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Cash equivalents
Extract from FRS102: Section 7.2
7.2 Cash equivalents are short-term, highly liquid investments that are readily convertible to known amounts of cash and that are subject to an insignificant risk of changes in value. Therefore, an investment normally qualifies as a cash equivalent only when it has a short maturity of, say, three months or less from the date of acquisition. Bank overdrafts are normally considered financing activities similar to borrowings. However, if they are repayable on demand and form an integral part of an entity’s cash management, bank overdrafts are a component of cash and cash equivalents.
OmniPro comment
A key difference between old GAAP and FRS 102 is that FRS 102 defines cash and cash equivalents as cash on hand and demand deposits and short term highly liquid investments that are readily convertible to known amounts of cash and that are subject to an insignificant risk of changes in value whereas cash was defined in FRS 1 as “cash in hand and deposits repayable on demand with any qualifying institution, less overdrafts from any qualifying institution repayable on demand. This will mean that there will be reclassification on transition to FRS 102.
To be classed as cash and cash equivalents it therefore must:
- Have a short term maturity of 3 months or less. The key point is when the money is deposited, it should be for a period of 3 months or less from the date of inception, it cannot be from the year end.
Example 1: Cash and cash equivalents
Company A entered into a 3 month short term deposit account. Funds can be withdrawn early without penalty.
In this case this would be considered a cash equivalent.
Example 1a: Cash and cash equivalents
Company A entered into a 6 month deposit account on 1 September. The year end is 31 December. This deposit cannot be classed as cash equivalent as at inception the term of the deposit was 6 months. It is irrelevant that there is only two months left at the year end.
- Readily convertible into cash without an undue notice period and without incurring significant penalty on withdrawal. Consideration should be given where notice needs to be provided and the amount of notice that needs to be provided.
- There must be no doubt over the recoverability of the cash in order to be considered cash or cash equivalent.
A bank overdraft should only be included in cash or cash equivalents where it is repayable on demand.
NOTE: to be determined cash or cash equivalent it does not have to be with a bank or financial institution. It could also be with a group treasury company where the above conditions are met.
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