1. Internal Control and Cash CHAPTER 7

2. Internal Control The related methods and measures adopted within a business to:The related methods and measures adopted within a business to: –Optimize the use of resources –Prevent and detect errors and irregularities –Safeguard assets –Maintain reliable control systems

3. Establishment of Responsibility Control is most effective when only one person is responsible for a given taskControl is most effective when only one person is responsible for a given task

4. Segregation of Duties Related activities should be assigned to different individualsRelated activities should be assigned to different individuals Separate record keeping from physical custody of the assetSeparate record keeping from physical custody of the asset

5. Documentation Provide evidence that transactions and events occurredProvide evidence that transactions and events occurred –Shipping documents –Sales invoices Documents should be pre-numbered and accounted forDocuments should be pre-numbered and accounted for

6. Physical Controls Illustration 7-2

7. Independent Internal Verification Comparison, reconciliation, and review of data prepared by employeesComparison, reconciliation, and review of data prepared by employees –Periodically or on a random basis –Done by employee who is independent of the personnel responsible for the information –Discrepancies and exceptions should be reported to management

8. Limitations of Internal Control Cost / benefitCost / benefit Human elementHuman element CollusionCollusion Size of businessSize of business

9. Cash CoinsCoins CurrencyCurrency ChequesCheques Money ordersMoney orders Money on handMoney on hand Deposits in bankDeposits in bank

10. Readily convertible into any other asset High value in small bulk Non-control of owner identification (serial numbers) Cash

11. Bank Minimizes cash that must be kept on handMinimizes cash that must be kept on hand Provides a double record of transactionsProvides a double record of transactions –One by the business –One by the bank Safeguards cash by using a bank as a depository and clearinghouse for cheques received and writtenSafeguards cash by using a bank as a depository and clearinghouse for cheques received and written

12. Bank Statement Copy of bank’s records sent to the customer for periodic reviewCopy of bank’s records sent to the customer for periodic review Shows cheque and other debits deposits, other credits and theShows cheque and other debits deposits, other credits and the daily cash balance Illustration 7-6

13. Terms Deposits in transitDeposits in transit –Deposits recorded by the depositor that have not yet been recorded by the bank Outstanding chequesOutstanding cheques –Cheques written (issued) and recorded by a company but that have not yet been presented to/paid by the bank Adjusted balanceAdjusted balance –Reconciled or correct cash balance

14. Terms Debit memorandaDebit memoranda –Charges against depositor’s account [e.g. service charges, RC (returned) / NSF (insufficient funds) cheques] Credit memorandaCredit memoranda –Amounts that increase depositor’s account (e.g., interest earned)

15. Understanding Debits and Credits Bank (Your Cash Account is a Liability) Books (Cash is an Asset) Cheque Debit (decrease) Credit (decrease) Deposit Credit (increase) Debit (increase)

16. Differences Between Company Balance and Bank Balance Time lagsTime lags –The period after a cheque is written and dated but not yet presented to nor paid by the bank –The period between receipts being recorded by the company and time receipts being recorded by the bank –Time lags occur when the bank mails debit or credit memos to the company Errors by either party in recording transactionsErrors by either party in recording transactions

17. Bank Reconciliation This reconciles the balance in the company’s bank account with the cash balance in the general ledgerThis reconciles the balance in the company’s bank account with the cash balance in the general ledger

18. Reporting Cash Cash on hand, cash in banks, cash equivalents, and petty cash are often combined and reported as cashCash on hand, cash in banks, cash equivalents, and petty cash are often combined and reported as cash Cash is recorded in both the balance sheet and the cash flow statementCash is recorded in both the balance sheet and the cash flow statement Cash is the most liquid asset and is listed first in the current asset section of the balance sheetCash is the most liquid asset and is listed first in the current asset section of the balance sheet

19. Cash Equivalents Readily convertible to known amount of cashReadily convertible to known amount of cash So near maturity that market value is relatively insensitive to changes in interest ratesSo near maturity that market value is relatively insensitive to changes in interest rates ExamplesExamples –Treasury bills –Commercial paper –Money market funds

20. Restricted Cash Cash that is not available for general use; set aside for special purposesCash that is not available for general use; set aside for special purposes If it is not to be used within the next year, report as noncurrent assetIf it is not to be used within the next year, report as noncurrent asset For example, a bank may require a borrower to have a compensating balance— minimum cash balanceFor example, a bank may require a borrower to have a compensating balance— minimum cash balance

21. Five Principles of Cash Management Illustration 7-10

22. Cash Budgeting Planning a company's cash needs is a key business activity Cash budget shows anticipated cash flows over a one-to two-year period

23. Cash Budget Cash receipts sectionCash receipts section Cash disbursements sectionCash disbursements section Financing sectionFinancing section