Assets vs Liabilities and how to generate assets
Types of assets
Assets can be broken down into a few main categories depending on the type of investment or item and its uses.
Current assets (short-term)
Current assets are made up of the items a business consumes within the period of one year. They include the following:
Non-current assets (long-term)
Long-term assets continue to provide revenue for a business over the course of many years. They can be divided into two main categories:
Investment assets are broken down by the way they generate income for a business:
These assets include investments that have the potential to increase or decrease over time. While a business hopes for growth, these items often change in value.
The following are examples of growth assets:
Defensive assets provide a shield from investment fluctuations. They tend to be more stable, delivering income through dividends.
A companys defensive assets may include the following:
What are assets and liabilities?
Assets and liabilities are accounting terms that help businesses identify income-producing items as well as things that can take away from company profits. Businesses also refer to assets and liabilities as “profits” and “losses.” Assets represent a companys resources while liabilities represent a companys obligations. An asset helps business owners and financial professionals find out what the company owns. Liabilities show what a company owes.
What is equity?
Equity is the remaining amount after a company deducts their total liabilities from the total assets. Its a way to figure out a companys value once all debts are paid and profit is left over.
Depending on the size of the business, equity can be referred to in different ways. In a small company, equity affects the owner or even a small group of partners since they are usually the ones covering all the costs of the business. This is called “owner equity.” A larger company, however, is accountable to investors who provide funds for the business to operate and generate profits. This type of equity is referred to as “shareholders equity.”
Both types of equity account for how much owners or shareholders invest in a company along with the retained earnings a company makes due to their income.
Types of liabilities
Liabilities are also broken down into current and long-term items:
Current liabilities (short-term)
These liabilities, also called “short-term liabilities,” include the following costs that are expected to be paid within one year:
Non-current liabilities (long-term)
A long-term liability includes ongoing expenses like the following:
How to determine equity
The following steps can help you find the amount of equity in a business:
1. Determine your assets
To find the amount of equity a company possesses, youll first need to calculate the total assets of a business. To determine the value of your assets, add up the total of everything that brings in income or contributes to the profit of your business. This can be also be anything of worth that is owned by the company.
2. Determine your liabilities
Since liabilities are the opposite of assets, youll need to determine the items that cause a business to incur debt. Many debts can be beneficial or may even be considered necessary, such as mortgages for properties or employee payroll. However, liabilities must be reflected as a loss for the company.
3. Determine equity using assets and liabilities
Equity is determined by totaling a companys assets and subtracting their total liabilities from that number. The remaining figure represents a companys equity. A quick way to think of equity is assets minus liabilities.
The equation looks like this:
Assets – liabilities = equity
The accounting equation for assets, liabilities and equity
Equity, liabilities and assets are all used by accountants to determine the “balance sheet equation,” otherwise known as the “accounting formula.” This equation combines a companys equity and liability to determine their total assets, basically reworking the equity formula.
Here is the formula:
Assets = equity + liability
Accountants use this number to identify inconsistencies and make sure assets, liabilities and equity are all accurate and reported to ensure the financial stability of a business.
Equity equation examples
Equity helps stakeholders determine the financial value of a business.
Here are some examples of what equity looks like in the financial accounting of a company:
Example 1: Business start-up costs
When you start a new business, you need an influx of cash. The cash invested into a new company is automatically an asset.
For example: If three friends decided to start a marketing company together and they all put in $10,000, the total assets of the company starting out would be $30,000.
Next, youd need to spend money on equipment and office space. You might spend $3,000 a month in rent and $6,000 for computer hardware and software so you can begin generating work for clients. Since computer hardware and software are used for businesses to operate and generate a profit, the $6,000 would be considered an asset. Monthly rent however is a long-term liability, therefore, the $3,000 would be calculated as a liability.
Your businesss equity can be determined by the following equation:
Example 2: Small business loan
Imagine that another startup company needs more help from a bank to get their business started. This could mean the owners need to take out a loan to purchase equipment and pay for other business expenses. Although the loan is debt, because it provides an influx of cash, it can also be recorded as an asset. Therefore, a loan is counted as both an asset and a liability.
Here is a sample equation to show a businesss equity through a loan:
Balance sheet tips
A balance sheet is used to determine the financial well-being of a company. Also called a net-worth statement, its one of three important statements created by accountants.
Here are some key ways to create an effective and accurate balance sheet:
What are 5 examples of liabilities?
What are examples of assets?
- Convertibility: Classifying assets based on how easy it is to convert them into cash.
- Physical Existence: Classifying assets based on their physical existence (in other words, tangible vs. …
- Usage: Classifying assets based on their business operation usage/purpose.