Question
Current liabilities
will never be repaid
always arise from the purchase of current assets be used up or turned into cash within 12 months
will never be repaid
always arise from the purchase of current assets be used up or turned into cash within 12 months
Ask by Gibbs Watson. in the United States
Jan 26,2025
Upstudy AI Solution
Tutor-Verified Answer
Answer
Current liabilities are short-term obligations expected to be repaid within one year. They arise from day-to-day operations and are typically settled using current assets like cash.
Solution
It looks like you’re outlining key characteristics of current liabilities in accounting. Let’s break down each statement to ensure clarity and accuracy:
1. "Current liabilities will never be repaid"
Clarification:
This statement is incorrect. Current liabilities are expected to be repaid within a short period, typically within one year or the company’s operating cycle, whichever is longer. They represent obligations that the company needs to settle in the near term.
This statement is incorrect. Current liabilities are expected to be repaid within a short period, typically within one year or the company’s operating cycle, whichever is longer. They represent obligations that the company needs to settle in the near term.
Examples of Current Liabilities Include:
- Accounts Payable: Money owed to suppliers for goods and services received.
- Short-Term Loans: Loans and other borrowings due within one year.
- Accrued Expenses: Expenses that have been incurred but not yet paid, such as wages, utilities, and taxes.
- Deferred Revenue: Payments received in advance for services or goods to be delivered in the future.
2. "Current liabilities always arise from the purchase of current assets and are used up or turned into cash within 12 months"
Clarification:
This statement is partially correct but could use some refinement for accuracy.
This statement is partially correct but could use some refinement for accuracy.
-
Origin:
Current liabilities often arise from the purchase of current assets or from operational activities. For example, purchasing inventory on credit creates accounts payable, a current liability. -
Conversion to Cash or Use:
These liabilities are generally expected to be settled within 12 months. This settlement typically involves using current assets (like cash) or generating cash through operations to pay off the obligations.
Refined Statement:
“Current liabilities arise from a company’s short-term operational activities, such as the purchase of current assets on credit, and are expected to be settled using current assets or through generating cash within a 12-month period.”
“Current liabilities arise from a company’s short-term operational activities, such as the purchase of current assets on credit, and are expected to be settled using current assets or through generating cash within a 12-month period.”
Summary of Current Liabilities Characteristics:
- Short-Term Obligations: Due within one year or the operating cycle, whichever is longer.
- Operational Origin: Typically arise from day-to-day business operations, such as purchasing inventory or incurring expenses.
- Settlement Methods: Paid off using current assets like cash or by generating sufficient cash flow from operations.
- Impact on Liquidity: Current liabilities are a key component of a company’s liquidity measurements, such as the current ratio and working capital.
Importance in Financial Analysis:
Understanding current liabilities is crucial for assessing a company’s short-term financial health and liquidity. It helps stakeholders determine whether the company has enough assets to cover its immediate obligations.
Common Ratios Involving Current Liabilities:
-
Current Ratio: Current Assets / Current Liabilities
Indicates the company’s ability to pay off its short-term liabilities with its short-term assets. -
Quick Ratio (Acid-Test Ratio): (Current Assets - Inventory) / Current Liabilities
Provides a more stringent measure of liquidity by excluding inventory from assets. -
Working Capital: Current Assets - Current Liabilities
Measures the short-term financial health and operational efficiency.
Conclusion:
Current liabilities are definitely expected to be repaid within a year and are integral to understanding a company’s short-term financial obligations and liquidity. Ensuring accurate management and reporting of current liabilities is essential for maintaining financial stability and operational efficiency.
Answered by UpStudy AI and reviewed by a Professional Tutor
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Simplify this solution Bonus Knowledge
Current liabilities are short-term debts that businesses must settle within a year. Think of them as the “fast track” of financial obligations—you’ve got rent, payroll, and supplier payments racing towards their deadlines! They keep the wheels of the business turning and are closely tied to the day-to-day operations.
While it’s essential to manage current liabilities carefully, they can actually be a good sign of healthy business operations. If a company can cover its current liabilities with its current assets, that indicates a solid liquidity position. However, over-reliance on these short-term debts can lead to cash flow challenges if not monitored properly!
