Chapter 5: Reporting and Safeguarding Cash

Question 1

Cash and Cash Equivalents Definition

Answer 1

Definition: Cash is money or instruments accepted by banks for immediate credit.

Cash includes cash on hand, cash in banks, and similar instruments.

Cash Equivalents: Short-term, highly liquid investments easily convertible to cash with minimal risk of value changes.

Examples of Cash Equivalents: Bank certificates of deposit, Treasury bills.

Question 2

International Accounting Standard 7

Answer 2

Definition: International Accounting

Standard 7 (IAS 7) Statement of Cash Flows defines cash equivalents as highly liquid investments readily convertible to cash with insignificant risk.

IAS 7 Criteria for Cash Equivalents: Short-term, easily convertible, and low risk of value fluctuations.

Examples of IAS 7 Cash Equivalents: Bank certificates of deposit, government Treasury bills.

Question 3

Financial Reporting

Answer 3

Consolidation: All cash accounts and cash equivalents combined for financial reporting.

Example: Gildan reports a single account, “cash and cash equivalents,” with a balance of $505.3 million as of January 3, 2021.

Specification: Gildan specifies cash equivalents as investments maturing within three months from acquisition.

Question 4

Importance of Cash Management

Answer 4

Purpose: Safeguarding cash from theft, fraud, or loss is crucial.

Responsibilities of Cash Management:
Accurate Accounting: Maintain precise records for cash flows and balances.

Cash Controls: Ensure enough cash for current needs, maturing liabilities, and emergencies.

Preventing Idle Cash: Excess idle cash is invested in securities to earn revenue until operational use.

Question 5

Cash Management Strategies

Answer 5

Accurate Accounting: Detailed records for cash inflows and outflows facilitate financial planning.

Cash Controls: Systems to monitor cash reserves for operational requirements, liabilities, and unforeseen circumstances.

Idle Cash Management: Investments in securities to generate revenue until needed for business operations.

Question 6

Separation of Duties in Cash Handling

Answer 6

Importance: Cash handling and recordkeeping should be separated to deter theft and fraud.

Examples of Separation:

Receiving and Disbursing Cash: Separate individuals handle cash receipts and cash disbursements.

Accounting for Cash: Individuals handling sales returns are different from those recording cash receipts.

Physical Handling vs. Accounting Entries: Employees receiving or paying cash cannot make accounting entries.

Question 7

Importance of Separation of Duties

Answer 7

Deterrence of Theft: Requires collusion of multiple persons to steal cash and conceal theft in records.

Illustration: Separate tasks minimize the risk of fraudulent activities.

Audit Reliability: External auditors review internal control levels, enhancing financial statement reliability.

Question 8

Prescribed Policies and Procedures

Answer 8

Purpose: Establish specific policies for cross-verification of work and reported results.

Control Mechanisms: Policies like reconciliation of cash accounts with bank statements prevent fraudulent disbursements.

Collusion Deterrence: Complex procedures make concealing fraudulent activities difficult without collusion.

Question 9

Cash Budget

Answer 9

Definition: A financial plan outlining expected cash receipts and disbursements over a specific period.

Purpose: Helps in managing cash flow, making informed financial decisions, and preventing cash shortages.

Question 10

Cash Receipts and Payments

Answer 10

Daily Cash Receipts: Maintain a daily record of cash receipts (e.g., cash register receipts or incoming cheques) for accurate tracking.

Daily Deposits: All cash receipts should be deposited in a bank daily to minimize theft risk.

Cash Payments Approval: Separate approval for purchases and expenditures; assign approval and cheque-signing to different individuals.

Control Measures: Use pre-numbered cheques and monitor electronic funds transfers to prevent misappropriation of funds.

Question 11

Independent Internal Verification

Answer 11

Purpose: Ensures transparency and accuracy in financial transactions.

Verification Measures:

Cash vs. Bank Deposits: Independent supervisor compares cash receipts with bank deposits.

Cheques vs. Invoices: Cross-verify issued cheques with invoices to prevent discrepancies.

Monthly Reconciliation: Reconcile bank accounts monthly with the company’s cash accounts for early error detection.

Question 12

Rotation of Duties

Answer 12

Purpose: Prevents economic crimes by interrupting ongoing fraudulent activities.

Implementation: Employees should take vacations and rotate their duties, creating opportunities for others to detect and report any irregularities.

Question 13

Content of a Bank Statement

Answer 13

Information Provided:

Deposits: Paper or electronic deposits recorded by the bank.

Cheques: Paper or electronic cheques cleared by the bank.

Bank Charges: Deductions like service charges made directly to the company’s account.

Account Balance: The ending balance in the company’s account.

Example Codes:
EFT: Electronic funds transfers.
NSF: Not sufficient funds (returned cheque).
SC: Bank service charges.
INT: Interest earned.

Question 14

Handling NSF Cheques

Answer 14

Definition: NSF (Not Sufficient Funds) cheques occur when a deposited cheque lacks funds.

Action: Company treats NSF cheques as receivables, making journal entries to debit accounts receivable and credit cash for the amount.

Question 15

Bank Service Charges and Interest Earned

Answer 15

Bank Service Charges: Deductions like service charges require journal entries to debit relevant expense account (e.g., bank service expense) and credit cash.

Interest Earned: Interest credited to the account requires journal entries to debit cash and credit interest revenue.

Question 16

Need for Reconciliation

Answer 16

Definition: A bank reconciliation is a schedule explaining the difference between the ending cash balance in the company’s records and the ending cash balance reported by the bank on the monthly statement.

Frequency: Should be completed for each separate chequing account at the end of each month.

Purpose: Resolves discrepancies between the company’s cash ledger account and the bank statement.

Question 17

Reasons for Differences in Cash Balances

Answer 17

Timing Differences:

Unrecorded Transactions: Some cash transactions are recorded by the company but not yet on the bank statement.

Bank-Recorded Transactions: Some transactions are on the bank statement but not yet recorded by the company.

Potential Causes:

Recording Errors: Discrepancies may result from errors in transaction recording by either the company or the bank.

Question 18

Outstanding Cheques

Answer 18

Definition: Cheques written and recorded in the company’s ledger but not yet cleared by the bank.

Identification: Compare cancelled cheques on the bank statement with the company’s cheque records (e.g., cheque stubs or journal).

Question 19

Deposits in Transit

Answer 19

Definition: Deposits sent to the bank and recorded in the company’s ledger but not yet recorded by the bank.

Occurrence: Often happens when deposits are made shortly before the close of the bank statement period.

Identification: Compare deposits listed on the bank statement with copies of deposit slips retained by the company.

Question 20

NSF Cheques

Answer 20

Definition: “Bad” or “bounced” cheques that were deposited but need to be deducted from the company’s cash account and recorded as accounts receivable.

Question 21

Bank Service Charges

Answer 21

Definition: Expenses for bank services listed on the bank statement but not recorded on the company’s books.

Question 22

Interest

Answer 22

Interest paid by the bank to the company on its bank balance.

Impact: Can cause differences between the bank and book balances.

Question 23

Errors

Answer 23

Cause: Mistakes made by both the bank and the company, especially in high-volume cash transactions.

Question 24

Bank Reconciliation Process

Answer 24

Steps:

Identify Outstanding Cheques: Un-cleared cheques recorded by the company.

Identify Deposits in Transit: Deposits made by the company but not yet recorded by the bank.

Identify Bank Charges and Credits: Bank deductions or additions not yet recorded by the company.

Determine Impact of Errors: Identify and rectify discrepancies, e.g., transposition errors.

Purpose: To reconcile the ending bank balance with the ending book balance of cash.

Question 25

Importance of Bank Reconciliation

Answer 25

Accuracy Check: Ensures accuracy of both bank balance and company’s cash records.

Correct Cash Balance: Computes the correct cash balance, including cash on hand if any, reported on the statement of financial position.

Identification of Unrecorded Transactions: Highlights any transactions or changes necessary for the company’s cash accounts to show the correct balance.

Journal Entries: Transactions identified in the bank reconciliation require corresponding journal entries in the company’s records.