Accounting for cash and cash equivalents

Companies’ balance sheets report cash and cash equivalents. In this article, I explain what this means.

Defining cash

Cash is the standard medium of exchange, the basis for measuring and accounting for everything. It may consist of coins, currency, and funds available on deposit in a bank. It may also include petty cash balances on hand and money market accounts with checking privileges. Postdated checks are receivables, not cash.

Clarifying cash equivalents

Companies frequently invest cash into highly liquid investments in order to earn a tidy return. Cash equivalents are short-term, highly liquid investments that are both:

  1. readily convertible to known amounts of cash, and
  2. so near to their maturity that they present insignificant risk of changes in value caused by changes in interest rates.

In general, investments with original maturities of three months or less will qualify as cash equivalents. Here are some examples:

  • treasury bills
  • commercial paper
  • money market funds without checking privileges

On December 31, 2016, Apple reported that it had $10,669,000,000 worth of cash and cash equivalents. If this were invested in government securities yielding just 1% interest per year, Apple would earn more than $106 million in a single year!

Reporting cash and cash equivalents

Companies usually report cash and cash equivalents in the balance sheet as the very first current asset.

Journal entries

To increase cash and cash equivalents, debit it. To decrease it, credit it. To record receipt of cash from a sale, debit the account cash and cash equivalents, and credit the account sales revenue:

JE Sale for cash

To record a payment of cash for salary expense, debit the account salary expense and credit cash and cash equivalents, as shown here:

JE Pay salary expense

Take-away for entrepreneurs

You need to have enough cash and cash equivalents on hand to pay your bills in a timely basis, plus additional funds in case of an emergency or a financial opportunity that you wish to take advantage of. In general, keep enough cash in your checking account to pay all outstanding checks and the next few days’ worth of bills. Investing additional cash into cash equivalents – such as treasury bills and money market funds – will yield you a little extra interest income.

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