Days Payable Outstanding: What It Is & How to Use It

Published on September 19, 2023
Share:

Days payable outstanding (DPO) is an accounts payable (A/P) metric that tracks how much time passes between when your business receives an invoice and when it pays it. Monitoring this payment gap can give you a fair amount of insight into the health of your business’s financials.

After all, controlling cash flow is one of the principal responsibilities of your A/P staff, and one major factor in determining how much money your business has in hand is adjusting how quickly — and frequently — you spend your money.

What is days payable outstanding?

DPO is the average time your company takes to pay off its credit-based purchases in a set period — typically quarterly or annually. For example, if you paid off every one of your invoices precisely 30 days after receiving them for an entire quarter, you would have a DPO of 30 days for that quarter.

Obviously, if you delay your payments for a longer period, your days payable outstanding will increase, while prompt payment will generate a lower DPO. Maintaining a good DPO matters because how quickly or slowly you pay your bills can influence liquidity, vendor relationships, creditworthiness, and more.

For instance, a low score might mean you are paying off debts too quickly and sacrificing working capital that could be better invested in your business plans. 

Meanwhile, a high DPO score could signal that your A/P team is not working efficiently or that you frequently incur late fees. A high score indicates that your company is struggling to pay its bills, making it less likely that you will receive lines of credit going forward.

DSO vs. DPO

Confusingly similar, days payable outstanding and days sales outstanding (DSO) are both useful key performance indicators (KPIs) regarding your financial health. However, while DPO monitors the period required to pay your bills, DSO tracks how long it takes your customers to pay the invoice you send them using the same invoice-to-payment gap. 

To put it another way, DPO measures efficacy surrounding the money you are paying out, whereas DSO measures how quickly and efficiently you are being paid. 

Notably, your DPO for an individual vendor will match their DSO for your specific account with them, and vice versa concerning your relationship with your customers (where you assume the vendor role).

To learn more about the nature and value of DSO, check out our corresponding blog: Days Sales Outstanding: What It Is & How to Use It.

DPO formula: How to calculate days payable outstanding

Days Payable Outstanding

=

Average Accounts Payable x Number of Days

Cost of Goods Sold (COGS)

Example of DPO calculation 

Homage du Fromage (HdF) manufactures and distributes cheese blocks that have been sculpted to represent global architectural marvels — perfect for your next holiday or formal occasion. Over the course of 2022, HdF experienced a year of record sales, mostly thanks to the success of its Ancient Wonders line of party platters.

At the start of the year, HdF had $720,000 featured on its general ledger’s accounts payable line item. And at the end of the year, that figure was $980,000 — netting an average A/P of $850,000 for 2022. Over that same timeframe, the cost of goods sold was $3.3 million. So the DPO for Homage du Fromage for 2022 would be:

 

DPO

=

Average A/P: $850,000 x Days: 365

=

94 days

COGS: $3,300,000

What is a good DPO ratio? 

There is a one-size-fits-all answer to this question. Standard advice suggests targeting a longer DPO — ideally, one where you take full advantage of the payment period offered by your vendors and suppliers before accruing late fees. But your target DPO will vary dramatically based on your industry, your bargaining power, and what your business is trying to do.

If you are preparing for a large growth season or expansion into a new market, you may want a higher average than the industry standard — at least for the immediate future. Alternatively, if your vendors offer significant early payment discounts, maintaining a lower DPO and capturing those savings may make more sense.

Whatever target you choose, best practices for accounts payable suggest that you should also pay close attention to what your market and competitors are doing. Typically, you don’t want to stray too far from the pack, or your business might look unsafe to potential investors or creditors.

What other metrics make it easier to understand your DPO?

If you want to know what’s going on in your business — particularly how you’re spending your money and its impact on cash flow — there are several accounts payable KPIs that you should monitor beyond just DPO. In fact, you should routinely analyze your accounts payable processes and related financials to identify unneeded delays and other inefficiencies. Some common metrics are noted below.

1. Accounts Payable Turnover Ratio

Like DPO, the accounts payable turnover ratio focuses on the gap between receiving an invoice and paying it. However, this ratio records the speed of the payout rather than the time required. Specifically, this metric identifies how many times a business can pay off its accounts payable during a given time period.

Accounts Payable Turnover Ratio = Total Supply Purchases ÷ Average Accounts Payable

2. Average Accounts Payable

This metric reflects the average balance of the accounts payable line item on your general ledger during a set time frame.

Average Accounts Payable = (Starting A/P + Ending A/P) ÷ 2

3. Cash Conversion Cycle (CCC)

CCC tracks how long a business can convert its existing inventory into cash. Typically, you’ll want a low value, which suggests that your company is running efficient inventory controls that closely align with actual sales.

CCC = Days Sales Outstanding + Days Inventory Outstanding – Days Payable Outstanding

4. Cost of Goods Sold (COGS)

Your COGS value directly reflects the cost — materials, labor, manufacturing overhead — your business puts into creating your products. Please note that COGS only applies to companies that produce some hard goods or products.

Cost of Goods Sold = Beginning Inventory + Purchases Ending Inventory

5. Days Inventory Outstanding (DIO)

Much like DPO and DSO, days inventory outstanding measures the average time a business warehouses its inventory before selling it. DIO may also be reported as “inventory days of supply” or “days in inventory.”

Days Inventory Outstanding = (Average Inventory ÷ Cost of Goods Sold) x Number of Days

6. Early Discount Capture Rate

This rate tracks how well your business is leveraging the early payment discounts available to you. Based on this metric — alongside the total value of potential savings — you may choose to decrease your DPO.

Early discount capture rate = Number of discounts used ÷ Number of discounts offered

7. Late Payment Rate

While a single late payment is rarely catastrophic, routine delinquency can quickly undermine your reputation among vendors and creditors. Keeping an eye on this value will help you identify potential payment delays and can let you recognize when your DPO is out of control.

Late payment rate = Number of late payments ÷ Number of total payments

How to leverage the knowledge of your DPO ratio

Control cash flow

As stated, manipulating your DPO will directly impact your company’s cash flow. As you shorten this payment cycle, you’ll communicate to creditors and vendors that your business is healthy and has enough cash to pay your debts. Conversely, extending your DPO will mean you are holding onto your cash longer, enabling you to take advantage of this surplus to fund critical business initiatives. 

Further reading: Cash Flow Problems: Why They Occur and How to Solve Them.

Choose automation

The transition to digital processing for all of your incoming invoices and outgoing payments can capture new efficiencies and reduce the likelihood of manual errors — transcription or otherwise. With more accurate payment processes, you can more easily and intentionally hit your DPO target. Ideally, the automation platform you choose will also offer built-in dashboards that can actively calculate and display your DPO and other critical metrics, making the decision-making process easier for your financial team.

Further reading: 6 Signs it’s Time to Automate Accounts Payable

Predict and project

Days payable outstanding is a metric commonly used in forecasting and financial modeling efforts. This payment average offers clear, succinct visibility into existing and historical performance. Depending on the fluctuation of your DPO over time, your analytics software can predict where your DPO — and cash flow — will likely be in the short- and long-term.

Track your workflow

While DPO reflects average, sudden changes in that average can help you identify and diagnose challenges within your A/P efforts. For example, if you have a target DPO of 30 days but your average suddenly jumps to 45, you likely have a problem — such as an increase in errors that delay your payouts. Similarly, as you make improvements or changes to your A/P workflows, you can determine how much these alterations influence your overall efficiency, cash position, and payment window. Ideally, an efficiency gain would lower your DPO unless you’ve instructed staff to delay payments artificially for a set period.

Invoiced: Automated Accounts Payable Insights & More

Knowing what’s going on within your A/P efforts can sometimes be challenging. But by monitoring the right metrics over time, you can capture the necessary insight to make smart choices that will keep your vendors, potential creditors, and growth plans happy.

Try our accounts payable automation software and unlock intuitive dashboards that let you track performance granularly and holistically. Deploy customizable workflows that cut out unnecessary delays, keep your payments running smoothly, and allow you to embrace greater control over your cash flow as you settle your invoices.

Schedule a demo today to learn more about how Invoiced can help you improve your DPO and provide other insights.

Published on September 19, 2023
Share:

Latest Stories

Here’s what we've been up to recently.

wooden blocks spelling KPI
Discover crucial CFO KPIs and metrics for measuring financial performance and how automating payments accelerates goal achievement.
Hands holding a device reflecting AI in payments
The use of AI in payment processing is becoming more widely adopted – learn exactly what it is, how it’s used, its benefits for digital payments, and more.