What Are Current Assets?
Current assets (sometimes called current accounts) are any company assets that can be converted into cash within one fiscal year. There are multiple ways these assets can be converted, including sale, consumption, utilization, and exhaustion through standard operations.
Current Assets vs. Non-Current Assets
Assets fall into two categories on balance sheets: current assets and noncurrent assets.
Current assets are short-term, liquid assets that are expected to be converted to cash within one fiscal year. These assets include cash and cash equivalents, marketable securities, accounts receivable, inventory and supplies, prepaid expenses, and other liquid assets.
Non-current assets, however, are long-term holdings that are expected to be held for over one fiscal year and cannot easily be converted to cash. These assets can include land, property, equipment, trademarks, long-term investments, goodwill, fixed assets, and other intangible assets.
Types of Current Assets
Current assets generally fall into five categories, sorted from most to least liquid:
Cash and Cash Equivalents
Inventory and Supplies
Other Liquid Assets
Cash and Cash Equivalents
Cash and cash equivalents are short-term commitments that are easily convertible into known cash amounts. Examples include currency, checking account balances, treasury bills, and short-term government bonds (if the maturity date is three months or less).
Marketable securities are short-term investments that are expected to be converted to cash within one year. Examples include certificates of deposit, money market accounts, and high-yield savings accounts.
Any money owed by customers for purchases made on credit falls under accounts receivable. Examples include electricity and wireless phone plans.
Inventory and Supplies
Inventory and supplies include raw materials, units in production, and finished goods (e.g. steel, unassembled vehicles, finished cars).
Prepaid expenses are expenditures paid for within one accounting period but consumed in a future period. Examples include prepaid rent and insurance.
Current Assets Formula
Current assets are calculated by adding all of the liquid assets on a balance sheet. The formula is as follows:
Example of Current Assets
In 2019, Company X had:
$5 million in cash (C)
$0 in cash equivalents (CE)
$4 million in marketable securities (MS)
$2 million in accounts receivable (AR)
$2.5 million worth of inventory (I)
$1 million of prepaid expenses (PE)
$1.5 million in other liquid assets (OLA).
Using the formula above, we can find the company’s total current assets for the 2019 fiscal year:
Current assets = $5m + $0 + $4m + $2m + $2.5m + $1m + $1.5m = $16m
Company X’s total current assets for the 2019 fiscal year was $16 million. Here’s what that might look like on a balance sheet:
December 31, 2019
|Cash and cash equivalents||$5 million|
|Marketable securities||$4 million|
|Accounts receivable||$2 million|
|Prepaid expenses||$1 million|
|Other liquid assets||$1.5 million|
|Total current assets||$16 million|
What Current Assets Reveal About a Company
Current assets are a key indicator of a company’s short-term financial health as they provide insight into the amount of cash the company has access to and determines its ability to meet financial obligations. It also indicates how the company funds its ongoing, day-to-day operations, and how liquid a firm is.
Current assets can also help evaluate the value and risk of an operation by determining its liquidity position. Current assets are an essential component of various liquidity ratios like:
- quick ratio
- cash ratio
- current ratio
All of these are financial metrics that gauge a company’s ability to repay its debts without raising external capital.
The quick ratio measures a company's ability to meet its short-term obligations using only its most liquid assets.
The Cash ratio measures a company's ability to immediately pay off its short-term debts using only its cash or cash equivalents.
The current ratio measures a company's ability to pay off its current liabilities using all of its current assets.
Limitations of Current Assets
Current assets are an effective measure of a company’s liquidity and highlight its ability to meet financial obligations – but there are some limitations:
Theoretically, inventory should be relatively easy to convert into cash. That isn’t always the case though: If inventory cannot be sold, the company may be forced to sell at a loss, reducing their current assets and, therefore, their liquidity.
Overdue or uncollectible invoices can reduce current assets and liquidity and cause a drag on cash flows.
Current assets are used to calculate working capital, which determines how much money a company can put towards its financial obligations and its financing of operations. Complications like uncollectible accounts or obsolete inventory can reduce current assets and therefore working capital. The company may then require another source of funds (such as external capital) which could create a liquidity risk and impede operations in the long-term.