Chapter 6 Cash and Internal Control Copyright © 2009 South-Western, a part of Cengage Learning. Using Financial Accounting Information: The Alternative

Chapter 6Cash and Internal Control

Copyright © 2009 South-Western, a part of Cengage Learning.

Using Financial Accounting Information:The Alternative to Debits and Credits , 6/e

byGary A. Porter and Curtis L. Norton

Cash

Coin and currency

Checking, savings, and money market accounts

Undeposited, cashier, and certified checks

LO1

Cash Equivalents

Commercial paper U.S. Treasury bills Certain money market funds

Readily convertible to cash Original maturity to investor

of three months or less

Examples:

Cash Management

Necessary to ensure company has neither too little nor too much cash on hand

Tools• Cash flows statement• Bank reconciliations• Petty cash funds

LO2

Cash balance, beginning of period +

= Cash balance, end of period

Bank Statements

+Deposits

+Customer notes and interest collected by bank

+Interest earned

Canceled checks

NSF checks

Service charges

Bank Reconciliation – Step 1

Deposits in transit: Late period deposits not yet

reflected on bank statement

Trace deposits listed on the bank statement to the books. Identify the deposits in transit. Add to the bank balance.

Example of Reconciliation

Balance per statement, June 30 $3,308.59Add: Deposit in transit

642.30

Bank Statement Adjustments: Deposits


Outstanding checks: Checks written but not yet

presented to bank

Trace checks cleared by the bank to the books. Identify outstanding checks. Subtract from the bank balance.


Bank Statement Adjustments: Checks Outstanding

Balance per statement, June 30 $3,308.59Add: Deposit in transit 642.30Deduct: Outstanding checks:

No. 496 $ 79.89No. 501 213.20No. 502 424.75

(717.84) Adjusted balance, June 30 $3,233.05


Credit memoranda: Interest earned, customer notes

collected, etc.

List all other additions (credit memoranda) shown on the bank statement. Add to the book balance.

Example of Reconciliation Cash Account Adjustments: Credit Memoranda

Balance per books, June 30 $2,895.82

Add: Customer note collected $500.00 Interest on customer note 50.00 Interest earned during June 15.45 Error in recording check 498 54.00 619.45

List all other subtractions (debit memoranda) shown on the bank statement. Subtract from the book balance.


Debit memoranda: NSF checks, service charges, etc.

Example of Reconciliation Cash Account Adjustments: Debit Memoranda

Balance per books, June 30 $2,895.82

Add: Customer note collected $500.00 Interest on customer note 50.00 Interest earned during June 15.45 Error in recording check 498 54.00 619.45

Deduct: NSF check $245.72 Collection fee on note 16.50 Service charge for lockbox 20.00 (282.22)

Adjusted balance, June 30 $3,233.05


Identify errors made by the bank or the company in recording the transactions during the period.

Bank Reconciliation – Step 6Use the information collected in steps 1 through 5 to prepare the bank reconciliation.

Bank Reconciliation

Balance per bank $$$:

Adjusted balance $$$

Balance per books $$$:


Adjusted balances for book and bank

must agree


Balance per statement, June 30 $3,308.59Adjusted balance, June 30 $3,233.05

Bank Statement Adjustments

Balance per books, June 30 $2,895.82 Adjusted balance, June 30 $3,233.05

Cash Account Adjustments

Bank Reconciliation Adjusting Entries

Bank Reconciliation

Balance per bank $$$:


Balance per books $$$:


Book adjustments are the basis

for adjusting

entries

Bank Reconciliation Adjusting Entries

A number of adjustments to its records are needed to change the book balance of the cash account

To record bank reconciliation adjustments.

Petty Cash

A check is writtenJournalize

establishment offund

Disbursementwith proper

documentation

Fund replenished

Petty Cash Transactions Steps in setting up and maintaining a petty cash fund: Write and cash a check for lump sum amount and entrust money to petty cash custodian Make journal entry to record establishment of the fund Make disbursement from fund with proper documentation Periodically replenish fund by writing and cashing check in the amount necessary to bring fund back to original balance Record the replenishment and recognize the expenses

Internal Control System

Consists of the policies and procedures necessary to ensure:• The safeguarding of an entity’s assets• The reliability of its accounting records• The accomplishment of its overall

objectives

LO3

Sarbanes-Oxley Act of 2002 (SOX)

Act of Congress intended to bring reform

to corporate accountability and stewardship

in response to corporate scandals

Sarbanes-Oxley Act of 2002 (SOX)

Section 404 requires:

Management to state its responsibility to establish and maintain an adequate internal control structure and procedures for financial reporting.

Assess the effectiveness of its internal control structure and procedures for financial reporting.

Internal Control

Control Environment

AccountingSystem

InternalControl

Procedures

The Control Environment

Management’s competence and operating style

Personnel policies and practices Influence of board of directors

The Accounting System

Can be manual, fully computerized, or a combination of both

Use of journals is an integral part of any system

Methods and records used to report transactions and maintain financial

information

Internal Control Procedures

Segregationof Duties

SafeguardingAssets and

Records

ProperAuthorizations

IndependentVerification

The Design and Use of Business

Documents

IndependentReview andAppraisal

LO4

Proper Authorizations

Authority and responsibility go hand in hand

Segregation of Duties

Separate physical custody from the accounting

for assets

Independent Verification

One individual or department acts as a check on the work of another

Safeguarding Assets and RecordsProtect assets and accounting records from loss,

theft, unauthorized use, etc.

Independent Review and Appraisal

Provide for periodic review and appraisal of the accounting system and the people operating it

The Design and Use of Business Documents

Capture all relevant information about a transaction and assist in proper recording and classification.

Are properly controlled

Limitations on Internal Control

No system is entirely foolproof• Employees in collusion can override the

best controls• Cost vs. benefit tradeoff

Computerized Business Documents and Internal Control

LO5

Cash receipts should be deposited intact in the bank on a daily basis

All cash disbursements should be made by check

Control over Cash Receipts

Cash received over the counter (e.g., cash sales)

Cash received in the mail (e.g., credit sales)

Controls of Cash Received over the Counter

Cash registers Locked-in cash register tape Prenumbered customer receipts

Investigate recurring discrepancies

Controls over Cash Received in the Mail

Two employees open mail Prelist prepared Monthly customer statements

Document Flow for Merchandise

CheckPrepared

PurchaseRequisition

Receiving Report

Purchase Order

Invoice Approval

Purchase Invoice

End of Chapter 6