Definition: Money that is owed by a person, business or government usually because goods have been acquired or services have been consumed without being paid for. The suppliers of these goods and services send bills for the amounts of the purchases. The bills represents a liability, money that is owed.Example: TGI Thursdays restaurant has a landscaping company visit once per week and cut the grass, clear the planting beds of weeds, and trim the shrubs. The agreed-upon cost of the service is $100. The landscaping company leaves an invoice (the formal name for a bill) with the manager. The bill represents a liability, money that is owed, to TGI.
Investeach explains: It is OK for businesses to have liabilities as long as they have the ability to pay. One way to measure a corporation’s ability to pay is to compare the amount of liabilities that have to be paid soon (ie, Current Liabilities) to the amount of Current Assets (ie, Cash and Assets it expects to turn into cash soon). As long as current assets are larger than current liabilities, the company should be able to pay its bills.
When the landscaping company leaves an invoice, it is giving TGI Thursdays “credit” for being able to pay its bills. This also allows TGI to better manage its money because its managers do not have to keep cash in their pockets to pay for goods and services at the time they’re provided.
Finally, one important measure of how well a business is doing is how quickly it pays its bills. If a company that usually pays all its bills within 30 days now requires 60 or even 90 days to pay them, the most likely reason is that the company is not generating enough sales. If the trend continues, the company may fail, leaving behind many suppliers it owes money to.
Riddle me this:
1. How do people, businesses and governments wind up with liabilities?
2. What is an advantage of being given credit by a supplier?
3. What is a sure-fire sign that a business is beginning to fail?
4. If you were a supplier, why wouldn’t you want any one customer to owe you a lot of money?