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Accounts Payable

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Accounts payable are obligations due to trade creditors. Let's say a company buys widgets for its inventory for $50. The inventory (or similarly named) account increases by $50 and the accounts payable account increases by $50. When the creditor is paid, the cash account decreases by $50 and accounts payable decreases by $50, eliminating the accounts payable for this obligation. Since a company continually incurs new debts, however, new accounts payable are continually created. The balance in the accounts payable account is listed at or near the top of the current (or short-term) liabilities section of the balance sheet, because it is among the most immediate cash obligations of the firm. All other factors held equal, investors should be suspicious of a substantial rise in accounts payable, as well as rising accounts payable vis-a-vis inventories. As a rule of thumb, a current ratio (current assets/current liabilities) of 1.5 or 2 to 1 indicates a company that has sufficient funds to pay its accounts payable on a timely basis.

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