Go-to Guide on Accounts Payable Process

Your Go-to Guide on the Accounts Payable Process

In the vast world of accounts payables, think of this guide as a crash course (or light refresher) on this important financial topic.

In short, the accounts payable process encompasses the steps a company takes to pay a vendor or supplier for their services or goods. Maybe you’re thinking, “Doesn’t that just mean paying an invoice?” The truth is—it’s not always that simple.

A company’s payable process can include anything from issuing a purchase order (PO) to reconciling and reporting—and everything in between. In this guide, we cover all the steps of the payable process, some common challenges, popular technology that can help overcome those challenges and a few AP-related terms to keep in your back pocket.

What Is the Accounts Payable Process and Why Is It So Important?

The accounts payable process aims to accomplish some significant goals, including:

Paying your vendors and suppliers accurately and on time
Optimizing your company’s cash flow
Ensuring your company complies with industry rules and regulations
Understanding how much you’re really paying for goods and services

These goals are central to your organization’s long-term success and growth. A healthy AP process says a lot about your company’s operational efficiency and reputation as a reliable business partner. The first step in creating a healthy AP process is understanding its nuances.

A Closer Look at the Nuances of Accounts Payable

Accounts payable are considered liabilities—or outstanding debts/obligations owed to a vendor or supplier. Simply put, the “waiting period” between invoice and payment is what creates an account payable. If you agree to pay a vendor in 30 days, this is considered an account payable because you’re in debt to that vendor for 30 days.

Some examples of accounts payable include money owed for:

Services provided by freelancers, contractors and other vendors
Goods from suppliers, including raw materials
Supply chain costs such as transportation, labour, packaging, etc.

This isn’t a comprehensive list, but it gives you an idea of accounts payable’s wide reach.

Steps of the Accounts Payable Process

While the accounts payable process can look very different for companies of various sizes and industries, here’s a high-level look at the typical steps involved.

Receive vendor invoice
Confirm invoice accuracy
Enter invoice details into an enterprise resource planning (ERP) platform or accounting software (such as QuickBooks Online, Sage, Xero and the like)
Get invoice and payment approval from all necessary approvers
Schedule payment according to the invoice terms
Pay the invoice on time
Update accounting records to reflect payment (this is called payment reconciliation, which we’ll discuss more in a later section)

Keep in mind that these steps provide a general overview. A company may have simpler or more complex steps, and they may choose to streamline some of them using financial technology like AP automation.

What Is the Full Cycle of Accounts Payable?

The term “full cycle accounts payable” extends beyond the steps above. It starts when a vendor accepts the company’s purchase order (PO), a formal document sent to the vendor that specifies the items, quantity, service, prices, terms (and more) for a purchase.

Full cycle accounts payable includes all the steps listed above and ends with creating and maintaining any records related to the transaction. This means that the accounts payable process can include anything from issuing a purchase order (PO) to maintaining records. These duties might also involve other related responsibilities, such as:

Maintaining vendor relationships
Generating monthly reports
Archiving records
Identifying and addressing inefficiencies
Troubleshooting AP automation software
Resolving invoice discrepancies
And more

Common Challenges in the AP Process

As you can see, full cycle accounts payable has several (often complex) steps, which can be a recipe for challenges—especially when carried out manually. We’ve outlined a few common issues below.

Mistakes: The payable process can involve hundreds of invoices and tedious data entry. If your company follows a manual AP process (think pen and paper)—it can be a magnet for mistakes. This can lead to compliance issues, a messy workflow and unhappy vendors.
Bottlenecks: The AP process can involve multiple individual roles and rounds of approvals. A manual process can lead to bottlenecks if the invoice gets lost in a stack of files—or an inbox.
Miscommunication: If you’re not using a digital, centralized platform (like an AP automation solution) it can be hard to keep all participants on the same page. One person might think that payment has been issued if their role is complete—when there’s actually a roadblock preventing payment. Another example is if you’ve completed the payment, but the vendor hasn’t received notice or the payment itself.
Matching: Whether it’s matching the invoice to the purchase order (PO) or matching the payment to the accounting records, the payable process involves a lot of matching. This can get messy when juggling hundreds of invoices, partial payments and multiple complex steps.
Duplicates: It can be challenging to identify duplicate invoices manually, but accounting software and AP automation can help flag them digitally.
Fraud: With so many invoices, steps and people involved in the AP process, it can lead to unsteady internal controls. This can open the door for fraudulent activities, from cheque tampering to billing schemes.
Limitations: Some vendors may only accept certain types of payments, like paper cheques. If you don’t use AP automation, you might be required to comply with these payment limitations.
Costs: The manual AP process can involve bottlenecks, waiting for sufficient funds, processing delays, mistakes, paper cheques and tedious work. These issues can lead to wasted time, high labour costs, printing expenses, cash flow disruptions and late payment fees.
Dissatisfaction: If your AP process often leads to late payments, this can cause tension between you and your vendors or suppliers. These partners are crucial to your company’s operations, so keeping them happy is important.

As mentioned above, many companies have turned to technology to limit these challenges by digitizing and streamlining some (or all) steps of their AP processes.

Technology and Automation Opportunities in Accounts Payable

Whether you’re just looking to digitize your physical accounting books or automate your entire payable process, there are many opportunities to use financial technology (fintech) to streamline your company’s financial processes. Here are a few common ones.

Accounting Software

Platforms like QuickBooks, Xero and Sage can make it much easier to track your financial data in real time, generate reports, help team members collaborate and so much more.

Accounts Payable Automation

Products like RBC PayEdge can digitize and centralize your AP process, simplify approvals, pull funds from various sources and integrate with your accounting software for easier payment reconciliation. It allows you to push back on manual limitations—with features such as issuing cheque payments funded by multiple sources and paying via Visa and Mastercard credit card for vendors who don’t accept cards.

AP automation can also help you tighten your internal controls by assigning roles and privileges, providing a secure central platform, reducing the opportunity for manual interruptions and providing transparent trails and up-to-date data.

This is just the tip of the iceberg; there are many other benefits of AP automation.

Enterprise Resource Planning (ERP) Software

ERP centralizes all core business processes—from manufacturing to HR. It compiles data from different platforms and departments into one database so everyone can get a bird’s eye view of what’s happening.

Read on for more details about these helpful tools in the next section—and explore tips to support your employees during a digital transformation.

Terms to Know Related to Accounts Payable

The accounts payable process involves a lot of terminology—here’s a brief glossary to help you better understand and navigate it.

2/10 Net 30

2/10 net 30 describes a payment term between a buyer and vendor. It simply means that payment is due 30 days after the invoice is received, but the buyer can receive a 2% discount if they pay the invoice within 10 days. Suppliers may offer a discount like this to receive payments faster for improved cash flow.

Some companies use AP automation to speed up their payable process to meet a 2/10 net 30 agreement whenever possible.

Accounting Software

This is exactly what it sounds like—a digital program to help you carry out financial transactions and processes. Some common examples include QuickBooks Online, Xero, Sage, FreshBooks and modules within Enterprise Resource Planning (ERP) software such as Microsoft Dynamics, SAP and Oracle NetSuite. Accounting and ERP software allow you to keep your transactions, records and accounts in a centralized platform, making it easier to carry out financial tasks, including the accounts payable process.

Many accounting software products also integrate with AP automation platforms, allowing you to further digitize your payable process. RBC PayEdge seamlessly integrates with Sage, Xero and QuickBooks to streamline your AP process.

AP Automation

AP automation is a solution that offers digital workflows to streamline and automate your payable process. An AP automation platform like RBC PayEdge allows you to automatically:

Import outstanding payables from accounting software
Create vendor profiles (noting their payment preferences and terms)
Schedule payments
Route payments to necessary internal approvers
Combine funding sources, such as bank accounts and credit cards, from most Canadian financial institutions
Pay by Mastercard and Visa credit card, even if the vendor doesn’t accept cards
Make global payments in multiple currencies with ease
Issue cheques for vendors who only accept cheque payment
Record payments in your accounting software (reconcile payments)

By introducing these benefits (and potentially more), AP automation can help you cut down on the time, money, paper, mistakes and potential late fees that can appear throughout the payable process.

AP Forecasting

AP forecasting utilizes existing data to predict a company’s future payments to vendors or suppliers. This practice can help a company manage its working capital, cash flow and overall financial health.

AP Turnover Ratio

AP turnover ratio is a way of measuring how fast a company pays its vendors. It’s a type of “liquidity ratio,” meaning it illustrates the company’s ability to pay its obligations in a specific amount of time. To calculate the AP turnover ratio over one year, you’ll need:

The net credit purchases the company has made in one year, which equals the total dollar amount of services or goods purchased on credit—minus any discounts, returns or allowances
The company’s average accounts payable in that same year

AP Turnover Ratio

Net Credit Purchases

Average Accounts Payable

To calculate the company’s average accounts payable:

Average Accounts Payable

(AP Balance as at the beginning of the year

AP Balance as at the end of the year¹)

/ 2

Helpful Note: The AP turnover ratio can also be expressed in days. When done so, it’s called days payable outstanding (DPO), which we’ll discuss below.

Asset

An asset is an item or investment of economic value that a business owns. Assets can range in liquidity, meaning some can be converted to cash quicker than others. Below are some examples of asset types.

Current: These can be converted to cash quickly—within a year and typically include accounts receivable and inventory
Tangible: These are assets you can physically touch, such as products and raw materials
- Fixed: These are a subset of tangible assets that are used in long-term operations to generate revenue; some examples include buildings, equipment and land
Intangible: These are assets that have no physical presence, like trademarks, goodwill and other legal rights
Financial: These include investment products like stocks, guaranteed investment certificates (GICs), mutual funds, etc.

Helpful Note: An asset is the opposite of a liability, which is defined below.

Cash Flow

Cash flow describes the money flowing in and out of a company. This includes the amount of liquid “cash” a business has available to use to pay bills (accounts payable), payroll and more. Cash flow is a key indicator of a company’s financial well-being.

Accounts payable automation with RBC PayEdge can help you manage some cash flow inconsistencies by allowing you to pay vendors via Mastercard and Visa credit card (even if the vendor doesn’t usually accept cards). It also allows you to combine funds from different business deposit accounts and credit cards to avoid waiting for funds from specific accounts.

Days Payable Outstanding (DPO)

Days payable outstanding is the average number of days it takes for a company to pay outstanding vendor invoices. In many ways, it’s a window into the company’s financial health as it’s an indicator of how well the company can increase its cash flow by extending the amount of time prior to paying (while staying within the payment terms).

DPO

Average Accounts Payable

Cost of Goods Sold

Number of Days in the Accounting Period

Cost of goods sold (COGS) is the total amount the company spends to manufacture or acquire its products, including costs like raw materials, labour, utilities and more.

High DPO (compared to the industry average) means a company takes longer to pay its outstanding obligations. This could indicate that the company doesn’t consistently pay its vendors on time, but that might not be the full story. Depending on the industry and situation, it could also mean that the company has better credit terms than its competitors—and more cash on hand for short-term expenses.

Low DPO (compared to the industry average) might mean that a company has worse credit terms than its competitors—or it’s not fully utilizing credit periods offered by its creditors.

Helpful Note: DPO is the AP turnover ratio (explained above)—but expressed in days.

Enterprise Resource Planning (ERP)

Enterprise resource planning is the process of connecting different parts of a business, such as sales, purchasing, human resources, manufacturing, finance, reporting and more. It’s usually done on a digital platform referred to as ERP software—one centralized interface that fuses all the separate systems used by different departments in a large company. This overarching platform compiles data from the individual department-specific platforms into one database, serving as an anchor that keeps everyone on the same page.

Because accounts payable is often considered its own department (or a sub-department within the finance function), you can think of it as one piece of the ERP puzzle. If a company uses AP automation software, it can often integrate with an ERP software to help keep everything streamlined and centralized.

Expense

Expenses are the costs required for a company to operate or generate revenue, including payroll and rent. Expenses get recorded on a company’s income statement.

Helpful Note: Generally speaking, you can think of “expense” as the opposite of “income” (defined below).

Income

Income represents the total money a business makes (also known as revenue) minus the cost of any expenses.

Helpful Note: Generally speaking, you can think of “income” as the opposite of “expense” (defined above).

Liability

A liability is an obligation or debt that a company owes. Liabilities appear on a company’s balance sheet, while expenses appear on a company’s income statement.

Accounts payable is an example of a liability because it conveys a company’s short-term obligations to a vendor.

Helpful Note: A liability is the opposite of an asset, which is defined above.

Net 7 or 10 or 30 or 60 or 90

There are many examples of payment terms between a buyer and supplier. The numbers above refer to the payment being due 7, 10, 30, 60 or 90 days after the invoice is issued. Depending on the relationship between the buyer and supplier there may or may not be an early payment discount.

Payment Reconciliation

Payment reconciliation involves comparing and matching records and transactions to ensure:

The payment has been sent
The payment is accurate
Business records reflect that the accurate payment has been sent

This is a critical step to validate that a company’s internal records (accounting books) match its external records (such as bank statements). Companies can choose to reconcile payments on a daily, weekly or monthly basis.

In the world of accounts payable, payment reconciliation happens after a payment has been sent to the vendor. An AP professional must either manually update the company’s accounting records to reflect this payment—or AP automation software can do it digitally.

RBC PayEdge integrates with accounting software products like Xero, Sage and QuickBooks Online to automate payment reconciliation, updating corresponding entries within the accounting software.

Purchase Order (PO)

A purchase order is a formal document that a buyer sends to a vendor or supplier to start a purchase. It details the specifics of the purchase, such as the type of good or service and the relevant quantities, terms, prices, descriptions and more. The seller can choose to deny the PO, but once they accept it, they are entering into a formal agreement to supply the goods or services.

As mentioned earlier in this article, the full cycle accounts payable process begins once the buyer issues the PO.

Trade Payables

You might see trade payables and accounts payable used interchangeably, but they’re not the same. Trade payables encompass money owed to suppliers and vendors for goods purchased on credit and are considered a specific subset of accounts payable—covering things like raw materials used in production and other inventory costs. Just like other accounts payable subsets, trade payables are considered short-term liabilities until the company pays the vendor or supplier (usually within 30-90 days).

Working Capital

Working capital is the money available to cover your company’s short-term expenses. These are your company’s “on-hand” funds to pay for goods and services that keep your business running. Some example expenses include vendor payments, payroll, utilities and marketing services.

Frequently Asked Questions About the Accounts Payable Process

What is the accounts payable process?

The accounts payable process is a set of actions taken by your company to pay a vendor for a good or service. From a simple invoice payment to a complex payable workflow, the AP process can look different for companies of various sizes and industries. Here’s a quick look at the typical steps of an AP process:

Receive vendor invoice
Confirm invoice accuracy
Enter invoice into accounting software
Get payment approval(s)
Schedule the payment
Pay the invoice
Update accounting records to reflect payment

How does accounts payable relate to invoice management?

Invoice management is a specific part of the accounts payable process. It includes capturing, validating, approving and processing an invoice. The accounts payable process is an overarching process that includes all these steps—and more (like matching purchase orders and updating accounting records).

Is accounts payable a debit or credit?

Accounts payable represent the money your business owes to suppliers or vendors for goods and services you’ve received—but haven’t yet paid for. Accounts payable are always recorded as a credit (aka a liability or obligation to be paid).

When your business makes a purchase, there’s always a matching (or offsetting) debit. Offsetting debits are labeled as an asset or an expense, depending on what you purchased.

For example:

If you purchase inventory (an asset) from a supplier, your inventory/asset account is debited to show that you now own those products.
If you pay for a marketing service (an expense), your expense account is debited, showing that you’ve purchased a service that helps your business run smoothly.

In both cases, the accounts payable account is credited to show that you still owe money for these purchases.

Once you pay for these purchases, your accounts payable and accounting records must show that the debt is now gone. To do so, you make a debit entry to accounts payable—which reduces your owed amount. At the same time, you make a credit entry to cash, because ultimately, you’re spending money to pay for these purchases.

This might seem counterintuitive to what you’re used to in personal everyday banking, where a credit usually represents money going in. (When you hear that your account has been credited $20, it means you’ve received that amount.)

But as you can see, with accounts payable, debits and credits take on different roles. Credits represent an increase in liability, while debits represent a decrease in liability.

Is accounts payable on the balance sheet?

Yes, because accounts payable are considered liabilities, they appear on the balance sheet. This is different from expenses, which appear on an income statement.

What is accounts payable vs accounts receivable?

Accounts payable represent the money your company owes to a vendor for a good or service, while accounts receivable represent the money your company is owed for a good or service it provided to a third party.

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