Slow cash conversion cycle slowing industry growth

Every businessman dreams of his customers paying on time so that he can reinvest funds in buying and producing more inventory and maintain the business cycle by making more sales.

But now with most customers, either intentionally or unintentionally, delaying payments, businesses are frequently running with minimal funds to continue their operations.

This cash flow slowdown effects the operational efficiency of a business, meaning it needs far more capital, or cash, or finance, to make the same amount of sales at the end of an accounting year.

Measuring that efficiency is usually done by calculating the number of days a business is taking to get from first raw material, through production, sales, payment, and then spending cash again on its next ‘cycle’. This is called the cash conversion cycle.

The fewer the days it takes for a business to complete each cycle of production on the cash it has at play, the more sales it will produce over time from that same cash.

Currently, Kenya’s cash conversion cycle is extremely slow. In agriculture, which contributes 36 per cent of Kenya’s GDP, a listed company has a cycle of nearly 195 days, translating to a rate of only two sets of production a year on the same cash.

By contrast, in Nigeria, the cyclestands at approximately 25 days (15 times a year) and in South Africa at 8.5 days (43 times a year).

In the UK, the figure stands at negative 56 days, which is borne of producers having large amounts of credit and short-term liabilities, which are deducted from the cash conversion rate, as they reduce the time to reuse the same capital.

In other sectors, Kenya outperforms some other slower performers, although it falls far short of UK norms.

In manufacturing, Kenya’s sample cycle lasts 109 days. In South Africa, (129 days). In the UK the company study achieved a cycle of negative 47 days.

Despite outperforming South African manufacturing, in the Business Daily sample, Kenya’s cash conversion cycle of over 100 days represents a considerable handicap against general global norms.

In construction, Kenya does better, however. A company in the sector has a cycle of approximately 79 days, allowing it to undertake business on the same capital 4.6 times in a year. In Nigeria, the comparable company’s cycle falls short at 138 days translating to 2.64 times a year.

But in the UK, at 30 cycle days, a company can generate income from the same capital base 12 times in a year.

These figures bring home the capital impact of payment cycles reported by Kenya’s State Department for Trade at an average five months or more, compared with credit terms of up to 60 days.

READ: Companies face heavy penalties for delaying paying suppliers

Stepping away from the cash conversion cycle as a whole, which factors in credit facilities, and removing other factors that, by contrast, lengthen the cash conversion cycle, such as unsold inventory, the average time taken to collect on sales payments across the Kenyan sample group was 79 days for construction, 219 days for manufacturing and 72 days for the agriculture sector.

If any of these figures were reduced to 30 days, the number of times a company would have been able to reinvest cash through to sales in a year would more than double in agriculture and construction, and increase five-fold in manufacturing.

Doubling Kenya’s returns on investment, halving its need for capital to operate, and liberating businesses from the burden of being credit providers to all they supply, would thus transform the country’s output, employment, and economy: simply by achieving payment timelines that are the average in India, China, and many countries worldwide