Current Assets:  A Simplified Guide.

What are current assets?
In the world of business and economics, some terms may seem complex and ambiguous to non-specialists, and among these terms comes the term current assets. So what are these assets? And why is it a vital part of any business entity or organization? Simply put, we can define current assets as all the economic resources owned by a company or individual that can be easily and quickly converted into cash within a short period of time, usually not exceeding one fiscal year. These assets are the daily lifeblood of companies, ensuring that they can meet their immediate obligations and run their operations smoothly. Imagine you have money in your pocket, goods ready to sell in your store, or debts owed to you from your friends that you expect to collect soon; all of these examples, albeit simplified, give us a glimpse of what assets are in circulation in their broader context. Understanding these assets is not exclusive to accountants and financial experts, but is essential for anyone who wants to understand how companies operate and how they manage their money in the short term.

Why is it called Rolling?
These assets are called current for a fundamental reason related to their nature and role in the operational cycle of any business. The operational cycle is the period of time it takes for a company to monetize its investments in inventory and other resources back through the sale and collection process. Since current assets are those that are expected to be converted into cash or depreciated during this operational cycle, or within a period not exceeding normally twelve months, whichever is longer, they are an integral part of the daily movement of funds within the company. This rapid transformation sets it apart from fixed assets, such as buildings and machinery, that the company aims to retain and use in the long term to generate income, and is not expected to be converted into cash in the near future. Thus, its designation as a traded reflects its flexibility, ability to rotate and continuously transform to meet the company's short-term needs.

Types of current assets
Now that we understand what current assets are and why they are so named, let's dive deeper into their different types. Each type has its own characteristics and role in enhancing the company's financial liquidity:

First, cash and its equivalent: 
Cash and its equivalents are the most liquid form of current asset. This item includes cash in the company's vaults, balances in current bank accounts, as well as short-term investments that can be converted into cash easily and quickly without a significant risk of losing value. Examples of such investments include short-term treasury bonds, commercial paper, and money market funds. These assets serve as fuel for the company's day-to-day operations, as they are used to pay salaries, purchase raw materials, pay bills, and other necessary operating expenses.

Second, receivables accounts receivable: 
Often, companies sell their products or services to their customers on a deferred basis, that is, their value is not collected in cash immediately upon sale, but rather agreed to be paid at a later date. These amounts owed to the company from its clients are known as receivables or accounts receivable. Although they are not currently cash, they are considered current assets because they are expected to be collected and converted into cash during the normal operating life of the company. Managing debtors is crucial, as companies should monitor these accounts regularly to ensure that they are collected on time and avoid bad debts that may negatively affect the company's liquidity.

Third: Inventory: 
Inventory includes all goods and materials owned by the company for the purpose of sale or use in the production process. Inventory can be divided into several types:

  • Raw materials: They are the basic materials that go into the manufacturing process.

  • Production under operation: products whose manufacturing process has begun but has not yet been completed.

  • Finished products: These are finished products that are ready to sell to customers.

Inventory is a current asset because it is expected to be sold and converted into cash during the operational cycle. While important, maintaining too large inventory can lead to high storage costs and the risk of aging or damage to the goods, while too little inventory can lead to loss of sales opportunities and inability to meet customer demands. Therefore, effective inventory management is essential for optimal balance.

Fourth: Advance Paid Expenses:
Imagine a company paying its office rent for an entire year in advance, or buying an insurance policy that covers a future period of time. These amounts that have been paid for services or benefits that have not yet been obtained are known as prepaid expenses. Although they represent cash outflows at the time of payment, they are considered current assets because they represent the company's right to receive a future service or benefit during the current or upcoming accounting period. As time passes and the company availes of these services, these prepaid expenses are converted into actual expenses in the income statement.

Fifth: Marketable Securities:
Marketable securities refer to investments in stocks and bonds that can be quickly sold in the financial market without significantly affecting their price. Companies acquire these securities with the aim of generating a return on their surplus funds, or to hold them as cash reserves that can be easily converted into cash when needed. These securities differ from long-term investments held by the company for many years with the aim of controlling or generating strategic returns. The ease with which it is converted into cash is what makes it classified as a current asset and is an indicator of the company's flexibility and ability to respond to financial opportunities or challenges.

The importance of current assets for companies: 
The importance of current assets is not limited to being just items in the financial statements of companies, but is a key pillar of their financial stability and ability to continue and grow. Its importance can be summarized in the following points:

  1. Provide liquidity.
    Current assets are the main source of cash for the company. Liquidity is a company's ability to quickly and easily convert its assets into cash to meet its short-term obligations, such as paying supplier bills, repaying short-term loans, and paying salaries and wages. Having a sufficient amount of current assets ensures that the company will not face difficulties in repaying its immediate debts, protecting it from the risk of bankruptcy and maintaining its credit reputation. Imagine a company that has a lot of fixed assets such as plants and equipment but doesn't have enough cash to pay its employees; this company will face a severe liquidity problem even if its total assets are large.

  2. Support day-to-day operations.
    Current assets are directly used to finance the day-to-day operations of the company. Inventory is sold to generate revenue, cash is used to purchase raw materials and pay for production, and debtors are expected to be collected to finance future operations. Without these assets, the wheel of production and sale would come to a halt, negatively affecting the company's ability to achieve its operational and strategic objectives. They ensure the continuity of the flow of operations and avoid any unwanted downtime.

  3. An indicator of financial health.
    Current assets are a vital indicator of a company's overall financial health. Investors and creditors closely monitor the ratio of current assets to current liabilities to assess the company's ability to meet its short-term obligations. The higher this ratio is, the more it indicates that the company has a strong financial position and greater ability to face unforeseen economic challenges. They also reflect the efficiency of the company's management in converting its assets into cash and using them effectively.

  4. Enhance the ability to make investment decisions.
    Current assets provide the flexibility for the company to seize new investment opportunities or expand its business. If a company has good cash liquidity and sufficient current assets, it can easily invest in new projects, purchase additional equipment, or expand into new markets without the need for heavy borrowing or selling its fixed assets. This enhances its competitiveness and contributes to its long-term growth.

Current asset management.
It's not enough for a company to have current assets, it's more important how to manage them effectively. Good management of current assets means an optimal balance between liquidity and profitability. On the one hand, the company needs sufficient liquidity to meet its daily obligations and avoid any interruptions in operations. On the other hand, holding too many amounts of cash or inventory may lead to freezing of funds and not exploiting them for more profitable investment opportunities. Companies are seeking to improve their working capital cycle, which includes inventory management, collection of debtors, and efficient repayment of creditors. Effective management of current assets enhances the company's financial performance, improves its cash flow, and increases its ability to achieve profits in the long term.

At the end of this article, we hope that we have provided a clear and simplified picture of the concept of current assets and their importance in the business world. They are not just numbers in accounting books, they are vital tools that enable companies to operate, grow and prosper. From liquid cash that facilitates day-to-day transactions, to inventory that awaits to be converted into dividends, to outstanding debt that represents future cash flows, current assets collectively form the lifeblood of any organization. Understanding these assets and how to manage them is not only important for financial professionals, it is beneficial for everyone seeking to understand the dynamics of the business world and how companies achieve their financial stability and sustainable success. It is an invitation to look beyond complex terminology and discover the simple essence that governs the movement of money and the evolution of business.