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May 30, 2022

What are Trade Receivables in Accounting?

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The amount billed by a business to customers for the goods and services supply in the ordinary business course is called trade receivables. These are usually documented in official invoices, summarized in the Accounts Receivable Aging Statement. Staff commonly uses this report as it is frequently used to collect overdue payments from customers. Trade receivables are recorded in a separate account and classified as current assets on the balance sheet in the general ledger.

Trade receivables are shown on the company’s balance sheet in the Current Assets section and are listed with:

  • cash;
  • foreign currency;
  • investments;
  • prepaid costs;
  • inventory;
  • consumables.

Trade receivables will be referred to as “Accounts Receivable” on the balance sheet.

Non-trade receivables are income that a company receives from sources other than the common goods or services sold. Non-trade receivables are considered items that do not require invoice generation. They include:

  • employee loans;
  • payroll advances;
  • income tax refund;
  • interest payments;
  • insurance claims.

Non-trade receivables are classified as current assets; however, they can be converted to non-current assets if the payment is expected to take more than a year.

Trade Receivables Importance

Trade receivables are essential because they allow companies to receive payment for their products and services, which will enable them to purchase such products and services.

An increase in trade receivables days could signify that a company has trouble collecting invoices, leading to future financial difficulties.

Many trade debtors may indicate that a company does not exercise effective credit control, which leads to bad debts and, in turn, bankruptcy or liquidation.

What are Trade Receivables in Accounting?

Trade Receivables Financing

The company must pay for raw materials within a few weeks or months if it sells goods on credit to its customers. This leads to cash flow constraints and makes it challenging to fulfill customer orders or invest in business development and research and development (R&D). Thus, companies may decide to finance their trade receivables, seeking early repayment in exchange for a discount.

Companies achieve this through AR finance and receivables financing solutions. Factoring allows a company to sell invoices at a discount and earn an immediate invoice value percentage. The company’s customers will then pay the element at the end of the term.

Similar to factoring is invoice discounting, in which the invoice discounter advances the invoice value percentage. Unlike factoring, invoice discounting allows the seller to retain control of their sales book while remaining responsible for collecting payments from buyers.

Another option is asset-based lending (ABL), where companies access a credit line with funding backed by assets, such as receivables. An ABL may also be structured around other assets such as commercial property, equipment, or inventory.

Calculating Trade Receivables

There is a straightforward formula to calculate trade receivables:

Trade receivables = accounts receivable + accounts receivable

Your accounts receivable can be found by looking at your business balance sheet.

Trade receivables days = (trade receivables / revenue) x 365 days

This formula is used to estimate the time needed for debtors to pay invoices (known as the trade receivable days formula or the receivable days’ ratio.)

Trade Receivable Example

Let’s assume that Company XYZ has total receivables of $20,000 on its balance sheet and $15,000 in receivables accounts. The income is $100000.

Calculate trade receivables as follows:

$20000 + $15000 = $35000

Trade receivable days = ($35000 / $100000)x 365days = 127.75

The formula estimates how quickly Company XYZ will receive these trade receivable payments.

Trade Receivables Reducing

Some methods were developed to reduce trade receivables. The most popular are listed below:

  • Provide as many payment options as possible. Some customers would like to pay with cash or checks, while others prefer credit cards and online payments. By offering different payment methods, you encourage them and give them more reason to pay on time.
  • Providing early payment discounts and implementing a late payment charging policy. Encourage customers to pay you early with early discounts and small late fees to keep them from using free credit. There is no incentive like money.
  • Submit an invoice after a project or service completing. If you wait too long, your payment will be delayed.
  • Send them a payment reminder in advance. Some customers are careless, and a short email reminder a few days before payment can encourage them to pay off their receivables on time.
  • Consider requesting a partial advance deposit. For example, if you’re working on a long-term project or selling a costly product, requesting a partial down payment help mitigate the non-payment risk.
  • The shorter the payment term, the better. While billing terms vary from industry to industry, it’s in your best interest to keep your payment terms as straightforward as possible: the sooner you get paid, the sooner the money will flow into your business.
  • Call the client. If a customer is entirely unresponsive to your emails, you can always give them a call to have a little chat and find out what’s going on and why they’re behind on their payments.

Try to keep these methods to reduce trade receivables and make the business more profitable.

Don’t Pay Late

Companies monitor an unpaid invoice to see if a payment is in progress. Think about the relationship with the client, but also consider that time is money. This is the income owed to your company, and the customer is expected to pay. So don’t wait too long to report this to your collection agency. They are experts. They will help ensure you get paid.

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Author: Charles Lutwidge

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