Trade receivables (or accounts receivable) refer to the total amount that a company has billed to a customer for the company’s products and services, but the customer hasn’t paid yet. These are recorded as assets in the balance sheet and are current assets because the maximum payment time is generally under a year.
This article helps you understand the importance of trade receivables, formula and calculation, their benefits and limitations. Read on!
Trade receivables represent a portion of the revenue of the business and thus offer insight into the profitability and income of a business.
While many customers pay within the stipulated time, some do delay or refuse to pay. This can impact the cash flows of the business. Thus, forgetting to record the same can lead to non-paying customers getting the product/service for free, and impact revenue and profit. Recording it as trade receivables will be a visual reminder and will help to follow up with the customer or take action.
Recording it daily also helps to come up with accurate accounting reports. This can help in the correct assessment of the financial health of the business. It will convince prospective investors and creditors that the business is reliable and thus add value to the business in the long run.
Trade receivables calculation is pretty simplistic and can be done either using the trade receivables formula or the trade receivable days formula. All the values required in the formula can be found in the balance sheet. Thus, if the business has been diligently recording the data, the calculation will be easy.
Trade accounts receivable is calculated using the straightforward formula below:
Trade Receivables = Debtors + Bills Receivables
To calculate trade receivables, businesses must find the requisite values from their balance sheet and add them. However, the trade receivable days formula is more effective than the trade receivables formula. It is also referred to as the debtor days ratio and helps to compute the amount of time the debtors will take to clear the bills.
Below is the formula to calculate trade receivable days:
Trade Receivable Days = Trade Debtors/Revenue *365
Organisations use trade receivables to establish credit history for customers and offer them flexible payment plans. Below are some benefits of maintaining accounts receivable properly:
When companies offer credit buying plans to customers using credit accounts or long-term payment plans, they are likely to make more sales. Maintaining the trade receivables information in a highly organised format, allows them to easily access it when required. Also, offering such flexibility and ease builds loyalty and thus customers are retained for longer.
When companies have access to past purchases and the credit behaviour of the customers, it is easy to decide whom to offer credit plans and whom to refuse credit. Trade receivables files in digital format allow easy sorting and analysis capabilities that make it easier possible to make future decisions.
The most important aspect of maintaining trade receivables is to identify the customers to follow up with and collect dues from them. Non-payment data allows businesses to make timely collections and come up with repayment plans. This information is also critical if the company needs to go the legal way.
A thorough assessment of buying and credit trends of past customers can help to formulate new marketing strategies and sales plans. This will make way for organisational growth and new customers.
While trade receivables are counted as assets, they are still uncollected revenue. Below are some ways to receive it:
Clients have varied payment preferences and they are more likely to pay if their preference is included in your payment options. Cash, cheques, credit cards, and online modes are some options that you can include to encourage more customers to pay.
Free credit may make some customers take advantage and regard it as an indefinite payment holiday. Discounts on early payments can motivate many to repay and late payment fees may deter them from further delay.
Delaying sending invoices will only delay the payments. It is thus important to send invoices immediately post delivery.
Not all delayed payments are on purpose. Many times, clients can be forgetful and thus it makes sense to send a gentle payment reminder before the due date.
With long-term projects or expensive products and services, a partial advance payment can be a good way to stay assured of the intent of the customer and decrease the risk of non-repayment.
While the payment term depends on the industry of business, it is best to decide on short payment terms as that will ensure that cash flows in sooner.
If the client doesn’t respond to emails, calling them is a good way to know why they are delaying payments. You can also remind them or restructure the payment terms.
It is an asset category that also comprises money owed to a business that hasn’t been paid yet. However, it includes money from other sources rather than the sale of products or services. Insurance claims, dividends, and interest payments are some of the major sources of these deliverables.
The primary difference between trade and non-trade receivables is the source of expected money. In the case of trade receivables, the source is revenue from the sale of products or services whereas in the case of non-trade receivables it is other sources like dividends, interest payment, and insurance. Also, a company has a legal right without any conditions on trade receivables but not on non-trade receivables.
Trade receivables are assets for a business. It has an important role to play in determining its revenue and profitability. It is thus important to record and analyse trade receivables carefully. They are assets for the organisation and thus allows seeking loans against the bills the customers owe. It helps to raise money when the cash flow is limited and this possibility makes it imperative to ensure they are included in the balance sheet.
Ans: Companies organise their trade receivables according to due dates. This contains a list of receivables with a description of how long the invoice has been pending along with the client’s name and amount owed. Accounting software is programmed to generate these schedules to identify defaulting customers and their dues.
Ans: Suppose a company has Rs.2,00,000 as sundry debtors on the balance sheet and Rs.2,50,000 in bills receivable. Using the trade receivables formula, the value of trade receivables will be Rs.4,50,000.
Ans: When a business doesn’t have enough cash flow, it can raise funds against unpaid invoices. This allows them to fulfil immediate cash requirements.
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