A company’s balance sheet comprises the three most critical categories: Assets, Liabilities, and Equities.
There are different subcategories of assets and liabilities. These can be long-term or short-term.
When you hear about the term monetary asset, the question might come to your mind if all the assets aren’t of some monetary value?
Well, the answer to this question is a bit technical. The term monetary item is a highly dedicated term used in accounting and finance. If we analyze the term monetary only, it delivers the meaning of ‘something having a monetary value.’ However, in accounting, a monetary asset is such an asset whose value stays unaffected by inflation or any other economic event.
In any market or business, liquidity is critical to assets’ values or the market or entity’s financial health. If we talk about a stock market, liquidity is the ability of any stock to be sold to get cash quickly.
If we talk about the banking sector, they define liquidity as the measure of how quickly they can satisfy customers’ due claims. And for any business entity, liquidity is the ability of a company to pay its short-term obligations immediately.
The concept of monetary assets is closely related to liquidity. The liquidity of any business entity, market or bank is calculated by its monetary assets. In this article, we will closely look at the monetary assets and how they contribute to the overall liquidity.
What Are Monetary Assets
We can define the monetary assets in different ways. Let’s make one comprehensive definition of a monetary asset.
Every asset has a certain economic value. A monetary asset is a tangible asset that has a fixed convertible dollar value. Such an asset stays unaffected by any macroeconomic event like inflation, exchange rate fluctuations, decreased purchasing power, or demand-supply difference.
The best example to explain the concept of monetary asset is cash. A 100-dollar note will always be a 100$ note. No matter if the inflation increases, purchasing power decreases, the interest rate fluctuates, you will always be the owner of a $100.
The value in terms of purchasing power might decrease. You might not be able to buy the same stuff with that 100$ that you could buy a year before. But, if you give 100$ to someone, you will receive the value of $100.
Examples of Monetary Assets Owned By a Business Entity
Some of the common monetary assets owned by a business include
- Cash in Hand: Cash always has the value as stated on the face of a currency note. Cash is the most liquid asset and comes under monetary assets.
- Cash Convertibles: Cash convertibles or cash equivalents are those monetary assets that can be readily converted into cash or used as cash in the market. The cash convertibles include notes receivables or trade receivables having a certain face value.
- Cash In Bank: Your cash deposits in your bank account are also your monetary asset.
- Short-Term Loans: The investments of a business in the short-term debt instruments are also a monetary asset that can be easily converted into cash.
Characteristics Of Monetary Assets
So far, we have understood that monetary assets are liquid, and their face value doesn’t change. Let’s discuss some characteristics of monetary assets as described by International Financial Reporting Standards and GAAP.
Following are two main characteristics that define a monetary asset.
Change In Real Terms
We have explained the character of the monetary asset that its face value remains the same. The first one of the two characteristics is that the monetary asset’s dollar value never changes, which means it’s static. However, such an asset might fluctuate in value in real terms.
For instance, an economic event of an increase in inflation will negatively affect money’s purchasing power. The worth of 1000$ will remain the same; however, you might not be able to buy as many goods from that 1000 dollar.
Restatement In Financial Statements
The second differentiating characteristic of the monetary assets is their disclosure in the financial statements. Everyone who has been associated with accounting will know that the values of the assets change. If you own a building, its value will change due to depreciation and many different reasons.
The plant, machinery, goodwill, and all other assets experience a fluctuation in their value. Therefore, in every year’s financial statement, the value of assets is updated.
However, a monetary asset doesn’t experience the value restatement in the financial statement. A trade receivable will be recorded at 1000 dollars one year before and now. So, the monetary assets do not require a restatement of value every now and then.
What Are Non-Monetary Assets?
We have deeply explained the monetary assets, but we should also define the non-monetary assets for a better comparison and understanding.
It is an understood fact that non-monetary assets are just the opposite of monetary assets. We can define the non-monetary assets based on more or less the same characteristics as monetary assets have.
The value of non-monetary assets doesn’t necessarily remain the same. The value of such an asset is affected by micro and macroeconomic factors, and its face value fluctuates over time.
For instance, you bought a property for $200000 in a nearby town. After one year, the government announced to develop a dry port in that town.
Therefore, this announcement is a signal of new opportunities, increasing the worth of land in that area. Your property bought for $200000 has worth $400000 now. It’s an example of a non-monetary asset.
2) Change in Real Term
The value of non-monetary assets can vary in real terms as well as dollar terms.
3) Financial Restatement
The non-monetary assets are expected a regular restatement of value in the financial statement. We can give examples of a plant and building.
The depreciation and wear of tear of the plant are regularly fluctuating the price. Hence it requires restatement of financial value in the balance sheet.
4) Cash Conversion
The non-monetary assets are not readily or quickly convertible in cash. You cannot sell a piece of land overnight.
The monetary assets require some time to be sold against cash. Therefore, it is also a characteristic that must be noticed.
Examples of Non-Monetary Assets
Here are the examples of non-monetary assets an entity usually owns:
- Building and Plant
- Market Investments
Monetary Assets Vs. Non-Monetary Asset
Let’s understand the difference between the two types of assets. Here the key differences between the two.
The monetary assets are more liquid than non-monetary assets and are readily converted into cash.
2) Cash Value
The cash value of monetary assets remains the same and doesn’t fluctuate. However, the value of the non-monetary assets is impacted by different internal as well as external factors.
The monetary assets are the liquid assets and therefore are used to appropriate the company’s working capital. The non-monetary assets are mostly the fixed assets and contribute to the fixed capital constituency of the company.
For instance, the cash and cash convertibles are used to pay the short-term liabilities or acquiring raw material. However, plants and machinery are used for manufacturing and production.
According to the International Financial Reporting Standards, a monetary asset must be reported on the closing exchange rate in case of any fluctuations.
However, the non-monetary fixed assets can be reported at their historic value irrespective of exchange rate fluctuations.
5) Tax implications
For the disposal of the monetary assets, there is not any additional tax implication. They are treated under the head of general profit and loss.
For instance, if the company’s debtors are settled off at less than the book value of debtors, the difference will be bad debts or discounts. These discounts and bad debts will be deductible from income.
However, if an event occurs where disposal of non-monetary assets happens, the rules and regulations bound the entity to report any gain or loss under a separate head of “capital gains and losses.’ For instance, if a property is sold at a profit after a holding period of 5 years, it is taxable under capital gains.
Why Are Monetary Assets Important?
The monetary assets of any business entity are the measure of its liquidity. If we divide the monetary assets by the current liabilities, our ratio is termed as a quick ratio.The quick ratio is the most accurate measure of an entity’s liquidity.
The higher the ratio, the better the company’s liquidity position. It means a company is in a good position to pay its short-term loans. In other words, the short-term liabilities of the company are backed up by the current assets.
Some Assets That Can Be Either Monetary or Non-Monetary
Some assets can be treated as either monetary or non-monetary. The prepaid payments can be treated as a monetary or non-monetary asset based on the contract’s nature.
If the prepaid payment to the third party is made under the non-refundable payment clause, there is no chance of getting cash back. In that case, it will be treated as a non-monetary asset.
We can treat the investment in preferred shares as monetary assets depending on the contract. If the contract has the clause of redemption by the issuing entity in the future, there is an expectation of inward cash flow. Therefore, it can be treated as a monetary asset for the business.
To conclude, we can say that monetary assets are critical to the company’s overall liquidity. Holding too many monetary assets can be equally hazardous for the entity’s profitability as holding too few monetary assets.
In the case of excessive monetary assets, the company is trading off many investing activities to bring in big amounts of profit for an entity.