Kế toán, kiểm toán - Chapter 6: Internal control and cash

International Financial Accounting CHAPTER 6: INTERNAL CONTROL AND CASH MA. Nguyen Quoc Nhat- nhatnq.faa@gmail.com 1 LOGO International Accounting of Financial MA. Nguyen Quoc Nhat INTERNAL CONTROL AND CASH 2 Learning of objective: • Define internal control and explain why it is needed. • Explain the common principles and limitations of internal control. • Apply internal control principles to cash receipts and payments. • Describe the operation of voucher and petty cash systems. • Prepare a bank reconciliation. • Describe the reporting of cash and cash equivalents. INTERNAL CONTROL AND CASH 3 Table of content 6.1 Internal Control 6.2 The Sarbanes-Oxley Act (SOX) 6.3 The Components of Internal Control 6.4 Internal Controls for E-Commerce 6.5 The Bank Account as a Control Device 6.6 The Bank Reconciliation 6.7 Internal Control over Cash Receipts 6.8 Internal Control over Cash Payments 6.9 The Petty Cash Fund 6.10 Ethics and Accounting 6.1 INTERNAL CONTROL INTERNAL CONTROL AND CASH 4 Definition In business, internal control is defined as the methods an organization uses to protect against the theft of assets, enhance the reliability of accounting information, promote efficient and effective operations, and ensure compliance with applicable laws, regulations, and codes of ethical conduct. 6.2 THE SARBANES-OXLEY ACT (SOX) INTERNAL CONTROL AND CASH 5 Although internal control is essential to businesses of all sizes, it has become one of the most important issues facing public companies today. The first decade of this century brought several high-profile accounting scandals involving Enron, WorldCom, and a number of other publicly owned companies. To restore investor confidence and improve the quality of financial reporting in the United States, the U.S. Congress passed the Sarbanes-Oxley (SOX) Act of 2002 . This new act has led public companies to strengthen their internal controls and to better inform financial statement users of their effectiveness in producing accurate financial statements and preventing fraud. 6.3 THE COMPONENTS OF INTERNAL CONTROL INTERNAL CONTROL AND CASH 6 A business can achieve its internal control objectives by applying five components. ● Monitoring of controls ● Information system ● Control procedures ● Control Environment ● Risk assessment International Financial Accounting CHAPTER 6: INTERNAL CONTROL AND CASH MA. Nguyen Quoc Nhat- nhatnq.faa@gmail.com 2 6.3 THE COMPONENTS OF INTERNAL CONTROL INTERNAL CONTROL AND CASH 7 Monitoring of Controls Companies hire auditors to monitor their controls. Internal auditors are employees of the business who ensure that the company’s employees are following company, policies and that operations are running efficiently. Internal auditors also determine whether the company is following legal requirements to monitor internal controls to safeguard assets. 6.3 THE COMPONENTS OF INTERNAL CONTROL INTERNAL CONTROL AND CASH 8 Information System As we have seen, the information system is critical. Controls must be in place within the information system to ensure that only authorized users have access to various parts of the accounting information system. Additionally, controls must be in place to insure adequate approvals for recorded transactions are in place. The decision makers need accurate information to keep track of assets and measure profits and losses. 6.3 THE COMPONENTS OF INTERNAL CONTROL INTERNAL CONTROL AND CASH 9 Control Procedures Control procedures are designed to ensure that the business’s goals are achieved. 6.3 THE COMPONENTS OF INTERNAL CONTROL INTERNAL CONTROL AND CASH 10 Control Environment The control environment is the “tone at the top” of the business. It starts with the owner or CEO and the top managers. They must behave honorably to set a good example for company employees. Each must demonstrate the importance of internal controls if he or she expects the employees to take the controls seriously 6.3 THE COMPONENTS OF INTERNAL CONTROL INTERNAL CONTROL AND CASH 11 Risk Assessment A company must identify its risks. For example, Kraft Foods faces the risk that its food products may harm people, American Airlines planes may crash, and all companies face the risk of bankruptcy. Companies facing difficulties might be tempted to falsify the financial statements to make themselves look better than they really are. As part of the internal control system, the company’s business risk must be assessed. The higher the risk, the more controls must be in place to safeguard the company’s assets. 6.4 INTERNAL CONTROLS FOR E-COMMERCE INTERNAL CONTROL AND CASH 12 Whether the business is Smart Touch, Microsoft, all companies need the following internal control procedures: - Competent, Reliable, and Ethical Personnel - Assignment of Responsibilities International Financial Accounting CHAPTER 6: INTERNAL CONTROL AND CASH MA. Nguyen Quoc Nhat- nhatnq.faa@gmail.com 3 6.4 INTERNAL CONTROLS FOR E-COMMERCE INTERNAL CONTROL AND CASH 13 Competent, Reliable, and Ethical Personnel Employees should be competent, reliable, and ethical. Paying good salaries will attract high-quality employees. Employees should also be trained to do the job and their work should be adequately supervised. 6.4 INTERNAL CONTROLS FOR E-COMMERCE INTERNAL CONTROL AND CASH 14 Assignment of Responsibilities In a business with good internal controls, no duty is overlooked. Each employee has certain responsibilities. At Smart Touch, Sheena Bright is the president. Suppose she writes the checks in order to control cash payments. She lets Andrew, her brother, do the accounting. In a large company, the person in charge of writing checks is called the treasurer. The chief accounting officer is called the controller. 6.4 INTERNAL CONTROLS FOR E-COMMERCE INTERNAL CONTROL AND CASH 15 Smart management divides responsibility between two or more people. Separation of duties limits fraud and promotes the accuracy of the accounting records. Separation of duties can be divided into two parts: - Separate operations from accounting. - Separate the custody of assets from accounting. 6.4 INTERNAL CONTROLS FOR E-COMMERCE INTERNAL CONTROL AND CASH 16 1. Separate operations from accounting. Accounting should be completely separate from the perating departments, such as production and sales. What would happen if sales personnel recorded the company’s revenue? Sales figures could be inflated, and then top managers would not know how much the company actually sold. 6.4 INTERNAL CONTROLS FOR E-COMMERCE INTERNAL CONTROL AND CASH 17 2. Separate the custody of assets from accounting. Accountants must not handle cash, and ashiers must not have access to the accounting records. If one employee has both duties, the employee could steal cash and conceal the theft in the accounting records. The treasurer of a company handles cash, and the controller accounts for the cash. 6.5 THE BANK ACCOUNT AS A CONTROL DEVICE INTERNAL CONTROL AND CASH 18 Cash is the most liquid asset because it is the medium of exchange. Cash is easy to conceal and elatively easy to steal. As a result, most businesses create specific controls for cash. International Financial Accounting CHAPTER 6: INTERNAL CONTROL AND CASH MA. Nguyen Quoc Nhat- nhatnq.faa@gmail.com 4 6.5 THE BANK ACCOUNT AS A CONTROL DEVICE INTERNAL CONTROL AND CASH 19 Keeping cash in a bank account helps control cash because banks have established practices for afeguarding customers’ money. The controls of a bank account include the following: ● Signature card ● Deposit ticket ● Check ● Bank statement ● Electronic funds transfers ● Bank reconciliation 6.5 THE BANK ACCOUNT AS A CONTROL DEVICE INTERNAL CONTROL AND CASH 20 Signature Card Banks require each person authorized to sign on an account to provide a signature card. The signature card shows each authorized person’s signature. This helps protect against forgery. 6.5 THE BANK ACCOUNT AS A CONTROL DEVICE INTERNAL CONTROL AND CASH 21 Deposit Ticket Banks supply standard forms such as deposit tickets. Completed by the customer,the deposit ticket shows the amount of each deposit. As proof of the transaction, the customer keeps a deposit receipt. 6.5 THE BANK ACCOUNT AS A CONTROL DEVICE INTERNAL CONTROL AND CASH 22 Check To pay cash, the depositor writes a check, which is a written, pre-numbered document that tells the bank to pay the designated party a specified amount. There are three parties to a check: ● The maker, who signs the check ● The payee, to whom the check is paid ● The bank, on which the check is drawn 6.5 THE BANK ACCOUNT AS A CONTROL DEVICE INTERNAL CONTROL AND CASH 23 Bank Statement Banks send monthly statements to customers. A bank statement reports what the bank did with the customer’s cash. The statement shows the account’s beginning and ending balances, cash receipts, and payments. 6.5 THE BANK ACCOUNT AS A CONTROL DEVICE INTERNAL CONTROL AND CASH 24 Electronic Funds Transfer Electronic funds transfer (EFT) moves cash by electronic communication. It is cheaper to pay without having to mail a check, so many people pay their mortgage, rent, and insurance by EFT. International Financial Accounting CHAPTER 6: INTERNAL CONTROL AND CASH MA. Nguyen Quoc Nhat- nhatnq.faa@gmail.com 5 6.5 THE BANK ACCOUNT AS A CONTROL DEVICE INTERNAL CONTROL AND CASH 25 Bank Reconciliation Preparing a bank reconciliation is considered a control over cash. The bank reconciliation reconciles on a specific date the differences between cash on the company’s books and cash according to the bank’s records. The preparation of the bank reconciliation is discussed in detail in the following section. 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 26 There are two records of a business’s cash: 1. The Cash account in the company’s general ledger. Exhibit 6-1 shows that Smart Touch’s ending cash balance is $21,000. Prepare a bank reconciliation and journalize the related entries 2. The bank statement, which shows the cash receipts and payments transacted through the bank. In Exhibit 6-2, however, the bank shows an ending balance of $14,070 for Smart Touch. 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 27 The books and the bank statement usually show different cash balances. Differences arise because of a time lag in recording transactions, called timing differences. Three examples of timing differences follow: ● When a business writes a check, it immediately deducts the amount in its checkbook. But the bank does not subtract the check from the company’s account until the bank pays the check a few days later. 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 28 ● Likewise, a company immediately adds the cash receipt for all its deposits. But it may take a day or two for the bank to add deposits to the company’s balance. ● EFT payments and cash receipts are often recorded by the bank before a company learns of them. (We will discuss this in more detail later.) EFT 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 29 Preparing the Bank Reconciliation Here are the items that appear on a bank reconciliation. They all cause differences between the bank balance and the book balance. 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 30 Bank Side of the Reconciliation The bank side contains items not yet recorded by the bank, but recorded by the company or errors made by the bank. These items include the following: 1. Deposits in transit 2. Outstanding checks. 3. Bank errors. International Financial Accounting CHAPTER 6: INTERNAL CONTROL AND CASH MA. Nguyen Quoc Nhat- nhatnq.faa@gmail.com 6 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 31 1. Deposits in transit (outstanding deposits). These deposits have been recorded and have already been added to the company’s book balance, but the bank has not yet recorded them. Deposits in transit are deposits the company made that haven’t yet cleared the bank. These are shown as “Add deposits in transit” on the bank side because when the bank does record these deposits, it will increase the bank balance. 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 32 2. Outstanding checks. These checks have been recorded and have already been deducted from the company’s book balance, but the bank has not yet paid (deducted) them. Outstanding checks are checks the company wrote that haven’t yet cleared the bank. They are shown as “Less outstanding checks” on the bank side because when the bank does record the checks, it will decrease the bank balance. 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 33 3. Bank errors. Bank errors are posting errors made by the bank that either incorrectly increase or decrease the bank balance. All bank errors are corrected on the Bank side of the reconciliation. 6.6 THE BANK RECONCILIATION INTERNAL CONTROL AND CASH 34 Book Side of the Reconciliation The book side contains items not yet recorded by the company on its books but that are recorded by the bank, or errors made by the company. Items to show on the Book side include the following: 1. Bank collections. 2. 2. Electronic funds transfers. 3. Service charge. 4. Interest revenue on a checking account. 5. Nonsufficient funds (NSF) checks. 6. The cost of printed checks. 7. Book errors. w w w.them egallery.com C om pany Logo JOURNALIZE THE ENTRY w w w.them egallery.com C om pany Logo International Financial Accounting CHAPTER 6: INTERNAL CONTROL AND CASH MA. Nguyen Quoc Nhat- nhatnq.faa@gmail.com 7 6.7 INTERNAL CONTROL OVER CASH RECEIPTS INTERNAL CONTROL AND CASH 37 Cash Receipts over the Counter The point-of-sale terminal (cash register) provides control over the cash receipts. Consider a Target store. For each transaction, Target issues a receipt to ensure that each sale is recorded. The cash drawer opens when the clerk enters a transaction, and the machine (cash register) records it. At the end of the day, a manager proves the cash by comparing the cash in the drawer against the machine’s record of sales. This step helps prevent theft by the clerk. At the end of the day—or several times a day if business is brisk— the cashierdeposits the cash in the bank. The machine tape then goes to the accounting department to record the journal entry to record cash receipts and sales revenue. These measures, coupled with oversight by a manager, discourage theft. 6.7 INTERNAL CONTROL OVER CASH RECEIPTS INTERNAL CONTROL AND CASH 38 Cash Receipts by Mail Many companies receive cash by mail. All incoming mail is opened by a mailroom employee. The mailroom then sends all customer checks to the treasurer, who has the cashier deposit the money in the bank. The remittance advices go to the accounting department for journal entries to Cash and customer accounts. As a final control, the controller compares the following records for the day. 6.8 INTERNAL CONTROL OVER CASH PAYMENTS INTERNAL CONTROL AND CASH 39 Controls over Payment by Check As we have seen, companies need a good separation of duties between operations and writing checks for cash payments. Payment by check is an important internal control for the following reasons: ● The check provides a record of the payment. ● The check must be signed by an authorized official. ● Before signing the check, the official reviews the invoice or other evidence supporting the payment. 6.8 INTERNAL CONTROL OVER CASH PAYMENTS INTERNAL CONTROL AND CASH 40 Controls over Purchase and Payment To illustrate the internal control over cash payments by check, suppose Smart Touch buys its inventory from Sony. The purchasing and payment process follows these steps STEP 1: Smart Touch e-mails a purchase order to Sony that states, “Please send us 1,000 DVD-Rs.” STEP 2: Sony ships the goods and e-mails an invoice back to Smart Touch. STEP 3: Smart Touch receives the inventory and prepares a receiving report. STEP 4: After approving all documents, Smart Touch sends a check to Sony. 6.8 INTERNAL CONTROL OVER CASH PAYMENTS INTERNAL CONTROL AND CASH 41 Controlling Small Cash Payments It is not cost-effective to write a check for a taxi fare. To meet these needs, companies keep cash on hand to pay small amounts. This fund is called petty cash and is discussed in detail in the next section. 6.9 THE PETTY CASH FUND INTERNAL CONTROL AND CASH 42 We have already established that cash is the most liquid of assets. Petty cash is more liquid than cash in the bank because none of the bank controls are in place. Therefore, petty cash needs controls such as the following: International Financial Accounting CHAPTER 6: INTERNAL CONTROL AND CASH MA. Nguyen Quoc Nhat- nhatnq.faa@gmail.com 8 6.9 THE PETTY CASH FUND INTERNAL CONTROL AND CASH 43 ● Designate a custodian of the petty cash fund. The custodian is the individual assigned responsibility for the petty cash fund. ● Designate a specific amount of cash to be kept in the petty cash fund. ● Support all petty cash fund payments with a petty cash ticket. These tickets are sequentially numbered. The petty cash ticket serves as an authorization voucher 6.10 ETHICS AND ACCOUNTING INTERNAL CONTROL AND CASH 44 Corporate and Professional Codes of Ethics Corporate and Professional Codes of Ethics Most companies have a code of ethics to encourage employees to behave ethically. But codes of ethics are not enough by themselves. As professionals, accountants are expected to maintain higher standards than society in general 6.10 ETHICS AND ACCOUNTING INTERNAL CONTROL AND CASH 45 Ethical Issues in Accounting In many situations, the ethical choice is obvious. For example, stealing cash is both unethical and illegal. In other cases, the choices are more difficult.