What is a Nonfinancial Asset?
A nonfinancial asset is an asset that derives its value from its physical properties. Examples include real estate and vehicles. Intellectual properties, such as patents and trademarks, are also considered nonfinancial assets. Understanding their classification is crucial for businesses since these items appear on the company’s balance sheet and factor into determining its market value and debt profile.
Key Insights
- Physical Traits: The value of a nonfinancial asset is rooted in its physical characteristics, like property and factory equipment.
- Intellectual Property: Nonfinancial assets extend beyond the tangible to include patents and trademarks.
- Valuation Impact: These assets play a critical role in assessing a company’s market value and borrowing capacity.
- Liquidity Contrast: Nonfinancial assets differ from financial assets, which are often more liquid and easier to value.
Underlying the Value of Nonfinancial Assets
On a company’s balance sheet, nonfinancial assets stand in contrast to financial assets. Financial assets, such as stocks, bonds, and bank deposits, are based on contractual claims rather than physical net worth and are generally easier to liquidate.
The value of a financial asset can actually be linked to a nonfinancial asset. For instance, the value of a futures contract hinges on the underlying commodities controlled by that contract. Commodities like coffee and soybeans have inherent value, making them typical examples of nonfinancial assets.
Nonfinancial Assets Versus Financial Assets
The difference between nonfinancial and financial assets lies in how they are bought and sold. Financial assets like stocks and bonds are traded on exchanges and can be bought or sold at current market prices, assuming the market is liquid.
Conversely, nonfinancial assets like equipment or vehicles can be difficult to sell due to the absence of active markets for buyers and sellers. Their pricing is often speculative and contingent on negotiations between prospective buyers and sellers, making nonfinancial assets illiquid.
The Role of Nonfinancial Assets as Collateral
Both financial and nonfinancial assets can serve as collateral for secured debt, unlike unsecured debt which only depends on the borrower’s creditworthiness. Financial assets are more attractive as collateral because they can be quickly sold if the borrower defaults.
Consider the example of XYZ Manufacturing needing a $100,000 line of credit. They offer $60,000 in investment securities and a $40,000 piece of equipment as collateral. If XYZ fails to make repayments, the lender can swiftly sell the $60,000 in financial assets. However, selling the nonfinancial asset (equipment) might pose challenges due to its illiquid nature, making it riskier as collateral.
Related Terms: financial asset, intellectual property, market value, liquidity, collateral.
