Definition of Financial Assets
Financial assets are the intangible assets i.e., they cannot be physically touched but are the liquid assets whose values are derived from the contractual claims i.e., a contract is made between two parties where one entity that invests its money will get some contractual right to receive returns in the form of dividends, interests etc. from another entity in which the former invests its money and the examples of financial assets are cash and cash equivalents, bonds, marketable securities, mutual funds, etc.
Financial assets are basically the financial instruments that are more liquid in nature as compared to the other assets of the business and are intangible in nature. These financial Assets derive its values from the contractual claims and are usually there in the form of receipts, legal document, certificate, etc. They are easily convertible into real cash. In financial assets, two parties enter into a contract which gives one party who invest the amount (investor) gets right to receive the financial benefit from the other party in which the amount is invested. Some of the examples of financial assets are bonds, derivatives, fixed deposit, equity shares, and insurance contracts, etc.
Types of Financial Assets
The various types of assets are as follows:
1. Cash and the Cash Equivalents
These are the financial assets that are highly liquid current assets of the business such as the cash balance of the business, balance in the bank accounts of the business, cheques received from the parties but are yet to be cleared by the bank, and commercial paper, etc.
2. Fixed Deposits
Fixed deposits refer to the amount that the business deposit with some other entity in the expectation of earning returns on such money deposited in the form of interest. For example, a company Z Incorporation deposited $50,000 as a fixed deposit for a period of 1 year in the bank and in return bank has promised to pay an interest @ 10% per annum to Z Incorporation. So fixed deposit certificate is given by the bank to the Investor so that certificate is the proof of the fixed deposit and will work as a contractual agreement between Z Incorporation and Bank where a bank will pay $55,000(dollar 50,000 amount of money deposited Plus 5,000 interest) after the completion of 1 year period.
3. Equity Shares
Equity shares are the financial assets of the company when that company purchases equity shares issued by another company. This will be the financial asset for the company that purchased the equity shares and owners’ equity for the company that issued such equity shares. This financial asset establishes the right to receive dividend to the investor which is paid by the issuing company. For example, ABC Incorporation purchases equity shares of PQR Incorporation worth $500. This investment has given the right to ABC incorporation to receive the dividend from PQR incorporation and the right to vote on the matters of PQR Incorporation.
4. Preference Shares
Just like equity shares, preference shares also give the right to the holders to receive dividend but at a pre-determined rate on the amount of shares purchased by the holder of the company who is issuing preference shares (issuing company) and in the event of winding up of the issuing company, preference shareholders have the right to receive the assets of the issuing company before the assets are allocated to equity shareholder.
Debentures are the financial assets that give the debenture holders the right to receive the interest at a pre-determined rate and on the specified due dates on the amount invested by them. Also at the time of maturity of debentures, the amount invested is also repaid to the debenture holders and debenture holders have the right to claim the assets of the issuing company before preference shareholders and equity shareholders at the time of winding up of the issuing company.
6. Accounts Receivable
When the sales are made on a credit basis then the selling party has the right to receive the payment from the party who purchases their product(known as Debtor). So for the selling party, that debtor comes under the head accounts receivable. In short, these are the assets that creates a right to receive money in return to the credit sales made by the business within the credit period granted by it and also show the right to receive interest if the payment is delayed that is if the payment is not received within the allowable credit days period then the purchaser (Debtor) has to repay the purchase amount plus the interest amount which is calculated at the rate decided at the time of sale of goods.
7. Mutual Funds
A mutual fund is a fund governed by the asset management company where they ask the small investors to give them money and in return, they provide them units of the mutual fund. So after collecting money from such investors, the mutual fund invests them in the financial market making a diversified portfolio of stocks. Later, mutual funds provide investors returns in the form of capital appreciation and dividends/interest.
Derivatives are the financial instruments or we can say it is a contract between two parties deriving its values from the underlying assets where such underlying asset can be index, commodities, stocks, interest rates, currencies, etc. The most commonly used derivative instruments are options, futures, swaps, etc.
9. Insurance Contracts
Insurance contracts are another type of financial assets where one party (known as a policy holder) pays a premium to the insurance companies to get the right of getting compensation at the time of occurrence of an uncertain future event in the business that results in the loss of the business. For example, in case, a policy holder has taken a policy which gives the right to the policy holder to get compensation in case of fire then if the fire occurs in the business then the insurance company will compensate the business for the loss occurred due to such fire.
Conclusion – Financial Assets Types
Thus, financial assets are the most liquid assets of the company which fulfills the cash need of the company. These financial assets cannot be touched physically but are important for the business to yield income in the form of dividends, interest, or any other asset. These can be in the form of a legal document, certificates such as share certificate, invoices, etc. and the examples are equity shares, debentures, bonds, preference shares, derivatives, accounts receivable, cash & cash equivalents, etc.
This is a guide to Financial Assets Types. Here we also discuss the definition and various types of assets which include fixed deposits, equity shares, and derivatives, etc. You may also have a look at the following articles to learn more –
- Non Performing Assets
- Objectives of Financial Statements
- List of Financial Ratios
- Functions of Financial Market