Days Payable Outstanding – an activity ratio measuring the number of days needed by a company to pay the debt to its suppliers (creditors). The increasing trend of the days payable outstanding ratio possibly indicates the increase of the working capital usage efficiency and the good level of the accounts payable management. This means that the finance resources involved through the accounts payable can longer be used in company's operations (in case the company still meets it obligations on time, which is a mandatory condition in terms of the accounts payable management efficiency). However, to make more detailed conclusion on a firm’s position the liquidity ratios should be analyzed too, because the increase of days payable outstanding ratio itself not necessarily indicates bad position of a firm.
If the liquidity indicators are lower than normative, days payable outstanding increase would be a sign of the inability of a firm to meet its obligations on time. This would lead to the deterioration in relationships with creditors and supliers, which would cause a risk of the increase of the cost of credits, raw materials, inventories, equipment etc. In this case, the analysts should have a close look at the accounts payable structure. If it mainly consists of the liabilities to company's employees, the labor productivity will possibly start decreasing and the employee turnover will increase in the near future. If main part of the accounts payable are liabilities to suppliers, prices for the materials and equipment will increase.
Normative level of the firm's liquidity indicators and increase of the days payable outstanding ratio possibly indicate the good payment terms and conditions, offered by creditors to a company. Detailed analysis of the accounts payable allows to confirm that.
Days Payable Outstanding = Accounts payable ÷ Average daily cost of sales
Days Payable Outstanding = Accounts payable ÷ (Cost of Goods Sold ÷ 360)
Days Payable Outstanding (Year 1) = 627 ÷ (3351÷ 360) = 67,3
Days Payable Outstanding (Year 2) = 834 ÷ (3854 ÷ 360) = 77,9
The increase of the days payable outstanding ratio from 67,3 in year 1 to 77,9 in year 2 indicates the good level of the accounts payable management. It shows that in year 1 company averagely needed 67,3 days to pay its creditors, in year 2 the number of days needed to do that was 77,9.
Days payable outstanding ratio measures the number of days needed by a company to meet its liabilities to its suppliers and other creditors. Generally the stable value of this ratio is optimal for a company. However, if it is able to increase this ratio without any negative consequences (increasing the cost of supplies and credits, materials and inventories), this would be considered positive.