Chapter 4
Operation Objectives
operations are effective and efficient, safeguarding of assets against loss
Bank Reconciliation
reconciles timing differences and errors
Control of cash Reciepts
record when received, deposit receipts intact, separation of duties
A cash overage
requires a credit to cash over and short
A cash shortage
requires a debit to cash over and short
Collusion
secret agreement or cooperation or fraudulent scheme
The third stage of the operating cycle?
selling inventory
Transactions recorded by the bank but not yet recorded by the business
service charges, non-sufficient funds checks, and debit and credit memos
Internal Control Report
Acknowledge that management is responsible for establishing and maintaining an adequate internal control system and procedures for finical reporting and assess effectiveness of these controls
Internal Control System
All policies and procedures necessary to ensure Operation Objectives, Reporting Objectives, and Compliance Objectives
Cash equivalents
all highly liquid investments with an original maturity of 3 months or less at date of inception
Control of Cash Disbursement
all major disbursements made by check, pay only small misc. expenditures from petty cash, and prepare bank reconciliations
Segregation of Duties
assure that no one person prepares all the documents and records for an activity
Control Environment
the collection of environmental factors that influence the effectiveness of control procedures
Risk Assessment
Identify, analyze, and manage business risks
PEST factors
macro factors such as political, economic, social, and technological
Balance per bank
+ deposits in transit - outstanding checks +/- bank errors
Balance per book
+ interest + notes by bank on our behalf - service charge -NSF checks -Overdraft charges +/- error
Cash equivalents must be
-readily convertible into a known amount of cash -so near maturity that interest rate changes won't affect their market value(3 months or less)
what are the five components of internal control?
1. Control Environment 2. Risk Assessment 3. Control Activities 4. Information and Communication 5. Monitoring
Examples of interest bearing cash equivalents
1. Treasury Bill(T-Bill) 2. Certificate of Deposit(CD) 3. Commercial Paper 4. Money Market Fund
Association of Certified Fraud Examiners (ACFE) studied that
80% of all workplaces frauds involved employee theft of company assets and 90% of the thefts involved cash
Non-Sufficient Funds Checks(NFS)
A check that has been returned to the depositor because funds in the issuers account are not sufficient to pay the check(a bounced check)
Bank reconciliation
A report that accounts for the differences between the bank statement and a checkbook balance
Deposits in transit
An amount received and recorded by the business, but not recorded by the bank to appear on the current bank statement
What are generally the five categories in which control activities can be identified
Authority and responsibility , separation of duties, adequate documents and records, safeguards over assets and records, checks on recorded amounts
What is cash reported on?
Balance sheet and statement of cash flows
3 important areas where the accounting system interacts with the internal control system to strengthen cash controls
Bank reconciliation, cash over and short, and petty cash
What is the first stage of the operating cycle?
Buying inventory
Where are deposits in transit added?
Cash balance from the bank statement
What are the tools of effective cash Management?
Cash controls over receipts and disbursements, preparation of bank reconciliations(monthly), use of petty cash
Delaying payments to suppliers, speeding up collection from customers, and earning the greatest return on any excess cash are all examples of?
Cash management
Cash
Cash on hand + Cash in Banks + Undeposited checks
Internal Controls help control cash
Clearly assigned jobs of collecting, holding, and paying cash Cash records examined by an objective party Record keeping system Safeguard in vaults and banks
Step 1 of Performing a Bank reconciliation
Compare the deposits on bank statement to the deposits debited to the cash account
Step 2 of performing Bank Reconciliation
Compare the paid (cancelled) checks that are electronically returned with the bank statement to the amounts credited to the cash account and the list of outstanding checks from prior month
What is the foundation of internal control system?
Control environment
Cash receipts should be
Deposited in a bank daily
Any deposits debited to the cash account but not on the bank statement
Deposits in Transit
Enterprise Risk Management (ERM)
Designed to identify, analyze, and manage strategic risks and business process risk
Cash Equivalents are both
Easily convertible into known amounts of cash and close enough to maturity that they are relatively insensitive to changes in interest rates.
Business Process Risks
INTERNAL processes of the company - specifically, how the company allocates its resources to meet its objectives
What are the three areas of a companies objective?
Effectiveness and efficiency of operations, reliability or financial reporting, and compliance with applicable laws and regulations.
What is risk assessment procedures called
Enterprise Risk Management(ERM)
Operating cycle consists of
Financial resources are used to purchase inventory and other assets and then you use the inventory assets or sell them, you then collect from the customer and then repeat
Information and Communication
Gather and communicate information
What should happen to any cash surplus in business
Invested back into companies operation to grow company, used to pay debt, returned to shareholders through dividends or stock repurchase.
Income Statement Acoount
Is where a cash over and short is recorded and treated as expense or other revenues
After reconciliation what do you record?
Journal entries for everything on the book side
Step 3 of Bank Reconciliation
Look for items on the bank statement that have not been debited or credited to the cash account
What does the Sarbanes-Oxley Act require?
Management to produce an internal control report
Common business processes include
Materials acquisition, production, logistics and distribution, branding and marketing, and Human Resources
Is stock a cash equivalent?
No, stock is NEVER a cash equivelent.
Where does cash appear?
On balance sheets and statement of cash flows
Why are cash controls more effective when companies pay with check?
Only certain people have authority to sign checks, supporting document are marked opacity to avoid duplicate payments, checks are pre-numbered so you can identify missing checks
Any checks credited to the cash account but not on the bank statement
Outstanding checks
Two types of transactions recorded by a business but not a bank is
Outstanding checks and Deposit in transit
What is the second stage of the operating cycle?
Paying for inventory
What does the control environment include?
Philosophy and operating style of management personnel policies and practices of the business overall integrity, attitude, and actions of everyone in the business concerning the importance of control
Porter's Five Forces
Possible threats to originations success in accomplishing goals and are external to the organization such as: Competitors, customers, substitute products or services, and threat of new competitors
What does selling inventory produce?
Produces more receivables
cash equivalents
Short-term, highly liquid investments with an original maturity of three months or less
What should happen to outstanding checks.
Should be subtracted from the cash balance from the bank statement
Statement of Cash Flows
Shows the sources and uses of cash during the year
Five components of internal controls
The control environment, risk assessment, control activities, information and communication, and monitoring activities
Information and communication
The internal control system must capture and communicate all pertinent information both down and up the organization, as well as communicate information to appropriate external parties.
The more liquid an asset
The more likely it is to be stolen
Reporting objectives
The reliability of a company's reporting(accounting records)
When you see bank service charges, interest payments, NSF checks, automatic payments(debit memos), and bank collections on behalf of the company(credit memos) what should happen
They should all be subtracted from the cash balance from company records, but bank credits should be added to the cash balance from company records
Monitoring
Tracking potential and actual problems in the internal control system
True or false: Issuing checks to pay small amounts is usually more costly then paying cash
True
True or false: The length of the operating cycle influences the classification of assets and liabilities on balance sheet
True
True or false: The longer a company keeps cash the more interest it can collect
True
What does Balance per book and Balance per bank give us?
True cash Balance
When are cash controls more effective?
When companies pay with checks
Does operating cycle play an important role in measurement of income and does the length of the cycle affect the amount of capital a business needs and the policies that govern the sales of its goods and services?
Yes
Cash over and short
an account that records the discrepancies between deposited amounts of actual cash received and the total of the cash register tape
Petty cash
an amount of cash kept on hand and used for making small payments
Credit memos
bank increases your cash account, addition on the bank statement
Debit memos
bank reduces your cash account, deduction of the bank statement
Outstanding check
check issued and recorded by the business that has not been "cashed" by the recipient of the check
Internal control and procedures
clearly defined authority and Responsibility, segregation of duties, adequate documents and records, safeguarding assets and records, checks on recorded amounts
Control Environment
company philosophy. [personnel policies,. over all integrity and attitudes of everyone in the business
Compliance objective
compliance with laws and regulations(GAAP and SEC regulations)
Accounting System
consists of the methods and records used to identify, measure, record, and communicate financial information about a business
Debit and Credit memos
deductions or additions to the cash balance made by the bank
How is separation of duties used in the control of cash receipts?
different employees for recording, custody, and authorization
Service Charges
fees charged by the bank for services provided. Examples include annual maintenance, minimum balance, and foreign transaction fees.
Irregularities
intentional misstatements, theft, or fraud
Cash Management
necessary to ensure company has neither too little nor too much cash on hand
Tone at the top
overall integrity, attitude, and actions of everyone in the business concerning the importance of control
Control Activities
policies and procedures top management establishes to help insure that its objectives are met
Strategic risks
possible threats to the organization's success in accomplishing its objectives that are external to the organization
Operating Cycle
the elapsed time between the purchase of goods for resale and the collection of cash from customers
Internal control systems
the policies and procedures established by top management and the board of directors to provide reasonable assurance that the companies objectives are being met in three areas