Definition
Accounts Receivables is a term in finance that represents the money owed to a company by its customers for goods or services that have been delivered or used but not yet paid for. These are typically in the form of invoices issued by the company and are considered a current asset on the balance sheet. In simple terms, it’s the amounts of money customers owe to the business.
Key Takeaways
- Accounts Receivables are legally enforceable claims for payment held by a business for goods supplied and/or services rendered that customers/clients have ordered but not paid for. They are generally in the form of invoices raised by a business and delivered to the customer for payment within an agreed time frame.
- The term is used in accounting to detail the total amount of outstanding revenues that a company has a right to collect. Hence, it is considered an asset in a company’s balance sheet.
- Management of Accounts Receivables involves tracking the strength of the company’s receivables and keeping up-to-date on which customers owe money, how much, and for how long that money has been outstanding. Successful Accounts Receivable management also includes the implementation of effective policies and strategies to enhance collections rates and ensure faster payment.
Importance
Accounts Receivables (AR) is a crucial finance term as it represents the amount of money owed by customers for goods or services purchased on credit.
It’s considered a current asset on a company’s balance sheet since it’s expected to be settled within a short timeframe, usually one year.
The management of AR is important because it directly affects cash flow and liquidity.
If receivables are high, it means a substantial amount of money is tied up, potentially limiting a company’s ability to invest, cover expenses, or return profits to shareholders.
Hence, efficient AR management can enhance cash flow, improve liquidity, and contribute to the overall financial health of a company.
Explanation
Accounts Receivables (AR) serves a crucial role in managing a company’s cash flow and its overall financial health. It represents money that is owed by customers to a company for goods or services that have been delivered or used, but not yet paid for. When a business sells its products or services on credit, it creates a legal obligation for the receiving party to pay, therefore establishing an account receivable.
Any cash flow management plan, therefore, benefits from efficiently managing these accounts, as it essentially amounts to the business extending short-term credit to its customers. In addition, the relevance of accounts receivables extends beyond merely being a record of amounts due. Careful management and analysis of AR can provide deep insights into the customer base and its payment habits.
It can indicate how long, on average, customers take to pay their obligations, thereby impacting the company’s liquidity. Persistent late payments can signal potential problems that might warrant stricter credit policies or collections efforts. Moreover, a company’s accounts receivables can also be used as collateral for loans, providing an avenue for finance when needed.
They reflect a significant part of a company’s liquidity condition, making them imperative to both the operation and evaluation of a business.
Examples of Accounts Receivables
A Clothing Retailer: A clothing retailer could offer their products to department stores on credit. The department stores take the clothing stock and agree to pay the retailer within a certain time period, say 30-90 days. Until the retailer receives this payment, this amount appears on their balance sheet as accounts receivable.
A Medical Practice: When a medical practice provides health services to patients, they often bill the insurance company for payment. The payment from the insurance company can take numerous weeks to process. Until that payment is received, the billed amount is included in the practice’s accounts receivable.
A Construction Contractor: A construction contractor may complete a project for a business or individual, who doesn’t pay the full amount upfront but promises to pay within a specified timeframe. The amount that the contractor expects to receive is considered their accounts receivable.
FAQs for Accounts Receivables
1. What are Accounts Receivables?
Accounts Receivables are legally enforceable claims for payment from a business’s customers, clients or debtors, generally in the form of an invoice for goods or services rendered.
2. How are Accounts Receivables Used in Business?
Accounts Receivables are used to keep track of the money owed to a business by clients who have purchased goods or services on credit. They are considered as an asset on the company’s financial statements.
3. What is the Importance of Managing Accounts Receivables?
Proper management of accounts receivables is crucial for maintaining positive cash flow and financial stability. If accounts receivables are not managed properly, it can lead to insufficient cash flow which might have adverse impacts on the operations of the business.
4. How to Improve Accounts Receivables Collection?
Improving accounts receivables collection can be achieved by implementing detailed credit policies and collection procedures, incentivizing early payments, timely issuing of invoices, and regularly evaluating customer’s creditworthiness.
5. What is the difference between Accounts Receivables and Accounts Payable?
Accounts Receivables are the money owed to a company from its debtors, while Accounts Payable represents the money a company owes to its creditors. Essentially, Accounts Receivables are assets, while Accounts Payable are liabilities.
Related Entrepreneurship Terms
- Invoice
- Debtor
- Credit Sales
- Accounts Receivable Aging
- Bad Debt Expense
Sources for More Information
- Investopedia: A comprehensive source for term definitions and articles on different aspects of finance including Accounts Receivables.
- Accounting Coach: Offers clarity on a wide range of accounting topics such as Accounts Receivables, providing lessons and examples.
- Corporate Finance Institute: This professional site includes detailed explanations and guides on various finance topics, including Accounts Receivables.
- Khan Academy: A educational website offering video tutorials on a variety of subjects, including finance and capital markets.
