Question

What is The Importance Of Analyzing Accounts Receivable.

Answer 1

Accounts receivable (AR) is the balance of money due to a firm for goods or services delivered or used but not yet paid for by customers. Accounts receivables are listed on the balance sheet as a current asset. AR is any amount of money owed by customers for purchases made on credit.

• Accounts receivable is an asset account on the balance sheet that represents money due to a company in the short-term.
• Accounts receivables are created when a company lets a buyer purchase their goods or services on credit.
• The strength of a company’s AR can be analyzed with the accounts receivable turnover ratio or days sales outstanding.
• A turnover ratio analysis can be completed to have an expectation when the AR will actually be received.

Benefits of Accounts Receivable-

Accounts receivable is an important aspect of a businesses' fundamental analysis. Accounts receivable is a current asset so it measures a company's liquidity or ability to cover short-term obligations without additional cash flows.

Fundamental analysts often evaluate accounts receivable in the context of turnover, also known as accounts receivable turnover ratio, which measures the number of times a company has collected on its accounts receivable balance during an accounting period. Further analysis would include days sales outstanding analysis, which measures the average collection period for a firm's receivables balance over a specified period.

In the simplest terms, accounts receivable measures the money that customers owe to a business for goods or services already provided. Because the business expects the money in the future, accountants include accounts receivable as an asset on the business’s balance sheet.

However, most businesses do not expect to collect 100 percent of the money shown in accounts receivable. When dealing with regular and reliable customers, a business can benefit from selling its goods and services on credit. It may be able to make more sales that way and also reduce transaction costs. For example, the business can invoice reliable customers periodically instead of processing numerous small payments.

The problem is when accounts receivable reflects money owed by unreliable customers. Customers can default on their payments, forcing the business to accept a loss. In order to account for this risk, businesses base their financial reporting on the assumption that not all of their accounts receivable will be paid by customers. Accountants refer to this portion as the allowance for bad debts.

On face value, it is impossible to know whether the accounts receivable of a business are indicative of healthy or unhealthy business practices. Investors can only gain this knowledge through careful analysis and these are the benefits and importance of analysing accounts recievable.