What Are Accounts Receivable (AR)?
Accounts receivable (AR) are the balance of money due to a firm for goods or services delivered or used but not yet paid for by customers. Accounts receivable are listed on the balance sheet as a current asset. Any amount of money customers owe for purchases made on credit is AR.
KEY TAKEAWAYS
- Accounts receivable (AR) are asset accounts on the balance sheet representing money due to a company in the short term.
- Accounts receivable are created when a company lets buyers purchase their goods or services on credit.
- Accounts payable are similar to accounts receivable but are cash owed instead of money to be received.
- The strength of a company’s AR can be analyzed with the accounts receivable turnover ratio or days sales outstanding.
- A turnover ratio analysis can be completed to expect when the AR will be received.
Understanding Accounts Receivable
Accounts receivable refer to the outstanding invoices a company has, or the money clients owe the company. The phrase refers to accounts a business has the right to receive because it has delivered a product or service. Accounts receivable, or receivables, represent a line of credit extended by a company and normally have terms that require payments due within a relatively short period. It typically ranges from a few days to a fiscal or calendar year.
Companies record accounts receivable as assets on their balance sheets because the customer is legally obligated to pay the debt. They are considered liquid asset, because they can be used as collateral to secure a loan to help meet short-term obligations. Receivables are part of a company’s working capital.
Furthermore, accounts receivable are current assets, meaning the account balance is due from the debtor in one year or less. If a company has receivables, it has made a sale on credit but has yet to collect the money from the purchaser. Essentially, the company has accepted a short-term IOU from its client.
Many businesses use accounts receivable aging schedules to keep tabs on the status and well-being of AR.
Accounts Receivable vs. Accounts Payable
When a company owes debts to its suppliers or other parties, these are accounts payable. Accounts payable are the opposite of accounts receivable. To illustrate, imagine Company A cleaning Company B’s carpets and sending a service bill. Company B owes them money, so it records the invoice in its accounts payable column. Company A is waiting to receive the money, so it records the bill in its accounts receivable column.
Benefits of Accounts Receivable
Accounts receivable are an essential aspect of a business’s fundamental analysis. Accounts receivable are a current asset, so it measures a company’s liquidity or ability to cover short-term obligations without additional cash flows.
Fundamental analysts often evaluate accounts receivable in the context of turnover, also known as the accounts receivable turnover ratio, which measures the number of times a company has collected its accounts receivable balance during an accounting period. Further analysis would include assessing days sales outstanding (DSO), and the average number of days it takes to collect payment after a sale.
Example of Accounts Receivable
An example of accounts receivable includes an electric company that bills its clients after receiving the electricity. The electric company records an account receivable for unpaid invoices while waiting for its customers to pay their bills.
Most companies allow a portion of their sales to be on credit. Sometimes, businesses offer this credit to frequent or unique customers that receive periodic invoices. The practice will enable customers to avoid the hassle of physically making payments as each transaction occurs. In other cases, businesses routinely offer their clients the ability to pay after receiving the service.
What are examples of receivables?
A receivable is created when money is owed to a firm for services rendered or products that have not yet been paid. This can be from a sale to a customer on store credit or a subscription or installment payment due after receiving goods or services.
Where do I find a company’s accounts receivable?
Accounts receivable are found on a firm’s balance sheet. Because they represent funds owed to the company, they are booked as an asset.
What happens if customers never pay what’s due?
When it becomes clear that an account receivable won’t get paid by a customer, it has to be written off as a bad debt expense or a one-time charge.
How are accounts receivable different from accounts payable?
Accounts receivable represent funds owed to the firm for services rendered, and they 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.