The company’s assets are an important component of its net worth. When issuing loans, lenders may consider the company’s assets.
What is an Asset?
According to International Financial Reporting Standards, (IFRS), an asset is a resource that the enterprise controls as a result of past events and from which future economic gains are expected to flow to it.
Assets are valuable because they generate revenue and can be converted into cash. Assets can be either tangible items like machinery or intangible assets such as intellectual property. The company’s balance sheets, which are one of its most important financial statements, will show assets.
Assets vs. Liabilities
Understanding the differences between assets and liabilities is crucial. On its balance sheet, a company lists its assets and liabilities. Assets are the resources that a company owns or controls and are expected to have future economic value. Liabilities refer to what a company owes others. These include outstanding bills to suppliers, wages, benefits, and lease payments.
Public companies must note that leased equipment and property are listed on their balance sheets as an asset (Right to Use) and as a liability (the future value of lease payments). U.S. GAAP will soon require private companies to do the exact same.
Equity refers to the company’s net value, which is the amount that would be returned by the shareholders or owners if all assets were sold off and all outstanding debts settled.
How assets work
The company’s ability to grow and produce cash is dependent on its assets. Assets are classified based on their ability to be converted into cash (for company assets) or their business purpose. They assist accountants in assessing a company’s solvency, risk, and lenders in deciding whether to lend money to that company.
Different types of assets
There are many criteria that can be used to classify assets. The correct classification is crucial for financial reporting and evaluation of a company’s financial health. According to the IFRS, assets are typically valued based on the expected future cash flow they will generate in their current condition.
Personal: These assets are not the same as personal financial assets. They contribute to an individual or family’s net worth. Personal financial assets can include cash, bank accounts, real property, vehicles, and personal property.
Business: Assets that are business-related can add value to a company’s operations and be used to create goods or fund operations. Physical assets include machinery, property, raw material, inventory, and intangibles like patents, royalties, and other intellectual property. Companies record their assets on their balance sheets and classify them according to to set criteria. This includes whether or not they can be easily converted into cash and how they were used to generate value.
Convertible: A business’s ability to convert assets into cash quickly is called convertible. Current assets are assets that can be converted into cash in a single fiscal year or operational cycle. If the asset’s price is sufficiently discounted it can be converted to cash in 12 months. However, current assets are only assets that will be converted into cash in 12 months.
Current assets include:
- Cash and cash equivalents such as treasury bills or certificates of deposit.
- Marketable securities include stocks, bonds, and other securities.
- Accounts receivable (AR) refers to sales to customers with credit that are due immediately.
- Inventory refers to the stock of goods and materials that a company keeps on hand.
Items that are not current assets cannot be converted into cash in less than a year. Facilities and heavy equipment are examples of non-current assets. They are typically listed under the heading property and plant and equipment (PP&E) on the balance sheets. Some companies do not use “PP&E” in their balance sheets. They may list other non-current assets under fixed assets, long-term assets, or just non-current.
Tangible assets: Assets with a tangible existence are known as tangible assets. These assets include cash, PP&E, and inventory. Long-lived assets are both tangible and intangible assets that are expected to bring economic benefits beyond the current year. These include manufacturing equipment or buildings.
As the name suggests, intangible assets lack a physical presence. Intangible assets can include rights-of-use assets such as patents, copyrights, and trademarks. Sometimes, it is difficult to quantify their value.
Some tangible assets and intangible assets can be referred to as “wasting assets”, or assets that lose value over a short time span. Manufacturing equipment and vehicles are examples of tangible assets that can be considered wasting assets. These assets wear down over time or become obsolete. Patents, which are intangible assets, can also be considered wasting assets as they have a short life span before expiring. Accounting adjusts the asset’s value to reflect the loss of value over time by applying amortization (for intangible assets) and depreciation (for tangible assets).
Asset usage: Finally, assets can be classified as either operating or not-operating depending on how they are used by a company. The primary operations of a company’s business require operating assets such as cash, inventory, and factories. Heavy equipment, which is used by a miner, qualifies as an operating asset. The same goes for a manufacturer’s production machinery.
While non-operating assets may not be necessary to fund business operations, they can provide other peripheral value. These include marketable securities, short-term investments, interest from deposits, administrative computers, and interest from deposits.
Three Key Properties of Assets
To be considered an asset, something must possess three properties
- The first step is to own or have control over the asset. This allows the company to convert the asset in cash or an equivalent cash amount and restricts others’ access to the item. Right-of-use assets can’t always be converted. Many lease agreements stipulate that the lease can’t be transferred or sold. When considering the informal and technical meanings of assets, it is important to consider who owns them. Companies often claim that their employees are their greatest asset, but they don’t actually have control over them. Employees can leave to find a better job.
- Second, assets must have economic value. Except for certain right-of-use assets like lease agreements, all assets can be sold or converted to cash. Assets can then be used to support production or business growth.
- Resource: An asset must be a resource. This means that it can or has to be used in the future to create economic value. This usually means the asset is capable of generating future positive cash flows.
FAQs about Assets
How does a company know if an asset is worth its while?
Assets are anything that is of economic benefit to a company. Assets are basically everything that a company controls and owns that is currently valuable or could be of future benefit. Examples of assets include patents, machinery, and investments.
What are intangible assets and what do they mean?
Intangible assets can be defined as non-physical assets that add value to a company, but are not physically tangible. These non-physical assets can include goodwill, reputation and trademarks, royalties, and brand equity, as well as contractual obligations.
Is labor considered an asset?
Labor is not an asset. Labor is an expense in most cases. To hold wages due at the end or on payday, employees will be considered current liabilities.
What is the difference between current assets and fixed assets?
Current assets are usually exhausted within one year, so they are short-term. They are essential for the day-to-day operations of a business. Fixed assets have a longer life span, usually over one year.