Assets are the building blocks of the balance sheet, but their costs are usually allocated over time. When a cost will provide a future benefit lasting more than one period, accountants capitalize it as an asset on the balance sheet and then expense it gradually. A cost that is consumed immediately is expensed on the income statement. Fixed assets, also called property, plant, and equipment, are long-term tangible assets used in operations, such as buildings, machinery, vehicles, and land improvements; land is not depreciated because it does not wear out. Intangible assets, including patents, trademarks, copyrights, goodwill, and software, are long-term non-physical resources with future economic value; some are amortized over finite lives, while goodwill and many trademarks are considered indefinite-lived and tested annually for impairment, which is a write-down applied when an asset's fair value falls below its book value and the decline is other-than-temporary.
Depreciation is the systematic allocation of a tangible asset's cost over its useful life, matching the cost to the periods that benefit from it. Straight-line depreciation expenses an equal amount each year, computed as (Cost - Salvage Value) / Useful Life. Salvage value is the amount expected to be recovered when the asset is eventually disposed of. Units-of-production depreciation ties expense to actual usage, multiplying (Cost - Salvage) by the ratio of units used this period to total estimated units; this method suits machinery whose wear is closely linked to output. Double-declining-balance is an accelerated method that applies twice the straight-line rate to the asset's beginning book value, ignoring salvage until the book value approaches it. The depreciation expense reported on the income statement in any single period differs from accumulated depreciation, the running total of all depreciation recorded to date, which appears as a contra-asset on the balance sheet. The asset's net book value equals its original cost minus accumulated depreciation. When an asset is sold for more than its book value, depreciation recapture under U.S. tax law taxes part of the gain as ordinary income.
Inventory, a major asset for retailers, manufacturers, and wholesalers, is governed by several cost-flow assumptions. The First-In, First-Out (FIFO) method assumes the oldest costs are sold first, leaving the most recent costs in ending inventory; during inflation, this raises reported inventory and net income. The Last-In, First-Out (LIFO) method assumes the newest costs are sold first, matching current costs against current revenue and reducing taxable income in inflationary periods; LIFO is permitted under GAAP but prohibited under IFRS. The weighted-average method smooths price fluctuations by assigning the same unit cost to all items, recalculated each period. Specific identification tracks the actual cost of each item and is reserved for unique, high-value goods. LIFO liquidation occurs when a company sells more than it buys, dipping into older, cheaper layers and often raising reported income during inflation, and the LIFO reserve discloses the cumulative difference between LIFO and FIFO inventory to aid comparability. To prevent overstatement, the lower of cost or net realizable value (LCNRV) rule requires inventory to be reported at the lower of its historical cost or its selling price less completion and selling costs. Inventory flows into the income statement through cost of goods sold (COGS), calculated as Beginning Inventory + Purchases - Ending Inventory. Inventories may be tracked using a perpetual system, which updates records with every purchase and sale, or a periodic system, which updates only at period end through a physical count.