Financial Management · Management of inventories, accounts receivable, accounts payable and cash

Short-Term Investment and Borrowing of Cash for ACCA FM

Updated 11 October 2026 · Fact-checked

Short-term investment and borrowing of cash means placing surplus cash in safe, liquid instruments such as deposits, treasury bills and certificates of deposit, and covering deficits with overdrafts or short-term loans. You choose by balancing risk, return, liquidity, cost and how long the surplus or deficit will last.

Understand Short-Term Investment and Borrowing of Cash

A business rarely has cash exactly matching its needs. Some months it has a surplus. Other months it has a deficit. Cash management is about handling both at the lowest cost and risk. You find out which you face from the cash flow forecast.

For a surplus, idle cash earns nothing. But you cannot lock it away if you need it soon. Three things pull against each other: risk (could you lose capital?), return (how much interest?) and liquidity (how fast can you get cash back?). Higher return usually means less liquidity or more risk. Safe and instant-access investments pay least.

Common money market choices:

Bank deposits: low risk. Notice deposits and fixed-term deposits pay more than instant access, but you give up access.
Treasury bills: short-term government debt sold at a discount and repaid at face value. Very low default risk. Tradable, so liquid.
Certificates of deposit (CDs): a bank's receipt for a fixed-term deposit. They can be sold before maturity, so they combine a fixed rate with liquidity. Risk is that of the issuing bank.
Commercial paper: short-term unsecured notes issued by large, creditworthy companies. Higher yield, higher risk.

For a deficit, the main sources are an overdraft and a short-term loan. An overdraft is flexible: you pay interest only on the amount used, and it is usually repayable on demand. A short-term loan gives certainty for a fixed period at an agreed rate, but you pay interest on the full amount even if you do not need it all. Other short-term sources include trade credit, factoring, invoice discounting and selling surplus assets. Match the source to the need: a temporary, fluctuating deficit suits an overdraft. A known, fixed-length need suits a loan.

The matching principle supports this. Short-term needs should be financed with short-term sources. Permanent needs should use long-term finance. Using an overdraft for a permanent need risks the bank withdrawing it.

Key rules to remember

Simple interest for part of a year: Interest = Amount × annual rate × (months ÷ 12); Use for deposits, overdrafts and loans of less than a year. Use days ÷ 365 if days are given.
Treasury bill yield (discount instrument): Return over the period = (Face value − Price paid) ÷ Price paid; Divide by the price paid, not the face value. Annualise by scaling with 12 ÷ months, or compound if the question asks for the effective rate.
Effective annual rate (EAR): EAR = (1 + r)^n − 1, where r is the return per period and n is the number of periods in a year; Use it to compare instruments with different terms or compounding.
Net benefit of investing: Net gain = Interest earned − Costs (fees, lost interest or higher borrowing cost); Compare with the alternative of simply holding cash or repaying an overdraft.
Risk, return and liquidity rule: Higher return ⇒ usually lower liquidity and/or higher risk; A general tendency, not a law. Use it to justify a choice in written answers.

How to solve Short-Term Investment and Borrowing of Cash questions

Use this order for any question on investing surplus cash or funding a deficit.

1Read the cash forecast or scenario. Identify whether there is a surplus or deficit, how large, and for how long. Check if the amount is certain.
2Note any constraints: need for cash at short notice, company policy on risk, restrictions on instruments, and the cost of overdraft or loan.
3List suitable options. For a surplus: deposits, treasury bills, CDs, commercial paper. For a deficit: overdraft, short-term loan, trade credit, factoring.
4Calculate the return or cost of each over the actual period. Use months ÷ 12 or days ÷ 365. Convert to a common basis if comparing.
5For a discount instrument, compute the return on the price paid, then annualise if needed.
6Compare on risk, return and liquidity as well as numbers. Check that the term matches the cash need.
7State a clear recommendation and give one or two reasons. Mention a risk or limitation.

Quickest way: Match the term, then compare the rates

When to use it: Use for objective test questions where you must pick the best instrument or the cheaper source of funds.

Decide how long the cash is surplus or needed. Discard options that do not fit that period.
For a deficit that fluctuates or is uncertain, favour an overdraft. For a fixed amount over a known period, favour a loan.
Convert each option to the cost for the same period. For an overdraft, charge interest only on the days and amounts used. For a loan, charge on the full amount.
For investments, pick the highest return among options that meet the liquidity and risk limits in the question.
Check units: months against years, and price paid against face value.

Common mistakes in Short-Term Investment and Borrowing of Cash

Dividing the treasury bill gain by the face value instead of the price paid.
The face value is the number that stands out in the question.
Fix: Return = gain ÷ amount invested. The amount invested is the discounted price.
Charging loan interest only on the amount needed, or overdraft interest on the full limit.
Students forget how each facility is charged.
Fix: A loan costs interest on the whole amount for the whole term. An overdraft costs interest only on the balance actually used.
Forgetting to scale the annual rate for a part-year period.
Rates are quoted per year and the period is rushed.
Fix: Multiply by months ÷ 12 or days ÷ 365 every time.
Recommending the highest-return investment without checking liquidity or risk.
The numbers look decisive.
Fix: Test each option against the cash need date and the risk policy first. Then pick the best return.
Using short-term finance for a permanent need, or long-term finance for a temporary one, without comment.
Students skip the matching principle.
Fix: State whether the need is temporary or permanent and match the source. Note refinancing risk for short-term funding of long-term needs.
Writing generic answers such as 'it is safe and liquid' for every instrument.
Learning a list instead of the features.
Fix: Tie each point to the scenario: amount, timing, issuer risk, whether it can be sold before maturity.

Worked examples

Example 1

A company expects to have ₹50,00,000 of surplus cash for six months. A six-month deposit pays 4% a year. A six-month treasury bill costs ₹98,00,000 per ₹1,00,00,000 face value. Which gives the higher return on the ₹50,00,000 invested, and by how much?

Show the solution

Deposit: interest = ₹50,00,000 × 4% × 6 ÷ 12 = ₹1,00,000.
Treasury bill: buy ₹51,02,040 face value? Instead use rates. Return per period = (1,00,00,000 − 98,00,000) ÷ 98,00,000 = 2,00,000 ÷ 98,00,000 = 2.0408%.
Apply to ₹50,00,000: ₹50,00,000 × 2.0408% = ₹1,02,041 (rounded).
Compare: ₹1,02,041 − ₹1,00,000 = ₹2,041.
Check: the bill's six-month return of 2.04% is above the deposit's 2.00% (4% × 6 ÷ 12).

Answer: The treasury bill gives about ₹1,02,041 against ₹1,00,000 from the deposit, so it earns about ₹2,041 more, assuming it is held to maturity.

Example 2

A company needs ₹20,00,000 for four months. Option A: a loan of ₹20,00,000 at 9% a year. Option B: an overdraft at 11% a year. Forecast overdraft use is ₹20,00,000 in month 1, ₹15,00,000 in month 2, ₹10,00,000 in month 3 and ₹5,00,000 in month 4. Which is cheaper?

Show the solution

Loan interest = ₹20,00,000 × 9% × 4 ÷ 12 = ₹60,000.
Overdraft balance-months = 20 + 15 + 10 + 5 = 50 lakh-months, that is ₹50,00,000 for one month in total.
Overdraft interest = ₹50,00,000 × 11% × 1 ÷ 12 = ₹45,833 (rounded).
Compare: ₹45,833 is below ₹60,000, a saving of about ₹14,167.
Comment: the overdraft is cheaper because the need falls over time. It is repayable on demand, so the forecast must be reliable.

Answer: The overdraft is cheaper, at about ₹45,833 against ₹60,000 for the loan, a saving of about ₹14,167.

Exam tips

In objective tests, read the time period first. Many wrong answers come from using a full year instead of months or days.
For written parts, structure answers as risk, return, liquidity and tie each point to the scenario.
Show the working for annualising or comparing returns in constructed response answers, because method marks are available there.
Say why an option fits the cash need, such as a flexible overdraft for a fluctuating deficit. Avoid generic definitions.
Always state a recommendation, then add one caveat such as forecast uncertainty or overdraft repayable on demand.

Practice questions from Management of inventories, accounts receivable, accounts payable and cash

Short-Term Investment and Borrowing of Cash in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

Short-Term Investment and Borrowing of Cash: frequently asked questions

What is the difference between an overdraft and a short-term loan?

An overdraft lets you borrow up to a limit and you pay interest only on the amount used. It is flexible but usually repayable on demand. A short-term loan is a fixed amount for an agreed term, and you pay interest on the full amount.

Which money market instrument is the safest?

Treasury bills are generally regarded as the lowest risk because the issuer is the government. Certificates of deposit and commercial paper carry the credit risk of the bank or company that issues them.

How do I manage a cash surplus in the exam?

Work out how long the surplus will last and when you may need it. Then choose an instrument that matures in time, fits the risk limits and gives the best return. Explain the trade-off between risk, return and liquidity.

Why not use an overdraft for every short-term need?

An overdraft can be withdrawn by the bank at short notice and its rate may be higher than a loan. For a known, fixed need a loan gives certainty. Long-term needs should not rely on an overdraft.