Cash equivalent definition
/What is a Cash Equivalent?
A cash equivalent is a highly liquid investment having a maturity of three months or less. It should be at minimal risk of a change in value. To be classified as a cash equivalent, an item must be unrestricted, so that it is available for immediate use.
Examples of Cash Equivalents
The following are all examples of cash equivalents:
Treasury bills. Short-term government securities with maturities of less than three months.
Commercial paper. Unsecured short-term debt instruments issued by corporations, typically with maturities under 90 days.
Certificates of deposit. Short-term, high-quality bank instruments with maturities of three months or less.
Money market funds. Funds that invest in short-term, highly liquid instruments such as T-bills and commercial paper.
Banker’s acceptances. Short-term instruments created by a company's order to a bank to pay a specified sum at a future date.
Repurchase agreements. Short-term borrowing instruments where securities are sold and later repurchased, typically overnight or within a few days.
Short-term government bonds. Bonds issued by governments with maturities of three months or less.
Marketable securities. Highly liquid securities that are traded in active markets and have very short maturities.
Demand deposits. Bank accounts where funds can be withdrawn at any time without prior notice, such as checking accounts.
Cash management accounts. Accounts provided by financial institutions that combine checking, savings, and investment capabilities, maintaining funds in highly liquid, low-risk investments.
These instruments qualify as cash equivalents because they are low-risk, highly liquid, and can be converted to cash within a short time frame.
Presentation of Cash Equivalent
The cash and cash equivalents line item is stated first in the assets section of the balance sheet, since line items are stated in their order of liquidity, and these assets are the most liquid of all assets.
Understanding Cash Equivalents
Businesses tend to invest more heavily in cash equivalents when they project a short-term need for cash, so that their investments can be readily converted into cash. When this is not the case, they are more likely to invest in assets that take longer to liquidate; in this case, they would not be listed as cash equivalents.