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Add creditor calculated

welcome to contacts in this lesson we'll need to be looking at the creditors payment period or the accounts payable payment period or the average payment period that these terms are used interchangeably in other lesson we looked at that homes payable turnover ratio and it's closely linked to this ratio over here and we mentioned that in the other one as well so if you'd like to check that one out you'll find the link in the description below but in this lesson we'll explain what creditors payment period is how to analyze or interpret the ratio it will go through an example for you to understand it much better and as usual we are gaining value from any of our lessons or if you're gaining value from this particular lesson please subscribe to our channel like this video and share to those who think it might help so what is the creditors payment period well this ratio calculates the number of days it takes before creditors are settled so it's as simple as that it gives you the average number of days in a given period it takes before you pay your creditors back ok so that is calculated usually over a period of one year a high creditors payment ratio or creditors payment period could indicate favorable terms with suppliers or an inability of the entity to meet credit obligations within a certain time period ok so if you have a high creditors payment period and another creditors payment period is like I said in the first line that this ratio calculates an average number of days it takes before you pay your creditors so if it's high it means it's taking you more days to pay back your creditors and what is the reason for that well it could be due to favorable terms with your suppliers meaning that your suppliers are allowing you a longer period for you to pay them back and that is why you are paying them back after a longer period meaning a high creditors payment ratio or the other reason for having a high creditors payment period is because of liquidity issues that you are unable to meet credit obligations whenever they are due ok so that those are one those are some of the reasons why it could be high this could be also due to a poor datas collection period and what is the debtors collection period well we have done it you'll find the link in the description below but a data collection period is the amount of time but the number of days it takes us has to pay you back and usually companies would require that has to pay them back faster than they would pay their creditors back so if you're collecting your money from your debtors faster you're able to pay your creditors faster but if your debtors are struggling to pay you back you might have money issues or you may not have money in time to pay your creditors and that is why you might have a high credit as payment ratio okay and that is why you may not be able to pay your creditors on time and local does payment ratio on the other hand is directly linked to a favorable data collection ratio and that is why we draw the link between them that's us collection period and the creditors payment period caution should however be exercised because a high creditors payment ratio could signal liquidity problems to suppliers and potential investors so if potential suppliers and investors want to look at your creditors payment period the one to see how long do you take to pay back your creditors because they want to see the liquidity of the business so we are saying here that a high caritas payment ratio meaning you're taking longer to pay back your suppliers could signal liquidity problems to suppliers and potential investors so companies need to take note of that even though we want our creditors to require that money later rather than sooner okay so what is the formula for the creditors payment ratio or the creditors payment period well he is average accounts payable divided by credit purchases time is 365 days okay so here are a few things about this formula average accounts payable some formulas might just have accounts payable of a day so that's just a variation of the formula and then here that denominator credit practices some formulas might have cost of sales or cost of goods sold and like you mentioned in the other lessons with accounts payable turnover ratio that it's better to use credit purchases because those are the practices for this particular period that we purchased on credit rather than cost of goods sold or cost of sales because the cost of sales does not indicate that we bought everything during this period of sales might have cost of sales from the previous period meaning that you bought the inventory for the goods in the previous period and it's brought forward to this period so credit purchases are the items we bought this particular period but on credit right not on cash on credit and that's what we're dealing with here and then you multiply that by 365 now your example or your question might say calculate it over a period of 360 days so you lose 360 otherwise if it does not indicate anything you just use 365 days okay so those are just some of the variations with formulas so how do we get the average accounts payable well it's very easy its accounts payable at the beginning of the year plus accounts payable at the end of the year and we divide that answer by two very easy okay accounts payable at the beginning of the year is the same as accounts payable at the end of the previous year and you'll see right now as you go through this example what is another way of calculating the creditors payment period well we take the 365 days divided by the accounts payable turnover ratio and like I said it's closely linked to this particular one creditors payment period and that is why it's in the link in the description below for you to understand accounts payable turnover ratio just take 365 divided by the accounts payable turnover ratio if you have given and should get the exact same answer as using this same formula on top okay so let's get into the example quickly here's an example here we are given the statement of financial position or the balance sheet and we only have the equity and liabilities section because we don't need the asset section we just need the liability section in fact and here we are given the income statement and we are asked to calculate the creditors payment period of that company okay so what is our formula again it's average accounts payable divided by credit purchases times 365 days okay so what is the average accounts payable well let's go to the liability section and the current liabilities we have a columns paper so we're going to add for the two years in the right hand side we have 2017 in the left hand side we have 2018 so we're going to add for the three years thirty thousand plus thirty three thousand and then that answer divided by 2 and it gives us thirty one thousand five hundred there is going to be our numerator okay and then our denominator credit purchases or do we get that well cost of goods sold is right up here okay it's covered by this formula but there is cost of goods sold and here we are told that credit purchases is 80% of cost of sales okay so let's go back the cost of sales is four hundred and seventy-five thousand rain so we know that eighty percent of that is the credit purchases now you may not be told like that in your question they might just give you the credit purchases or they may tell you that we purchased for such and such amount in this period and such ends armando's on credit or they just give you the credit purchases so you just use that amount so we take that 475,000 rent times 80% cuz you know 80% was the credit purchases and it gives us three hundred and eighty thousand rent so we have our numerator which is thirty one thousand five hundred divided by three hundred and eighty thousand rent and you multiply that by three hundred and sixty-five days and will give us thirty point two six days what does that mean it means that on average it takes us thirty point two six days to pay back our suppliers okay so we round it down it's 30 days to pay back the suppliers and what is the other way of calculating this ratio well we know that we take 365 divided by the accounts payable turnover ratio and we calculated that Navin lesson that I sold using the link in the description below so here it is the accounts payable turnover ratio is twelve point zero six and if you checked out that lesson you'll know that we got the same answer twelve point zero six for this for this particular question so the creditors payment period is 365 days divided by twelve point zero six accounts payable turnover ratio and you get the exact same answer thirty point two six days there is the creditors payment period now what does this answer mean well in isolation it may not mean anything but you have to compete right you can compare to others that is how you'll analyze this ratio you can compare to the industry average you can compare to your competitors ratio you can convey it also for the ratio for the previous year of the same company or for the past five years and see that trend okay so let me give you an example if your competitors creditors payment period is twenty five days means that your your competitor is paying their creditors faster than you it's picking their creditors every 25 days while you are paying them every 30 days and remember those notes I mentioned at the beginning it may mean that you have a favorable credit terms to their suppliers or it means that you're struggling to pay your suppliers on time okay or if you compare to the previous period let's say the previous period it was 40 days now it's only 30 days it means either your creditors have become stricter or you have more cash on hand or you're managing your working capital efficiently so that means you're able to pay your creditors faster okay so those are the way you can analyze these questions and I hope you have gained value from this lesson and if you have and if not subscribe to our channel or like this video please do so and share it to those who think it might help till next time Cheers