ACCT 101 – Fundamentals of Accounting
Chapter 6 – Cash and
Internal Controls
Where
we have been:
Where
we are going:
Some
General Comments about Cash:
Cash is a very important asset. You can’t do much
without it. It is the most liquid of all assets and investments, and
therefore tends to be one of the easiest assets to divert if certain
controls are not in place. The management of cash, and the ways in which we
bank have undergone a good deal of change lately, thanks mainly in part to
the increased use of technology. Although the ways in which we bank have
changed, many of the fundamental internal controls over cash have not. One
of the most important things you can learn in this class is how to properly
reconcile your checking account. This will be a major topic of this
chapter.
Internal
Controls – What are they?
Internal controls are procedures that must take place within a business to
help safeguard assets against theft and misappropriations or misuse. These
procedures should address an overall plan to safeguard all assets. It
should also address specific items like who handles cash, where the cash
goes, how it is recorded, and who and how it is reconciled, among a long
laundry list of other items.
Recent legislation has dramatically changed how internal controls are assessed. The Sarbanes-Oxley Act of 2002 (often referred to as "Sox") came about after heavily publicized scandals, such as Enron, WorldCom, and Tyco caused investors and creditors to lose millions -- if not billions - of dollars. It is one of the most important laws affecting publicly held companies in recent history. It highlighted the need to assess financial controls and report on such for all publicly traded companies. Since the act was enacted, fraud of theft have decreased dramatically and public accounting firms have been forced to spend lots of time assessing companies internal controls. This act even required companies and auditors to specifically report on the effectiveness of internal controls.
Objectives of internal controls: You can
read about these in your text. Some of the more important objectives
are to assure that the system protects assets, ensures reliable reporting,
promotes efficient operations, and urges adherence to company policies.
There are many important concepts discussed in your book related to internal
controls. Some of these include
1 Establishing responsibilities
2 Maintain adequate records
3 Insure assets and bond key employees
4 Separate the recordkeeping from the custody of the assets
5 Divide responsibility for related operations.
6 Apply technological controls.
7 Perform regular and independent reviews
You should READ and be familiar with these concepts
Cash: What is it? Cash and Cash equivalents are liquid assets that can be readily used to pay for obligations. Cash includes currency, coins, and amounts on deposit in bank accounts, and many savings accounts. Cash also includes items that are acceptable for deposit in these accounts, such as customer checks, certified checks, cashier's checks, and money orders. Cash Equivalents are short-term, highly liquid investments that are (1) readily convertible to cash and (2) sufficiently close to their due date so that the market value is not sensitive to interest rate changes.
Cash Management
Goals are to plan cash receipts to meet cash payments when due and to keep a minimum level of cash necessary to operate. Effective cash management includes the following:
Encourage collection of receivables
Delay payment of liabilities
Keep only necessary levels of assets.
Plan Expenditures
Invest Excess Cash
Contol of Cash Reciepts
Over the Counter - See graph on page 250
Cash Receipts through the mail - see graph on page 251.
Control of Cash Disbursements
Read about the voucher system
Read about Petty Cash
Banking Activities as Controls
Some
basic internal control safeguards
related to cash:
(There are many of these. The following are listed as an example of some of
them.)
·
All
payments should be made with checks
·
All cash
that comes in should be deposited immediately
·
Do not
write checks when cash is not available (sounds logical…but you wouldn’t
believe how many people disregard this one)
·
Personal
checks should be endorsed immediately
·
Signature
cards should be maintained and updated annually
·
Consideration should be given to requiring more than one signature on checks
·
Preprinted
deposit slips should be used
·
Checks
should be pre-numbered and all checks should be accounted for
·
Checks
should be placed in a locked cabinet with limited access
·
Cash should
be reconciled at least monthly
·
The
reconciliation process should be done by someone who does not record or
touch cash
·
In retail
establishments, cash drawers should be reconciled to the sales register tape
daily (as we will discuss later in the chapter)
Some basic documents that
are important in this chapter:
(Your book does a good job of explaining them.)
·
Signature
Cards
·
Deposit
Slips
·
Checks
·
Bank
Statements
You
should be familiar with the basic purposes and general appearance of all of
the above.
The most important thing
you will learn in this chapter: How to reconcile your cash account (i.e.
your checkbook) to the bank statement:
The
bank statement represents an independent (or second party) proof of your
cash activity. It is one of the most important things you can do to insure
the accuracy of your cash. A bank reconciliation is exactly what the name
implies…a bringing together (a reconciliation) of the two balances: YOURS
AND THE BANKS!
If
your cash balance exactly matched the bank’s cash balance, there would not
be any reason to reconcile the account. THIS RARELY (IF EVER) HAPPENS.
Most of the time, this is due to timing differences between you and the
bank. This does not necessarily mean that there are errors…just a lag in
time between when items get recorded. What you need to concern yourself
with are items that don’t match up between your records and the bank
records. You must go through a comparison process to highlight these items
as follows:
Steps in the bank
reconciliation process: Do the legwork first!
You
need your checkbook (or general ledger cash account if you are doing the
company’s books) and the bank statement:
·
Make sure
that any reconciling items (due to timing differences) from the previous
month have cleared. If they do, check them off. If not, circle them.
These items are still outstanding and must be carried forward to this
month’s reconciliation.
·
Compare the
deposits listed in your records to the deposits listed on bank statement.
Check off those that match. Circle those that don’t.
·
Compare the
checks listed in your checkbook to the checks that cleared the bank, via the
bank statement. Check off those that have cleared, and circle those that
don’t.
·
Compare any
debit or credit memos per the bank statement to your records. (Remember
that banks have their debits and credits backwards!) Circle any items that
don’t match.
·
Check out
any other items per your checkbook (or G/L) that have not been checked off.
The
circled amounts represent differences between you and the bank or
reconciling items. These must be placed in the appropriate place of the
bank reconciliation as described below:
Finding the differences is the time consuming part.
What you need to remember is where these differences go in the bank
reconciliation. I have found that students prefer a side-by-side
presentation as shown below:
Are
my books fixed?
Almost. You have performed the reconciliation. But, as you know from
previous chapters, the only way to get something formally into the
accounting records is to journalize a transaction. Now, we don’t care about
the bank side…these items are the bank’s problems and besides most of them
are timing differences that will go away next month. What we must adjust
for are any entries made on the right hand side or on the book side.
There are a lot of these listed throughout your text. Basically you need to
be familiar with the terms in this chapter. You should be very familiar
with the different types of reconciling items, such as:
·
Deposits in
Transit
·
Outstanding
Checks
·
NSF Checks
·
Promissory
Notes
·
Service
Charges
·
Debit Memos
·
Credit
Memos
You
should also be familiar with generic terms such as EFTs, ATMs, etc.
Ratio Analysis:
Days Sales Uncollected =
A/R
_____ X
365 Days = The average number of days it takes to collect an A/R. This
number should be
Net Sales
compared to the terms of the sale.