AP/AR

  

Accounts Payable/Accounts Receivable. This important and basic indicator shows the "proof in the pudding" that a company is making a consistent profit.

Accounts payable is the money going out. Accounts receivable is the amount coming in. If accounts payable is higher than accounts receivable the business model is failing. Bad investment decisions are in place.

Related or Semi-related Video

Finance: What are Accounts Payable and A...111 Views

00:00

Finance- a la shmoop what are accounts payable and accounts receivable? easy. they're

00:09

accounts. they live on the balance sheet right here and here. accounts payable [balance sheet shown]

00:13

refers to bills you owe for stuff you bought or committed to buy. accounts

00:17

receivable refers to stuff you sold, and are you know waiting to be paid for.

00:26

you're the CEO of Shmesla. you make flying electric cars. you've built a

00:34

thousand of these units and they're ready to sell. the machine takes five

00:37

grand worth of aluminum ,eight grand worth of computers, three grand for the

00:42

blades, and so on. so flying schmess la in total costs 50 grand to build then sells [equations]

00:47

for about 80 grand each. only problem with your build of inventory you didn't

00:51

have the money to pay for all of the equipment that goes into the Shmesla

00:55

up front. so you cut a deal with your suppliers to pay them six months after [forklift]

00:59

they've shipped you that construction materials. by building a thousand units

01:03

you'll spend 50 million bucks on raw materials ordered on credit, which shows

01:08

up on your balance sheet as a short-term liability, in the accounts payable slot [balance sheet]

01:13

right there 50 million. well as sales come in, yeah cha-ching, cha-ching, cha-ching,

01:18

you feel ready to pay off at least one of your suppliers, and send them a check

01:23

for a million bucks .and that cool million shows up as an expense on your [hands exchange check]

01:29

income statement, and your accounts payable figure declines by a million

01:34

bucks .your sales end up being solid you quickly sell 500 units you built for 80

01:39

grand each and that's half your stock. unfortunately the buyers can't pay you

01:44

right away they promise to pay you in writing within 120 days of taking [hand signs document]

01:48

possession of the Schmesla. so that's 500 Schmeslas for 80 grand each

01:52

giving you 40 million bucks worth of accounts receivable that you show on

01:56

your books right there. well a few months go by and you start to collect. some

02:00

buyers pay early a quick 500k comes in as buyers pay off their Schmeslas, and [men in suits]

02:05

that 40 million in accounts receivable is now 35 million, and that five million

02:10

plops right in your cash account at the old Bank of America. you feel good [bank of America logo]

02:15

about the business and hate having accounts payable, so you take 4 million

02:19

of that 5 million bucks in cash, and well you pay some bills you pay down the 49

02:24

million you owed ,you now be 45 million in accounts payable.the contracted for

02:29

payments of the Shmeslas all come in and another 35 million dollars comes in [men stand by stacks of cash]

02:34

the door, taking away all of the remaining thirty five million dollars in

02:38

accounts receivable so that account now goes to zero, and that thirty five

02:42

million bucks well it gets dumped into your cash account, which now has 36

02:46

million dollars in it. why well because you had a million dollars sitting there

02:51

from the first set of payments remember? you still owe 45 million bucks in your

02:55

accounts payable but you can bring that obligation down fast by paying 30 [hands exchange check]

02:59

million down immediately and make your suppliers dance. so what are the key

03:03

factors of your balance sheet at this point? well you have five million in cash

03:07

nice asset that cash there. you have five hundred cars yet unsold you think you

03:13

can get 80 grand each for them or 40 million dollars in revenues to you. you

03:17

hold them as inventory on the asset side of the balance sheet right here. you are

03:21

no longer owed anything because all the buyers who bought your first 500 cars [car flies through the air]

03:26

have now paid you. and while you owe another 15 million bucks to your

03:30

suppliers to clean them up so don't start strutting around like you're Elon

03:34

Musk just yet you've still got a ways to go before Schmesla Galactic can found

03:39

its first colony on Mars. schmooping in space yeah it's a dream come [man in space suit meets alien]

03:44

true.

Up Next

Finance: What is a Balance Sheet?
47 Views

What is a balance sheet? A balance sheet is a financial document that public corporations are required to use. It shows their assets and liabilitie...

Finance: What is a Consolidated Balance Sheet?
3 Views

What is a Consolidated Balance Sheet? A consolidated balance sheet is one that includes all of the subsidiary companies’ aggregate balance sheets...

Finance: What is a profit center?
2 Views

A profit center is whatever aspect of a company's business makes them the most dough, and should make up for the...not-so-profit-y centers.

Finance: What is a Money Market Fund?
80 Views

What is a Money Market Fund/Commercial Paper? Money Market Funds are mutual funds that are very safe and liquid. They invest in cash and securities...

Find other enlightening terms in Shmoop Finance Genius Bar(f)