Days payable outstanding (DPO) is a measure of how quickly a company pays its bills and invoices from its creditors. It refers to the average number of days it takes a firm to pay back its accounts payable. As a result, days payable outstanding is an indication of how effectively a firm manages its accounts payable.

Days payable outstanding can also be used as a predictor of future cash flow problems. A high DPO indicates that a company is taking a long time to pay its invoices, which could be a sign that the company is struggling to generate enough cash to meet its obligations. A low DPO, on the other hand, suggests that a company is paying its bills in a timely manner and may have excess cash on hand. Days payable outstanding is typically expressed as a number of days.

## What is Days Payable Outstanding?

**Definition: **Days payable outstanding is defined as a metric that measures the average time in days a firm takes to pay off its creditors. It is usually compared with the industry’s usual payment cycle to determine whether the company’s payment policy is aggressive or cautious.

Days payable outstanding can be affected by a number of factors, including the terms of payment, the creditworthiness of the customer, and the industry average. Days payable outstanding can also be impacted by seasonal factors such as increased buying during the holiday season.

## Importance of Days Payable Outstanding

Days payable outstanding is important because it is one of the key metrics used to assess a company’s liquidity. Days payable outstanding is also a key component of the working capital ratio, which is a measure of a company’s short-term financial health.

A high days payable outstanding indicates that a company is taking a long time to pay its invoices, which could be a sign that the company is struggling to generate enough cash to meet its obligations. A low days payable outstanding, on the other hand, suggests that a company is paying its bills in a timely manner and may have excess cash on hand.

Days payable outstanding is an important metric for creditors and investors to monitor because it can be an early indicator of financial distress. Days payable outstanding is also important for management because it can help them assess the company’s liquidity position and identify areas where improvements can be made.

### Days Payable Outstanding Formula

The formula to calculate Days Payable Outstanding is-

Days Payable Outstanding = (Average Accounts Payable / COGS) x Number of Days in Accounting Period

Where,

COGS (cost of goods sold) = Beginning inventory + P – Ending Inventory

P represents purchases here.

## How To Calculate DPO? (With Example)

Days payable outstanding can be calculated by dividing a company’s accounts payable by its cost of goods sold and then multiplying that number by the number of days in the period.

For example, let’s say Company A has accounts payable of $10,000 and cost of goods sold of $50,000 for the month of January. The calculation would look like this:

$10,000 / $50,000 = 0.2

0.2 x 31 (the number of days in January) = 6.2

This means that it would take Company A an average of six days to pay off its accounts payable if it only paid its invoices once per month. If Company A paid its invoices twice per month, the days payable outstanding would be cut in half to three days.

Days payable outstanding can also be calculated on an annual basis. To do this, simply divide the average accounts payable by the cost of goods sold, and then multiply that number by 365 (the number of days in a year).

For example, let’s say Company B has accounts payable of $120,000 and cost of goods sold of $600,000 for the year. The calculation would look like this:

$120,000 / $600,000 = 0.2

0.2 x 365 = 73

This means that it would take Company B an average of 73 days to pay off its accounts payable if it only paid its invoices once per year. If Company B paid its invoices twice per year, the days payable outstanding would be cut in half to 36.5 days.

## Days Payable Outstanding and the Cash Conversion Cycle

Days payable outstanding is a key metric in the cash conversion cycle, which is a measure of a company’s ability to convert its inventory into cash. The cash conversion cycle is calculated by adding the Days Inventory Outstanding (DIO) to the Days Sales Outstanding (DSO) and subtracting the Days Payable Outstanding (DPO).

A company’s DPO, DSO, and DIO all have an impact on its cash conversion cycle. A company with a high DPO will have a longer cash conversion cycle because it takes them longer to pay their bills. A company with a high DSO will also have a longer cash conversion cycle because it takes them longer to collect payment from their customers. A company with a high DIO will have a shorter cash conversion cycle because they take less time to convert their inventory into cash.

The days payable outstanding formula can be used to calculate a company’s cash conversion cycle. The formula for the cash conversion cycle is-

CCC = DIO + DSO – DPO

Where,

DIO ( Days Inventory Outstanding) = (Beginning inventory + P – Ending inventory) / 2

P represents purchases here.

DSO ( Days Sales Outstanding) = (Accounts receivable×Number of days) / Sales

The number of days in the denominator should be 365 for an annualized calculation.

DPO ( Days Payable Outstanding) = (Accounts payable×Number of days) / COGS

COGS (cost of goods sold) = Beginning inventory + P – Ending Inventory

P represents purchases here.

The cash conversion cycle formula can be used to assess a company’s liquidity and its ability to pay its short-term obligations. A company with a shorter cash conversion cycle is generally considered to be in better financial health than a company with a longer cash conversion cycle.

## Days Payable Outstanding Ratio

The Days Payable Outstanding ratio is calculated by dividing the Days Payable Outstanding by the number of days in the period. This ratio measures how many days, on average, it takes a company to pay its invoices.

A higher Days Payable Outstanding ratio indicates that a company is taking a long time to pay its invoices, which could be a sign that the company is struggling to generate enough cash to meet its obligations.

A lower Days Payable Outstanding ratio, on the other hand, suggests that a company is paying its bills in a timely manner and may have excess cash on hand.

The Days Payable Outstanding ratio is an important metric for creditors and investors to monitor because it can be an early indicator of financial distress. The Days Payable Outstanding ratio is also important for management because it can help them assess the company’s liquidity position and identify areas where improvements can be made.

The Days Payable Outstanding ratio formula is

DPO Ratio = Days Payable Outstanding / Number of days in the period

The number of days in the denominator should be 365 for an annualized calculation.

For example, if a company has Days Payable Outstanding of 30 days and the period is 365 days, then the Days Payable Outstanding ratio would be-

DPO Ratio = 30 / 365

DPO Ratio = 0.082

This means that, on average, it takes the company 8.2 days to pay its invoices.

The Days Payable Outstanding ratio can be used to compare companies within the same industry to see which ones are paying their invoices in a timely manner. It can also be used to compare a company’s Days Payable Outstanding ratio over time to see if there is a trend of improvement or deterioration.

## High DPO vs Low DPO

Days payable outstanding or DPO is the number of days that a company takes to pay its invoices from its trade creditors. In other words, it’s a measure of how long it takes a company to pay its bills. A high DPO means that a company is taking longer to pay its bills, while a low DPO means that a company is paying its bills more quickly.

There are advantages and disadvantages to having a high or low DPO.

### Advantages of having a HIGH Days Payable Outstanding

- The company has more time to use the cash that it would otherwise have to pay its creditors. This can be used to invest in growth or take advantage of opportunities as they arise.
- Creditors may be more willing to extend credit to a company with a high DPO because they know that the company has a good track record of paying its bills on time.
- A high DPO can be used as a negotiating tool with suppliers in order to get better terms, such as longer payment terms or discounts for early payment.

### Disadvantages of having a HIGH Days Payable Outstanding

- A high DPO can be a sign that a company is struggling to generate enough cash to meet its obligations. This can make it difficult to obtain new financing and can put the company at risk of defaulting on its debts.
- Creditors may become concerned about a company’s ability to pay its bills if the DPO is consistently high. This can lead to them demanding higher interest rates or shorter payment terms.
- A high DPO can put a strain on the company’s relationships with its creditors and suppliers.

### Advantages of having a LOW Days Payable Outstanding

- A low DPO indicates that a company is paying its bills in a timely manner and may have excess cash on hand. This can make it easier to obtain new financing and can improve the company’s credit rating.
- A low DPO can improve the company’s relationships with its creditors and suppliers.
- A low DPO can be used as a negotiating tool with creditors in order to get better terms, such as lower interest rates or longer payment terms.

### Disadvantages of having a LOW Days Payable Outstanding

- A low DPO may be a sign that a company is not using its cash efficiently and may be missing out on investment opportunities.
- A low DPO may indicate that a company is not taking advantage of early payment discounts from suppliers.
- A low DPO can put a strain on the company’s relationships with its customers if they are consistently waiting longer for their invoices to be paid.

### Applications in Financial Modeling and Analysis

In financial modeling, the DPO and the average number of days it takes a firm to pay its bills are key concepts.

When you calculate FCFF (free cash flow to the firm) of a company, the variations in net working capital will impact cash flow, plus the average number of days taken to pay bills will also influence valuation.

### Conclusion!

On the concluding note, it is clear that Days Payable Outstanding is an important financial metric for companies. Days Payable Outstanding ratio can give insights into a company’s financial health and its ability to pay its bills on time.

It is also a good indicator of a company’s negotiating power with its creditors and suppliers. Days Payable Outstanding can be used in financial modeling to forecast a company’s future cash flows and to assess its financial health.

What do you think about Days Payable Outstanding? Do you think it’s an important metric for companies? Let us know in the comments below!