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Marketable Securities
November 11, 2020
What are Marketable Securities?
Marketable securities are highly liquid assets meaning they can be easily converted to cash at no loss of value. They are not typically part of a businesses’ operations and are defined as a current asset, meaning they are expected to be converted into cash in less than 12 months. Marketable securities are purchased and sold in capital markets, such as the stock or bond exchanges. Due to their high liquidity, they are often reported as cash and cash equivalents and used in many liquidity ratios.
Key Learning Points
- Marketable securities are investments with short maturities of less than 1 year and as such categorized as current assets in a company’s set of accounts
- They are reported as current assets on the company’s balance sheet
- Marketable securities provide companies with the opportunity to earn additional returns on cash balances
- Marketable securities are a highly liquid asset class and hence used in many accounting metrics, including the calculation of net debt and liquidity ratios
Why do Companies Invest in Marketable Securities?
A company may maintain cash reserves for several reasons. Cash reserves help deal with unforeseen challenges, act quickly on attractive acquisition opportunities, or settle financial obligations. However, idle cash does not generate returns and could instead be used to generate other forms of income. Marketable securities allow companies to earn returns on their cash balances. In case of a sudden need for cash, businesses can easily liquidate marketable securities to meet this demand.
Marketable Securities & Liquidity Ratios
Liquidity ratios assess a company’s ability to meet its short-term financial obligations. Marketable securities are included in all these ratios as they are seen as “spare cash”. There are three key ratios to calculate when examining liquidity:
- Current ratio (Current assets/current liabilities
- Quick ratio (Cash + marketable securities + receivables/current liabilities)
- Cash ratio (The market value of cash and marketable securities/current liabilities)
The current ratio shows if there are sufficient current assets to meet short-term financing obligations. It is important to understand the industry of the company in question as an acceptable ratio may be dependent on the industry.
The quick ratio removes inventories from current assets. Inventory needs to be sold in order to generate cash and in some cases, inventory is difficult to sell.
The cash ratio focuses on the cash and cash equivalents compared to current liabilities. It provides a worst-case scenario if other current assets are difficult to sell (due to market conditions) and the company must rely on its cash balances.
Where to Find Marketable Securities in Financial Statements?
Marketable securities can be found in the balance sheet section of a company’s annual report. Here is a snapshot from the 2017 Annual Report of The Coca Cola Company.
The company has reported its marketable securities under current assets.