Accounts Payable (AP)

Key takeaways

• Accounts payable (AP) is a short-term liability representing amounts a company owes suppliers for goods and services purchased on credit.
• AP appears on the balance sheet as a current liability, not on the income statement as an expense.
• Effective AP management improves cash flow, vendor relationships, and working capital.
• Useful metrics include the payables turnover ratio, days payable outstanding (DPO), and the cash conversion cycle (CCC).

What is accounts payable?

Accounts payable (AP), or payables, is the amount a business owes vendors for purchases made on credit. Typical payment terms run 30–90 days. AP acts as short-term, interest-free financing from suppliers and helps conserve cash when managed prudently. However, rising AP can indicate either greater use of vendor credit or potential cash-flow stress if payments are being delayed.

Common payment terms:
* Net 30 — full payment due within 30 days of invoice or delivery.
* “2/10 Net 30” — a 2% discount if paid within 10 days; otherwise full amount due in 30 days.

Examples of accounts payable

Typical AP items include:
* Supplier invoices for raw materials or inventory
Contractor and professional service fees (legal, consulting, accounting)
Subscription and SaaS invoices
Utility bills (electric, water, internet)
Maintenance and repair service invoices

Example: A restaurant receives $2,000 of food on credit with payment due in 30 days. It records $2,000 in AP and can convert those supplies into revenue before paying the supplier.

Role in financial statements

AP is recorded on the balance sheet under current liabilities because it is generally due within one year. Analysts and managers use AP to assess short-term liquidity and working capital. Poorly managed AP (rapid growth without matching revenue or financing) can signal liquidity problems.

Key metrics

Payables turnover ratio

Measures how often a company pays off its suppliers over a year.
Formula:
Payables turnover = Net credit purchases ÷ Average accounts payable

Example:
Net credit purchases = $130,000,000
Beginning AP = $25,000,000; Ending AP = $15,000,000 → Average AP = $20,000,000
Payables turnover = $130,000,000 ÷ $20,000,000 = 6.5 times/year

Days Payable Outstanding (DPO)

Average number of days a company takes to pay its suppliers.
Formula:
DPO = (Average accounts payable ÷ Cost of goods sold) × 365

Example:
Average AP = $15,000,000; COGS = $100,000,000
DPO = ($15,000,000 ÷ $100,000,000) × 365 ≈ 55 days

Cash Conversion Cycle (CCC)

Estimates the number of days between paying for inventory and collecting cash from sales.
Formula:
CCC = Days Inventory Outstanding (DIO) + Days Sales Outstanding (DSO) − DPO

A shorter CCC indicates faster conversion of inventory into cash.

Recording accounts payable (double-entry bookkeeping)

Double-entry bookkeeping requires equal debits and credits for every transaction.

When goods/services are received on credit:
* Debit: Expense or asset account (increases expense or asset)
* Credit: Accounts payable (increases liability)

When the invoice is paid:
* Debit: Accounts payable (decreases liability)
* Credit: Cash (decreases asset)

Example:
Purchase office furniture for $10,000 on credit (45-day terms).
1. On purchase:
* Debit: Furniture (asset) $10,000
* Credit: Accounts payable $10,000
2. On payment 45 days later:
* Debit: Accounts payable $10,000
* Credit: Cash $10,000

Trade payables are the portion of AP related specifically to purchases of goods for production or resale.

Managing accounts payable

Good AP management balances cash preservation with maintaining vendor trust and credit terms. Best practices include:
* Timely invoice processing and approval workflows to avoid late fees
Negotiating favorable terms (extended payment periods or early-payment discounts)
Routine reconciliation of AP ledger and general ledger to catch discrepancies
Monitoring metrics (payables turnover, DPO, CCC) to assess efficiency
Building strong vendor relationships to secure better terms and flexibility

Accounts payable vs. accounts receivable

• Accounts payable: Money the company owes to suppliers — current liability.
• Accounts receivable: Money owed to the company by customers — current asset.
  They are mirror images of the same credit cycle from opposite sides.

Bottom line

Accounts payable is a core element of working capital and short-term financing. Proper recording and active management of AP help optimize cash flow, reduce costs, and maintain healthy supplier relationships — all of which support a company’s overall financial health.