What is a Current Asset?
A current asset is an item on an entity’s balance sheet that is either cash, a cash equivalent, or which can be converted into cash within one year. If an organization has an operating cycle lasting more than one year, an asset is still classified as current as long as it is converted into cash within the operating cycle.
In accounting, a current asset is an asset that can reasonably be expected to be sold, consumed, or exhausted through the normal operations of a business within the current fiscal year or operating cycle or financial year (whichever period is longer).
Typical current assets include cash, cash equivalents, short-term investments which in the ordinary activity are mainly related to non-strategic companies in the process of being sold (usually as a result of private negotiations), accounts receivable, stock inventory, supplies, and the portion of prepaid liabilities (sometimes referred to as prepaid expenses) which will be paid within a year.
In simple words, assets that are held for a short period are known as current assets. Such assets are expected to be realized in cash or consumed during the normal operating cycle of the business. On a balance sheet, assets will typically be classified into current assets and long-term assets.
The current ratio is calculated by dividing total current assets by total current liabilities. It is frequently used as an indicator of a company’s liquidity, which is its ability to meet short-term obligations. The difference between current assets and current liability is referred to as trade working capital.
The quick ratio, or acid-test, measures the ability of a company to use its near cash or quick assets to extinguish or retire its current liabilities immediately. Quick assets are those that can be quickly turned into cash if necessary. It would not be used for a substantial period of time such as, normally, twelve months.
The Order of Liquidity
These items are typically presented in the balance sheet in their order of liquidity, which means that the most liquid items are shown first. The preceding example shows current assets in their order of liquidity. After current assets, the balance sheet lists long-term assets, which include fixed tangible and intangible assets.
How Current Assets Information is Used
Creditors are interested in the proportion of current assets to current liabilities since it indicates the short-term liquidity of an entity. In essence, having substantially more current assets than liabilities indicates that a business should be able to meet its short-term obligations.
This type of liquidity-related analysis can involve the use of several ratios, including the cash ratio, current ratio, and quick ratio.
The main problem with relying upon current assets as a measure of liquidity is that some of the accounts within this classification are not so liquid. In particular, it may be difficult to readily convert inventory into cash.
Similarly, there may be some extremely overdue invoices within the accounts receivable number, though there should be an offsetting amount in the allowance for doubtful accounts to represent the amount that is not expected to be collected. Thus, the contents of current assets should be closely examined to ascertain the true liquidity of a business.
Examples of Current Assets
Current assets include cash, cash equivalents, accounts receivable, stock inventory, marketable securities, pre-paid liabilities, and other liquid assets. Current assets are important to businesses because they can be used to fund day-to-day business operations and to pay for the ongoing operating expenses.
Cash, cash equivalents, and liquid investments in marketable securities, such as interest-bearing short-term Treasury bills or bonds, are obvious inclusions in current assets. However, the following are also included in current assets:
Is accounts receivable a current asset? Yes, accounts receivable is the money due to a company for goods or services delivered or used but not yet paid for by customers are considered current assets as long as they can be expected to be paid within a year. If a business is making sales by offering longer terms of credit to its customers, a portion of its accounts receivables may not qualify for inclusion in current assets.
It is also possible that some accounts may never be paid in full. This consideration is reflected in an allowance for doubtful accounts, which is subtracted from accounts receivable. If an account is never collected, it is written down as a bad debt expense, and such entries are not considered current assets.
Why is accounts receivable an asset? So, it’s clear that accounts receivable is an asset, but why is accounts receivable an asset? It’s relatively straightforward. Put simply, accounts receivable counts as an asset because the amount owed to the company will be converted to cash later. More receivables = more cash, which leads to the growth of the business, over time.
Is accounts receivable revenue? Whether or not accounts receivable counts as revenue is a tricky subject and tends to be determined by the method of accounting that your business uses. Under the cash basis of accounting, only transactions resulting in cash being paid in or out are revenue. As a result, accounts receivable wouldn’t be considered revenue. However, under the accrual basis of accounting, revenue is understood to be cash that comes into your business after a sale has occurred, which makes accounts receivable revenue.
Inventory—which represents raw materials, components, and finished products—is included as current assets, but the consideration for this item may need some careful thought. Different accounting methods can be used to inflate inventory, and, at times, it may not be as liquid as other current assets depending on the product and the industry sector.
For example, there is little or no guarantee that a dozen units of high-cost heavy earth-moving equipment may be sold over the next year, but there is a relatively higher chance of a successful sale of a thousand umbrellas in the coming rainy season. Inventory may not be as liquid as accounts receivable, and it blocks working capital. If the demand shifts unexpectedly, which is more common in some industries than others, inventory can become backlogged.
Is inventory a current asset? Yes, Inventory is also a current asset because it includes raw materials and finished goods that can be sold relatively quickly. Another important current asset for any business is inventories. It is important for a company to maintain a certain level of inventory to run its business, but neither high nor low levels of inventory are desirable.
Is equipment a current asset? As mentioned, equipment is not a current asset, but it is considered a benefit to the company. Therefore, it is considered a long-term asset. This means it can depreciate over time, unlike current assets. There is an advantage to this high-cost, longer-term assets, which is that they can be made into “capital expenditures,” meaning that the expense can be spread out over a number of years, so the large initial output doesn’t immediately eat into the profit of the year the item was purchased.
Prepaid expenses—which represent advance payments made by a company for goods and services to be received in the future—are considered current assets. Although they cannot be converted into cash, they are the payments already made. Such components free up the capital for other uses. Prepaid expenses could include payments to insurance companies or contractors.
On the balance sheet, current assets are normally displayed in order of liquidity; that is, the items that are most likely to be converted into cash are ranked higher. The typical order in which current assets appear is cash (including currency, checking accounts, and petty cash), short-term investments (such as liquid marketable securities), accounts receivable, inventory, supplies, and pre-paid expenses.
Is prepaid insurance a current asset? Prepaid insurance is recorded as a current asset on the balance sheet. It’s the term used to describe advance payments for insurance coverage. Insurance premiums are often paid before the period covered by the payment. And the entire amount is typically paid off within a year.
Is prepaid rent a current asset? If you’re making a rent payment before the period it’s due, this is considered prepaid rent. It’s a current asset that’s reported on the balance sheet. The payment is considered a current asset until your business begins using the office space or facility in the period the payment was for. For example, a business pays its office rent for November on October 30th. Once they begin using the office space on November 1st, the payment would then be reported as an expense.
The Formula for Current Assets
Thus, the current assets formulation is a simple summation of all the assets that can be converted to cash within one year. For instance, looking at a firm’s balance sheet, we can add up:
Current Assets = C + CE + I + AR + MS + PE + OLA
- C = Cash
- CE = Cash Equivalents
- I = Inventory
- AR = Accounts Receivable
- MS = Marketable Securities
- PE = Prepaid Expenses
- OLA = Other Liquid Assets
Examples of current assets include:
1. Cash and cash equivalents.
2. Accounts receivable.
3. Prepaid expenses.
5. Marketable securities.
Current assets are all the assets of a company that are expected to be sold or used as a result of standard business operations over the next year. Current assets include cash, cash equivalents, accounts receivable, stock inventory, marketable securities, pre-paid liabilities, and other liquid assets.
Current assets are all the assets of a company that are expected to be sold or used as a result of standard business operations over the next year. Current assets include cash, cash equivalents, accounts receivable, stock inventory, marketable securities, pre-paid liabilities, and other liquid assets. Current assets are important to businesses because they can be used to fund day-to-day business operations and to pay for the ongoing operating expenses.
Here is the formula for current assets:
1. Current assets = cash and equivalents + accounts receivable + inventory + short-term investments + prepaid expenses + other liquid assets.
2. Annie’s Pastries, a small bakery, wants to calculate its current assets to evaluate short-term financial health.
Examples of non-current assets include land, property, investments in other companies, machinery, and equipment. Intangible assets such as branding, trademarks, intellectual property, and goodwill would also be considered non-current assets.
Current assets generally sit at the top of the balance sheet. Here, they include receivables due to Exxon, along with cash and cash equivalents, accounts receivable, and inventories.
The current assets include petty cash, cash on hand, cash in the bank, cash advance, short-term loan, accounts receivables, inventories, short-term staff loan, short-term investment, and prepaid expenses. For example, accounts receivable are expected to be collected as cash within one year.