AND
INTERNAL CASH CONTROLS
Chapter 8
PURPOSE OF INTERNAL CONTROL
BBC NEWS 25 January, 2008
Jerome Kerviel, a 31-year-old trader with Societe
Generale ( ), chalked up trading losses
amounting to over 4.9 billion (HK$56 billion).
How does a world-class bank like Societe Generale
allow a 31-year old employee to flush 4.9 billion
down the toilet without any alarm bells going off?
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide2
PURPOSE OF INTERNAL
CONTROL
Policies and procedures managers use to:
Protect assets.
Ensure reliable accounting.
Promote efficient operations.
Urge adherence to company policies.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide3
PRINCIPLES OF INTERNAL
CONTROL
Internal control principles common to all companies:
1.
Establish responsibilities.
2.
Maintain adequate records.
3.
Insure assets and bond key employees.
4.
Separate recordkeeping from custody of assets.
5.
Divide responsibility for related transactions.
6.
Apply technological controls.
7.
Perform regular and independent reviews.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide4
LIMITATIONS OF INTERNAL
CONTROL
Human Error
Human Fraud
Negligence
Fatigue
Misjudgment
Confusion
Intent to
defeat internal
controls for
personal gain
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide5
LIMITATIONS OF INTERNAL
CONTROL
The costs of internal controls
must not exceed their benefits.
Benefits
Costs
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide6
CASH
Coins and paper
money
Bank credit card
sales
Cash is
defined as
any deposit
banks will
accept.
Checks
Money orders
Travelers checks
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide7
REPORTING CASH IN THE BALANCE
SHEET
Combined with
cash on balance
sheet
Liquid short-term
investments
Cash
Equivalents
Matures within 90
days of acquisition
Examples:
Stable market
values
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Money market funds
Government treasury bills
High-grade commercial paper
Slide8
CONTROL OF CASH
An effective system of internal control that
protects cash and cash equivalents should meet
three basic guidelines:
Handling cash
is separated from
recordkeeping for
cash.
Cash receipts
are promptly
deposited in a
bank.
Cash
disbursements
are made by
check.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide9
VOUCHER SYSTEM OF
CONTROL
A voucher system establishes procedures
A voucher system establishes
ffor:
or:
Verifying, approving and recording obligations
Verifying, approving and recording obligations
ffor eventual cash disbursements.
or eventual cash disbursements.
Issuing checks for payment of verified,
Issuing checks for payment of verified,
approved and recorded obligations.
approved and recorded obligations.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide10
VOUCHER SYSTEM OF
CONTROL
Sender
Sender
Cashier
Accounting
Receiving
Supplier (Vendor)
Purchasing
Requesting
Receiver
Receiver
Check
Invoice Approval
Receiving Report
Invoice
Purchase Order
Purchase Requisition
Supplier (Vendor)
Cashier
Accounting, Requesting
& Purchasing
Accounting
Supplier, Requesting,
Receiving & Accounting
Purchasing and
Accounting
Voucher
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide11
CASH OVER AND SHORT
Sometimes errors in making change are discovered from
differences between the cash in the cash register and the
record of the amount of cash receipts. If a cash registers
record shows $550 but the count of cash in the register is
$555, we would prepare the following journal entry:
Dec. 1
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Cash
Cash Over and Short
Sales
Dr.
555
Cr.
5
550
Slide12
OPERATING A PETTY CASH
FUND
Petty Cash
Petty
Petty
Cashier
Cashier
Company
Cashier
May 1
Petty cash
Cash
400
400
Accountant
Accountant
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide13
OPERATING A PETTY CASH
FUND
Petty
Petty
Cashier
Cashier
Petty Cash
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide14
OPERATING A PETTY CASH
FUND
A petty cash fund is
used only for
business expenses.
Petty
Petty
Cashier
Cashier
43
Stamps
$43
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Courier
$80
Slide15
OPERATING A PETTY CASH
FUND
Receipts
$123
Company
Company
Cashier
Cashier
To reimburse
petty cash fund
May 31
Accountant
Accountant
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Postage expense
Delivery expense
Cash
Use a Cash
Over and Short
account if needed.
Petty
Petty
Cashier
Cashier
43
80
123
Slide16
BANK RECONCILIATION
Usually once a month, the bank sends each depositor a bank
statement showing the activity in the account. A bank
reconciliation is prepared periodically to explain the
difference between cash reported on the bank statement and
the cash Statement on companys books.
balance
B ank
FirstNationalBank
N ashville,TN 37459
Clothes Mart
Nashville, TN
May 31, 2006
*
Acct No 278609
Previous
Balance Total Checks
1488.79
1,367.09
5/1
107
5/2
5/4
108
5/7
109
5/9
110
5/12
111
5/15
5/18
112
5/21
113
5/27
114
5/30
5/31
115
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Total
Deposits
2 ,604.22
5 5.00
Why are the
balances different?
Current
Balance
2,725.92
1,251.88
279.50
4 1.81
3 4.75
2 7.55
825.04
175.98
288.31
1 2.54
527.30
451.65
Slide17
RECONCILING THE BANK STATEMENT
Balance per Bank
+ Deposits in Transit
- Outstanding Checks
Bank Adjustments
= Adjusted Balance
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Balance per Depositor
+ Collections made
by the bank.
+Interest earned on
checking account.
-Service Charge
- Nonsufficient funds
check (NSF).
Book Adjustments
= Adjusted Balance
Slide18
RECONCILING THE BANK STATEMENT
Deposit
in transit: cash receipts recorded by the
depositor that reached the bank too late to be
included in the bank statement for the current
month
Outstanding
checks: checks issued and recorded
by the company but not yet presented to the bank
for payment
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide19
RECONCILING THE BANK STATEMENT
Collections
by bank (credit memo): collections made
by the bank on a companys behalf are when the bank
acts as a collection box for customer payments or
when the bank collects a note receivable from a
customer.
Uncollectible
items (NSF): NSF stands for Not
Sufficient Funds. When checks from customers are
deposited, the bank generally gives the depositor
immediate credit. If later these checks prove to be
uncollectible, the bank will reduce the depositors
account by the amount of this uncollectible item and
return the check to the depositor marked NSF.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide20
BANK RECONCILIATION
EXAMPLE
Lets prepare a July 31 bank reconciliation
Lets prepare a July 31 bank reconciliation
statement for the Simmons Company.
statement for the Simmons Company.
The July 31 bank statement indicated a
The July 31 bank statement indicated a
balance of $9,610.
balance of $9,610.
The cash general ledger account on that
The cash general ledger account on that
date shows a balance of $7,430.
date shows a balance of $7,430.
Additional information necessary for the
Additional information necessary for the
reconciliation is shown on the next screen.
reconciliation is shown on the next screen.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide21
BANK RECONCILIATION
EXAMPLE
1.
Outstanding checks totaled $2,417.
2.
A $500 check mailed to the bank for deposit had not
reached the bank at the statement date.
3.
The bank returned a customers NSF check for $225
received as payment on account receivable.
4.
The bank statement showed $30 interest earned during
July.
5.
Check No. 781 for supplies expense cleared the bank for
$268 but was erroneously recorded in our books as $240.
6.
A $486 deposit by Acme Company was erroneously
credited to our account by the bank.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide22
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide23
RECORDING ADJUSTING
ENTRIES FROM A BANK
RECONCILIATION
Only amounts shown on the book portion of
the reconciliation require an adjusting entry.
Dr.
30
July 31 Cash
I nterest revenue
July 31 Supplies expense
Accounts receivable
Cash
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Cr.
30
28
225
253
Slide24
RECORDING ADJUSTING
ENTRIES FROM A BANK
RECONCILIATION
After posting the reconciling entries the cash account
looks like this:
Adjusted balance on July 31.
Adjusted balance on July 31.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide25
CASH MANAGEMENT
The goals of cash management are twofold:
1.
Plan cash receipts to meet cash payments when due.
2.
Keep a minimum level of cash necessary to operate.
Effective cash management involves applying
the following cash management principles:
Encourage collection of receivables.
Delay payment of liabilities.
Keep only necessary levels of assets.
Plan expenditures.
Invest excess cash.
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide26
CASH MANAGEMENT
Collections from
customers
Cash (and cash
equivalents)
Accounts
receivable
Excess cash
is invested
temporarily
Cash
payments
Investments are
sold as cash is
needed
Marketable securities
(short-term
investments)
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide27
ACCOUNTS RECEIVABLE
TURNOVER
This ratio provides useful information for evaluating how
efficient management has been in granting credit to
produce revenue.
Net sales
Average accounts receivable
$ in millions
Dell
Net sales
Average accounts receivable
Accounts receivable turnover
Apple
Net sales
Average accounts receivable
Accounts receivable turnover
McGraw-Hill/Irwin
McGraw-Hill/Irwin
2006
2005
2004
2003
$
57,420 $ 55,788
4,352
3,826
13.2
14.6
$
49,121
4,025
12.2
$
41,327
3,111
13.3
$
19,315 $ 13,931
1,074
835
18.0
16.7
$
8,279
770
10.8
$
6,207
666
9.3
Slide28
DAYS SALES UNCOLLECTED
How much time is likely to pass before
How much time is likely to pass before
we receive cash receipts from credit sales.
we receive cash receipts from credit sales.
Days
Sales
Uncollected
McGraw-Hill/Irwin
McGraw-Hill/Irwin
=
Accounts Receivable
Net Sales
365
Slide29
END OF CHAPTER 8
McGraw-Hill/Irwin
McGraw-Hill/Irwin
Slide30