How to Answer “How do you forecast working capital using DSO, DIO, and DPO (days metrics)?” in Investment Banking Interviews
In investment banking interview prep, this is a common “tell me you can model” prompt: How do you forecast working capital using DSO, DIO, and DPO (days metrics)? Interviewers want to see that you can translate days assumptions into balance sheet line items, connect them to the cash flow statement, and explain the logic cleanly.
A strong answer keeps the mechanics simple: forecast the days metrics, convert them into AR/inventory/AP balances using the income statement, then compute the change in working capital and sanity-check the trend against the business model.
What Interviewers Test: Working Capital Metrics Under Pressure
Interviewers use this as a proxy for whether you can build (and audit) a 3-statement model under time pressure. It’s less about memorising formulas and more about showing you understand how working capital moves with revenue and cost flows.
They’re also testing judgment around working capital metrics: when to hold days flat vs. trend them, which denominator to use (sales vs. COGS), and how seasonality or growth can mechanically distort days.
Finally, it’s a communication test typical of investment banking technical questions: can you state the definitions, lay out a repeatable workflow, and link balance sheet forecasts to cash impacts without getting lost in sign conventions.
Forecast Working Capital Interview Framework (DSO/DIO/DPO)
- 1
Step 1: Define the days metrics and pick consistent denominators
Start by defining each metric and the denominator you will use in the model:
- DSO (Days Sales Outstanding) measures how long it takes to collect cash from customers. Standard:
DSO = (Average A/R ÷ Revenue) × 365. - DIO (Days Inventory Outstanding) measures how long inventory sits before being sold. Standard:
DIO = (Average Inventory ÷ COGS) × 365. - DPO (Days Payables Outstanding) measures how long the company takes to pay suppliers. Standard:
DPO = (Average A/P ÷ COGS) × 365(or purchases, if you model them).
For forecasting, you typically assume forward DSO/DIO/DPO (flat, trend, or converge to peers) and then solve for ending balances. Be explicit that in interview models you usually use period revenue/COGS as an approximation rather than true averages—then keep that approach consistent across years.
- DSO (Days Sales Outstanding) measures how long it takes to collect cash from customers. Standard:
- 2
Step 2: Forecast A/R, Inventory, and A/P from the days assumptions
Convert the days assumptions into balance sheet line items using the forecast income statement:
- Accounts Receivable (A/R):
A/R(t) = Revenue(t) × DSO(t) ÷ 365 - Inventory:
Inventory(t) = COGS(t) × DIO(t) ÷ 365 - Accounts Payable (A/P):
A/P(t) = COGS(t) × DPO(t) ÷ 365
Call out the intuition: higher DSO increases A/R (cash collected later), higher DIO increases inventory (cash tied up), and higher DPO increases A/P (cash retained longer).
If asked about best practice: you can use average balances for calculating days, but for forecasting you usually solve for ending balances from days; this is the standard approach in a forecast working capital interview answer.
- Accounts Receivable (A/R):
- 3
Step 3: Compute the change in operating working capital and map to cash flow
Once you have ending A/R, inventory, and A/P by period, compute the change and link it to the cash flow statement.
A common operating working capital definition is:
- NWC (operating) =
A/R + Inventory − A/P(excluding cash, debt, and often excluding taxes/other accruals unless you’re modelling them).
Then:
- Change in NWC =
NWC(t) − NWC(t−1)
On the cash flow statement, the convention is:
- An increase in A/R is a use of cash (negative adjustment).
- An increase in Inventory is a use of cash.
- An increase in A/P is a source of cash.
State it plainly: in a 3-statement model, your working capital forecast affects cash through the “Change in working capital” line in CFO, and the balance sheet ties because you solved the ending balances from the days metrics.
- NWC (operating) =
- 4
Step 4: Choose assumptions and sanity-check against the business and history
Explain how you would set assumptions rather than blindly holding days constant:
- Start with history: compute historical DSO/DIO/DPO to see stability, trends, and volatility.
- Layer in business context: fast-growing companies can show worsening DSO if collections lag; retailers often have low DSO; manufacturers may carry higher DIO; supplier power can drive DPO.
- Check reasonableness: compare to peers if you have them, or at least ensure days don’t drift to unrealistic levels (e.g., negative inventory implied by very low DIO).
Then run quick tie-outs:
- Does forecast cash conversion make sense? (Higher DSO/DIO should usually depress operating cash flow.)
- Do working capital balances scale sensibly with revenue/COGS?
- If margins or mix shift materially, confirm the chosen denominators (revenue vs. COGS) still align with the line item’s economics.
This closes the loop and shows you know the steps to calculate working capital metrics in interviews and to validate them.
Analyst Model Answer: How to Forecast Using Days Metrics
To forecast working capital with days metrics, I forecast DSO, DIO, and DPO and convert those assumptions into A/R, inventory, and A/P balances using the income statement, then take the period-over-period change to get the cash flow impact.
Mechanically: I start with my revenue and COGS forecast. Then I set forward days assumptions—usually based on history and any expected operational change. I calculate A/R = Revenue × DSO / 365, Inventory = COGS × DIO / 365, and A/P = COGS × DPO / 365. That gives me the ending balances each year.
Next I compute operating net working capital, typically NWC = A/R + Inventory − A/P, and take ΔNWC between periods. On the cash flow statement, an increase in A/R or inventory is a use of cash, while an increase in A/P is a source of cash, so the signs follow from those balance changes.
Finally, I sanity-check: days should be directionally consistent with the business model and not drift to unrealistic levels, and the implied working capital balances should scale sensibly with revenue and COGS. If growth or seasonality is meaningful, I’ll mention that annual days are a simplification and, in a fuller model, I’d move to quarterly or monthly working capital to better capture timing.
- State the workflow first (assume days → solve balances → ΔWC → cash flow) before reciting formulas.
- Be consistent on denominators: revenue for A/R, COGS (or purchases) for inventory and payables.
- Show you understand cash impacts with clear “use vs source” language.
- Add one quick judgment point (history/peers/seasonality) to sound analyst-level.
- Avoid overcomplicating with averages unless the interviewer asks—keep it model-ready.
Common Mistakes in DSO, DIO and DPO Forecasting
- Mixing up denominators (e.g., using revenue for inventory) without explaining why, which creates inconsistent working capital metrics.
- Getting the cash flow signs wrong—especially treating an increase in A/P as a use of cash rather than a source.
- Quoting definitions but not explaining the modelling step of converting days into ending balances (A/R, inventory, A/P).
- Forecasting days that imply implausible outcomes (e.g., DPO far above supplier terms) without a business rationale.
- Ignoring seasonality and timing when it matters; annual models can hide large intra-year working capital swings.
- Including non-operating items (cash, debt) inside “working capital” when the question is clearly about operating working capital drivers.
Follow-Ups in Investment Banking Technical Questions (Working Capital)
What’s the difference between forecasting with days metrics vs. forecasting working capital as a % of sales?
Days metrics tie A/R, inventory, and A/P to operational timing (collection, holding, payment), while % of sales is a rough shortcut that can miss changes in payment terms or mix.
Why is DPO sometimes calculated on purchases rather than COGS?
Payables relate to what you buy from suppliers; if inventory levels change materially, purchases can differ from COGS, so using purchases can better match the economics.
How would you handle seasonality in a working capital forecast?
Move from annual to monthly/quarterly modelling using days assumptions by period, then roll up, so peak receivables/inventory aren’t averaged away.
If revenue grows 30% next year, what happens to working capital if DSO stays flat?
A/R will grow roughly in line with revenue, so you typically see a cash outflow from the increase in receivables even though DSO is unchanged.
What other working capital lines might you model beyond A/R, inventory, and A/P?
Depending on the business, you may also model deferred revenue, other current assets/liabilities, accrued expenses, and taxes payable/receivable if material.
Practice Plan for DSO DIO DPO Interview Prep
- Practise a 2-minute explanation that hits: definitions → conversion formulas → ΔNWC → cash impact, as you would in DSO DIO DPO interview prep.
- Drill the sign conventions out loud until they’re automatic (AR↑ = cash down; Inventory↑ = cash down; AP↑ = cash up).
- Create a quick “sanity checklist” you can say in interviews: compare to history, check scaling with revenue/COGS, and flag seasonality.
- Do one timed whiteboard run-through using a simple set of numbers (revenue, COGS, days) to prove you can compute balances quickly.
- Use AceTheRound to practise responding to variations of investment banking interview questions on working capital and get feedback on structure and clarity.
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