Accounts receivable are dollars due from customers. They are tallied by invoices and arise as a result of the operating cycle's process of selling inventory or services on terms that allow delivery prior to the collection of cash. Inventory is sold and shipped, an invoice is sent to the customer, and later cash is collected. The seller gives the customer delivery of goods or services prior to receiving cash payment. The receivable exists for the time period between the selling of the inventory and the receipt of cash. The time period, or terms must be stated clearly.

Receivables exist because most industries, except the retail business, offer their customers payment terms other than cash on delivery. A company that refuses to offer terms, that is demands cash on sales, will lose sales and customers because the customers will purchase their goods from competitors who offer such terms. The customer prefers to receive the goods now and to pay for them later in order to conserve their cash. Terms are quoted in a variety of forms such as the following:

Net 10 days from invoice
Net 30 days from shipment
1% 10 days, Net 45 days from invoice

The first term requires payment in 10 days from the invoice date. The second term requires payment within 30 days from the shipment date. And, the third set of terms offer a bonus for early payment. It offers 1% discount from the invoice amount, if it is paid within 10 days of the invoice date. Beyond the 10 days, up to 45 days, the customer pays 100% of the invoice.

Receivables are a use of funds. They represent dollars the company does not have available to reinvest in inventory, pay its obligations, etc. If the company had no receivables, it would collect cash upon the sale of inventory and have the cash available for the business.

The existence of receivables indicates that the company, instead of collecting cash, invested cash into receivables which, in effect, are loans to customers. Trade receivables take the form of invoices rather than promissory notes. Your legal rights and collection techniques are different for trade receivables than for a promisory note.

If a company gives 30 day period terms, it should collect a receivable in 30 days. Anyone can sell; not everyone, however, can collect. One method of measuring the quality of receivables is to compare the actual collection period to the stated payment terms. The average actual collection period is known as Days Receivable.

Days In Receivables = Actual Accounts Receivable / Sales Per Day

where:

Actual Accounts Receivable = Average levels of receivables on the balance sheet during the period being evaluated.

Sales Per Day = Annual sales / 360
(substituting the actual sales in the period and the number of days for 360 if you are analyzing a shorter period).

To determine receivable quality, the company's terms of payment are compared to the actual collection period. The collection period and the terms should be about equal. Because accounts receivable is a use of your company's cash, close attention should be paid to the days receivables.

When you find days receivable greater than your sales terms, the first step in analyzing your problem is to age your accounts receivable by multiples of your terms. For example if you give NET 30, this means your invoice is to be paid within 30 days. The logical aging time periods may be 0-30 days, 31-60 days, 61-90 days, over 90 days.

Under each of the above categories, total the amount due from each of your clients. For example:

CUSTOMER AGING	0-30	31-60	61-90	Over 90
Client 1	750
Client 2	850	250
Client 3			950
Client 4				200
Client 5	1,008
Client 6			750
Total	$2,608	$250	$1,700	$200