Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin Chapter 6 Internal Control and Financial Reporting for Cash and Merchandising Operations

6-2 Learning Objective 1 Distinguish service, merchandising, and manufacturing operations.

6-3 Service, Merchandising, and Manufacturing Operating Activities Sell Services Receive Cash Incur Operating Expenses Service Company

6-4 Service, Merchandising, and Manufacturing Operating Activities Sell Products Receive Cash Incur Operating Expenses Buy Products Merchandising Company

6-5 Service, Merchandising, and Manufacturing Operating Activities Sell Products Receive Cash Incur Operating Expenses Buy Raw Materials Makes Products Manufacturing Company

6-6 Learning Objective 2 Explain common principles of internal control.

6-7 Internal Control All companies include as part of their operating activities a variety of procedures and policies that are referred to as internal controls. Internal controls are designed to... 1.ensure adequate records are maintained. 2.ensure transactions are authorized and properly recorded. 3. prevent or detect unauthorized activities involving the company’s assets.

6-8 Principles of Internal Control

Cash handling is segregated from cash recordkeeping. 2. Cash receipts are promptly (daily) deposited in a bank. 3. Cash disbursements are made by check. Controlling and Reporting Cash

6-10 Learning Objective 3 Perform the key control of reconciling to bank statements.

6-11 Need for Reconciliation One effective control over cash is the bank reconciliation. The bank reconciliation identifies differences between the book balance for cash and the cash in the bank account.

6-12 Reconciling Differences

6-13 $9,610 $7,430 Let’s prepare a July 31 bank reconciliation statement for Matrix, Inc. The July 31 bank statement indicated a balance of $9,610, while the cash general ledger account on that date shows a balance of $7,430. Additional information necessary for the reconciliation is shown on the next screen. $9,610 $7,430 Let’s prepare a July 31 bank reconciliation statement for Matrix, Inc. The July 31 bank statement indicated a balance of $9,610, while the cash general ledger account on that date shows a balance of $7,430. Additional information necessary for the reconciliation is shown on the next screen. Bank Reconciliation

6-14 o Outstanding checks totaled $2,417. o A $500 check mailed to the bank for deposit had not reached the bank at the statement date. o The bank returned a customer’s NSF check for $225 received as payment on account receivable. o The bank statement showed $30 interest earned during July. o Check No. 781 for supplies expense cleared the bank for $268 but was erroneously recorded in our books as $240. o A $486 deposit by Acme Company was erroneously credited to our account by the bank. o Outstanding checks totaled $2,417. o A $500 check mailed to the bank for deposit had not reached the bank at the statement date. o The bank returned a customer’s NSF check for $225 received as payment on account receivable. o The bank statement showed $30 interest earned during July. o Check No. 781 for supplies expense cleared the bank for $268 but was erroneously recorded in our books as $240. o A $486 deposit by Acme Company was erroneously credited to our account by the bank. Bank Reconciliation

6-15 Matrix, Inc. Bank Reconciliation July 31, 2008 Bank Reconciliation   

6-16    Bank Reconciliation    Matrix, Inc. Bank Reconciliation July 31, 2008

6-17 We must prepare journal entries to adjust the book balance to the adjusted book balance. Only amounts shown on the book portion of the reconciliation require an adjusting entry. Bank Reconciliation 

6-18 We must prepare journal entries to adjust the book balance to the adjusted book balance. Only amounts shown on the book portion of the reconciliation require an adjusting entry. Bank Reconciliation 

6-19 After posting the reconciling entries, the cash account looks like this... Bank Reconciliation Adjusted balance on July 31.

6-20 Learning Objective 4 Explain the use of a perpetual inventory system as a control.

6-21 Controlling and Reporting Inventory Perpetual Inventory System In a perpetual inventory system the inventory record shows the number of units and cost of each type of merchandise stocked. The inventory record is updated every time an item is bought, sold, or returned. With the introduction of relatively low cost computers, almost all companies use the perpetual system.

6-22 Controlling and Reporting Inventory Periodic Inventory System Rather than updating the inventory record each time an item is sold, bought, or returned, the periodic system updates the inventory record at the end of the accounting period. A physical count of inventory is used to update the inventory record.

6-23 Inventory Control 1.Determine what’s on hand at the beginning of the period. 2.Monitor every piece of inventory entering and exiting your stock during the period. Add purchases.Add purchases. Subtract goods sold.Subtract goods sold. 3.Count the inventory to determine what’s actually there.

6-24 Learning Objective 5 Analyze purchase and sales transactions under a perpetual inventory system

6-25 Purchases, Purchase Returns & Allowances, and Purchase Discounts Inventory Purchase and Sale Transactions

6-26 On May 7, Matrix, Inc. purchased $27,000 of Inventory on account. Purchase of Inventory (1) Analyze (2) Record

6-27 Transportation Costs On May 7, Matrix, Inc. paid $600 cash in transportation charges to get the inventory to its place of business. (1) Analyze (2) Record

6-28 On May 9, Matrix, Inc. returned $450 of defective inventory to the seller and received credit on its account. Purchase Returns & Allowances (2) Record (1) Analyze

6-29 On June 6, Matrix, Inc. paid the amount due on the purchase of May 7. Payment of Account

6-30 2/10,n/30 Number of Days Discount is Available Otherwise, Net (or All) is Due Credit Period Discount Percent Purchase Discounts

6-31 2/10, n/30. On May 7, Matrix, Inc. purchased $27,000 of Inventory on account. Credit terms are 2/10, n/30. Purchase of Inventory (2) Record (1) Analyze

6-32 On May 16, Matrix, Inc. paid the amount owed on the purchase of May 7, in full. Purchase of Inventory (1) Analyze (2) Record

6-33 Effects of Purchase-Related Transactions

6-34 Sales, Sales Returns & Allowances, Sales Discounts, and Credit Card Discounts

6-35 Perpetual Inventory System On August 18, Matrix, Inc. sold inventory that has a cost of $15,500, for $21,000 on account. Sales (1) Analyze (2) Record

6-36 Sales Returns and Allowances On August 20, the customer returned inventory that has a cost $500, and sells for $675. The customer was given credit on account. (1) Analyze (2) Record

6-37 Sales Discount 2/10, n/30 On August 18, Matrix, Inc. sold inventory that has a cost of $15,500, for $21,000 on account. Credit terms are 2/10, n/30. (2) Record (1) Analyze

6-38 On August 22, the account was paid in full. Receipt of Payment

6-39 Contra-revenue accounts Effects of Sales-Related Transactions

6-40 Learning Objective 6 Analyze a merchandiser’s multi-step income statement.

6-41 Multi-Step Income Statement Gross Profit Percentage = Gross Profit Net Sales × 100%

6-42 Gross Profit Percentage = $72,036 $312,427 × 100% = 23.1%

6-43 Average Gross Profit Percentages by Industry Sector

6-44 End of Chapter 6