The basics of accounts receivable
Accounts receivable, also known as A/R, is a financial measure that represents money owed to you by customers. In other words, if a customer purchases on credit, you will record it as an account receivable.
It is necessary to note, though, that you cannot consider something a receivable unless you have delivered the goods.
An account receivable appears as an asset on the balance sheet because it is a placeholder for funds owed to you. Tracking accounts receivable allows you to ensure debts are collected, which will allow your organisation to manage its cash flow.
If your business needs quick funding, you can take part in invoice financing. This involves a third-party company purchasing the A/R on your books – but they won’t pay full value!
The importance of debt collection
As you can imagine, debt collection is essential to keeping your business running. When you make a sale on credit, you have likely already paid your staff and suppliers to make the delivery happen – and you need to recover that cash flow as soon as possible.
On average, it takes an SME in the UK about 71 days to get paid. That’s a long time to support your operations without cash coming in!
Even if the majority of your customers pay their invoices on time, the small percentage that does not pay can take a major toll on your financial position. This makes outstanding A/R one of the biggest threats to the cash flow of a small business.
Achieving the right level of A/R
Although accounts receivable is shown as an asset on the balance sheet, you do not want your A/R levels to be too high. You have to consistently convert these receivables into cash so that you can continue to grow your business.
Yes, having receivables shows that you are generating revenue and delivering orders, but the cash itself is needed to pay bills and continue your operations. Overdue receivables can pose a serious threat to your organisation’s cash flow, so you need to have a process in place to monitor them.
Reports like A/R aging, which shows how long your receivables have been outstanding, can pinpoint areas that require additional debt collection efforts. Take action to convert overdue receivables into cash, and it may require you to partner with a debt collection agency.
Having credit control procedures in place will also help you keep your receivables under control. Before you extend lengthy credit terms to a new customer, take some time to assess their creditworthiness. Credit control can ensure that your A/R is collected as soon as possible.
Managing accounts receivable is essential to the success of your SME. Implementing effective credit control and debt collection measures allows you to ensure you are getting paid for the sales you have made – and that you have the cash you need to keep your business operational!