Why business runs on promises, not cash
In the previous guide you settled the hardest timing question in accounting: a sale counts as revenue when it is *earned* — when the goods are delivered or the service performed — not when the cash shows up. That single idea has a consequence we now have to face squarely. If earning and collecting are separate events, then a company can fully earn a sale today and still be holding nothing but a customer's promise to pay later. This guide is about what happens to that promise, because in the real world of business-to-business trade, it is the rule, not the exception.
Think about how a supermarket buys its bread. It does not send a courier with a briefcase of cash every morning; the bakery delivers the loaves and sends an [[invoice|invoice]] that says 'pay us by the end of the month.' Multiply that across every wholesaler, parts supplier, ad agency, and law firm, and you see why selling on credit — handing over the goods now and trusting the customer to pay within a set window — is simply how commerce between businesses works. Demanding cash up front from a reliable corporate buyer would be insulting, slow, and a fast way to lose the sale to a competitor who offers easier terms.
Credit, then, is partly a courtesy and partly a competitive weapon. Offering generous payment terms can win business, but it has a cost we will trace through this whole guide: the seller becomes, in effect, a short-term lender to its customers. The money it has earned is real, but it is locked up in promises rather than sitting in the bank — and some of those promises, inevitably, will be broken. Understanding receivables is really about taking that bargain seriously.
The receivable: an asset made of a promise
When you sell on credit, the customer's promise to pay is itself worth recording, because a legal claim to collect cash is a genuine economic resource. That claim is [[accounts-receivable|accounts receivable]] — the money your customers owe you for goods or services already delivered — and it lands on the balance sheet as an [[asset|asset]]. Crucially, you record it at the *same moment* you record the revenue, not later. The sale and the receivable are two halves of one event: you give up goods, and in return you gain a claim.
Jun 1 Sold parts on credit for 8,000
Dr Accounts receivable .... 8,000 <- asset: a claim to cash
Cr Revenue ................. 8,000 <- earned now (delivered)
Jun 30 Customer pays the bill
Dr Cash ................... 8,000 <- one asset...
Cr Accounts receivable .... 8,000 <- ...replaces another
Total assets DON'T jump twice: the sale lifted assets once (Jun 1);
collection just changed a receivable into cash (Jun 30).Because most customers pay within thirty to ninety days, receivables are short-lived and sit among [[current-asset|current assets]], just below cash in the balance sheet's order of nearness-to-cash. They are, in a sense, cash-in-waiting. But here is the trap, and it is the same one that haunted the income statement: a receivable is *not* the same as cash in hand. A business can look richly profitable and still gasp for cash if too much of what it earned is tied up in promises that customers are slow to honour — or never will. 'Earnings' you cannot spend do not pay the rent.
Reading the fine print: terms, net 30, and discounts
Selling on credit is not a vague 'pay me sometime' — the seller spells out the rules, and these are the [[credit-terms-and-discounts|credit terms]]. The simplest is *net 30*: the full ('net') amount is due within 30 days of the invoice. Net 60 just stretches the deadline to sixty days. The number after 'net' is the trust window: the longer it is, the more sales it may win, but the longer the seller's cash stays locked in someone else's hands.
To pull cash in faster, sellers often dangle an early-payment reward, written in the famous shorthand *2/10, n/30*. It reads: take a 2% discount if you pay within 10 days; otherwise the whole amount is due in 30. On a 5,000 invoice, a customer who pays inside ten days sends 5,000 − 100 = 4,900; one who waits owes the full 5,000. This early-payment cut is a cash discount, and it does get recorded — the seller collects a little less, the buyer pays a little less. It looks tiny, but pause on the math: 2% to pay just 20 days early works out to roughly a 37% annualized return, which is why finance-savvy buyers almost always take it.
There is a second kind of discount that behaves completely differently, and confusing the two is a classic slip. A trade discount is a reduction off the published list price — a wholesaler's 30%-off price for resellers, say — given *before* the sale is recorded. Because it is baked into the agreed price from the start, it never appears in the accounts at all: you simply book the sale at the discounted figure. The rule of thumb is clean: a trade discount is invisible to the ledger (it just sets the price); a cash discount for paying early is visible (it changes what gets collected after the sale is on the books).
Sorting the promises by age: the aging schedule
Once a company has hundreds of receivables, it needs a way to see which ones are healthy and which are turning sour. The instinct comes from everyday life: a debt a friend owes you from last week barely worries you, but one from a year ago — where they have stopped answering your calls — feels nearly hopeless. The older a debt, the less likely it is ever to be paid. The [[aging-of-receivables|aging schedule]] turns that instinct into a tool, sorting every unpaid customer balance by how long it has been outstanding.
The schedule drops each balance into time buckets — not yet due, 1–30 days late, 31–60, 61–90, over 90 — and applies a loss rate to each, steeper for the older buckets. Suppose a firm has 80,000 not yet due (estimated 1% will go bad), 15,000 that is 31–60 days late (10% bad), and 5,000 over 90 days (50% bad). The expected uncollectible total is 800 + 1,500 + 2,500 = 4,800. That figure feeds directly into the bad-debt estimate you will meet in the next guides — it is the most accurate way to size that estimate, because it ties it to the actual condition of each receivable rather than a single blanket guess.
But the aging schedule earns its keep long before any accounting estimate. It is one of the most useful management tools in the whole business: it spotlights slow payers, flags accounts drifting toward default while there is still time to act, and tells the credit team exactly whom to chase first. A receivable creeping from the 31–60 bucket into the over-90 column is a quiet alarm bell — the kind a wise manager listens for before it becomes a write-off.
Gross versus net: the honest number on the balance sheet
Now we can close the loop. Suppose your ledger shows 100,000 of receivables — every dollar you have billed and not yet collected. That total is your gross receivables. But if your aging schedule honestly says about 4,000 of it will never arrive, then reporting the full 100,000 as an asset would be wishful thinking; it would tell readers you own more cash-to-come than you really do. So you carry the receivables at the realistic figure instead: 100,000 − 4,000 = 96,000. That is the [[net-realizable-value-receivables|net realizable value]] — net receivables — and it is the number that actually appears on the balance sheet.
The gap between the two — that 4,000 — sits in a companion account called the allowance for doubtful accounts, a 'contra-asset' that quietly subtracts from gross receivables to produce the net figure. You don't yet need its mechanics; that is the heart of the next two guides. What matters here is the shape of the idea: gross is everything you are owed, net is everything you realistically expect to collect, and the second is always the more trustworthy of the two. Reading the gross number as cash-to-come is exactly the over-optimism this whole structure is built to prevent.