Trade Creditors

Trade Creditors (also known as Accounts Payable) are the unsung heroes of day-to-day business. In simple terms, they are the suppliers and vendors a company owes money to for goods or services it has already received. Think of it as a tab your local coffee shop runs for a regular customer. The coffee has been served, but the cash hasn't changed hands yet. This amount shows up on a company's balance sheet as a current liability, meaning it's a debt that needs to be paid off within a year. Essentially, trade creditors represent a short-term, interest-free loan from a company's suppliers. This “free” financing is a vital lubricant for the gears of commerce, allowing businesses to buy what they need now and pay for it later, smoothing out their cash flow and daily operations. For investors, this seemingly boring line item can reveal a fascinating story about a company's power, efficiency, and financial health.

Imagine a local bakery that needs 100 bags of flour to meet the weekend rush. Its trusted flour supplier delivers the goods on Thursday with an invoice that says “net 30.” This means the bakery has 30 days to pay for the flour. For those 30 days, the supplier is the bakery's trade creditor. This isn't a sign of trouble; it's business as usual. This arrangement is built on trust and is a fundamental part of the supply chain. It allows the bakery to produce and sell its bread and cakes before it has to pay for the raw ingredients, which is fantastic for managing working capital. The supplier, in turn, secures a sale and strengthens its relationship with a reliable customer. The length of this credit period can vary, with terms like “net 30,” “net 60,” or even “net 90” being common, depending on the industry and the company's relationship with its suppliers.

To a savvy investor, the trade creditors line is more than just a debt; it's a treasure trove of information. It provides clues about a company's competitive standing and operational savvy.

• A Source of 'Free' Financing: A consistently large balance of trade creditors can be a sign of a very well-managed company. By skillfully negotiating longer payment terms, a business can effectively use its suppliers' money to fund its own operations. This cash, which would otherwise be tied up, can be used to invest in growth, reduce other debt, or simply provide a bigger safety cushion.
• Bargaining Power and Moats: Why would suppliers agree to wait longer to get paid? Because they have to! Companies with a strong competitive moat, like retail giants or dominant manufacturers, have immense bargaining power. Suppliers are willing to offer generous credit terms to keep their business. A rising trade creditors balance (in line with sales growth) can therefore be an indicator of a strengthening competitive position.
• Potential Red Flags: Be careful, though. A sudden and dramatic spike in trade creditors that outpaces revenue growth can be a major red flag. It might signal that the company is in financial distress and is struggling to pay its bills. It's essentially “stretching its payables” not out of strength, but out of desperation. This is a classic sign of a looming liquidity crisis.

To move beyond simple observation, investors use a handy metric called Days Payable Outstanding (DPO). This ratio tells you, on average, how many days it takes for a company to pay its suppliers.

1. The Formula: DPO = (Trade Creditors / Cost of Goods Sold (COGS)) x 365
2. The Interpretation:
   • A High DPO can be a positive sign, indicating the company has strong supplier relationships and is efficiently using its “free” credit. However, an extremely high DPO compared to industry peers could signal liquidity problems.
   • A Low DPO might mean the company is leaving money on the table by paying its bills too quickly. It could also suggest weak bargaining power, where suppliers demand prompt payment.

The key is context. Always compare a company's DPO to its own historical levels and, more importantly, to the average DPO of its direct competitors. A change in the trend or a significant deviation from the industry norm is what warrants a closer look.

Trade creditors are far more than an accounting entry. They are a window into the core of a business—its operational efficiency, its power within its industry, and its financial well-being. For the value investor, taking a moment to analyze this figure and its related trends provides a simple yet powerful tool to separate well-oiled machines from companies sputtering on financial fumes. Don't overlook this crucial piece of the investment puzzle.