Surplus Cash Investing
- Adam Edwards
- Nov 12, 2024
- 3 min read
The purpose of surplus cash investing is to put a company’s excess cash to productive use by generating additional income, rather than leaving it idle in non-interest-bearing accounts. Surplus cash is any cash not required for immediate operational expenses, debt obligations, or emergency reserves. By investing this cash, companies can enhance their returns, support liquidity needs, and maintain financial flexibility.
Key Purposes of Surplus Cash Investing
Maximise Returns on Idle Cash: Surplus cash sitting idle in a non-interest-bearing account loses value over time due to inflation. Investing this cash enables the company to earn returns, such as interest or capital gains, which can add to its income without additional operational effort.
Preserve Liquidity While Earning Income: Companies often need immediate access to cash to meet operational needs or respond to opportunities. Surplus cash investments are typically placed in short-term, liquid assets (e.g., money market funds, treasury bills) that provide a modest return while remaining accessible. This ensures that the company can quickly convert investments to cash if necessary, preserving liquidity.
Offsetting Borrowing Costs: For companies with outstanding debt, investing surplus cash can generate income that offsets interest expenses. This approach effectively reduces the net cost of borrowing and helps manage the company’s overall cost of capital.
Support for Strategic Flexibility: Surplus cash investments can serve as a financial buffer, giving the company flexibility to capitalise on strategic opportunities, such as acquisitions, investments in new projects, or expansion. Maintaining surplus cash in income-generating investments enables the company to act quickly without relying on additional debt or equity financing.
Hedge Against Economic Uncertainty: Investing in high-quality, stable assets like government bonds or treasury bills can help companies build a financial reserve for economic downturns. These low-risk investments provide reliable returns and help mitigate liquidity risks during periods of revenue fluctuation or economic instability.
Enhanced Financial Stability: Companies with stable investment income from surplus cash have a stronger financial position, which can improve credit ratings and make them more attractive to investors and lenders. This additional income stream contributes to long-term financial health and helps maintain operational stability.
Typical Surplus Cash Investment Options
To balance return and liquidity, companies often invest surplus cash in the following types of assets:
Money Market Funds: Highly liquid funds that invest in short-term, high-quality securities. These funds provide easy access to cash with a modest return.
Treasury Bills: Short-term government securities that are low-risk and highly liquid, ideal for companies looking to preserve capital while earning a small return.
Certificates of Deposit (CDs): Time deposits that offer a fixed interest rate and are available with varying maturities, allowing companies to align investments with cash flow needs.
Corporate Bonds (Short-Term): Bonds issued by financially sound companies with short maturities, offering higher returns than government securities, though with slightly higher risk.
Commercial Paper: Unsecured, short-term debt instruments issued by corporations, which provide slightly higher returns than treasury bills but with some credit risk.
Example of Surplus Cash Investing
Consider a company with £1 million in surplus cash. By investing this cash in a mix of treasury bills and money market funds, the company can earn a return of around 2-3% annually, generating an additional income of £20,000-£30,000. This income can be reinvested, used to offset operational costs, or saved to support future strategic initiatives.
Summary
The primary purpose of surplus cash investing is to ensure that excess cash generates income, supports liquidity, and maintains financial flexibility. By carefully selecting low-risk, liquid investments, companies can earn returns on idle cash while ensuring funds remain accessible for operational and strategic needs. This approach to cash management strengthens the company’s financial position, providing additional stability and enabling it to take advantage of growth opportunities without compromising liquidity.