Blog Credit: Scott Beaver, August 19, 2020 (What is Accounts Payable (AP)? | NetSuite)
A company’s accounts payable represents its short-term liabilities—invoices owed to suppliers, for example. AP departments are responsible for processing expense reports and invoices and for ensuring payments are made. AP is a key line item in the liabilities section of an organization’s balance sheet.
In the realm of accounting, accounts payable is the direct counterpart of accounts receivable (AR).
Some key takeaways:
- Accounts payable represent an organization’s short-term liabilities.
- AP teams are responsible for processing invoices and purchase orders in accordance with established policies and workflows.
- Total short-term payables are a key line item on balance sheets and within a general ledger.
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Video: AP vs. AR
Accounts Payable Explained
Let’s look at some fundamental things to understand.
Accounts payable vs. accounts receivable
Where AP represents the amount that a business owes in the form of short-term obligations to creditors and suppliers, AR is the funds it is due to receive from creditors, such as customers, distributors and partners.
Types of accounts payable
Expenses, short-term loan payments and reimbursements are all listed on a balance sheet as accounts payable. One key liability that is not considered AP is payroll, which is itemized separately.
Accounts payable vs. trade payables
Some describe accounts and trade payables as the same thing. Technically, though, trade payables are a subset of AP in that they describe outstanding amounts due for inventory delivered to a business.
Why is accounts payable important?
Essentially, AP represents a significant portion of a business’ liabilities. Failing to follow best practices when managing accounts payable can be costly. Some supplier agreements include escalating fees for late payment of invoices. Falling behind may lead to delays in receiving goods and services from suppliers. Habitually paying invoices late also often signals cash flow issues.
Accounts payable workflow
The approval process by which organizations receive invoices and supporting documentation is referred to as the “accounts payable workflow.” Historically, the AP process was manual, and many small firms and sole proprietorships still use that approach. But any organization that has high volumes of invoices to process has probably implemented an accounts payable automation system that simplifies the formal workflow process, ensures policies are enforced and eases audits.
How to record accounts payable
When a finance team receives, say, an expense report from an employee or an original invoice or purchase order for goods and services, it is entered in the general ledger as an expense. Once an authorized official approves the expense and payment is issued per the payment terms of the contract (such as Net 30 or Net 60 days), the accounting team records it as paid.
Accounts payable examples
Virtually all businesses have expenses. Restaurants must order food inventory from any number of suppliers. Typical operational costs include rent, utilities and insurance. A medical practice may pay a specialized cleaning company and expend funds on leased equipment and legal counsel. Essentially, outside of payroll, if your company receives and pays an invoice, that’s AP.
What is the role of accounts payable?
AP teams record expense reports, original invoices and process purchase orders in a timely manner, in accordance with the contractual terms of engagement. The department is responsible for confirming that expense reports and purchase orders include supporting documentation, and they ensure compliance with the organization’s policies as well as local, industry and national regulations. Once payments are issued, the team records them. Accounts payable teams play a critical role in reporting a company’s overall liabilities and managing cash flow.
What is the accounts payable process?
Upon receiving an original invoice or purchase order, someone in the AP department reviews it to ensure all details are accurate and comply with polices. Besides any potential inaccuracies, the review process includes looking for signs of fraud, ensuring the invoice isn’t a duplicate and checking the supplier’s terms to make sure the bill is processed on time.
Are accounts payable an expense?
Yes. Typical outlays include rent, advertising, supplies, utilities and reimbursement for employee travel.
What is the accounts payable turnover ratio?
An accounts payable turnover ratio is the liquidity measure in accounting that describes how quickly, or slowly, an organization pays its bills. A high AP turnover ratio suggests an organization is paying invoices and expense reports quickly, while a lower payable turnover ratio means it is slower in making payments.
Accounts Payable (AP) Team
Depending on the size of an organization, an AP team could comprise one or many people. In cases where a team consists of several employees, a manager is usually responsible for keeping the department running smoothly.
Accounts payable skills: AP team members must have strong organizational, analytical and communication skills; be detail-oriented; and work well with computers, including accounts payable automation software.
Choosing an Accounts Payable Software (or Vendor)
Selecting an accounts payable automation system is a strategic decision. Evaluations should include all stakeholders, including those working in the AP department and an organization’s CFO. Considerations include how well the payable automation software can process and exchange data from other systems within the organization as well as others within the organization’s industry and supply chain. CFOs should evaluate how well AP automation solutions integrate with their ERP systems. Ideally, the AP automation solution provider has either partnered with the ERP vendor or has undergone some form of certification or validation to ensure compatibility and the ability to achieve the desired level of automation.