Small businesses that want to be successful must maintain a healthy cash flow. Crucial for day-to-day operations, these funds allow them to cover their payrolls, pay vendors, and invest in new opportunities. Without a consistent cash flow, they risk falling into debt, damaging relationships with suppliers, and even facing insolvency.
Fortunately, steady cash flow is achievable with a well-designed accounts receivable process. Businesses that properly manage their invoicing, collections, and payments can dramatically improve the likelihood that their customers pay on time, keeping cash coming in. This guide explores key strategies organizations can use to optimize their accounts receivable process, helping them protect their financial health and avoid cash flow disruptions.
What are accounts receivable?
Accounts receivable (AR) refers to the money owed to a business by its customers for goods or services that have been delivered but not yet paid for. These amounts are typically recorded as short-term assets on the company’s balance sheet because they’re expected to be collected within a year.
Businesses must effectively manage their AR process to maintain cash flow—that is, to stay liquid enough to meet their financial obligations and fund their operations.
What is the accounts receivable process?
The accounts receivable process includes the following general steps:
- Invoicing: The company issues an invoice to the customer after it has delivered its goods or services.
- Tracking: The company monitors their outstanding invoice to ensure the customer meets payment terms.
- Collections: If the payment doesn’t arrive on time, the organization’s accounting department will follow up with the customer.
- Payment receipt: Once the customer pays, the transaction is recorded.
- Reconciliation: Accountants, bookkeepers, or financial assistants match the payment with its corresponding invoice, then update their books (i.e., their balance sheet or accrual statements) to reflect the balance owed.
Why is the accounts receivable process important?
Proper accounts receivable management is critical for a small business to stay financially afloat. It enables the business to collect payments promptly for the goods and services it has rendered.
Late payments can lead to cash flow shortages, affecting a company’s ability to pay its bills, invest in growth, or meet financial obligations. On the other hand, promptly collecting payments will keep the business running smoothly and help it avoid debt accumulation.
By improving its AR process, an organization can accelerate its cash inflows, reduce outstanding balances, and maintain financial stability, leading to a healthier bottom line and improved liquidity.
The accounts receivable process
The AR process can be broken down into multiple steps.
Step 1: Receive an order
The accounts receivable process begins when a company receives an order from a customer. It generates a contract (called a “purchase order”) explaining which goods or services will be provided and at what price. Both the business and the customer sign the contract, formalizing the agreement and setting the terms for payment and delivery.
Step 2: Approve the customer's credit
Next, the business should consider the customer's creditworthiness, especially if it's a large contract, to help mitigate non-payment risk. The credit application process usually includes reviewing the client’s financial statements, credit reports, and past payment history.
A clear credit policy helps provide consistent guidelines for approving or denying credit, protecting the business from potential defaults while supporting healthy customer relationships.
Step 3: Create and send the invoice
An organization’s accounting team will then create an invoice that accurately details the products or services it has provided the customer, along with the payment terms, due date, and applicable taxes. Confirming this information can help prevent payment delays.
Many businesses still use physical methods to send invoices digitally for faster processing. Accounts receivable automation tools can make this process more efficient and reduce human error, improving the company’s cash flow.
Step 4: Track the payment
At this point, companies must monitor the status of their outstanding invoices. For example, are they paid, unpaid, partially paid, or overdue? Accounting software and AR management tools can help automate tracking, send reminders, and flag overdue payments.
Step 5: Collect the payment
Many businesses offer multiple payment methods to make things more convenient for their customers, including:
- Bank transfers
- Online credit card payments
- Checks
Some payment collection strategies, like sending automated reminders, can help ensure timely payments. If issues do arise, like disputes or late payments, it’s advisable for companies to proactively follow up with their customers to resolve them. A thoughtful, organized, and efficient collections process will increase client satisfaction and likely reduce outstanding balances.
Handling disputes and late payments
A payment automation platform can streamline the process of effectively managing overdue invoices. Instead of relying solely on manual follow-ups, tools like WisePay automate the process by sending polite yet firm reminders to clients about late payments. This eliminates the need for accounting teams to manually track and chase overdue invoices, saving valuable time.
WisePay ensures that late payment reminders, recurring invoices, and follow-ups are automated, providing consistent communication without human intervention. This accelerates cash flow and reduces the risk of human error in invoice management. Additionally, these platforms can integrate with accounting and business management tools, offering a seamless way to manage payments and maintain accurate records.
Automating these processes for businesses seeking to build trust and efficiency minimizes disputes related to invoice errors by ensuring transparency and timely communication.
Writing off uncollectible debt
When all collection attempts have failed, companies can write off the unpaid receivable as bad debt. To determine when write-offs are appropriate, companies should establish clear guidelines in line with industry standards, such as payment size or time elapsed.
Furthermore, they should document all attempts to collect and adjust their financial records accordingly to reflect the loss while learning from the experience.
Step 6: Reconcile and report
Finally, organizations must match their incoming payments to their corresponding invoices to keep their records accurate and resolve discrepancies. All businesses should maintain detailed records of their transactions for financial reporting and auditing purposes.
Regularly reconciling one’s books makes it easier to spot errors, track payment trends, and generate accurate financial statements to support high-level decision-making and compliance with accounting standards.
Key performance indicators for the accounts receivable process
Businesses that track specific key performance indicators (KPIs) are better positioned to assess and optimize their AR processes. KPIs provide insights into the efficiency and effectiveness of AR and invoice management, helping finance teams identify areas for improvement so they can improve their cash flow.
Common KPIs include:
- Collections efficiency index (CEI): Measures success in collecting receivables.
- Days sales outstanding (DSO): Tracks the average collection period.
- Reduction in bad debt: Monitors decrease in uncollectible accounts.
- Open AR percentages: This represents the proportion of outstanding AR to gauge progress in closing unpaid invoices.
- AR turnover ratio: Assesses how efficiently a company collects customer payments over a specific period.
Beyond these metrics, other accounts receivable best practices businesses often follow include invoicing clients promptly to prevent delays and keeping accurate records to track payments, help resolve disputes, and prepare for audits.
Common challenges in the accounts receivable process
Organizations frequently face challenges in their AR processes that, left unaddressed, can disrupt their cash flow and strain client relationships.
Too many manual steps
When AR processes incorporate too many manual steps, this can lead to invoice and record errors, which can delay invoicing, payment collection, and processing. These inefficiencies waste time, slow cash flow, and frustrate clients and staff—not to mention the burden these tedious data entry tasks place on the team.
Implementing effective accounts receivable processes incorporating automation tools improves accuracy, speeds up collections, and boosts efficiency. Time is money; improved speed and efficiency can positively impact a business’s bottom line.
Only processing checks
Historically, many businesses only accepted payments via check. Unfortunately, this reliance can cause delays in cash flow realization, as payments take longer to deposit and process. Frequent trips to the bank and manual handling also increase the risk of mistakes and can compromise fraud prevention efforts.
Expanding payment options by offering electronic transfers or credit card payments enhances security and speeds up processing, ultimately making the AR process more streamlined.
How to make the accounts receivable process more efficient
A streamlined AR process is the key to faster payments and better cash flow management. The best practices below will help small businesses eliminate errors, maximize client convenience, and produce a more reliable and scalable AR system.
Implement automation tools
Automation tools automatically generate and send invoices, track payments, and update records in real-time. What are the resulting benefits for businesses?
- Faster invoicing and collections
- More accurate record-keeping
- Advanced reporting and analytics for improved decision-making
With automated AR systems in place, customers also usually enjoy a more seamless experience, increasing the likelihood of on-time payments. Additionally, automation saves time and cuts costs by reducing manual errors and administrative workload.
Accept online payments
Using payment automation software to accept online payments enables businesses to instantly process credit card payments, ACH transactions, and wire transfers. This real-time payment processing improves cash flow visibility so companies can access funds quicker than they would while waiting for checks to clear.
Recurring invoices that are paid automatically are just plain easier and faster, eliminating the need for manual intervention. Accounting teams no longer need to make trips to the bank, while customers benefit from a more convenient and secure way to pay. Additionally, online payments can help eliminate business and customer risks.
Automate your entire accounts receivable process with WisePay
Small businesses can greatly benefit from investing in AR automation tools like WisePay. By automating key functions, WisePay streamlines invoicing, accelerates payment collection, and maximizes accuracy across the entire accounts receivable process.
Using the platform, companies can achieve more consistent cash flow, gain quicker access to funds, and minimize errors that could disrupt client relationships or business operations.
WisePay also dramatically improves the customer experience by offering clients multiple convenient payment options, resulting in more timely payments. Additionally, it integrates seamlessly with existing systems, streamlining workflows and boosting efficiency.
Ready to optimize your AR process? Learn more about improving your accounts receivable process with WisePay.
