How Does an Account Payable Arise With a Vendor?

Accounts payable (AP) represents a company’s short-term financial obligations, specifically money owed to suppliers or vendors for goods or services obtained on credit. These amounts are typically due within a short period, such as 30 or 60 days. Understanding how these liabilities come into existence is important for managing a business’s finances. The process involves several distinct steps, from the initial decision to purchase to the formal recognition of the debt.

Initiating a Vendor Relationship

A business identifies a need for specific goods or services that an external vendor can provide. This involves researching and selecting a suitable vendor based on factors like price, quality, and reliability. Once a vendor is chosen, a formal communication, known as a purchase order (PO), is created.

A purchase order is a document issued by the buyer to the seller, detailing the types, quantities, and agreed-upon prices for the products or services required. This document serves as a clear record of the buyer’s intent and commitment to a purchase. While a purchase order signifies a contractual agreement for future delivery and payment, it initiates the transaction that will eventually lead to an accounts payable.

Receiving Goods or Services

Following the issuance of a purchase order, the vendor delivers the goods or completes the services. The purchasing company verifies that the received items or completed services align with the initial order. This verification ensures that the correct quantity, quality, and specifications have been met.

To formally document this receipt, a “receiving report” is generated. This report confirms the successful delivery or completion. The receiving report validates that the vendor has performed their part of the agreement. However, the accounts payable liability has not yet been formally recognized on the company’s financial records.

The Vendor Invoice

An accounts payable truly begins to arise upon receipt of the vendor invoice. After delivering the goods or completing the services, the vendor issues this document to the buyer. The invoice serves as a formal request for payment for the products or services provided.

A vendor invoice typically includes an invoice number, the date it was issued, detailed information about both the vendor and the buyer, and an itemized list of the goods or services, including quantities and unit prices. It also clearly states the total amount due and the payment terms, such as “Net 30” days, indicating the period within which payment is expected.

Recording the Liability

Once the vendor invoice is received, the company’s internal accounting process formally recognizes the liability. A common practice to ensure accuracy and legitimacy before payment is the “three-way match.” This process involves comparing the purchase order, the receiving report, and the vendor invoice to confirm that all three documents align in terms of items, quantities, and prices.

This verification step helps prevent errors, duplicate payments, or fraudulent invoices. After the three-way match is completed and the invoice is approved, the transaction is recorded in the company’s accounting system. This involves debiting an appropriate expense or asset account and crediting the Accounts Payable account in the general ledger, formally establishing the debt on the company’s books.