Cash comes into your company via payments for services and products, typically related to invoices that you create for your customers. Cash leaves your company in the form of payments to employees and vendors. You can think of this system as a sink with a spigot pouring water (cash from invoices) in with an open drain (the checks to vendors and employees) taking water out at the bottom. Your cash flow is determined by how well you manage the spigot on the cash coming in and the drain on the cash going out – right? If the drain sucks cash out the bottom quicker that the spigot fills the sink, well, this is called a cash negative situation. As we all know, this is not the fun part of running a business. Using your accounts payable function is a critical part of managing the outflow part of the equation to prevent a cash negative situation.
If your first thought after reading the title above was, “What?” then you are most likely not using the Accounts Payable function for tracking and paying your bills. A short quiz will reveal your mode of operations:
|Is there a stack of bills that have not been entered into your accounting system sitting on a desk or in a folder?|
|Does that pile look pretty scary or at least disorganized?|
|Do you know what’s in that pile and what the total amount due is?|
|Do you know how much cash you need in the bank to pay those bills?|
|Do you know when you need the cash and which bills need to be paid first?|
|Do you write checks directly from your cash register in your accounting system or manually for later entry when paying bills?|
|KEY: If you answered Y,Y,N,N,N,Y or matched any three of the above answers, you are not using your accounts payable function, even if you are doing the correct data entry.|
So, what does it mean to use Accounts Payable to pay bills and why is this such an important step in creating a company that thrives?
When you use your accounts payable function, all bills are entered into your accounting system as they arrive, entering the bill’s date and due date as well as other relevant info such as what the bill is for, the vendor’s reference numbers etc.. In this way, you have the ability to run a report with the total of what bills are outstanding, when they are due and, most importantly, when you need to have cash in the bank to pay the bills without being late. This also avoids having that scary pile of bills that need to be paid sitting on a desk or in a file. Remember: knowledge is power and freedom for a business owner. Knowing “what is so” about your obligations to vendors and employees allows you to create actionable plans to manage cash flow effectively.
Also, when you use the accounts payable function, this creates a more complete picture of your company’s health. The total for Accounts Payable shows up on your Balance Sheet (if you don’t review your balance sheet regularly, please look for a future article on “Do you review your balance sheet – and if not, why should you?”
Bottom Line: If you aren’t tracking your bills using Accounts Payable, where your cash is going is a mystery – and that’s not the way to make your company thrive.