Short term investments are those that a company holds for a limited period. These investments are generally sold within three to twelve months of their initial purchase date. The purpose of these investments is to provide the business with a quick and easy cash flow. Short term investments can range from savings accounts and CDs to government bonds and Treasury bills.
A business may invest its cash in government bonds, corporate securities, and stocks. These investments are classified as noncurrent assets in the financial statements of companies. The accounting rules for these investments are discussed in subsequent chapters. Short term investments are those that mature quickly and are listed after cash on the balance sheet. These investments typically yield a high rate of return.
Investing in short term assets is not as risky as investing in long-term investments. Investors who choose this strategy are not risk-averse and prefer to withdraw their money quickly when profits are visible. In addition, these investors usually have only a superficial knowledge of investing. They don’t have the patience to wait for years to see their money grow.
The accounting method for short-term investments depends on the investor’s motivation and the relative size of the investment. For example, a corporation may make a short-term investment to generate extra cash or a long-term investment to purchase needed raw materials. In other cases, a corporation makes a long-term investment to expand its business.
Short-term investments are initially recorded at cost. However, they may fluctuate in value, so they are recorded at fair value. This change in value is recorded in the income statement. This process is known as mark-to-market accounting. The fair value of the investment is the price received in an orderly transaction.
A short-term investment is a good way to protect excess cash or gain interest. Short-term investments can provide a higher return than long-term investments. Stocks, for example, have historically increased by 10 percent a year. Investing in stocks also allows an investor to ride out market volatility. Moreover, short-term investments are typically highly liquid and tend to have lower risk than long-term investments.
Choosing the best type of short-term investment is a personal decision. Different people have different risk profiles. Some investors are risk-averse while others prefer to earn guaranteed returns. Short-term investments include certificates of deposit, money market instruments, savings accounts that yield a higher rate of interest, and treasury bills.
Short-term investments are considered investments with a shorter life cycle than long-term investments. A company may sell these investments after a certain period of time. For example, Microsoft Corp. reported that it held $135 billion worth of short-term investments. Among the assets it held, $108 billion were corporate notes and bonds. The remaining $3.8 billion was in mortgage/asset-backed securities and $2 billion in municipal securities.
Short-term investments include marketable and non-marketable securities. These include US Treasury bills and money market funds. The most important advantage of these investments is their flexibility. Because they do not require maturity, these investments are sold easily. They offer lower returns than long-term investments, but they enable the investor to make significant profits in a short amount of time.