A Breakdown of “Current Liabilities” In the Era of Coronavirus – Lee Chandler

The COVID-19 coronavirus pandemic has upended both societal, healthcare, and economic norms in truly unprecedented ways, all within the timeframe of a few (very hectic) months. Focusing on the economic impacts, the blows dealt to global markets have forced investors to rapidly adapt their fiscal strategies to meet the changing fiscal landscape. One of the moist poignant areas investors have been evaluating is a company’s current liabilities, which are defined as “short-term financial obligations that are due within one year or within a normal operating cycle.” Liabilities that are often considered “current” include (but are not limited to) accounts payable, notes payable, dividends payable, certain unearned or deferred revenues, and portions of long-term debt nearing its maturity date (i.e., prepayment).

As one may assume, the current liabilities are the portion of a company’s debt or other liabilities coming due most soon, and therefore is closely associated with “current assets,” such as cash on hand and other assets that may be liquidated within a year or one business cycle. Both the current assets and current liabilities are normally designated on a company’s balance sheet, and these totals are used to calculate a variety of short-term financial ratios. An example of this is the “current ratio” which is calculated by dividing current assets by current liabilities, and therefore provides a representation of how equipped a company is to pay off its current liabilities with current assets. This and other similar ratios are cornerstones of fundamental financial analysis, but there is great variety among industries regarding what is considered acceptable or “healthy” ratio values. Some industries, such as manufacturing, maintain a current ratio industry average of about 2.1, meaning that current assets could pay off current liabilities 2.1 times. However, a number of industries maintain current ratios significantly lower than this. In fact, the industry average for construction in Q1 of 2018 was 0.97, meaning that current liabilities could not even be fully paid off by current assets if the company saw this as a necessary action.

Each industry is affected in different degrees by a multitude of both internal variabilities and externalities, but, like many things surrounding the COVID-19 coronavirus, financial standards are being reimagined. This is especially true for those industries being forced to absorb months’ worth of lost or forgone revenue due to closures and social distancing guidelines. The airline industry, for example, already maintained relatively high debt loads and current ratio averages around 1. Now, the industry has been largely immobilized, and only recently have some areas around the world begun to allow civilian air travel again in sizeable numbers. This closure of airports dramatically slashed their revenues, and therefore the company’s cash flows and net income was reduced. Ultimately, their total cash or other current assets on the balance sheet are reduced by these effects. Without normally expected revenue streams, the airlines, as well as similarly affected industries like cruises, hotels/resorts, and casinos, are suddenly at significantly heightened risk of being unable to manage current debt loads. The most immediate of these are current liabilities, and a number of massive corporations, such as Carnival Cruise Lines, Comcast, and others, are being forced to weaken long-term financial flexibility through refinancing efforts. Indeed, what was once seen as standard or acceptable for many industries’ finances is being rapidly reevaluated as investors and managers seek to mitigate future risk factors that may prove as significant as the current pandemic.

It has been widely stated that the post-coronavirus world will consist of a “new normal.” The future of corporate management and investor expectations is certainly no exception, and only time will tell just how severe the shifts in management practices will be. One thing, however, is certain: in our globalized and rapidly changing world, new opportunities are matched by new risks. The current pandemic has made known the influence that certain externalities may have on a company’s sustainability and success, and managing parties will be forced to adjust themselves for the “new normal” now taking shape.

 

Sources:

  • Average current ratios by industry. (n.d.). Retrieved June 08, 2020, from https://wellsfargoworks.com/management/infographic/average-current-ratios-by-industry
  • Tuovila, A. (2020, June 01). Current Liabilities Definition. Retrieved June 08, 2020, from https://www.investopedia.com/terms/c/currentliabilities.asp
  • https://jafas.org/articles/2016-2-2/5_Airline_FULL_TEXT.pdf

 

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