Net Assets

Net assets are the amount by which an entity's total assets exceed its total liabilities. In a company, net assets are equal to shareholders' or owners' equity, as shown by the accounting equation. The term is used most often in three settings: in analyzing companies, where it is a measure of book value; in investment funds, where net assets per share give the net asset value (NAV); and in nonprofit organizations, where "net assets" replaces "equity" because there are no owners.

For individuals the equivalent idea is net worth. In each case the figure is based on accounting values, so it may differ greatly from what the entity would be worth if sold.

The calculation is:

Here $\text{Total assets}$ includes everything the entity owns or controls, such as cash, receivables, inventory, property and intangible assets, and $\text{Total liabilities}$ includes everything it owes, such as payables, loans, bonds and lease obligations.

A manufacturing company has total assets of $85,000,000 and total liabilities of $52,000,000, so its net assets are $33,000,000. This equals the shareholders' equity on its balance sheet. If the company has 3,000,000 shares outstanding, net assets per share are $11. Some analysts also calculate net tangible assets, which subtract goodwill and other intangible assets; if the company carries $9,000,000 of goodwill, its tangible net worth is $24,000,000.

US nonprofits report a statement of financial position instead of a balance sheet, and its equity section is called net assets. Since FASB's ASU 2016-14, which took effect for most organizations in 2018, net assets are split into two classes:

• Net assets without donor restrictions: resources the organization can use for any purpose consistent with its mission, including amounts its board has chosen to set aside.
• Net assets with donor restrictions: gifts that donors have limited to a specific purpose or time period, or that must be held permanently, such as the principal of an endowment fund.

Before 2018, nonprofits used three classes: unrestricted, temporarily restricted and permanently restricted. When a donor-imposed restriction is met, for example when money given for a building is spent on it, the amount is reclassified from net assets with donor restrictions to net assets without donor restrictions. The statement of activities reports the change in net assets for each class, which plays the role that net income plays for a business. Larger US charities also report net assets on IRS Form 990.

Net assets are a starting point for valuing companies that hold mainly financial or tangible assets, such as banks, insurers, investment companies and property firms. Lenders often set covenants requiring a minimum level of net assets or tangible net worth. For a fund, net assets drive the daily share price, so they must be measured at fair value.

For most operating companies, however, net assets are a poor guide to market value. Assets are usually carried at historical cost less depreciation, and many valuable resources, such as internally developed brands, customer relationships and skilled staff, are not recorded at all. That is why the market value of a technology company can be many times its net assets, a gap that shows up in a high price-to-book ratio. Net assets that turn negative, where liabilities exceed assets, indicate balance-sheet insolvency and are a warning sign for creditors. For nonprofits, a large balance of net assets without donor restrictions relative to annual expenses indicates financial flexibility, while a low balance can signal reliance on restricted gifts. The related measure of book value of a company is often used interchangeably with net assets.