#CreditInsightsWithSangeeta | Day 29
As a credit officer, understanding how to size working capital using the operating cycle can greatly improve your lending decisions. Instead of just looking at turnover or sales figures, the operating cycle gives you a clearer picture of how long a company’s money is tied up in its day-to-day business.
“Client says: ‘We’ll do ₹10 Cr turnover we need ₹2 Cr CC.’” But smart credit officers don’t just divide turnover. They build the limit from the ground up using the operating cycle.
What Is the Operating Cycle?
The Operating Cycle is the time it takes to convert raw materials into cash through sales and collections.
It includes:
- Inventory Days (Raw + WIP + FG)
- Receivables Days (Debtor collection period)
- Less: Payables Days (Credit from suppliers)
Operating Cycle = Inventory Days + Debtor Days – Creditor Days
This gives you the Net Working Capital Days i.e. the number of days the business needs to fund operations.
Why Is This Important for Working Capital?
Working capital is essentially the money a company needs to fund its daily operations like buying raw materials, paying employees, and managing bills before it actually receives payment from customers.
The longer the operating cycle, the more money the business needs at hand because its cash is ‘locked’ at different stages (inventory, sales on credit, etc.) until customers pay.
Working Capital Assessment Using Operating Cycle
Let’s say:
- Projected Turnover = ₹12 Cr/year
- Operating Cycle = 90 days
- WCG (Working Capital Gap) = ₹12 Cr × (90/360) = ₹3 Cr
- Margin = 25% → Bank Finance = ₹2.25 Cr
This is far more accurate than simply taking 20% of turnover.
How to Use This to Size Working Capital?
- Find out the company’s daily cost outflow (mainly cost of goods sold / 365).
- Multiply the daily outflow by the working capital cycle days (inventory + receivables – payables).
- The result gives an estimate of the amount of working capital the company needs to operate smoothly.
Why Is This Better Than Just Using Turnover?
- Turnover tells you how many times a company sells its inventory but not how long cash is stuck in the business.
- The operating cycle shows exactly how many days funds are tied up.
- This is crucial because even high turnover companies can have long cash cycles if bills take longer to pay or customers take longer to pay.
- Easy to justify in appraisal note
- Works for both new and existing borrowers
- Reflects efficiency: the shorter the cycle, the lower the WC need
Warning Signs from Operating Cycle:
- Cycle > 150 days → slow turnover or debtor pile-up
- Stock days > 100 → inventory hoarding or weak demand
- Debtor days > 90 → risky collection
- Payable days < 15 → low supplier confidence or COD terms
Credit Officer Tip:
“Turnover tells you what they want to do. The operating cycle tells you how fast they can do it.”
- Ask your borrowers about their inventory holding time, credit policies, and payment terms with suppliers.
- Calculate their operating and working capital cycles to see if their working capital needs match the size of their credit facility.
- Use this information to recommend realistic loan amounts, helping reduce the risk of underfunding or overburdening clients.
When you build limits on cycle logic:
- You defend your note with confidence
- You guide MSMEs to optimize working capital
- You elevate from sanctioning to structuring
This was Day 29 of my 30-Day Credit Insights Series.
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