CHAPTER 1 - Cash and Cash Equivalents

Financial Assets
● Any contract that gives rise to a financial asset of one entity and a financial liability or equity instrument
of another entity. (IAS 32, Financial Instruments: Presentation)
● Examples: Cash & cash equivalents, equity instruments of another entity (investment in equity shares),
contractual right to receive from another entity cash or another financial asset (trade receivables, loans
and other receivables), investment in debt instruments of another entity classified by the latter as
financial liabilities (investment in bonds and commercial papers)

Recognition of Financial Assets

● An entity shall recognize a financial asset in its statement of financial position when and only when the
entity becomes a party to the contractual provisions of the instrument (par. 3.1.1, IFRS 9).
● The entity, therefore, in order to recognize financial assets must have enforceable right to the inflow of
economic benefits from the instrument.

What is “cash”?
● A financial asset.
● The standard medium of exchange.
● Currency and coins which are in circulation and legal tender.
● Commercial instrument that is payable in money and acceptable by the bank for deposit and immediate
credit.
1. Bills and coins, which are legal tender issued by the Bangko Sentral ng Pilipinas including
foreign currencies.
2. Checks received, except NSF check, post-dated check, stale check, or otherwise defective
check
3. Bank drafts
4. Money orders

Cash items (whether on hand or in bank)

● Bills and coins (legal tender)
➢ Local currency like Philippine peso
➢ Foreign currencies (US Dollars, Japanese Yen, Bahraini Dinars etc.)
● Others
➢ Checks
➢ Bank drafts
➢ Money orders

Check
● A check is a written, dated, and signed instrument that directs a bank to pay a specific sum of money to
the bearer. The person or entity writing the check is known as the payor or drawer, while the person to
whom the check is written is the payee. The drawee, on the other hand, is the bank on which the check
is drawn. (Investopedia)

Bank Draft
● A banker’s draft, also known as a banker’s cheque, is like asking a bank to write a cheque for you.
● You give them your money and they give you a check for that amount to give to the person you’re
paying.
● For this reason, they do not bounce because of a lack of funds.

Postal Money Order

● A postal order, postal note or money order is a financial instrument usually intended for sending money
through the mail.
● It is purchased at a post office and is payable at another post office to the named recipient.
● A small fee for the service, known as poundage, is paid by the purchaser.

Classification of “cash” Presentation in the Statement of Financial Position

● It is presented either:
1. Current Assets
2. Non-Current Assets

Cash Classified as Current Assets

● To be reported as “Cash” the following requisites must be met:
1. It must be unrestricted
2. It must be immediately available for use in current operations
 a. for payment of operating expenses
b. for payment of current liability
c. for acquisition of current asset
● Items of cash which cannot be appropriately classified as current assets must otherwise be classified
as non-current assets with appropriate account titles.

Examples of cash items properly classified as Current Asset

● Bills, coins, customers checks, traveler’s checks, manager’s checks, cashier’s checks, bank drafts or
money orders
➢ Arising from collections from customers which are on hand awaiting deposit (Cash on hand).
➢ Arising from collections from customers which are deposited in banks (Cash in bank)
maintained either as demand deposit (checking/current account) or savings deposit (savings
account).
➢ Set aside a cash fund or working fund such as: petty cash fund, change fund, payroll fund,
dividend fund, tax fund, or interest fund.
● Note: An asset is classified as current if it is cash or cash equivalent unless it is restricted from being
exchanged or used to settle a liability for at least twelve (12) months from the end of the reporting
period.

Examples of cash items properly classified as Non-Current Asset

● Cash in foreign currency that is restricted as to withdrawal or foreign exchange restriction.
● Bank deposits in closed banks or banks having financial difficulty or in bankruptcy.
● Compensating balance related to a long-term loan and which are legally restricted as to withdrawal.
● Cash set aside for long-term specific purpose or for acquisition of a non-current asset.

Measurement basis for “Cash”

● General rule: Cash is measured at Face value (fair value)
➢ Exception: Cash in foreign currency – measured at current exchange rate

Other items of cash and transactions or events affecting reported cash balance
● Foreign currency
● Cash fund for specific purpose
● Bank overdraft
● Compensating balance
● Undelivered/unreleased checks
● Company’s post-dated check issued
● Stale check or check long outstanding
● Cash in closed banks
● Customer’s postdated checks, NSF Checks

Cash in foreign currency

● General rule: included in “cash” in the current asset converted at current exchange rate
➢ Exception: if subject to foreign exchange restriction – Non-current Asset

Cash set aside for long-term specific purpose

● Cash fund set aside for non-current purpose such as for payment of non-current obligation or for
acquisition or purchase of non-current asset such as PPE – Non-current asset
● Examples: Bond sinking fund; Preference shares redemption fund; Contingency fund; Insurance fund;
Fund for acquisition or construction of PPE
● If the related purpose to which the cash was set aside subsequently qualifies as current, as the
obligations becomes payable within 12 months, then such cash fund should be shown under Current
asset
● Cash funds set aside for the acquisition of a non-current asset should be classified as Non-current
asset regardless of the year of disbursement.

Bank Overdraft (BO)

● Created when a “Cash in Bank” account has a credit balance arising from issuance of checks in excess
of deposits.
● General rule: BO is recognized as current liability. No offsetting, meaning an overdraft in one bank
cannot be offset against an account in another bank with positive (debit) balance.
● It shows a negative cash balance
● Exception:
➢ BO is not recognized as a current liability. Offsetting is allowed. It presupposes that the
company maintains two or more accounts in the same bank wherein one of those accounts has
 an overdraft, in which the latter may be offset against other accounts with positive (debit)
account balance. Here, no liability will be recognized as a result of the overdraft.

Compensating Balance (CB)

● CB generally takes the form of minimum checking or demand deposit account balance that must be
maintained in connection with a borrowing arrangement with a bank or as support or collateral for a
loan by the depositor.
● CB is part of Current Asset (included in “Cash”) if it is not legally restricted as to withdrawal by the
depositor and the obligation in which it is used as a collateral is a short-term loan (current liability).
● CB is part of Non-current Asset if it is legally restricted and the obligation in which it is used as collateral
is long-term (non-current liability)
● Example: maintaining a checking account or paying a certain amount to the loan borrowed

Company’s Undelivered/Unreleased checks

● Nature: These are company’s checks drawn and recorded as disbursement but not delivered to the
payees as of the reporting date.
● Effect: “Cash” is understated because when these checks are written and recorded, a corresponding
credit to this account has been made and yet these checks were not delivered to the payees and
therefore there is as if no payment has actually been made to the payees and consequently there is no
actual decrease in cash.
● Correction to be made: Because “Cash” is understated, an adjusting entry must be prepared, reversing
the journal entry made when those checks were written and recorded. After this adjustment the account
balance of “Cash” is already correctly stated. Simply, the amount of unreleased/undelivered checks
must be ADDED to the unadjusted “Cash” balance to arrive at the correct balance.
● Example:
Adjusting entries for initially recorded undelivered/unreleased check:

cash xx

Accounts payable (unreleased check) xx

Company’s Post-dated Check (PDC) issued

● Nature: PDC is a check drawn, recorded and delivered to the payee which bears a date later than the
reporting date.
● Effect: “Cash” is understated because when these checks were issued and recorded, “Cash” was
credited resulting in a decrease in the account balance. Being post-dated the payee cannot encash
these checks and as a consequence, as of the reporting date, no actual payment has been made yet.
● Correction to be made: To correct the “Cash” balance, the entry made when the PDCs were issued and
recorded should be reversed. In effect the amount of PDC must be ADDED to the unadjusted “Cash”
balance to determine the correct balance.
● Example:
Adjusting entries for company’s PDC issued but not incurred in the current period:

Cash xx

Accounts payable (issued post dated check) xx

Stale check or check long outstanding

● Nature: It is a check not encashed/deposited by the payee within six months from the date written on
the check itself.
● If the company is the issuer of the check,
➢ Effect: it is as if there was no actual cash disbursement made when those checks were issued.
➢ Correction to be made: An adjustment debiting “Cash” crediting A/P is to be made. In other
words the amount of stale check must be ADDED to the unadjusted balance.
➢ Example:
Adjusting entry for stale check if company is the issuer

Cash xx

Accounts payable xx

● If the company is the holder of the check

➢ Effect: it is as if no collection was made.
 ➢ Correction to be made: An adjustment debiting A/R and crediting “Cash” is to be made. In other
words, the amount of state check must be DEDUCTED from the unadjusted balance.
➢ Example:
Adjusting entry for stale check if company is the holder

Accounts receivable xx

Cash xx

Cash in closed banks

● It should be excluded from “Cash” account and reclassify as receivable based on the recoverable
amount.
● This amount should be DEDUCTED from the “Cash” balance if such is included.
● Presently, each depositor is insured with the PDIC up to the maximum amount of P500,000.
● Example:
If bank account has an amount more than 500,000 and there was a bank closure

Accounts receivable 500,000

Capital loss xx

Cash xx

Customer’s PDCs, NSF Checks

● Nature: It is a check received from a customer but when presented by the company to the bank for
encashment or deposit the bank stamped it “NSF”, which means that the bank account of the customer
in which such check is drawn against lacks sufficient fund to cover amount of such check.
● Effect: “Cash” is overstated.
● Correction to be made: An entry debiting AR and crediting “Cash” must be made. In effect Customer’s
NSF check must be DEDUCTED from the unadjusted “Cash” balance to arrive at the correct balance.
● Example:
Adjusting entries for customer’s PDC or NSF Checks issued but not incurred in the current period:

Account Receivable xx

Cash xx

Customer’s PDCs
● Nature: It is a check received and recorded from a customer which is dated later than the the date
received.
● Effect: “Cash” is overstated.
● Correction to be made: An entry debiting AR and crediting “Cash” must be made. In effect Customer’s
PDC must be DEDUCTED from the unadjusted “Cash” balance to arrive at the correct balance.

Cash Equivalents (CE)

● These are short-term, 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.
(PAS 7, par. 6)

“Three-month Rule” as applied to CE

● The “Three-month Rule” provides that those highly liquid investments that are acquired three months or
less before maturity can qualify as CE.

What are the examples of CEs?

● CEs include:
a. Three-month BSP treasury bills
b. Three-year BSP treasury bill purchased 3 months before date of maturity
c. Three-month time deposit
d. Three-month money market instrument or commercial paper
e. Redeemable Preference Shares, acquired three months before the scheduled redemption date.

What is the proper financial statement presentation of “Cash” and “Cash Equivalents”?
 ● The caption “Cash and Cash Equivalents” should be shown as the first line item among the Current
Assets in the Statement of Financial Position.
● This caption includes all cash items properly classified as current and which must be disclosed in the
notes to the financial statements.

What about those investments that do not qualify as CE, what is their proper treatment?
● If the term is more than three-months but within one year such investments are classified as short-term
financial assets or temporary investments and presented separately as current asset.
● If the term is more than one year, such investments are classified as non-current or long-term
investments. However, if such investments become due within one year from the end of the reporting
period, they are classified as current or temporary investments.
● Example:
Journal entries for short-term financial asset but not considered as cash equivalent:

Temporary investment xx

capital xx