Financial accounting the impact on decision makers 9e chapter 6

Reading a Bank Statement Bank statement : a detailed list, provided by the bank, of all activity for a particular account during the month..  Outstanding check : check written by a c

Chapter 6

Cash and Internal Control

 Cash:

 Readily available to pay debts

 Various forms of cash:

 Coin and currency on hand

 Cash on deposit in the form of checking and savings accounts

 Undeposited, cashier, and certified checks

LO 1

 Treasury bills issued by the federal government

 Money market funds

 Six-month bank certificate of deposit would not

be a cash equivalent

Exhibit 6.1—Cash and Cash Equivalents on the Balance Sheet and the Statement of Cash Flows

Cash Management

 Tools of cash management:

 Cash flows statement

 Cash budgets

 Bank reconciliations

 Petty cash funds

LO 2

Reading a Bank Statement

 Bank statement : a detailed list, provided by the

bank, of all activity for a particular account

during the month

 Outstanding check : check written by a

company but not yet presented to the bank for payment

 Deposit in transit : deposit recorded on the

books but not yet reflected on the bank

statement

Bank Reconciliation

 Reconcile or resolve any differences between balance on the bank statement with balance shown in the accounting records

 Steps used in preparing a bank reconciliation:

1 Prepare a list of the deposits in transit

2 Prepare a list of the outstanding checks

3 Prepare a list of credit memoranda

4 Prepare a list of debit memoranda

5 Identify any errors

Credit Memoranda and Debit

Memoranda

 Credit memoranda

 Additions on a bank statement for such items as

interest paid on the account and notes collected by the bank for the customer

 Debit memoranda

 Deductions on a bank statement for items such as NSF checks and various service charges

Step 1: Prepare a list of the

deposits in transit

 Trace deposits listed on the bank statement to the books

 Identify the deposits in transit

 Any deposits recorded on the books but not yet shown on the bank statement

 Add to the bank balance

Step 2: Prepare a List of the

Outstanding Checks

 Arrange the canceled checks in numerical order

 Trace each of them to the books

 Any checks recorded on the books but not yet listed

on the bank statement are outstanding

 Subtract from the bank balance

Step 3: Prepare a List of Credit

Memoranda

 List all items, other than deposits, shown as additions on the bank statement

 Interest paid by the bank

 Amounts collected by the bank for the customer

 For these items, bank increases, or credits, its liability to the company on its own books

Step 4: Prepare a List of Debit

Memoranda

 List all amounts, other than canceled checks,

shown as subtractions on the bank statement

 NSF checks

 Service charges

 A liability is created on the books of the bank

when a company deposits money in a bank

 Bank reduces the amount of its liability for

these various items and debits the liability on its own books

Step 5: Identify any Errors

 Identify any errors made by the bank or by the company in recording cash transactions

Example 6.2—Preparing a Bank

Reconciliation

Need for Adjustments to the Records

Petty Cash fund

 Money kept on hand for making minor

disbursements rather than by writing checks

 Periodically, the fund is replenished

 When fund is replenished, an adjustment is made to record its replenishment and to

recognize the various expenses incurred

Internal Control System

 Policies and procedures necessary to ensure:

 Safeguarding of an entity’s assets

 Reliability of accounting records

 Accomplishment of overall company objectives

LO 3

Sarbanes-Oxley Act of 2002—SOX

 An act of Congress in 2002

 Intended to bring reform to corporate

accountability and stewardship in the wake of a number of major corporate scandals

Sarbanes-Oxley Act of 2002—SOX

(continued)

 Internal control report: a report required by

Section 404 of the Sarbanes-Oxley Act

 Maintain an adequate internal control structure

 Assesses effectiveness of internal control structure

 Outside auditors must issue report on

company’s internal control

Sarbanes-Oxley Act of 2002—SOX

(continued)

 Public Company Accounting Oversight Board (PCAOB): five-member body created by SOX

 Set auditing standards in the United States

 Board of directors: consists of key officers of a

corporation and outside members responsible for general oversight of the affairs of the entity

 Audit committee: a subset of the board of

directors

 Provides direct contact between the stockholders and the independent accounting firm

The Control Environment

 Factors that influence internal control:

 Management’s competence and operating style

 Personnel policies and practices

 Board of directors, particularly audit committee

The Accounting System

 Methods and records used to accurately report entity’s transactions and maintain

accountability for assets and liabilities

 Use of a journal is an integral part of all

accounting systems

 Can be completely manual, fully computerized,

or a mixture of both

Internal Control Procedures

 Administrative controls:

 Procedures concerned with efficient operation of

the business and adherence to managerial policies

 Accounting controls:

 Procedures concerned with safeguarding the assets

or the reliability of the financial statements

LO 4

Internal Control System

 Important internal control procedures:

 Proper authorizations

 Segregation of duties

 Independent verification

 Safeguarding of assets and records

 Independent review and appraisal

 Design and use of business documents

Internal audit staff

 Department responsible for monitoring and evaluating the internal control system

Business Documents

 Crucial link between economic transactions entered into by an entity and the accounting record of those events

 Often called source documents

 Key feature:

 Sequential numbering system

 Multiple copies

Limitations on Internal Control

 Not totally foolproof

 Does not ensure prevention of collusion

 Maintenance of controls can be costly

 Small businesses cannot afford

 Human errors can weaken the system

 Misunderstood instructions, carelessness, fatigue, and distraction can lead to errors

Computerized Business Documents

and Internal Control

 All cash receipts should be deposited intact in

the bank on a daily basis

 Intact means that no disbursements should be made from the cash received from customers

 All cash disbursements should be made by

check

LO 5

Control over Cash Receipts

 Most merchandisers receive checks and

currency from customers in two ways

 Cash received over the counter from cash sales

 Cash received in the mail from credit sales

 Cash discrepancies

 Discrepancies occur occasionally due to theft by dishonest employees and to human error

Role of Computerized Business Documents

in Controlling Cash Disbursements

Exhibit 6.5—Document Flow for the

Purchasing Function

Exhibit 6.6—Purchase Requisition

Exhibit 6.7—Computer-Generated

Purchase Order

Exhibit 6.8—Invoice

 A form sent by the seller to the buyer as evidence of a sale

Exhibit 6.9—Computer-Generated

Receiving Report

Blind Receiving Report

 A form used by the receiving department to account for the quantity and condition of

merchandise received from a supplier

Exhibit 6.10—Invoice Approval Form

 A form the accounting department uses before making payment

to document the accuracy of all information about a purchase

Exhibit 6.11—Check with Remittance

Advice

 A form used by the receiving department to account for the quantity and condition of merchandise received from a supplier

End of Chapter 6