What is DPO ?
Days payable outstanding (DPO) is a financial ratio that indicates the average time (in days) a company takes to pay its bills and invoices.
Terms used to calculate DPO:
- Accounts Payable: Amount of money a company owes to it’s suppliers/vendors. Eg: Company A purchases goods from Company B on credit. Company B will record the same sale as accounts receivable and company A will record the purchase as accounts payable. This is because company A has to pay company B.
2. Cost of Goods Sold: Also known as COGS. This is the amount of money the company spends on labor, materials, and other resources to manufacture or purchase products that were sold to customers during the year.
COGS is calculated as [ Start Inventory + Purchases — End Inventory ]
3. Number of days: Actual number of days on which the Accounts Payable and COGS is based.
What does high DPO mean:
A company’s high DPO value can mean two things-
a) Positive: The company is using the available cash for short-term investments or is increasing their working capital.
b) Negative: The company takes too long to pay their creditors which might harm their future trade relations.
What does low DPO mean:
Similar to how maintaining a high DPO can have positive or negative sides, a company’s low DPO value can mean-
a) Positive: The company is paying their suppliers quickly which means they are managing their cash flow effectively.
b) Negative: The company is missing out on the possibility of earning interest by paying their bills quickly.