Ch. 4 Cash and Internal controls

• Incorrect financial statements reasons 

  • Errors- accidental errors in recording transactions 

  • Fraud- a person intentionally deceives others for personal gain or causes damage a person 

  • Occupational fraud- the use of one's occupation for personal gain through deliberately misusing employer's resources 

• Fraud triangle 

  • Opportunity- the situation allows the fraud to occur 

  • Motivation- someone feels they need to commit fraud, such as a need for money

  • Rationalization, justification for the deceptive act by the one committing the fraud

• Internal controls- attempts to eliminate the opportunity element of fraud 

  • Safeguard the company's assets 

  • Improve the accuracy and reliability of accounting information 

• Accounting scandals and response by Congress 

  • Managers are entrusted with the resources of both the companies' lenders and owners 

  • Managers act as stewards or caretakers of the company's assets 

• Accounting fraud in U.S history 

  • Enron- avoid reporting billions in debt losses 

  • WorldCom- misclassified expenditures to overstated assets and profitability 

• Sarbanes-Oxley Act of 2002 

  • Passed by Congress applies to all companies that are required to file financial statements with the SEC 

• Components on Internal Control

  • Monitoring- monitoring internal activities and reporting deficiencies required 

  • Control activities- policies and procedures that ensure the management directives are being carried out(authorizations, reconciliations, and separation of duties) 

  • Risk assessment- identifies and analyzes internal and external risk factors that could prevent a company's objectives from being achieved 

  • Control environment- sets the overall ethical tone of the company with respect to internal control 

• Preventive controls 

  • Separation of duties- a set of procedures intended to separate employees' duties for authorizing transactions, recording transactions, and controlling related assets. 

  • Physical controls, a set of procedures that ensure assets and accounting records are kept safe 

  • Proper authorization- a set of procedures designed to prevent improper use of a company's resources 

  • Employee management- provides employees with appropriate guidance to ensure they have the knowledge necessary to carry out their job

  • E-commerce controls- a set of procedures specifically designed to ensure only authorized personnel can conduct e-commerce transactions 

  • Reconciliations- management should periodically determine whether the amount of physical assets of the company agrees with the accounting records 

  • Performance reviews- the actual performance of individuals or processes should be checked against their expected performance 

  • Audits- hire an independent auditor to assess the internal control procedures to detect any deficiencies or fraudulent behavior by employees

Collusion- two or more people acting in coordination to circumvent internal controls 

• Cash includes coins and currency, checks received, and balances in savings and checking accounts

• Cash equivalents, defined as investments that mature within three months from the date of purchase(money market funds, treasury bills, and certificates of deposit) 

• Credit cards- provide an additional control by reducing employees' need to directly handle cash 

• Debit cards- offer customers a way to purchase goods and services without a physical exchange of cash 

• Bank reconciliation- matches the balance of cash in the bank with the balance of cash in the company's own records 

  • Timing differences- in cash occur when the companies record transactions before or after the bank records the same transactions

  • Errors can be made either by the company or its bank 

• Deposits outstanding- cash receipts of the company that have not been added to the bank's record of the company's balance 

• Checks outstanding- checks the company has written that have not been subtracted from the bank's record of the company's balance 

• Debit cash for items that add to the balance 

• Credit cash for items that subtract from the balance 

• petty cash fund- small amount of cash kept on hand to pay for minor purchases