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A current portion of long-term debt is that amount of long-term debt obligations that must be settled within the next twelve-month period. Many businesses utilize standard accounting practices to qualify this portion of long-term debt, a process that makes it easier to draft workable annual budgets. The idea behind identifying the current portion of long-term debt is to make sure budgets are arranged in a manner that the debt can be met within the terms that relate to that debt. This in turn allows the business to avoid incurring late fees and possibly damaging the credit rating of the company.
While methods vary slightly, the basic means of accounting for the current position of long-term debt is to include what is known as a liability section on the company balance sheet. Within this section, obligations are segregated into long-term debt and short-term debt. Long-term debt is anything that is scheduled to be paid in longer than the next twelve months, while short-term debt includes any and all obligations that are scheduled for payment within the next twelve months. As payments on each of the open debt obligations move into that twelve-month time frame, that amount is deducted from the long-term debt and moved into the short-term debt subset in the liability section. This means that the realignment of the current portion of long-term debt is an ongoing process that is often updated at least on a monthly basis.
Maintaining this type of accounting process makes it much easier to compare the current portion of long-term debt with the current cash and cash equivalents that the company can utilize to retire the debt in a timely manner. Assuming that the cash flow is sufficient to handle the current payments due on outstanding debt, the business is able to move forward with no real impediment to meeting its obligations. Should trends in cash flow indicate that the level of that regular influx of cash will fall below the amount needed to properly manage the current debt, steps can be taken to cut costs or generate funds in some other manner so that those obligations are still met according to terms. Doing so makes it possible to weather a slow business season without damaging the company’s credit or the relationship with any of the current creditors.
Potential creditors will often look closely at the relationship between the current portion of long-term debt held by a company and the amount of cash flow the business current enjoys. A larger current debt that is coupled with a relatively small cash flow is a sign that the business may not be a good credit risk, since the potential for default is somewhat higher. Investors will sometimes consider this same factor, and avoid investing in a business where the balance between cash flow and the current portion of long-term debt is considered unfavorable.
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