Operating Cycle Formula

Operating Cycle Formula (Table of Contents)

• Operating Cycle Formula
• Examples of Operating Cycle Formula (With Excel Template)
• Operating Cycle Formula Calculator

Operating Cycle Formula

Operating cycle of a particular company can be termed as the number of days required to turn its Stocks (both Raw materials and traded goods) into cash. It starts with the process of purchasing Raw materials to manufacturing into processed products and packaging, distribution and Sales and finally a collection of cash against Trade receivables.

The formula of Operating cycle is as follows:

Days sales of inventory equal to the average number of days the company takes to sell its stock. Days sales outstanding on the other hand is the period in which receivables turned into cash.

An alternate expanded formula for operating cycle is as follows:

Examples of Operating Cycle Formula (With Excel Template)

Let’s take an example to understand the calculation of Operating Cycle formula in a better manner.

Operating Cycle Formula – Example #1

From the given data calculate the operating cycle of ABC limited.

Solution:

Operating Cycle is calculated using the formula given below

Operating Cycle = [(365 / Purchases) * Average Inventories] + [(365 / Receivables) * Average Accounts Receivable]

• Operating Cycle = [(365 / 650,000) * 50,000] + [(365 / 1,000,000) * 25,000]
• Operating Cycle = 28.07 + 9.13
• Operating Cycle = 37.2 Days

Thus, the company takes 37.2 days to convert its inventory to cash after Purchasing Raw materials, Manufacturing, and processing into finished products and selling them in credit and collecting cash from the Debtors.

Operating Cycle Formula – Example #2

From the following data of VIP Industries, Find out the Operating cycle of the company so as to understand the Operating efficiency of the Company.

Solution:

Average Inventory is calculated as:

• Average Inventory = (282.63 + 316.52) / 2
• Average Inventory = 299.575

Average Accounts Receivables is calculated as:

• Average Accounts Receivables = (120.96 + 176.57) / 2
• Average Accounts Receivables = 148.765

Operating Cycle is calculated using the formula given below

Operating Cycle = [(365 / Purchases) * Average Inventories] + [(365 / Receivables) * Average Accounts Receivable]

• Operating Cycle = [(365 / 735) * 299.575] + [(365 / 1415) * 148.765]
• Operating Cycle = 148.76 + 38.37
• Operating Cycle = 187.14 Days

Thus, the company takes 187.14 Days to convert inventory to Cash.

Operating Cycle Formula – Example #3

From the following data of Page Industries, Find out the Operating cycle of the company so as to understand the Operating efficiency of the Company.

Solution:

Operating Cycle is calculated using the formula given below

Operating Cycle = [(365 / Purchases) * Average Inventories] + [(365 / Receivables) * Average Accounts Receivable]

• Operating Cycle = [(365 / 1087) * 595.37] + [(365 / 2518.66) * 130.35]
• Operating Cycle = 199.92 + 18.89
• Operating Cycle = 218.8

Thus, the company takes 218.8 Days to convert inventory to Cash.

Explanation of Operating Cycle formula

Operating Cycle can be summed as the total number of days within which raw materials are purchased, processed and manufactured into an end product or inventory and sold via a distributor and the amount realization days is being taken into account together.

Operating cycle process:

Cash -> Raw materials purchased -> Manufacturing process -> Work-in-progress -> Packaging -> Distribution-> Sales -> Bills Receivables -> Cash received.

In other words, operating cycle is the operations prevailed in between cash to cash primarily in a manufacturing business where there is a purchase of Raw Materials, manufacturing with the help of labor, machinery, and land (assets) and converting it into the desired product. Then the product is sold via distributors on credit and later after a specific number of days the amount is collected from the debtors.

Relevance and Uses of Operating Cycle Formula

• Calculating Operating cycle helps the management, to understand the situation of Cash inflow and cash outflow in relation to inventory in, and inventory out. The relation between Debtors, creditors, and cash with purchase and Distribution can be evolved from the above formula. The number of days which is taken by the company to turn Raw materials in cash is the primary data one can get from the Operating Cycle formula.
• Debtor outstanding days is often regarded as one of the major tools to analyze the product demand and the importance of the particular product compared with its peers. In a credit sale, the cash is not received immediately, it is received as per the contract made with the distributors or retail shops. They generally make quick payment when there is a good demand for the product from the consumer’s end and vice versa.
• Inventory days is also an indication of stock movement which happens inside the company. A lower debtors’ days is what every business want. It means the products have the capability to satisfy customers need and the distributors are churning the products more frequently than the industry which is also a positive indication of higher demand of the particular product in its category.

Operating Cycle Formula Calculator

You can use the following Operating Cycle Calculator.

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This has been a guide to Operating Cycle formula. Here we discuss How to Calculate Operating Cycle along with practical examples. We also provide Operating Cycle Calculator with downloadable excel template. You may also look at the following articles to learn more –

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