1. Internal Control and Cash
Chapter 8
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2. Cash Items included in cash are:
Cash on hand
Petty cash
Cash on deposit in bank and trust companies
Cash equivalent (Treasury Bills)
Cash is the most liquid asset of an organization
Cash’s liquidity can be considered a disadvantage because it is the most easily stolen asset
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3. Learning Objective 1 Define internal control What is internal control?
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4. Internal Control
Internal control defined: consists of the process designed and put in place by management to provide reasonable assurance that the organization will achieve its objectives of reliable financial reporting, effective and efficient operations, and compliance with applicable laws and regulations
Internal control objectives are:
Encouraging operational efficiency
Preventing and detecting error and fraud
Safeguarding assets and records.
Providing accurate, reliable information
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5. The Sarbanes-Oxley Act (SOX)
Established in the wake of the Enron and WorldCom accounting scandals
Provisions of SOX
Public companies must issue an internal control report
The Public Company Accounting Oversight Board oversees auditors of public companies
Accounting firms cannot both audit and provide consulting services for the same client
Stiff penalties for violators
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6. The Sarbanes-Oxley Act (SOX)
The impact of SOX on Canadian companies:
Canadian companies listed on U.S. stock exchanges must abide by SOX
Canadian regulators are implementing some of the SOX requirements
SOX ensures that managers give careful attention to internal controls in their companies
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7. What should we think about when designing an internal control system?
Learning Objective 2
List and describe the components of internal control and control procedures
What should we think about when designing an internal control system?
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8. The Components of Internal Control
A business can achieve its internal control objectives by applying the following components:
Control environment
Risk assessment
Control procedures
Monitoring of controls
Information system
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9. Components of Internal Control
Control environment – this is the “tone at the top” of the business. Owners and its managers must behave honourably to set good examples for employees
Risk assessment – a company must identify its risks
Control procedures – these are the rules and procedures designed to ensure that the business’s goals are achieved
Monitoring of controls – companies hire both internal and external auditors to monitor company controls
Information system – companies need accurate information to keep track of assets, and measure profits and losses
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10. Internal Control Procedures
An effective system of internal controls has these characteristics:
Competent, reliable, and ethical personnel
Assignment of responsibilities
Proper authorization
Separation of duties
Separate operations from accounting
Separate the custody of assets from accounting
Separation of the authorization of transactions from the custody of related assets
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11. Internal Controls Procedures, Continued
Characteristics also include:
Internal and external audits
Use of documents and records
Use of electronic devices and computer controls
Other controls
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12. Internal Controls for E-Commerce
E-commerce pitfalls include:
Stolen credit-card numbers
Computer viruses and Trojans
Phishing expeditions and identity theft
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13. Security Measures for E-Commerce
Encryption – it is the primary method of achieving confidentiality in e-commerce
Encryption rearranges messages by a mathematical process and the encrypted messages cannot be read by anyone who does not know the process
Firewalls – limits access to a local network to network members who have access through PINs and passwords
Usually several firewalls are built into the system
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14. The Limitations of Internal Control – Costs and Benefits
Most internal controls can be circumvented or overcome
Collusion, where two or more people work as a team to defraud the company
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15. The Bank Account as a Control Device
Cash is the most liquid asset, and can be concealed, it is easy to move, and it is relatively easy to steal
Documents used to control a bank account include:
Signature card
Deposit ticket
Cheque
Bank statement
Bank reconciliation
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16. Prepare a bank reconciliation and the related journal entries
Learning Objective 3
Prepare a bank reconciliation and the related journal entries
What do we do when the bank statement balance and the cash account balance are not the same?
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17. The Bank Reconciliation
There are two records of the business’s cash:
The Cash account in the company’s general ledger
The bank statement, which tells the actual amount of cash the business has in the bank
What causes the timing differences between the company’s ledger balance and the bank’s balance?
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18. The Bank Reconciliation, Continued
Items recorded by a company in the general ledger, but not yet recorded by the bank include:
Deposits in transit (outstanding deposits)
Outstanding cheques
Bank errors
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19. The Bank Reconciliation, Continued
Items recorded by the bank but not yet recorded by the business include:
Bank collections
Electronic funds transfers (EFT) receipts and payments
Service charges
Interest revenue on chequing account
Nonsufficient funds (NSF) cheques
Cost of printed cheques
Book errors
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20. Bank Reconciliation, Continued
Balance per bank
+ Deposits in transit
– Outstanding cheques
= Adjusted bank balance
Balance per books
+ Bank collections
+/– EFT cash receipts
+ Interest revenue
– Service charges
= Adjusted book balance
Adjusted bank balance must equal Adjusted book balance
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21. Bank Reconciliation, Example
Business Research Inc.’s books indicate a balance of $3,294.21
The bank statement showed a balance of $5,902.48
Reconciling items include the following:
Deposit in transit, $1,591.63
Bank error. The bank deducted $ for a cheque written by another company. Add $ to bank balance
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22. Bank Reconciliation, Example Continued
Outstanding cheques: no. 337, $286.00; no. 338, $319.47; no. 339, $83.00; no. 340, $203.14; no. 341, $458.53
EFT receipt of rent revenue, $900.00
Bank collection of note receivable, $2,114.00, including interest revenue of $114.00
Interest earned on bank balance, $28.01
Bank error: cheque no. 333 for $ paid to Brown Corp. on account was recorded as $510.00
Bank service charges, $39.25 ($ $14.25)
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23. Bank Reconciliation, Example Continued
NSF cheque from L. Ross, $52.00
EFT payment to insurance expense, $361.00
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24. Bank Reconciliation, Example Continued
BUSINESS RESEARCH INC.
Bank Reconciliation
January, 31, 2014
Bank
Books
Bank balance, January 31, 2014
$5,902.48
Book balance, January 31, 2014
$3,294.21
Add:
1. Deposit, Jan. 31, in transit
1,591.63
4. EFT receipt of rent revenue
900.00
2. Correction of bank error – Business Research cheque erroneously charged against company account
100.00
5. Bank collection of note receivable including interest revenue of $114
2,114.00
Less outstanding cheques
6. Interest revenue earned on bank balance
28.01
No. 337
338
339
340
341
286.00
319.47
83.00
203.14
458.53
(1,350.14)
7. Correction of book error – overstated amount of cheque no. 333
360.00
Less:
8. Service charges
39.25
NSF Cheque
52.00
10. EFT payment of insurance expense
361.00
(452.25)
Adjusted Bank Balance
$6,243.97
Adjusted Book Balance
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25. Journalizing Transactions from the Reconciliation
The journal entries resulting from the bank reconciliation are as follows:
Date
Accounts
Post Ref
Debit
Credit
(4) Jan. 31
Cash
Rent Revenue
Receipt of monthly rent.
900.00
(5) Jan. 31
Notes Receivable
Interest Revenue
Notes receivable collected by bank.
2,144.00
2,000.00
114.00
(6) Jan. 31
Interest earned on bank balance.
28.01
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26. Journalizing Transactions from the Reconciliation, Continued
Date
Accounts
Post Ref
Debit
Credit
(7) Jan. 31
Cash
Accounts Payable – Brown. Corp.
Correction of cheque no. 333.
360.00
(8) Jan. 31
Bank Charges Expense
Bank service charges, $25 NSF
39.25
(9) Jan. 31
Accounts Receivable – L. Ross
NSF cheque returned by bank.
52.00
(10) Jan. 31
Insurance Expense
Payment of monthly insurance.
361.00
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27. Learning Objective 4 Apply internal controls to cash receipts
How do we implement internal controls for cash receipts?
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28. Internal Control over Cash Receipts
Internal control over cash receipts ensures that cash receipts are deposited quickly for safekeeping
Cash receipts over the counter:
The cash register should be positioned so that customers can see the amount the cashier enters into the terminal
A receipt is issued for each sale recorded
The cash drawer should open only when the clerk enters a transaction
Cash needs to be deposited in the bank, and the machine tape goes to accounting to record daily sales
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29. Internal Control over Cash Receipts, Continued
Cash receipts by mail:
All incoming mail is opened by the a mailroom employee
Payments are sent to the treasurer, who has the cashier deposit the funds in the bank
Remittance advices and records of payment go to the accounting department
Some companies use a lock-box system and receipts are sent directly to a box belonging to the bank, which directly deposits it to the customer’s bank account; company personnel never touch incoming cash
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30. Internal Control over Cash Receipts, Continued
Cash Short and Over:
An account that accumulates the difference between actual cash receipts and the day’s record of cash received
A net debit/credit balance is shown as Cash Short and Over, an expense account on the income statement
A net credit balance is shown as Cash Over on the income statement
A large balance in Cash Short and Over signals there are potential internal control issues
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31. Cash Short and Over, Example
Suppose the tapes from the cash register indicated sales revenue of $15,000, but the cash received was $14,980
The journal entry to record the cash short and over is:
Cash
14,980
Cash Short and Over 20
Sales Revenue
15,000
To record daily cash sales.
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32. Learning Objective 5 Apply internal controls to cash payments
How do we implement internal controls for cash payments?
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33. Internal Control over Cash Payments
Payment by cheque is an important internal control because:
The cheque provides a record of payment
The cheque must be signed by an authorized official or preferably two signatures
The signing official studies the evidence supporting the cheque
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34. Controls over Purchase and Payment
The purchasing and payment process follows these steps:
Prepare a purchase order to the supplier
The supplier ships the merchandise and mails the invoice
The receiving department checks the goods and completes a receiving report
The accounting department checks and confirms all the foregoing documents, then a cheque is issued to the supplier
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35. Controlling Petty Cash Payments
Petty cash defined: Companies keep cash on hand to pay small amounts
Internal controls over petty cash include:
Designating a custodian of the petty cash fund
Keeping a specific amount of cash on hand in a secure location
Supporting all fund payments for expenses with a petty cash ticket or voucher
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36. Creating the Petty Cash Fund
Assume on Feb. 28 the business creates a petty cash fund of $400
The journal entry to start the fund is:
For each petty cash payment, the custodian prepares a petty cash ticket or cash voucher
No journal entries are made for petty cash payments until the fund is replenished
Feb. 28
Petty Cash
400
Cash
To open petty cash fund.
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37. Replenishing the Petty Cash
On March 31, the petty cash fund holds $230 in petty cash and $164 in vouchers; note that there is $6 missing
To replenish the petty cash fund on March 31 and bring the balance back to $400, the journal entry is:
Mar. 31
Office Supplies 46
Delivery Expense 34
Cash Short and Over 6
Selling Expense 84
Cash
170
To replenish the petty cash fund.
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38. Reporting Cash on the Balance Sheet
Cash is the first asset listed on the balance sheet because it is the most liquid
Businesses usually have several bank accounts and petty cash funds – combined, it is called “Cash and Cash Equivalents”
Cash equivalents include term deposits and certificates of deposit
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39. Learning Objective 6 Make ethical business judgments
Are there steps we can follow when making ethical business judgments?
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40. Corporate and Professional Codes of Ethics
Most companies have a code of ethics to encourage employees to behave ethically
Owners and mangers must set a high ethical tone
Accountants are expected to adhere to rules of professional conduct of their organization
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41. How does IFRS impact cash?
Learning Objective 7
Assess the impact on cash of international financial reporting standards (IFRS)
How does IFRS impact cash?
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42. The Effects of IFRS on Cash
Because of its liquidity, there is little that is different in the way cash is valued under ASPE and under IFRS
A goal of IFRS is to present balance sheet information as close to fair value as possible
The presentation of cash can be different under IFRS – some organizations may list cash at the end of the asset side of the balance sheet
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