Fixed assets are one of the main pillars of business. Many organizations would not exist or even generate revenue if not for their property, plant, and equipment. To fully understand accounting and financial reporting, you must have a broad-level knowledge of fixed assets.
Fixed asset definition
A fixed asset, also known as a capital or tangible asset, is a tangible long-lived piece of property or equipment a company or firm plans to use over time to help generate income. Fixed assets are purchased for long-term business use. These items are also referred to as property, plant, and equipment.
Net fixed assets
Net fixed assets are the metric measuring the value of an entity’s fixed assets. This aggregation of the book value or purchase price of all the businesses’ fixed assets along with their related accumulated depreciation is used to ascertain the amount an entity’s fixed assets are worth at a given time. In other words, it’s the total carrying value of all equipment, buildings, vehicles, machinery, and other fixed assets.
Current vs long-term
Current assets refer to company-owned items that will be converted into cash within the year. This includes items such as inventory and accounts receivable. Long-term assets are the remaining items that can’t be replaced with cash within one year. This includes things like the buildings and vehicles the company owns.
Fixed asset accounting
Fixed asset accounting refers to the action of record-keeping a company’s financial transactions for its capital assets. ASC 360, Property, Plant and Equipment is the U.S. GAAP accounting standard regarding fixed assets. For most companies, fixed assets are a significant investment. It’s critical they are accounted for properly.
The majority of fixed assets are purchased outright, but entities sometimes borrow funds to purchase fixed assets or pay to use a piece of property or equipment over a period of time. These types of transactions are typically set up as leases. Lease accounting is separate from fixed asset accounting and is covered under ASC 842, Leases.
Entry to record
As the name indicates, a fixed asset is an asset, presented in the general ledger as a debit. The basic entry to record a fixed asset is a debit to the fixed asset class category, such as property, plant or equipment, and a credit to cash. The credit to cash may be replaced with a credit to accounts payable, short-term accrual, or other liability, depending on how it is procured. However, for simplicity, we will use cash in this example. A sample entry to record a purchase of equipment would be as follows:
Fixed assets – Equipment DR – $1,000
Cash CR – $1,000
To record fixed asset
Fixed asset accounting module/software
As fixed assets are a significant asset for many entities and an organization typically has several fixed assets, using fixed asset software is common. If a company utilizes an ERP, it may use the fixed asset module available from the ERP instead of a third-party fixed asset software.
Detailed records of a company’s fixed assets must be kept for financial reporting and taxation purposes. Fixed asset software allows an organization to track detailed information for each piece of property, plant or equipment, including:
- Purchase price/book value
- Purchase date
- Useful life
- Physical location
- Asset class category
- Depreciation method
- Accumulated depreciation
- Net book value/carrying value
In addition to tracking line item details, fixed asset software allows a company to view summarized data about all of their fixed assets or in separate categories such as asset class or physical location.
Since fixed assets are used for a longer period of time, they are likely to devalue with use. Depreciation is the method of accounting for an asset’s decrease in value as it is used on the balance sheet. The more a resource is depleted over time, the less value it possesses.
Three factors to consider when calculating a fixed asset’s depreciation are:
- Useful life: The time period during which the asset will be productive for the company
- Salvage value: The reduced amount a used asset is expected to sell for
- Depreciation method: The prescribed manner which is used to calculate the depreciation of an asset
Fixed asset turnover ratio/formula
The fixed asset turnover ratio determines a company’s efficiency in generating sales from existing fixed assets. A high ratio means fixed assets are being used more adequately than a low ratio. This is an efficiency ratio to be analyzed alongside profitability as it does not represent anything about the company’s ability to generate profits or cash flows.
The formula to determine fixed asset turnover is:
Fixed Asset Turnover = Net Sales / Average Fixed Assets
Net sales are defined as gross sales less returns and allowances. Average fixed assets are calculated from the net fixed asset beginning and ending balances of the timeframe being analyzed divided by two (2).
Fixed Asset Rollforward
The fixed asset rollforward is a common report for reviewing fixed assets. The report is a schedule showing the beginning balance, purchases and/or additions, disposals, depreciation, and ending balance of net fixed assets for a certain time period. It can also be run by asset class category and other subsections such as location or subsidiary. A fixed asset rollforward is typically run quarterly and annually.