Accounts Payable Turnover Ratio

How is it calculated?

Accounts Payable Turnover Ratio = Cost of Goods Sold / Average Accounts Payable Balance

Goal of the Ratio

The goal of this ratio is to determine how promptly your customer has been paying their suppliers.  The ratio which divides the borrower’s average accounts payable balance into their annual cost of goods sold total shows how many times the borrower paid, then re-advanced, the paid their accounts payable during the course of the year.

When the ratio increases, it means the borrower was more prompt in paying its supplier.  When this ratio decreases, it means the borrower slowed their payment of suppliers.  

This ratio should be viewed in the context for what is typical for their industry.  If you find that the borrower pays their suppliers quicker than the peer average, it is possible to save the borrower some money over the course of the year.  Accounts payable typically do not carry an interest rate unless their payment is not received during the prescribed credit terms.  That means if the borrower is paying early or maybe isn’t offered typical market payment terms, if they were able to extend their terms, they would have more cash around that could be used to pay down their operating line of credit, and ultimately save some income by paying less interest during the year.

When is it used?

This ratio is used when the borrower has a high degree of accounts payable.   

Rules of Thumb

There is no rules of thumb for this ratio, but rather this ratio should be viewed in the context of what is typical for the industry.  

What changes in the ratio could mean:

Some example reasons why the Accounts Payable Turnover Ratio can change:

Increases

1. Borrower is profitable and they are using their excess working capital that is being produced to pay down their accounts payable balance
2. Suppliers reduced credit terms for the borrower

Decreases

1. Borrower is unprofitable and they are partially supplementing operations by not paying their accounts payable as quickly
2. Suppliers have increased their credit terms for the borrower

Other Relevant Terms

• Capital
• Balance Sheet
• Working Capital
• Days Payable Outstanding
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