Chapter 4
Internal Control & Cash
Ethics Check
(5-10 min.) EC 4-1
a. Integrity
b. Objectivity and independence
c. Integrity
d. Due care
Short Exercises
(5 min.) S 4-1
Fraud is an intentional misrepresentation of facts, made for the
purpose of persuading another party to act in such a way that causes
injury or damage to that party.
The Three Components of the Fraud Triangle
1. Motive — Fraud generally results from either critical need or greed on
the part of the perpetrator. Regardless of whether the driving force is
need or greed most perpetrators are driven to attempt to acquire
something that belongs to others.
(5 min.) S 4-2
Alston should report the errors to Golden because Golden is Alston’s
supervisor, and Golden is responsible for the errors. If Golden fails to
take action, then Alston should report the errors to Golden’s supervisor
(10 min.) S4-3
A computer virus enters program code without your consent and
performs destructive action to your computer files or programs.
A Trojan Horse is a malicious computer program that hides inside a
legitimate program and works like a virus to corrupt your computer files
or programs.
(5-10 min.) S 4-4
COMPONENTS OF INTERNAL CONTROL
1. Control environment — Top managers must set the “tone at the top”
to establish a control environment.
2. Risk assessment — Each company must identify its own risks, based
upon its particular line of business, and establish procedures to
minimize the risks.
5. Information system — Accurate information is essential for success
in business. Accounting information enters and exits through the
information system.
Student responses may vary for the descriptions.
(5-10 min.) S 4-5
Student responses may vary.
(5-10 min.) S 4-6
There are several major internal control procedures as discussed in the
chapter besides separation of duties:
1. Smart hiring practices. The company should be careful to hire both
competent and honest personnel. Smart hiring practices involve
conducting background checks on job applicants, as well as training
and supervision on the job.
3. Adequate records help to assure that sufficient hard copy documents
or electronic information is kept by the entity to support the validity of
transactions that were processed. Examples include sales invoices,
purchase orders, shipping records, and customer remittance advices.
(continued) S 4-6
the company, such as cash or inventory; and (b) the records. Generally,
only people with custodial responsibilities (such as the cashier or the
warehouse personnel) should be allowed access to assets (such as cash
5. Proper approvals. No transaction should be processed without
management’s general or specific approval. Generally, the larger the
transaction, the higher the organizational level of approval necessary.
Notice that the first letters of these attributes spell the acronym SCALP.
That’s an easy and comprehensive way to remember the control
procedures involved in internal controls.
(20-30 min.) S 4-7
Cash is important not because of its amount as reported on the balance
sheet, but because of its effect on a business. All transactions ultimately
Student responses may vary.
(20-30 min.) S 4-8
Punching a hole through supporting documents reduces the
opportunity for fraud. Without this control procedure, a dishonest
employee could resubmit documents for payment a second time. The
employee could change the payee’s address and have the check sent
(10 min.) S 4-9
Rampart Corp.
Bank Reconciliation
August 31, 2016
BANK
BOOKS
Balance, August 31
$5,483
Balance, August 31
Add: Deposit in transit
400
Add: Bank collection
Subtotal
5,883
Interest revenue
Subtotal
Less:
Less:
Outstanding checks
Service charge
NSF check
(5 min.) S 4-10
Journal
DATE
ACCOUNT TITLES AND EXPLANATION
DEBIT
CREDIT
Aug.
31
Cash………………………………………..
691
Accounts Receivable…………………
691
Collection on account.
31
Cash………………………………………..
Interest Revenue………………………
Interest earned on bank balance.
Cash…………………………………….
Bank service charge.
31
Cash……………………………………..
NSF check.
(5 min.) S 4-11
It appears that the employee has stolen $765 (adjusted book balance,
$4,755 − adjusted bank balance, $3,990). The adjusted bank balance is
the company’s true cash balance, and the company books show more
cash on hand. Therefore, the books must be incorrect.
(5 min.) S 4-12
(10 min.) S 4-13
1. Paying by check carries three controls over cash:
• The check provides a record of the payment.
• The check must be signed by an authorized official.
• Before signing the check, the official should study the evidence
supporting the payment.
2. A dishonest purchasing agent could:
• Purchase goods and have them delivered to his home or other location
that he controls.
(5-10 min.) S 4-14
Kent Market (KM)
Cash Budget
Year Ended December 31, 2017
Millions
Cash balance, beginning
$ 5
Estimated cash receipts—total
103
Cash available (needed) before new financing
15
Budgeted cash balance needed
Cash available for additional investments
$ 4
(5 min.) S 4-15
“Cash and cash equivalents” includes liquid assets such as time
deposits, certificates of deposit, and high-grade U.S. or foreign
Exercises
(10-15 min.) E 4-16A
a. Sweitzer has access to the cash collected, and she also prepares the
cash report. With access to both items, Sweitzer can steal cash and
falsify her cash report to conceal her theft.
b. Li prepares the purchase order and also receives the goods. She can
add some items to the purchase order and have these extra items
(10 min.) E 4-17A
Cash payments:
a. Strong internal control. There is a good separation of duties.
Supervisors request equipment, and the home office purchases the
equipment.
b. Weak internal control. Supervisors request, purchase, and pay for
equipment with little oversight by the home office.
Cash receipts:
(10 min.) E 4-18A
To prevent Dunbar’s embezzlement, Downtown Forest Lake’s board of
directors could have:
a. Not permitted Dunbar to write checks for Downtown Forest Lake.
Instead, appoint a board member to write the checks.
(10-20 min.) E 4-19A
F.L. Hardy
Bank Reconciliation
October 31, 2017
BANK:
Balance, October 31
$ 279
Add: Deposit in transit
1,225
Less: Outstanding checks:
Check No.
626
627
Adjusted bank balance
$1,254
BOOKS:
Balance, October 31
$1,297
Less:
Correction of book error —
Recorded $86 check as $68
NSF check
Service charge
Adjusted book balance
$1,254
(10-20 min.) E 4-20A
Rinkland USA
Bank Reconciliation
March 31, 2016
BANK:
Balance, March 31
$ 740
Add: Deposit in transit
1,790
Subtotal
2,530
Less: Outstanding checks
(610)
Adjusted bank balance
$1,920
BOOKS:
Balance, March 31
$1,980
Add: EFT collection — rent
320
Subtotal
2,300
Less:
Service charge
NSF checks
Charge for printed checks
Correction of book error —
recorded $280 check as $28
(380)
Adjusted book balance
$1,920
(10-15 min.) E 4-21A
Journal
DATE
ACCOUNT TITLES AND EXPLANATION
DEBIT
CREDIT
Mar.
31
Cash …………………………………………………….
320
Rent Revenue …………………………………..
320
EFT collection of rent.
31
Miscellaneous Expense ($8 + $10) ………….
18
Cash ………………………………………………..
18
Bank service charge and charge
for printed checks.
31
Accounts Receivable …………………………….
Cash ………………………………………………..
NSF checks returned by bank.
31
Salary Expense ($280 − $28) …………………..
Cash ………………………………………………..
Correction of book error.
(10-15 min.) E 4-22A
TO: Store Manager
FROM: Student
SUBJECT: Evaluation of internal control and plan for improvement
There is a weakness in internal control over cash receipts. The cash
registers do not keep a record of sales. With no record, there is no way
to determine how much cash should be in the cash drawer. This
omission makes it easy for the cashier to steal cash and not get caught.
(10-15 min.) E 4-23A
The main internal control weakness is that the payroll department both
prepares and distributes the paychecks. With both duties, a dishonest
person in the payroll department can create a time sheet for a fictitious
employee and then keep the related paycheck after the treasurer returns
the signed checks to the payroll department.
(20-30 min.) E 4-24A
Byer Communications, Inc.
Cash Budget
Year Ended December 31, 2017
Millions
Cash balance, December 31, 2016
$ 65
Budgeted cash receipts:
Collections from customers
11,283
Sale of assets
137
11,485
Payments for cost of
services and products
$6,194
Payments of operating expenses
Investment in equipment
Payment of debt
Cash available (needed) before financing
23
Budgeted cash balance, December 31, 2017
(68)
Cash available for additional investments, or
(New financing needed)
$ (45)
(10-15 min.) E 4-25B
a. Morrison has access to the cash collected, and she also prepares the
cash report. With access to both items, Morrison can steal cash and
falsify her cash report to conceal her theft.
b. Peterson prepares the purchase order and also receives the goods.
She can add some items to the purchase order and have these extra
(10 min.) E 4-26B
Cash payments:
a. Strong internal control. There is a good separation of duties.
Supervisors request equipment, and the home office purchases the
equipment.
b. Weak internal control. Supervisors both request, purchase, and pay
for equipment with little oversight by the home office.
Cash receipts:
(10 min.) E 4-27B
To prevent Valentine’s embezzlement, Downtown Wooster’s board of
directors could have:
a. Not permitted Valentine to write checks for Downtown Wooster.
Instead, appoint a board member to write the checks.
b. Not permitted Valentine to receive cash that came to Downtown