,000. Compute the operating cycle and the cash conversion cycle.

Show the solution

Raw material consumed per day = 7,30,000 ÷ 365 = ₹2,000. Raw material period = 60,000 ÷ 2,000 = 30 days.
Cost per day (for WIP and finished goods) = 14,60,000 ÷ 365 = ₹4,000.
WIP period = 40,000 ÷ 4,000 = 10 days.
Finished goods period = 1,20,000 ÷ 4,000 = 30 days.
Credit sales per day = 18,25,000 ÷ 365 = ₹5,000. Debtors period = 1,50,000 ÷ 5,000 = 30 days.
Credit purchases per day = 7,30,000 ÷ 365 = ₹2,000. Creditors period = 80,000 ÷ 2,000 = 40 days.
Operating cycle = 30 + 10 + 30 + 30 = 100 days.
Cash conversion cycle = 100 − 40 = 60 days.

Answer: Operating cycle = 100 days; cash conversion cycle = 60 days.

Example 2

A trading firm holds average stock equal to 45 days of cost of goods sold, allows customers 30 days of credit and receives 25 days of credit from suppliers. Annual cost of goods sold is ₹7,30,000 (365 days). Find the operating cycle, the cash conversion cycle and the approximate funds locked up in the cash cycle, taking cost of goods sold as the cash cost.

Show the solution

Operating cycle = inventory period + debtors period = 45 + 30 = 75 days.
Cash conversion cycle = 75 − 25 = 50 days.
Cost per day = 7,30,000 ÷ 365 = ₹2,000.
Funds locked up = 2,000 × 50 = ₹1,00,000.

Answer: Operating cycle = 75 days; cash conversion cycle = 50 days; funds locked up ≈ ₹1,00,000.

Exam tips

Read the base carefully. ICAI numericals often give both sales and cost of sales. Pick the base that matches each item.
State the days in the year at the start. If the question gives 360, use 360 throughout.
Show each period as a division line. Step marks are given even if the final figure is off.
When the question asks for comment, say which period is longest and one way to shorten it.
In MCQs, check whether the question asks for operating cycle or cash cycle before calculating.

Practice questions from Introduction to Working Capital Management

Operating Cycle and Cash Conversion Cycle in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Operating Cycle and Cash Conversion Cycle: frequently asked questions

What is the formula for the operating cycle?

Operating cycle = raw material period + WIP period + finished goods period + debtors period. For a trading firm it is inventory period + debtors period. Each period is average balance divided by the relevant daily figure.

What is the difference between the operating cycle and the cash cycle?

The operating cycle runs from buying material to collecting cash from customers. The cash conversion cycle subtracts the creditors period from it. So the cash cycle shows how long funds are tied up and need to be financed.

Should I use 360 or 365 days?

Use whatever the question states. If it does not say, 365 days is the safer choice. Whichever you pick, use it for every item in the answer.

Can the cash conversion cycle be negative?

Yes. If the creditors period is longer than the operating cycle, the cash cycle is negative. It means suppliers are funding the business for longer than the cycle takes.