Reserved funds may take the following forms: 1. Cash 2. Invested in securities 3. Invested in the business.
The last seldom is the usual form, and generally the best. Cash reserves are rarely satisfactory for the reason that bank deposits rarely earn over three per cent. But reserves in cash or in the securities of other companies are sometimes desirable to provide self insurance, regular dividends, or large replaCements which cannot be paid conveniently out of current in come. In the absence of some special reason, re serves in the form of cash or securities possess the same objections as unnecessary sinking funds, men tioned in the chapter on Amortization.
Secret reserves may be carried which do not show upon the books, by charging betterments to operating expense. This has led many to believe that reserves are merely a matter of book entry. Altho reserves or surplus may be actually kept without appearing on the books, to do so intentionally is haphazard policy, which is not to be recommended except, perhaps, as a form of necessary manipulation to save a corporation from dividend-mad stockholders.
There are some companies, such as railroads and street railways, which need carry little or no reserve against the bulk of their assets, for the reason that they undergo a constant process of replacement and improvement, which renders reserves unnecessary, ex cept against large units such as terminals, freight and passenger stations, bridges, etc.
10. Financing are of two classes, those which immediately increase• the in come and profits of the company and those which are slow and uncertain in their effect upon earnings.
It is obviously sound policy to borrow, or to issue additional stock, to finance improvements which will pay immediately. But betterments which do not in crease the income sufficiently to pay the interest upon their own cost, cannot safely be financed in this way to any large extent. Such improvements had best be paid for, either wholly or in part, out of current in come, either as a charge against surplus or out of a special reserve created for the purpose.