Good financial management is very important in any business. Two of the most significant that are included there are AR and AP. These may appear to be the same but they have got very different functions on the financial lives of a business. It is essential to know the difference between the two in order to have the cash flow and remain stable in the long run.
What is the Accounts Receivable?
Accounts Receivable (AR) is the money owed to a business by its customers for goods or services sold on credit. When a business delivers a product or service it sends an invoice to the customer. The amount on that invoice is recorded as accounts receivable until it’s paid. AR is a current asset on the balance sheet because it’s expected to be turned into cash within a short period, usually within a year.
What is Accounts Payable?
Accounts Payable (AP) refers to the amount that a company owes its suppliers in terms of payments stemming out of goods or services yeilded. When a company purchases goods or services on credit it receives an invoice against such purchase. The value in that invoice will be recorded as an accounts payable. P is a current liability in the balance sheet statement of accounts as it is a debt that has to be paid quickly.
AP vs AR
- Nature of Transaction: AR is money that is due to the business and AP is the money that the business is due to its suppliers.
- Classification of Balance Sheet: AR is an asset and AP is a liability.
- The Cash Flow Impact: The adequate AR management will provide the timely cash flow, the adequate AP management will allow the business to cover all its financial needs without the need to disturb its operations.
Why Manage Accounts Receivable Accounts Payable
AP and AR are a part of the cash flow management of a company. Inefficient management of either may result in cash flow difficulties that are potentially detrimental to the health of business financially. The reason why they should be managed is as follows:
- Cash Flow: Good AR management thus ensuring that the business is paid on time, good AP management translating to no late payments and good/ positive relationships with suppliers.
- Financial Planning: Good AR and AP records allow financial planning and forecasting of large businesses to guide it in making informed decisions.
- Operational Efficiency: Processing of AR and AP will be simplified, thereby, reducing the administrative overheads besides avoiding errors, hence, increasing efficiency.
AP/AR Tips
- Automate: Invoicing, payment reminder and collections should be done through software to minimize human errors and inefficiency.
- Streamline Invoices: Avoid the delay of payment by ensuring the invoices are accurate, sent on-schedule, and easy to understand.
- Negotiate: Work with suppliers to negotiate payment terms that improves cash flow. For AR, offer early payment discounts to customers to get paid faster.
- Review Aging Reports: Review aging reports regularly as they are used to track overdue accounts, aged and overdue receivables and payables and follow up on these old debts.
Technology Hack
It is very important to utilize the latest technology in terms of financial tools and services that can be used to handle AR and AP. Automated invoice systems, Electronic payment systems are some solutions which can make processes more simple, make fewer mistakes and will guarantee timely payments. As an example, GoCardless offers automated payment collection and can be of use to AR.
Summary
Accounts Receivable and Accounts Payable are very relevant to the short term liquidity and solvency in a business. With knowledge of differences and effective management of the same businesses can make their best out of their financials. Doing so with technology, and the help of professional services, can make it even more efficient to the point where businesses can concentrate on the strategic and their growth.
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