What is accounts receivable?

Accounts receivable (AR) is the total amount you’re owed for goods or services you’ve provided but haven’t been paid for. In other words, it refers to the value of the invoices you’ve issued and have yet to collect.

Let’s discuss what you should know about this fundamental financial concept. We’ll explore what it is, how it differs from accounts payable (AP), and its impact on your company’s cash flows. We’ll also provide practical tips on how to manage it effectively.

What is accounts receivable?

Accounts receivable refers to the amount your customers owe for products or services you’ve delivered but haven’t collected payment for yet. It typically arises when you grant your customers extended payment terms, such as net 30 or net 60.

For example, imagine you complete a consulting project and invoice your client for $5,000, payable 30 days after receipt. You’d include that $5,000 in your AR until the client pays off their bill.

If you follow accrual accounting, you should record AR on the balance sheet as a current asset. Typically, you should recognize the amount as revenue on the income statement at the same time. 

Once your client pays, you should record another journal entry to reduce your accounts receivable balance and increase cash.

If you follow the cash basis of accounting, you generally shouldn’t record an accounts receivable account on any financial statement since it only recognizes transactions when money actually changes hands.

That said, it’s often still necessary for cash basis businesses to keep track of AR separately. That can help you identify slow-paying customers, follow up on doubtful accounts, and improve your chances of collecting.

Accounts receivable vs payable

AR and AP are two sides of the same coin. While AR represents the goods or services you’ve sold but not collected payment for, AP represents the goods or services vendors have sold to you that you haven’t paid for.

For example, imagine a consulting firm completes a project for you and sends a $5,000 bill due in 30 days. You should include the outstanding invoice in your AP until you pay it off. Meanwhile, the consulting firm should include it in its AR.

Under the accrual basis, AP sits as a current liability on the balance sheet while outstanding. Once you pay off what you owe, you should record a journal entry that reduces your cash balance and the AP account.

If you follow the cash basis, you shouldn’t display AP on the balance sheet. However, it’s a good practice to track it alongside your AR, providing greater visibility into your monthly cash flows.

This supports your short-term planning and cash flow management. In other words, it helps you avoid missing vendor payments, which could trigger late fees, disrupt your supply chain, and damage your relationships with vendors.

How to manage accounts receivable

A strong accounts receivable system is essential for healthy cash flows, helping ensure you collect the payments you’re owed in a timely manner. Let’s look at some tools and tactics you can use to manage the accounts receivable process effectively.

AR best practices

A healthy AR system starts with strong foundational practices that make it easy for customers to pay you on time. Here are some of the most important initial steps to take:

• Establish clear policies: Provide a detailed written copy of your extended payment terms upfront. Your customers should know exactly when they’re expected to pay you and what happens if they’re late.
• Streamline your invoicing: Use a billing platform that lets you create and issue professional invoices quickly, as well as keep track of their statuses. Sending bills immediately after delivering your product or service can help minimize delays. 
• Accept multiple payment methods: Allow your customers to pay in several ways, such as by credit card, ACH, and online payment platforms. This makes it easier for them to pay you, improving the chances they’ll do so on time.

Not only can these practices improve the speed and efficiency of your AR process, but they can also help you build stronger relationships with your customers.

How to track AR

Many businesses still track AR using spreadsheets, especially in their early stages of development. That might make sense when your funds are limited and transaction volume is relatively low, but it can quickly become inefficient. 

Spreadsheets require constant manual updates and are highly vulnerable to human error.

As your operation grows, it’s often worth leveraging accounting software instead. Modern tools can automate the tracking process entirely, allowing you to monitor each invoice’s status in real time. 

Not only does that free you up to focus on other tasks, but it can also reduce the risk of errors that might lead to late payment or missed collections.

One key feature to look for in your software is an AR aging tool. This can organize your outstanding invoices into buckets based on how long it’s been since you issued them. 

For example, it might sort them into buckets like: 0–30 days outstanding, 31–60 days outstanding, 61–90 days outstanding, and 90+ past due.

This lets you identify which customers are in violation of your payment policies at a glance and helps organize your receivable collection efforts. Typically, you should run your AR aging report at least once a month to maintain steady cash flows.

Handling delinquent accounts

No matter how well you design your AR system, some customers will inevitably fall behind on their payments. However, it’s essential to have strategies in place that minimize your uncollectible accounts.

Here are some tactics you can use to help manage delinquent customer accounts:

• Stay ahead with payment reminders: Don’t wait until you have overdue invoices to follow up. For example, on a net 30 bill, you might send a friendly reminder around the two-week mark. AR software can automate this process to make it less time-consuming and feel less confrontational.
• Offer more flexible payment plans: If a customer is struggling to complete their overdue payments, consider offering them an installment plan. Collecting partial payment over time is better than nothing and can help preserve the relationship.
• Consider escalating when necessary: When all else fails, you may need to escalate your collection efforts by enlisting the assistance of an agency or a lawyer. However, you should only do this after exhausting all other options in line with your stated credit policy.

If your AR monitoring reveals that customers are paying late more consistently than you expected, consider tightening your credit policies. For example, you might stop extending net 30 terms to new businesses or start requiring a deposit for large invoices.

Increasing receivable turnover

The accounts receivable turnover ratio is a financial metric that helps measure how efficiently you collect customer payments. Here’s how to calculate it:

AR Turnover = Net Credit Sales ÷ Average Accounts Receivable

For example, say your startup begins in 2025 with $125,000 in AR. You then make $500,000 in credit sales during the year and finish with an AR balance of $75,000. 

Your average AR for 2025 would be $100,000, making your AR turnover 5. In other words, you collected your total outstanding accounts five times during the year.

Generally, a higher AR turnover indicates healthier cash flow and receivable management. It means you’re converting receivables into cash more often. If yours is lower than you’d like, here are some ways you can help increase it:

• Raise your credit standards: Consider increasing the qualification requirements for your credit terms. For example, you might raise your minimum annual revenue, business credit, or time in business.
• Incentivize timely payments: Offer discounts to customers for early payment, such as a 2% discount for paying within the first 10 days. You can also impose late fees on the back end, providing both a carrot and a stick.
• Build stronger relationships: Better rapport and higher customer satisfaction often result in faster accounts receivable collections. In other words, the more they value your relationship, the more likely they are to pay on time.

Whatever tactics you use, increasing your AR turnover should improve your monthly cash flows and help ensure you have the working capital to meet your obligations.

Working with the right software and accountant

AR software can be invaluable to your business, capable of streamlining workflows to save time and reduce errors. It can also provide real-time visibility into outstanding balances, empowering you to make faster and better-informed collections decisions.

An experienced accountant can also be beneficial, especially if you’re following GAAP, which is often necessary when fundraising for your startup. They can help you navigate the complex standards around AR and revenue recognition.

Make sure you do your due diligence to find the right software and accountant. In addition to comparing options on price and features, look into customer reviews. Free consultations can also be a great opportunity to assess service quality.

Understanding accounts receivable's impact

Your accounts receivables have a direct impact on your company’s liquidity. An unpaid invoice may be an asset on paper, but it doesn’t contribute to the most important aspects of your financials until you convert it to cash.

If you let your AR grow too bloated, your business could end up looking profitable on paper while lacking the working capital necessary to cover essential expenses, like rent, payroll, or vendor payments.

That can result in significant financial strain, forcing you to delay certain payments or go into debt to make ends meet. That’s one of the most common ways businesses fail, which is why AR management should be such a high priority for most businesses.

Mastering AR for startup growth

For startups, AR management isn’t just a matter of self-preservation. It’s also essential for achieving your growth goals. 

Startups need a healthy cash runway to invest in efforts like product development, hiring, and customer acquisition, and strong cash flows are vital to preserving that runway.

In addition, effective AR practices can be a strong signal of financial discipline to potential investors, giving them more confidence in your ability to scale. That can significantly increase your ability to raise funds and receive favorable terms.

If you could use help with your AR management, you can schedule a free consultation with one of our experts. Start reviewing your systems today.

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