Pattern description

The Cash Machine pattern involves running a business with a negative cash conversion cycle. As will be seen from the formula below, the cash conversion cycle is the time-span between the spending and collection of cash by a company. More specifically, it defines the average storage time of inventory, including raw materials, work-in-process, finished products and delayed payment terms by customers and suppliers:

Cash conversion cycle =

Inventory conversion period +

Receivables conversion period −

Payables conversion period

In order to run a negative cash conversion cycle, a business must generate revenue faster than it has to pay its suppliers for purchased goods. Customers will not generally be aware of this kind of business model. The implications for the business, however, are far-reaching. The pattern generates additional liquidity that can be used for various purposes such as settling debts or making new investments (why?). This allows the company to lower its interest payments or speed up growth (why?).

The two important levers one needs to be aware of when aiming to achieve a negative cash conversion cycle are,

• to ensure that the business obtains generous payment terms of goods with suppliers
• to make sure that customers pay promptly (how?).

Additionally, a build-to-order strategy or a very short stock turnover time can help a business to realise a negative cash conversion cycle by keeping the time goods are kept in inventory as short as possible (how?).

Inventive problems

Application examples

The Cash Machine pattern has actually been around for quite some time: bankers have employed it in the form of the cheque, which is simply a document ordering the payment of money to a named person from a bank account. The bank usually acts as the interface between the person writing the cheque (drawer) and the person receiving the money (payee). It collects money from the drawer and then issues it to the payee when the cheque is cashed. Cheques entail a negative cash conversion cycle for the bank, because it is able to generate revenues before having to finance the expenditures. Cheques became popular in Europe at the beginning of the fourteenth century, when the economic boom at the time put traders increasingly in need of non-cash forms of payment.

Online retailer Amazon also uses the Cash Machine pattern very intelligently. Amazon typically achieves a negative cash conversion cycle for 14 days. The primary method through which Amazon does this is by ensuring a very rapid turnover of inventory. In addition, Amazon’s bargaining power with suppliers allows it to negotiate generous terms of payment. The combination of these two factors means that Amazon does not have to pay its suppliers until it itself has been paid by its customers for the goods they have purchased.

References

The Business Model Navigator: 55 Models That Will Revolutionise Your Business