Back to Basics: Accounts Receivable

Accounts receivable is the amount of uncollected revenue for which the company is expecting to receive payment from its customers.  It represents the largest and most accessible source of non-financing cash that the company has available.  It is the last stage in the cash cycle before an item becomes cash once again.

Given that A/R is the closest to cash of all other items on the Balance Sheet, it is the most important item to manage next to cash.  There must be a concerted effort to manage A/R each and every day.  Unfortunately, experience has proven that most managers do not attempt to manage A/R with more than a passing thought until there is a problem with cash or a question arises regarding the validity of the recorded balances.  Usually, by the time a problem is recognized, the possibility of a full recovery of the cash collection potential is remote.  You must understand that the vast majority of all adjustments to A/R will have a direct impact on your bottom line and therefore your future cash flow.  An adjustment to the A/R balances will, in almost every case, result in an adjustment to revenue in one way or another.  An account that has been determined to be uncollectible will be recorded as bad debt expense and will directly reduce the company’s profit.

Mismanagement (or truly non-management) of accounts receivable has been the death of many otherwise viable companies.  Without a thorough understanding of the dynamics present in the A/R of your company you cannot be confident of any performance information produced.  With a large adjustment resulting from the fallout of an unforeseen A/R problem, any recorded profits can be completely eliminated in an instant.  Without warning, very large chunks of what was thought to be future cash flow can evaporate unexpectedly leaving the company extremely vulnerable.