SMALL BUSINESS RESOURCES

What is accounts receivable?

4 min read

Accounts receivable is a term you’ll become very familiar with if your business issues invoices for work you’ve completed for a client. But what is accounts receivable?

Let’s dive into what you need to know about accounts receivable duties, terminology, and subsequent actions.

What is accounts receivable?

What is accounts receivable exactly? And why do you need to get to grips with it? 

Accounts receivable is a term designated for unpaid invoices or other debts owed to your business.

These unpaid invoices (owed to you for work already delivered) sit on your books under the designation of ‘accounts receivable’ and represent a blockage to your cash flow.

For accounting purposes, your accounts receivable burden should also be considered an asset, even though this transaction hasn’t yet resulted in cash hitting your bank account.

Let’s unpack the ins-and-outs of accounts receivable a bit further to better understand its related terms, uses, and implications.

What is an accounts receivable ageing report?

An accounts receivable ageing report is a crucial piece of documentation you can create by running a basic report through your accounting software or invoicing solution. 

The accounts receivable ageing report is essentially a detailed list view of those debtors who owe you unpaid invoices.

The report will include:

  • the debtor’s details
  • work completed
  • the amount they owe you
  • the timeframe associated with the lack of payment

For example, many accounts receivable ageing reports will be divided into columns detailing 30, 60 or 90 days late. 

By producing such a report, you gain high visibility over the state of your accounts receivable. You can draw a better understanding of how late these invoices are, who owes you what, and which debtors are repeat offenders.

Why would your business need to create an accounts receivable ageing report?

  • To enforce your late payment terms by understanding who has crossed the line.
  • The ageing of accounts receivable allows you to know, in order of importance, who you should be chasing for payment and with what veracity.
  • To understand your cash flow blockages, which will feed into wider accounting tasks as well as business health checks.
  • To gauge whether you have a ‘bad debt’ on your hands (which will likely not be paid) and will have to be ‘written off’.
  • To help inform or evolve your invoice policies, such as requiring down payments or imposing heavier late penalties.

What are trade debtors?

What are trade debtors? While your accounts receivable details the invoices that are owed to you, the trade debtor is the entity that owes you this debt.

Often simply termed a ‘debtor’, a trade debtor is the origin of your accounts receivable, and usually represents either an individual or a business.

Getting your invoices paid more reliably

Once you’ve started producing accounts receivable reports and have reached a better understanding of your trade debtors, the next step is to act, and put this information to good use.

What an accounts receivable ageing report should do (in part) is to seed a better method of recouping or limiting these outstanding debts, which restrict your business’s cash flow. 

Automatic reminders

An easy win and usually a first step, is to ensure you’ve set up adequate automatic reminders.

Luckily, automatic reminders are easy to set up through most modern software such as a dedicated invoicing tool or your accounting solution.

In most cases, the day-to-day priorities of a business can impede the timely settlement of an invoice and are usually cleared through simple reminders. 

By creating automated debt reminders, you not only stimulate prompt payment, you also free up time in your work day from chasing outstanding invoices.

Strict terms and penalties

Be sure you’ve correctly included your late payment terms and have clearly outlined penalties for late payments. 

Sometimes it’s prudent to engage with a legal professional or source relevant legal copy in your statement of terms. These should be included in the body of every invoice you issue.

While enforcing strict terms and penalties may be a last resort for stubborn debtors, it shouldn’t necessarily be your first reaction. While frustrating, you may inadvertently burn a repeat business opportunity or receive pushback if you swiftly hit a debtor with an early penalty. 

Keep these terms in the back pocket when you suspect you may be looking at a bad debt or an entity you no longer wish to do business with.  Sometimes the mere suggestion of a penalty through a friendly reminder of your agreed terms is enough to loosen the payment.

Down payments

Down payments are a very shrewd and easily deployed tactic to boost cashflow and minimise your accounts receivable burden.

Instead of allowing your own hard work to be completed entirely on credit, instigate a down payment method of invoicing. 

Requiring prepayment not only guarantees you a portion of your expected income upfront, it also helps you gain confidence in your debtor’s ability and willingness to settle their accounts.

Online invoicing

In 2021, there’s no real reason or excuse for the issuing of manual or paper invoices instead of online invoicing. 

Not only is the manual method a slow, archaic, burdensome, and messy way to go about invoicing, it’s not even much cheaper. It’s certainly not easier.

In the modern era, we’re spoilt with a wide array of online invoicing tools which are available for very little cost, including those included in your accounting software. Better yet there’s a wide host of benefits:

  • immediate invoicing straight to your debtor’s inbox
  • reduction of payment friction or avoidance
  • wide variety of instant payment methods
  • easy to view your outstanding accounts receivable
  • simple and automated reminder system

As you can see, understanding your accounts receivable and getting into the habit of running regular accounts receivable ageing reports is pivotal to operating a cash positive invoice-based business model.