MP111 Lecture 6 Internal Control of business

Accounting for management decisions

1. Dr Mohammad T Hossain
Week 6 Internal Control and Bank Reconciliation
MP111 Accounting Management Decisions

2. Introduction
SHAREHOLDERS(OWNERS) EMPLOY DIRECTORS
AND MANAGERS (AGENTS) TO CONDUCT THE
BUSINESS, IN THE INTEREST OF THE OWNERS
THE MANAGERS ASSUME A STEWARDSHIP
FUNCTION AND ARE EXPECTED TO MANAGE THE
BUSINESS IN THE BEST INTEREST OF THE
PRINCIPALS
A KEY RESPONSIBILITY IS TO CONTROL OPERATIONS

3. Internal Control
•Safeguard the assets the business uses in its operations
•Encourage adherence to business policies
•Promote operational efficiency (obtain the best
outcome at the lowest cost)
•Ensure accurate and reliable accounting records
The organisational
plan and all the
related measures
that an entity
adopts to:
•Administrative controls
•Accounting controls
Includes both

4. Cont...
Internal controls are developed by
management after:
considering the size and nature of the
business,
The costs and benefits of the control
Safeguarding assets is important because all organisations need
assets in order to conduct business
Most effective when employees at all levels adopt the
organisations goals, objectives and ethical standards

5. Effective System of Internal control
COMPETENT, RELIABLE
AND ETHICAL
PERSONNEL
ASSIGNMENT OF
RESPONSIBILITIES
PROPER
AUTHORISATION
SEPARATION OF DUTIES
INTERNAL AND
EXTERNAL AUDITS
DOCUMENTS AND
RECORDS
ELECTRONIC DEVICES
AND COMPUTER
CONTROLS
OTHER CONTROLS

6. Cont...
Competent, reliable and
ethical personnel
Paying the salaries necessary
to attract top quality
employees, training them to
do their job well, and
supervising their work all
help a business to build a
competent staff
Assignment of
responsibilities
Each employee is a assigned
certain responsibilities
E.g.accountants are
responsible for approving
invoices for payment
Proper
Authorisation
Any deviation from standard
policy requires proper
authorisation

7. Cont...
Separation of duties
⚫Divides the responsibilities for transactions between two or more people or departments
⚫Examples:
⚫Separation of operations from accounting
⚫Separation of the custody of assets from accounting
⚫Separation of the authorisation of transactions from the custody of related assets
⚫Separation of duties within the accounting function

8. Cont...
Internal and external audits
⚫An audit is an examination of the firmsfinancial statements and the accounting
systems, controls and records that produced them
⚫Internal auditors are employees of the organisation reporting to the audit
committee. Their role is to examine whether employees follow the procedures of
the organisation.
⚫External auditors are independent third parties that are engaged by the
organisation to ensure that financial statements are prepared in accordance to
the law.

9. Cont...
Documents and records
These are usually source documents such
as invoices and purchase orders
Documents should be pre-numbered to
discourage fraudulent activities
Other controls
Alarms, sensors etc...
These are controls that are required
beyond the accounting function

10. Real World Examples
London Philharmonic Orchestra (2009)
⚫Who was involved?
⚫What was effective/ineffective about the internal control system?
⚫How much was lost/Stolen?
Barings Bank (1995)
⚫Who was involved?
⚫What was effective/ineffective about the internal control system?
⚫How much was lost/Stolen?

11. The Bank Account
Safeguarding cash There are two
records of the
business’ cash.
The Cash at bank
account (organisations
general ledger)
The bank statement
(where the physical
cash is held)
The amount in
these two records
are rarely equal
But both are correct.
Reason for
differences are
due to
Items we know but the
bank does not
know…yet (eg. Un-
deposited cheques).
Items the bank knows
but we did not know
(eg.EFT deposits and
withdrawals and bank
fees).

12. Bank reconciliation
To reconcile these two bankaccount recordsthe following
steps are required:
1.Start with both the bank statement and cash at bank figures
2.Add and subtract from the balances of the bank statement
any amounts that does not appear on the bank statement
3.Journalisethe items that appear on the bank statement but
not on the business cash account
4.Compare the adjusted balances of both accounts
5.If there are any errors, notify the bank.

13. Lecture demonstration problem
Date Transaction Description Withdrawals Deposits Balance
1-Jan Balance Brought forward 6,556.12
4-Jan Deposit 1,000.00
Deposit 112.00
Dishonoured cheque 52.00 7,616.12
5-Jan Chq 656 100.00
Chq 335 100.00 7,416.12
8-Jan Deposit 194.60 7,610.72
12-Jan Chq 332 3,000.00
Chq 333 150.00
Chq 334 100.00 4,360.72
17-Jan EFT - collection of rent 904.03 5,264.75
20-Jan EFT – Insurance 361.00 4,903.75
26-Jan Bank Collection 2,114.00 7,017.75
31-Jan Interest 28.01 7,045.76
Service charge 14.25 7,031.51
Chq 336 1,100.00 5,931.51
Total 4,977.25 4,352.64 5,931.51

14. Cont...
General Ledger: Cash at Bank

15. Compare the statements. Find the differences...
⚫January 31 deposit of $1591.63 does not appear on the bank
statement
⚫Bank error. Cheque No. 656 is not one of our cheques.
⚫Cheque No.s337-341 do not appear on the bank statement.
That is, they not yet presented.
⚫Cheque No. 333 for $150, recorded as a cash payment in the
books at $510. This is our error. Adjustment of $360
required.

16. Compare ..
Bank Statement
Date Transaction Description Withdrawls Deposits Balance
1-JanBalance Brought forward 6,556.12
4-JanDeposit 1,000.00
Deposit 112.00
Dishonoured cheque 52.00 7,616.12
5-JanChq 656 100.00
Chq 335 100.00 7,416.12
8-JanDeposit 194.60 7,610.72
12-JanChq 332 3,000.00
Chq 333 150.00
Chq 334 100.00 4,360.72
17-JanEFT - collection of rent 904.03 5,264.75
20-JanEFT – Insurance 361.00 4,903.75
26-JanBank Collection 2,114.00 7,017.75
31-JanInterest 28.01 7,045.76
Service charge 14.25 7,031.51
Chq 336 1,100.00 5,931.51
Total 4,977.25 4,352.64 5,931.51
Cash at Bank Account

17. Compare ..
Bank Statement
Date Transaction Description Withdrawls Deposits Balance
1-JanBalance Brought forward 6,556.12
4-JanDeposit 1,000.00
Deposit 112.00
Dishonoured cheque 52.00 7,616.12
5-Jan656 100.00
335 100.00 7,416.12
8-JanDeposit 194.60 7,610.72
12-Jan332 3,000.00
333 150.00
334 100.00 4,360.72
17-JanEFT - collection of rent 904.03 5,264.75
20-JanEFT - Insurance 361.00 4,903.75
26-JanBank Collection 2,114.00 7,017.75
31-JanInterest 28.01 7,045.76
Service charge 14.25 7,031.51
336 1,100.00 5,931.51
Total 4,977.25 4,352.64 5,931.51
Cash at Bank Account

18. Compare ..
Bank Statement
Date Transaction Description Withdrawls Deposits Balance
1-JanBalance Brought forward 6,556.12
4-JanDeposit 1,000.00
Deposit 112.00
Dishonoured cheque 52.00 7,616.12
5-Jan656 100.00
335 100.00 7,416.12
8-JanDeposit 194.60 7,610.72
12-Jan332 3,000.00
333 150.00
334 100.00 4,360.72
17-JanEFT - collection of rent 904.03 5,264.75
20-JanEFT - Insurance 361.00 4,903.75
26-JanBank Collection 2,114.00 7,017.75
31-JanInterest 28.01 7,045.76
Service charge 14.25 7,031.51
336 1,100.00 5,931.51
Total 4,977.25 4,352.64 5,931.51
Cash at Bank Account

19. Adjust the Bank Statement Balance
Adjust Bank statement balance for item that you know that the
Bank does not know yet, such as:
⚫Unpresented Cheques
⚫Un-recorded Deposits
⚫Bank Errors
Bank Balance 5931.51
Add: Deposit in Transit 1591.63
Correction of bank error (add back withdrawal) 100.00
7623.14
Less:
Outstanding Cheques - not yet presented to bank (Nos. 337-341) (1350.14)
Adjusted Bank Balance 6273.00

20. Compare the statements. Find the differences...
⚫Cheque No. 333 for $150, recorded as a cash payment in the
books at $510. This is our error. Adjustment of $360
required.
⚫EFT Deposit of rent from tenant for $904.03.
⚫EFT Payment of Insurance for $361
⚫Bank charges for Dishonored Cheque and Service Charge.
⚫Bank Deposit for Interest earned.

21. Compare ..
Bank Statement
Date Transaction Description Withdrawls Deposits Balance
1-JanBalance Brought forward 6,556.12
4-JanDeposit 1,000.00
Deposit 112.00
Dishonoured cheque 52.00 7,616.12
5-Jan656 100.00
335 100.00 7,416.12
8-JanDeposit 194.60 7,610.72
12-Jan332 3,000.00
333 150.00
334 100.00 4,360.72
17-JanEFT - collection of rent 904.03 5,264.75
20-JanEFT - Insurance 361.00 4,903.75
26-JanBank Collection 2,114.00 7,017.75
31-JanInterest 28.01 7,045.76
Service charge 14.25 7,031.51
336 1,100.00 5,931.51
Total 4,977.25 4,352.64 5,931.51
Cash at Bank Account

22. Compare ..
Bank Statement
Date Transaction Description Withdrawls Deposits Balance
1-JanBalance Brought forward 6,556.12
4-JanDeposit 1,000.00
Deposit 112.00
Dishonoured cheque 52.00 7,616.12
5-Jan656 100.00
335 100.00 7,416.12
8-JanDeposit 194.60 7,610.72
12-Jan332 3,000.00
333 150.00
334 100.00 4,360.72
17-JanEFT - collection of rent 904.03 5,264.75
20-JanEFT - Insurance 361.00 4,903.75
26-JanBank Collection 2,114.00 7,017.75
31-JanInterest 28.01 7,045.76
Service charge 14.25 7,031.51
336 1,100.00 5,931.51
Total 4,977.25 4,352.64 5,931.51
Cash at Bank Account

23. Adjust the Cash at Bank Account
Adjust Cash at Bank Account balance for items that the Bank knew but you did not
know until now.
⚫EFT Receipts and payments
⚫Bank fees
⚫Errors by you.
We now use Journals to correct the Cash at Bank account.
DESCRIPTION
Cash at Bank Account 3294.21
Add:
EFT Receipts 904.03
Bank Collection 2114.00
Interest Revenue 28.01
Correction of error (Chq No.333) 360.00
6700.25
Less
Dishonored Cheque fees 14.25
Service Charges 52.00
(66.25)
EFT Insurance Payment (361.00)
Adjusted Bank Balance 6273.00

24. Journals to correct the Cash at Bank Account
ACCOUNT DEBIT CREDIT
Accounts Payable (error means AR understated) 360.00
Accounts Receivable or Unearned Revenue
(EFT deposits and Bank collections from customers)
3018.03
Interest Revenue 28.01
Bank Fees Expense 66.25
Insurance Expense (if automatic EFT each month) 361.00
Cash at Bank 2978.79

25. Accounting for Sale of Inventory
⚫When we sell inventory there are TWO journals required.
⚫To record the sale
⚫To record the reduction in inventory

26. Accounting for Sale of Inventory
⚫Example: Smart Clothing Limited sells business and ”smart”
casualware.
⚫On 2 Mar. The business bought 40 shirts on account, for $30
each.
⚫On 4 Mar They sold 6 shirts for $50 each (sales are in cash)
⚫Prepare the journal entries for these transactions

27. Accounting for Sale of Inventory
Date Account Debit Credit
2 Mar 22 Inventory - Shirts 1200
Accounts Payable 1200
Purchase of 40 shirts @
$30 each
4 Mar 22 Cash 300
Sales Revenue 300
Cost of Goods Sold 180
Inventory - Shirts 180
Sale of 6 shirts, costing
$30, @ $50 each

28. Accounting for GST
⚫In many countries there is a broad-based tax on consumption, which is understood to mean final
consumption by households.
⚫In many countries this is often called a VAT (Value Added Tax). In Australia, we call it GOODS and
SERVICES TAX or GST
⚫The tax is collected through a staged process. Each business in the supply chain takes part in the
process of controlling and collecting the tax then remitting the difference between the GST
imposed on its taxed inputs and the GST imposed on its taxed outputs.
⚫Thus, the tax is collected on the “value added” at each stage of production and distribution.
⚫Source: OECD INTERNATIONAL VAT/GST GUIDELINES November 2015

29. Accounting for GST
⚫The price quoted on purchases and sale of goods or services
can be in two forms:
⚫Price PLUS GST. Where the GST is calculated and added to
the price quoted.
⚫Price Includes GST. Where the price quoted already includes
GST

30. Accounting for Price Plus GST
Letsuse our Smart Clothing Example.
⚫Smart Clothing Limited sells business and ”smart”
casualware.
⚫On 2 Mar. The business bought 40 shirts on account, for $30
each plus GST
⚫On 4 Mar They sold 6 shirts for $50 each plus GST
⚫Prepare the journal entries for these transactions with GST of
10%.

31. Accounting for Sale of Inventory
Date Account Debit Credit
2 Mar 22 Inventory - Shirts 1200
GST Liability (10% x 40 x
$30)
120
Accounts Payable 1320
Purchase of 40 shirts @
$30 each Plus GST
4 Mar 22 Cash 330
GST (10% x 6 x $50) 30
Sales Revenue 300
Cost of Goods Sold 180
Inventory - Shirts 180
Sale of 6 shirts costing
$30 @ $50 each Plus
GST

32. Accounting for Price Including GST
Letsuse our Smart Clothing Example.
⚫Smart Clothing Limited sells business and ”smart”
casualware.
⚫On 2 Mar. The business bought 40 shirts on account, for $33
each including GST
⚫On 4 Mar They sold 6 shirts for $55 each including GST
⚫Prepare the journal entries for these transactions with GST of
10%.

33. Accounting for Sale of Inventory
Date Account Debit Credit
2 Mar 22Inventory – Shirts (10/11 x 40 x $33) 1200
GST Liability (1/11 x 40 x $33) 120
Accounts Payable 1320
Purchase of 40 shirts @ $33 each Incl GST
4 Mar 22Cash 330
GST (1/11 x 6 x $55) 30
Sales Revenue (10/11 x 6 x $55) 300
Cost of Goods Sold 180
Inventory - Shirts 180
Sale of 6 shirts costing $30 @ $55 each Incl GST