In this article, we will explore whether inventory should be classified as a current or non-current asset based on its characteristics and other factors. Read on to learn more.
Inventory is generally considered a current asset as it is expected to be converted into cash or used within one year of the company's operating cycle. However, in specific cases where a company plans to hold certain items beyond its typical operating cycle, inventory may be categorized as a non-current asset.
Example: A grocery store's food inventory such as fresh produce and canned goods, is considered a current asset. This is because it's bought for resale within a short timeframe usually within a few weeks to a few months.
Inventory is generally categorized as a current asset due to its expected conversion into cash or use within one year. Here are some characteristics of inventory considered as current assets:
Inventory classified as a current asset is expected to be converted into cash or used up within a year, in line with the company's operational cycle.
Example: A grocery store holds $100,000 worth of fresh produce, intending to sell it within a month due to the short shelf life of these products.
Inventory is comparatively liquid compared to long-term assets, meaning it can be converted into cash more quickly.
Example: An electronics retailer maintains $500,000 worth of smartphones and accessories that can be sold rapidly in response to customer demand.
Efficient inventory management is indicated by high inventory turnover, reflecting the swift conversion of inventory into sales.
Example: A fast-food restaurant consumes $10,000 worth of ingredients daily, ensuring a fast turnover of its perishable inventory.
Inventory is recorded on the balance sheet at the lower of its cost or market value to prevent overvaluation.
Example: A clothing store holds $50,000 worth of winter coats. Due to a sudden heatwave, the market value drops to $40,000, prompting a write-down on the balance sheet.
Inventory directly affects a company's working capital, either tying up cash when stock levels rise or freeing up cash when they decrease.
Example: An auto manufacturer reduces its component inventory from $2 million to $1 million, freeing up $1 million in working capital for other operational needs.
Various types of inventory, such as raw materials, work-in-progress, and finished goods, are classified as current assets, each with distinct characteristics.
Example: A furniture manufacturer manages raw wood inventory, work-in-progress pieces on the factory floor, and finished furniture products in its warehouse, all as current assets.
The nature of inventory can vary by industry, with retailers holding finished goods and manufacturers managing raw materials, work-in-progress, and finished goods.
Example: A car dealership has a current asset inventory consisting of new and used vehicles, while an automobile parts manufacturer maintains raw materials like steel and plastic as current assets.
In some cases, inventory is categorized as a non-current asset when a company plans to hold specific items beyond its typical operating cycle, driven by unique business strategies. Here are some characteristics of inventory considered as non-current assets.
Inventory categorized as a non-current asset is intended for holding beyond the typical one-year operating cycle, reflecting a longer-term strategic decision.
Example: A construction company purchases $2 million worth of specialized heavy machinery and equipment, which it plans to use in various projects over the next five years.
Inventory items designated as non-current assets are often materials, supplies, or equipment earmarked for specific long-term projects or capital-intensive endeavors.
Example: An aerospace manufacturer procures $5 million worth of aerospace-grade aluminum for a new aircraft design that will take three years to complete.
Certain businesses deal in rare or collectible items that have a very slow turnover rate, warranting classification as non-current assets due to their unique nature.
Example: An art gallery acquires a $1 million painting for its collection, with no immediate plans to sell, considering it an investment for the long term.
Inventory acquired with the intent to lease or rent over an extended period is often classified as a non-current asset because it is not expected to be sold within the next year.
Example: A car rental company purchases a fleet of luxury cars for $10 million, intending to lease them to customers over the next three years.
Inventory stockpiled for strategic purposes, such as securing supply chains or taking advantage of favorable pricing, may be classified as non-current if it is held for an extended period.
Example: An oil refinery accumulates $15 million worth of crude oil reserves to ensure a stable supply during volatile market conditions, with plans to use it over the next two years.
Companies engaged in long-term contracts or service agreements may hold inventory that won't be consumed or sold within a year, classifying it as non-current.
Example: A catering company purchases $500,000 worth of premium food ingredients for a multi-year contract with an international airline to provide in-flight meals.
While there are numerous inventory items considered as current and non-current assets, we listed some common examples below.
Here are some examples of inventory considered as current assets:
1. Retail Store Inventory: Clothing, electronics, and other goods held by a retail store for sale to customers are considered current assets because they are intended to be sold within a short time frame (typically within a year).
2. Grocery Store Inventory: Food items like fresh produce, canned goods, and dairy products held by a grocery store for sale are current assets because they have a short shelf life and are expected to be sold within a short period.
3. Car Dealership Inventory: New and used vehicles held by a car dealership are considered current assets since they are typically sold within a few months.
4. Electronics Retailer Inventory: An electronics retailer's inventory, including smartphones, laptops, and accessories, is classified as a current asset. These items are typically sold within a year or less, aligning with the retailer's operating cycle.
5. Pharmacy Drug Inventory: Pharmaceuticals held by a pharmacy for sale to customers are considered current assets. These drugs have a limited shelf life and are expected to be dispensed to customers within a short period.
Here are some examples of inventory considered as non-current assets:
1. Construction Company's Building Materials: A construction company may stockpile building materials such as steel beams, cement, and lumber for long-term projects. In this case, these materials may be classified as non-current assets because they are not intended for immediate resale but rather for use in multi-year projects.
2. Manufacturing Company's Raw Materials: A manufacturing company that produces specialized machinery may hold raw materials like rare metals for extended periods to ensure a steady supply. These raw materials may be classified as non-current assets.
3. Art Gallery's Artwork Inventory: An art gallery may own valuable artworks for investment purposes rather than for immediate sale. In this case, the artworks may be classified as non-current assets because they are not expected to be sold in the short term.
4. Aircraft Manufacturer's Parts Inventory: An aircraft manufacturer may maintain an inventory of specialized aircraft components and parts that are not for immediate sale but are used in the production of aircraft. These parts are considered non-current assets due to their long-term use.
5. Wine Collector's Wine Inventory: A wine collector who purchases rare and valuable wines for investment purposes rather than immediate consumption would classify these wines as non-current assets. The intention is to hold and potentially sell them at a profit in the future.
We hope that you now have a better understanding that while inventory is usually classified as a current asset, it can also be considered a non-current asset.
If you enjoyed this article, you might also like our article on non-inventory items or inventory roll forward.
