Chapter 5 — Cash, Internal Controls, and Accounting Formulas

Vocabulary terms, bank reconciliation procedures, and key accounting formulas covering Chapter 5: Cash and Internal Controls.

Internal controls

Procedures designed to safeguard assets, improve the reliability of accounting information, and promote efficient operations.

Internal control weakness

A vulnerability in control procedures, such as allowing one employee to both receive cash and reconcile the bank account.

Deposit in transit

An item that should be added to the bank statement balance when preparing a bank reconciliation.

Outstanding checks

Checks written and recorded by a company that have not yet cleared the bank; they are subtracted from the bank statement balance during reconciliation.

Bank service charge

A fee assessed by the bank that must be subtracted from the company's book balance and requires a journal entry on the company's books.

Adjusted book cash

Calculated using the formula: $\text{Book Balance} + \text{Book Additions} - \text{Book Deductions}$.

Cost of goods sold

Calculated using the formula: $\text{Beginning Inventory} + \text{Net Purchases} - \text{Ending Inventory}$.

Gross profit

Calculated using the formula: $\text{Net Sales} - \text{Cost of Goods Sold}$.

Net sales

Calculated using the formula: $\text{Sales} - \text{Returns} - \text{Allowances} - \text{Discounts}$.

Inventory cost

Calculated using the formula: $\text{Net Purchase Cost} + \text{Freight-In}$.

Purchase discount

Calculated using the formula: $\text{Eligible Purchase Amount} \times \text{Discount Rate}$.

Internal controls

Procedures designed to safeguard assets, improve the reliability of accounting information, and promote efficient operations.

Internal control weakness

A vulnerability in control procedures, such as allowing one employee to both receive cash and reconcile the bank account.

Deposit in transit

An item that should be added to the bank statement balance when preparing a bank reconciliation.

Outstanding checks

Checks written and recorded by a company that have not yet cleared the bank; they are subtracted from the bank statement balance during reconciliation.

Bank service charge

A fee assessed by the bank that must be subtracted from the company's book balance and requires a journal entry on the company's books.

Adjusted book cash

Calculated using the formula: $\text{Book Balance} + \text{Book Additions} - \text{Book Deductions}$.

Cost of goods sold

Calculated using the formula: $\text{Beginning Inventory} + \text{Net Purchases} - \text{Ending Inventory}$.

Gross profit

Calculated using the formula: $\text{Net Sales} - \text{Cost of Goods Sold}$.

Net sales

Calculated using the formula: $\text{Sales} - \text{Returns} - \text{Allowances} - \text{Discounts}$.

Inventory cost

Calculated using the formula: $\text{Net Purchase Cost} + \text{Freight-In}$.

Purchase discount

Calculated using the formula: $\text{Eligible Purchase Amount} \times \text{Discount Rate}$.

Fraud triangle

A framework identifying the three factors that lead to workplace crime: incentive (pressure), opportunity, and rationalization.

Sarbanes-Oxley Act (SOX)

Legislation designed to prevent fraud by requiring stronger financial reporting controls, management accountability, and independent oversight.

Segregation of duties

An internal control measure requiring different employees to handle cash custody, record transactions, and reconcile bank accounts.

Six principles of internal control

Core guidelines including establishing responsibilities, maintaining adequate records, insuring assets, separating recordkeeping from custody, dividing responsibility for related transactions, and applying technological controls.

Purpose of bank reconciliation

To identify discrepancies between company records and bank statements, detect errors, and verify the correct cash balance.

FOB shipping point

A shipping term stating ownership transfers to the buyer when goods are shipped, meaning the buyer pays freight charges.

FOB destination

A shipping term stating ownership transfers to the buyer when goods arrive, meaning the seller pays freight charges.

2/10, n/30

Credit terms offering a 2% discount if payment is completed within 10 days; otherwise, full payment is due within 30 days.

1/30, n/60

Credit terms offering a 1% discount if payment is completed within 30 days; otherwise, full payment is due within 60 days.

Merchandise revenue recognition point

The event when control of merchandise passes to the buyer, occurring at shipment under FOB shipping point or upon delivery under FOB destination.