Chapter
7-1

Chapter
7-2
Financial Accounting, Fifth Edition

Study Objectives
1.
Define fraud and internal control.
2.
Identify the principles of internal control activities.
3.
Explain the applications of internal control principles to cash receipts.
4.
Explain the applications of internal control principles to cash disbursements.
5.
Prepare a bank reconciliation.
6.
Explain the reporting of cash.
7.
Discuss the basic principles of cash management.
8.
Identify the primary elements of a cash budget.
9.
Explain the operation of a petty cash fund.
Chapter
7-3

Fraud and Internal Control
A dishonest act by an employee that results in personal benefit to the employee at a cost to the employer.
Three factors that contribute to fraudulent activity.
Illustration 7-1
Chapter
7-4
SO 1 Define fraud and internal control.

Fraud and Internal Control
2002
(SOX)
Companies must develop principles of control over financial reporting. continually verify that controls are working.
Independent auditors must attest to the level of internal control.
SOX created the www.pcaob.com
Chapter
7-5
SO 1 Define fraud and internal control.

Fraud and Internal Control
1.
Safeguard assets.
2.
Enhance accuracy and reliability of accounting records.
3.
Increase efficiency of operations.
4.
Ensure compliance with laws and regulations.
Chapter
7-6
SO 1 Define fraud and internal control.

Fraud and Internal Control
1.
Control environment.
2.
Risk assessment.
3.
Control activities.
4.
Information and communication.
5.
Monitoring.
Chapter
7-7
SO 1 Define fraud and internal control.

Fraud and Internal Control
Establishment of Responsibility
Control is most effective when only one person is responsible for a given task.
Segregation of Duties
Related duties should be assigned to different individuals.
Documentation Procedures
Companies should use prenumbered documents and all documents should be accounted for.
Chapter
7-8
SO 2 Identify the principles of internal control activities.

Fraud and Internal Control
Illustration 7-2
Physical
Controls
Chapter
7-9
SO 2 Identify the principles of internal control activities.

Fraud and Internal Control
Independent Internal Verification
1. Records periodically verified by an employee who is independent.
2.
Discrepancies reported to management.
Human Resource Controls
1. Bond employees.
2. Rotate employees’ duties and require vacations.
3. Conduct background checks.
Chapter
7-10
SO 2 Identify the principles of internal control activities.

Chapter
7-11

Chapter
7-12

Chapter
7-13

Chapter
7-14

Chapter
7-15

Fraud and Internal Control
Chapter
7-16
SO 2 Identify the principles of internal control activities.

Cash Controls
Establishment of
Responsibility
Only designated personnel are authorized to handle cash receipts
(cashiers)
Documentation
Procedures
Use remittance advice (mail receipts), cash register tapes, and deposit slips
Illustration 7-4
Independent Internal
Verification
Supervisors count cash receipts daily; treasurer compares total receipts to bank deposits daily
Segregation of Duties
Chapter
7-17
Different individuals receive cash, record cash receipts, and hold the cash
Physical,
Mechanical, and
Electronic Controls
Store cash in safes and bank vaults; limit access to storage areas; use cash registers
Human Resource
Controls
Bond personnel who handle cash; require employees to take vacations; conduct background checks
SO 3 Explain the applications of internal control principles to cash receipts.

Over-the-Counter
Receipts
Important internal control principle— segregation of record-keeping from physical custody.
Illustration 7-5
Chapter
7-18
SO 3 Explain the applications of internal control principles to cash receipts.

Mail Receipts
Mail receipts should be opened by two people, a list prepared, and each check endorsed.
Each mail clerk signs the list to establish responsibility for the data.
Original copy of the list, along with the checks, is sent to the cashier’s department.
A copy of the list is sent to the accounting department for recording. The clerks also keep a copy.
Chapter
7-19
SO 3 Explain the applications of internal control principles to cash receipts.

Cash Controls
Review Question
Permitting only designated personnel to handle cash receipts is an application of the principle of:
a. segregation of duties.
b. establishment of responsibility.
c. independent check.
d. other controls.
Chapter
7-20
SO 3 Explain the applications of internal control principles to cash receipts.

Cash Controls
Generally, internal control over cash disbursements is more effective when companies pay by check, rather than by cash.
Applications:
Voucher system
Petty cash fund
Chapter
7-21
SO 4 Explain the applications of internal control principles to cash disbursements.

Cash Controls
Independent Internal
Verification
Compare checks to invoices; reconcile bank statement monthly
Physical, Mechanical, and Electronic
Controls
Store blank checks in safes, with limited access; print check amounts by machine in indelible ink
Documentation
Procedures
Use prenumbered checks and account for them in sequence; each check must have an approved invoice; require employees to use corporate credit cards for reimbursable expenses; stamp invoices "paid."
Illustration 7-6
Chapter
7-22
SO 4 Explain the applications of internal control principles to cash disbursements.
Establishment of
Responsibility
Only designated personnel are authorized to sign checks (treasurer)
Segregation of Duties
Different individuals approve and make payments; check signers do not record disbursements
Human Resource
Controls
Bond personnel who handle cash; require employees to take vacations; conduct background checks

Chapter
7-23

Cash Controls
Review Question
The use of prenumbered checks in disbursing cash is an application of the principle of:
a. establishment of responsibility.
b. segregation of duties.
c. physical, mechanical, and electronic controls.
d. documentation procedures.
Chapter
7-24
SO 4 Explain the applications of internal control principles to cash disbursements.

Cash Controls
Network of approvals, by authorized individuals, to ensure all disbursements by check are proper.
A voucher is an authorization form prepared for each expenditure.
Chapter
7-25
SO 4 Explain the applications of internal control principles to cash disbursements.

Cash Controls
sed to pay small amounts.
Involves:
1.
establishing the fund,
2.
3.
making payments from the fund, and replenishing the fund.
Chapter
7-26
SO 4 Explain the applications of internal control principles to cash disbursements.

Control Features: Use of a Bank
Minimizes the amount of currency on hand.
Creates a double record of bank transactions.
Bank reconciliation.
Chapter
7-27

Control Features: Use of a Bank
Debit Memorandum
Bank service charge
NSF (not sufficient funds)
Credit Memorandum
Collect notes receivable.
Interest earned.
Chapter
7-28
Illustration 7-7

Control Features: Use of a Bank
Review Question
The control features of a bank account do not include: a. having bank auditors verify the correctness of the bank balance per books. b. minimizing the amount of cash that must be kept on hand.
c. providing a double record of all bank transactions.
d. safeguarding cash by using a bank as a depository.
Chapter
7-29

Control Features: Use of a Bank
Reconcile balance per books and balance per bank to their adjusted (corrected) cash balances.
Reconciling Items:
1.
Deposits in transit.
2.
3.
Outstanding checks.
Bank memoranda.
Time Lags
4.
Errors.
Chapter
7-30
SO 5 Prepare a bank reconciliation.

Control Features: Use of a Bank
Illustration 7-8
+ Deposit in Transit
Outstanding Checks
+/- Bank Errors
Chapter
7-31
CORRECT BALANCE
+ Notes collected by bank
NSF (bounced) checks
Check printing or other service charges
+/- Book Errors
CORRECT BALANCE
SO 5 Prepare a bank reconciliation.

Control Features: Use of a Bank
Chapter
7-32
Advertising expense
SO 5 Prepare a bank reconciliation.

Control Features: Use of a Bank
Illustration: Prepare a bank reconciliation at April 30.
Cash balance per bank statement $15,907.45
Adjusted cash balance per bank
Cash balance per books $11,589.45
Chapter
7-33
Adjusted cash balance per books
SO 5 Prepare a bank reconciliation.

Control Features: Use of a Bank
Illustration: Journalize the adjusting entries at April 30 on the books of Laird Company.
Dr.
Cr.
Apr. 30
Chapter
7-34
SO 5 Prepare a bank reconciliation.

Control Features: Use of a Bank
Review Question
The reconciling item in a bank reconciliation that will result in an adjusting entry by the depositor is:
a. outstanding checks.
b. deposit in transit.
c. a bank error.
d. bank service charges.
Chapter
7-35
SO 5 Prepare a bank reconciliation.

Control Features: Use of a Bank
Disbursement systems that uses wire, telephone, or computers to transfer cash balances between locations.
Chapter
7-36
SO 5 Prepare a bank reconciliation.

Reporting Cash
Most liquid asset, listed first.
Illustration 7-11
Chapter
7-37
Cash equivalents Restricted cash
SO 6 Explain the reporting of cash.

Reporting Cash
Review Question
Which of the following statements correctly describes the reporting of cash?
a. Cash cannot be combined with cash equivalents.
b. Restricted cash funds may be combined with
Cash.
c. Cash is listed first in the current assets section.
d. Restricted cash funds cannot be reported as a current asset.
Chapter
7-38
SO 6 Explain the reporting of cash.

Managing and Monitoring Cash
1. Increase the speed of receivables collection.
2. Keep inventory levels low.
3. Delay payment of liabilities.
4. Plan the timing of major expenditures.
5. Invest idle cash.
Chapter
7-39
SO 7 Discuss the basic principles of cash management.

Chapter
7-40
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