What are Cash and Cash Equivalents

What are Cash and Cash Equivalents?

This post tackles the topic what are Cash and Cash Equivalents, how these items are valuated, how they are presented in the financial statements, and examples of each item.


From the point of view of a layman, “cash” simply means money. Money refers to the currency and coins which are in circulation and legal tender. However, in the accounting parlance, the term “cash” has a special and broader meaning. Cash includes “money and any other negotiable instrument that is payable in money and acceptable by the bank for deposit and immediate deposit.


The following cash items are included in “cash”:

  1. Cash on hand—this includes undeposited cash collections and other cash items awaiting deposit such as customer’s check, manager’s check, traveler’s check, and money orders.
  2. Cash in bank—this includes demand deposit or checking account and saving deposit which are unrestricted as to withdrawal.
  3. Cash fund—set aside for current purposes such as petty cash, payroll fund, dividend fund, tax fund, interest fund and change fund.

There are however items that may seem like cash but shouldn’t be classified as such. Examples are as follows:

  1. postdated checks
  2. cash funds not available for use in current operations
  3. postage stamps
  4. IOUs or advances to employees

Valuation of Cash

  1. Cash is generally valued at face value or face amount. Money that is in local denomination is valued at face amount.
  2. Cash is valued at the current exchange rate if the cash involved is foreign currency.
  3. Cash is valued at its net realizable value if the cash being valued is deposited in a bank or financial institution facing financial difficulty.

Compensating Balance

A Compensating Balance is another term for maintaining balance. It is the minimum amount of money that you should have in a certain account.

  • If the maintaining balance is not legally restricted, it is considered as a current asset.
  • If the maintaining balance is legally restricted, it is classified as a non-current asset.

Bank Overdraft

A bank overdraft is a negative balance in the cash in bank account resulting from the issuance of checks in excess of the amount of deposit. Overdrafts occur only in checking accounts and should not occur in savings and time deposits. An overdraft should be reported as a current liability, normally under “Trade and other payables” line item and not offset to cash.


“Cash Equivalents” are short-term and highly liquid investments that are readily convertible into cash and so near their maturity that they present insignificant risk of changes in value because of changes in interest rates. Cash Equivalents are one of the most liquid assets that are found within the Statement of Financial Position (Balance Sheet) of a business entity.


Accounting standards further state that “only highly liquid investments that are acquired three months before maturity can qualify as cash equivalents. Short term investments on the other hand mature 1 year or less from the balance sheet date while long-term investments are investments that mature in excess of 1 year. Another condition a cash equivalent needs to satisfy is that the investment should have insignificant risk of change in value because of changes in interest rates; therefore an investment normally qualifies as a cash equivalent is only when it has a short maturity of three month or less from the date of acquisition. An item should satisfy the following criteria to qualify for Cash Equivalent:

  • The investment should be short term. They should mature in less than the three months. If they mature in more than three months they will be classified as other investments.
  • They should be highly liquid. This means that they should be easily sold in market. The buyers of these investments should be easily available.
  • They should be convertible to known amounts of cash. This means that their market price should be available and this market price should not be subject to significant fluctuations.

They should not be too risky. These should be very little risk of changes in their values in their value. This means that equity shares cannot be classified as cash equivalent. But prepared shares purchased shortly before the redemption date can be classified as cash equivalent.

Are Equity Investments Cash Equivalents?

In general, equity investments are excluded   from   cash   equivalents   unless   they   are,   in substance, cash equivalents. For  instance, the preferred shares acquired within a short period of their maturity and with a specified redemption date. Common stock cannot be considered as a cash equivalent since they don’t have maturity date.

Examples of cash equivalents:

  1. Three-month treasury bill- A short term obligation issued by the government at a discount.
  2. Three-month time deposit - Form of a bank deposit normally made in fixed denominations.
  3. Three-month money market instrument - Investments in portfolios of short-term securities


The caption “cash and cash equivalents” should be shown as the first item among the current assets in the statement of financial position. This caption includes all cash items and cash equivalents which are unrestricted in use for current operations. The amount of cash and cash equivalents will be reported on the balance sheet as the first item in the listing of current assets.

The details comprising the “cash and cash equivalents” line item should be disclosed in the notes of financial statements.


Melissa Company had the following account balance on December 31, 2013:

  • Cash in Bank – current account P5,000,000
  • Cash in Bank – payroll account P1,000,000
  • Cash on Hand P500,000
  • Cash in Bank – restricted account for building construction expected to be disbursed in 2014 P3,000,000
  • 90-day money market instrument P550,000
  • Time Deposit, purchased December 15, 2013 Due March 15, 2014 P2,000,000

The Cash on Hand included a P200,000 check payable to Melissa, dated January 15, 2014. What are Cash and Cash Equivalents total ending balance on December 31, 2013?


Click to show the answer

cash and cash equivalents

The Cash in Bank set aside for payroll is included in cash because it is for the payment of current liability.

The Cash on Hand is reduced by the post-dated check payable to Melissa. The post-dated check should be reverted to accounts receivable.

The Cash in Bank restricted for building construction is classified as a noncurrent investment because it is set aside for the acquisition of a noncurrent asset and not for the payment of a current liability

The Time Deposit and Money Market is classified as Cash Equivalent because the term is three months. Under IAS 7 (PAS 7), treasurybill, money market placement and time deposit normally qualify as cash equivalent only when they have a short maturity of three months or less from the date of acquisition.

Review Questions regarding the topic "What are Cash and Cash Equivalents"

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