Asset and liability are two frequently used words in business terminology. The meaning of term asset is a property, goods, or resources held by an individual or a company, on the other hand, the meaning of liability is an obligation or debt that one is required to fulfil.
Both, as well as liability, are used for the expansion of the business.
These two factors are very important and play an important role in deciding the future of a company. Generally, it has been said lesser the liabilities are more assets are the key to success. But no business can expand without liabilities as these are inevitable.
To curb the confusion, let us learn about both asset and liability in detail and also learn about the key differences between both of them.
What are the assets?
An asset is something that an individual or a company owns. Assets provide benefits in the future. Assets make a strong balance sheet of a company. Assets increase the value of a company. Assets are useful in the expansion of the business. Assets are bought with the intentions to boost sales and to generate profit in the future.
Assets can be calculated using the following equation.
Asset = Liability + owner’s equity
Assets can be of different types. Let us learn about them one by one in the next section.
#1 Fixed assets:
Fixed assets are those assets which are with the company for a long period. Assets like buildings, machinery, equipment, and plant are an example of fixed assets. The loss of earning takes place with the depreciation in the value of fixed assets.
There are two methods to calculate the depreciation value of a fixed asset set by the GAAP (Generally Accepted Accounting Principles).
First is the straight-line method where the value of an asset decreases in proportion to its useful life and the second is the accelerated method where it is assumed that the value of asset decrease in the first year of its deployment.
#2 Intangible Assets:
Intangible assets are those assets which are the property of a company but are not present in physical form. Examples of intangible assets are goodwill, patents, copyrights, and trademarks owned by a company.
#3 Current assets:
Current assets are those assets which are with a company for a short period of time and will be converted in cash in a year or less than a year. The examples of current assets are inventory, cash, cash equivalent, account receivable, etc.
#4 Financial assets:
Financial assets are those assets which are in the form of investment in other organizations. The value of financial assets keeps changing with time, depending on the financial performance of the organization where you invested.
Examples of financial assets are corporate bonds, stocks, and shares of companies, preferred equity, sovereign, etc.
What are the liabilities?
A liability is something that an individual or a company owes to some entity or somebody. Liabilities are the debt or borrowing that a company took to make some business operations in the past.
Liabilities are required to be paid from the earnings made by the company through its business operations. Liabilities are an important aspect of a company as they are required to pay for the large expansion of the business.
The liabilities of a company can be calculated using the following equation:
Liabilities = Assets – Owner’s equity
For example, a company named ABC purchase raw material from a supplier company named XYZ. The company ABC doesn’t make a payment every time they get raw material to deliver. However, they make payment for all the raw material delivered at the end of the month.
The payment that the company ABC owes to pay to supplier company XYZ is called liability whereas the payment owed by the company ABC is an asset for the company.
Liabilities can be of two types, such as current liabilities and non-current or long-term liabilities.
Current liabilities are those liabilities which are required to pay in less than 12 months.
Examples of liabilities are:
#1 Interest payable:
Interest is current liabilities that an individual or company is required to pay on the credit that it took to purchase goods, services, or raw material for production.
#2 Wages Payable:
Wages are payable to the employees working in for the company. Some companies pay at the end of the week, or some companies pay at the end of the month.
#3 Dividends Payable:
The dividend is the share of the investors that a company is required to on every profit made by it. Dividend to the shareholders is paid based on their share in the company.
#4 Unearned revenues:
Unearned revenues are the revenues that a company earn by the advance payments made by the buyers for the goods or services. The amount is reduced each time the buyer receives the goods or services that he/she paid for.
Key Differences between Assets and Liabilities
|Assets are the properties, resources, machinery, etc. owns by a company.||Liabilities are the debts that a company owes because of past transactions.|
|Assets are helpful in making profits in the future.||Liabilities are the debts that a company needs to pay from the earned profit.|
|Assets are depreciable, which means the value of assets decreases in the future.||Liabilities are non-depreciable, which means the number of liabilities decreases with the passage of time.|
|Assets are placed on the right side of a balance sheet.||Liabilities are placed on the left side of a balance sheet.|
|The equation to calculate assets is as follows:|
Assets = Liabilities + Owner’s equity.
|The equation to calculate liabilities is as follows:
Liabilities = Assets – owner’s equity.
|An increased in the asset would be debited||An increase in the liability will be credited.|
|A decrease in the asset would be credited.||A decrease in the liability would be debited.|
|Assets generate cash flow in.||Liabilities make cash flow out.|
|Assets can be current and non-current assets, tangible and intangible assets, and fictitious assets, etc.||Liabilities can be long termed liabilities and current liabilities.|
|Examples of assets can be cash, buildings, account receivables, investments, machinery, etc.||Examples of liabilities can be account payables, loans, bank overdraft, long term borrowings, etc.|
From the discussion in the above article, it is apparent that both assets and liabilities are important for the organization. However, a company makes constant efforts to increase the number of assets owned by the company and lower the number of liabilities owned by it.
Assets help to increase the revenue generated by the company, whereas liabilities divide the revenue generated by it.