Current Assets

Current assets are a balance sheet item that include cash, cash equivalents, short-term investments, and other assets that will quickly convert to cash.

What are Current Assets?

Current assets include cash and other assets that will likely convert to cash within one year. The most common current assets are cash, cash equivalents, inventory, accounts receivable, and prepaid expenses.
Current assets are an asset account on a company’s balance sheet and often compared against the current liabilities account, a list of short-term obligations.
The conversion of current assets to cash is a vital part of managing a business. In fact, liquidity ratios are a series of financial metrics that look into this aspect of management. Later in this post we will walk through current ratio, quick ratio , and cash ratio to explore this further.

We will also explore the difference between current assets and fixed assets (also called long-term assets). While our examples will focus on a clothing store, the same principles apply to businesses of all types.

Current assets are a balance sheet account. Examples of current assets include cash, cash equivalents, short-term investments, and other assets that convert to cash within one year.

Current Assets Definition

Assets are property owned by companies that have value. Different types of assets have different useful lives. For example, a $5,000 invoice that you expect a customer to pay in 15 days is very different than a $1,000,000 factory.

Current assets include cash and other assets that will likely convert to cash within the operating cycle of the business, which is usually one year.

Examples of current assets include:

  • Cash
  • Cash equivalents
  • Marketable securities
  • Office supplies
  • Inventory
  • Accounts receivable
  • Prepaid expenses

Let’s go into some more detail on each account. A company’s cash balance refers to legal tender such as paper currency, coins, checking accounts, savings accounts, petty cash, and checks.

Cash equivalents and marketable securities are investments that have good credit and can be converted to cash quickly at their market value. Examples of cash equivalents are commercial paper, government bonds, Treasury bills (T-bills), certificates of deposits (CDs), money market instruments, and marketable securities.

Office supplies refers to general material to conduct business including pens, pencils, papers, envelopes, printer toner, light bulbs, etc.

Inventory refers to raw materials, work in progress, and finished goods that you purchase or produce in order to resell. Your inventory has a holding value and you plan to sell the items for more than their cost.

In general, a business plans to turn over its inventory several times a year. For more information, reference inventory turnover.

Accounts receivable refers to money that is owed to your company by customers. When invoices are sent, an accounts receivable balance is created until that invoice is paid in full.

Prepaid expenses are expenses that you have paid for but yet to receive the benefit of. For instance, if you prepay for 6 months of access to business software, you have paid the full cost but have not incurred the benefit yet.

A balance sheet usually lists the company’s current assets in order of liquidity, meaning that the most liquid (most easy to convert to cash) are listed first and the least liquid current assets are listed at the bottom.

Current Assets Examples

In this example, Company A sold $45,000 of inventory for cash. We are looking at the journal entry to record this transaction and two snapshots of their balance sheet.

Balance Sheet Before Transaction

Cash: $250,000

Cash Equivalents: $50,000

Accounts Receivable: $150,000

Inventory: $250,000

Total Current Assets: $700,000

Journal Entry

Dr 45,000 cash

Cr 45,000 inventory

Balance Sheet After Transaction

Cash: $295,000

Cash Equivalents: $50,000

Accounts Receivable: $150,000

Inventory: $205,000

Total Current Assets: $700,000

Since both of these values are different types of current assets, the total current assets amount did not cash. But cash is more liquid than inventory so their certain financial metrics would change by converting inventory to cash. We will explore this in more detail later in the post.

Current Assets vs. Noncurrent Assets

Broadly speaking, you can divide all assets into two categories: current assets and noncurrent assets. Current assets are productive resources with a useful life of one year or less, whereas noncurrent assets are productive resources with a useful life of more than one year.

Under the broad category of noncurrent assets, we have three main categories: fixed assets, intangible assets, and long-term investments.

Fixed assets are tangible items that are purchased to generate value over a long period of time. Examples of fixed assets include land, buildings, factories, computers, equipment, furniture, machery, and vehicles. Fixed assets may also be called plant, property, and equipment (PP&E).
Intangible assets are non-physical items that are useful to a business. Examples of intangible assets include patents, trademarks, trade names, copyrights, and goodwill.
Long-term investments, as the name implies, are stock, bond, and real estate investments that the company plans to hold for several years. A large public company investing $1,000,000 in a high growth startup is an example of a long-term investment.
Current assets have a useful life within one year; noncurrent assets have a useful life longer than one year.

Current Liabilities vs. Current Assets

When running a business, it is important to balance how much cash you have, how many assets you have, and how you pay your bills and obligations (called liabilities).

Current liabilities refers to short-term obligations such as wages payable, salaries payable, notes payable, taxes payable, unearned revenue, and accrued expenses.

As discussed, current assets are short-term resources like cash, cash equivalents, marketable securities, inventory, and accounts receivable.

Current liabilities are usually paid off using current assets.All businesses, from local corner stores to Fortune 500 corporations, should keep track of the relationship between their short-term assets and liabilities. The accounting metrics in our next section explore this concept further.

Liquidity Ratios

Liquidity ratios are a group of accounting metrics that measure a company’s ability to meet their short-term obligations. They are similar to solvency ratios which are accounting metrics that show a company’s ability to meet long-term obligations.

Current Ratio

The current ratio is current assets divided by current liabilities. The number highlights if a company can cover its short-term liabilities by looking at all the short-term assets available. The formula is:

Current Ratio = Current Assets / Current Liabilities

Quick Ratio

The quick ratio is cash plus cash equivalents divided by current liabilities. The numerator is also called quick assets, hence the name of the formula. The number shows if the company has enough cash and cash equivalents to cover all near-term liabilities. The formula is:

Quick Ratio = (Cash + Cash Equivalents) / Current Liabilities

Cash Ratio

The cash ratio is cash divided by current liabilities. The result is a strict look at if a company has enough cash on hand to cover its short-term liabilities. The formula is:

Cash Ratio = Cash / Current Liabilities

Keep in mind that the current ratio is the most generous since it includes the most assets, the cash ratio is the most strict, and the quick ratio is in the middle.

While the calculation of these values is simple, that does not diminish their importance. We suggest that all companies calculate these metrics every 2-4 weeks and stay on top of them.

A worrying sign would be for these metrics to decline over time without a material improvement in another part of the business, like revenue growth or profit growth.

Final Thoughts

Current assets are a short-term asset account on the company’s balance sheet, one of the three important financial statements. The account includes cash and other liquid assets that will convert to cash through normal business operations within a year.

As mentioned, liquidity calculations are used to assess the short-term viability of the company and solvency calculations are used to assess the long-term stability of the company. Business owners, managers, investors, and lenders rely on these values in order to understand if the company has enough cash and short-term assets to cover short-term liabilities.

Whether you are a small business owner or an accounting manager of a public company, understanding the current assets balances and trends are important.

Operators should look at balance sheet accounts, financial metrics, and the difference between their current assets and current liabilities (called net working capital) several times throughout the month.

Companies that are looking to scale need to invest money into growth (through sales and marketing expenses as well as purchasing productive assets) while still being able to pay their bills and make debt payments.

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