1. a. The five elements of internal control are the control environment, risk assessment, control
p
rocedures, monitoring, and information and communication. The control environment
is the overall attitude of management and employees about the importance of controls.
2. To reduce the possibility of errors and embezzlement, the functions of operations and
3. The control procedure requiring that responsibility for a sequence of related operations be
4. The responsibility for maintaining the accounting records should be separated from the
5. Controls that could have prevented or detected the fraud include: (1) requiring supporting
p
6. The three documents supporting the liability are the vendor’s invoice, the purchase order, and
7. The cash balance and the bank statement balance are likely to differ because of (1) a delay by
8. The purpose of a bank reconciliation is to determine the reasons for the difference between the
b
b
CHAPTER 7
SARBANES-OXLEY, INTERNAL CONTROL, AND CASH
DISCUSSION QUESTIONS
7-1
p
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
DISCUSSION QUESTIONS (Concluded)
9. a. Yes. Even though the petty cash fund is only $750, if the fund is replenished frequently, a
(2) maintaining a written record of all payments, (3) requiring support (receipts) for
10. a. Cash and cash equivalents are usually reported as one amount in the Current Assets section
7-2
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
PE 7–1A
1. (a) the control environment
3. (b) control procedures
PE 7–1B
1. (c) monitoring
3. (b) control procedures
PE 7–2A
Appears on the Bank Increases or Decreases
Statement as a Debit the Balance of the
or Credit Memo Company’s Bank Account
credit memo increases
PE 7–2B
Appears on the Bank Increases or Decreases
Statement as a Debit the Balance of the
or Credit Memo Company’s Bank Account
credit memo increases
1
1
Item No.
PRACTICE EXERCISES
Item No.
PE 7–3A
a. $6,600 as shown below.
Bank section of reconciliation: $9,350 + $2,350 – $5,100 = $6,600
Company section of reconciliation: $8,510 – $35 – $1,875 = $6,600
b. Accounts Receivable 1,875
PE 7–3B
a. $18,100 as shown below.
Bank section of reconciliation: $23,900 + $5,500 – $11,300 = $18,100
Company section of reconciliation: $8,700 + $9,450 – $50 = $18,100
b. Miscellaneous Expense 50
Cash 50
Cash 9,450
PE 7–4A
a. Petty Cash 750
Cash 750
b. Repairs Expense 515
PE 7–4B
a. Petty Cash 900
Cash 900
b. Store Supplies 550
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CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
PE 7–5A
$114,000
12 months
b. The preceding computations indicate that Otto Company has 7.3 months
PE 7–5B
$458,400
12 months
b. The preceding computations indicate that Bonita Company has 4.9 months
a. Monthly Cash Expenses = Negative Cash Flow from Operations
12 months
==
Monthly Cash Expenses
$38,200 per month
a.
= $9,500 per month
Negative Cash Flow from Operations
12 months
=
=
7-5
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–1
Section 404 requires management’s internal control report to:
(1) state the responsibility of management for establishing and maintaining
(2) contain an assessment, as of the end of the issuer’s fiscal year, of the
effectiveness of the internal control structure and procedures of the
(1) state the responsibility of management for establishing and maintaining
(2) contain an assessment, as of the end of the issuer’s fiscal year, of the
effectiveness of the internal control structure and procedures of the
issuer for financial reporting.
Each issuer’s auditor shall attest to, and report on, the assessment made by
the management of the issuer. An attestation made under this section shall
be in accordance with standards for attestation engagements issued or
adopted by the Board. An attestation engagement shall not be the subject of
a separate engagement.
EXERCISES
7-6
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–2
a. Disagree. Stealing is a serious issue. An employee who can justify taking a
box of tea bags can probably justify “borrowing” cash from the cash register.
possible shortages in the cash drawer.
Ex. 7–3
a. The sales clerks could steal money by writing phony refunds and pocketing
the cash supposedly refunded to these fictitious customers.
b. Ramona’s Clothing suffers from inadequate separation of responsibilities for
possibility of stealing cash is reduced. The store will also lose less revenue if
customers must choose other store merchandise instead of getting a cash
refund. The overall level of returns/exchanges may be reduced because
customers will not return an acceptable gift simply because they need cash
more than the gift. The policy will also reduce the “cash drain” during the
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CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–3 (Concluded)
A disadvantage of issuing a store credit for returns without a receipt is that
preholiday sales might drop as gift-givers realize that the return policy has
giving the customer the cash. The supervisor should only authorize the
refund after seeing both the customer and the merchandise that is being
returned.
An alternative would be to use security measures that would detect a sales
clerk attempting to ring up a refund and remove cash when a customer is not
Ex. 7–4
As an internal auditor, you would probably disagree with the change in policy.
Pacific Bank has some normal business risk associated with default on bank
loans. One way to help minimize this is to carefully evaluate loan applications.
Large loans present greater risk in the event of default than do smaller loans.
Thus, it is reasonable to have more than one person involved in making the
decision to grant a large loan. In addition, loans should be granted on their
merits, not on the basis of favoritism or mere association with the bank president.
Allowing the bank president to have sole authority to grant large loans can lead
to the president granting loans to friends and business associates without the
7-8
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–5
The Societe Generale trading losses show how small lapses in internal control can
have large consequences. When the losses became so large that they could no
longer be hidden, it was too late. The loss could have been avoided with a number
of internal controls. First, the separation of duties control was overcome by the
trader’s intimate knowledge of the monitoring software. This knowledge of the
monitoring system allowed the trader to effectively hide trades. The design of the
Ex. 7–6
This is an example of a fraud with significant collusion. Frauds that are
perpetrated with multiple parties in different positions of control make detecting
fraud more difficult. In this case, the fraud began with an employee responsible for
7-9
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–7
All-Around Sound Co. should not have relied on the unusual nature of the vendors and
delivery frequency to uncover this fraud. The purchase and payment cycle is one
had access to the invoices. This access allowed the employee to change critical
characteristics of the invoice to hide the true nature of the goods being received.
The invoice should have been delivered directly to the accounts payable clerk to
avoid corrupting the document. There apparently was no receiving document
Ex. 7–8
a. The most difficult frauds to detect are those that involve the senior managers
of a company who are in a conspiracy to commit the fraud. The senior managers
b. Overall, this type of fraud can be stopped if there is a strong oversight of senior
management, such as an audit committee of the board of directors. Individual
“whistle blowers” in the company can make their concerns known to the
independent or internal auditors who, in turn, can inform the audit committee.
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CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–9
a. The sales clerks should not have access to the cash register tapes.
Ex. 7–10
Big & Bad Burgers suffers from a failure to separate responsibilities for related
operations.
Big & Bad Burgers could stop this theft by limiting the drive-through clerk to taking
customer orders, entering them on the cash register, accepting the customers’
payments, returning customers’ change, and handing customers their orders that
another employee has assembled. By making another employee responsible for
assembling orders, the drive-through clerk must enter the orders on the cash
register. This will produce a printed receipt or an entry on a computer screen at
the food bin area, specifying the items that must be assembled to fill each order.
Once the drive-through clerk has entered the sale on the cash register, the clerk
cannot steal the customer’s payment because the clerk’s cash drawer will not
7-11
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–12
Cash 33,854
Cash Short or Over 12
Sales 33,866
Ex. 7–14
The use of the voucher system is appropriate, the essentials of which are outlined
below. (Although invoices could be used instead of vouchers, the latter more
satisfactorily provide for account distribution, signatures, and other significant
data.)
1. Each voucher should be approved for payment by a designated official only
after completion of the following verifications: (a) that prices, quantities, terms,
2. The file for unpaid vouchers should be composed of 31 compartments, one for
3. Each day, the vouchers should be removed from the appropriate section of
4. At the time of payment, all vouchers and supporting documents should be
stamped or perforated “Paid” to prevent their resubmission for payment.
They should then be filed in numerical sequence for future reference. The
7-12
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–15
To prevent the fraud scheme described, Paragon Tech must separate responsibilities
for related operations. As in the past, all service requisitions should be submitted
to the Purchasing Department. After receiving the service request, Purchasing
should complete a Service Verification form, stating what service has been
ordered and the name of the company that will provide the service. This form
Ex. 7–16
a. Addition to the balance per bank: (4), (5)
Ex. 7–17
(1), (2), (3), (7)
The preceding additions and deductions to the cash balance according to the
7-13
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–18
a.
Cash balance according to bank statement $29,650
Add deposit in transit, not recorded by bank 6,770
$36,420
b. $22,545; the adjusted balance from the bank reconciliation should be reported
on the May 31 balance sheet for Zek’s Co.
Ex. 7–19
2016
May 31 Cash 450
Accounts Payable 450
ZEK’S CO.
Bank Reconciliation
May 31, 2016
7-14
CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–21
a.
Cash balance according to bank statement $20,300
Add: Deposit in transit on July 31 7,200
$27,500
Ex. 7–22
1. The heading should be “June 30, 2016,” and not “For the Month Ended
June 30, 2016.”
2. The outstanding checks should be deducted from the balance per bank.
4. Service charges should be deducted from the balance per company’s records.
CHESNER CO.
Bank Reconciliation
July 31, 2016
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CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–22 (Concluded)
A correct bank reconciliation would be as follows:
Cash balance according to bank statement $16,185
Add deposit of June 30, not recorded
by bank 6,600
Cash balance according to company’s records $ 8,985
Add: Proceeds of note collected by bank:
Principal $6,000
POWAY CO.
Bank Reconciliation
June 30, 2016
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CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–23
a. The amount of cash receipts stolen by the sales clerk can be determined by
sales clerk is $4,135, determined as shown below.
Cash balance according to bank statement $13,275
Deduct: Outstanding checks 3,670
Adjusted balance $ 9,605
b. The theft of the cash receipts might have been prevented by having more than
ALASKA IMPRESSIONS CO.
Bank Reconciliation
October 31, 2016
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CHAPTER 7 Sarbanes-Oxley, Internal Control, and Cash
Ex. 7–24
a. Petty Cash 1,100
Cash 1,100
b. Office Supplies 614
Ex. 7–25
Toy manufacturers and retailers experience a seasonal trend in cash flows from
Ex. 7–26
a. 8.4 months ($1,415,400 ÷ $168,500)
Ex. 7–27
a. $1,786.5 ($21,438 ÷ 12)
b. 28.0 months ($49,952 ÷ $1,786.5)
c. Capstone Turbine has cash to continue its operations for approximately 28.0 months.
7-18