Question

Now that we have completed Chapters 1 through 6 and have developed an understanding of assets, both short-term and long-term, apply your understanding of what you have learned to the following questions.

Part 1 – Current and long-term assets

From the perspective of a potential long-term investor, describe what you might look for when examining the assets of a corporation. Include in your answer an understanding of how short-term assets and long-term operating assets are different and what role they each play in a company’s performance. What might the different asset balances indicate to you as they change from year-to-year? What relationships would you look for between current assets and long-term assets? If it’s helpful, apply your answer to a particular company or industry (but be sure to indicate what company or industry you are using.) Be sure to include at least two different current assets in your answer and at least two different long-term assets.

Part 2 – Contra-assets

What is a contra-asset? Give two examples of contra-assets. Why are contra-assets used?

What kind of transaction causes and increase to contra-asset accounts? Give an example of a transaction that would decrease a contra-asset account.

What might it indicate to the readers of the financial statements if a contra-asset account has a “negative” balance?

Answer 1

Assets:

Short term assets are those assets that are typically used or actualised in less than a year. They are also known as current assets. Current assets are used in the day to day operations of a business to keep it running. Thus, short-term assets are those assets the value of which can be recovered within an operating cycle of maximum one year for a business. Since short term assets can be recovered over a year they do not face depreciation

Long term assets are investments in the company that provide long-term benefits to the business typically more than a year. They are also known as fixed assets or non-current assets. Long term assets can be contrasted with current assets, which can be conveniently sold, consumed or exhausted through standard business operations within one year. Since long term assets are to provide long term benefits to the business their cost is distributed over a long term equitably to cover long term expenses

Changes observed in long-term assets on company’s balancesheet can be a sign of capital investment or liquidation. If a company is investing in its long term growth it will use revenues to make more asset purchases designed to drive earnings in long run. Changes in short-term assets indicate variation in operational activities of the firm.

If we consider automobile industry, its balancesheet may contain long term assets such as property (land and building), plant and equipment (machinery) where manufacturing activities take place and short term assets may include cash and bank, inventories (automobile parts, cars, etc.), accounts receivable, etc.

PART2

Contra asset is an asset having a credit balance. The said asset is known as contra asset as it’s balance is contrary to the normal debit balance of an asset.

The most common contra asset is accumulated depreciation which is associated with property, plant and equipment. Generally property, plant and equipment being long term assets its cost is spread among several years associated with it’s useful life and such cost is debited to depreciation expense in the income statement and reduced from the value of PP&E. This helps to know how much of the cost is depreciated and the balance.

Allowance for doubtful debts is another example of contra asset. This appears with accounts receivables account. This is an estimate as how much of the balance asset may be uncollectible or collection of which is doubtful and is debited to bad debts expense and reduced from accounts receivable

Increase in contra-assets is due to expense provided against the asset where as when such expense is reversed there is a decrease in contra asset for example when the doubtful debts are collected which means there would be reduction in allowance for doubtful debts or in case of long term assets when an asset is sold the portion of it’s accumulated depreciation is reduced

Contra assets having negative balance mean increase in amount of contra asset, that means expense against that particular asset have been increased. Contra assets are shown on debt side of the balancesheet with negative balances. Hence, if reported on debit side negative balance means reduction of asset