What is Days Payable Outstanding (DPO)?
Days payable outstanding help measures the average time in days that a business takes to pay off its creditors and is usually compared with the average payment cycle of the industry to gauge whether the payment policy of the company is aggressive or conservative.
Let us have a look at the graph above. We note that Colgate’s DPO has been stable over the years and is currently at 67.24 days. However, when we compare this with Procter and Gamble, we note that P&G’s DPO has been increasing continuously since 2009 and is currently very high at 106.64 days.
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Source: Days Payable Outstanding (wallstreetmojo.com)
Days Payable Outstanding Formula
Here’s the formula –
Days Payable Outstanding Formula = Accounts Payable / (Cost of Sales / Number of Days)
Days payable outstanding is a great measure of how much time a company takes to pay off its vendors and suppliers.
If you look at the formula, you would see that DPO is calculated by dividing the total (ending or average) accounts payable by the money paid per day (or per quarter or per month).
For example, if a company has a DPO of 40 days, that means the company takes around 40 days to pay off its suppliers or vendors on average.
Also, you can have a look at this detailed guide to Accounts Payable.
We will now look at a practical example to illustrate this.
Days Payable Outstanding Example
Example #1
Company Xomic has a reputation for paying its vendors quickly. It has an ending account payable of $30,000. Its cost of sales is $365,000. Find out the days payable outstanding for Company Xomic.
This is a simple example. All we need to do is to feed the data into the formula.
Here’s the formula –
DPO = Ending Accounts Payable / (Cost of Sales / Number of Days)
Or, DPO = $30,000 / ($365,000 / 365) = $30,000 / $1000 = 30 days.
Only calculating the DPO of the company isn’t enough; we need to look at it holistically as well.
Example #2
Let us take the example of a company whose accounts payableAccounts PayableAccounts payable is the amount due by a business to its suppliers or vendors for the purchase of products or services. It is categorized as current liabilities on the balance sheet and must be satisfied within an accounting period.read more for the quarter are $100,000. The value of inventories at the beginning of the quarter is $250,000, total purchases made during the quarter $1,000,000, out of which cash purchases are of $700,000, and inventories of $100,000 remain unsold at the end of the quarter. Then for the calculation of Days payable outstanding for the quarter, the following steps are to be taken.
Solution:
Use the given data for the calculation of DPO.
Now, First, we have to start with the calculation of the cost of goods sold (COGS) by using the following formula:
COGS = 250,000 + 1,000,000 – 100,000
COGS = $ 1,150,000
Now, DPO for the quarter can be calculated by using the above formula as,
DPO = $100,000 * 90 days / $1,150,000
DPO will be –
DPO = 8 days (Approximately)
Note:
It must be noted that while calculating COGS in this example, cash purchase is not considered as to whether the purchase is made in cash or on credit; it must be included while calculating COGS.
Example #3
Let us take another example where the company whose accounts payable for the quarter April to June are $100,000, and for the quarter July to September are $500,000 and the cost of goods soldCost Of Goods SoldThe Cost of Goods Sold (COGS) is the cumulative total of direct costs incurred for the goods or services sold, including direct expenses like raw material, direct labour cost and other direct costs. However, it excludes all the indirect expenses incurred by the company. read more for the quarter April to June is $450,000, and for the quarter July to September is $500,000, then for calculation of days payable outstanding the following steps are to be taken.
Solution:
Given Data for Quarter April to June:
Now, DPO for the quarter can be calculated by using the above formula as,
DPO = $100000 * 90 days / $450000
DPO will be –
DPO = 20 days.
Similarly,
Given Data for Quarter July to September:
Now, DPO for the quarter can be calculated by using the above formula as,
DPO = $500000 * 90 days / $500000
DPO will be –
DPO = 90 days
Therefore, from the above-given example, it is amply clear that in the period April to June, the company is paying its creditors in 20 days but in the period July to September, the company has increased its days payable outstanding to 90 days.
We will look at the holistic interpretation in the next section.
How to Interpret DPO?
For a company to succeed, it should look holistically.
By calculating the days payable outstanding, a company may get how much time it takes to pay off its suppliers and vendors.
But that alone won’t do any good until the company does few things.
- Firstly, the company should look at the industry and the average DPO in the industry.
- Secondly, if the company’s DPO is less than the average DPO of the industry, then the company may consider increasing its days payable outstanding. But the organization should remember that doing this doesn’t cost them the vendor or any favorable benefits from the suppliers. Keeping these two things in mind, if a company can match up with its DPO with the average DPO of the industry, the company would be able to use the cash flow for better use for a long period of time.
- Thirdly, if the company’s DPO is more than the average DPO of the industry, then the company may consider decreasing its DPO. Doing this will allow them to satisfy the vendors, and the vendors would also be able to provide the company with favorable terms and conditions.
- Fourthly, the company should also look at similar companies and how they’re approaching the Days Payable Outstanding. If the company notices closely, they would be able to see the consequences of their approach. And then the company can get a better idea about whether to increase or decrease the DPO.
- Finally, along with DPO, the company also should look at the other two factors of the cash conversion cycle. They are days of inventory outstanding (DIO) and DSODSODays sales outstanding portrays the company's efficiency to recover its credit sales bills from the debtors. The number of days debtors took to make the payment is computed by multiplying the fraction of accounts receivables to net credit sales with 365 days.read more. Since all three are required to form the cash conversion cycleCash Conversion CycleThe Cash Conversion Cycle (CCC) is a ratio analysis measure to evaluate the number of days or time a company converts its inventory and other inputs into cash. It considers the days inventory outstanding, days sales outstanding and days payable outstanding for computation.read more, it’s important that the company pays heed to all three. It will give them a holistic view, and they would be able to improve their efficiency in the long run.
How does the whole process works?
Understanding the whole process of Days Payable Outstanding will definitely help understanding it in detail.
A company needs to purchase raw materials (inventory) from the vendors or the suppliers.
These raw materials can be sourced in two ways. First, the company can buy raw materials in cash. And another way to purchase the raw materials is on credit.
If a company is purchasing the raw materials in bulk, then the supplier/vendor allows the company to buy on credit and pay off the money at a later date.
The difference between the time they purchase from the supplier and the day they make the payment to the supplier is called DPO.
Now, whatever we explained above is a simplification of DPO. In a real scenario, things are much complex, and the company needs to deal with multiple vendors/suppliers.
Depending on how much time the company takes to pay off the due, the supplier offers many benefits for early payment like the discount on bulk order or reducing the amount of pay, etc.
Sector Examples of Days Payable Outstanding
Example – Airlines Sector
| Name | Market Cap ($ billion) | DPO |
|---|---|---|
| American Airlines Group | 24,614 | 35.64 |
| Alaska Air Group | 9,006 | 14.86 |
| Azul | 7,283 | 71.19 |
| China Eastern Airlines | 9,528 | 47.23 |
| Copa Holdings | 5,788 | 30.49 |
| Delta Air Lines | 39,748 | 60.12 |
| Gol Intelligent Airlines | 21,975 | 58.62 |
| JetBlue Airways | 6,923 | 38.72 |
| LATAM Airlines Group | 8,459 | 60.48 |
| Southwest Airlines | 39,116 | 59.36 |
| Ryanair Holdings | 25,195 | 26.79 |
| United Continental Holdings | 19,088 | 57.42 |
| China Southern Airlines | 9,882 | 13.30 |
- Airline companies have varied payment terms that are reflected in their payment outstanding days.
- China Southern Airlines has the lowest payment outstanding days of 13.30, whereas that of LATAM Airlines is the highest amount this group at 60.48 days.
Example of Automobile Sector
| Name | Market Cap ($ billion) | DPO |
|---|---|---|
| Ford Motor | 50,409 | 0.00 |
| Fiat Chrysler Automobiles | 35,441 | 86.58 |
| General Motors | 60,353 | 64.15 |
| Honda Motor Co | 60,978 | 37.26 |
| Ferrari | 25,887 | 124.38 |
| Toyota Motor | 186,374 | 52.93 |
| Tesla | 55,647 | 81.85 |
| Tata Motors | 22,107 | 134.66 |
- We observe varied payment terms and payable days outstanding ranging from 0.00 days to 134.66 days
- Ford Payable days Outstanding is at 0 days, and that of Tata Motors is at 134.66 days.
Example of Discount Stores
| Name | Market Cap ($ billion) | DPO |
|---|---|---|
| Burlington Stores | 8,049 | 70.29 |
| Costco Wholesale | 82,712 | 27.87 |
| Dollar General | 25,011 | 36.19 |
| Dollar Tree Stores | 25,884 | 30.26 |
| Target | 34,821 | 55.11 |
| Wal-Mart Stores | 292,683 | 40.53 |
- Wal-Mart Stores has Payable days outstanding of 40.53 days, whereas that of Burlington Stores is highest in this group at 70.29 days.
Example of Oil & Gas Sector
| Name | Market Cap ($ billion) | DPO |
|---|---|---|
| ConocoPhillips | 62,980 | 100.03 |
| CNOOC | 62,243 | 104.27 |
| EOG Resources | 58,649 | 320.10 |
| Occidental Petroleum | 54,256 | 251.84 |
| Canadian Natural | 41,130 | 30.08 |
| Pioneer Natural Resources | 27,260 | 120.03 |
| Anadarko Petroleum | 27,024 | 312.87 |
| Continental Resources | 18,141 | 567.83 |
| Apache | 15,333 | 137.22 |
| Hess | 13,778 | 54.73 |
- Overall, the payment days are higher than in other sectors ranging from two months to nineteen months.
- Continental Resources has a payable outstanding day of nineteen months, whereas that of Canadian Natural is of one month.
How is the cash conversion cycle calculated?
To understand the perspective of DPO, it’s also important to understand how the cash conversion cycle is calculated.
First of all, the company needs to calculate three things.
The company first needs to calculate DIOCalculate DIODays Inventory Outstanding refers to the financial ratio that calculates the average number of days of inventory held by the company before selling it to the customers, providing a clear picture of the cost of holding and potential reasons for the delay in the inventory sale.read more by following the formula below –
DIO = Inventory / Cost of Sales * 365
Then, the company calculates the DSOThe Company Calculates The DSODays sales outstanding portrays the company's efficiency to recover its credit sales bills from the debtors. The number of days debtors took to make the payment is computed by multiplying the fraction of accounts receivables to net credit sales with 365 days.read more (Days Sales Outstanding) by using the formula –
DSO = Accounts ReceivableAccounts ReceivableAccounts receivables is the money owed to a business by clients for which the business has given services or delivered a product but has not yet collected payment. They are categorized as current assets on the balance sheet as the payments expected within a year. read more / Total Credit Sales * 365
Finally, the company computes DPO by the formula we mentioned above –
DPO = Accounts Payable / (Cost of SalesCost Of SalesThe costs directly attributable to the production of the goods that are sold in the firm or organization are referred to as the cost of sales.read more / 365)
Finally, the DIO and DSO need to be added, and then the DPO needs to be deducted from the sum.
This is how the cash conversion cycle is calculated.
In a nutshell, the DIO tells a company how much time it takes to transfer the inventory into sales. DSO tells about how much time the company takes to collect the money from the debtors. And DPO tells about how much time the company takes to pay off the money to its creditors.
That means if we look at all three, the whole cycle of a business is complete – from inventory to cash collection.
Days Payable Outstanding Video
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