Is Inventories A Current Asset Full Explanation With Examples

Is Inventories a Current Asset?

Inventory is the goods used to produce finished items and acts as a buffer between the manufacturing of goods and the goods the Company has to sell to fulfill the orders. Since inventory is used to manufacture goods that generate revenue for the Company, it is classified as an asset.

But whether inventory is a current asset or a non-current assetNon-current AssetNon-current assets are long-term assets bought to use in the business, and their benefits are likely to accrue for many years. These Assets reveal information about the company’s investing activities and can be tangible or intangible. Examples include property, plant, equipment, land & building, bonds and stocks, patents, trademark.read more?

Current assetsCurrent AssetsCurrent assets refer to those short-term assets which can be efficiently utilized for business operations, sold for immediate cash or liquidated within a year. It comprises inventory, cash, cash equivalents, marketable securities, accounts receivable, etc.read more can convert into cash or cash equivalentsCash Or Cash EquivalentsCash and Cash Equivalents are assets that are short-term and highly liquid investments that can be readily converted into cash and have a low risk of price fluctuation. Cash and paper money, US Treasury bills, undeposited receipts, and Money Market funds are its examples. They are normally found as a line item on the top of the balance sheet asset. read more in a short period, usually taken as one year. In contrast, non-current assets take longer than one year to be converted into cash.Inventory is considered to be sold off within one year. However, a lot depends on the business opportunities and market conditions; however, it is considered that the inventory on the Company’s balance sheet is sold off in less than one year and, hence, recorded as a current asset.

Inventory Current Assets Example

As can be seen in the below snapshot from the consolidated balance sheet of Apple Inc., the inventory is recorded as the Current asset.

Source: Apple SEC Filings

Inventories are believed to be sold within one year for all possible reasons. Hence, they are recorded as current assets. However, sometimes the Company does not receive expected orders, and therefore they cannot use the inventory. Such unused inventory may become a liability for the Company as it will incur storage costs and other related costs to maintain the inventory for it to be useful.Some inventories, for example, Agriculture resources, have a shelf life. After a certain time, the inventory becomes stale and obsolete and cannot be used for further manufacture. Such shelf life is usually less than one year more, making it recorded as a current asset. The Company will have to dispose of such inventory if it is not used within the shelf-life period, thus incurring losses. Therefore, the Company cannot maintain a massive inventory due to storage costs and shelf life.Companies have to maintain adequate supplies so as not to disrupt their business. If the Company holds less inventory than is required, it may lose business opportunities. The Company will not be able to fulfill the orders on time and hence lose revenue and reputation.Companies invest a lot to maintain a good inventory management system. They ensure that they have sufficient inventory in the stores not to disrupt their business and that it is used not to cost them storage or waste.

Importance

Inventory is used to manufacture the goods. The raw materials inventoryRaw Materials InventoryRaw materials inventory is the cost of products in the inventory of the company which has not been used for finished products and work in progress inventory. Raw material inventory is part of inventory cost which is reported under current assets on the balance sheet.read more used in the production also represents inventory, without which the Company cannot produce its goods.The current assets on the Balance sheet of the CompanyBalance Sheet Of The CompanyA balance sheet is one of the financial statements of a company that presents the shareholders’ equity, liabilities, and assets of the company at a specific point in time. It is based on the accounting equation that states that the sum of the total liabilities and the owner’s capital equals the total assets of the company.read more record the amount of such inventory available with the Company. These also include any finished goods available with the Company which is not yet sold.The most important financial ratioImportant Financial RatioFinancial ratios are indications of a company’s financial performance. There are several forms of financial ratios that indicate the company’s results, financial risks, and operational efficiency, such as the liquidity ratio, asset turnover ratio, operating profitability ratios, business risk ratios, financial risk ratio, stability ratios, and so on.read more related to inventory is the inventory turnover ratioInventory Turnover RatioInventory Turnover Ratio measures how fast the company replaces a current batch of inventories and transforms them into sales. Higher ratio indicates that the company’s product is in high demand and sells quickly, resulting in lower inventory management costs and more earnings.read more, which measures the company’s inventory management effectiveness.It is calculated as Sales/Inventory and provides an insight into how many times the company sells off its inventory.Days to inventory turnover is another crucial financial ratio tracked by investors and analysts. It is calculated as 365/Inventory turnover and denotes the number of days the Company takes to replace its inventory through sales.

Conclusion

Inventory is the goods or raw materials available with the Company, used for the production of the final goods. Since it is used in the production of assets sold by the Company, which is the primary source of operating incomeOperating IncomeOperating Income, also known as EBIT or Recurring Profit, is an important yardstick of profit measurement and reflects the operating performance of the business. It doesn’t take into consideration non-operating gains or losses suffered by businesses, the impact of financial leverage, and tax factors. It is calculated as the difference between Gross Profit and Operating Expenses of the business.read more, they are considered an asset for the Company. Inventory is considered to be sold in less than one year and hence, is recorded as a current asset. It is believed that the Companies manage their inventory properly. It is too low that its business gets disrupted and not to keep too high inventory such that it incurs storage cost or loss due to damage and wastage.