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Account Payable

Payable Control System – How To Manage Payables



You must ensure that a well-managed accounts payable system is in operation. Any warning signs of problems with payables must be identified and solved. The control of the cash that leaves the company is as important as controlling the cash that comes in. To achieve control, payables must be aggressively managed in accordance with the company’s financial position and goals. Payment of bills must not be simply made but planned. Above all, payables must be viewed as a flexible system that you can manipulate in response to other factors such as sales decreases or slowdowns in collections.



Account Payable Control System

A well-managed accounts payable system should:

Evaluate Cash Flow – Every accounts payable strategy should be rooted in the realities of the company’s cash flow status. For example, if it takes 90 days to collect from customers, it is financially self-destructive to pay bills within 45 days. How long does it take dollars spent to be replaced? You should monitor the cash-to-cash cycle representing the length of time elapsing from the expenditure of dollars on inventory to the receipt of cash from sales. Take, for instance, a retailer who buys a product on January 1 and pays for it on January 30; it takes the retailer 60 days from that point to sell that product (which brings the retailer to March 31) and 45 days after that to collect the cash (May 15). The cash-to-cash cycle adds up to 105 days, which is the length of time the retailer is behind after expending the cash.

Set goals – Once cash flow has been appraised, establish written payment goals so there can be no confusion among bill payers. Avoid a situation in which staff makes the decisions about which bills are to be paid and when—usually suppliers who complain the most are paid first, regardless of overall benefit to the business. The payment of bills should be timed to coordinate exactly with formal disbursement goals. This means checks should be dated no earlier than the dates upon which payments are due (and suppliers should receive checks no more than a day or two earlier than the due date). The goal should be to hold cash in interest-bearing accounts until the last possible minute in which payments must be made and still maintain good relations with suppliers.

Establish payment priorities – It is advisable to establish a two-tiered list of payment priorities, which then becomes part of the formal payment strategy. Tier one, the group that should be paid at all costs and at whatever terms have been agreed upon, should include major vendors and service suppliers, bankers, and the government tax authorities. Tier two, which offers more room for short-term maneuvering during cash flow crunches, should consist of minor suppliers whose goodwill is less vital to the overall well-being of the company. Payment priorities should be in writing.

Aggressively negotiate payment – Granted, there is not much room for negotiation with bankers or tax collectors, but once they are taken care of, everything else on the payables front is open for discussion. You have leverage to negotiate better-than-usual terms from major suppliers, especially during recessionary times, when vendors are afraid of losing business. Determine the optimal payment terms (using the cash-to-cash or other cash flow information as a guide) then when orders are placed, not when bills become due or overdue, negotiate to achieve those terms.

Forecast cash needs – You should predict how much cash is needed—and when—to fulfill the payables obligations. That forecast becomes an important tool in averting cash flow problems. Will funds be available at the right time from bank accounts or bank credit lines? If funds will not be available, take precautionary measures such as stepping up customer collection efforts.

Keep good payables records – Payable records include weekly updates about the aging of every outstanding bill; documentation that matches each bill paid with its original sales order, delivery records, and payment invoice; and total cost records, including interest penalties paid on each bill. The last is important because it may not be evident how much it adds to the cost of doing business when the company winds up having to pay interest charges to finance late payables. Review payables records regularly. Payables reports are as important as other cash flow documents and must be evaluated. Review payables—aging schedules—weekly; cost records can be appraised monthly.

Recognize warning signs – Since cash flow cycles vary, there may be periods when payables get stretched without any long-term risk. But it is essential to spot indications of more serious problems. One approach is to draw up a ‘‘payables problems’’ checklist, which breaks down average bill age, promptness of tax payments, any interest charges and other warning factors.

Paying the right amount – Payments should be made in accordance with purchase order terms and discounts taken where allowed. Payments should only be made against the original invoice to prevent a duplicate payment against a photocopy or summary statement. Match all vendor invoices against receiving reports and purchase orders.


Considerations To Take In Managing Payables

Sound management of accounts payables takes into account the following:

Prioritize – Financial obligations fall into three categories: the bills to be paid as soon as they are due (wages and salaries, bank loans, and taxes), bills to be paid within 15 days (to important contractors for services already performed), and bills you try to pay within 30 days (all others). As your business begins to feel the recessionary pinch, try to stretch that third category out longer. In looking at cash flow, accounts payable are something that you have some control over—and suppliers can be ‘‘played with’’ if needed.

Negotiate – Negotiate longer payment terms in advance, although the process can be time consuming. Contact major vendors to ask when they absolutely have to have their money. This information should then get recorded in each vendor’s accounts payable file. It sets the guidelines for payment of all major outstanding obligations. With smaller suppliers, however, there may not be much potential payoff from stretching out payments.

Monitor payables closely – Each week analyze an accounts payable aging schedule along with other cash flow documents. As a last resort, the company should use its credit line to make payments if cash collections from customers are behind schedule.

Demonstrate good faith – When money does not come in, the company is in a jam. One possible solution: Pay only absolute essentials, such as salaries, rent, taxes, and loans. These expenditures cannot be delayed. Suppliers are more tolerant and flexible since they need the business. However, try to pay more to the demanding vendors and less to those more likely to wait. A partial payment shows vendors that the company is trying to pay them. Do not just send the money—get on the phone and explain what is happening and why and set up an informal payment schedule. Let the vendors know when they can expect to receive the balance due. A follow-up letter should confirm the telephone conversation.


3 Typical Symptoms Of Account Payable Problems

Some typical symptoms of accounts payable problems are:

Aged payables – Chances are that the company is heading for trouble when bills start becoming, on average, 45 to 60 days past due. (The only exception: bills whose issuers have approved late payment terms without interest penalties, at the time of order).

Interest penalties – Do not box yourself in by paying interest charges on overdue bills—unless there are clear financial benefits from using funds elsewhere. Once the company is paying penalties to even a few vendors on a regular monthly basis, it is in trouble. Instead, approach creditors with a workout plan that will reduce or perhaps eliminate interest charges.

Hassles from creditors – Make it a habit to communicate informally with creditors whenever there is a developing cash crunch. Creditors are typically understanding if the company has good intentions and is honest.


Information You Should Obtain From Vendors

Money can be saved by getting to know the policies of vendors and suppliers. Probe them for the best prices and terms. Ask open-ended questions, such as ‘‘What else can you do for me?’’ Ask vendors to complete an information sheet that forces them to write down the terms and conditions of their sales plans. With this form, their verbal promises become written ones. A list of useful information follows:

[-]. Vendor’s name, address, and phone number (will the vendor accept collect calls? Is there an 800 number?)
[-]. Sales representative’s name, phone number, and qualifications
[-]. Amount of minimum purchase
[-]. Quantity discounts available
[-]. Advertising/promotion allowances
[-]. Availability of extended payment terms
[-]. Financing charge on overdue accounts
[-]. Delivery terms
[-]. Service policies
[-]. Return privileges for damaged goods (who pays the freight?)
[-]. Credit terms (how flexible is it?)

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