The financial accounting term short-term investments refers to securities the company has purchased that can, and will be, sold in less than twelve months. Also known as temporary investments, short-term investments typically include marketable equity and debt securities as well as short-term paper.
Short-term investments are classified as a current asset, and appear on the company’s balance sheet.
In the course of normal business operations, companies require cash to pay for goods and services, including salaries of employees. Sound financial management techniques go beyond holding cash in bank accounts. Companies with significant financial flexibility, and a strong cash position, may purchase short-term investments as an alternative to placing money in a savings account at a financial institution such as a bank. While these investments are associated with a higher level of risk, the rewards can be greater too.
To be considered a short-term investment, the security must possess the following characteristics:
- Marketability: there must be a robust and active market, allowing the investment to be quickly turned into cash.
- Intent: the company is holding the security with the intent to convert it into cash within one year or one operating cycle, whichever is longer.
These short-term investments are classified as current assets, and normally fall into one of the following three categories:
- Marketable Equity Securities: includes common or preferred stock investments held by a company in another large corporation. Since there is an active market for these securities, they are considered liquid investments; nearly as liquid as cash.
- Marketable Debt Securities: includes short-term bonds held by one company in another large corporation. These debt securities are held by companies as an alternative to cash, and there should be an active market to ensure liquidity of the investment.
- Short-Term Paper: includes investments with original maturities that are less than 270 days. Examples include U.S. Treasury bills, commercial paper, as well as promissory notes.
SFAS 159 allows companies to value its securities at fair market value. This option is available on a security-by-security basis. When sold, the company will report the gain or loss in earnings in the current accounting period.