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Reviewed by Bhavana | Updated on Oct 05, 2020


Definition of Receivables

Receivables, also regarded as accounts receivable, are debts owed to a firm by its customers for goods or services used or delivered but not yet paid for.

Receivables are created by expanding the line of credit to customers and are listed as current assets on the company's balance sheet. They are considered as liquid assets since they can be used as collateral to secure a loan to help meet short-term obligations.

Receivables are part of the working capital of a company. Effectively handling receivables means promptly following up with any consumers who have not paid and eventually reviewing payment plans if necessary. This is critical as it provides additional capital to fund operations and reduces the net debt of the organisation.

Let Us Understand Receivables in Detail

To boost cash flow, a company can reduce the credit terms of its accounts receivable or take longer to pay its accounts receivable. This lowers the company's cash conversion time, or how long it takes to turn capital assets, such as inventory, into capital for operations.

It can also sell receivables at a discount to a factoring company, which then assumes responsibility for collecting the money owed and bears the risk of default. This form of structure is referred to as the funding of receivable accounts.

Basic analysts look at different ratios to measure how effectively a company extends credit and collects debt on that credit. The turnover ratio of the receivables shall be the net value of the credit sales for a given period separated by the average accounts receivable for the same period.

The average receivable accounts can be calculated by adding the value of the accounts receivable at the beginning of the period to their value at the end of the period and dividing the sum by two.

Another indicator of the company's ability to recover receivables is the days of unpaid revenue (DSO), the total number of days taken to collect payments after the sale has been made.

An Important Note

When a company sells goods, and 30% is sold on credit, this means this 30% of the company's profits are in receivables. That is, the cash has not been paid, but it is still reported in the books as revenue.

Instead of debiting to raise to cash at the time of sale, the company debits the accounts receivable and credits the sales revenue account. The receivable does not become cash until it has been compensated.

When the consumer pays the bill within six months, the receivable is converted into cash and the same amount is deducted from the receivable. During the time, the payment will be a debit for cash and credit for accounts receivable.

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