Updated: May 18
What makes a fruitful construction company different from a poor one is how successful it is at managing its accounts receivable.
It is important to send out invoices and collect money quickly, but it is also important to know where accounts receivable are shown on your balance sheet. In this blog, we'll discuss how accounts receivable affect your balance sheet and how you can improve your AR processes to maximize your cash flow.
Table of Content:
Accounts Receivable on Balance Sheet: What is A Balance Sheet Anyway?
Accounts receivable are valued and reported on the balance sheet. But what is a balance sheet anyway?
A balance sheet is a financial statement that shows how well your business is doing financially at a certain time. It shows your assets, liabilities, and equity. Assets are what your company owns; liabilities are what it owes; and equity is what is left over for the owners. Knowing this is essential for understanding where accounts receivable are recorded.
Accounts Receivable as a Current Asset
Accounts receivable, or AR, represents your outstanding (unpaid) customer's invoices. To put it simply, AR represents the amount of money your customer owes you after you complete a project. Knowing that it's the amount of money that you will soon receive in the future, the question that makes sense here is: "Is accounts receivable an asset?"
The answer is that it is the money your company expects to receive soon, so it is listed as a current asset on your balance sheet. But while it may seem like having a lot of AR is a good thing, it is essential to keep in mind that it also presents some risks.
Here's an example of how accounts receivable might appear on a construction balance sheet:
Get full access to the sample here:
Increase and Decrease of Accounts Receivable
If your AR amount increases, it means that your revenue has also increased, and you have earned payment in the form of credit. Ideally, you should collect more cash payments in the future.
Conversely, if your AR amount decreases, it means that invoices billed to customers that paid on credit have been completed and you have received the money in cash.
Why Increased AR is Not a Good Sign
While it may seem appealing to have a large amount of AR, this money is not in the bank and can expose your company to some risks. Accounts receivable are not guaranteed to turn into cash, as some customers may not want to pay the money they owe. This is where timely invoicing and consistent follow-up collections come into play.
So the key here is timely invoicing plus consistent follow-up on collections.
Make sure you will have a team to automate your AR process to get your money back as quickly as you can. Do you know who can be your great helper? Check us out to see how the Construction Cost Accounting team can streamline your AR workflow.
A Solid Credit Policy & Payment Terms Help Avoid "Fake Revenue"
Now that you know money in AR is not money in the bank, it is really important for you to ensure that you get back the cash according to the exact receivables recorded in the balance sheet. A good credit policy is one key to improving your AR!
Make sure that your credit policy clearly states the following information:
Criteria for which customers are eligible
Construction credit terms
A clear policy for collecting unpaid bills
Steps to be taken if a customer does not pay
Another key is payment terms. For contractors, it is no surprise to have a challenging time getting paid. Payment terms in the construction industry are commonly expressed as "net 30" or "net 60," which refer to the number of days clients have to pay their bills before incurring late fees.
The numbers show how many days the payment is due and is expected to be paid. For example, if a term is “net 60,” you have 60 days from the time the invoice is issued to pay. You may also offer early-pay discounts to encourage prompt payments
The success of your construction business depends on how well you handle your accounts receivable. By knowing where accounts receivable are on your balance sheet, you can get a better idea of your financial health and make better decisions to improve your cash flow.
Sending invoices on time, following up on collections, having a sound credit policy, and arranging payment terms will lower the risk of unpaid accounts receivable and boost your chances of getting paid on time. Don't forget to check out our free sample balance sheet to help you get started on the right foot.