These are both examples of liquidity ratios, and while there are many types of ratios, this type helps look at your ability to repay obligations. Another example is the acid-test ratio which looks at your quick assets and inventory instead of your current assets. These ratios help make accurate analyses that can look at the company's accounts' overall performances and help review the accounts payables process overall.Īn example of these formulas is the current ratio, which looks at your ability to use existing assets to pay off short-term obligations. A financial ratio breaks down the data within places like your accounts payable balance or balance sheet to help prevent your company from falling into financial distress. In an average accounts payable department, there are a handful of calculations that help determine the financial condition of your company's cash flow. Let's go ahead and jump into some practice problems.Your accounts payable turnover can help you determine if you are using favorable credit terms, paying your suppliers back promptly, and can even be used to judge your creditworthiness. So in general this is a pretty easy formula. Well it implies you pay off your debts more quickly right? You're able to pay them off more quickly as the as the ratio goes higher. And last but not least I want to just mention here that a higher ap turnover the higher your ap turnover. Right? So how do we compare ap turnover? Well like most ratios we use benchmarking right? Because we have to know in our industry what's a reasonable amount? So we check with our competitors, we check with the industry average and we see how our ap turnover compares to them. Right? Because we're gonna have to be paying off those ap and keep them at some average balance that we have for our company. So you can imagine that numerator is gonna be bigger than the denominator. Right? So we're gonna have some average balance but those purchases keep increasing as we purchase and purchase. So if you think about it right we're gonna have some accounts payable balance and every time we purchase it's gonna increase that balance but it's not just gonna keep increasing and increasing. The ap turnover it tells us how many times we're able to pay our ap during the year, how many times we are able to pay ar ap during the year. So how do we analyze an ap turnover? Well the ap turnover, let me leave it on the screen there. You're just gonna have a cogs amount divided by average Ap easy peasy. But like I said you're generally not gonna do that. So we could get purchases for our numerator with that amount of information. So if we rearrange those algebraic lee and solve for purchase is what we're going to see that it equals the cogs plus the ending inventory minus beginning inventory. Cogs is gonna lower the account will be left with an ending balance. And then what's gonna lower the inventory account? Well when we sell inventory right. Account right? We're gonna have some beginning balances a debit and then we're gonna have purchases, we're gonna buy more inventory. Well we can back into our purchases or get a pretty good estimate of it. So if we see a balance sheet and we're given two years if we're given last year's balance sheet this year's balance sheet and we have an income statement. We can back into it if we're giving a begin if we're given an inventory account. Okay so we've got an interesting way to calculate our purchases. Beginning balance plus ending balance divided by two. Uh Because it's a little less complicated and we're gonna divide that by our average Ap so remember every time we do an average it's gonna be the beginning balance plus the ending balance divided by two. Um But generally like I said you're gonna we're gonna use cogs in this class. See how he generally how he generally uh tackles these questions. You're gonna want to check with your professor, see his questions. How efficiently are we, how efficient are we at paying off our debts, paying off our accounts payable? Okay so the account payable turnover notice in this, in the formula here I've got purchases or cogs in the numerator. Okay that's the accounts payable turnover and this is a common efficiency ratio. And we're gonna relate that to our average accounts payable level. But we're gonna go with cogs is generally what we're gonna use here. But the technically correct term is purchases. Well this is going to relate the amount of generally I'm gonna say cogs most of the time in your class you're gonna use cogs as the numerator.
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