1. Owned AND
2. Controlled in order to produce value.
They form the left part of the accounting equation.
An example is a factory building when it is owned and controlled by a business – it can be sold, it can be rented out and of course it can be utilized for making things for sale. All 3 scenarios fall into the category of “producing value” – selling or renting the building out will generate cash; and utilizing it for production, and selling the goods produced, will also generate profits.
Stocks are another example. Let’s say we’re looking at a bookstore business. The books that are sold every day would be the business’ stocks (sometimes called ‘inventories’, because when you count stocks, you are making an inventory of them). Stocks produce value to the business when they are sold for profit.
Debtors (sometimes called ‘receivables’) are yet another example. Let’s say that in our bookstore business, customers are allowed to buy on credit. In other words, they can opt to take the books now and pay later. These customers are called debtors and the amounts owing from them are called receivables. They also produce value because one day (depending on the credit terms given), debtors will pay up in cash.
Current assets are held for the short term – less than a year – to be changed into another form. In a business, these are usually cash, stocks, debtors/receivables and short term investments. Let’s use an example to illustrate how a current asset is changed into another form. Stocks are sold for a profit every day (in most cases) and therefore, they change form from stocks to cash. Debtors/receivables will make repayment, and the outstanding balances will be transformed into cash. Similarly, short term investments such as stocks/ shares are held for a short period and sold for cash afterwards.
Conversely, then, non-current assets are held for the long term – more than a year. These are usually large items such as real property – buildings, factories, land developments – or vehicles, plant, machinery and long term investments which will not be sold in the near future.
Long term investments are usually held for future capital growth in the long term; an example are shares in a company that is just starting up, in the hope that when the company is mature and is able to generate profits, the worth of the shares held will be much higher. Other examples of long term investments are bonds and investment funds.
The liquidity of an asset refers to how easy it can be converted into cash or sold. It goes without saying that cash is the most liquid form. Also, in general, short-term is more liquid than long-term - it is much easier to sell stocks as compared to a factory. Within the short-term category, debtors/receivables are considered more liquid than stocks.
Tangible assets can be physically seen. By the way, all the examples that we have discussed in this article, up to this point, are tangible. Intangible ones, however, cannot be physically seen, but they are still owned and produce value. Examples are goodwill, patents, copyrights, brands and trademarks.
Goodwill is present when a business has been operating over a number of years, and has a good operating track record, good working relationships with suppliers/creditors and good relationships with customers. It usually has a good business reputation overall. Now when a business like this is bought over by a third party, that party would have to pay an amount over and above the actual cost of the assets, to reflect this extra value built up by the business over time. That extra amount is called goodwill.
Patents are exclusive rights granted to an inventor, for a limited period of time – in return, the inventor will disclose the design of his invention. A patent protects the inventor to ensure that no one else can profit from the same design. A company that owns a patent will then have the exclusive right to produce the invention items for sale. Copyrights are similar to patents, except that they pertain to original works such as songs, lyrics, books, papers or photos. Brands or trademarks are names, terms, designs or symbols or any other feature that identifies a good or service as distinct from that of other companies – a famous example is Coca-Cola or Apple. They have value because very often consumers decide to buy a product based on the brand itself as opposed to other factors.
A movable asset means exactly as it sounds – they can be moved around, such as furniture, equipment and motor vehicles. On the other hand, immovable ones are fixed, such as buildings, land and renovation.