Fixed assets

Definition

Fixed assets are long-term tangible resources that a company uses in its operations to generate income. They are not intended for sale in the ordinary course of business and typically include items such as property, plant, equipment, and vehicles. Understanding fixed assets is crucial for assessing a company's financial health and operational efficiency, as their management impacts depreciation and overall asset valuation.

5 Must Know Facts For Your Next Test

1. Fixed assets are recorded on the balance sheet at their historical cost, which includes purchase price and any additional expenses necessary to prepare the asset for use.
2. Unlike current assets, fixed assets are not expected to be converted into cash or sold within one year.
3. The value of fixed assets can decline over time due to depreciation, which companies must account for in their financial statements.
4. When assessing a company's financial performance, investors often look at the ratio of fixed assets to total assets to understand how much of the company's resources are tied up in long-term investments.
5. Impairment may occur if a fixed asset's market value falls significantly below its book value, requiring a write-down on the financial statements.

Review Questions

• How does the concept of depreciation apply to fixed assets and why is it important for financial reporting?
  • Depreciation applies to fixed assets by systematically allocating their cost over their useful life, which helps companies match expenses with revenues generated from those assets. This is important for financial reporting because it provides a more accurate representation of an asset's value on the balance sheet and reflects the true operating costs associated with using those assets. Additionally, understanding depreciation impacts tax calculations and investment decisions.
• Discuss the impact of capital expenditures on a company's fixed assets and overall financial strategy.
  • Capital expenditures directly affect a company's fixed assets by increasing their value through investments in property, plant, or equipment. This can enhance operational capacity and efficiency but also requires careful planning within the company's overall financial strategy. Companies must balance these expenditures with their cash flow and funding sources to ensure they maintain liquidity while investing in growth opportunities.
• Evaluate the implications of impairment on fixed assets and how it can influence investor perceptions of a company’s financial stability.
  • Impairment occurs when the market value of a fixed asset drops below its book value, resulting in a write-down that affects both the balance sheet and income statement. This can signal potential issues within the company, leading investors to question its financial stability and operational effectiveness. A pattern of impairment could suggest poor asset management or declining market conditions, ultimately influencing investment decisions and perceptions of risk associated with the company.

Related terms

depreciation: The process of allocating the cost of a tangible fixed asset over its useful life, reflecting the wear and tear on the asset.

capital expenditure: Funds used by a company to acquire or upgrade physical assets such as property, buildings, or equipment.

book value: The value of an asset as it appears on the balance sheet, calculated as the original cost minus accumulated depreciation.