Putting It Together: Accounting for Cash

When you started this section, you may have thought that accounting for cash would be simple, and maybe not even terribly important, but hopefully by now you see that both of those notions are not true.

Cash and cash equivalents, the most important of which is the checking account, are extremely important assets—in fact, you could argue that the entire business is built around them. The owner establishes the business by contributing cash and other assets, builds the business by generating more cash and reinvesting it, and eventually reaps the rewards of a successful business by withdrawing that hard-earned cash.

In fact, there is an entire field of management and accounting that deals with the cash-to-cash cycle:

The cash cycle. Inflow is cash paid by customers and outflow is cash paid to suppliers and employees. There are five stages within the cash cycle, all flowing into one another: 1) Stocks ordered from supplier, 2) Production turns stocks into products, 3) stocks held until customers are found, 4) products sold to customers, and 5) customers pay for their purchases.

In short, an owner contributes resources to the business, the business then buys assets, pays people and other expenses, produces a product or service, sells that product or service (hopefully for more than it cost to produce), and then collects the cash from those sales in order to start the process all over again.

Not all the cash is kept in the checking account because as you probably know by now, excess cash can work for you if it is wisely invested. Most companies keep a core cash balance in the checking, savings, money market, and other liquid accounts that is adequate to pay a few months’ expenses, but the rest is invested in stocks, bonds, and mutual funds in order to take advantage of growth and investment income. Accounting for those longer-term investments will be covered in a subsequent module.

The other thing you’ve learned about cash and the checking account is that it can be tempting for an employee with motive, method, and opportunity to dip into that asset. Without adequate internal controls, the company provides the opportunity. If an employee in the right position with the right access has a motive—say pressure from creditors, family, or an emergency—comes up with a method, and feels like it’s possible to get away with it, that combination of events can lead to disaster. Some other assets,  like inventory (like TVs in an electronics store) and equipment (like an iPad or other smaller, moveable items), are also subject to theft and misappropriation, but are still less risky than the cash in the bank, as you saw with the coffee shop. Employees may be tempted to steal a bag of coffee off the shelf (inventory) but that rarely does as much financial damage to the company as theft of cash.

That’s why internal controls, like the bank reconciliation and monitoring by management, are so important, not just for cash in the bank, but for credit cards, cash receipts, cash disbursements, and any other process that clocks cash in and out of the company.

In addition, the basic concepts of internal control you have explored with regard to cash apply to every other process in the company, from accounts receivable to inventory to physical plant and equipment to accounts payable and even expense and revenue accounts. It’s our job, as accountants, not only to account for financial transactions but to safeguard the assets and ensure the accounts and information related to them are as accurate as possible.