Current assets

What it means

Current assets are the part of assets that a company uses up, sells or turns into cash in its normal course of business, usually within a year. They include inventory of materials, goods and products, short-term receivables, short-term financial assets and cash at bank and in hand.

Unlike fixed assets, which serve for years, current assets keep turning over: cash becomes stock, stock becomes receivables and receivables become cash again. The speed of this cycle determines how much money the company needs to finance its operations.

Comparing current assets with short-term liabilities gives the liquidity ratios and net working capital. A company with large current assets may still be illiquid if they consist of hard-to-sell stock or irrecoverable receivables.

How it works in practice

At year end we check how current assets are valued: inventory through the stocktake with allowances for slow-moving items, receivables by age and risk, and cash against bank statements. Overstated current assets are the most common source of a distorted picture of a company.

For cash flow management we track inventory and receivables turnover. Every day cut from them frees cash the company would otherwise have to finance with a loan. As sales grow, so does the need to finance current assets.

Banks often secure working capital loans on current assets, for example by a charge over receivables or stock. The quality of these items and the reliability of the records then directly affect the size of the credit line.

What to watch out for

The most common mistake is carrying old receivables and unsaleable stock at full value. The balance sheet shows strong current assets, yet the company has nothing to pay with. Regular allowances and write-offs of irrecoverable items keep the numbers real.

The second risk is financing growth in current assets with money meant for loan repayments or taxes. In rapid growth the company makes profit on paper but runs short of cash. A plan for financing working capital should be ready in advance.