Understanding Accounts Payable and Its Significance for Your Business
Many businesses deal with suppliers, contractors, and other third parties regularly. Often, these businesses need to make payments to these third parties for goods or services rendered. These types of payments are called accounts payable.
If your business deals with accounts payable, it’s crucial to understand how the process works and what you need to do to ensure timely and accurate payments. In this article, we’ll cover everything you need to know about accounts payable and why it is a significant part of your business.
Accounts Payable: A Brief Overview
Accounts payable (AP) is the process of making payments to suppliers, contractors, and other third parties for goods or services rendered. An accounts payable transaction is created when a business agrees to purchase goods or services from a third party. This transaction represents an obligation of the business to make a payment to the supplier. According to a study over two-thirds of businesses manually key invoices into their ERP or Accounting software, whilst 56% of respondents in the research stated that they spend over ten hours a week processing invoices and supplier payments.
68% of businesses key in invoices manually. 56% spend over ten hours a week processing invoices and supplier payments.
When a business purchases goods or services from a supplier, it usually needs to pay for them within a certain period of time. This timeframe is called the payment terms. The payment terms will vary depending on the supplier and the type of goods or services purchased. For example, some suppliers may require payment within 30 days, while others may give the business up to 60 days to pay.
Once the payment terms have been met, the supplier will send an invoice to the business for the amount owed. The invoice will include information such as the date of purchase, the due date, and the total amount owed.
The business will then need to pay the supplier by the due date. The supplier may charge interest on the outstanding balance if the business does not pay by the due date.
Examples of accounts payable include payment for office supplies, rent, utilities, and inventory.
Understanding the Process of Accounts Payable
The accounts payable process typically involves the following steps:
- Purchase order: The first step in the accounts payable process is creating a purchase order (PO). A PO is a document that specifies the goods or services to be purchased from a supplier, as well as the price and delivery terms.
- Invoice: Once the goods or services have been delivered, the supplier will send an invoice to the business. The invoice will include the cost of the goods or services and any applicable taxes.
- Accounts payable: The business will record the invoice in its accounts payable system. This system is used to track all outstanding obligations to suppliers.
- Payment: The business will pay the supplier, typically by check or electronic transfer. The payment will be processed according to the purchase order or invoice terms.
- Accounts receivable: Once the supplier has received payment, they will update their records accordingly and notify the business that the account has been paid in full.
What is the Significance of Accounts Payable for Businesses?
Effectively managing accounts payable is crucial for businesses as it facilitates cash flow management. Typically, when a business procures goods or services, the supplier expects payment within a specified timeframe. If the business lacks the necessary funds to make the payment, it may have to resort to taking loans or using credit to settle the payment.
Timely payment of invoices helps establish strong relationships between businesses and their suppliers. Such timely payments usually attract discounts or extended payment terms on future purchases, thus saving businesses money.
In addition, settling invoices on time helps businesses avoid late payment fees. Suppliers often charge late payment fees if invoices are not paid within the agreed timeframe, and these fees can significantly impact a business’s profitability.
What Methods are Used to Track Accounts Payable?
For businesses dealing with multiple suppliers, accounts payable can become intricate and demand a lot of time. A dependable accounting system is imperative to record and track AP transactions precisely.
In companies with low invoice volume, 33% paid on time when using automated systems vs. the 24% that paid on time without automation.
For companies with low invoice volume, 33% paid on time when using automated systems versus the 24% that paid on time without automation. The same pattern held in businesses with moderate invoice volume: 42% of PO invoices were paid on time when automated, and 25% were when not automated.
There are a few different methods that businesses can use to track AP:
- Manual tracking: This method records AP transactions in a ledger or spreadsheet. Small businesses often use this option with few suppliers.
- Accounting software: This method uses accounting software to track AP transactions. Businesses of all sizes use this option as it can provide more features and flexibility than manual tracking methods.
- ERP systems: This method uses an enterprise resource planning (ERP) system to track AP transactions. Large businesses typically use ERP systems with complex AP processes.
It is common for small businesses to track their accounts payable monthly, but businesses with complex AP needs may need to track their accounts payable weekly or even daily.
What to Look For in Accounts Payable Software
When selecting accounts payable software for your business, there are several factors to consider. It’s crucial to assess your unique needs and requirements to determine the most suitable solution.
Here are some key features to look for in accounts payable software:
1. Ease of use
The software should be easy to use and understand. It should have a user-friendly interface that makes it easy to input data and generate reports.
2. Flexibility
The software should be flexible enough to handle your specific business needs. It should be able to interface with other systems, such as your accounting software.
3. Automation
The software should offer features that automate the accounts payable process. This can save you time and money by reducing manual data entry and increasing accuracy.
4. Reporting
The software should provide detailed reports that give visibility into your accounts payable process. These reports can help you identify trends and areas for improvement.
5. Pricing
The software should be priced competitively. Be sure to compare features and pricing before making a final decision.
6. Security
This should be a top concern when choosing any software for your business. Ensure the software you choose has robust security features to protect your data.
Conclusion
Accounts payable is a crucial process for businesses that work with suppliers, contractors, and third parties. Understanding accounts payable and its importance can help businesses manage their cash flow and avoid late payment fees. It also guides them on choosing the proper accounts payable software for their needs.
