Tangible assets have a physical substance and a financial value. Contrary to intangible assets, tangible assets have a physical form. They can be categorized into current and fixed assets. Current assets run the operations of a business while fixed assets add worth to a business in the long term.
Tangible assets represent a significant proportion of the total assets of a business. They are easily represented and evaluated on the balance sheet of a business.
What is a tangible asset?
A tangible asset is an identifiable asset with monetary value and physical substance.
According to the International Accounting Standards (IAS), an asset is defined as:
“An asset is a resource controlled by the entity as a result of past events and from which future economic benefits are expected to flow to the entity”.
Thus, tangible assets are resources controlled by an entity. Therefore, they are used to running the business. They have a residual value most of the time as well. These assets benefit an entity in some form or another. For instance, most businesses use assets to generate revenues and earnings. Not-for-profit entities use them to benefit their target audience.
Characteristics of tangible assets
Tangible assets also commonly referred to as physical assets come with discrete characteristics. These assets can have one or most of these characteristics at the same time:
- These assets come with a physical substance meaning they can be touched or felt.
- Tangible assets possess a monetary value and a residual or salvage value at the end of their useful lives.
- They are depreciated over their useful periods of activities.
- Tangible assets can be used as collateral to obtain financing.
Additionally, these assets are more liquid than intangible assets. This is because they are generally easier to value, and therefore easier to transact between counterparties. Since they come with a visible monetary value and physical substance, their liquidation is also easier in the market.
Classification of tangible assets
Tangible assets can be classified in terms of maturity. These define where the asset will be located on the balance sheet of the company. The two classification classes are:
- Current Assets
- Long Term Assets
Current tangible assets can be consumed or converted to cash within one year. These assets have higher liquidity and have a finite transaction value. Current assets are used to run business operations. Therefore these assets come in the form of cash. They can also be converted to cash easily within a short period of time.
Long-term assets come with longer maturity. These assets can be used over the long term by the business. These assets are not highly liquid as current assets. However, they carry substantial value on the balance sheet of a company. For that reason, they usually represent and carry a larger financial value than current tangible assets.
Tangible assets examples
Tangible assets are located on the balance sheet. They are located under the current and long-term assets categories. Some of the common examples include:
- Cash, Bank Deposits, and cash equivalents
- Bank drafts, Payment orders
- Accounts Receivable
- Property, Plant, and Equipment
- Long-term fixed deposits and investments
How to value tangible assets?
Tangible assets appear on the balance sheet. Their value is represented by their original costs. It means their fair market value changes over time. Oftentimes a current market value differs from the book values recorded. There are certain stocks that are asset plays, due to the underestimated value of their assets. Therefore, a balance sheet might underestimate the value of the tangible assets. Therefore, companies use different methods to evaluate the actual value as close to the market value as possible. There are several methods used to calculate the value of assets.
A third-party specialist appraiser evaluates the current value of assets in this method. The asset is appraised based on a thorough inspection. Then, their useful life and residual values are estimated. Thus, this can have a great impact on the value of the tangible asset. In conclusion, their prices are then determined as close to the market values as possible. Considering their useful life, residual value, and liquidity.
Replacement Cost Method
This simple method calculates the replacement cost of an asset at a given time. This method determines how much it would cost to replace an asset in its current condition. This method does not apply to certain assets. This is because it is focused on comparing similar items. Thus, when valuing very distinctive assets that may not have a direct replacement, it is not the best option.
An assessor estimates the liquidation price of an asset in this method. It means to estimate the market value of an asset if sold quickly at a given time. This gives a good estimate of what the price would be, but it varies deeply depending on the market liquidity for a particular market.
Image source: Charity