Financial Education

Accounts receivable turnover measures how long it takes for a company to receive payment from its customers for sales made on credit. We can similarly calculate how long it takes for the company to pay its own suppliers for the goods it receives. The resulting activity ratio is called Accounts Payable Turnover.

The formula for accounts payable turnover is to divide purchases made on credit by the average accounts payable balance. As with accounts receivable, companies seldom disclose how much of their purchases were made on credit. Therefore, the usual shortcut made is to assume that all purchases were credit purchases.

Still, there is no single line item that tells how much a company purchased in a year. The cost of goods sold represents what was sold, but the company may have purchased either more or less than it eventually sold. The result would be either an increase or a decrease in inventory.

So, to calculate the purchases made, cost of goods sold is adjusted by the change in inventory as follows:
Purchases = Cost of goods sold + ending inventory - beginning inventory.

Now consider the data for Plantronics, Inc.

Again, as with both the inventory and accounts receivable turnover ratios, this can be expressed in terms of a number of days by dividing the result into 365: 365/13.6 = 26.8. This number is called the Days Payable and represents the average length of time between the date Plantronics receives inventory from suppliers and when it actually pays the supplier for the merchandise.

For more information, see all articles on: Financial Statement Analysis, Fundamental Analysis, Investing in Stocks, Ratio Analysis, Security Selection

See also:

Activity Ratios

The Cash Cycle

Accrued Expenses

Accounts Payable

Accounts Receivable Turnover and Days Sales Outstanding