Current assets – definition and meaning
Current assets are things that a company owns. It includes cash and items that the company can turn into cash easily. In other words, turn them into cash within twelve months. The term also refers to money that debtors owe the company.
Examples include cash & cash equivalents, short-term investments, accounts receivable, and inventories. Prepaid expenses (bills paid in advance) and raw materials are also examples.
In the United Kingdom, people also use the term current accounts.
On a business’ balance sheet, we usually classify assets into two categories – either current or non-current. Non-current are long-term assets.
The balance sheet shows the financial status of a company at a particular moment in time. It is a snapshot of the company on a specific date.
We usually present each current asset in the balance sheet in order of liquidity. In other words, the most liquid items appear first, and then the less liquid ones.
The Financial Times Lexicon defines current assets as:
“Money that a business has or is owed, or something that could easily be turned into money, for example, raw materials and goods that have been produced but not sold. Assets that can be converted into cash relatively quickly, usually within a year.”
Getting current ratio from current assets
If you divide a firm’s current assets by its total current liabilities, you get its current ratio. We use this measure as an indicator of the business’ liquidity and ability to meet short-term obligations.
Creditors want to know what their debtors’ current ratio is. Lenders see companies that have significantly more current assets than liabilities as a good risk regarding trade credit.
When determining how liquid a company is, look carefully at what their accountants have classed as a current asset. Often, they include items that are not so liquid.
For example, within the accounts receivable entries there may be some extremely overdue invoices. If an invoice is long overdue, it might not be an asset. It could be a bad debt. Accounts receivable refers to money a company is owed by its customers who bought goods or services on credit.