Companies often invest their excess cash for two primary reasons: to generate additional income or to exert influence over another company. When a company has more cash than it can reinvest in its own operations, it may choose to purchase investments that yield income. Alternatively, by acquiring a significant amount of stock in another company—typically more than 20%—a company can influence that company's decision-making processes. However, this discussion focuses on investments where ownership is less than 20%, allowing companies to earn income without controlling the other entity.

The term "security" encompasses any financial instrument that holds monetary value, including stocks and bonds. Securities can be classified into two main categories: equity securities and debt securities. Equity securities represent an ownership interest in a company, such as common stock or preferred stock. Investors earn income from equity securities primarily through dividends and capital gains. Dividends are payments made by the company to its shareholders, while capital gains occur when the value of the security increases, allowing the investor to sell it for a profit.

For example, if an investor purchases 10 shares of a stock for $400 and receives a dividend of $1 per share, the total dividend income would be $10. If the stock's price rises to $55 per share, the investor can sell the shares for $550, resulting in capital gains of $150. Therefore, the total income from this investment would be the sum of the dividends and capital gains, amounting to $160.

On the other hand, debt securities involve lending money to another entity, which must be repaid with interest. Bonds are a common form of debt security, where the investor receives periodic interest payments until the bond matures. This type of investment provides a steady income stream through interest payments, distinguishing it from equity securities.

Understanding these classifications of securities is crucial for companies looking to manage their investments effectively and maximize their income potential.