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Nice Assets!

Posted by Seth Elliott On December - 14 - 2010

Continuing with our series on financial statements, today we are going to examine the Balance Sheet in more detail. Let’s evaluate the “left-hand” side of the Balance Sheet – Assets. Today, we’ll review the specific categories of Assets and examine some of these classifications in more detail.

Cash is clearly the most liquid of assets. Cash includes unrestricted balances in checking accounts, cash on hand and savings accounts (even though the bank often has the right to hold the funds for a period of time).

Marketable Securities, sometimes called short-term investments, are instruments that can readily be converted into cash. These usually refer to stocks, bonds or other securities that have a determinable market price and a liquid market in which to sell them. Management must have the intent to convert these securities into cash during the current period (i.e., within 1 year) in order to categorize these as marketable securities.

Accounts Receivable are simply monies due to the company from customers as a result of sales or services the company has rendered. Bear in mind that accounts receivable are generally shown net of an allowance for uncollectability (including discounts or returns).

Inventory is simply the balance of any goods on hand. These are generally categorized as follows:

Raw Materials are components purchased for direct use in manufacturing a product.
Work in Process are products that have been started but are not yet ready to be sold.
Finished Goods, by contrast, are items that have been completed and are ready for sale.
Supplies are components that are used indirectly in producing goods (or services), for example tape for cash registers (as a retailer) or needles (for a garment manufacturer).

Note that not all firms have these Inventory categories. Manufacturers generally have all five, while retailers and wholesalers often do not have any Raw Materials or Work in Process inventory. Service firms often have no inventory at all.

Prepaids are expenditures made in advance of the time that the company will make use of the goods or services. Typical prepaid expenses include taxes, rent, insurance, advertising and similar expenditures.

Other Current Assets are often categorized on the balance sheet. These may include other types of receivables (tax refunds, installment sales, etc.), unbilled costs, deposits or advances, etc. Remember, an asset may be classified by management as current if it is anticipated to be converted into cash within one year.

Recall that all other assets are deemed to be Long-term or Noncurrent in nature. Generally, these are categorized as tangible assets, long-term investments and intangible assets,

Tangible assets are actual physical facilities and equipment that are used in operating the business. These usually include Land, Buildings and Improvements, Machinery/Equipment and In Progress Construction. These items are all subject to Depreciation – which is the process of allocating the costs of these items over some defined period of time during which the asset will erode in value. Depreciation is accumulated from period to period and is subtracted from the tangible asset value to arrive at a net asset value.

Investments are not characterized as tangible assets. Long-term investments are generally equity (stocks) or debt (bonds) of other companies held for the purposes of exercising control or maintaining a specific business relationship.

Intangible Assets are, as the name suggests, non-physical in nature. Generally, these assets are intellectual property, such as patents, copyrights or trademarks. These are usually recorded at historical cost (or appraised value) and amortized over their useful (or legal) lives.

Of course, this brief overview does not include any and all assets that may appear on the Balance Sheet. Firms may have assets that do not fit into one of these classifications. These may include noncurrent receivables, noncurrent prepaid expenses, etc.

Before we conclude the examination of Assets and move on to Liabilities, we need to examine a few key ratios. In my next post, we’ll take a look at two key Asset ratios: Accounts Receivable Days and Inventory Days. We’ll discuss how these ratios are used and how to easily calculate them. Additionally, we’ll evaluate how to use them for comparison purposes and provide instruction on utilizing them to project elements of the future balance sheet.

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About the Author

I have spent the last 15 years advising entrepreneurs on starting and growing their businesses, as well as assisting in financing those growth efforts. I have also been an entrepreneur on several occasions myself. By writing this blog, I hope to provide actionable advice on how to achieve your goals and become more successful.