Financial Investments are an important part of any set of accounts and many financial investments are held into the long term Meaning, they become non-current assets How do we account for it when we make an initial investment? Well here we've got a financial investment that we're going to buy And next to that we've got our balance sheet formula (Assets = Liabilities + Equity) When you make an initial investment of a financial investment your cash goes down (that's one of your assets that goes down) But another asset goes up And that's your investments Your investment sits as a non-current asset So we notice that the left hand side of our balance sheet formula hasn't actually changed One item goes down, another item goes up My total assets will be unchanged And the right hand side of the formula (Liabilities + Equity), that's unchanged as well It's nice to realize that this is the same as any asset purchase If you were buying a car with cash, cash would go down and your investment would go up In that case, it would be property plant and equipment going up, but it's just an asset swap One asset, cash goes down, another asset goes up But what happens if the market value of our financial investment increases Well what happens depends on how you've accounted for your financial investment And there are three types The first one is called amortized cost Now this used to be called 'held to maturity' And it was a really nice description of the kind of financial investment you would have here So these might be a bond You've bought the bond, it's going to pay you interest and a coupon for maybe 10 years And you're going to hold it to maturity (held for maturity) So what if the market value of that increases? Well because you're going to hold it to maturity, you make no change to the value at all And there's no effect on the balance sheet or the income statement. So what value do you hold the financial investment at? You hold it at its amortized cost and that's where that new names come from The next way we could of accounted for a financial investment is fair value through profit and loss Now this used to be called 'held for trading' And it looked at financial investments that you actively held to trade, maybe bonds or shares And in the medium term you're actively looking to buy and sell them So if you are looking to trade them in the medium term (in the next year or two) If the market value increases, you are allowed to book some kind of gain into your accounts So how do we do that? Well our assets, we're allowed to put them up, the value of the investment goes up by the market value increase In our liabilities and equity, retained earnings goes up (RE goes up) So why is this? Well what we're accounting for here is that the financial investment has increased in value And we then put a gain on our income statement (the IS) So we have some kind of income, or gain or profit on the income statement, fantastic. And if our income statement increases and our net income increases, that flows through to your retained earnings increasing as well So the old term 'held for trading' investments How do we account for them? We account for them as fair value through profit and loss i.e. gains are allowed to go through your profit and loss or your income statement So what if your investments don't fall into either of those first two categories; amortized cost or fair value through profit and loss? Well then you come to this third group of financial investments Fair value through other comprehensive income Here if the market value increases, you are allowed to put the investment up again So just like the investment above that (fair value through profit and loss) But you're not allowed to put the gain through the income statement or the profit and loss Instead, you just put your equity up by something called 'other comprehensive income' So what this means is, imagine you've got an investment And you're thinking 'I might trade it, I'm not too sure, I might keep it to maturity' Okay, so you're not too sure And the market value increases Well accounting says you can't put that gain straight into your profit and loss or your income statement You can't just say I'm going to earn that gain because you might not sell it You might not earn that gain So instead, you allowed to put the gain into something called 'other comprehensive income' And that flows through into equity Your income statement, otherwise known as your profit and loss So three different types of financial investments or how they're accounted for Amortized cost, fair value through profit and loss and fair value through other comprehensive income