What Are Accounts Payable (AP)?
Accounts payable (AP), or “payables,” refer to a company’s short-term obligations owed to its creditors or suppliers, which have not yet been paid. Payables appear on a company’s balance sheet as a current liability.
Another less common usage of “AP” refers to the business department or division responsible for making payments owed by the company to suppliers and other creditors.
Accounts payable can be compared with accounts receivable.
KEY TAKEAWAYS
- Accounts payable (AP) are amounts due to vendors or suppliers for goods or services received that have not yet been paid for.
- The sum of all outstanding amounts owed to vendors is shown as the accounts payable balance on the company’s balance sheet.
- The increase or decrease in total AP from the prior period appears on the cash flow statement.
- Management may pay its outstanding bills as close to their due dates as possible to improve cash flow.
Understanding Accounts Payable (AP)
A company’s total accounts payable balance at a specific point in time will appear on its balance sheet under the current liabilities section. Accounts payable are obligations that must be paid off within a given period to avoid default. At the corporate level, AP refers to short-term payments due to suppliers. The payable is essentially a short-term IOU from one business to another business or entity. The other party would record the transaction as an increase to its accounts receivable in the same amount.
AP is an important figure in a company’s balance sheet. If AP increases over a prior period, the company is buying more goods or services on credit rather than paying cash. If a company’s AP decreases, it pays its prior period obligations faster than purchasing new items on credit. Accounts payable management is critical in managing a business’s cash flow.
When using the indirect method to prepare the cash flow statement, the net increase or decrease in AP from the prior period appears in the top section, the cash flow from operating activities. Management can use AP to manipulate the company’s cash flow somewhat. For example, if the administration wants to increase cash reserves for a certain period, they can extend the business’s time to pay all outstanding accounts in AP.
However, this flexibility to pay later must be weighed against the company’s ongoing relationships with its vendors. It’s always good business practice to pay bills by their due dates.
Recording Accounts Payable
Proper double-entry bookkeeping requires that there must always be an offsetting debit and credit for all entries made into the general ledger. To record accounts payable, the accountant credits accounts payable when the bill or invoice is received. The debit offset for this entry generally goes to an expense account for the good or service purchased on credit. The debit could also be to an asset account if the item purchased were a capitalizable asset. The accountant debits accounts payable to decrease the liability balance when the bill is paid. The offsetting credit is made to the cash account, reducing the cash balance.
For example, imagine a business gets a $500 invoice for office supplies. When the AP department receives the invoice, it records a $500 credit in accounts payable and a $500 debit to office supply expense. The $500 debit to office supply expense flows through to the income statement at this point, so the company has recorded the purchase transaction even though cash has not been paid out. This aligns with accrual accounting, where expenses are recognized when incurred rather than when money changes hands. The company then pays the bill, and the accountant enters a $500 credit to the cash account and a debit for $500 to accounts payable.
A company may have many open payments due to vendors at any one time. All outstanding payments due to vendors are recorded in accounts payable. As a result, if anyone looks at the balance in accounts payable, they will see the total amount the business owes all its vendors and short-term lenders. This total amount appears on the balance sheet. For example, if the business above also received an invoice for lawn care services for $50, the total of both entries in accounts payable would equal $550 before the company paid off those obligations.
Accounts Payable vs. Trade Payables
Although some use the phrases “accounts payable” and “trade payables” interchangeably, the terms refer to similar situations. Trade payables constitute the money a company owes its vendors for inventory-related goods, such as business supplies or materials that are part of the inventory. Accounts payable include all of the company’s short-term obligations.
For example, if a restaurant owes money to a food or beverage company, those items are part of the inventory and, thus, part of its trade payables. Meanwhile, obligations to other companies, such as those that clean the restaurant’s staff uniforms, fall into the accounts payable category. Both categories fall under the broader accounts payable category, and many companies combine both under the term accounts payable.
Accounts Payable vs. Accounts Receivable
Accounts receivable (AR) and accounts payable are essentially opposites. Accounts payable is the money a company owes its vendors, while accounts receivable is the money owed to the company, typically by customers. When one company transacts with another on credit, one will record an entry to accounts payable on their books while the other records access to accounts receivable.
What Are Some Examples of Payables?
A payable is created a firm owes any time money for services rendered or products provided that have not yet been paid for by the firm. This can be from a purchase from a vendor on credit or a subscription or installment payment that is due after receiving goods or services.
Where Do I Find a Company’s Accounts Payable?
Accounts payable are found on a firm’s balance sheet, and since they represent funds owed to others, they are booked as a current liability.
How Are Payables Different From Accounts Receivable?
Receivables represent funds owed to the firm for services rendered and are booked as an asset. On the other hand, accounts payable represent funds that the firm owes to others—for example, payments due to suppliers or creditors. Payables are booked as liabilities.
Are Accounts Payable Business Expenses?
No. Some people mistakenly believe that accounts payable refer to the routine expenses of a company’s core operations; however, that is an incorrect interpretation. Costs are found on the firm’s income statement, while payables are booked as a liability on the balance sheet.
The Bottom Line
Accounts payable (AP) refers to the obligations incurred by a company during its operations that remain due and must be paid in the short term. As such, AP is listed on the balance sheet as a current liability. Typical payables include supplier invoices, legal fees, contractor payments, etc.
