Chapter 7 powerpoint Flashcards
Fraud
A dishonest act by an employee that results in personal benefit to the employee at a cost to the employer
Fraud triangle
Opportunity
Pressure
Rationalization
Opportunity
Lack of sufficient controls, inadequate employee monitoring, a belief that they will not be caught
Pressure
Employee has debt or a desire to lead to a lifestyle they cannot afford
Rationalization
Justification by the employee as to why they commited fraud
ex. deserve more
SOX - internal controls
All publicly traded corporations are required to maintian adequate internal control
Requires disclosure of material weakness
Material Weakness
A significant deficiency or combination of significant deficiencies, that results in more than a remote liklihood that a material misstatement of the annual or interim financial statements will not be prevented or detected
*will we catch a deficiency
Purpose of Internal Control
Safeguard Assets
Ensure Compliance with Laws and Regulations
Increase Financial Statement Reliability
Increase Operational Efficiency
Primary Components of Internal Control System
Control Environment
Risk Assesment
Control Activities
Information & Communication
Monitoring
Control Environment
“Tone at the top”
Management’s message to the employees that the organization values integrity and will not tolerate unethical activity
Risk Assesment
Consists in two places:
- Identification and analysis of potential sources of risk for the company
- Strategic management of those risks
Control Activities
Polices and procedures designed and implemented by management to address specific risks identified in the risk assesment phase
Information and Communication
Internal control system should do two systems:
- Capture pertinent information for employees at all levels of the company
- Communicate this information to approriate parties
Monitoring
Employees and the internal control system should be continually monitored to asses its adequacy and any significant deficiencies should be communicated to management
6 principles of Control Activities
Establishment of Responsibility
Segregation of duties
Documentation procedures
Physical Controls
Idependent Internal Verification
Human Resource Controls
Establishment of Responsibility
Assign responsibility to specific employees
Most effective when only one person is responsibile for a given task
Segregation of Duties
Different individuals are responsibile for related activities
ex. one person orders goods, another approves, another pays
Responsibility for record-keeping of an asset should be seperate from physical control of the asset
Documentation procedures
Provide evidence that transactions & events have occurred
*prenumbered documents to ensure all accounted for
* Promptly forward source documents for accounting department to ensure timely recording of transaction
Physical Controls
The safeguarding of assets, enhancement of accuracy and reliability of accounting records
Independent Internal Verification
Review records and transactions periodically or on a surprise basis
Employee that reviews should be indepndent of personnel responsible for the information *internal auditor*
Discrepancies should be reported to management
Human Resource Controls
Bonding Employees: Insurance protetion against theft by employees
Employee Rotations/required vacations: Deters employees because not able to permanently conceal theft, fraud, etc.
Background checks
Limitations of Internal Control
Reasonable Assurance (Not total) - Costs should not exceed Benefits
Human element - employee fatigue or carelessness or Mistakes
- collusion
Size of the Business: Usually a larger company will have internal auditors
Collusion
Two or more individuals who work together to get around prescribed controls
The asset most suceptible to fraudulent activities
CASH
Nontimely deposit of cash receipts
Physical controls
Excessive past due accounts receivable
Establishment of responsibility
Disregard of advantages offered by vendors for prompt payment of invoice
Establishment of responsibility
Absence of segregation of duties
Segregation of duties
Inadequate procedures for applying accounting principles
Documentation procedures
Lack of qualified management personel
Establishment of responsibility
Lack of supervision by outside board of directors
Establishment of responsibility
Independent internal verification
Overall poor record keeping
Documentation procedure
Checks are not prenumberd
Documentation procedures
The purchasing agent signs checks
Establishment of responsibility
Unissued checks are stored in unlocked file cabinet
Physical controls
Purchasing agent approves and pays for goods purchased
segregation of duties
After payment, the invoice is filed
Documentation procedures
The purchasing agent records payments in cash disbursements journal
Segregation of duties
The treasurer records the checks in cash disbusements journal
segregation of duties
The treasurer reconciles the bank statement
Independent internal verification
Debit Memorandum
Bank service Charge
NSF (Not sufficient Funds)
Credit Memorandum
Collect Notes Receivable
Interest Earned
Deposits in Transit
Deposits recorded by the depositor that have not been recorded by the bank
Outstanding Checks
Checks issued and recorded by the company that have not been paid by the bank
NSF check
A check that is not paid by the bank because of insufficient funds in the customer’s bank account
Adjusted Balance
Same as true cash balance, correct cash balance
Who performs bank reconciliations?
Employee who is responsible for NON-cash related activities
Reasons for bank reconciliations
Value as a Control
Time Lags
Errors
Always start with outstanding items on the _________________ bank reconcilatioin
previous
Neither record________________________
is 100% complete in all respects, neither bank nor company
Adjustments to bank balance
+ Deposits in Transit
- Outstanding Checks
+/- bank errors
Adjustments to the book balance
+ notes collected by banks
- NSF (bounced) checks
- Check Printing or other service charges
+/- Book errors
Electronic Funds Transfer (EFT)
Disbursement systems that use wire, telephone, or computers to transfer cash from one location to another
Better internal control because no cash or checks handled by employees
Cash is:
Recorded in both balance sheet and statement of cash flows
Most liquid asset, so reported first on balance sheet
The balance sheet shows the amount of cash available at a given point in time
The statement of cash flows shows the sources and uses of cash during a period of time
Cash Equivalents are:
Readily convertible to known amounts of cash
So near maturity that their value is relatively insensitive to interest rate changes
Examples: treasury bills, commercial paper, and money market funds
Restricted Cash
Cash that is not available for general use
Set aside for special purpose
Reported spereately on balance sheet
IF not to be used within next year, report as noncurrent asset on the balance sheet
Objective of Managing Cash
Ensure that the company has sufficient cash to meet payments, yet
Minimize the amount of idle cash on hand
Basic Principles of Cash Management
Increase the Speed of Receivables Collection
Keep Inventory Levels Low
monitor Payment of Liabilities
Plan Timing of Major Expenditures
Invest Idle Cash
Increase Speed of Receivables collection
Offer 2/10 discount instead of only N/30
Keep inventory levels low
Remember just-in-time inventory
Monitor payment of liabilities
Pay at the end of allowed period (without being late)
Invest idle cash
Liquid investment: Someone always willing to buy or sell the investment
Risk-free investment: No concern that the party will default on its promise to pay the principal and interest
Cash Budget
Cash is vital
Planning the company’s cash needs is a key business activity
Shows anticipated cash flows, usually for a one to two year period
Contributes to more effective cash management
Where we classify restricted cash impacts:
Liquidity analysis:
Working capital
Current ratio
Prpoer completion of the bank reconciliation affects
liquidity analysis
solvency analysis
Internal Controls effect
Affects: Auditor’s report, thus shares prices
Profitability and Productivity
Market as a whole - if a graud were to occur due to a lack of internal controls it could cause a ripple effect in the stock market
