Module 1: Cash and cash equivalents

1.1 Nature, recognition, and presentation of Cash and cash equivalents

The definition of financial assets per International Accounting Standards 32.11:
Financial asset: any asset that is:

 cash
 an equity instrument of another entity
 a contractual right
o to receive cash or another financial asset from another entity;
o or to exchange financial assets or financial liabilities with another entity under conditions that are
potentially favorable to the entity;

 or a contract that will or may be settled in the entity's own equity instruments and is:
o a non-derivative for which the entity is or may be obliged to receive a variable number of the entity's
own equity instruments
o a derivative that will or may be settled other than by the exchange of a fixed amount of cash or
another financial asset for a fixed number of the entity's own equity instruments.

We discuss the 1st example of financial assets, which is cash and cash equivalents.
According to Philippine Accounting Standard (PAS) 1, paragraph 66:
- An entity shall classify an asset as current when the asset is cash or a cash equivalent unless it is
restricted to settle a liability for more than twelve months after the end of the reporting
period.
According to Philippine Accounting Standard (PAS) 7, paragraph
6:
- A Cash equivalent is defined as short-term and highly liquid investments that are readily
convertible into cash and so near their maturity that they present an insignificant risk of changes in
value because of changes in interest rates.

From the above definition of our Philippine Accounting Standards (PAS), we recognized the following:

1. Cash - This is the money used to settle current obligations/liability and is not subject to any restrictions.
If restricted to be used for current obligation settlement, generally, it is not cash.

Examples of which are:

 Cash on hand - These include coins, currencies, undeposited cash collections, and other items awaiting
deposits that are considered by the banks as good as cash such as cashier's check, manager's check,
traveler's check, bank drafts, and money orders.
 Cash in bank - This includes checking accounts and savings deposits which can be withdrawn to the
bank anytime.
 Petty cash fund / Payroll fund / Revolving fund / Dividend fund - These are cash funds set aside to settle
current obligations of the entity.

2. Cash equivalents - These are highly liquid investments that are acquired three months before their
maturity or have a 3 months lock-in period.

Examples of which are:

 Three-month money market instrument such as BSP Treasury bill, time deposit, or commercial
paper.
 Five-year BSP Treasury bill or time deposit or commercial paper purchased three months before the
date of maturity.

Note: Money market instruments are generally issued by private or public entities with the purpose of
generating funds from the investors. The investors on the other hand invest funds for the purpose of
receiving interest income as an add-on.
Presentation:

 It is reported in the Statement of Financial Position as "Cash and cash equivalents" under the Current
assets portion.
 Details of Cash and cash equivalents should be disclosed in the Notes to the Financial Statements.

1.2 Measurement of cash and cash equivalents

Cash and cash equivalents are measured at face value.
Cash in foreign currency should be translated into Philippine peso and measured at the Current exchange
rate.
If a bank or financial institution holding the cash is under bankruptcy, then, the cash and cash equivalent
should be valued at its Estimated Realizable Value if the recoverable amount is lower than its face value.
The estimated realizable value is the amount you can get from a bankrupt or financially distressed
institution.
The following are the treatment of Restricted Cash or Cash set aside for specific purpose:

 Cash in foreign currency that is restricted should be reported separately as a Noncurrent asset.
 A cash fund set aside to settle current obligations such as a Petty cash fund is included in Cash and
cash equivalents.
 A cash fund set aside for noncurrent assets (Building construction) or payment of noncurrent obligations
(sinking funds) should be classified as long-term investments. However, if the sinking fund is set aside
for payment for a one-year bank loan, it is classified as a Short-term investment.
 Legally restricted compensating balance is not part of Cash and cash equivalents rather reported under
Noncurrent assets if the loan is concurrent.
Compensating balance - is the minimum checking/savings account balance that must be maintained in
connection with a borrowing arrangement.
Other relevant information:

 Bank overdraft - A credit balance in the checking account and is considered as Current liability and
should not be offset against other bank accounts with debit balances from another bank.
 Unreleased checks - Checks not yet issued or delivered to the payee. It is considered as cash and
should be restored back by the entity as Cash and cash equivalents.
 Post-dated checks - Checks issued to the payee but dated after the reporting period.

The entry should also be reversed: Debit to Cash and Credit to Accounts payable or appropriate
account

 Stale checks - Check not to encash by the payee within a relatively long period of time. It is not
considered Cash by the payor. On the part of the payee, it should be restored back to cash.

1.3 Petty cash fund

The Imprest system is an internal control for cash set by the entity.
In this system, all cash receipts and cash disbursements are made by means of checks.

However, not all disbursements can be done through checks. With these regards, the entity set aside funds
to settle small expenses such as the petty cash fund.

Petty cash Fund - These are cash set aside to pay small expenses wherein using checks are impractical.
Example scenario: Transportation cost of the messenger. Can you pay a check to the tricycle or jeepney
driver?
The 2 Methods in Accounting for Petty cash fund:

1. Imprest fund system - the most common practice

2.

Pro-forma journal entries:

 To record petty cash fund:

Debit Credit
Petty cash fund xxxxx
Cash in bank xxxxx

 To use the petty cash fund for specific expenses:

No entry
Note: The petty cash custodian generally requires petty cash vouchers to be signed by the receiver of the
fund and the receiver will liquidate the funds and give appropriate supporting documents such as official
receipts.

 To replenish petty cash fund:

Debit Credit
Expenses xxxxx
Cash in bank xxxxx

 To adjust unreplenished expenses at the end of the accounting period:

Debit Credit
Expenses xxxxx
Petty cash fund xxxxx

 To reverse adjusting entry at the beginning of the accounting period:

Debit Credit
Petty cash fund xxxxx
Expenses xxxxx

2. Fluctuating fund system - Under this method, the disbursements are immediately recorded:

Debit Credit
Expenses xxxxx
Petty cash fund xxxxx

And replenishment:
Debit Credit
Petty cash fund xxxxx
Cash in bank xxxxx

Where the actual cash count shows that cash is less than the balance per book, a cash shortage exist and
is recorded as:
Debit Credit
Loss from cash shortage xxxxx
Cash xxxxx
Note: Due to cashier can also be debited if the shortage will be paid by the cashier.

Where the actual cash count shows that cash is more than the balance per book, a cash overage exists
and is recorded as:
Debit Credit
Cash xxxxx
Other income xxxxx
Note: Due to cashier can also be credited if the overage will be paid to the cashier.

1.3.1 Illustrative problem - Petty cash

Let us apply the concepts by solving the illustrative problem:
Illustrative problem
Aruba Company had a petty cash fund amounting to P6,000.
Related details in the petty cash box are as follows:
Coins and currency P2,000
Paid vouchers:
Transportation P600
Gasoline 400
Office supplies 500
Postage stamps 300
Due from employees 1,200 3,000
Employee's check returned by bank marked as
"NSF" (No Sufficient Fund) 1,000
Check drawn to the order of petty cash custodian 4,000

How much is the petty cash

fund?

Solution:
Coins and currency P2,000
Check drawn to the order of petty cash custodian 4,000
Petty cash fund P6,000

Notes:
No entry is made for paid vouchers (see Pro-forma journal entry).
Employee's checks returned by bank marked as "NSF" (No Sufficient Fund) are not petty cash funds but
rather a reinstatement of advances to employees.

What are the related journal entries (Imprest fund system)?

1.4 Bank reconciliation statement

Bank reconciliation is prepared because of the three (3) day clearing period on the checks received by the
banks whether for collection or for disbursements of the company that owns an account in the
bank.
The clearing period gives way for the bank to verify if the checks received have sufficient
bank.
It is just normal for the Cash balance recorded by the bank (per bank statement) is different from the Cash
balance recorded by the company (per book or general ledger). Hence, a bank reconciliation statement for
all Cash in the bank at the end of every reporting period to ascertain correct accounting of it.

Please be reminded that per the bank statement, a debit means a deduction to cash of the client while a
credit means an addition to the cash of the client. These are entirely opposite on the entity's accounting
record because the bank generally has a liability to the depositing client.
These are the related bank reconciling items:
1. Deposit in transit - These are collections already recorded by the depositor as cash receipts but not yet
recorded by the bank in the bank statement. It is added in the Balance per bank section.

Examples:

 Checks collection deposited on January 31 but will be cleared by the bank only on February 3.
 Checks collected by the depositor at 5 pm wherein the bank is already closed and will only be deposited
on the next day.

2. Outstanding checks - These are checks already recorded by the depositor as cash disbursements but
not yet recorded by the bank. It is deducted in the Balance per book section.

Example: A check given to the payee and presented to the bank on January 31 will only be cleared and
recorded by the bank on February 3.

3. Bank errors – errors made by the bank such as incorrect crediting of collection from
customers.

The related book reconciling items are:

 Credit memos - These are items credited by the bank on the depositor's account but are not recorded
by the depositor on its general ledger such as note receivable with interest income collected by the
bank on behalf of the client.

 Debit memos - These are items debited by the bank on the depositor's account but is not recorded by
the depositor on its general ledgers such as checks deposited by the bank and returned by the bank
marked as "No Sufficient Fund" (NSF) or "Drawn Against Insufficient Fund" (DAIF), Technical defective
checks and Bank service charges.

 Book errors - These are items recorded by the book incorrectly such as checks credited to cash as
P200,000 when the actual check amount is P20,000 only.

Take note: Only book reconciling items are recorded in the general ledger.
Pro-forma Bank reconciliation statement:

1.4.1 Illustrative problem - Bank reconciliation statement

Illustrative problem
Zimbabwe Company related data:
Balance per book, March 31 P800,000
Cash receipts for April 4,100,000
Cash disbursements for April 3,827,000
Undeposited collections 270,000
Outstanding checks as of April 30 of which No. 1333 had been
certified:
No. 1331 P40,000
No. 1332 30,000
No. 1333 50,000
No. 1334 60,000
No. 1335 10,000 190,000
April debit memos were:
For bank service charge 5,000
For NSF check 25,000
April credit memo for note collected by bank in the name
of the entity including P2,000 interest 60,000
Balance per bank, April 30 1,000,000
Included in the Cash disbursement is a check recorded as P30,000 instead of P3,000.
Requirements:

1. Prepare the Bank Reconciliation Statement

2. What are the related journal entries

Solution:
Note: The unadjusted cash balance per book is computed by:

1.5 Proof of cash

Another internal control that prepares the entity to avoid discrepancies for its cash and cash equivalent is
the proof of cash,
A Proof of Cash - This is an expanded reconciliation that focuses on proof of receipts and disbursement.
Proforma Proof of Cash:

If you will notice, proof of cash is similar to a bank reconciliation statement which also includes all of the
reconciling items, except that under the proof of cash, the previous period balance (beginning balance this
period) is also taken into consideration.
1.5.1 Illustrative problem - Proof of cash
Illustrative problem:
Prepare Xavier's Proof of Cash for the month of November:
October 31 November 30
Balance per book P50,000 P70,000
Balance per bank 84,000 124,000
Book debits 200,000
Book credits 180,000
Bank debits 130,000
Bank credits 170,000
Deposit in transit 40,000 75,000
Outstanding checks 65,000 119,000
NSF check 5,000 10,000
Service charge 1,000
Note collected by bank 15,000 20,000

Solution: