Strategies for managing Accounts Receivables

Accounts receivable is a balance sheet item representing money owed to a company by its customers for goods or services provided on credit. In other words, it represents the funds that customers owe to the company but have not yet paid. AR arises from the common business practice of offering credit terms, such as net-30 or net-60 days, which allows customers to receive products or services immediately and settle the bill at a later date. While AR can be an essential part of sustaining and growing a business, it also carries inherent risks, such as late payments or non-payment, which can impact cash flow and profitability. Managing accounts receivable effectively involves practices like credit risk assessment, timely invoicing, diligent collections efforts, and regular reconciliation to ensure the accuracy of the AR balance.

Here are some examples to illustrate accounts receivable

• Sale of Goods: Imagine a retail store that sells electronics. When a customer purchases a laptop on credit and agrees to pay in 30 days, the amount owed by the customer becomes an accounts receivable for the store.
• Service-Based Business: A marketing agency provides advertising services to a client on a monthly basis. At the end of each month, the client is invoiced, and the unpaid amount becomes accounts receivable until it's paid.
• Subscription Services: A streaming platform offers monthly subscriptions. Customers are billed at the beginning of the month, and until they pay, their subscription fees are recorded as accounts receivable.
• B2B Transactions: A manufacturer sells machinery to another company, and they agree to payment terms of 60 days. The outstanding invoice amount is recorded as accounts receivable until it's settled.
• Interest and Loans: A bank lends money to customers. The interest accrued on these loans but not yet paid by borrowers is considered accounts receivable for the bank.

Now the question arises How to manage Accounts Receivables?

To check and manage accounts receivable (AR) effectively, follow these steps

Maintain Detailed Records

Keep accurate records of all credit sales and invoices. Each invoice should include the customer's name, contact information, invoice number, due date, and a clear breakdown of the products or services provided.

Example: A graphic design studio keeps records of all design projects, their clients, project details, invoice numbers, and due dates in a digital database.

Aging Report

Create an aging report that categorizes outstanding invoices by their due dates (e.g., current, 30 days overdue, 60 days overdue, etc.). This helps you identify which invoices are overdue and need immediate attention. This report helps them prioritize collection efforts.

Accounting Software

Consider using accounting software or an enterprise resource planning (ERP) system to automate AR management. These tools can generate aging reports, track payments, and send reminders.

Example: An e-commerce business uses accounting software like QuickBooks to track and manage AR. It automatically generates aging reports and sends payment reminders to customers.

Send Payment Reminders

Send timely payment reminders to customers as invoices become due. This can be done through email, letters, or automated notifications from your accounting software.

Example: An online subscription service sends automated email reminders to subscribers a few days before their renewal date, prompting them to pay to continue their subscription.

Offer Payment Options

Provide various payment options to customers, such as credit card payments, online bank transfers, or payment plans, to make it easier for them to settle their invoices promptly.

Example: A dental clinic offers patients the option to pay their bills using credit cards, debit cards, electronic funds transfers, or even through payment plans.

Collections Policy

Develop a clear collections policy outlining the steps to be taken for overdue accounts. This may include phone calls, collection letters, or even involving a collections agency if necessary.

Example: A software company has a collections policy that includes a series of reminder emails, followed by phone calls, and eventually involving a collections agency for severely overdue accounts.

Customer Communication

Maintain open and transparent communication with customers. If they're experiencing financial difficulties, consider negotiating payment terms or settlements to avoid bad debt.

Reconciliation

Regularly reconcile your AR records with your general ledger to ensure accuracy. Any discrepancies should be addressed promptly.

Credit Evaluation

Before extending credit to new customers, conduct a credit check to assess their ability to pay. Set appropriate credit limits based on their creditworthiness.

Review and Analysis

Periodically review your AR aging report and analyze trends. Identify customers who consistently pay late and take steps to mitigate this risk.

Customer Statements

Send regular statements to customers summarizing their outstanding balances and transactions. This can serve as a gentle reminder of their payment obligations.

Legal Action as a Last Resort

If all else fails and a customer refuses to pay, consider legal action as a last resort. Consult with legal counsel before pursuing this route.

Continuous Improvement

Continuously assess and improve your AR management processes based on feedback and changing business needs.

Example: An online retailer regularly seeks feedback from its accounting team to improve its AR management processes and make them more efficient.

Now the question arises how to do Accounts Receivable Ageing Analysis?

An aging analysis in accounts receivable (AR) is a financial report that categorizes outstanding invoices based on the length of time they have been unpaid. This analysis provides a snapshot of the age of receivables within a company's AR ledger, helping to identify which invoices are current and which are overdue by specific time periods (e.g., 30 days, 60 days, 90 days, or more). By classifying AR in this manner, businesses can gain insights into the health of their receivables, track payment trends, and strategically allocate resources for collections efforts. Aging analysis reports are valuable tools for assessing cash flow, identifying potential credit issues, and making informed decisions about credit policies and collections strategies.

Gather AR Data

Collect data on all outstanding accounts receivable as of a specific date. This data should include the customer names, invoice numbers, invoice dates, due dates, and outstanding amounts.

Determine Aging Periods

Decide on the aging periods you want to use (e.g., current, 30 days, 60 days, 90 days, and over 90 days). These periods are used to categorize outstanding balances.

Calculate Days Outstanding

Calculate the number of days each invoice is overdue by subtracting the due date from the current date. This will help you determine which aging category each invoice belongs to.

Categorize Balances

Sort or categorize the outstanding balances into the appropriate aging periods. For example:

• Current (0-30 days overdue)
• 31-60 days overdue
• 61-90 days overdue
• Over 90 days overdue

Calculate Totals

Calculate the total outstanding balance in each aging category.

Create the Report

Create a table or spreadsheet to present the aging analysis. Include columns for customer names, invoice numbers, invoice dates, due dates, days overdue, and outstanding amounts.

Fill in the Data

Fill in the table with the data from your accounts receivable records, placing each invoice in the appropriate aging category.

Calculate Total AR

Calculate the total accounts receivable balance by adding up the outstanding amounts in all categories. This is the total AR balance as of the analysis date.

Analyze the Results

Review the aging analysis report to identify trends and potential issues. Pay attention to the distribution of overdue invoices and whether certain customers or invoices consistently appear in older categories.

Take Action

Based on the analysis, develop a plan to manage outstanding balances. Prioritize collections efforts on the oldest invoices and consider contacting customers with long-overdue payments.

Regular Updates

Update the aging analysis report regularly (e.g., monthly or quarterly) to track changes in AR balances and monitor progress in collecting overdue amounts.

Use Accounting Software

Accounting software often includes built-in aging analysis features that can automate the process and generate reports for you.

Certainly, here are examples of aging analysis reports for accounts receivable (AR) with hypothetical data:

Aging Analysis Report as of September 30, 20XX

Total Accounts Receivable: Rs. 11,750

In this example, the aging analysis report categorizes outstanding invoices into different age groups based on the number of days overdue. This helps the business identify which invoices are overdue and by how many days.

• "Current" includes invoices not yet due or due within the next 30 days.
• "31-60 days overdue" includes invoices overdue by 31 to 60 days.
• "61-90 days overdue" includes invoices overdue by 61 to 90 days.
• "Over 90 days overdue" includes invoices overdue by more than 90 days.

This categorization provides a clear picture of the distribution of outstanding balances and helps the business prioritize its collections efforts.

Fraud Areas in Accounts Receivable

Accounts receivable (AR) can be vulnerable to various types of fraud schemes. Auditors and businesses should be vigilant in identifying potential fraud areas within AR processes. Here are common fraud areas in AR:

• Fictitious Sales or Invoices: Fraudsters may create fake sales transactions or invoices for goods or services that were never delivered. They may use fictitious customer accounts to generate these invoices.
• Lapping Schemes: Lapping occurs when a person misappropriates funds received from one customer and covers it by applying subsequent payments from another customer. This can create a cycle of misappropriation that is difficult to detect.
• Skimming: Skimming involves stealing cash or checks received from customers before they are recorded in the accounting system. The fraudster may intercept payments and not record them in the AR ledger.
• Misappropriation of Discounts and Credits: Employees may manipulate discounts or credits offered to customers to benefit themselves or others. For example, they might provide unauthorized discounts and pocket the difference.
• Unauthorized Write-offs: Individuals with access to the AR system may write off customer balances without proper authorization, effectively erasing debts owed to the company.
• Inadequate Reconciliation: Failure to reconcile AR balances with the general ledger or bank statements can lead to discrepancies that are exploited by fraudsters.
• Misclassification of Receivables: Misclassifying certain items as AR when they should be considered something else, such as loans, can distort financial statements and mask liabilities.

In conclusion, accounts receivable (AR) plays a pivotal role in a business's financial operations. It represents the money owed by customers for goods or services provided on credit, reflecting a significant portion of a company's assets. Managing AR effectively is essential for maintaining a healthy cash flow and ensuring the financial stability of the organization.