Days Payables Outstanding
Days payables outstanding (DPO) is the average number of days in which a company pays its suppliers. It is also called number of days of payables.
In general, a low DPO highlights good working capital management because the company is availing early payment discounts. However, the DPO should be corroborated by other ratios, particularly the liquidity ratios. When a company's liquidity position is good, a high days payables outstanding most likely tells that the company is delaying payments to its creditors till the last possible date to shorten its cash conversion cycle. It highlights good working capital management. However, if the liquidity situation of the company is not good, a high DPO suggests that the company is facing problems paying its suppliers.
|Days Payables Outstanding for a Year|
|=||365||× Average Trade Payables|
|Days Payables Outstanding|
|=||Number of Days in a Period|
|Payables Turnover for the Period|
If figure for purchases is not available, it is calculated as:
Purchases = Cost of Goods Sold + Closing Inventory − Opening Inventory
In some situations where opening and closing inventories are immaterial, cost of goods sold can be used instead of purchases.
Calculate days payables outstanding for Company A and Company B using the information given below and tell what it tells about the companies.
|Company A||Company B|
|Inventories at 1 January 2013||$200,000|
|Inventories at 31 December 2013||100,000|
|Cost of goods sold||4,000,000|
|Accounts payable at 1 January 2013||250,000||250,000|
|Accounts payable at 31 December 2013||400,000||400,000|
Purchases of Company A = COGS + closing inventories − opening inventories = $4,000,000 + $100,000 − $200,000 = $3,900,000
Average accounts payable for Company A = $325,000
Days payables outstanding for Company A= 365/$3,900,000*$325,000 = 30.4
Days payables outstanding for Company B = 365/$2,000,000*$350,000 = 63.8
Company A has good working capital management because it is paying off its creditors at the end of credit period to avoid default and at the same time shorten its conversion cycle.
Very high days payables outstanding for Company B is not a good sign when we look at it in the context of its liquidity problems. A days payables outstanding of 63.8, current ratio of 0.5 and quick ratio of 0.3 suggest that company B is facing problems in paying its suppliers.