Introduction to Accounts Receivable

A man holding cash in his hand, symbolic of the relationship between accounts receivable and getting paid.

Accounts Receivable Basics

When your business starts out, you’re probably focused on expenses. Every penny going out the door (or your bank account) is money that you’ve invested or borrowed to start up your company. Once you’ve landed your first client, it’s essential to give your revenue just as much time and attention as you gave to those first expenses. (This is why our introduction to accounts receivable is key!)

For some businesses, you receive payment at the time of sale. A restaurant is paid at the end of a meal. A fast-food restaurant receives payments prior to the meal delivery.

But for many other types of businesses, you bill your clients after the services or goods have been delivered. This is especially true of projects that are billed hourly, where you may be able to estimate the amount of time a project will take but you cannot be sure of the final total until the project is complete.

Some businesses take several payments on invoices such as construction companies or manufacturers. They may take an initial deposit and several payments throughout the projects on a single invoice.

Keeping track of the amount you’ve billed your clients or customers is key to maintaining cash flow and ensuring that you get paid for the goods or services you are providing.

What is Accounts Receivable?

Accounts Receivable is calculated as:

Accounts Receivable = Amounts Billed to Customers – Amounts Received

In other words, Accounts Receivable are the payment requests that you have sent out less the payments you received. Like a pirate that buried treasure with the intent of going back and collecting it later, every invoice is like a little bit of treasure that you intend to go back and retrieve.

Accounts Receivable is considered a current asset which means that you expect to receive payment on the invoices in less than a year.

Who needs Accounts Receivable?

Any business that does not receive payment before providing their service or immediately after needs to track their customer’s amount due. Even for businesses that use the cash basis of accounting for tax purposes, it’s essential to have an understanding of how much you expect to collect in the future to be able to project your cash flow. Additionally, businesses that need financing will often have to provide an accounting of account receivable to the financial institution to obtain a loan or line of credit. In some cases, it is possible to sell your Accounts Receivable balance to finance companies to fulfill an immediate need for cash. This is called factoring and usually carries a high imputed interest rate.

What other concepts are related to Accounts Receivable?

There are a few other concepts to understand when it comes to Accounts Receivable.

  • Invoice: A payment request sent by a provider for goods or services.
  • Net 30: When this appears on an invoice it means that payment is due 30 days after the invoice date. There are other common collection periods such as 45, 60, or 90.
  • Discount: Some invoices will include a discount if paid in full within a certain number of days otherwise the full invoiced amount is due.
  • Progress payments: These are payments made against an outstanding invoice that are not intended to cover the full amount of the invoice.
An hourglass symbolic of how you will have to wait to get paid if your business's AR function is poor.
A poor AR function will leave you waiting to get paid!

What is the best way to monitor outstanding invoices?

When your business is small, you might be able to manage a handful of client invoices on your own without much thought. You’ll know who has paid you. A small business may be able to track invoices in Excel or a Google Sheet. But as your business grows, you may find yourself needing a more robust system for tracking invoices.

All significant accounting systems allow you to track customer invoices though some accounting systems, like QuickBooks Online, will require an upgraded subscription to activate this feature. No matter which system you use, you’ll want to track the date that the services or goods were provided, the customer name, the amount due, and any additional fees such as interest, late fees, or sales tax.

Once you’ve entered your invoices including the date that the invoice was sent to the client, you can run an Accounts Receivable aging report. The aging report shows you, by client, how long their invoices have been outstanding, usually grouped into 30-day increments. This helps you determine who needs to be contacted about outstanding bills.

How does thorough tracking of Accounts Receivable help your business?

If you have clients that are consistently behind on your invoices or do not pay them at all, you may want to reconsider them as a client or at least have a discussion with them about paying you in a timely manner.

Minimizing the time that invoices are outstanding creates a healthier cash flow for your business. If your clients are regularly behind on your invoices, you may want to consider accepting other types of payments including credit card payments to reduce the time it takes you to receive funds, even if you end up paying higher fees.

Billing is often the least fun aspect of owning a business and can often be overlooked or put off. By tracking your accounts payable, you can ensure that your clients are being billed regularly. No one likes a surprise bill years later, and those surprise late bills are much less likely to be paid.

Should you manage your AR yourself?

Early in your business’ life, you can probably monitor your Accounts Receivable yourself. As the number of clients grows, the amount of time it takes to input, review, and take action on your Accounts Receivable will also grow.

Many business owners find it uncomfortable to follow up with clients and ask for payments. While no one should feel awkward talking to a client about charges, it’s still fairly common. Outsourcing your accounts payable tracking and collection allows you to continue to focus on running your business while letting someone else deal with the headache of monitoring and collecting your payments. (Want to learn even more? Take a look at Deloitte’s write up on optimizing your AR function.)

Looking for a bookkeeping specialist to help with your accounts receivable or anything else related to your business? At My OC Bookkeeper we help companies all over Los Angeles, Orange County, Riverside, and San Diego with all things business. Whether you need help with bookkeeping, accounting, financial modeling, business plan development, CFO services, or anything in between, we are here to help. Reach out to us here.

Have thoughts on our introduction to accounts receivable? Leave us a comment and let us know!

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Why Bookkeeping Is Important for New Businesses

Why Bookkeeping is Important for New Businesses

Why Is Bookkeeping Important for New Businesses?

When starting a new business, it is easy to get consumed with the ‘exciting’ parts of the project: designing a product, coming up with sales strategies, marketing, hiring employees, etc. However, there are integral ‘behind the scenes’ parts of running a business that sometimes get overlooked when starting out. One of these is bookkeeping. Read on to see why bookkeeping is important for new businesses.

Bookkeeping may sound interesting to the math enthusiasts of the world (yes, they do exist!) but to everyone else, especially during the exciting early days of a startup, it may seem dull and get overlooked.

Unfortunately, if keeping track of your company’s financials isn’t prioritized, it can cause significant complications down the road. To position yourself to succeed, don’t let bookkeeping become something that you put off.

Accounting and Bookkeeping Help Businesses to Manage Their Cash Flows

Managing cash flows is hugely important for new businesses and proper bookkeeping practices can help you to prevent many cash flow problems before they start. By keeping track of all of your outstanding accounts receivable and accounts payable, for example, you can make sure that you will have sufficient cash to satisfy any upcoming obligations. If you anticipate more accounts payable (i.e. bills) than accounts receivable (i.e. revenue), then you had better make sure that you have sufficient cash and/or credit to satisfy your upcoming financial obligations or you may find yourself in trouble.

Similarly, by properly tracking and managing your accounts payable you can increase the probability that you will pay them on time. (Forgetting for the moment the larger problem described above.) This will help you to maintain good relationships with your vendors, keep your credit in good standing, and minimize your interest payments – all good things for a new business to do.

Then there is the classic business school problem of growing so fast that you run out of cash. How does that work? It’s really pretty simple. When you grow really fast you have a lot of orders, projects, contracts, etc. In order to satisfy them you must spend money. In order to satisfy a lot of them you must spend a lot of money.

Generally speaking, you have to spend the money to complete the work before you get paid for it, and if you are doing too many projects or making too many widgets you can run out of money before that happens. Imagine, for example, you receive 1,000 orders for razor blades you are making – far more than you ever dreamed you would receive. You start to make them and then run out of money after only 200. It’s possible you might be able to get a loan of some sort, but even so, that creates delays and costs money. Loans notwithstanding, this situation can lead to angry customers, angry vendors, new costs, and even the end of your business entirely.

Proper bookkeeping and accounting can help prevent this situation altogether by enabling a business to model out the costs associated with incoming orders and make sure that it has enough money to complete them. If not, than it may be time to slow down the growth.

Bookkeeping Enables New Businesses to Manage Their Cash Flow

Accounting and Bookkeeping Help Businesses to Keep Their Tax Bills Down

Taxes are hugely important for new businesses and if not properly managed they can greatly decrease your profits and even kill you off completely. (Just ask the countless new marijuana businesses that have learned this the hard way…) For one, you don’t want to miss out on any deductions that you can begin tracking now. If you don’t know about them until tax time you may not be able to go back and figure out how much to deduct. Mileage is a good example. If you can deduct mileage than be sure to keep track of every business mile from day one. (There are some great apps to help with this.)

Likewise, if you don’t keep good bookkeeping records from the beginning you will have a major headache come tax time. This will at the very least cost you a lot of time and may also cost you a lot of money. It takes a lot more work to figure out where you spent your money six months ago than it does to get it down when it happens. This means more effort trying to remember things on your part, more time and money spent by bookkeepers trying to get everything organized, and a greater chance there will be costly mistakes. As an added bonus, bookkeepers may charge you a hefty premium for taking up a great deal of their time during their busy season.

Another common problem is failing to make reasonable quarterly tax filings. Making such filings is a requirement for many businesses and doing them poorly, or not at all, can result in costly penalties and more money down the drain.

Financial Statements Help Businesses to Better Understand Their Operations

Another benefit of keeping your books in order: financial statements. The basic financial statements (income statement, balance sheet, and statement of cash flows) are extremely useful tools for describing how a business is functioning. (There is a reason they are central parts of annual reports.) They tell you in detail how your business is doing, what kinds of problems may be on the horizon, and fuel strategic decision making. (If you want to learn more about financial statements check out our blog on the income statement here, and our blog on the balance sheet here.)

If you don’t maintain your books there is simply no way to create your financial statements. If the financial statements were a building, monthly bookkeeping activities would be the bricks.

Maintaining Your Books Fuels Strategic Decision Making

Running a new business involves making important decisions on a regular basis, and informed decisions tend to be far more successful than uninformed decisions. Keeping your books in order can provide you with key information that can be useful in this regard. Say, for example, two clients call up with desperate pleas for some last second service. Unfortunately, you only have time to help one. Which one do you choose? If you have kept your books in order you can see which client has provided you with more revenues, and this may be the deciding factor. There are a myriad of possible situations like this where well organized books can provide you with valuable insights.

Bookkeeping Enables New Businesses to Engage In Strategic Business Planning

So, if you are starting a new business heed our warning: keep your books in order from day one. If your business succeeds you will need to get them in order eventually, and you will be better off starting now. Or, if your business doesn’t succeed, not having good books may have been one of the central reasons why.

There you have it. Key reasons why bookkeeping is important for new businesses. Interested in learning more about bookkeeping and accounting? Take a look at My OC Bookkeeper’s great bookkeeping and accounting blog or their bookkeeping, accounting and business strategy YouTube channel. Interested in hiring an outside bookkeeper, accountant, or business consultant? My OC Bookkeeper is here for you. We help businesses all over the country to tackle problems big and small. Click the video below to learn more. Let’s do great things together!