In order to generate an income and assist in operations, practically every business needs
fixed assets. Fixed assets are property, plant, equipment, and vehicles that help the company to generate an income and are not expected to be consumed or converted into cash within a year.
Fixed assets are typically reported in the balance sheet as property, plant, and equipment.
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Buildings, furniture, land, computer equipment, vehicles, and machinery are all common examples of fixed assets. A fixed asset is an asset that a company owns and uses in its operations to generate income.
Some 'fixed' assets can move from one location to another, such as computer equipment and furniture.
Fixed Assets & The Balance Sheet
A balance sheet shows a business's assets, liabilities, and shareholders' equity. What it owns and what it owes.
In the balance sheet, assets are divided into two categories; current assets and non-current assets. The difference between current assets and non-current assets comes down to the property's useful life.
As mentioned earlier, a fixed asset is an asset that will not be sold within the first accounting year of purchase. With the exception of Land and Buildings, most fixed assets decrease in value over time.
To recognise the decrease in value over the asset’s life time the asset is “depreciated”. The cost of the asset is expenses over its lifetime – the rate at which it is expenses depends on the asset – computer equipment is expenses at a higher rate than Plant and Equipment.
A fixed asset is recorded at its 'net book value', this means it is recorded at its original value minus accumulated depreciation. This means that the net book value of a fixed asset is always declining. Depreciation rates for tax purposes are specified by the Inland Revenue Department, but business may choose different rates for internal reporting.
When a company acquires or disposes of a fixed asset, this is recorded in the cash flow statement under the cash flow from investing activates. A fixed asset that is acquired is represented as a cash outflow, whereas the sale of a fixed asset is represented as a cash inflow. If a fixed asset is sold at less than its net book value, the company incurs a loss on sale, conversely if it sells for greater than book value it is will either depreciation recovered or a gain on sale.
In the event that a fixed asset reaches the end of its useful life, it is usually sold for salvage value, or if it is regarded as totally obsolete it may be discarded without any payment in return.
Intangible long-term assets such as patents and trademarks are also often classed as fixed assets but more specifically as 'fixed intangible assets'.
The Importance of Fixed Assets
Fixed assets are crucial to understanding the financial wellbeing and value estimation of a business. Understanding a business's assets helps to create an accurate financial report, valuation, and financial analysis. These reports are used by investors and creditors to determine a company's financial health and help them to determine whether or not to buy shares or lend money to the business.
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If you operate in a capital-intensive industry, such as manufacturing, and your business requires large investments in Plant & Equipment, then recording fixed assets accurately (including depreciation) is particularly important. For example, if a company that is capital-intensive repeatedly reports negative net cash flows for the purchase of fixed assets this could indicate that the business is actually experiencing growth.
Engine Room Chartered Accountants in Tauranga & Auckland
Are you small business owner that is beginning to feel swamped by your financial responsibilities? Are you finding yourself spending too much time working in your business and battling confusing accountancy speak instead of working on your business? Then talk to the friendly and professional financial experts at Engine Room Chartered Accountants and focus on what you do best — making a profit.
At Engine Room we are dedicated to ensuring that all of our clients' business run efficiently and that their business processes are streamlined. We use leading, cloud-based accountancy software such as Xero to help SMEs in New Zealand compete with the larger companies and perform at their optimal best.
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