What is a Fixed Asset
A fixed asset is a long-term tangible piece of property that a firm owns and uses in its operations to generate income. Fixed assets are not expected to be consumed or converted into cash within a year.
Fixed assets are known as property, plant, and equipment (PP&E). They are also referred to as capital assets.
BREAKING DOWN Fixed Asset
A company's balance sheet statement consists of its assets, liabilities, and shareholders' equity. Assets are divided into current assets and noncurrent assets, the difference for which lies in their useful lives. Current assets are typically liquid assets which can be converted into cash in less than a year. Noncurrent assets refer to assets and property owned by a business which are not easily converted to cash. The different categories of noncurrent assets include fixed assets, intangible assets, long-term investments, and deferred charges.
A fixed asset is bought for production or supply of goods or services, for rental to third parties, or for use in the organization. The term 'fixed' translates to the fact that these assets will not be used up or sold within the accounting year. A fixed asset typically has a physical form and is reported on the balance sheet as property, plant, and equipment (PP&E).
When a company acquires or disposes of a fixed asset, this is recorded on the cash flow statement under the cash flow from investing activities. The purchase of fixed assets represents a cash outflow to the company, while a sale is a cash inflow. If the value of the asset falls below its net book value, the asset is subject to an impairment write-down. This means that its recorded value on the balance sheet is adjusted downward to reflect that its overvalued compared to the market value.
When a fixed asset has reached the end of its useful life, it is usually disposed of by selling it for a salvage value, which is the estimated value of the asset if it was broken down and sold in parts. In some cases, the asset may become obsolete and may no longer have a market for it, and will, therefore, be disposed of without receiving any payment in return. Either way, the fixed asset is written off the balance sheet as it is no longer in use by the company.
Some accountants categorize intangible long-term assets, such as trademarks and patents, as fixed assets, and more specifically refer to them as fixed intangible assets.
Examples of Fixed Assets
Fixed assets can include buildings, computer equipment, software, furniture, land, machinery, and vehicles. For example, if a company sells produce, its delivery trucks are fixed assets. If a business creates a company parking lot, the parking lot is a fixed asset. Note that a fixed asset does not necessarily have to be "fixed" in all sense of the word. Some of these types of assets can be moved from one location to another, such as furniture and computer equipment.
Depreciation of Fixed Assets
Fixed assets lose value as they age. Because they provide long-term income, these assets are expensed differently than other items. Tangible assets are subject to periodic depreciation, as intangible assets are subject to amortization. A certain amount of the asset's costs is expensed annually. The asset's value decreases along with its depreciation amount on the company's balance sheet. The corporation can then match the asset's cost with its long-term value.
How a business depreciates an asset can cause its book value, or the amount paid for the asset, to differ from the current market value at which the asset could sell. Unless it contains natural resources, land may not be depreciated, because it cannot be depleted.
Importance of Fixed Assets
Information about a corporation's assets helps create accurate financial reporting, business valuation, and thorough financial analysis. Investors and creditors use these reports to determine a company's financial health and to decide whether to buy shares in or lend money to the business. Because a company may use a range of accepted methods for recording, depreciating, and disposing of its assets, analysts need to study the notes on the corporation's financial statements to find out how the numbers were determined.
Fixed assets are particularly important to capital-intensive industries, such as manufacturing, that require large investments in PP&E. When a business is reporting persistently negative net cash flows for the purchase of fixed assets, this could be a strong indicator that the firm is in growth mode.