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Off Balance Sheet Risks in Financial Accounting

The accounts payable function is the most labor-intensive of all the accounting functions and is therefore an excellent source of labor savings if the correct best practices can be implemented. The basic process in most companies is to receive three types of information from three sources—an invoice from the supplier, a purchase order from the purchasing department, and a proof of receipt from the receiving department. The accounts payable staff then matches all three documents to ensure that a prospective payment is authorized and that the underlying goods have been received, and then pays the bill. The process is labor-intensive—partially because there is such a large amount of matching to do, but also because the three documents almost never match. Either the purchase order quantities or prices do not match what the supplier is charging or else the amount received does not match the quantities on the other two documents. Because of these inaccuracies, the amount of labor required to issue a payment can be extraordinarily high. In simple terms "Accounts Payable is a liability account that identifies an obligation to pay suppliers in the near future".

Managing accounts payable well can help cut costs. Vendors frequently offer an incentive for companies that pay their bills early. This incentive helps vendors receive their money more quickly and helps companies reduce their cost of sales. Accounts payable (sometimes called trade accounts payable) are short-term obligations to suppliers for goods and services. The amount in the Accounts Payable account is generally supported by an accounts payable subsidiary ledger, which contains an individual account for each person or company to which money is owed.

Accounts payable represent debts that the firm incurs in purchasing inventories and supplies, as well as amounts that the firm owes for other services used in its operations, such as rentals, utilities, insurance, and so on. Most business transactions with suppliers involve short-term credit, for which payments are due within a designated period, such as 30 or 60 days. To illustrate, assume that a firm purchased inventory for $100,000 to be paid within 30 days. The purchase of inventory would increase inventory and accounts payable.

At the date of purchase:

The $100,000 payment to the supplier would decrease cash and eliminate the accounts payable.

At the date of payment:

Reviewing Accounts Payable

Most businesses have numerous subaccounts that feed into Accounts Payable so they can track specific expenses. For example, if you’ve set up individual vendor accounts for your major vendors, your first step will be to prove out those accounts and then check to be certain the total of bills paid and still due match what is in your cash disbursements journal.

When it comes time to close the books at the end of a month, you probably will have bills you paid that represent quarterly or annual payments. You also may have bills that need to be paid for expenses incurred during the month that won’t actually be paid until the next month. For example, when Lisa’s Candle Shop buys inventory at the end of the month, the invoice for that inventory probably won’t be paid until the next month.

A well-managed Accounts Payable account not only ensures that the bills are paid, but it can also monitor payments to ensure that the company takes advantage of all available discounts offered for timely payment. Also, you want to be sure bills are paid on time so you don’t end up with interest charges or other penalties for late payment. The next chapter provides more information about purchase discounts.

Current Liabilities Topics

Managing Liquidity and Cash Flows

Types of Current Liabilities

Commitments, Contingencies and Risks

Off Balance Sheet Risks