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When a business purchases goods or services on credit that need to be paid back in a short period of time, the accounting entry is known as Accounts Payable. It will usually be recorded on a balance sheet under current liabilities. However, if the debt persists for longer than a year, it may be moved to long-term liabilities instead.
In larger organisations, accounts payable (AP) will be handled by the AP department, while in smaller businesses, this role will likely be combined with other tasks or handled by a single person.
The key role of the AP department is to make any payments owed to suppliers and other creditors. However, AP teams also often carry out several other roles. This can include managing business travel expenses, such as making airline, car rental and hotel reservations, distributing funds to cover travel expenses, managing petty cash, and organising and maintaining client contact information and payment terms.
The AP process will generally be a simple, step-by-step system that ensures invoices are processed, systems updated, and payments made promptly. Guidelines that ensure correct procedures are followed are essential here; otherwise, incorrect payments could be made, or invoices could be overlooked altogether.
The process will start once an invoice is received. It will then be recorded on the accounts payable ledger, ensuring that the details match the purchase order. Payments will then need to be processed before or on their due date, at which point the accounts payable journal entry will be removed from the account. Doing this at the right time is essential, as if payments are all made at the same time, regardless of when they're due, it could contribute to cash flow issues.
As accounts payable is responsible for accurately tracking what's owed to suppliers and ensuring payments are appropriately approved and payments processed, if you don't have an effective system in place, it will be challenging to have a clear understanding of your financial situation. Accurate accounts payable information is also essential for producing an accurate balance sheet. Any lack of clarity here will impact your wider financial planning as financial projections will be less accurate, and you may struggle to raise finance or manage cash flow.
Poor AP can also impact your reputation. If you become known as a company that doesn't pay on time or that needs to be chased for payment, suppliers may be unwilling to work with you or could place you on stricter payment terms, including adding interest fees on overdue amounts. A good AP department will help maintain positive relationships by ensuring suppliers' information is accurate and up to date in the company's systems and paid on time. Crucially, a robust AP setup will also help to minimise mistakes.
Accounts payable expenses can include transportation and logistics costs, raw materials, energy and products and equipment. It does not include short-term loans, accruals or proposed dividends.
Accounts receivable (AR) is essentially the opposite of accounts payable. So, whereas AP refers to money that your business owes to third parties, AR refers to money owed to your business. The total value of all accounts receivable will be listed on the balance sheet as current assets. When invoices are paid, finance credits the appropriate liabilities account and debits accounts receivable to account for the payment. Applicable late fees would also be accounted for as part of accounts receivable.
Receiving, recording, and paying invoices manually is a time-consuming process, especially as your business grows and is prone to human error. Utilising accounts payable software will make it much quicker to receive and process invoices and schedule payments at the optimum time while also ensuring your finances are kept up to date. By taking this strain off the AP team, they will be able to concentrate on other aspects of their role, adding to the smooth running of the department as a whole. The right software will also save a business money, streamlining processes, enabling the team to process more invoices in less time and ensuring you always have accurate records.