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Chapter 6: Cash and Internal Control
Balance Sheet
Income Statement
Assets
=
Liabilities
+
Stockholders’
Equity
Revenues
–
Expenses
=
Net
Income
Cash
(196.75)
(196.75)
Cash Over
and Short
0.50
Postage
Expense
44.00
Delivery
Expense
74.50
Entertainment
Expense
55.75
Office
Supplies
Expense
23.00
(196.75)
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-02 - LO: 06-02
KEYWORDS:
Bloom's: Analyzing
Chapter 6: Cash and Internal Control
208. On April 1, Homer City Sales decides to establish a $275.00 Petty Cash Account to relieve the burden on
Accounting.
(a) Journalize this event.
(b) On August 15th, the petty cash fund has receipts for mail and postage of $124.75, contributions and donations of
$53.25, meals and entertainment of $63.85 and $32.75 in cash. Journalize the replenishment of the fund.
(c) On August 16th, Homer City Sales decides to increase petty cash to $400.00. Journalize this event.
ANSWER:
(a) April 1
Petty Cash
275.00
Cash
275.00
Balance Sheet
Income Statement
Assets
=
Liabilities
+
Stockholders’
Equity
Revenues
–
Expenses
=
Net
Income
Petty Cash
Fund
275
Cash
(275)
(b) April 15
Mail and Postage Expense
124.75
Contributions and Donations Expense
53.25
Meals and Entertainment Expense
63.85
Cash Over and Short
0.40
Cash
242.25
Balance Sheet
Income Statement
Assets
=
Liabilities
+
Stockholders’
Equity
Revenues
–
Expenses
=
Net
Income
Cash
(242.25)
(242.25)
Postage
Expense
124.75
Donation
Expense
53.25
Entertainment
Expense
63.85
Cash Over and
Short
0.40
(242.25)
209. Marathon Street Bank sent Flank Industries their end of month bank statement for October. The end of month
balance by the bank is $11,229. From the statement, it can be determined that a deposit for $4,250 is in transit at the end
of the statement period. Also the statement reveals that checks for $86, $106, and $95 are outstanding. Marathon Street
collected a 90 day, 12% interest $4,000 note receivable charging $20 for the service. No interest has been accrued on the
note. The bank charges a monthly account fee of $35. The end of month balance per company books is $11,127.
Required:
Complete a bank/account reconciliation and write any necessary journal entries for the reconciliation.
ANSWER:
Bank balance Oct. 31:
$11,229
Add deposits in transit
4,250
Less outstanding checks
$ 86
106
95
(287)
211. Given the following items, what amount should be reported on the balance sheet as Cash and
cash equivalents?
Cashier's Check
$ 5,000
Certificate of deposit (due in 9 months)
12,000
Checking account
5,500
Coins and currency on hand
1,225
IOU from Employee
565
Money Market Account
15,000
Postage Stamps
375
Savings Account
22,000
Undeposited customer checks
1,750
ANSWER:
($5,000 + $5,500 + $1,225 + $15,000 + $22,000 + $1,750) = $50,475
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-01 - LO: 06-01
KEYWORDS:
Bloom's: Analyzing
Chapter 6: Cash and Internal Control
Essay
212. What rational is used in order to determine if an amount is "cash"?
ANSWER:
The key to the classification of an amount as cash is that it be readily available to pay debts.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-01 - LO: 06-01
KEYWORDS:
Bloom's: Understanding
213. What is meant by "cash equivalents"?
ANSWER:
"Cash equivalents" refers to very short-term, highly liquid marketable securities with an
original maturity of 3 months or less at the date of purchase. Because these securities can be
converted into cash when needed very quickly and without material loss, they are considered
to be the equivalent of cash and are normally included with cash on the balance sheet and on
the cash flow statement
DIFFICULTY:
Easy
LEARNING OBJECTIVES:
FACC.PONO.13.06-01 - LO: 06-01
KEYWORDS:
Bloom's: Understanding
214. Why are adjustments often necessary after the reconciliation of a bank account?
ANSWER:
Adjustments are necessary because the dollar amount in the company's cash account may
differ from the actual amount available to use. Items that cause this difference include
services charges the bank deducted from the company's account, interest the bank has added
to the company's account, NSF checks returned, and other miscellaneous transfers that may
not have been recorded in the company's accounting records.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-02 - LO: 06-02
KEYWORDS:
Bloom's: Understanding
215. Why is cash management necessary?
ANSWER:
Cash management is necessary to ensure that at any point in time, a company has neither too
little nor too much cash on hand. Cash on hand is necessary for payment to suppliers,
employees, and other creditors. Since cash is essentially a non-earning asset, too much cash
means the company may not be earning the return on it that it could if it were invested
otherwise.
DIFFICULTY:
Easy
LEARNING OBJECTIVES:
FACC.PONO.13.06-02 - LO: 06-02
KEYWORDS:
Bloom's: Understanding
216. Explain how a company can control small payments that must be made in cash rather than by check.
ANSWER:
Using a petty cash fund can control small cash payments. The amount of cash to which
employees have direct access is small. The system established for petty cash provides a
convenient and sound procedure for identifying the assets and expenses that must be recorded
when small cash payments are made.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-02 - LO: 06-02
KEYWORDS:
Bloom's: Applying
217. Your friend, Mike, has just started a business and comes to you with a question. “I’m confused. I have a memo
included with my bank statement indicating a $55 service charge for printing new checks. Since you’re an accounting
major, maybe you can explain to me why they call it a ‘debit memorandum,’ even though they are deducting this amount
from my account. When I took Accounting in school, I could have sworn that a decrease in the Cash account would be a
credit and not a debit.
Required:
In a short paragraph, explain this issue to your uncle.
ANSWER:
I agree that it is a bit confusing. You see the meaning of a debit or a credit depends on which
company is concerned. To the bank, a company’s checking account is a liability. Therefore,
when a bank deducts a service charge from a company’s account, it is reducing its liability to
the company. A liability is decreased with a debit. Therefore, banks refer to charges to a
company’s account as debit memoranda.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-02 - LO: 06-02
KEYWORDS:
Bloom's: Applying
218. What is the typical composition of a board of directors of a publicly held corporation?
ANSWER:
A board of directors normally is composed of a combination of key officers of the
corporation, such as the president, and outsiders. The outsiders usually have been or are
presently key officers themselves of other corporations or have significant business
experience.
DIFFICULTY:
Easy
LEARNING OBJECTIVES:
FACC.PONO.13.06-03 - LO: 06-03
KEYWORDS:
Bloom's: Understanding
219. McDonald's Corporation is the largest food service organization in the world. The proper handling of cash and food
is important to the profitability of McDonald's. Based on your personal knowledge of McDonald's and the internal control
concepts and procedures described in the textbook, answer the following questions.
Required:
Most corporations, including McDonald's, include a Report of Management in their annual report. Describe, in general,
the main elements that should be included in a Report of Management and give the purpose of this report.
ANSWER:
A report of management would describe management's responsibility for the preparation and
integrity of the financial statements. The report would indicate whether a staff of internal
auditors evaluates the company's internal controls and employee compliance with such
controls. Also, it would indicate that the company's independent auditors (CPAs) have
audited the financial statements and rendered an opinion on the statements, after taking into
consideration the internal controls and performing necessary tests required under generally
accepted auditing standards. Finally, if the company has an audit committee, the role of the
audit committee in carrying out the Board of Directors' oversight role would be explained.
The purpose of a Report of Management is to tell the shareholders and other readers that
management is directly responsible for both the integrity and consistency of all financial
information presented in the annual report.
220. What are some of the limitations on a company’s effective system of internal control?
ANSWER:
There are a number of limitations on the efficiency of internal control. First, a system of
internal control is not cost free. For example, the segregation of duties may require a larger
staff than would otherwise be necessary. An internal audit staff may be too costly for a small
company. Second, no system of internal control can prevent collusion by two or more
employees. Third, the lack of support from upper management may weaken an otherwise
strong commitment to a system of internal control. Finally, the element of human error can
never be eliminated in any operation, regardless of how big or small.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-04 - LO: 06-04
KEYWORDS:
Bloom's: Understanding
221. An effective system of internal control is critical to protecting a company’s investment in three of its major assets:
cash, accounts receivable, and inventory. For each asset, describe how a company might protect that asset.
ANSWER:
Cash registers, safes, and lockboxes are important safeguards for cash. Several control
mechanisms are used to handle cash receipts. Cash registers allow the customer to see the
display. Customers are an important part of a company’s control system. Monthly customer
statements act as an additional control device for customer receipts received in the mail. In
addition, a locked-in cash register tape can facilitate the detection of differences between a
cashier’s cash and the sales that have been rung up during the day. Prenumbered customer
receipts prepared in duplicate are also a useful control mechanism for cash. Storage areas
with limited access are essential for safekeeping of inventory.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-04 - LO: 06-04
KEYWORDS:
Bloom's: Understanding
222. What are at least four important internal control procedures?
ANSWER:
Student answers may vary but can include:
1. Proper authorizations
2. Segregation of duties
3. Independent verification
4. Safeguarding of assets and records
5. Independent review and appraisal
6. Design and use of business documents
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-04 - LO: 06-04
KEYWORDS:
Bloom's: Understanding
223. The garden club is planning a raffle. The president overheard you talking about internal controls to another member
and asked you to set up some guidelines to “make sure” that all money collected for the upcoming raffle is accounted for
by the club.
Required:
1. In general, describe some guidelines that the club should follow to achieve an acceptable level of internal control.
2. Regarding the president’s request, is it really possible to make sure that all money is collected and recorded?
ANSWER:
1. Students answers will vary, but may include:
a. Prenumbered tickets
b. Segregation of duties for collecting cash, counting and recording cash, and depositing
cash in a bank account
c. Payment by check of any expenses associated with the raffle
2. It may be difficult, if not impossible, to be completely make sure that this happens, due to
human errors in counting and handling the cash, as well as making change. Student answer
should focus on the fact that internal controls are the best prevention, but if two or more
individuals collude to misdirect cash, these controls can be circumvented.
DIFFICULTY:
Easy
LEARNING OBJECTIVES:
FACC.PONO.13.06-04 - LO: 06-04
KEYWORDS:
Bloom's: Applying
224. McDonald's Corporation is the largest food service organization in the world. The proper handling of cash and food
is important to the profitability of McDonald's. Based on your personal knowledge of McDonald's and the internal control
concepts and procedures described in the textbook, answer the following questions.
Required:
Describe procedures that you believe McDonald's may use to control cash receipts.
ANSWER:
Each cashier should start with his or her own cash drawer, with the manager noting how
much cash the cashier starts with at the beginning of the shift. The cash would be counted
when the cashier ends work. The manager would take a cash register reading and reconcile
this reading with the cash in the drawer. The manager also could observe the activities of the
cashiers on a spot basis. It may not be possible to separate the duties of counting the cash and
making bank deposits since the manager likely will be responsible for both.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-05 - LO: 06-05
KEYWORDS:
Bloom's: Applying
225. McDonald's Corporation is the largest food service organization in the world. The proper handling of cash and food
is important to the profitability of McDonald's. Based on your personal knowledge of McDonald's and the internal control
concepts and procedures described in the textbook, answer the following questions.
Required:
Describe procedures that you believe McDonald's may use to control the purchase and payment of food products.
ANSWER:
A company like McDonald's might negotiate contracts with vendors to supply food products
to arrive daily or weekly. This might suppress the need for using purchase requisitions and
purchase orders for food products. However, the typical procedures beginning with receiving
reports for invoice approval would apply. Receiving reports and contracts would be
compared with invoices. Invoice footings and extensions would be verified. Completion of
all steps in the approval process would be verified before checks are prepared. Specified
employees would sign checks, either using check signing machines or personal signatures.
All documents included in the invoice approval process would be canceled when the checks
are prepared. Employees who handle the checks would not be allowed to prepare journal
entries.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-05 - LO: 06-05
KEYWORDS:
Bloom's: Applying
226. Herbert and Evita are planning to open a quick copy center near the local college. They will make both cash and
credit sales. They will hire college students to make copies and to operate the cash register. Either Herbert or Evita will
act as manager during most hours that the business will be open. One student will be designated as assistant manager
when they cannot be present.
Describe procedures that Herbert and Evita might use to provide adequate internal control over cash and credit sales and
bank deposits.
ANSWER:
The following procedures should be considered by Herbert and Evita to control cash and
credit sales and bank deposits:
(a)
All sales should be recorded on prenumbered sales slips. Separate types of forms should
be used for cash and credit sales.
(b)
On the cash sales slips, the quantity, price, and amounts should be recorded.
(c)
Separate cash register keys should be used for cash and credit sales.
(d)
The number of employees allowed to operate the cash register should be limited. If
possible, separate cash drawers should be used for each cash register operator.
(e)
The cash register tape should be reconciled with the cash, the cash sales slips, and the
credit sales slips each day.
(f)
Herbert and Evita should try to be the only ones who can make bank deposits.
(g)
Herbert and Evita should observe that employees follow the procedures they establish
for control over cash and credit sales.
227. Jack’s Jungle Fun, Inc. is a manufacturer of children's outdoor play equipment. The factory foreman determines
when orders for materials are necessary. The orders are sent to the purchasing department that places orders with the
vendors recommended by the factory foreman. When the materials are received, they are delivered directly to a central
storeroom without counting what has been received. When invoices are received for the materials purchased, they are sent
to the accounting department for payment. The accounting department compares the invoices with purchase orders. If the
two documents are in agreement, the invoice is approved for payment. The accounting department prepares the checks
that are signed by the company treasurer.
Recommend improvements in the company's procedures for purchasing and paying for purchases of materials that will
provide better internal control over purchases and payment for those purchases.
ANSWER:
Recommended improvements in the company's procedures for purchasing and paying for
materials are:
(a)
Vendors normally should be determined by the purchasing department rather than the
foreman.
(b)
All materials should be counted as they are received, and a receiving report should be
completed. A copy of the receiving report should be sent to the accounting
department.
(c)
The invoices should be compared with both the purchases orders and the receiving
reports. Also, all extensions and footings on the invoices should be verified.
(d)
The checks should be prepared in the treasurer's department, with the treasurer or
other designated employees assigned the responsibility of signing checks.
DIFFICULTY:
Moderate
LEARNING OBJECTIVES:
FACC.PONO.13.06-05 - LO: 06-05
KEYWORDS:
Bloom's: Applying
