Review of Chapter 3

What were the steps in the accounting cycle in

Chapter 3?
What is the difference between the accrual and
the cash basis of accounting.
What were the accounting principles?
What were the 3 types of adjustments?
What accounts do we close?
What ratios did we look at?

Review of Chapter 3 Question #1

A company collected one year of rent in advance on
August 1, 2014. The entry made at that date was a
Debit to Cash and a Credit to Unearned Revenue
of $24,000. At Dec. 31, 2014, the adjusting entry
is:
Unearned Revenue
a) Debit $10,000
b) Debit $14,000
c) Credit $10,000
d) Credit $14,000

Rent Revenue
Credit $10,000
Credit $14,000
Debit $10,000
Debit $14,000

Internal Control and

Cash
Chapter 4

Learning Objective 1
Describe fraud and
its impact

Fraud
Fraud is an intentional misrepresentation of
facts, made for the purpose of persuading
another party to act in a way that causes injury
or damage to that party
It is a huge problem and is getting bigger not
only in Canada, but across the globe

Fraud
The two most common types of fraud that
impact financial statements are:
1. Misappropriation of assets
2. Fraudulent reporting

Learning Objective 2
Explain the objectives and components of
internal control

4-7

Internal Control
Primary way fraud and errors are:
Prevented
Detected or
Corrected
Management and Board of Directors implement a:
Plan of organization
System of procedures

Objectives of Internal Control

Safeguard assets
Encourage employees to follow policy
Promote operational efficiency
Ensure accurate, reliable records
Comply with legal requirements

4-9

Sarbanes Oxley Act (SOX)

The US congress passed SOX
SOX is regulated corporate governance in
United States
In March 2004, the Canadian Securities
Administrators (CSA) instituted a policy that
requires the CEO and CFO to certify their
financial statements

Components of Internal Control

1.
2.
3.
4.
5.

Control environment
Risk assessment
Information system
Control procedures
Monitoring of controls

4 - 11

1. Control Environment
Tone at the top
Starts with owner(s) and top managers acting
ethically
Corporate code of ethics

4 - 12

2. Risk Assessment
Identify business risks
Establish procedures to deal with risks

4 - 13

3. Information System
System must capture, process, and report
transactions accurately

4 - 14

4. Control Procedures
Ensure companys goals are achieved
Examples: separation of duties, comparisons,
adequate records, proper approvals and
safeguards assets from theft

4 - 15

5. Monitoring Controls
Prohibit one employee from processing a
transaction completely
Program controls into computerized system
Hire auditors to monitor controls
Internal monitor from the inside
External test from the outside to ensure
accounting records are accurate

4 - 16

Internal Control Procedures

1.
2.
3.
4.
5.
6.
7.

Smart hiring practices and Separate of duties

Comparisons and Compliance monitoring
Adequate records
Limited access
Proper approvals
Information technology
Safeguard controls
4 - 17

1. Smart Hiring and

Separation of Duties
Separation of Duties:
Asset handling
Record keeping
Transaction approval

4 - 18

Comparisons and Compliance

Monitoring
An
An audit
audit isis an
an examination
examination by
by an
an outside
outside party
party
of
of the
the companys
companys financial
financial statements,
statements,
accounting
accounting systems,
systems, and
and internal
internal controls.
controls.
An
An internal
internal auditor
auditor isis an
an employee
employee of
of the
the business.
business.
An
An external
external auditor
auditor isis entirely
entirely independent
independent
of
of the
the business.
business.

Adequate Records

All major groups of transactions should be

supported by either hard copy
documents or electronic records

Limited Access
Company policy should limit access to assets
only to those persons or departments that have
custodial responsibilities

Proper Approvals
No transaction should be processed without
managements general or specific approval
The bigger the transaction, the more specific the
approval

Information Technology
The basic attributes of internal control of
sophisticated IT does not change but the
implementation procedures do.

Safeguard Controls
Fireproof vaults
Burglar alarms
Security cameras
Loss prevention specialist
Fidelity bonds
Mandatory vacations
Job rotation

Internal Controls for E-Commerce

Pitfalls of e-commerce:
Stolen credit card numbers
Computer viruses and Trojan Horses
Phishing expeditions
Security measures:
Encryption
Firewalls
4 - 25

The Limitations of
Internal Control
Systems designed to thwart one persons
fraud can be beaten by two or more
employees working together
colluding to defraud the firm.
A system of internal control that is too
complex can hurt efficiency and control.

Question #2
The concept of internal control refers to:
a. Audit procedures used to detect theft
b. Policies of the Accounting Standards Board
c. Policies and procedures of a company
designed to safeguard assets
d. A method used to reconcile the bank
statement

Learning Objective 3
Prepare and use
a bank reconciliation

The Bank Account

as a Control Device
Banks safeguard and help control cash.
Companies should deposit all cash receipts
and make all cash payments through the bank.

Bank Statement
Reports:
Cash receipts
Cash payments

Electronic Funds
Transfer (EFT)
Make payments by
electronic
communication

4 - 30

The Bank Reconciliation

There are two records of a businesss cash:
the companys cash account
on its own books
the bank statement, which shows the
actual amount of cash in the bank.

The Bank Reconciliation

Two common items that cause differences
between the bank balance and the book balance.
1. Items recorded by the company but not yet
recorded by the bank:
Deposits in transit
Outstanding cheques

The Bank Reconciliation

2. Items on a bank statement and not
recorded by the business:
Bank collections
Electronic funds transfers (EFT)
Service charge
Interest revenue earned on account
NSF cheques
Errors

Steps in Preparing a Bank Reconciliation

1. Compare deposits in the general ledger with the
bank statement.
2. Compare returned cheques with the general ledger.
3. Add or subtract any unrecorded information.
4. Correct any errors.
5. Make sure that the bank balance=cash in the general
ledger.
6. Prepare and record any necessary journal entries.

Reconciling the Bank Statement

Bank Balance:
Balance per bank statement
Add: Deposits in transit
Less:Outstanding cheques
+/- Bank errors
= Adjusted balance

Book Balance:
Balance per general ledger
Add: Bank collection
items, interest revenue,
EFT receipts
Less:Service charges, NSF
cheques, EFT payments
+/-Book errors
= Adjusted balance

Journalizing Bank Reconciliation

Items
All items on the books side of the bank
reconciliation require journal entries
If the items is added to the book side

Debit Cash
If the item is subtracted from the book side
Credit Cash

4 - 36

Question #3
A cheque was written for $542 to purchase
supplies. The cheque was recorded in the
journal as $425. The entry to correct the
error:
a.
b.
c.
d.

Dr Supplies expense, Cr Cash, $117

Dr Supplies expense, Cr Cash, $425
Dr Supplies, Cr Cash, $117
Dr Supplies, Cr Cash, $425

Learning Objective 4
Apply internal controls
to cash receipts and
cash payments.

Controlling and Managing Cash

Internal controls should be in place for:
a) Cash Receipts
b) Cash Payments

Internal Control Cash Receipts

Internal control over cash receipts ensures
that all cash receipts are deposited in the
bank and no collections are lost.
Cash Receipts over the Counter
Cash Receipts by Mail

Cash Receipts over the Counter

The
The point-of-sale
point-of-sale terminal
terminal (cash
(cash register)
register) offers
offers
control
control over
over the
the cash
cash received
received in
in aa store.
store.
Customer
Customer issued
issued aa receipt
receipt as
as proof
proof of
of purchase
purchase
At
At the
the end
end of
of the
the shift,
shift, the
the sales
sales associate
associate
turns
turns in
in the
the cash
cash drawer
drawer to
to the
the office
office
Accounting
Accounting department
department reconciles
reconciles sales
sales per
per
terminal
terminal to
to cash
cash in
in drawer
drawer

Cash Receipts by Mail

All
All incoming
incoming mail
mail should
should be
be opened
opened
by
by aa mailroom
mailroom employee.
employee.
This
This person
person should
should compare
compare the
the cheque
cheque
received
received with
with the
the remittance
remittance advice.
advice.
The
The mailroom
mailroom clerk
clerk keeps
keeps aa running
running
total
total of
of cash
cash receipts
receipts for
for the
the day.
day.

Cash Receipts by Mail

At
At the
the end
end of
of the
the day
day this
this control
control total
total
isis given
given to
to aa responsible
responsible official.
official.
Cash
Cash receipts
receipts should
should be
be given
given to
to the
the cashier.
cashier.
The
The mailroom
mailroom employee
employee forwards
forwards the
the
remittance
remittance advices
advices to
to accounting.
accounting.

Internal Control over Cash

Payments
Companies make most payments by cheque
Control over payment by cheque:
- provides a record of payment
- must be signed by an authorized official
- before signing, should study the evidence

Question #4
All of the following are objectives of internal
control except
a.
b.
c.
d.

To safeguard assets
To comply with legal requirements
To maximize net income
To ensure accurate and reliable accounting
records

Learning Objective 5
Construct and use a budget to
manage cash.

Using a Budget to Manage Cash

A budget is a financial plan that
helps coordinate business activities.
A cash budget helps a company,
or an individual, manage cash by
planning the receipt and payment
of cash during a future period.

Using a Budget to Manage Cash

1. Start with the beginning cash balance.
2. Add the budgeted cash receipts and subtract the
budgeted cash payments.
3. The beginning balance + expected receipts
expected payments = expected cash balance at the
end of the period.
4. Compare the expected cash balance at the end of
the period to the budgeted cash balance

Cash Budget
Cash Budget For the Year Ended January 31, 2014
1. Cash balance, February 1, 2013
Estimated cash receipts:
2. Collections from customers
3. Interest and dividends on investments
4. Sale of store fixtures
Estimated cash payments:
5. Purchases of inventory
6. Operating expenses
7. Expansion of existing stores
8. Opening of new stores
9. Payment of long-term debt
10. Payment of dividends
11. Cash available (needed) before new financing
12. Budgeted cash balance, January 31, 2014
13. New financing needed

(In millions)
$ 12.0
360.0
6.2
4.9
$ 383.1
$ 245.0
82.5
14.6
12.4
16.0
8.0

378.5
4.6
13.5
$ ( 8.9)

Reporting Cash on
the Balance Sheet
Companies usually combine all cash amounts
into a single total called Cash and Cash
Equivalents on the balance sheet.
Cash equivalents include liquid assets
Treasury bills

Money market funds

Reporting Cash on
the Balance Sheet
Sobeys Inc.
Consolidated Balance Sheet
May 4 Excerpts
(In Millions)

Assets
Current assets:
Cash and cash equivalents
Temporary investments
Accounts receivable

2014

$196.7
77.7
251.0

End of Chapter 4