Internal Control & Cash
Chapter 7
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1
Objective 1
Define internal control
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Internal Control
All policies and procedures managers use
to:
• Safeguard assets
• Encourage employees to follow company
policies
• Promote operational efficiency
• Ensure accurate, reliable accounting
records
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Sarbanes-Oxley Act
• Public companies must issue internal
control report
• Independent auditor must evaluate internal
controls
• Created Public Company Accounting
Oversight Board – oversees work of
auditors of public companies
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Sarbanes-Oxley Act
• Accounting firms may not both audit and
provide certain consulting services for the
same client
• Established penalties for violators
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Objective 2
Describe good internal control
procedures
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Components of Internal Control
• Control environment – management sets
the tone
• Assess risks
• Control procedures – designed to ensure
that company’s goals are achieved
• Monitor controls – internal auditors
• Maintain appropriate information system
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Principles of Internal Control
• Competent, reliable and ethical personnel
– Hire
– Train
– Supervise
• Assignment of responsibilities – each
employee has clearly defined
responsibilities
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Principles of Internal Control
• Separation of duties - limits fraud,
promotes accurate financial statements
– Separate operations from accounting
– Separate custody of assets from accounting
• Audit – examination of company’s financial
statements and accounting system
– Internal auditors
– External auditors
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Principles of Internal Control
• Documents
• Electronic Devices
• Other
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Internal Controls for E-Commerce
Pitfalls
• Stolen credit card numbers
• Computer viruses and Trojans
• Phishing
Security Measures
• Encryption
• Firewalls
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The Limitations of Internal
Control
• Collusion - when two or more employees
work together to defraud the company
• Solution – add more internal control
• Always consider cost/benefit of controls
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Objective 3
Prepare a bank reconciliation and
the related journal entries
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Bank Reconciliation
• Explains all differences between general
ledger cash account and bank statement
cash balance
– Deposits in transit
– Outstanding checks
– Bank or book errors
– EFT’s
– Service charges
– NSF checks
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Any increase (decrease) to
cash that has been recorded
in the books, but does not
appear on the bank
statement
Any increase (decrease) to
cash that has been recorded
by the bank, but has not
been recorded in the books
yet
Bank Reconciliation
Bank Statement
Add:
Book Balance
Add:
Deduct:
Deduct:
Adjusted bank balance
Adjusted book balance
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Reconciling Items
Bank Statement
Add: Deposits in transit.
Deduct: Outstanding checks
Add or Deduct: Bank errors
Book Balance
Add: Interest revenue
Add: Bank collections
Deduct: Nonsufficient funds check (NSF)
Deduct: Service charges
Add or Deduct: Book errors, EFT transfers
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The company has recorded the cash
receipts, but the bank does not show
the deposit yet
S7-6
Bank balance
Add: Deposits in transit
Deduct: Outstanding checks
Reconciled bank balance
$3,800
200
$4,000
900
$3,100
The company has recorded the cash
disbursements, but the checks have
not yet cleared the bank
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These items appear on the bank
statement, but the company has not
yet recorded them
S7-6
Book balance
$2,480
Add: Bank collection from customer
630
Interest revenue
10
Subtotal
$3,120
Deduct: Bank service charge
20
Reconciled book balance
$3,100
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S7-6
Ranger Security Systems
Bank Reconciliation
May 31, 2007
Bank balance
$3,800 Book balance
$2,480
Add: Deposits in transit 200 Add: Collection
from customer
630
$4,000
Interest revenue
10
Deduct: Outstanding
checks
900 Subtotal
$3,120
Deduct: Service charge 20
Reconciled bank
Reconciled book
balance
$3,100
balance
$3,100
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Remember, you only need to prepare
entries for any adjustment to the
Book Balance
Adjusting the Books
Book balance
$2,480
Add: Bank collection from customer 630
Interest revenue
10
Subtotal
$3,120
Deduct: Bank service charge
20
Reconciled book balance
$3,100
Any reconciling item under “Book Balance”
requires a journal entry to adjust the Cash account
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S7-7
GENERAL JOURNAL
DATE
DESCRIPTION
REF
May 31 Cash
Accounts ReceivableK. Brooks
DEBIT
CREDIT
630
630
Bank collection from customer
31 Cash
Interest Revenue
10
10
Interest earned on bank
balance
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S7-7
GENERAL JOURNAL
DATE
DESCRIPTION
REF
May 31 Miscellaneous Expense
Cash
DEBIT
CREDIT
20
20
Bank service charge
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Objective 4
Apply internal controls to cash
receipts
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Cash Receipts Over the
Counter
• Receipt is issued for each transaction
• Cash drawer opens when a transaction is
entered
• At the end of a shift, manager proves cash by
comparing cash in drawer with machine’s record
of sales
• At least once a day, cashier deposits cash in
bank
• Register tape sent to accounting department
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Cash Receipts by Mail
• Incoming mail opened by a mailroom employee.
• This person compares the check received with
the remittance advice
• Receipts sent to treasurer and cashier deposits
money in bank
• Remittance advice sent to accounting for journal
entries
• Controller compares records of the day’s
– Bank deposit amount from treasurer
– Debit to Cash from accounting
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Objective 5
Apply internal controls to cash
payments
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Controls Over Purchase and
Payment
• Send purchase order to supplier –
purchasing agent
• Receive inventory and invoice – receiving
department
• Prepare receiving report – receiving
department
• Make sure all documents agree –
treasurer or controller
• Issue check – treasurer or controller
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Voucher System
• Voucher – document authorizing a cash
payment
• Voucher register – similar to a purchases
journal
• Check register – similar to cash payments
journal
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Petty Cash
• Cash fund kept on hand to pay for small
expenditures
• Designate a custodian of petty cash fund
• Keep a specific amount of cash on hand
• All fund payments are supported with a
petty cash ticket
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We are using E7-22 to illustrate the
petty cash system
Establish Petty System
General Journal
Page 8
Date
May
Account Titles and Description
PR
1 Petty Cash
Cash
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Dr.
Cr.
200
200
30
Making Payments
A numbered ticket is prepared for each expenditure
Petty Cash Ticket No. 15
$8.00
Amount: ________________
May 2, 2007
Date: _________________
Paid to: _______________
Foster’s Office Supply
For: ___________________
Office Supplies
Approved by: ____________
Sharon Kahl
Carol Miller
Payment received by: _____________
Debit Account No.: _________
Supplies Expense – Account No. 615
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Making Payments
Petty Cash Ticket No. 15
Date: _________________
May 2, 2007
Paid to: _______________
Foster’s Office Supply
For: ___________________
Office Supplies
$8.00
Amount: ________________
Sharon Kahl
Approved by: ____________
Carol Miller
Payment received by: _____________
Debit Account No.: _________
615
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Replenish Petty Cash
• Using information on vouchers, record
expenses in journal
• A new check is cashed for total amount of
expenses
• Cash is placed in petty cash box
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Replenish Petty Cash Fund
General Journal
Page 8
Date
Account Titles and Description
PR
Dr.
May 31 Delivery Expense
22
Postage Expense
42
Supplies Expense
42
Miscellaneous Expense
16
Cash
Cr.
122
Replenish petty cash fund
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Cash Short and Over
• Account used whenever a cash fund is
short or over
• May have either a debit or credit balance
• Reported as miscellaneous expense or
revenue depending on ending balance
• Closed at the end of the accounting period
to income summary
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Objective 6
Make ethical business judgments
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Framework for Making Ethical
Decisions
•
•
•
•
What is the ethical issue?
What are the options?
What are the possible consequences?
What shall I do?
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37
End of Chapter 7
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38