Capital tie-up

What capital tie-up is

Capital tie-up is money locked inside a business and therefore not available for anything else. In retail two items decide: stock, meaning goods that were paid for and not yet sold, and open receivables, meaning goods delivered for which money has not arrived. Both are assets, neither is available cash.

The distinction matters because it disappears in the balance sheet. A business can show a solid balance sheet and still be unable to pay wages, because all the money sits in goods. That effect links capital tie-up to liquidity.

How the tie-up builds

Three periods determine the amount. First lead time: goods four weeks in transit must be paid before they are sellable. Second shelf life: goods sitting for 120 days tie up money for a third of the year. Third customer payment terms: allowing 30 days on account grants an interest free loan.

From these three figures comes the number that helps most in practice, the cash conversion cycle. It counts the days between paying for goods and receiving the money. For a shop with 30 days lead time, 90 days on the shelf and 14 days payment terms, that is 134 days. With annual revenue of two million and a 40 percent cost of goods, roughly half a million is permanently tied up.

Figures that make it visible

• Inventory turnover: Cost of goods divided by average stock value. The higher, the shorter the tie-up.
• Days in stock: The inverse, expressed in days. It says more directly what needs doing.
• Days sales outstanding: Average days until payment arrives, with an ageing structure.
• Cash conversion cycle: The sum of the two, the central figure.
• Cost of capital: The percentage at which tied up money is charged. Without it the metric stays abstract.

How to release the cash

The strongest lever is assortment depth. An item selling 200 times a year does not need twelve sizes in four colours. Reducing variants to the ones that carry the range and replenishing only on demand lowers the tie-up noticeably without anything missing. The second lever is forecasting: building order quantities from sales data instead of instinct buys less of the wrong thing.

Further levers concern the periods. Shorter lead times through different suppliers. Shorter payment terms, for instance a discount for paying within seven days. Factoring for large open invoices. And active end of life management, where remaining stock is reduced instead of held for years.

The conflict of objectives remains: less stock lowers the tie-up but raises the risk of a stockout. The way out is not a blanket cut but a tiering by importance. A items with high demand are stocked, C items with low demand are ordered on demand. That tiering is the real lever, not the blanket reduction.