In this scenario, it would probably be a good idea to review vendors’ payment terms to see if there are any prompt payment discounts to take advantage of. In this example AP is being paid just before the usual deadline of 30 days. To calculate this ratio, you divide the number days in the period by the AP turnover ratio from above, like so: This can be an indicator that you need to better manage your cash flow or evaluate your purchases and sales to make sure they are in line with each other. The higher the ratio, the longer it takes for you to make payments on purchases. The days in AP ratio indicates how long it takes the entity to pay its invoices or the number of days an invoice is outstanding. So on average, in this example, payments of AP are approximately 12 times a year or once per month. Your AP turnover ratio is 12.50 for the year. For example let’s say you have the following: To calculate this ratio, take your net purchases for a period of time and divide them by the average AP for the same period. The lower the turnover rate, the longer payables are outstanding and you may be getting charged late payments penalties or interest. The AP turnover ratio estimates how many times a year a company’s AP is paid. To maintain good controls over the cash, you should either be reviewing and approving the disbursements or signing the checks. Doing all of this takes up your valuable time so it should only be done once or twice per month. Paying your AP sounds simple but it can be time-consuming You must review the AP aging, evaluate your available cash, and then select items for payment. Try to pay your AP only once or twice per month instead of making a few payments each day. For example, payment terms could include a small discount if paid within 10 days or some other short period. You should also identify any vendors that provide discounts for prompt payment and try to take advantage of the savings. The report will usually display unpaid invoices in aging buckets such as “current,” “30 days past due,” “60 days past due” and “over 90 days past due.” By doing a detailed review of this report you can determine which invoices should be paid and which invoices can wait. The AP aging report is a very useful tool that will help you evaluate your payables. Many software platforms will automatically produce AP aging reports. On the AP side you are receiving goods and services in exchange for a future payment. On the AR side you are selling goods and services in exchange for a future cash receipt. That’s because AR and AP are closely linked. Many of the following items are similar to our previous article on Accounts Receivable. So what can you do as a business owner to ensure you are effectively managing AP? AP is a current liability and is usually one of the first liabilities listed on the balance sheet. Expense payables include goods or services that are expensed such as supplies, utilities and cleaning services. Trade payables are generally for the purchase of goods that are included in inventory and subsequently sold (liquor and beer). AP can be broken down into two categories – trade payables and expense payables. Nearly all of your purchases and services will go through accounts payable so it is important to understand this liability. These outstanding payments are called Accounts Payable, or AP. The good news is most vendors and service providers will grant you payment terms so you don’t have to pay for everything as it is delivered.īut, you do have to keep track of all the payments due to your vendors. Accounts Payable as a LiabilityĪs a business owner (we’ll use bar owner to keep things consistent) some of the items you will need to purchase include inventory for sale (liquor and beer), supplies (drink stirrers and napkins), utilities and cleaning services. We have had several articles on the asset side of the balance sheet so now we will be moving on to the second part of the equation, liabilities. The formula is assets = liabilities + equity. Just as the title states, the balance sheet balances. All the way back in installment number two, we explained the balance sheet and how it is a snapshot of the assets, liabilities and owner’s equity at a specific date.
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