A type of asset whose value is determined by its tangible characteristics and physical net worth
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What is a Non-Financial Asset?
A non-financial asset refers to an asset that is not traded on the financial markets, and its value is derived from its physical characteristics rather than from contractual claims. Examples of non-financial assets include tangible assets, such as land, buildings, motor vehicles, and equipment, as well as intangible assets, such as patents, goodwill, and intellectual property.
Non-financial assets are important for companies, and they can be used as collateral when securing credit from financial institutions. They are included on the balance sheet, and financial analysts consider non-financial assets when evaluating the long-term viability of the company.
Summary
- A non-financial asset is a type of asset whose value is determined by tangible characteristics and physical net worth.
- Non-financial assets are recorded on the balance sheet, and they are considered when determining the value of a company.
- They can be tangible assets such as machinery, real estate, and motor vehicles, or intangible assets such as patents, purchased goodwill, and intellectual property.
Understanding Non-Financial Assets
Unlike financial assets, there is no active market for buyers and sellers of non-financial assets. Also, there are no market standards for determining the pricing of non-financial assets, such as equipment or motor vehicles, and the value of an asset is determined based on its physical characteristics.
The seller of the non-financial asset only initiates a sale when they find a potential buyer and negotiates an agreeable purchase price for the asset. The sale process is considered complete when the buyer pays the full purchase price to the seller, and the seller transfers the asset to the new owner.
The sale of non-financial assets is more complicated than the sale of financial assets, which can be traded through an established active market. Financial assets, such as bonds and stocks, can be bought and sold at any time when the financial markets are open. The value of a financial asset is determined by the amount of risk associated with the specific asset, and its demand and supply in the market where they trade.
Other financial assets derive their value from another underlying asset. For example, futures contracts are based on the value of commodities, which are tangible assets with inherent value.
Types of Non-Financial Assets
Non-financial assets are classified into two types – produced assets and non-produced assets – based on how they came into existence.
1. Produced assets
Produced assets come into existence through the production or manufacturing process. The assets come with a residual value, which is realized when they are no longer needed and are available for sale.
Produced assets are not necessarily fixed assets in that fixed assets take on a useful life of more than one year, and they are capitalized in the balance sheet. On the other hand, other produced assets can be written off in the year of purchase or manufacturing.
2. Non-produced assets
Non-produced assets are the assets that come into existence through means other than the process of production but may be used in the production of goods and services. Examples of non-financial non-produced assets include natural resources (minerals, water resources, virgin forests, etc.) leases and licenses.
Non-produced assets may be classified into tangible assets and intangible assets. Tangible non-produced assets are natural assets that are capable of bringing economic benefits to their owners, and that are subject to effective ownership. Natural resources whose ownership rights cannot be established are excluded from non-produced assets.
Intangible non-produced assets include assets such as patents, purchased goodwill, and transferrable contracts.
Using Non-Financial Assets as Security for a Loan
When taking out a loan from financial institutions, borrowers may be required to provide non-financial assets, such as collateral, for secured debt. Borrowers are required to submit ownership documents for the assets before the credit can be approved.
For example, when a borrower provides a motor vehicle as collateral, they are required to submit the motor vehicle’s logbook to the lender. The lender retains the asset ownership documents until the borrower completes the monthly principal and interest payments for the loan.
In the event that the borrower defaults on the monthly payments, the lender is at liberty to sell the asset pledged as collateral to recover the loan payments that are in default.
Non-Financial vs. Financial Assets
Non-financial and financial assets represent ownership of value, and they represent an economic resource that owners/holders can easily convert into value. Both types of assets are recorded on the balance sheet and are considered when evaluating the actual value of a company.
However, the assets differ based on their characteristics and features. One of the distinguishing characteristics between the two types of assets is how their value is calculated. Non-financial assets, such as motor vehicles, equipment, and machinery, are valued by looking at their physical and tangible characteristics. On the other hand, financial assets are valued based on their contractual claim, and their value can be easily determined in the financial markets.
Another difference between non-financial assets and financial assets is that the former depreciate in value, whereas the latter does not lose value through depreciation.Tangible non-financial assets lose value through depreciation, where the value of the asset is spread over its useful life.
Some non-financial assets, such as land, appreciate in value. In contrast, financial assets are not affected by depreciation but may lose value through changes in market interest rates and fluctuations in stock market prices.
Related Readings
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