What are trade receivables? (Definitions and tips)

By Indeed Editorial Team

Published 4 June 2022

The Indeed Editorial Team comprises a diverse and talented team of writers, researchers and subject matter experts equipped with Indeed's data and insights to deliver useful tips to help guide your career journey.

Ensuring a business is tracking trade receivables is a vital part of maintaining its wider cash flow and finances. Understanding the situation around a company's trade receivables improves wider business performance while also improving business liquidity. If you're in an account or finance team, learning how trade receivables affect a business's day-to-day can make you more effective in your role. In this article, we answer ‘What are trade receivables?' with an example and explore how they're calculated and how you can manage the number of trade receivables you have at one time.

What are trade receivables?

Answering 'What are trade receivables?' is simple. Trade receivables are how much money a business has billed for services or products not paid for by the recipient. A business tracks the number of trade receivables they have at one time using invoices that make up the wider financial reporting. From this data, the credit-control, accounts or finance department of an organisation identifies the payments that are overdue and chases them for payment. This allows a business to maintain a consistent cash flow and improves its financial reporting.

Related: Complete Guide: What Is Accounts Receivable

Why are trade receivables important?

Companies track their trade receivables so that they have a better understanding of their finances at any given time. For certain businesses, especially small-to-medium companies, this is invaluable because they might not have large amounts of money to support their lack of income. SMEs are also typically more affected by missed payments, as they rely on these more intensely than larger companies with more clients and customers. Trade receivables, such as invoices, provide regular clients with the opportunity to buy the products or services of a business on credit and pay them at a later date.

Formula for determining trade receivables

Calculating trade receivables is a relatively simple process and requires the use of a formula:

Trade receivables = company/individual that owes money + outstanding date-specific bills

To calculate the trade receivables, a company evaluates its balance sheet, identifies any debtors and then adds any bills receivables. There are other options for determining the timescale for a debtor settling their payments with a company, which uses a slightly different formula:

Trade receivable timeline: debtors/cash flow x 36

How to reduce trade receivables

There are various ways a business can reduce the number of trade receivables they have and the amount of outstanding money within the company balance sheet. The simplest way of reducing the number of trade receivables is by encouraging customers to pay the invoice as soon as they receive the service, but this isn't always possible. Some other tips that may help include:

1. Send invoices immediately

By sending an invoice immediately after you meet service obligations, you likely avoid any payment delays from the customer. This is because it's still in their mind and a natural time to expect the invoice. In most cases, it's advisable to send the invoice within 48 hours to maximise the chance of it being paid immediately.

Related: Operating cash flow: definition, types and benefits

2. Set terms of payment before the project

A business that has a clear outline of when they expect payment for delivering a service or a product is more likely to ensure the payment of invoices in a prompt manner. Many companies label their invoices with ‘due upon receipt' which demonstrates to customers that their payment is due as soon as they get the invoice. This is usually the best option when working with a customer on a project or providing specific services, as setting guidelines early ensures they're followed throughout the project.

3. Use a deposit model on any big orders

If you're working on a large project or a bigger order, you may wish to ask a customer to place a deposit prior to the goods or services being provided. This improves the liquidity of an organisation as it provides instant access to a sum of the funds before delivery. Likewise, a business is more likely to pay the remaining sum quickly if they've already put down a deposit. For some businesses, offering extra time to pay following delivery is a vital part of their business plan, which necessitates the use of deposits.

4. Follow up on overdue payments

If you find yourself in a situation where you have clients or customers that aren't making payments, have an immediate action plan in place. This may range in severity depending on how long the payment is overdue. Some businesses begin with reminder emails, followed up by a direct message to the client or customer. A more serious method is through the use of a collection agency, especially those that specialise in collecting payments for goods or services. Remember that many of these services require a fee in exchange for collecting the payment.

Related: What is cash flow and why is it important for businesses?

5. Use early payment discounts

Depending on the size of the business and the importance of receiving the full amount, you may choose to use early payment discounts. Some businesses offer small discounts for paying before a deadline of their choosing, which can incentivise customers to pay quickly and early. This is useful for businesses that aren't necessarily reliant on each and every customer paying the full amount but want as much consistent cash flow as possible. You can apply this method to many businesses across multiple industries.

6. Leverage technology

A simple tip is to ensure that all communications with a customer happen through email. This is a much quicker way of sending and receiving invoices, especially when most people can access their inboxes with their smartphones. Another platform to consider includes automated invoicing, which can send both initial invoices and reminders through without you having to manually spend time writing them up. Try to chase trade receivables in a way that uses the least amount of resources possible to save money and time.

Related: A guide to resource management (plus skills and duties)

What is a non trade receivable vs a trade receivable?

Nontrade receivables represent income that a business receives that isn't a part of any regular activity within the business. While trade receivables require a receipt, nontrade receivables do not. Nontrade receivables still count as current assets, though they can enter the noncurrent category if payment is likely to be longer than 12 months. The most common form of nontrade receivables include:

  • any element of employee wages that the company pays further in advance

  • any employee loans that the company has outstanding

  • any loan interest payments accrued on anything issued by the company

  • any insurance claims the business makes over time

How can trade receivables be useful to a company?

While it's desirable for a business to settle trade receivables as quickly as possible, a business can use outstanding receivables to their advantage, They provide the following benefits:

Define a credit practice

A credit management team within a business usually determines whether the company is going to provide a credit line to a customer. They achieve this by evaluating buying habits and deciding if they count as a repeat customer. If the business does decide to extend a credit line to a specific customer, they use official documentation to outline the terms. Trade receivables help a business understand who repeat customers are and allow the company to offer credit. Depending on the size of the business, a smaller company may offer smaller time frames.

Sale closures

While trade receivables bring a degree of risk, they allow businesses to close more sales of products or services. This is useful when working alongside long-term or loyal customers as it provides more brand advocacy. If a customer can't pay for a product upfront, the option for credit provides more flexibility and improves the chance of earning a sale.

Calculating trade receivables example

The following is an example of a trade receivable:

GymEquipment Ltd, a lifestyle and fitness brand that sells gym equipment, has £50,000 of overdue payments on its balance sheet. This is from customers who have bought gym equipment but haven't yet paid for it. They also have £10,000 worth of bills receivables, which are payments from customers that bought gym equipment and specified a date that they'd pay. Each year, the company turns over £100,000. The trade receivables that they have outstanding include:

£50,000 + £10,000 = £60,000

Using the second formula, they can determine roughly when the company can expect to receive the payment for any of the goods they provided. They use the following formula:

£60,000 / 100,000 x 365 = 219

This means that, on average, GymEquipment Ltd takes 219 days on average to collect on a payment. With this information, the company can now start to consider if this is sustainable and what they need to do to improve their payment process.

Please note that none of the companies, institutions or organisations mentioned in this article are affiliated with Indeed.

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