What are Assets?
Assets are resources that a business owns that are expected to provide some future economic benefit to the business.
Assets can be as basic as cash in the bank to a massive factory in some other part of the world.
Liquidity is the ease with which assets can be converted into cash.
Examples of Assets in order of their Liquidity are
- Accounts Receivable
- Prepaid Expense
Depending on the type of Business there may be some asset accounts in the Balance Sheet which are different from the above.
To make the usability of the Balance Sheet better- Accountants further GROUP these assets into Current Assets, Long Term Assets and Intangible Assets.
Let's take a deep dive into each Asset to get a better understanding.
Current Assets are assets that are expected to be converted into cash within 12 months.
The Cash Account includes
Cash in Checking Accounts: Most companies have a checking account at a bank which they use for their day to day business activities. Some companies have multiple checking accounts to manage their operations. For example, in bigger companies which have many divisions, the company may have a separate checking account for each division.
Cash in Savings Accounts: It is prudent for a company to keep aside cash reserves for a rainy day. Most companies prefer to keep this surplus cash in another account when they have no immediate plan to use it. In this case, the company also has the added benefit that the cash is earning interest while it is not being used.
Many businesses operate by selling some portion of their goods or services on credit.
This means that the products or services are sold first with the condition that the buyer will pay the business after a certain number of days (Example, after 30, 60, 90 days etc.)
For all the buyers that have been provided Goods or Services on credit and the cash payments have not been collected - the amount is reflected in the Balance Sheet as an ACCOUNTS RECEIVABLE.
For example, a Utility company typically bills clients a certain number of days after they have received electricity.
Once the clients use the Electricity, they owe the Utility company money.
The amount that they owe the company will be listed as an Accounts Receivable on the company Balance Sheet.
This account tracks all the products that a business has on hand to sell to customers.
TIP: The Inventory figure will be missing from Service related Businesses since Service Businesses (like accountancy firms, interior design companies) typically do not have any physical products to sell.
Pre paid Expenses
Prepaid Expenses are future expenses which are paid in advance by the company.
Common Prepaid expenses for a company are
1. Rent paid in advance.
2. Insurance Premiums.
3. Newspaper and Magazine Subscriptions.
Long Term or Fixed Assets
Long Term Assets (also called Fixed assets) are the resources that a company holds which are expected to provide a company benefits for more than one year.
Virtually every business needs Fixed Assets to carry out profit making activities.
Typical examples of Fixed Assets are
- Leasehold Improvements
- Machinery and Equipment
- Furniture and Fixtures
The Land Account tracks the Land owned by the business.
Seemingly simple to record, there are two things about the recorded value of land that you should be aware of -
1. Land is recorded at Purchase Price which could be very different from current market value of the land.
2. Land does not get depreciated.
This account tracks the value of buildings that a business owns.
Similar to land, buildings are recorded at the cost they were purchased.
The key difference between land and buildings is that building value is depreciated over time while land is not.
Leasehold Improvements (also called Fit Out) are any additions, alterations, remodeling or renovations that have been made on a leased property by the tenant.
Frequently, when a business leases a property, they must make improvements necessary to use the property in a way that is needed.
For Example, if a business leases a Retail space in a mall, the space that is leased may be an empty shell or may not match the particular needs of the business. Any improvements made to this space are considered leasehold improvements.
As with buildings, leasehold improvements are depreciated as the asset ages.
Leasehold improvements could be changes made to the ceilings, flooring and inner walls such as floor replacements, partitions, specialized lighting, upgraded security or technology systems.
There are 2 things to keep in mind when recording Leasehold improvements.
1. Any modifications or alterations made to the exterior of the buildings are not considered leasehold improvements.
2. Upon termination of the lease, such improvements normally become the property of the owner.
Machinery and Equipment
Tools used in the Business that facilitate the operations of a Business are recorded in the Machinery and Equipment section of a Balance Sheet.
While Manufacturing Companies may have Machinery and Equipment worth millions of Dollars to aid in the manufacturing process, even smaller companies have Machinery and Equipment such as Computers, Copiers, Scanners and other tools listed in the Machinery and Equipment Section of their Balance Sheet.
Similar to Furniture and Fixtures, Machinery and Equipment gets depreciated over time.
Furniture and Fixtures
Any movable Furniture or Fixtures such as Display Units, Filing Cabinets etc that have no permanent connection to the structure of the building are recorded under the Furniture and Fixture account of the Balance Sheet.
Furniture's and Fixtures are recorded at cost and depreciated over their useful life.
This account tracks any cars, trucks, or other vehicles owned by the business.
Vehicles are initially listed at cost in the balance sheet and then depreciated through their useful lifespan.
All fixed assets are subject to depreciation year on year. Eventually, these assets are Fully depreciated and written off the books.
Recording depreciation on a Fixed Asset is not an exact science.
Just because a Fixed Asset is written off the books of a company, you don't have to call a junk collector to haul it away.
Often , a fixed asset written off the books of a company has some residual value and may be in use many years after it is fully depreciated on its books.
Patents are government licenses that provide the inventor of a product or service the exclusive right to make, use and sell that product of service over a set period of time.
The patent account tracks any costs associated with these Patents.
Patents are subject to Amortization.
What is amortization?
Just like physical assets wear down over time and lose value over use, intangible assets such as patents also subject to depletion.
This reduction in value of an intangible asset over time is called Amortization.
Any costs incurred to establish or purchase Copyrights are included in this account.
Copyrights are exclusive rights granted by the government to publish and sell various works.
Copyrights are subject to expire after a certain number of years.
The Goodwill account typically arises when one company buys another company for more than the actual value of tangible assets.
Goodwill could include the companies corporate identity, brand reputation, customer base, store locations amongst many other factors.
An Intangible Asset like Goodwill has an indefinite useful life.
However, the amount of goodwill a company records is subject to a goodwill impairment test at least once per year or amortization over a period of years based on the Accounting rules and practices of the area.
- Assets are resources that a business owns that are expected to provide some future economic benefit to the business.
- Assets are grouped into Current Assets, Long Term (Fixed) Assets and Intangible Assets in the Balance Sheet.
If you are new to accounting the next thing I would read about would be Liabilities.
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