Although each individual asset or liability can be listed separately on the balance sheet, it is more practicable and more informative to summarize and group related items into categories called as account classifications.
The classifications or group headings will vary considerably depending on the size of the business, the form of ownership, the nature of its operations and the users of the financial statements. For e.g. While listing assets, the order of liquidity is generally used by sole traders, partnership firms and banks, whereas joint stock companies by law follow the order of permanence. As a generalization which is subject to many exceptions, the following classification of balance sheet items is suggested as representative:
Consumed Current Assets:
Current assets are those which are reasonably expected to be realized in
cash or sold or consumed during the normal operating cycle of the business
enterprise or within one year, whichever is longer. By operating cycle we mean
the average period of time between the purchase of goods or raw materials and
the realisation of cash from the sale of goods or the sale of products produced
with the help of raw materials. Current assets generally
consist of cash, marketable securities, bills receivables, debtors, inventory
and prepaid expenses.
Cash consists of funds that are readily available for disbursement. It
includes cash kept in the cash chest of the enterprise as also cash deposited
on call or current accounts with banks.
These consist of investments that are both readily marketable and are
expected to be converted into cash within a year. These investments are made
with a view to earn some return on cash that otherwise would be temporarily
Accounts receivable consist of amounts owed to the enterprise by its
consumers. This represents amounts usually arising out of normal commercial
transactions. These amounts are listed in the balance sheet at the amount due
less a provision for portion that may not be collected. This provision is
called as provision for doubtful debts. Amounts due to the enterprise by
someone other than a consumer would appear under the heading `other
receivables’ rather than `accounts receivables’. If the amounts due are
evidenced by written promises to pay, they are listed as bills receivables.
Accounts receivables are expected to be realised in cash.
Inventory consists of i) goods that are held in stock for sale in the
ordinary course of business, ii) work-in-progress that are to be currently
consumed in the production of goods or services to be available for sale.
Inventory is expected to be sold either for cash or on credit to customers to
be converted into cash. It may be noted in this connection that inventory
relates to goods that will be sold in the ordinary course of business. A van
offered for sale by a van dealer is inventory. A van used by the dealer to make
service calls is not inventory but an item of equipment which is a fixed asset.
These items represent expenses which are usually paid in advance such as
rent, taxes, subscriptions and insurance. For e.g. If rent for three months for
the building is paid in advance then the business acquires a right to occupy
the building for three months. This right to occupy is an asset. Since this
right will expire within a fairly short period of time it is a current asset.
Long Term Investments:
The distinction between a marketable security shown under current asset
and as an investment is entirely based on time factor. Those investments like
investments in shares, debentures, bonds etc. That will be retained for more
than one year or one operating cycle will appear under this classification.
Tangible assets used in the business that are of a permanent or
relatively fixed nature are called plant assets or fixed assets. Fixed assets
include furniture, equipment, machinery, building and land. Although there is
no standard criterion as to the minimum length of life necessary for
classification as fixed assets, they must be capable of repeated use and are ordinarily
expected to last more than a year. However the asset need not actually be used
continuously or even frequently. Items of spare equipments held for use in the
event of breakdown of regular equipment or for use only during peak periods of
activity are also included in fixed assets.
With the passage of time, all fixed assets with the exception of land
lose their capacity to render services. Accordingly the cost of such assets
should be transferred to the related expense amounts in a systematic manner
during their expected useful life. This periodic cost expiration is called
depreciation. While showing the fixed assets in the balance sheet the
accumulated depreciation as on the date of balance sheet, is deducted from the
While tangible assets are concrete items which have physical existence
such as buildings, machinery etc., intangible assets are those which have no
physical existence. They cannot be touched and felt. They derive their value
from the right conferred upon their owner by possession. Examples are:
goodwill, patents, copyrights and trademarks.
These items are not assets. Yet they appear in the asset side simply
because of a debit balance in a particular account not yet written off
– e.g. Debit balance in current account of partners, profit and loss