The Treasurer’s Guide to Trade Finance

Common calculations

Working capital ratios

The following ratios are useful comparative
indicators of a company’s operating
efficiency. They tend to be used in two ways.
Firstly, they allow a company to compare its
efficiency with that of different companies in
the same industry. Secondly, they allow the
company to compare its efficiency over time.
However, it is also important to recognise that
participation in any collaborative supply chain
financing may have a negative impact on a
company’s working capital ratios.
All these ratios can be calculated for any
period for which the company has data. Most
companies will want to calculate this data at
least quarterly in order to identify trends and
to have warning of any deterioration in their
working capital position.

Days sales outstanding

DSO measures the efficiency of a company’s
collection process. It is also referred to as the
receivables period.
This is calculated by using the following
equation:

DSO = [average trade accounts receivable

/ total trade credit sales in period (grossed

up to be inclusive of VAT or sales taxes)] ×

number of days in period

So, consider a company with an average
GBP 1.5 million accounts receivable with
quarterly credit sales of GBP 3.25 million:

DSO = (1,500,000/3,250,000) × 91

= 46.2 days

This figure needs to be measured against
the company’s average payment terms. If
the company generally trades on 60 days
terms, a DSO of 46.2 is a good figure, as

it suggests customers are paying early.

(In such circumstances, the treasurer will

want to ensure any early payment discount

being offered does not disadvantage the

company.) On the other hand, if the company

generally trades on 30 days terms, a DSO of

46.2 suggests a weakness in the accounts

receivable process.

In general terms, a reduction in the DSO

will improve a company’s working capital

position, as this will suggest an acceleration

of the process of converting accounts

receivable into cash.

Days payable outstanding

DPO measures the time a company takes to

pay its suppliers. It is also referred to as the

payables period.

This is calculated by using the following

equation:

DPO = [average trade accounts payable

/ total cost of goods purchased in period

(grossed up to be inclusive of VAT or sales

taxes)] × number of days in period

Where the cost of goods purchased is not

available, an approximation for the payables

ratio is taken as:

[average trade accounts payable / total

sales of goods in period (grossed up to be

inclusive of VAT or sales taxes)] × number

of days in period

So, consider a company with an average

EUR 8.25 million accounts receivable

with annual cost of goods purchased of

EUR 36 million:

DPO = (8,250,000/36,000,000) × 365

= 83.6 days