Accounts receivable: Overview, definition, and example
What is accounts receivable?
Accounts receivable refers to the outstanding money or amounts owed to a business by its customers for goods or services that have been delivered or used but not yet paid for. It represents a claim for payment, typically in the form of invoices or credit terms that the company has extended to its customers. Accounts receivable is considered an asset on the balance sheet, as it is expected to be converted into cash within a short time, usually 30 to 90 days.
For example, if a business provides services to a client and issues an invoice for $1,000, the $1,000 becomes part of the business’s accounts receivable until the client makes the payment.
Why are accounts receivable important?
Accounts receivable is important because it reflects the cash flow that a business can expect to receive in the near future. Efficient management of accounts receivable is crucial for maintaining positive cash flow, which enables the business to pay its own bills, invest in growth, and meet other financial obligations. Poor management of accounts receivable can result in cash flow problems, delayed payments, and higher risk of bad debts.
For businesses, monitoring accounts receivable helps ensure timely payments, reduce overdue accounts, and maintain healthy financial operations.
Understanding accounts receivable through an example
Imagine a company sells products to a customer on credit and issues an invoice for $5,000. The terms specify that payment is due in 60 days. Until the customer pays, the $5,000 is listed as accounts receivable on the company’s balance sheet. Once the payment is received, the accounts receivable is cleared, and cash is increased.
In another example, a service provider issues monthly invoices for its services. The business tracks the accounts receivable to ensure clients pay on time and sends reminders for overdue payments.
An example of an accounts receivable clause
Here’s how an accounts receivable clause might look in a contract:
“The Client agrees to pay the Company the full amount due for the services provided under this Agreement, in accordance with the payment terms outlined in the attached invoice. Payment is due within 30 days of the invoice date. If payment is not received within this period, a late fee of 2% per month will be applied to the outstanding balance.”
Conclusion
Accounts receivable is a key component of a business's financial management, representing amounts owed by customers for services or goods already provided. Proper tracking and management of accounts receivable are essential for maintaining cash flow, reducing the risk of bad debts, and ensuring that the business can continue to operate smoothly.
By including clear accounts receivable terms in contracts, businesses can protect their cash flow, streamline payment collections, and maintain strong financial health.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.