Days payables outstanding is the activity ratio and it tells us the number of average days a company takes to pay its suppliers for the purchases. It is also known as number of days of payables and is denoted as DPO.
A lower day of payables shows the good working management because company might be availing early discount. But it should be kept in mind that we have to consider the cash flow position of the company. If the company is paying well before the credit terms of the supplier, it is missing an opportunity to invest somewhere else to make profit. So, options should be analyzed to decide and make any final decision. However, if the company is paying its creditors out of the range of allowed credit terms, it is a clear indication that there is a cash flow issues in the company.
Days Payables Outstanding = 365 / Payables turnover
Or,
Days Payables Outstanding = Average Payables / Purchases x 365
If the purchase value is not given and it cannot be calculated due to lack of information given in the question, you can use cost of goods sold figure in place of purchases. However, if information is available, then you may calculate purchase figure from below formula:
Purchases = Cost of goods sold + Closing inventory – Opening Inventory
Example
ABC is a manufacturing company engaged in the manufacturing of soaps and detergents. Use the data given below to find out Days payables outstanding for ABC:
Opening inventories = $100,000
Closing inventories = $50,000
Cost of goods sold = $2,000,000
Accounts payable opening = $125,000
Accounts payable closing = $200,000
Solution
Average Payables = 125,000 + 200,000 / 2 = $162,500
Purchases = Cost of goods sold + Closing inventory – Opening Inventory
Purchases = 2,000,000 + 50,000 – 100,000 = $1,950,000
Days Payables Outstanding = Average Payables / Purchases x 365
Days Payables Outstanding = 162,500 / 1,950,000 x 365 = 30 days