Which Of The Following Items Are Included In Cash

The concept of cash in accounting and finance extends beyond just physical currency. Understanding what constitutes cash is crucial for accurate financial reporting, analysis, and decision-making. In this comprehensive guide, we will delve into the various items that are included in cash, exploring the nuances and providing clarity on this fundamental aspect of financial management.

Defining Cash: A Broader Perspective

While physical currency – coins and banknotes – undoubtedly falls under the umbrella of cash, the accounting definition is much broader. Cash, for accounting purposes, refers to items that are readily available for use in current operations and are unrestricted in their access. This means the item must be easily convertible to a known amount of cash and subject to insignificant risk of changes in value. This definition is critical because it impacts how a company's liquidity is assessed and how its financial health is perceived.

Items Included in Cash

So, what specific items meet this broader definition? Here's a detailed breakdown:

1. Coins and Currency

This is the most obvious component. All physical money on hand, whether in petty cash drawers, cash registers, or bank vaults, is considered cash. This includes:

• Domestic Currency: The legal tender of the country in which the business operates.
• Foreign Currency: Currency from other countries held by the business. This is usually translated to the reporting currency at the current exchange rate.

2. Demand Deposits

These are funds held in bank accounts that are available for immediate withdrawal. Common examples include:

• Checking Accounts: Accounts that allow for frequent deposits and withdrawals and are primarily used for transactional purposes.
• Savings Accounts: While technically interest-bearing, savings accounts that allow for easy and quick access to funds are generally considered cash equivalents, especially if the interest rate is negligible.
• Money Market Accounts: Similar to savings accounts, these offer slightly higher interest rates but still provide relatively easy access to funds.

3. Checks

A check is a written order instructing a bank to pay a specific amount of money from the payer's account to the payee. From the payee's perspective, checks received but not yet deposited are considered cash. This includes:

• Checks from Customers: Payments received from customers for goods or services rendered.
• Certified Checks: Checks guaranteed by the bank, providing assurance to the payee that the funds are available.
• Cashier's Checks: Checks drawn by a bank on itself, considered very secure forms of payment.
• Traveler's Checks: Preprinted checks issued by financial institutions, often used by travelers as a safe alternative to cash.

4. Money Orders

Similar to checks, money orders are payment instruments that guarantee funds availability. They are typically purchased at post offices, banks, or retail locations.

• Postal Money Orders: Issued by postal services.
• Bank Money Orders: Issued by banks.

5. Bank Drafts

A bank draft is a check drawn by a bank on its own funds held at another bank. These are often used for large transactions or when the payee requires a more secure form of payment.

6. Credit Card Sales (Deposited)**

While the physical credit card slips are not cash, the proceeds from credit card sales after they have been deposited into the company's bank account are considered cash. The period before deposit is often considered as accounts receivable.

Items Often Confused with Cash (But Are Not)

It's equally important to understand what items are not considered cash, even though they might seem similar. These items typically lack the immediate availability or certainty in value required to be classified as cash.

1. Certificates of Deposit (CDs)

CDs are time deposits held at a bank for a fixed term. While they are relatively safe investments, they are not considered cash because the funds are not immediately accessible without penalty. If a CD matures within three months, it may be classified as a cash equivalent (more on that later).

2. Postdated Checks

A postdated check is a check with a future date. It is not considered cash until the date on the check arrives, as it cannot be cashed before then. Until that date, it's typically classified as accounts receivable.

3. IOUs (I Owe You)

IOUs are informal acknowledgments of debt. They are not considered cash because they are not readily convertible to a known amount of cash. They represent a promise to pay, but their value is uncertain until the debt is actually settled.

4. Postage Stamps

Postage stamps are not considered cash. They are considered prepaid expenses or supplies because they are used to pay for postage services.

5. Travel Advances

Travel advances given to employees are not considered cash. They are considered receivables from employees until the employee submits an expense report detailing how the funds were spent.

6. Restricted Cash

Cash that is restricted for a specific purpose and not available for immediate use in current operations is not classified as cash in the same way as unrestricted cash. It's often classified as a separate asset, such as "Restricted Cash for Plant Expansion." Examples include:

• Compensating Balances: Minimum balances a company must maintain in its bank account as a condition of a loan agreement.
• Sinking Funds: Funds set aside for future debt repayment.
• Cash Held in Escrow: Funds held by a third party until certain conditions are met.

The Concept of Cash Equivalents

A crucial concept closely related to cash is cash equivalents. These are short-term, highly liquid investments that are:

• Readily convertible to known amounts of cash.
• So near their maturity that they present insignificant risk of changes in value due to interest rate changes.

Generally, only investments with an original maturity of three months or less qualify as cash equivalents.

Examples of Cash Equivalents

• Treasury Bills: Short-term debt obligations issued by a government.
• Commercial Paper: Short-term unsecured promissory notes issued by corporations.
• Money Market Funds: Mutual funds that invest in short-term debt instruments.

Why are Cash Equivalents Important?

Including cash equivalents in the "cash" figure provides a more comprehensive view of a company's liquidity. It recognizes that these investments are essentially the same as cash because they can be quickly and easily converted to cash when needed.

Presentation of Cash and Cash Equivalents on the Balance Sheet

Cash and cash equivalents are typically presented as a single line item on the balance sheet, usually as the first asset listed under current assets. This combined presentation reflects the highly liquid nature of these assets. However, it's important to disclose the components of cash and cash equivalents in the notes to the financial statements, providing more detail for users of the financial statements.

Impact on Financial Ratios

The amount of cash and cash equivalents a company holds has a significant impact on various financial ratios, including:

• Current Ratio: (Current Assets) / (Current Liabilities). A higher current ratio generally indicates greater liquidity.
• Quick Ratio (Acid-Test Ratio): (Current Assets - Inventory) / (Current Liabilities). This ratio is a more conservative measure of liquidity as it excludes inventory, which may not be easily converted to cash.
• Cash Ratio: (Cash + Cash Equivalents) / (Current Liabilities). This is the most conservative measure of liquidity, indicating a company's ability to meet its short-term obligations with its most liquid assets.

A healthy cash balance is crucial for a company's financial stability. It allows the company to meet its short-term obligations, take advantage of investment opportunities, and weather unexpected economic downturns.

Internal Controls Over Cash

Because cash is the most liquid asset, it is also the most vulnerable to theft and fraud. Therefore, strong internal controls over cash are essential. These controls should include:

• Separation of Duties: Dividing responsibilities so that no single person has complete control over a cash transaction. For example, the person who receives cash should not be the same person who records the cash receipts.
• Reconciliation of Bank Statements: Regularly comparing the company's cash balance per its books with the cash balance reported by the bank.
• Use of a Petty Cash Fund: Establishing a separate fund for small, miscellaneous expenses, with clear procedures for authorization and reimbursement.
• Authorization Limits: Setting limits on the amount of cash that can be spent without specific authorization.
• Regular Audits: Conducting periodic audits to review cash handling procedures and ensure compliance with internal controls.
• Secure Storage: Storing cash in a safe and secure location, such as a locked safe or vault.
• Cash Counts: Performing regular, surprise cash counts to verify the accuracy of cash balances on hand.

By implementing strong internal controls, companies can minimize the risk of cash theft and fraud and ensure the accurate recording of cash transactions.

The Importance of Accurate Cash Management

Effective cash management is crucial for the success of any business. It involves:

• Forecasting Cash Flows: Predicting future cash inflows and outflows to anticipate potential cash shortages or surpluses.
• Managing Working Capital: Optimizing the levels of current assets (including cash, accounts receivable, and inventory) and current liabilities to ensure sufficient liquidity.
• Investing Excess Cash: Putting excess cash to work in short-term, low-risk investments to earn a return.
• Controlling Cash Disbursements: Managing cash outflows to ensure that payments are made on time and for the correct amount.

By effectively managing their cash, companies can improve their profitability, reduce their borrowing costs, and enhance their financial stability.

Conclusion: Mastering the Nuances of Cash

Understanding which items are included in cash is fundamental to financial accounting and management. While physical currency and demand deposits are the most obvious components, the definition extends to include items like checks, money orders, and bank drafts. It's equally important to distinguish cash from items that are not considered cash, such as CDs, postdated checks, and restricted cash. The concept of cash equivalents further broadens the scope of "cash" to include short-term, highly liquid investments.

By mastering these nuances and implementing strong internal controls, businesses can effectively manage their cash, maintain their liquidity, and ensure their long-term financial success. A clear understanding of these principles enables accurate financial reporting, informed decision-making, and ultimately, a healthier bottom line. Proper cash management isn't just about counting money; it's about strategically managing a vital resource for sustained growth and stability.