Financial Accounting, 5e (Spiceland)
Chapter 4 Cash and Internal Controls
1) Managers of the company act as stewards or caretakers of the company’s assets.
2) Common types of financial statement fraud include creating fictitious revenues from a fake
customer, improperly valuing assets, and mismatching revenues and expenses.
3) In response to corporate accounting scandals and to public outrage over seemingly widespread
unethical behavior of top executives, Congress passed the Sarbanes-Oxley Act.
4) The Sarbanes-Oxley Act is also known as Generally Accepted Accounting Principles.
5) The Public Company Accounting Oversight Board (PCAOB) has the authority to establish
standards dealing with auditing, quality control, ethics, independence, and other activities
relating to the preparation of audited financial reports.
6) Auditors of public companies can perform the full range of audit and nonaudit consulting
services for their audit clients.
7) Section 404 of the Sarbanes-Oxley Act requires that a company’s management document and
assess the effectiveness of all internal control processes that could affect financial reporting.
8) Internal control is a company’s plan to (1) improve the accuracy and reliability of accounting
information and (2) safeguard the company’s assets.
9) One benefit of internal control is greater reliance by investors on reported financial
statements.
10) A framework for designing an internal control system is provided by the Financial
Accounting Standards Board (FASB).
11) The control environment refers to the overall top-to-bottom attitude of the company with
respect to internal control.
12) Risk assessment identifies and analyzes internal and external threats to achieving a
company’s objectives.
13) Separation of duties refers to auditors not being allowed to perform both audit and nonaudit
services for the same client.
14) An example of separation of duties would be not allowing an employee who receives cash to
also be responsible for depositing that cash in the bank account.
15) The internal control component of information and communication relates to the
effectiveness of accurately measuring and communicating business transactions.
16) Management needs to monitor the internal control system, just like any other system. Any
control deficiencies spotted by employees should be reported immediately to management.
17) Separation of duties occurs when two or more people act in coordination to circumvent
internal controls.
18) Effective internal controls ensure a company’s success and survival.
19) The amount of cash reported in a company’s balance sheet includes currency, coins, and
balances in savings and checking accounts, as well as items acceptable for deposit in these
accounts, such as checks received from customers.
20) The amount of cash reported in a company’s balance sheet includes items acceptable for
deposit in bank accounts, such as checks received from customers.
21) The amount of cash reported in a company’s balance sheet includes the balance of accounts
receivable if cash collection is highly likely in the near future.
22) The amount of cash reported in a company’s balance sheet does not include cash equivalents,
defined as short-term investments that have a maturity date no longer than three months from the
date of purchase.
23) Common examples of cash equivalents are money market funds, Treasury bills, and
certificates of deposit.
24) Recording all cash receipts as soon as possible is considered a good internal control.
25) Opening mail and making a list of checks received once per week is considered a good
internal control over cash receipts.
26) Whether a customer uses cash, a check, or a debit card to make a purchase, the company
records the transaction as a cash sale.
27) When customers pay for services with a check, the company should debit Accounts
Receivable and credit Service Revenue.
28) When customers pay for services with a debit card, the company should debit Cash and
credit Service Revenue.
29) When a company pays for services received using a check, it should credit Accounts Payable
until the check is paid by the bank.
30) When a company pays for services received using a credit card, it should credit Accounts
Payable.
31) Allowing the employee who authorizes purchases to also prepare the check is an example of
good internal control.
32) Companies should set maximum purchase limits on debit cards and credit cards as part of
internal controls.
33) A bank reconciliation matches the balance of cash in the bank account with the balance of
cash in the company’s own records.
34) Differences in the company’s cash balance and the bank’s cash balance occur because of
either timing differences or errors.
35) An example of a bank error that causes the company’s balance and bank’s balance of cash to
differ is the purchase of supplies with a check.
36) Cash receipts of the company that have not yet been recorded by the bank are referred to as
checks outstanding.
37) Checks outstanding are checks the company has written that have not yet been recorded by
the bank.
38) A deposit outstanding will cause the bank’s cash balance to be higher than the company’s
cash balance.
39) A check outstanding will cause the bank’s cash balance to be higher than the company’s cash
balance.
40) An NSF check is an example of a cash transaction that is initially recorded by the bank and
later by the company after notification.
41) Interest earned on a bank account is an example of a cash transaction recorded by the
company and then later by the bank after notification.
42) The final step in reconciling the bank’s cash balance and the company’s cash balance is to
update the company’s cash balance for the items used to reconcile the bank’s cash balance.
43) A petty cash fund represents cash on hand and is used to pay for minor purchases.
44) A petty cash fund should have just enough cash to make minor expenditures over a
reasonable period (such as a week or a month).
45) A company’s cash is reported in two financial statements-income statement and statement of
cash flows.
46) A company’s cash balance is typically reported as a current asset in the balance sheet and
information about the company’s cash receipts and cash payments during the period is reported
in the statement of cash flows.
47) The statement of cash flows reports a company’s cash inflows and cash outflows related to
(1) operating activities, (2) investing activities, and (3) financing activities.
48) Investing activities include cash transactions involving revenue and expense events during
the period.
49) Investing activities include cash investments in long-term assets and investment securities.
50) Investing activities include transactions designed to raise cash or finance the business.
51) Only transactions involving cash affect a company’s cash flows.
52) A company’s ratio of cash to noncash assets is calculated as the total cash balance divided by
all noncash assets.
53) Companies often have a high ratio of cash to noncash assets when they consistently pay cash
dividends.
54) Typically, the more volatile the company’s trend in operating cash flows, the higher the
operating risk of the company.
55) An advantage of a high ratio of cash to noncash assets is that the company has funds to pay
obligations as they become due.
56) Occupational fraud:
A) Is the use of one’s occupation for personal enrichment through the deliberate misuse or
misapplication of the employer’s resources.
B) Occurs in only a few organizations and generally involves minor amounts.
C) Will be prevented when companies employ an auditor.
D) Is committed only by lower-level employees.
57) The phrase “cooking the books” is commonly used to refer to:
A) The company’s accounting records being thoroughly audited at the end of the year.
B) The company’s financial statements being presented in a deceptive form.
C) The company’s ability to provide timely financial information under operating pressure.
D) The inclusion of a variety of information in the financial statements.
58) The three elements of the fraud triangle are:
A) Motivation.
B) Rationalization.
C) Opportunity.
D) All of the other answers are elements of the fraud triangle.
59) The three elements present in every fraud are commonly referred to as the ________.
A) Triple threat
B) Three-way manipulation
C) Fraud triangle
D) Three-alarm fire
60) Which element of the fraud triangle do companies have the greatest ability to eliminate?
A) Motivation.
B) Rationalization.
C) Opportunity.
D) Intelligence.
61) Fraudulent reporting by management could include:
A) Fictitious revenues from a fake customer.
B) Improper asset valuation.
C) Mismatching revenues and expenses.
D) All of the other answers could involve fraudulent reporting.
62) A company’s plans to minimize theft and enhance the accuracy of accounting information are
referred to as:
A) Corporate controls.
B) Security controls.
C) Internal controls.
D) General controls.
63) What key piece of legislation was passed in response to corporate accounting scandals by
Enron, WorldCom, and others?
A) Sarbanes-Oxley Act.
B) 1933 Securities Act.
C) 1934 Securities Exchange Act.
D) Regulation Fair Disclosure.
64) The Sarbanes-Oxley Act requires that companies must:
A) Conduct customer surveys each year to ensure satisfaction with products and services.
B) Document internal controls and assess their effectiveness each year.
C) Pay taxes owed to the Internal Revenue Service by the tax filing date.
D) Devise a budget each year to ensure cash outflows are not greater than cash inflows.
65) Under the Sarbanes-Oxley Act, management is responsible for:
A) Analysts’ having positive comments about the company’s operations.
B) The reliability of financial statements.
C) Increasing the company’s stock price.
D) All of the other answers represent management responsibilities under the Sarbanes-Oxley
Act.
66) Which of the following does not represent a major provision of the Sarbanes-Oxley Act?
A) Nonaudit services.
B) Quarterly financial statements.
C) Auditor rotation.
D) Corporate executive accountability.
67) Under the provisions of the Sarbanes-Oxley Act, corporate executives:
A) Have limited responsibility for financial statements.
B) Must personally prepare the company’s financial statements.
C) Must personally certify the company’s financial statements.
D) Are not allowed to view the company’s financial statements.
68) Under the provisions of the Sarbanes-Oxley Act, auditors must do which of the following?
A) Provide nonaudit services for their clients.
B) Audit public companies whose chief executives worked for the audit firm in the preceding
year.
C) Be hired by company management.
D) Maintain working papers for at least seven years following an audit.
69) The Sarbanes-Oxley Act (SOX) mandates which of the following?
A) Increased regulations related to auditor-client relations.
B) Increased regulations related to internal control.
C) Increased regulations related to corporate executive accountability.
D) All of the other answers represent mandates of the Sarbanes-Oxley Act.