Financial Accounting - Chapter 4
Internal Controls and Cash
ACC 231 – USES OF ACCOUNTING
INFORMATION
FALL 2020
Professor – Don Frost
Basic Definition of Fraud
U of dece or trick (intentional
of fac ) for personal gain.
•D for the purpose of persuading an
to act in a way
•C inj or damage
I the busin world, fraud either
by or or
against or .
O of faste gr crimes in the U.S.
ID leads to financ frau quite of .
ACC 231 - Fall 2020 (FA 4) 2
Common Types of Fraud
F financial r
C by managers
F a misl jo entries
D investors and cr
M of assets
C by employees
T of money or inventory
B and kickbac schemes
O exp r
ACC 231 - Fall 2020 (FA 4) 3
Management Fraud
T managemen overstates e by:
ACC 231 - Fall 2020 (FA 4) 4
Overstating
revenue
Overstating
revenue
•Overstating
receivables
•Understating
unearned
revenue
•O
•U
Understating
expenses
Understating
expenses
•Overstating
value of assets
•Understating
liabilities
•O
of assets
•U
Sometimes referred to as “Cooking the
Books”
Employee Embezzlement
S cash and
E co and inte paym
E in dis schem :
C tamp
E. . - the employee writes a fak check and ma the
pay to him- or hersel
C r
E. . - the employee gives a false r for r
by filli out a r fo putting it in
cash r . T employee then pock the cash.
E
E. . - the employee overbills the company for travel, or
business-re exp .
ACC 231 - Fall 2020 (FA 4) 5
Bribes and Kickbacks
From suppliers
F ignoring higher pu prices cha to
F ignoring delivery of inferior goods
F authorizing payment for goods never
F customers
F granting a lower sal price
F giving goods and for which
is never paid
ACC 231 - Fall 2020 (FA 4) 6
Fraud Triangle
ACC 231 - Fall 2020 (FA 4) 7
Perceived
Opportunity Rationalization
Motive/Perceived
Pressure
Motive/Perceived Pressure
F r :
G
A
G
L & Dru
P cr rating or money mana
W r :
D with
O for pr
S “ ”
ACC 231 - Fall 2020 (FA 4) 8
Rationalization
E who commit fraud
“I pay it back.”
“I a .”
“M boss is a jerk - I’m only
him/her.”
“I ’s for a good purpose.”
ACC 231 - Fall 2020 (FA 4) 9
Perceived Opportunity
E acces to assets assets
for
P that an opportunity ex to
the fraud, con it, a
Businesses have most influence over this
element of fraud triangle
C be r thr a good system of
ACC 231 - Fall 2020 (FA 4) 10
Sample Exercise
E F T Element
Job Dissatisfaction
Greed
“It’s for a good purpose”
Weak Internal Control
Gambling Addiction
ACC 231 - Fall 2020 (FA 4) 11
A Very Real Problem - Recent Fraud
Statistics
A study b the Ass of Certified F
E :
A business losses 5% of r to f annually.
G , t is m t $3.5 .
T Median fraud loss (the one the middle) is $140,000.
O 20% frau cases los of $1 m or m .
Most common (about 87%) of frauds are “asset
misappropriation schemes.” Includes employee theft,
corruption and embezzlement of cash or other property.
F Stateme F (“cooking the ”) amounte to
8% cases had the gr financial
of appr $1 million.
F is a significant threat to small business – they have t
median loss . These firms of lack adequate
contr (e.g. separation of duties).
M perpetrators (about 85%) first-time off .
ACC 231 - Fall 2020 (FA 4) 12
Internal Controls
P way a company can a) pr
, b) dete fraud and c) cor
E fr a compa ’s statement r
contr
ACC 231 - Fall 2020 (FA 4) 13
Internal Control - Objectives
ACC 231 - Fall 2020 (FA 4) 14
S
E
to
O
&
E
E
laws and
Details – The Elements of
Internal Control
4-15
Control
Environment
Risk
Assessment
Information &
Communicatio
ns
•T at the top
•C o ethics
•I business risks
•E procedure to deal with risks
•M by which accounting info en
exits
•A track asset , profits, &
ACC 231 - Fall 2020 (FA 4)
Details – The Elements of Internal Control (Contd.)
ACC 231 - Fall 2020 (FA 4) 4-16
Control
Activities/
Procedures
Monitoring of
Controls
•M by which companie gain
to t 5 objectives of internal
•U programmed technology
•I and extern auditors
Control Environment
Foundation for all other components
of internal control
R managem & staff
F include:
L ph an operating style
C of employees
I and of compan
O of the company
ACC 231 - Fall 2020 (FA 4) 17
Staffing Issues
S H and Employment
P
B checks
V educat
T and supervision
C
C employee
E behavior
ACC 231 - Fall 2020 (FA 4) 18
Ethical Behavior
Develop written code of ethics
D written of e
Communicate code to all members
C to members
Ensure top management models ethical
behavior
Ensure top management models ethical
behavior
Establish method to report violations
anonymously
E me to violations
Enforce ethics code – not just lip service (e.g.
ENRON)
E co – just service ( . .
ENRON)
ACC 231 - Fall 2020 (FA 4) 19
From
Enron’s
Code
of
Ethics
To:
All
emplovees
From:
Ken
Lav
Department:
Office
of
the
chairman
Subject:
Code
of
Ethics
Date:
July
1,
2000
As
officers
and
employees
of
Enron
Corp,
its
subsidiaries,
and
its
affiliated
companies
(“Enron"
of
collectively
the
"Company"),
we
are
responsible
for
conducting
the
business
affairs
of
the
Company
in
accordance
with
all
applicable
laws
and
in
a
moral
and
honest
manner.
To
make
certain
that
we
understand
what
is
expected
of
us,
Enron
has
adopted
certain
policies,
with
the
approval
of
the
board
of
directors,
all
of
which
are
set
forth in the
enclosed
booklet,
revised
July
2000.
Please
note
that
Enron
has
added
the
principles
of
human
nghts:
provided
further
descnption
of
our
business
ethics
policy
with
respect
to
our
legal
contracts.
the
selection
of
outside
counsel,
and
the
making
of
disparaging
remarks,
oral
or
written,
about
Enron
by
employees:
provided
further
clanfication
of
Enron's
policy
with
respect
to
confidential
information
and
trade
secrets:
decreased
the
number
of
days
passwords
are
valid
under
Enron's
communication
services
and
equipment
policy:
provided
additional
information
with
respect
to
the
crumuinal
penalties
and
crvil
fines
assessed
by
the
US
government
under
the
Foreign
Cornpt
Practices
Act:
and
clarified
Enron's
policy
with
respect
to conflicts
of
interests,
investments
and
outside
business
interests
of
employees.
The
Code
of
Ethics
contains
commonsense
rules
of
conduct
with
which
the
great
majority
of
Enron
employees
routinely
conform.
However,
I
ask
that
you
read
them
carefully
and
completely
and
that,
as
you
do,
you
reflect
on
your
past
actions
to
make
certain
that
you
have
complied
with
the
policies.
It
is
absolutely
essential that
you
fully
comply
with
these
policies
in
the
future.
If
you
have
any
questions,
talk
them
over
with
your
supervisor,
manager
or
Enron
legal
counsel.
20
Risk Assessment
I and e sour
I risks
A ongoing
A risks
T r risks
ACC 231 - Fall 2020 (FA 4) 21
Control Activities/Procedures (1 of 2)
T elements
Policies – shou be done
Procedures – actions implement policies
E :
W job descriptions
Separation of duties
A transactions
M custod of assets
K accounting r
P
M
ACC 231 - Fall 2020 (FA 4) 22
Control Activities/Procedures (2 of 2)
E (continued):
R access – based on job title descrip of
S
S cameras
A system
P r
P authorization
T barr without pr autho
L of auth co with pos
P and encryption
A documents and
C and maintain an “ tr ”
ACC 231 - Fall 2020 (FA 4) 23
Information and Communication
I contr
must be
to all
of the
M
is critic
W the walk, not
talk t talk
A systems
be car
a
to
contr
. ACC 231 - Fall 2020 (FA 4) 24
Monitoring
N syste is perfect – a “t
” fr time to time. M tools
:
U of operating and budgets
V analysis
E r
L for or une anomalies
A
I audi department
E or Indep Auditors
ACC 231 - Fall 2020 (FA 4) 25
Audits
E of company’s financial
and accounting syst
Internal audits
C by company’s employees
V comp with com policies & proc .
•M be outsourced to a CPA (on other than firm's
)
External audits
P by Certified P Accountants (CPA )
I the cor of such audits
O is issuance of an
A audit is NOT guarantee that the financial statements
“perfect”
• specificall designed to internal fraud.
ACC 231 - Fall 2020 (FA 4) 26
Audit Opinions
T of opinion R su o I o opinion
Unqualified
(Clean)
•Financial statements fairly
presented
•Free from material
misstatements
•Prepared in accordance with
GAAP
•Best type of opinion
•Users can rely upon financial
statements
Qualified (Except
for)
•Auditors do not agree with a
specific accounting application
OR
•Auditors unable to gather all the
information necessary OR
•Auditors unable to determine
outcome of an uncertainty
•Opinion report includes
separate paragraph explaining
the qualification
•Helps users make more
informed decisions about the
company
•Brings attention to situation that
may affect users’ decisions
ACC 231 - Fall 2020 (FA 4) 27
Audit Opinions
T of
R sup op I o opinion
Adverse •Financial statements not fairly
presented OR
•Material misstatements in financial
statements
•Opinion report has explanatory
paragraph
•Very detrimental to company
•Informs users financial
statements cannot be relied
upon
Disclaimer Auditors unable to express opinion on
financial statements because of:
•Lack of auditor independence
•Inability to obtain evidence
•Going concern issues
•Material uncertainties
Users must give considerable
thought to investing
ACC 231 - Fall 2020 (FA 4) 28
Internal Control Limitations
Employee mistakes and poor judgment
Employee mistakes and poor judgment
Controls poorly designed
Controls poorly designed
Small staff size does not allow for segregation of
duties
Small staff size does not allow for segregation of
duties
Collusion
Collusion
Management can override controls
Management can override controls
Cost of implementing controls exceeds benefits
Cost of implementing controls exceeds benefits
ACC 231 - Fall 2020 (FA 4) 2
9
Certain Specific Issues
Pertaining to Cash Sales
and Payments
ACC 231 - Fall 2020 (FA 4) 30
Introduction - Cash
A you know, we use accrual accounting mor
r , measur , r , and r
transactions.
A accountin recognizes revenue when is earned and
w are incur .
T , it m tak some time to th cash from sales o to
cas for expenses incurr (AJEs).
M pr cash ar different of timing.
T be successful in business, however, in addition t
a pr , you need t be able to the bills
come due.
T is an old ada in b : “C i King.”
T incr sales and income, a business may need
accept a for it pr .
E , sho lea to a increase in cash to .
31ACC 231 - Fall 2020 (FA 4)
Cash Sales
M des as cash r
N need to k r of individual
H , may limit s by not
option to pay later
C you think of a business th
?
ACC 231 - Fall 2020 (FA 4) 32
Recognize this place?
P one of the best-known
ASU students is the “cash
” Chuck Bo in T .
33
ACC 231 - Fall 2020 (FA 4)
Internal Control over Cash Receipts
C over cash ar vital!
C is to steal.
C is fu ( .g., $5 bill works anothe
$5 ).
A transa ultimately aff cash
R this to a and defe
C r should be d
T quick cash is the Bank, the less lik
will happ to it than on the business
.
ACC 231 - Fall 2020 (FA 4) 34
Cash Receipts over the
Counter
C r (o a point- - or
POS ) pr contr over ca
C r a as pr of
S associate tur in cash drawer at
of shif
C with other cash and deposited
T is usually of the T .
Accounting department
per ter to cash in drawer
ACC 231 - Fall 2020 (FA 4) 35
Cash Receipts by Mail
ACC 231 - Fall 2020 (FA 4) 36
Mailroom
M
Checks
Remittanc
e advices
R
advices
Accounting
Department
Accounting
Department
Treasurer
Treasurer
Debit to
Cash
Debit to
Cash
D
Bank
Bank
Controller
Controller
N the segr of duties between
T and A .
A does not handle the funds –
is the T .
Controls Over Cash Payments by Check
P by che i co
P r of the payme
M b sign by an official
R the levels au
S o duties
•I p should be
same ind ver
ther .
S be sup payment
E. . – i , stat
EFT (“ ch ”) follow
r .
ACC 231 - Fall 2020 (FA 4) 37
Banking Relationships
V business maint
or mor ba accounts.
D used in connection with
bank a include:
S car
D t
C
Bank Statement
Bank Reconciliation
ACC 231 - Fall 2020 (FA 4) 38
The Bank Statement
S to customer by bank, usually monthly.
W e-banking, customer can access sim data
fr if n .
R ’s cash activity (inflows and
) for the period cover by the
.
M be an even month some other period – e.g.
A 7 – May 6
S beginning and ending balances, cash
and payments.
F pr of the bank
.
ACC 231 - Fall 2020 (FA 4) 39
Sam-ple Bank State-
ment
ACC 231 - Fall 2020 (FA 4) 40
The Bank Reconciliation
V inter contr ele
A tool used by most companies
C similar to an indivi “balancing his/he
”
E /r any
/differ between:
C balance accor to the statement,
…
C balance accor to the company’s records
R can g Bank B , Book
B , r should be the .
M variances ar the r of differ .
ACC 231 - Fall 2020 (FA 4) 41
Bank Reconciliation Format
B Side B Side
Balance per bank
statement
Balance per ledger
Add: Add:
Deposits in transit Bank collections
Bank errors Electronic funds transfers
Interest revenue
Less: Less:
Outstanding checks Electronic funds transfers
Bank errors NSF checks
Service charges
= Adjusted cash balance = Adjusted cash balance
ACC 231 - Fall 2020 (FA 4) 42
Typical Bank Reconciliation Entries
ACC 231 - Fall 2020 (FA 4) 43
GENERAL JOURNAL
Date Accounts Debit Credit
Cash $XXXX
Notes receivable $XXX
Interest revenue $XXX
Record note and interest collected by
bank
Cash $YYYY
Accounts receivable $YYYY
Record EFT of customer payment
Typical Bank Reconciliation Entries
(Contd.)
ACC 231 - Fall 2020 (FA 4) 44
GENERAL JOURNAL
Date Accounts Debit Credit
Miscellaneous expense $ZZ
Cash $ZZ
Record bank service charges
Accounts receivable $ QQ
Cash $ QQ
Record NSF check returned by bank
BANK BOOKS
B , January
31
$1,010 B , January
31
(c)
A : A :
D in 650 B collection 425
I r 80
(a) (d)
L : L :
O checks (b) S char 90
A cash
$1,210 A cash
$1,210
Bank Reconciliation – Solve For Missing
Data
ACC 231 - Fall 2020 (FA 4) 45
Bank Reconciliation Summary
46
ACC 231 - Fall 2020 (FA 4)
T to get a bi mor . Let’s
at the Chap 4 Classr A .
Electronic or Online Banking
O analysis s far has assume a bank r is
m r of the bank state
( of a paper state ).
W Online Banking, a company doesn’t h to wait until
end of the to a bank statemen .
T account history is lik bank statement because it lists all
inclu , check , EFT and
, ATM , fees, char and interest ear on
bank balance.
H , cert items may no posted the b until t end
n statement p . T , u the r in lieu
actu statement can impo data.
T account history be used in lieu a bank
to r the bank account at any time.
T , some companies ar conducti the r pr
fr than monthly. T e timetable varies by the
, nature and needs of the business.
ACC 231 - Fall 2020 (FA 4) 47
Cash and Cash Equivalents
Ca$h :
C , cur , checks on hand, accounts
C is th first asset list because ’s the most liq .
C equivalents include:
V liquid and safe s -ter investme , gen with
maturities of thr months or less.
T deposits, money mark accoun , CDs and U.S.
T bills and note .
C disclosur policies will be in th footnotes to
financial stateme .
B of have several bank accounts, but
of combine all cash am into a single
. On the sheet, this total may be calle
C , or it may called Cash and Cash Equivalents.
ACC 231 - Fall 2020 (FA 4) 48
CONSOLIDATED
BALANCE
SHEETS
(Dollar
amounts
in
thousands)
Assets
Current
assets:
Cash
and
cash
equivalents
Notes
receivable
Accounts
receivable,
less
allowances
of
$7,570
at
2017
and
$7,290
at
2016
Inventories:
Finished
goods
Work
in
process
Raw
materials
and
supplies
371,684
$
13,753
428,060
365,672
31,000
115,085
504,423
7,485
409,913
338,887
29,922
101,342
Total
inventories
Other
current
assets
511,757
63,063
470,151
28,546
Total
current
assets
1,388,317
1,420,518
Cash
and
cash
equivalents
-The
Company
considers
highly
liquid
investments
with
an
original
maturity
of
three
months
or
less
to
be
cash
equivalents.
<<
COOPERTIRES
Balance Sheet Extract – Cash Disclosure
ACC 231 - Fall 2020 (FA 4) 49
