Copyright © 2014 Pearson Canada Inc. 8 - 1 Chapter 8

Copyright © 2014 Pearson Canada Inc. 8 - 1

Chapter 8


Cash

Items included in cash are:Cash on handPetty cashCash on deposit in bank and trust companiesCash equivalent (Treasury Bills)

Cash is the most liquid asset of an organizationCash’s liquidity can be considered a disadvantage because

it is the most easily stolen asset


Learning Objective 1

Define internal control

What is internal control?


Internal ControlInternal control defined: consists of the process designed

and put in place by management to provide reasonable assurance that the organization will achieve its objectives of reliable financial reporting, effective and efficient operations, and compliance with applicable laws and regulations

Internal control objectives are:Encouraging operational efficiencyPreventing and detecting error and fraudSafeguarding assets and records. Providing accurate, reliable information


The Sarbanes-Oxley Act (SOX)

Established in the wake of the Enron and WorldCom accounting scandals

Provisions of SOXPublic companies must issue an internal control reportThe Public Company Accounting Oversight Board oversees

auditors of public companiesAccounting firms cannot both audit and provide consulting

services for the same clientStiff penalties for violators


The Sarbanes-Oxley Act (SOX)

The impact of SOX on Canadian companies:Canadian companies listed on U.S. stock exchanges must

abide by SOXCanadian regulators are implementing some of the SOX

requirementsSOX ensures that managers give careful attention to internal

controls in their companies



List and describe the components of internal control and control procedures

What should we think about when designing an internal control system?


The Components of Internal Control

A business can achieve its internal control objectives by applying the following components:Control environmentRisk assessmentControl proceduresMonitoring of controlsInformation system


Components of Internal ControlControl environment – this is the “tone at the top” of the

business. Owners and its managers must behave honourably to set good examples for employees

Risk assessment – a company must identify its risksControl procedures – these are the rules and procedures

designed to ensure that the business’s goals are achievedMonitoring of controls – companies hire both internal and

external auditors to monitor company controlsInformation system – companies need accurate

information to keep track of assets, and measure profits and losses


Internal Control Procedures

An effective system of internal controls has these characteristics:Competent, reliable, and ethical personnelAssignment of responsibilitiesProper authorizationSeparation of duties

Separate operations from accounting Separate the custody of assets from accounting Separation of the authorization of transactions from the custody of

related assets


Internal Controls Procedures, Continued

Characteristics also include:Internal and external auditsUse of documents and recordsUse of electronic devices and computer controlsOther controls


Internal Controls for E-Commerce

E-commerce pitfalls include:Stolen credit-card numbersComputer viruses and TrojansPhishing expeditions and identity theft


Security Measures for E-Commerce

Encryption – it is the primary method of achieving confidentiality in e-commerceEncryption rearranges messages by a mathematical process

and the encrypted messages cannot be read by anyone who does not know the process

Firewalls – limits access to a local network to network members who have access through PINs and passwordsUsually several firewalls are built into the system


The Limitations of Internal Control – Costs and Benefits

Most internal controls can be circumvented or overcomeCollusion, where two or more people work as a team to

defraud the company


The Bank Account as a Control Device

Cash is the most liquid asset, and can be concealed, it is easy to move, and it is relatively easy to steal

Documents used to control a bank account include:Signature cardDeposit ticketChequeBank statementBank reconciliation



Prepare a bank reconciliation and the related journal entries

What do we do when the bank statement balance and the cash account balance are not the same?


The Bank Reconciliation

There are two records of the business’s cash:The Cash account in the company’s general ledgerThe bank statement, which tells the actual amount of cash

the business has in the bankWhat causes the timing differences between the

company’s ledger balance and the bank’s balance?


The Bank Reconciliation, Continued

Items recorded by a company in the general ledger, but not yet recorded by the bank include:Deposits in transit (outstanding deposits)Outstanding chequesBank errors


The Bank Reconciliation, Continued

Items recorded by the bank but not yet recorded by the business include:Bank collections Electronic funds transfers (EFT) receipts and paymentsService chargesInterest revenue on chequing accountNonsufficient funds (NSF) chequesCost of printed chequesBook errors


Bank Reconciliation, Continued

Balance per bank

+ Deposits in transit

– Outstanding cheques

= Adjusted bank balance

Balance per books

+ Bank collections

+/– EFT cash receipts

+ Interest revenue

– Service charges

= Adjusted book balance

Adjusted bank balance must equal Adjusted book balance


Bank Reconciliation, Example

Business Research Inc.’s books indicate a balance of $3,294.21

The bank statement showed a balance of $5,902.48

Reconciling items include the following:

1.Deposit in transit, $1,591.63

2.Bank error. The bank deducted $100.00 for a cheque written by another company. Add $100.00 to bank balance


Bank Reconciliation, Example Continued

3. Outstanding cheques: no. 337, $286.00; no. 338, $319.47; no. 339, $83.00; no. 340, $203.14; no. 341, $458.53

4. EFT receipt of rent revenue, $900.00

5. Bank collection of note receivable, $2,114.00, including interest revenue of $114.00

6. Interest earned on bank balance, $28.01

7. Bank error: cheque no. 333 for $150.00 paid to Brown Corp. on account was recorded as $510.00

8. Bank service charges, $39.25 ($25.00 + $14.25)



9. NSF cheque from L. Ross, $52.00

10. EFT payment to insurance expense, $361.00



Bank Books

Bank balance, January 31, 2014 $5,902.48 Book balance, January 31, 2014 $3,294.21

Add: Add:

1. Deposit, Jan. 31, in transit 1,591.63 4. EFT receipt of rent revenue 900.00

2. Correction of bank error – Business Research cheque erroneously charged against company account 100.00

5. Bank collection of note receivable including interest revenue of $114

2,114.00

3. Less outstanding cheques 6. Interest revenue earned on bank balance

28.01

No. 337 338 339 340 341

286.00319.47

83.00203.14458.53 (1,350.14)

7. Correction of book error – overstated amount of cheque no. 333

360.00

Less:

8. Service charges 39.25

9. NSF Cheque 52.00

10. EFT payment of insurance expense 361.00 (452.25)

Adjusted Bank Balance $6,243.97 Adjusted Book Balance $6,243.97

BUSINESS RESEARCH INC.Bank ReconciliationJanuary, 31, 2014


Journalizing Transactions from the Reconciliation

The journal entries resulting from the bank reconciliation are as follows:Date Accounts Post

RefDebit Credit

(4) Jan. 31 Cash Rent RevenueReceipt of monthly rent.

900.00900.00

(5) Jan. 31 Cash Notes Receivable Interest RevenueNotes receivable collected by bank.

2,144.002,000.00

114.00

(6) Jan. 31 Cash Interest RevenueInterest earned on bank balance.

28.0128.01


Journalizing Transactions from the Reconciliation, Continued

Date Accounts Post Ref

Debit Credit

(7) Jan. 31 Cash Accounts Payable – Brown. Corp.Correction of cheque no. 333.

360.00360.00

(8) Jan. 31 Bank Charges Expense CashBank service charges, $25 NSF + 14.25.

39.2539.25

(9) Jan. 31 Accounts Receivable – L. Ross CashNSF cheque returned by bank.

52.0052.00

(10) Jan. 31 Insurance Expense CashPayment of monthly insurance.

361.00361.00



Apply internal controls to cash receipts

How do we implement internal controls for cash receipts?


Internal Control over Cash Receipts

Internal control over cash receipts ensures that cash receipts are deposited quickly for safekeeping

1. Cash receipts over the counter:The cash register should be positioned so that customers can

see the amount the cashier enters into the terminalA receipt is issued for each sale recordedThe cash drawer should open only when the clerk enters a

transactionCash needs to be deposited in the bank, and the machine

tape goes to accounting to record daily sales


Internal Control over Cash Receipts, Continued

2. Cash receipts by mail: All incoming mail is opened by the a mailroom employee Payments are sent to the treasurer, who has the cashier

deposit the funds in the bank Remittance advices and records of payment go to the

accounting department Some companies use a lock-box system and receipts are

sent directly to a box belonging to the bank, which directly deposits it to the customer’s bank account; company personnel never touch incoming cash


Internal Control over Cash Receipts, Continued

3. Cash Short and Over: An account that accumulates the difference between

actual cash receipts and the day’s record of cash received A net debit/credit balance is shown as Cash Short and

Over, an expense account on the income statement A net credit balance is shown as Cash Over on the income

statement A large balance in Cash Short and Over signals there are

potential internal control issues


Cash Short and Over, Example

Suppose the tapes from the cash register indicated sales revenue of $15,000, but the cash received was $14,980

The journal entry to record the cash short and over is:

Cash 14,980

Cash Short and Over 20

Sales Revenue 15,000

To record daily cash sales.



Apply internal controls to cash payments

How do we implement internal controls for cash payments?


Internal Control over Cash Payments

Payment by cheque is an important internal control because:The cheque provides a record of paymentThe cheque must be signed by an authorized official or

preferably two signaturesThe signing official studies the evidence supporting the

cheque


Controls over Purchase and Payment

The purchasing and payment process follows these steps:Prepare a purchase order to the supplierThe supplier ships the merchandise and mails the invoiceThe receiving department checks the goods and completes a

receiving reportThe accounting department checks and confirms all the

foregoing documents, then a cheque is issued to the supplier


Controlling Petty Cash Payments

Petty cash defined: Companies keep cash on hand to pay small amounts

Internal controls over petty cash include:Designating a custodian of the petty cash fundKeeping a specific amount of cash on hand in a secure

locationSupporting all fund payments for expenses with a petty cash

ticket or voucher


Creating the Petty Cash FundAssume on Feb. 28 the business creates a petty cash fund

of $400The journal entry to start the fund is:

For each petty cash payment, the custodian prepares a petty cash ticket or cash voucher

No journal entries are made for petty cash payments until the fund is replenished

Feb. 28 Petty Cash 400

Cash 400

To open petty cash fund.


Replenishing the Petty Cash

On March 31, the petty cash fund holds $230 in petty cash and $164 in vouchers; note that there is $6 missing

To replenish the petty cash fund on March 31 and bring the balance back to $400, the journal entry is:

Mar. 31 Office Supplies 46

Delivery Expense 34

Cash Short and Over 6

Selling Expense 84

Cash 170

To replenish the petty cash fund.


Reporting Cash on the Balance Sheet

Cash is the first asset listed on the balance sheet because it is the most liquid

Businesses usually have several bank accounts and petty cash funds – combined, it is called “Cash and Cash Equivalents”

Cash equivalents include term deposits and certificates of deposit



Make ethical business judgments

Are there steps we can follow when making ethical business judgments?


Corporate and Professional Codes of Ethics

Most companies have a code of ethics to encourage employees to behave ethically

Owners and mangers must set a high ethical toneAccountants are expected to adhere to rules of

professional conduct of their organization



Assess the impact on cash of international financial reporting standards (IFRS)

How does IFRS impact cash?


The Effects of IFRS on Cash

Because of its liquidity, there is little that is different in the way cash is valued under ASPE and under IFRS

A goal of IFRS is to present balance sheet information as close to fair value as possible

The presentation of cash can be different under IFRS – some organizations may list cash at the end of the asset side of the balance sheet