CURRENT ASSETS-A LIQUIDITY INDICATOR

In our earlier post ' ASSETS-THE BACKBONE OF A COMPANY' we have discussed about ' current assets ' in a brief form.

Now let's understand it in a descriptive form:

• Current assets represents the short term assets of a company i.e assets which are liquified(or converted into cash)or consumed within a period of one year or its operating cycle*  whichever is longer.

*Operating cycle indicates the time period between the cash outflow for the purpose of purchase, manufacturing of goods and cash inflows from its sale.

Now for a more detailed understanding let's know about some accounting items which are included in this head:


(1) CASH AND CASH EQUIVALENTS

Cash is the most liquid form of an assets as it is already cash.
Cash includes coins,balance in saving account,money orders ,bank drafts etc.

Cash equivalents includes short term securities with a very short maturity period say about 3 months or less.
These are highly liquid investments.

(2) MARKETABLE SECURITIES

These include share ,bonds and other securities with a maturity period of less than 1 year.

(3) SUPPLIES
Supplies include stationery items as they consumed within one year.

(4) INVENTORY

Inventory is the most crucial (important) item in a business entity as it is the most important means of generating revenue.*

*Revenue means proceeds from sale of goods and services.

Inventory involves stock of items which are produced or purchased for the purpose of future sales.

Inventory is considered as current assets as it is assumed that it will be sold within 1 year .

(4) ACCOUNTS  RECEIVABLES

It involves amount to be received on a future date on account of credit sales.

The person or business enterprise from whom the amount is to be received is known as 'Debtors'which becomes a part of current assets.

A debtor may issue a document as a written promise to pay the amount.
Such a document is known as 'BILL RECEIVABLE'.It is also included in current assets.

(5)PRE-PAID EXPENSES

As the name depicts it means amount of expense which are paid in advance.

Now the question arises why an expense is treated as an 'asset'
The reason is that the consumption of such an expense will be done on a future date i.e company gets a firm hold on the benefits of that expense until the date when the expense was to be actually paid.

For example:A insurance premium of ₹ 6000 was to be paid for 6 months in a one month installment system(i.e ₹1000) but the company decided to the whole amount in the first installment.
In this case the asset side will increase by ₹5000 as ₹1000 will be consumed on first installment only and rest ₹5000 will be for prepaid expenses.
Now when second instalment comes prepaid expenses will be reduced by ₹1000 thereby reducing assets side to ₹4000 (₹5000-₹1000).

CHEQUE-A SUBSTITUTE OF CASH

In today's business world a 'cheque' has become an important tool for the financial transactions.
:
Now the question arises ,what is a cheque??

In simple language,a cheque is an instrument in writing containing an order given by the drawer* to his banker(known as drawee) to pay a certain sum of money to the payee*.

*Drawer: person who has to pay the amount.
*Payee: person who has to receive the amount.On his name cheque is drawn.

Here it must be noted that cheque operates only when the transaction is  done through banks.

Now let's know about its 3 main types:

1.BEARER CHEQUE: 
These type of cheques are normally used for cash transactions.
In a bearer cheque  the word 'or bearer' is written on the face of the cheque.

This type of cheque is considered risky as the bank gives payment to the person holding the cheque at its counter .
If the cheque is lost and get in the wrong hands it can be misutilized.

*Nowadays banking system has become more aware and it demands id proof of the holder.

2.ORDER CHEQUE:

When the word 'bearer' appearing on the face of cheque is cancelled and in its place the word 'or order' is used ,the cheque is called order cheque.

Such a cheque is payable to the person specified therein or to any person to whom it is endorsed(or transferred).

*A cheque can be transferred to a third person by writing his name and details at the back of the cheque.

3.CROSSED CHEQUE:


It is the most commonly used type of cheque in business as it is the most secured.
Crossing of a cheque means drawing two parallel line on top left corner of the cheque with or without the additional words like 'a/c payee' or 'not negotiate'.

This type of cheque involves actions of 2 banks  -first of the drawer and second of the payee.

Here there is no cash payment ,the payment is made through bank accounts.
The amount can only be credited to the payee's account not to the bearer of the cheque.


Now let's understand it with the help of an illustration:
Suppose there is a company SUNSHINE LTD. which has to make a payment amounting to ₹100000 to its creditor named MESCO PVT LTD. and sunshine Ltd has its account in TURBO BANK.

For such payment instead of cash payment Sunshine Ltd opted for issuing a cheque so the company issued a crossed cheque amounting to ₹100000

Let's see its diagrammatic representation:

Now let's see how a transaction done by a cheque instead of cash is treated in accounts:
 Such type of  transaction is represented by  'Bank a/c'

IN THE BOOKS OF SUNSHINE LTD.
  MESCO Pvt Ltd    Dr.    100000
   To  Bank a/c                             100000



IN THE BOOKS OF MESCO PVT LTD.
      Bank a/c      Dr      100000     
    To sunshine Ltd                100000

NET WORTH-AN INDICATOR OF FINANCIAL POSITION

Net worth represents the financial position of an individual and business entity.

Now the question  arises how to calculate net worth:

As you have learned about Assets and  Liabilities in our earlier posts it would be very simple for you.

There is a very simple formula for calculating net worth:

 To make it more clear,let's have a look below at the following representation of assets and liabilities of an individual:
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Now net worth of the individual=₹35,80,000-₹27,00,000=8,80,000