Accounts receivables, the amounts owed by customers, can be an important driver of a company’s financial health. Receivables can add value to your company by improving profits. But if they aren’t quickly converted to cash, you may find yourself struggling to pay the bills. This wide disparity may lead you to wonder: Is Accounts Receivable an Asset?
What Is Accounts Receivable?
Accounts receivables are the amounts owed by customers, including the sales a company makes on credit. Often referred to as AR, your receivable balance reflects the cash flow your company will receive as customers pay their bills. This value makes AR an asset.
How Does Accounts Receivable Work?
Companies often extend credit to customers. To improve their chances of getting paid, a company should assess the customer’s ability to pay their debt before extending credit.
When a customer buys goods or services on credit, the company prepares an invoice to show what is purchased and what is owed. The invoice is then added to the company’s receivables.
While payment terms can vary, most customers are given 30 days or more to pay their bills. The invoice is given to the customer with the expectation that they will send payment according to your company’s terms.
The company records both the sale and receivables in its books. The company posts the payment they receive against the bill and deposits the check into their bank account
Is Accounts Receivable an Asset or Equity?
An asset is anything of value your business owns. An accounts receivable is an asset because it represents future cash your company expects to receive.
On the other hand, equity is the difference between the total value of your assets, less the amounts you owe.
Is Accounts Receivable a Current Liability?
Accounts receivable are the amounts collectible from customers in the future. Receivables are considered current assets because the company expects to receive payments in less than a year.
Liabilities are the opposite of assets as they represent the debts you have to other vendors, suppliers, or creditors. A current liability represents a debt that must be paid within 12 months or less.
Are Higher or Lower Accounts Receivable Better?
With a high accounts receivable balance, a company expects to see a significant amount of cash deposited into a bank account in a short period. However, if clients fall behind or do not pay what they owe, your company may not be able to pay its bills.
It is better to maintain a lower receivable balance. The less money you have sitting in accounts receivable, the more money your company has in its bank account. A company can keep its accounts receivable balance as low as possible by staying on top of what is owed and extending credit to customers that they trust will pay their balances on time.
Example of Accounts Receivable
Suppose a clothing company receives an order for 100 shirts. The company evaluates the customer’s credit and gives them 30 days to pay what they owe. The company ships the order and includes an invoice with a deadline of 30 days.
When the company ships the shirts, they record both the sale and the accounts receivable in their books. Once the company is paid, they post the payment against the accounts receivable and deposit the check.
Benefits of Accounts Receivable
By offering flexible payment options, a company can gain more customers and increase its sales. Extending credit to customers can help a company stay competitive in its industry and increase its business profits.
Improved Operational Efficiency
When a company has an effective accounts receivable process, it can improve its overall operational efficiency. Credit checks, payment policies, timely billing, and frequent receivable balance reviews are key components that can improve the collection process.
Not only can an effective receivable process increase sales, but it can help the company stay on top of its cash flow and ensure that it has the money to pay its bills on time.
Building Customer Loyalty
A company that extends credit to its customers builds trust. If you maintain a good relationship with your customers, they may be more willing to buy from you again.
Stay on Top of Uncollected Invoices
Allowing customers to buy your goods and services on credit can increase your sales. But if customers pay their bills late or fail to pay what they owe, your business could suffer an extreme loss.
Staying on top of your accounts receivable is critical to making sure your company has enough money to meet its obligations. A company should review its accounts receivable aging reports on a regular basis and follow up with customers who are behind in their payments.
Track Customer Credit
By tracking customer credit, you gather critical information about the reliability of your customers and how long it takes them to pay their bills. This data can help a company build its credit policies and make better decisions when extending credit.
Better Overall Fiscal Organization
When you integrate and optimize the accounts receivable process into your operations, it can improve your company’s fiscal strength. Your company can increase sales by extending credit to qualified buyers. With strong procedures in place to monitor and collect accounts receivable when they become due, your company can manage its cash flow better. This can help a company pay the bills without incurring the expense of borrowing money or risking its credit standing with vendors by paying late. Ultimately, accounts receivable can improve business profits.
Even if a company makes credit sales, it doesn’t have to wait on the customer to pay their bill to get cash. Since your accounts receivables have a future value, you can collect a percentage of the value of the invoice in advance through a financing agreement. Accounts receivable financing can improve a company’s financial health by accelerating its cash flow. As an added bonus, you don’t have to get involved with collections as your customers pay the financing company directly.
Accounts Receivable vs Accounts Payable
Accounts receivable and payable are two indicators of your cash flow. A receivable is money your business is owed when it makes a sale on credit. Accounts receivable are assets because they represent future inflows of cash.
Conversely, accounts payable are the outstanding bills you owe to other vendors, suppliers, and creditors. Accounts payable are liabilities of a company as they represent future outflows of cash.
Improve Financial Strength with Accounts Receivable
Accounts receivable are assets that can help a company gain customers and increase sales. Companies with effective credit and collection policies are in a better position to manage cash flow and meet financial obligations. When used correctly, accounts receivable can strengthen a company’s financial position and improve profits.