What Is Accounts Receivable (AR)?
Accounts receivable (AR) is 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. AR is any amount of money owed by customers for purchases made on credit.
- Accounts receivable is an asset account on the balance sheet that represents money due to a company in the short term.
- Accounts receivable are created when a company lets a buyer purchase their goods or services on credit.
- Accounts payable is similar to accounts receivable, but instead of money to be received, it’s money owed.
- 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 have an expectation of when the AR will actually be received.
Understanding Accounts Receivable
Accounts receivable refers 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 there is a legal obligation for the customer to pay the debt. They are considered a 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, this means 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.
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 cleans Company B's carpets and sends a bill for the services. 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 is an important aspect of a business's fundamental analysis. Accounts receivable is 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 accounts receivable turnover ratio, which measures the number of times a company has collected on its accounts receivable balance during an accounting period. Further analysis would include assessing days sales outstanding (DSO), the average number of days that it takes to collect payment after a sale has been made.
Example of Accounts Receivable
An example of accounts receivable includes an electric company that bills its clients after the clients received the electricity. The electric company records an account receivable for unpaid invoices as it waits for its customers to pay their bills.
Most companies operate by allowing a portion of their sales to be on credit. Sometimes, businesses offer this credit to frequent or special customers that receive periodic invoices. The practice allows customers to avoid the hassle of physically making payments as each transaction occurs. In other cases, businesses routinely offer all of their clients the ability to pay after receiving the service.
What Are Examples of Receivables?
A receivable is created any time money is owed to a firm for services rendered or products provided that have not yet been paid. This can be from a sale to a customer on store credit, or a subscription or installment payment that is due after goods or services have been received.
Where Do I Find a Company's Accounts Receivable?
Accounts receivable are found on a firm's balance sheet, and because they represent funds owed to the company, they are booked as an asset.
What Happens If Customers Never Pay What's Due?
How Are Receivables Different From Accounts Payable?
Receivables represent funds owed to the firm for services rendered, and are booked as an asset. Accounts payable, on the other hand, represent funds that the firm owes to others. For example, payments due to suppliers or creditors. Payables are booked as liabilities.