Accounting Principles: Cash Controls and Petty Cash Management

Case Study: Embezzlement and the Fraud Triangle

• The Concept of Embezzlement: The speaker describes a real-world scenario involving a friend who was caught for embezzlement. While the speaker believes the individual may have taken the fall for others, the news coverage focused on the foundational accounting concept known as the Fraud Triangle.
• The Fraud Triangle: According to psychologists and accounting principles, three specific elements must coexist for fraud to occur:
      * Opportunity: This refers to a lack of internal controls that allows an individual to commit fraud.
          * Scenario Specifics: The individual worked for a state government. Her job involved approving invoices and bills.
          * Lack of Controls: Usually, approval ranges are set in increments (e.g., a person can approve up to $50,000$, then passes it to someone else who can approve up to $100,000$). In this case, the individual had a massive range of approval from $0$ to $500,000$ without any secondary checks or oversight.
      * Pressure: This refers to the motivation or incentive behind the fraud, often financial.
          * Scenario Specifics: The individual felt pressure to maintain an expensive lifestyle. Although her salary was a matter of public record, she owned high-value items, such as "every pair of red bottoms (Christian Louboutin shoes) in the world at that time."
          * Lifestyle Discrepancy: The news compared her public salary to her acquisitions, illustrating the financial pressure to maintain her status.
      * Rationalization: This is the internal justification the individual makes for the criminal act.
          * Scenario Specifics: In this case, the individual rationalized the theft by telling herself that because the government receives such vast amounts of funding, "they’re not gonna miss it."
• Practical Application: These three points (Opportunity, Pressure, Rationalization) are central to auditing and accounting classes. To prevent fraud, companies must implement systems that specifically target and eliminate the "Opportunity" leg of the triangle.

Defining Cash and Cash Equivalents

• Definition of Cash: Cash includes currency, coins, and deposits in bank accounts. It also extends to various financial instruments:
      * Customer Checks: Personal checks written to the business.
      * Cashier's Checks: Similar to a money order but issued directly from the bank.
      * Certified Checks: Checks that are guaranteed by the bank.
      * Money Orders: A payment order for a pre-specified amount of money.
• Definition of Cash Equivalents: These are short-term, highly liquid investments that are readily convertible to a known amount of cash.
      * High Liquidity: To be an equivalent, the item must be easily sold or converted without a long process.
      * Maturity Proximity: An item becomes highly liquid as it approaches its maturity date. For example, if a car note (debt) has a term of $60$ months and the borrower is at month $58$, it is considered close to maturity and highly liquidable.
      * Examples: Certain stocks and short-term debt instruments like bonds (which are liabilities/debt for the issuer).

Financial Ratios and Liquidity

• Current Ratio: This ratio measures a company's ability to pay off short-term obligations and is calculated as:
      * $\text{Current Ratio} = \frac{\text{Current Assets}}{\text{Current Liabilities}}$
• Acid-Test (Quick) Ratio: A more stringent measure of liquidity that only considers the most liquid "quick" assets:
      * $\text{Acid-test Ratio} = \frac{\text{Cash} + \text{Cash Equivalents} + \text{Short-term Investments} + \text{Current Receivables}}{\text{Current Liabilities}}$

Internal Control Systems for Cash Receipts

• The Workflow of Cash Receipts:
      1. Sales Department: The cashier rings up the register.
      2. Receipt Generation: A cash receipt is created stating the total amount received.
      3. Cashier’s Department: This department creates a "cash sheet."
      4. Processing: They prepare the deposit slip and record the journal entry.
      5. External Verification: A supervisor compares the records to the actual cash to ensure accuracy.
• Human Error: While some companies aim for a zero-percent margin of error, discrepancies often occur, necessitating the use of the "Cash Over and Short" account.

Accounting for Cash Overage and Shortage

• Account Nature: The "Cash Over and Short" account is described as a "chameleon." It can act as either a revenue account or an expense account depending on the balance.
• Scenario 1: Cash Overage (Revenue)
      * Record shows sales of: $550$
      * Actual cash in register: $555$
      * Journal Entry (Date June 1):
          * Debit: Cash $555$
          * Credit: Sales $550$
          * Credit: Cash Over and Short $5$
      * In this instance, the $5$ credit acts as revenue because the business has more cash than accounted sales. This often happens due to errors in giving change.
• Scenario 2: Cash Shortage (Expense)
      * Record shows sales of: $625$
      * Actual cash in register: $621$
      * Journal Entry:
          * Debit: Cash $621$
          * Debit: Cash Over and Short $4$
          * Credit: Sales $625$
      * In this instance, the $4$ debit acts as an expense because the business is missing value it should have received.
• Month-End Procedures: The balance of the "Cash Over and Short" account is eventually "trued up" or adjusted against Cost of Goods Sold (COGS) or Revenue during the month-end closing process.

Petty Cash Fund Administration

• Purpose: A petty cash fund is used for small, miscellaneous payments where writing a formal check is impractical (e.g., shipping fees, stamps, small supplies, paying a bug spray service).
• Custody: The fund is typically kept in a lockbox or office safe and is managed by an administrator or secretary.
• Establishing the Fund: To set up petty cash, the company writes a check and converts it to cash.
      * Journal Entry:
          * Debit: Petty Cash (Asset increase) $75$
          * Credit: Cash (Asset decrease) $75$
• Recording Expenses: During the period, the custodian collects receipts. These are not recorded in the main accounting system immediately. At month-end, the receipts (e.g., total of $71.30$ for transportation or supplies) are used to record expenses and replenish the fund.

Modern Implications and Ethical Discussions

• The Disappearance of the Penny: The government is reducing penny production because the cost to print exceeds their value. Businesses are beginning to round to the nearest nickel.
      * Accounting Impact: This will likely lead to more frequent "Cash Over and Short" entries as companies lose or gain small amounts due to rounding policies.
• Electronic Payments (Venmo, Zelle, Cash App): These platforms are increasingly being integrated into business (e.g., Panda Express).
      * IRS Reporting: New laws require reporting for transactions over certain thresholds. For business accounts, apps now request Social Security numbers to track income.
      * Thresholds: The speaker mentions a reportable threshold of $40,000$ for students receiving money from parents, though for business transactions, the government aims to capture smaller amounts for tax purposes.
• Casinos and Anti-Money Laundering:
      * CTR (Currency Transaction Report): If an individual wins or deposits over $10,000$ at a casino, a CTR must be filed to prevent money laundering.
      * Ethics: Technically, all winnings should be reported to the IRS, though many individuals do not report smaller amounts unless a formal report is issued.

Dialogue and Questions

• Student Anecdote (Burger King Fraud): A student shared a story about working at a busy Burger King with two registers. For two months, the drawer was consistently short by approximately $100$ each day. The shift leader initially blamed the student. Eventually, the shift leader was caught on camera stealing and was fired. The total stolen was approximately $3,000$, and the company recovered the money through deductions from the perpetrator's final checks.
• Question (Tolerance for Discrepancy): A student asked if companies question small overages or shortages ($5$ or $10$ dollars).
      * Response: It depends on the company. Some have a "zero tolerance" policy (especially in financial aid or student interface scenarios where overage represents a liability to the customer). Other companies, like Vons gas stations, reportedly had policies where they kept leftover prepayments for gas rather than refunding them, leading to consistent overages.
• Question (The Penny and Bank Accounts): A student asked if the removal of the physical penny would affect digital bank balances (e.g., $150.57$).
      * Response: While physical currency is being rounded, it is unclear how digital systems will handle the discrepancy in the long term, though prices will likely shift toward flat rates to compensate for the lack of pennies.