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In this guide, we’ll explain everything you need to know about accounts payable, including how they work, how you can improve these accounts, and what the relationship between accounts payable and cash flow is.
What Are Accounts Payable?
Sometimes a business finds it necessary to pay for goods and services at a later date. The accounting term accounts payable describes the money that your business owes vendors for the products that it has received but not yet paid for. In general, these are debts that must be repaid within a year.
Accounts payable allow companies in Singapore and all over the world to smooth out their cash flow and defer cash expenditures to a later date but still walk away with the good or service you have selected to purchase. This is particularly useful for high-growth, low-cash companies that are relatively new and might need their cash for other business needs.
Is Accounts Payable a Credit or a Debit Transaction?
Accounts payable is a credit transaction and is registered as a current liability account in the company ledger. A current liability is a company's short-term financial obligations that are due within a year or a normal operating cycle, whichever is shorter.
What Is the Accounts Payable Process?
Let’s say that your business buys some goods and services on credit from a vendor. Rather than paying in cash, the transaction is registered as accounts payable in your books and both parties agree that the balance will be paid at a later date. This date can range from anywhere from 30 days to over a year in length.
The vendor that sold you the products then logs the transaction under “accounts receivable”, which means that they will receive the funds in the future. To avoid defaulting on your commitments, you must pay your debt in full within the agreed timeframe.
What Is the Relationship between Cash Flow and Accounts Payable?
Given that accounts payable are deferred expenses – i.e. bills that you could have paid today but choose to push into the future and pay later – companies can take advantage of accounts payable and form good relationships with suppliers to increase their cash flow.
For example, let’s say you have a new project that requires your cash reserves to be as high as possible. To allocate more cash to the project, you could renegotiate contracts with suppliers and ask them if you could defer some accounts payable to the next financial year. In other words, the less you pay in accounts payable, the higher your company’s cash flow is.
While this might be a reasonable short-term fix for your cash flow, you must understand that if you repeat this type of “creative accounting” too frequently, you risk damaging relationships with vendors and negatively impacting the reputation of your business. In some cases, if you persistently delay your payments far beyond the agreed timeframe, suppliers can choose to charge you for a duplicate payment.
How Do I Improve My Accounts Payable?
First, we recommend going paperless as much as possible. Electronic bills make the process of logging and paying your accounts payable much easier. They also reduce the probability that you pay bills late as hard-copy bills can get lost in the mail.
Secondly, maintaining good relationships with your suppliers increases the chances that you can successfully negotiate for discounts or better payment terms. As a result, it’s important to always communicate well with vendors, be transparent, and agree on terms that satisfy both parties’ priorities.
Lastly, always have a solid cash reserve available that you use only for emergencies. You never know what will happen tomorrow, so it’s important to keep a “rainy day fund” in case markets crash, sales unexpectedly plummet, or something else happens that makes you unable to run your business.
As the old saying goes, you should hope for the best but always plan for the worst.
Sprout with Us!
Sprout Asia wants you to focus on what you do best, while we take care of the rest. That is why we offer budget-friendly accounting services, so that our experts can keep tabs on your invoices and manage your finances with ease, so you never miss a payment and get duplicate charges.
Feel free to reach out to us with any questions you may have about our services, and we will respond to you within 24 hours.