Is Investment in Equity Securities a Current Asset?

Whether an investment in an equity security is a current asset depends on its accounting treatment under U.S. Generally Accepted Accounting Principles (U.S. GAAP). An equity security, such as common stock, represents an ownership interest in another entity. A current asset is cash or any other company asset expected to be converted into cash within one year or the business’s normal operating cycle, whichever is longer.

While management’s intent was historically a factor, accounting rules now primarily determine the classification for most common equity investments.

Classification Under U.S. GAAP

The General Rule: Fair Value Through Net Income

Under Accounting Standards Codification (ASC) 321, most investments in equity securities must be measured at fair value, with any changes in value reported in the company’s net income. Because these securities are measured at their current market value and their gains or losses impact net income each period, they are considered available for sale.

This treatment classifies them as current assets and removes the subjectivity of management’s intent that was allowed under the former “available-for-sale” category for equities.

Exceptions for Strategic or Illiquid Investments

There are two primary exceptions to the general rule, both of which result in a non-current asset classification due to their long-term nature.

The first exception is for investments where the purchasing company can exert significant influence over the investee, which is generally presumed when owning between 20% and 50% of another entity’s voting stock. These investments are accounted for using the equity method under ASC 323. Due to the strategic nature of these holdings, they are classified as non-current assets.

The second exception applies to equity investments that do not have a “readily determinable fair value,” such as stock in a private company. These may be measured at their original cost, less any impairment. Their lack of liquidity means they are also classified as non-current assets.

Impact on the Balance Sheet

An equity security’s classification as current or non-current directly impacts a company’s balance sheet. The balance sheet separates current assets from non-current assets to help in analyzing a company’s short-term liquidity. Classifying a security as a current asset increases this total, suggesting a better ability to meet short-term obligations.

This classification affects financial ratios used by lenders and investors to assess a company’s financial health. One such ratio is the current ratio, calculated as Current Assets divided by Current Liabilities. A higher current ratio is often viewed favorably, as it indicates more resources are available to cover short-term debts.

For example, a company with $500,000 in current assets and $250,000 in current liabilities has a current ratio of 2.0. If a $100,000 equity investment is classified as a current asset, total current assets become $600,000. This raises the current ratio to 2.4, presenting a more liquid financial position.