What Is a Permanent Current Asset?
A permanent current asset is the minimum amount of current assets a company needs to continue operations. Inventory, cash, and accounts receivable fall under the category of current assets. Base amounts of these assets need to be sustained to carry on business.
The assets are regarded as being current because they will turnover within the year. However, permanent current assets will always be replaced by similar current assets within the one-year time period.
Understanding Permanent Current Assets
A company may divide current assets into permanent and temporary types. This nomenclature, however, does not apply in the financial statements. The balance sheet does not distinguish between the two types. Instead, management internally monitors baseline current asset amounts and the excess over those amounts, also known as fluctuating current assets.
Temporary current assets rise seasonally, during the year-end holidays, for instance, or if the pace of business activity suddenly picks up for any reason. Additional sales will result in increases in accounts receivable, inventory, and cash above and beyond the permanent state necessary for those current assets.
Since companies regard permanent current assets more in the category of fixed, or long-term, although not technically accurate, they usually finance them with long-term debt. The payment of short-term debt that is due within one year may be disruptive to the maintenance of baseline current assets. Moreover, should interest rates rise and a company must refinance short-term debt, it will face higher interest expenses.
Managers, therefore, prefer to install long-term financing for the portion of current assets that they believe is necessary to sustain operations; they seek better budgeting and forecasting capability. The downside is the possibility that some of the long-term debt will not be utilized from time to time, resulting in higher-than-necessary interest expense, but this is normally an acceptable trade-off. Furthermore, as the company’s activity level grows, this portion of the current assets grows along with it, making the long-term financing portion not enough to cover the new and higher level of permanent current assets, and requiring an increase as well.
Example of a Permanent Current Asset
A department store carries $90 million of cash, $400 million of inventory, and $50 million of accounts receivable from approximately January to July. These are permanent current asset amounts required to carry on business operations. From August to December, to accommodate back-to-school demand and to prepare for the Christmas holidays, the department store ramps up inventory levels to $900 million. Cash and accounts receivable rise as well but not proportionately. These additional amounts are referred to internally as temporary current assets.
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