 Hello and welcome to the session in which we will discuss cash and cash equivalents. This topic is covered in the typical intermediate accounting course as well as the CPA exam. Cash is one of the most important asset on the balance sheet. It's the most liquid for sure and with cash you can do anything. Specifically we're going to be focusing on three issues when it comes to cash. We have to talk a little bit more about what's cash equivalent. We'll talk about cash but it's easy to define cash, restricted cash and overdraft. So this topic is covered on the CPA exam as well as your intermediate accounting courses. Whether you are a student or a CPA candidate, I strongly suggest you take a look at my website farhatlectures.com. I don't replace your CPA review course. I'm a useful addition. I explain the material differently. I provide you alternative explanation, which in turn will help you with your CPA review course, which in turn will help you pass the exam. 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So the three issues we have to deal with are cash equivalent, restricted cash and overdraft. But the first thing is what's included in cash itself. Well, cash would include coin currency, petty cash. If you have foreign currency, check an account, savings account, change funds. And if you don't know what petty cash is, we're going to talk about petty cash in this chapter later on. Petty cash is the amount that the company keeps on hand for emergencies, such as buying the pizza for the employee of their working overtime, factoring, buying a pizza, or maybe you rent out of supplies for your computer, so on and so forth. Change fund, is it basically a change fund because you need to get money from customers, you need to give them some money back. You should all know what a savings account, check an account, so on and so forth. It also includes negotiable instruments. What are all negotiable instruments? We're talking about money, order, certified checks, cashier checks, personal checks. Negotiable means you can sell them. You can endorse them. For example, if you have a check from someone, you can endorse it and sell that check. That's considered also cash equivalent. The CPA exam tests you on what is not considered cash. So it's very important to know what's not included in cash. What's not included in cash are post-dated checks. So if you have a check, but that check is post-dated, it means that today's date is 11 November the 5th. It's not November the 5th, but let's assume November the 5th. And somebody gave you a check, but you cannot cash it till December the 10th. Well, this is a post-dated check. I remember my father used to receive all these checks when he used to sell his agricultural product in Lebanon. So those are very common in third-world countries, post-dated checks. But these are technically receivables. Basically, they promise you, but they gave you the check, but you have to hold it. IOUs, if somebody gave you a promise, it's an IOU. It's a promise. The post-dated check is technically a promise. It's a receivable. Supplies is if you have posted stamps. Postage stamps, they have an amount written on them, but they're not considered cash. They are supplies. Travel advances. Travel advances are receivable because you give your employee travel advances. They have to pay you back. It's not cash. It is receivable. So what is considered cash equivalent? So the definition for cash equivalent are short-term, highly liquid investment. It's some sort of an investment you purchase. That investment will have an original maturity of three months or less, talking about 90 days here. Those investments, they can be converted really quick into a known amount of cash. So the value of them is well known, and they're not subject to interest rate risk. In other words, because they have a short-term maturity. If interest rate changes, it doesn't affect their value. Basically, one and two are related to each other because you have to know the amount of cash that they are equivalent to. Some examples of cash equivalent are treasury bills. What are treasury bills? It's when you lend the government money on a short-term basis. They give you a treasury bill. That treasury bill, it's a short term. If the original maturity is less than three months, you can easily sell it and get your money for a known amount of cash. It's not subject to the interest rate risk because it's so short and it's highly liquid and the credit is very high. Commercial paper, basically the same thing, but rather than lending money to the government, you can buy commercial papers, basically lending money to corporations. So certain corporations, they have a good credit rating. They can issue commercial paper. They can borrow money by issuing those commercial papers. And money market funds are also considered cash equivalents. If any of these investments, like treasury bill, not the money market fund, but the treasury bill or the commercial paper, is more than three months, but less than one year, then it's considered temporary investment. So it has to be less than three months for something to be considered cash equivalent. Restricted cash is the third item that we have to deal with. What is restricted cash? Well, hopefully, you know from the term restricted is a cash set aside for a particular purpose. Now, we can do that for many reasons. We could have a petty cash fund, which we'll talk about later, cash put to the side for certain purposes, actual cash. We could have some money, payroll, to pay our employees. We want to put that money aside so we can make our payroll. Dividend funds, we could have cash restricted for future expansion of the company. We could have cash restricted for the retirement of long-term debt. Notice all these conditions are internally. In other words, we put those conditions on ourselves. Now, if those amounts are material, they're listed separately. Material means it's a large amount and they could be considered current or long-term. For example, your payroll, if it's restricted, it's going to be part of your current assets. But maybe the future expansion, money restricted for future expansion, you want to buy a new building, expand your warehouse system, those will be considered long-term because you're going to have them for a period of time. Same thing with long-term debt. They could be long-term or short-term. Obviously, you have to disclose this information. Any restricted cash, you have to disclose it. And this is a restricted cash disclosure for Tesla so they can tell you why they have the cash restricted. It means restricted as to withdraw or use. It's very important because investors want to know how much cash do you have, but what's important is how much can you use of it. If certain cash is restricted, I need to know as an investor. So here Tesla, they'll tell you why it's restricted. They'll have to disclose this information. Then we have something called compensating balances. Compensating balances is basically maintaining a minimum required balance at your bank, at your financial institution. Now, why would you do that? Well, you would do that because the bank kind of asks you to do that. They can either ask you through orally or through illegal documents. So basically part of the borrowing arrangement or having an open line of credit. For example, if you want to have a relationship with the bank and you want to borrow 10 million from them, that's fine. They will tell you you have to keep at least in your account $400,000 that is considered compensating balances. So your balance should not drop below $400,000. Now, that's your money, but usually you cannot use it. It's basically compensated balances. Why? Because they want to make sure you don't spend all your money. There's some money basically in quote restricted, but it's called compensating balances. You have to disclose those separately because they are legally restricted, legally restricted by a third party. So you have to disclose them separately. If the compensating balances are for short-term borrowing, then those compensated balances will be considered, will be part of the current assets. If these compensated balances are for long-term borrowing, because you have them, because you have a long-term debt, you could either list them as investments because the cash is restricted or you could list them on the other section. And we talked about those two sections when we discussed the balance sheet, when we broke down the balance sheet. And usually the caption that goes with this is cash on deposit maintained as a compensating balance. And this is what the company will list them as. So this is the restricted cash. The third and last component is bank overdraft. And what is bank overdraft? It's when you write a check for more than the available balance. And this could happen to anyone, but you have to be careful. If that happened, the company would list those bank overdraft as a liability and they would add them to account spable, assuming they are not material. If they are material, which they should not be, they'll be listed separately. You don't offset cash accounts unless it's against an account in the same bank. So if you have a two bank account at Wells Fargo, one is positive and the other one is the bank overdraft. It's negative. You can net them out, but you cannot net out one account at Wells Fargo and the other account at Bank of America. If the Bank of America is a bank overdraft, it's listed separately. It's listed separately. Now, let me show you how the CPA exam or how you will be tested on this information on the exam day. So for example, all the following are part of cash and cash equivalent except be careful about except. Money market fund. Money market fund, we said it's cash equivalent, therefore it's out. So there's going to be one right answer. Demand deposit. Demand deposit is basically a savings account. It means you can get it on demand. You have to let us know. Savings account, it is considered cash. US Treasury bill with the original maturity of 60 days. That's fine. The original maturity is 60 days less than 90 days. It's out. Now, by process of elimination, D is the answer, but you got to read D and C make sure it's D. D is the answer. Restricted cash, legally restricted deposit held as compensating balance against borrowing arrangement with the bank. They're legally restricted. They are listed separately. Why are they legally restricted? Because the bank asks you if you want to have a relationship with us, if you want us to give you that loan, you have to keep a balance with us. You have to keep a balance with us. It's called and you will talk, you would learn about this legally restricted balance or minimum balance required in your BEC exam for the CPA exam, because that's going to increase your interest cost. But that's a topic for a different conversation. At the end of this recording, once again, I'm going to remind you whether you are an accounting student or a CPA candidate to take a look at my material, farhatlectures.com. I can help you pass the CPA exam in addition along your CPA review course. Don't shortchange yourself. All what I'm asking you is to make an investment. Try it. Give it a try. You feel it's helping your accounting courses. You feel it's helping your CPA preparation. You keep it. You feel it's not cancelled. That's the maximum you lost. You invest one month to try it. If it doesn't help, well, I'm sure it will help. Anyhow, good luck. Study hard. The CPA is worth it.