Updated July 10, 2023
What is a Net Asset?
The net asset is the balance sheet item determined as the difference between the total assets amount and the amount under total liabilities. It is arrived at by deducting the amount corresponding to what the business holds in terms of assets and what it owes in terms of liabilities.
Explanation of Net Asset
It can also be regarded as stock holder’s equity or net worth of the business. It signifies the effective worth of an individual as well as on business. It can be arrived on as of the date or quarterly or annual basis by simply deducting the business’s total assets from the total liabilities it owes. The total assets are defined as the amount that a business has in possession in terms of tangible and intangible assets utilized to generate revenues for the business. The total assets can be cash, marketable securities, net tangible assets, inventories, and other operating and non-operating assets.
The total liabilities are the amount the business owes to the creditors and suppliers utilized to procure assets and run business operations. The total liabilities generally comprise non-current liabilities such as a long portion of long-term debt, account payable, the current portion of long-term debt, accruals, and any other liabilities to be paid off on a current or non-current basis. The net asset is the net of the amount that remains with the business once total liabilities are deducted from the total assets.
Formula for Net Asset
The net asset is determined using the formula mentioned below: –
Net Assets = Overall Position of Assets – The business’s overall liabilities.
The following are the steps for determining the net asset value: –
- Step 1: Access the right-hand side of the balance sheet describing on a date, annual, or quarterly basis and locate the amount mentioned under total Assets. In case of trial balance, the analyst has to add up individual line items to arrive at the total Assets.
- Step 2: Access the left-hand side of the balance sheet describing on a date, annual, or quarterly basis and locate the amount mentioned under total liabilities. In the case of trial balance, the analyst has to add up individual line items to arrive at the total liabilities.
- Step 3: Based on the amount as determined in steps 1 and 2, deduct the amount determined in step 1 with step 2 to arrive at the net Assets.
Examples of Net Assets
Let us take the example of ABC company. The management wants to determine the overall net asset position of the business. The accountant reported $20,000 in terms of total assets and $12,000 in terms of overall liabilities. Help the management determine the effective Net Asset position of the business.
The net asset is calculated as
- Net Assets = $20,000 – $12,000
- Net Assets = $8,000
Why Are Net Assets Important?
It is considered important as they are the indicator of overall returns the business generates or could generate in the future. This is an indicator of the overall worth of the business for any given date. Whenever the business displays a negative worth of assets specifically indicates that the business is in financial trouble.
A business with negative assets generally files for bankruptcy under the chapter 11 bankruptcy clause. If no further improvements are seen, the business files for bankruptcy under chapter 7. It plays a critical role for the asset management company or companies in mutual funds/Asset management business. The fund manager generally adds up the assets they have on paper, deducting the liabilities from it that are utilized to fund assets or fund the fee of mutual fund operations.
Net Assets vs Total Assets
- The total assets are the amount the business holds and are considered of economic value, which could then be utilized for generating revenue for the business.
- The total Assets can be classified as current and non-current assets. They generally comprise cash, marketable securities, inventories, tangible assets, and other operating and non-operating assets.
- The total assets are those amounts from which total liabilities have not been deducted.
- The total asset is the base for arriving at the net asset of the business.
- Once the accountant has listed out total liabilities, they can be deducted from the total assets to arrive at the net assets.
- Therefore, the net assets are net value in terms of assets that a business would have once it takes care of or repays its total liabilities.
- A positive net asset can be termed favorable, whereas a negative asset is deemed unfavorable.
Advantages of Net Assets
It offers several advantages to financial statement analysts, stakeholders, and users. It allows them to determine the financial position of the business, or let us say in simpler terms that it will enable them to determine the actual worth of the business. Based on the information available, they can plan for future investment decisions. A key application of net assets broadly aligns with the business of mutual funds, wherein the investors look out for the business with the lowest net assets and maximum dividend rate either offered on an annual or monthly basis.
Conclusion
The net asset can be classified as the effective net worth of the business. It is determined by deducting the total liabilities from the total assets. A positive value of net assets generally indicates a strong business position.
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