The management of your accounts receivable (AR) is essential to operate your own business. Several businesses who sell out their goods and services on credit sales usually find their cash flow interrupted because of the overdue payments.
As per research, one of the biggest reasons for cash flow issues within the United Kingdom is late payments. So, it is essential to reduce the time of receiving payment by your business in order to better the cash flow and make your business successful.
This is what managing AR is all about. Therefore, this blog will let you know about what are accounts receivable and why it is important to manage?
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What are Accounts Receivable?
The total amount that your business has to receive from its customers for a good or service they bought on credit is AR. This implies that you have not yet received any money for the sales you’ve made, the goods that have been delivered, or services that have been commenced or fulfilled.
In the financial statements of a company, this amount due is recorded as AR. Therefore, you can consider AR as an asset because you have to receive the money in the future.
The Working of Accounts Receivable
The AR will be termed as a current asset on your company’s balance sheet. It is because you have the legal right to collect this money from the customers, and they are legally obliged to pay what they owe. As it is a current asset, so the amount has to be paid or owed within twelve months or less.
The following are the cases where AR may apply to your company.
In worst situations, the customers disappear completely and do not pay the amount due. This situation is known as bad debt when a company cannot collect the repayment of credit.
How to Workout AR Turnover?
The formula to workout AR turnover is as follows:
AR Turnover = Net Credit Sales / Average AR
After knowing the formula, follow these steps to calculate this turnover ratio:
- The net credit sales are the total number of sales that have been made throughout the year on credit.
- Calculate your average AR by adding the total number of AR entries at the start of the year and the value of your AR at the end of the year. After it, divide the answer by two.
- Now, finally, divide the net credit sales by the average AR. You will get your AR turnover.
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Why is it Important to Manage AR?
Accounts receivable are important to manage because they:
- Make better supplier relationships – Receiving the payment on time will assist you in making good relationships with the supplier and settle effective deals with new ones.
- Gives you better control over your cash – they assist you in maximising your control over your company’s cash flow.
- Land better investment opportunities – they assist you in presenting excellent financial data for your business. This is a great way to attract potential investors and get funding.
- Help you save money – you can save a lot of money by properly managing your AR.
Now that you know about accounts receivable. We hope you have also understood its importance after reading this blog. Many SMEs owners ignore its significance, which is completely wrong. You should keep track of your AR as it can improve your company’s cash flow, bottom line and assist you in gaining better investment options. We recommend you take professional help in managing your AR effectively.
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Disclaimer: This article intends to provide general information based on AR.