Current liabilities are a company’s financial obligations for short-term that are expected within one year or within a normal operating cycle. An operating cycle also referred to as the cash conversion cycle, is the time it takes a company to purchase inventory and convert it to cash from sales. (Investopedia)
The liabilities themselves are debts to be settled, therefore, that current liabilities should not exist in the company for a long period. This is in constant motion within the company, whether in its financial activities or commitments. The current liabilities are also known as the origin of the business fund, which certifies where the money obtained comes from.
How are current liabilities composed?
In the current liabilities, we can find the following groups of components:
- Short-term debts: that are obtained from third parties, either through loans or other debt. These must be canceled within one year.
- Debts with short-term companies: when financial commitments are obtained with associated companies, these must also be paid in a short period of time.
- Commercial creditors: are the commitments that the company acquires to the people who provide the company with either raw material or other services. These are acquired in order for the company to function properly.
- Provisions in the short term: those payments of contracts, taxes, transactions and other actions that must be canceled in a period less than one year.
Characteristics of current liabilities
This liability presents a series of characteristics that define it:
- This liability expires in a short period of time, less than one year.
- Some include interest payments, especially when it comes to bank loans.
- These current liabilities are debts that are obtained with third parties, which must be repaid in the established time.
Classification of Current Liabilities
Two classifications of current liabilities can be found, which are:
1# Expressive Liabilities
All negotiations and financing with the different partner banks and the financial institutions that work with it are part of this liability. All these commitments must be canceled quickly, as well as the interest resulting from the financing.
To understand it in a simpler way, the express liability is the commitments that result from all those operations that were carried out outside the scope of production of the company that is not of a productive life. Insurance policies, short-term loans, are the most common express liabilities. It is important to know that all financing with interests involved falls into this category.
2# Spontaneous liabilities
They are all those expenses that come hand in hand with the life and production of the company, these generated automatically over time. All the activities that result from the life of the company, such as hiring employees, paying taxes, maintaining equipment and buying from suppliers, fall into this classification.
Control of current liabilities
It is essential that all existing liabilities are recorded, in order to be aware of all outstanding debts. Order them with a date, to know which ones have a longer period of time to cancel them. The people who are behind the approval of liabilities and the administration of them must be authorized and trained to carry good order.
Unauthorized liabilities should not be included in the accounting, nor should they be canceled, since there may be a loss of money as it is not a real liability.
Payments must be exercised with the greatest responsibility, for non-suppliers and creditors, who are the ones who lend money to interest. It is important to have a close and professional relationship with these people and institutions since they are the ones that help in the labor and productive activity of the company.
In general, the greatest amount of current liabilities comes from the suppliers, who establish a cancellation date between 1 and 3 months, so it must be canceled in this period of time for the good reputation of the company so that then release the merchandise or services again.
Current liabilities have to have good management and classification since when another debt is going to be acquired as financing or loan, they will ask for documents that certify that the company does not have large debts and that they are able to pay off the one they are requesting. It is of vital importance to register all the operations carried out, as well as the loan applications or the cancellation of debts so that at the end of the day there are no problems and this is all organized and embodied.
To find a quick solution in the case of not being able to settle the outstanding debts, you can negotiate with the institution or the provider, so that it gives you a more extensive date to cancel the pending payment or request the pending payments of the clients, in order to secure cash for debts or interest.
Current liabilities in the balance sheet
The balance sheet is a document that reflects the assets, liabilities, and capital of a company, to keep a good administration and order in the accounting area, to know what is the true economic situation of the company.
Current liabilities are included in the classification of liabilities, together with fixed or non-current liabilities. It is essential that the current liabilities be lower than the fixed assets, and this would mean that the company has a good cash income and is able to pay for expenses and short-term debt. Current liabilities should never exceed fixed assets since assets will begin to be financed by current liabilities.
The less current liabilities there are, the better for the company since it will have a greater margin of assets, which means cash.