Understanding the Importance of Current Assets in Business Operations

An asset is an item of value you own and has the potential to help your business succeed. Businesses optimize non-website assets and digital items to improve marketing. They also use financial assets to run the business's daily operations.

A current asset is a short-term liquid asset that can be used, converted to cash, or sold within one year of the business's operating cycle. Current assets are part of a company's working capital and are essential for day-to-day operations, typically contributing to the business's overall cash flow. They're easily converted to cash to provide liquidity to meet short-term financial obligations while finding other business initiatives.

Examples of current assets include liquid assets like cash, cash equivalents, accounts receivable, inventory, and many other assets you can use to pay suppliers, cover operating expenses, manage cash flow, and take advantage of other business opportunities.

There are several types of current assets, all of which can be converted to cash or used within one fiscal year. These assets play a vital role in ensuring the smooth operation and overall stability of a business while supporting growth. Examples of current assets include the following:

Cash and cash equivalents

Cash is the most liquid asset your business has available to it. Your business banking accounts can be used to pay operating expenses, payroll, invoices, and so forth. Cash is the most immediate form of asset a business can use for just about anything. But cash equivalents are also liquid and can easily be converted directly into cash quickly.

The most common types of cash and cash equivalents are physical cash itself, such as cash used in registers at brick-and-mortar stores or for all-cash businesses and bank deposits in checking and savings accounts. Other types of cash equivalents include money market funds and bonds.

Marketable securities

Marketable securities are investments you can quickly convert to cash by trading them on public exchanges. Examples of current assets that are marketable securities include cryptocurrency and stocks. However, not all investments are current assets; they're only considered current assets with a maturity period of less than one operating cycle.

Marketable securities have advantages over cash securities because they allow the business to earn interest or dividends, offering higher return rates than bank accounts or other types of investments. Additionally, they can be converted to cash at any point.

The most common marketable securities for businesses include the following:

• Stocks
• Bonds
• Mutual funds
• Exchange-traded funds (EFTs)

Accounts receivable

Accounts receivable refers to the money your customers or partners owe you. For instance, if you're a marketing agency, your accounts receivable consists of the invoices you've sent customers. Accounts receivable isn't the money you've collected from your customers or clients; it's the amount owed to you that they haven't paid yet.

Accounts receivables allow customers to make purchases on credit. If you supply a business with a product or service, you may allow them a specific payment period, like net 30. These customers agree to pay at a later date, so businesses must issue invoices, monitor payment due dates, and follow up for timely payments.

Even though accounts receivable isn't actually cash in your pocket yet, you can assume your invoices will be paid on time within a short period, making them a current asset.

Inventory

If your business sells products, your inventory may qualify as a current asset. Raw materials and unsold goods are considered liquid because they can easily be sold within a period of a year. Your inventory is less liquid than other investments because it takes more work to sell, but it could be a valuable resource when you need to improve cash flow.

Your inventory is converted to cash by selling it to customers, and the faster you sell, the more you can earn. In addition, inventory is expected to be sold within a short period and is a significant business investment.

Prepaid expenses

Prepaid expenses are typically fixed or variable costs you benefit from. They're current assets because they're costs that have already been paid and will be used within the next year. Examples of prepaid expenses that can be classified as current assets include:

• Rent
• Insurance
• Utilities
• Subscriptions
• Maintenance
• Marketing

All these prepaid expenses are current assets because they're expenditures that have already been paid but will be used in the near future.

Short term investments

Short-term investments are technically cash equivalents and marketable securities because they're converted into cash within a short period. These investments are considered liquid because you can convert them to cash whenever necessary and allow the business to passively earn a return on their investment.

Short-term investments like stocks, bonds, and mutual funds appreciate over time and can help companies preserve capital while diversifying their investment portfolios for an additional layer of protection.

Other liquid assets

Other liquid assets are any that can be converted into cash within a year and don't fit into any other categories. Examples of other liquid assets include the following:

• Marketable commodities: If marketable securities are investments that can be quickly converted to cash, marketable commodities are items that can be quickly converted to cash. Marketable commodities include precious metals, oil, and other products you can sell quickly to generate cash.
• Trade discounts: Trade discounts can't directly convert to cash, but they increase a company's liquidity by reducing overall costs.
• Restricted cash: Restricted cash is cash set aside for a specific purpose. While it has a specific purpose, it's still considered a liquid asset because it can be used anytime.
• Advances to supplies: Advances are payments made in advance for goods or services your business needs to operate. You and the supplier agree that payment is provided now while the goods and services are provided at a later date. Paying now can help you secure better pricing or a particular product when it's available. Advances qualify as current assets because they're prepaid expenses.
• Deposits: Deposits are a guarantee for a future transaction. Your business receives the deposit now in exchange for certain assurances in the same way a landlord asks for a security deposit when you rent a home.

Why are current assets important for a business?

Current assets are important because they provide liquidity that streamlines your business processes and ensures businesses can sustain operations while meeting their goals. Current assets cover immediate and short-term expenses, allowing businesses to pay suppliers and employees while keeping them covered during emergencies.

Maintaining liquidity protects businesses, frees up cash flow for time-sensitive costs, and makes them better equipped to seize growth opportunities while navigating periods of economic downturn. Here are a few ways current assets benefit your business:

Helps a business perform its daily operations

Current assets like cash, accounts receivable, and inventory ensure the business runs smoothly on a daily basis. All businesses need cash to pay for immediate expenses.

Still, accounts receivable gives you an idea of the amount of money you'll have in the near future, allowing you to plan ahead. Meanwhile, inventory ensures you have enough products to meet customer demand and generate cash flow.

Ensures you can cover routine expenses

All businesses have routine expenses like rent, payroll, tools, inventory, machinery, and so forth. Current assets ensure you have the cash flow to cover these expenses on time. The cash generated from current assets allows you to maintain good financial health and relationships with suppliers while avoiding disruptions in operations.

For example, if you run out of inventory, you can't sell products, meaning you won't generate cash. At the same time, your operations can come to a standstill because your employees won't have anything to do if they're not filling orders and communicating with customers.

Helps with capital management

Working capital is the money available to fund your day-to-day operations and is the difference between a company's current assets and liabilities. By managing accounts receivable, cash, and other current assets, your business can avoid cash flow problems while maximizing profitability.

Contributes to a company's financial stability

Current assets contribute to your business's financial stability because they represent your liquidity and how much money you have available to use. Having enough current assets ensures you can meet your financial obligations while maintaining a positive cash flow and sustainable growth.

Good financial stability is key if you want to maintain a good reputation and attract investors or take out a business loan. In addition, knowing your business is financially healthy can reduce your stress, allowing you to focus less on worrying about money and more on growing your business.

Plays a crucial role in decision-making

Making data-driven decisions is crucial if you want your business to grow. Current assets can help you monitor your liquidity to assess the overall financial health of your company, identify trends, and make better decisions about pricing, production, marketing, and allocating resources.

In addition, understanding your current assets can free up more cash for growth opportunities to take your business to the next level, such as entering new markets, expanding across borders, or acquiring new businesses.

To calculate your current assets, all you need to do is add up all of the types of current assets we discussed earlier.

The current assets formula is:

Current asset = cash + cash equivalents + marketable securities + accounts receivable & inventory + prepaid expenses + other liquid assets

You can find this information on balance sheets or in accounting software to help you get started.

Difference between current and non-current assets

Let's review the current assets definition again to help you understand what qualifies as a non-current asset.

A current asset is any asset you have that can be converted into cash, sold, or used within a year. Therefore, a non-current asset is a non-liquid long-term asset that can't be converted into cash, sold, or used within the same timeframe. Instead, it's usually converted into cash or used after more than a year.

Current assets are short-term and provide liquidity. They're reported on a company's balance sheet and can help them run the business on a daily basis while meeting short-term financial obligations.

On the other hand, non-current assets are long-term, fixed assets that can't be converted to cash or used within a one-year time frame.

Non-current assets provide value to the business over a longer period of time and are held. Examples of non-current assets include real estate, equipment, long-term investments, and long-term receivables. They're reported on the balance sheet below the current assets.

Current assets are more liquid than non-current assets, and they're harder to convert into cash. For example, selling property is more challenging than selling stocks or inventory.

Current assets support the day-to-day operations of a business while paying for immediate expenses, while non-current assets are used to support longer-term growth.

How to increase your current assets

Increasing your current assets provides additional liquidity that ensures you have enough cash to cover operational expenses crucial for the smooth functioning of your business. The more current assets you have, the more prepared you are to meet customer demand, fulfill orders, and pay for expenses.

Unfortunately, many small businesses struggle to increase their current assets because they face limited resources, cash flow constraints, and increasing operational demands.

If you're finding it challenging to increase your current assets, try these strategies:

• Sell liquid assets: Selling your most liquid assets can improve liquidity. You can sell your marketable securities or excess inventory to generate immediate cash flow that can be used for other purposes like growth opportunities.
• Collect accounts receivable: Actively collecting the money owed to you can help you increase your current assets. Accounts receivable represents the amount in invoices still to be paid, so you don't actually have that cash in hand yet. By pursuing collections, you can increase your cash flow quickly and create a more efficient process.
• Reduce expenses: Reducing unnecessary expenses can help conserve cash while increasing current assets. You can conduct an expense review, renegotiate contracts, and implement other cost-saving measures to eliminate non-essential expenses and increase the amount of cash you have available to you.
• Improve inventory management: Improving inventory management can increase your current assets by helping you effectively stock products. You can avoid overstocking and stockouts by analyzing demand patterns, implementing new inventory systems, or negotiating costs with your suppliers.
• Negotiate payment terms: Negotiating payment terms with suppliers can help you free up cash by extending the amount of time you have to pay them. You can also discuss discounts for early payments and bulk purchases to reduce your spending and improve cash flow quickly.
• Improve sales: Increasing your sales directly enhances your cash flow because it means turning inventory into cash. When customers make a purchase, they either provide you with immediate cash payments or through accounts receivables, both of which are current assets. The more sales, the more current assets you'll have.
• Invest: Investing in liquid assets like stocks and bonds can increase your return on investment and help your company build revenue passively. Exploring your short-term investment options can offer you a higher rate of return than bank accounts, and they can be easily liquidated when you need to pull money out to pay for current liabilities.

Manage your company's financial health with current assets

Your current assets directly influence your company's financial health. Cash, accounts receivable, inventory, short-term investments, and other current assets help your business maintain liquidity, meet short-term financial obligations, and ensure your business operates smoothly. By managing these assets well, you can maintain good financial stability, take advantage of growth opportunities, and easily navigate unforeseen financial challenges.

Use Mailchimp data to learn more about your company's financial health. Mailchimp integrates with many e-commerce accounting and business intelligence (BI) tools to help you monitor your current assets and sales.