Creditor days is used to calculate the average time it takes a business to pay its suppliers.
The results are a measure of a businesses cash flow management within a business and its savviness when it comes to taking advantage of supplier payment terms.
It can be a particularly useful calculation for investors as well as business owners, by offering an insight into how well the business is being run.
How to Calculate Creditor Days
Here is the formula you’ll need to use:
Creditor days = Average Trade creditors/Purchases x 365
A business shows opening trade creditors on their balance sheet of £50,000 and a closing balance of £70,000. During the period the cost of sales was £300,000.
Average trade creditors are therefore £60,000 (£50,000 + £470,000/2)
Creditor days are therefore (£60,000/£300,000) x 365 = 73 days
Analysing the Results
In effect, the results show the speed at which a business pays its trade creditors.
In the example above, it takes the business on average 73 days to pay its suppliers after being invoiced for their purchases.
Understanding whether result indicates high or low creditor days may require a bit of research into:
- How this compares to other businesses in the same industry;
- Typical payment terms – a larger business may be able to command more favourable payment terms;
- The rate that the business gets paid by its customers (debtor days).
High creditor days can be an indicator of:
- cash flow problems within a business;
- poor business management.
A low result can show that the business is:
- not maximising the credit terms offered to them;
- paying suppliers too early rather than holding onto their cash for longer or using it for other reasons;
- unable to negotiate good commercial terms, due to its size, nature or credit history.
How to Improve Creditor Days
Improving the results of your trade creditor days calculation will depend on the exact nature of the business and its current results.
Reducing the time it takes to pay suppliers could mean:
- Negotiating and taking advantage of early payment discounts meaning more gross profit;
- Renegotiating payment terms so that suppliers give the business more time to pay;
- Improving stock control to reduce the amount of stock held at any one time which in turn reduces the number of suppliers and boosts working capital;
- Taking a strategic review of working capital and boosting this with additional funding where necessary so that suppliers can be paid quicker.
Where creditors days are low, increasing the time taken could help a business to:
- Improve working capital;
- Earn more through bank interest, when rates are favourable;
- Better manage internal finances.
When trying to build a picture of the performance and efficiency of a business, creditor days should not be considered in isolation.
It should be used in conjunction with other ratios such as:
- Liquidity Ratios like the current ratio
- Solvency Ratios like the debt to equity ratio
- Efficiency Ratios asset turnover ratio or debtors days
- Profitability Ratios like gross profit margin
Updated 4 September 2019