Accounts payable and accounts receivable: key differences

To put it simply: accounts receivable is the money your company collects while accounts payable is the money your company owes to suppliers. Are you aware of how each affects your company's cash flow?

What Are Accounts Payable ( AP)

From a pure accounting point of view Accounts Payable (AP), is a concept that refers to any item in the debtor party, such as the purchase of goods from a supplier on credit, to a creditor party. In other words, they are all those commercial debts and collection rights your company contracts with your suppliers due to its economic activity.

They are usually part of current liabilities since it is assumed that it will be necessary to pay these credits to suppliers in a short period of time.

Accounts payable are classified in several ways, although the most common is according to their maturities:

Short-term: invoices with a due date of fewer than 12 months.
Long-term: invoices that have maturities greater than 12 months. These accounts payable will be reclassified as short-term accounts payable if, at the end of the fiscal year, their maturity is less than 12 months.

In the event that an invoice is credited, for example, due to a total or partial return of the merchandise, the accounts payable will be reduced by the amount of the credit.

Accounts Payable Examples

Imagine a company that sells merchandise to another, and the latter will use it as raw material in its production process, for an amount of £1,000. The selling company allows the payment of its merchandise in 180 days so that it contracts a commercial credit with the buying company.

From the accounting point of view, a note would be generated in the accounts payable in the purchasing company, as follows:

	Debit	Credit
Suppliers (400)		£1.210
Goods cost (600)	£1.000
H.P. Input VAT (472)	£210

In the event that, after receiving the merchandise, a defect is detected in one of the products received, a return must be made. From an accounting point of view, this means crediting the previous invoice, which reduces accounts payable. If in the case of the previous example, a payment of £100 is made, the accounting entry to be made would be as follows:

	Debit	Credit
Suppliers (400)	£121
Goods cost (600)		£100
H.P. Input VAT (472)		£21

In this example, the supplier account (accounts payable) would have a total amount of £1,089.

What Are Accounts Receivable (AR)

In essence Accounts Receivable (AR), is the opposite of accounts payable. It refers to the set of collection rights that a company acquires with respect to third parties for its commercial operations. They represent a credit that a company grants to its clients, which implies the deferral of the payment of invoices.

Accounts receivable are part of the current assets of the company's balance sheet since they are collection rights whose payment is received in a short period. However, in practice, non-payments and delinquencies may force these operations to be reclassified into other asset or liability items.

As with accounts payable, accounts receivable can be classified based on the due date of the invoices:

Short-term: those with a maturity date of fewer than 12 months.
Long-term, those with maturities greater than 12 months. These accounts receivable will be reclassified as short-term accounts receivable if, at the end of the fiscal year, their maturity is less than 12 months.

Accounts Receivable and Accounts Payable: Main Similarities and Differences

Accounts receivable and accounts payable are two sides of the same coin. In one case, they represent the amount of money your customers owe you, while in the second case it is the amount you owe your suppliers. However, in practice, they are quite different concepts that have very different implications for companies.

The main difference between them is that while accounts receivable refers to trade credits provided to customers, accounts payable refers to credits provided by your suppliers. In the future, they imply an inflow or an outflow of cash, respectively.

In addition, from the accounting point of view, accounts receivable are an asset, since a collection right is generated that will materialize in money in the future. On the contrary, accounts payable are accounted for in the liability account, because a debt is generated that will have to be paid at a later time.

Finally, in most companies, although both are part of their treasury departments, they are managed and administered by different teams with totally different skills. You have to think that, in the case of accounts receivable, many large companies carry out exhaustive controls on the risk of their clients to reduce delinquency, something that does not happen in the case of accounts payable.

Not surprisingly, the American Institute of Certified Public Accountants (AICPA), the most important accounting association in the United States, considers the segregation of these functions a fundamental accounting principle, which serves as a form of control and reduction of the risk of fraud in the business.

How accounts receivable and accounts payable affect your eCommerce

Both accounts receivable and accounts payable are essential elements for all companies, but it is especially important in eCommerce companies.

They have a direct impact on the business treasury, especially in everything that has to do with cash flow. Any problem related to either of these two elements is usually a direct result of something related to either accounts receivable or accounts payable: a miscalculation of customer risks, a set of uncollectible invoices, or a drop in Solvency are some risks that companies suffer in their daily activity, and that is related to these important elements.

Keep in mind that good management of accounts receivable and accounts payable contributes to improving working capital, a key aspect to promote business growth. This is especially important in a type of business model such as eCommerce, which is so influenced by the relationship with its suppliers and customers.

In short, companies give paramount importance to both accounts receivable and accounts receivable within their business processes. In fact, in order to avoid human errors, more and more companies decide to automate and digitize both operations, to improve their cash flow management as much as possible.

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