ACIS MIDTERM REVIEWER
The most common method for detecting occupational fraud is a tip – from
CHAPTER 3
TRUE OR FALSE
1. The ethical principle of justice asserts that the benefits of the decision
should be distributed fairly to those who share the risks.
2. The ethical principle of informed consent suggests that the decision should
be implemented so as to minimize all of the risks and to avoid any
unnecessary risks.
3. Employees should be made aware of the firm’s commitment to ethics.
4. Business ethics is the analysis of the nature and social impact of computer
technology, and the corresponding formulation and justification of policies
for the ethical use of such technology.
5. Para computer ethics is the exposure to stories and reports found in the
popular media regarding the good or bad ramifications of computer
technology.
6. Source code is an example of intellectual property.
7. Copyright laws and computer industry standards have been developed
jointly and rarely conflict.
8. Business bankruptcy cases always involve fraudulent behavior.
9. Defalcation is another word for financial fraud.
10. The trend toward distributed data processing increases the exposure to
fraud from remote locations.
11. The external auditor is responsible for establishing and maintaining the
internal control system.
12. Segregation of duties is an example of an internal control procedure.
13. Controls in a computer-based information system are identical to
controls in a manual system.
14. Preventive controls are passive techniques designed to reduce fraud.
15. Ethical issues and legal issues are essentially the same.
16. Internal control systems are recommended but not required of firms
subject to the Foreign Corrupt Practices Act.
17. Operations fraud is the misuse or theft of the firm’s computer resources.
18. The Foreign Corrupt Practices Act requires only that a firm keep good
records.
19. A key modifying assumption in internal control is that the internal control
system is the responsibility of management.
20. Database management fraud includes altering, updating, and deleting an
organization’s data.
21. While the Sarbanes-Oxley Act prohibits auditors from providing non-
accounting services to their audit clients, they are not prohibited from
performing such services for non-audit clients or privately held companies.
22. The Sarbanes-Oxley Act requires the audit committee to hire and oversee
the external auditors.
23. Section 404 requires that corporate management (including the CEO)
certify their organization’s internal controls on a quarterly and annual basis.
24. Section 302 requires the management of public companies to assess and
formally report on the effectiveness of their organization’s internal controls.
25. The objective of SAS 99 is to seamlessly blend the auditor’s
consideration of fraud into all phases of the audit process.
1. When management does not act ethically, fraud is more likely to occur.
2. In the Phar-Mor fraud case, management did not write or adopt a code of
ethics.
3. Maintaining high ethics can help prevent fraud but will not help to
detect fraud.
4. Due to management’s responsibility to monitor operations by
examining reports that summarize the results of operations, it is necessary
that the system provide timely and accurate information.
5. In order to fulfill the obligations of stewardship and reporting,
management has to create a code of ethics.
6. In most cases, a fraud will include altering accounting records to conceal
the fact that a theft has occurred.
7. According to the 2004 Report to the Nation by the Association of Certified
Fraud Examiners, the estimate of losses due to fraud would
total approximately $2,800 per employee.
8.
an employee, a customer, vendor, or anonymous source.
9. Defalcation and internal theft are names that refer to the misstatement of
financial records.
10. The three conditions that make up the fraud triangle are theft,
concealment, and conversion.
11. A good set of internal controls may not be as effective in reducing the
chance of management fraud as it would be in reducing the change of fraud
committed by an employee.
12. The most effective measure to prevent management fraud is to establish a
professional internal audit staff that periodically checks up on management
and reports directly to the audit committee of the board of directors.
13. Collusion between employees is one of the easiest frauds to detect and
prevent.
14. Collusion can make it much easier to commit and conceal a fraud or
theft, even when proper internal controls are in place.
15. Customer fraud is a common problem for companies that sell
merchandise online
16. Collusion can occur only when two employees who work for the same
firm conspire to circumvent the internal controls to commit fraud or theft.
17. A vendor audit occurs when a vendor examines the books and records of
a customer.
18. Industrial espionage can occur with or without the use of a computer.
19. It is necessary to use a computer to accomplish software piracy.
20. A hacker is someone who has gained unauthorized access to the
computer and must be someone outside the organization.
21. If an organization has the policy of allowing employees to work from
home via telecommunications, they could be opening themselves up to
an opportunity for a hacker to break-in to their network.
22. E-mail spoofing is more of an irritation to an organization that a fraud
threat.
23. In order for a code of ethics to reduce opportunities for managers and
employees to commit fraud, it is necessary that management emphasizes this
code. Punishment related to violations of the code is not necessary.
24. It is not always possible to avoid all mistakes and frauds because there
will always be human error, human nature, and it is not always cost-effective
to close all the holes.
25. The risk assessment is the foundation for all other components of internal
control and provides the discipline and structure of all other components.
26. Companies that reward management with incentives to achieve a growth
in earnings is running the risk that management will also have more
motivation and pressure to falsify the financial statements to show the higher
amounts.
27. The tone at the top of the organization tends to flow through the entire
organization and affects behavior at all levels.
28. A poor control environment can be overcome if the remaining
components of internal control are strong.
29. The difference between a general authorization and a specific
authorization is that with a general authorization, a transaction is allowed if it
falls within specified parameters, whereas with a specific authorization,
explicit authorization is needed for that singe transaction to becompleted.
30. When safeguarding assets, there is no trade-off between access and
efficiency.
31. Independent checks can serve as a preventive control in that they uncover
problems in the data or the processing.
32. Feedback needed by management to assess, manage, and control the
efficiency and effectiveness of the operations of an organization relates to
both financial and operational information.
33. A sophisticated accounting system will provide the necessary accurate
and effective feedback needed by management to assess, manage and control
the operations of an organization.
34. Auditing, a monitoring activity, takes place only on a periodic basis.
35. It is not possible to have an internal control system that will provide
absolute assurance.
36. Computer systems increase the efficiency and effectiveness of an a. the internal auditor c. management
organization but also increases their vulnerability. b. the accountant d. the external auditor
37. The risks related to computerized systems are adequately covered by the 11. The concept of reasonable assurance suggests that
COSO internal control report. a. the cost of an internal control should be less than the benefit it
38. The acronym COBIT stands for Control Objectives for Information provides
Technology, an extensive framework of information technology controls b. a well-designed system of internal controls will detect all fraudulent
developed by Information Systems Audit and Control Association. activity
39. The AICPA and the Canadian Institute of Chartered Accountants worked c. the objectives achieved by an internal control system vary depending on
together to develop IT guidelines, commonly referred to as COBIT. the data processing method
40. The risk related to confidentiality category of Trust Principles is that d. the effectiveness of internal controls is a function of the industry
confidential information about the company or its business partners may be environment
subject to unauthorized access during its transmission or storage in the 12. Which of the following is not a limitation of the internal control system?
IT system. a. errors are made due to employee fatigue
b. fraud occurs because of collusion between two employees
MULTIPLE CHOICE c. the industry is inherently risky
1. Which ethical principle states that the benefit from a decision must d. management instructs the bookkeeper to make fraudulent journal entries
outweigh the risks, and that there is no alternative decision that provides the 13. The most cost-effective type of internal control is
same or greater benefit with less risk? a. preventive control c. detective control
a. minimize risk c. informed consent b. accounting control d. corrective control
b. justice d. proportionality 14. Which of the following is a preventive control?
2. Individuals who acquire some level of skill and knowledge in the field of a. credit check before approving a sale on account
computer ethics are involved in which level of computer ethics? b. bank reconciliation
a. para computer ethics c. theoretical computer ethics c. physical inventory count
b. pop computer ethics d. practical computer ethics d. comparing the accounts receivable subsidiary ledger to the control account
3. All of the following are issues of computer security except 15. A well-designed purchase order is an example of a
a. releasing incorrect data to authorized individuals a. preventive control c. corrective control
b. permitting computer operators unlimited access to the computer b. detective control d. none of the above
room 16. A physical inventory count is an example of a
c. permitting access to data by unauthorized individuals a. preventive control c. corrective control
d. providing correct data to unauthorized individuals b. detective control d. feed forward control
4. Which characteristic is not associated with software as intellectual 17. The bank reconciliation uncovered a transposition error in the books.
property? This is an example of a
a. uniqueness of the product a. preventive control c. corrective control
b. possibility of exact replication b. detective control d. none of the above
c. automated monitoring to detect intruders 18. In balancing the risks and benefits that are part of every ethical decision,
d. ease of dissemination managers receive guidance from each of the following except
5. For an action to be called fraudulent, all of the following conditions are a. justice c. risk minimization
required except b. self interest d. proportionality
a. poor judgment c. intent to deceive 19. Which of the following is not an element of the internal control
b. false representation d. injury or loss environment?
6. One characteristic of employee fraud is that the fraud a. management philosophy and operating style
a. is perpetrated at a level to which internal controls do not apply b. organizational structure of the firm
b. involves misstating financial statements c. well-designed documents and records
c. involves the direct conversion of cash or other assets to the employee’s d. the functioning of the board of directors and the audit committee
personal benefit 20. Which of the following suggests a weakness in the internal control
d. involves misappropriating assets in a series of complex transactions environment?
involving third parties a. the firm has an up-to-date organizational chart
7. Forces which may permit fraud to occur do not include b. monthly reports comparing actual performance to budget are distributed
a. a gambling addiction c. centralized decision making environment to managers
b. lack of segregation of duties d. questionable integrity of employees c. performance evaluations are prepared every three years
8. Which of the following best describes lapping? d. the audit committee meets quarterly with the external auditors
a. applying cash receipts to a different customer’s account in an attempt 21. Which of the following indicates a strong internal control environment?
to conceal previous thefts of funds a. the internal audit group reports to the audit committee of the board of
b. inflating bank balances by transferring money among different bank directors
accounts b. there is no segregation of duties between organization functions
c. expensing an asset that has been stolen c. there are questions about the integrity of management
d. creating a false transaction d. adverse business conditions exist in the industry
9. Operations fraud includes 22. According to SAS 78, an effective accounting system performs all of the
a. altering program logic to cause the application to process data incorrectly following except
b. misusing the firm’s computer resources a. identifies and records all valid financial transactions
c. destroying or corrupting a program’s logic using a computer virus b. records financial transactions in the appropriate accounting period
d. creating illegal programs that can access data files to alter, delete, or insert c. separates the duties of data entry and report generation
values d. records all financial transactions promptly
10. Who is responsible for establishing and maintaining the internal control 23. Which of the following is the best reason to separate duties in a manual
system? system?
a. to avoid collusion between the programmer and the computer operator b. how managers achieve what they decide is right for the business
b. to ensure that supervision is not required c. both a and b
c. to prevent the record keeper from authorizing transactions d. none of the above
d. to enable the firm to function more efficiently 37. All of the following are conditions for fraud except
24. Segregation of duties in the computer-based information system includes a. false representation c. intent
a. separating the programmer from the computer operator b. injury or loss d. material reliance
b. preventing management override 38. The four principal types of fraud include all of the following except
c. separating the inventory process from the billing process a. bribery c. conflict of interest
d. performing independent verifications by the computer operator b. gratuities d. economic extortion
25. Which of the following is not an internal control procedure? 39. The characteristics of useful information include
a. authorization c. independent verification a. summarization, relevance, timeliness, accuracy, and completeness
b. management’s operating style d. accounting records b. relevance, summarization, accuracy, timelessness, and completeness
26. The decision to extend credit beyond the normal credit limit is an c. timeliness, relevance, summarization, accuracy, and conciseness
example of d. disaggregation, relevance, timeliness, accuracy, and completeness
a. independent verification c. segregation of functions 40. Internal control system have limitations. These include
b. authorization d. supervision a. possibility of honest error c. management override
27. When duties cannot be segregated, the most important internal control b. circumvention d. stability of systems
procedure is 41. Management can expect various benefits to follow from implementing a
a. supervision c. access controls system of strong internal control. Which of the following benefits is least
b. independent verification d. accounting records likely to occur?
28. An accounting system that maintains an adequate audit trail is a. reduced cost of an external audit.
implementing which internal control procedure? b. prevents employee collusion to commit fraud.
a. access controls c. independent verification c. availability of reliable data for decision-making purposes.
b. segregation of functions d. accounting records d. some assurance of compliance with the Foreign Corrupt Practices Act of
29. Employee fraud involves three steps. Of the following, which is not 1977.
involved? e. some assurance that important documents and records are protected.
a. concealing the crime to avoid detection 42. Which of the following situations is not a segregation of duties violation?
b. stealing something of value a. The treasurer has the authority to sign checks but gives the signature block
c. misstating financial statements to the assistant treasurer to run the check-signing machine.
d. converting the asset to a usable form b. The warehouse clerk, who has the custodial responsibility over
30. Which of the following is not an example of independent verification? inventory in the warehouse, selects the vendor and authorizes purchases
a. comparing fixed assets on hand to the accounting records when inventories are low.
b. performing a bank reconciliation c. The sales manager has the responsibility to approve credit and the
c. comparing the accounts payable subsidiary ledger to the control account authority to write off accounts.
d. permitting authorized users only to access the accounting system d. The department time clerk is given the undistributed payroll checks to mail
31. The importance to the accounting profession of the Foreign Corrupt to absent employees.
Practices Act of 1977 is that e. The accounting clerk who shares the record keeping responsibility for the
a. bribery will be eliminated accounts receivable subsidiary ledger performs the monthly reconciliation of
b. management will not override the company’s internal controls the subsidiary ledger and the control account.
c. firms are required to have an effective internal control system 43. Which of the following is not an issue to be addressed in a business code
d. firms will not be exposed to lawsuits of ethics required by the SEC?
32. The board of directors consists entirely of personal friends of the chief a. Conflicts of interest c. Legal Compliance
executive officer. This indicates a weakness in b. Full and Fair Disclosures d. Internal Reporting of Code Violation
a. the accounting system c. control procedures e. All of the above are issues to be addressed
b. the control environment d. this is not a weakness
33. Computer fraud can take on many forms, including each of the following SHORT ANSWER
except 1. What are the main issues to be addressed in a business code of ethics
a. theft or illegal use of computer-readable information required by the SEC?
b. theft, misuse, or misappropriation of computer equipment ANS: Conflicts of interest, Full and Fair Disclosures, Legal Compliance,
c. theft, misuse, or misappropriation of assets by altering computer-readable Internal Reporting of Code Violations, Accountability
records and files 2. List the four broad objectives of the internal control system.
d. theft, misuse, or misappropriation of printer supplies ANS: safeguard assets, ensure the accuracy and reliability of accounting
34. When certain customers made cash payments to reduce their accounts records, promote organizational efficiency, comply with management’s
receivable, the bookkeeper embezzled the cash and wrote off the accounts as policies and procedures
uncollectible. Which control procedure would most likely prevent this 3. Explain the purpose of the PCAOB
irregularity? ANS: The PCAOB is empowered to set auditing, quality control, and ethics
a. segregation of duties c. accounting system standards; to inspect registered accounting firms; to conduct investigations;
b. accounting records d. access controls and to take disciplinary actions.
35. The office manager forgot to record in the accounting records the daily 4. What are the five internal control components described in the SAS 78 /
bank deposit. Which control procedure would most likely prevent or detect COSO framework
this error? ANS: the control environment, risk assessment, information and
a. segregation of duties c. accounting records communication, monitoring, and control activities
b. independent verification d. supervision 5. What are management responsibilities under section 302 and 404?
36. Business ethics involves ANS: Section 302 requires that corporate management (including the CEO)
a. how managers decide on what is right in conducting business certify their organization’s internal controls on a quarterly and annual basis.
Section 404 requires the management of public companies to assess and
formally report on the effectiveness of their organization’s internal controls.
6. Identify to indicate whether each procedure is a preventive or detective
control.
a. authorizing a credit sale Preventive Detective
b. preparing a bank reconciliation Preventive Detective
c. locking the warehouse Preventive Detective
d. preparing a trial balance Preventive Detective
e. counting inventory Preventive Detective
ANS: A. preventive; B. detective; C. preventive; D. detective; E. detective
Use the internal control procedures listed below to complete the statements.
segregation of duties specific authorization general authorization accounting
records access controls independent verification supervision
7. A clerk reorders 250 items when the inventory falls below 25 items. This
is an example of general authorization.
8. The internal audit department recalculates payroll for several employees
each pay period. This is an example of independent verification
9. Locking petty cash in a safe is an example of access controls
10. Approving a price reduction because goods are damaged is an example of
specific authorization
11. Using cameras to monitor the activities of cashiers is an example of
supervision
12. Not permitting the computer programmer to enter the computer room is
an example of segregation of duties
13. Sequentially numbering all sales invoices is an example of accounting
records
14. What are the five conditions necessary for an act to be considered
fraudulent?
ANS: false representation, material fact, intent, justifiable reliance, and
injury or loss
15. What is the objective of SAS 99?
ANS: The objective of SAS 99 is to seamlessly blend the auditor’s
consideration of fraud into all phases of the audit process.
16. Distinguish between exposure and risk.
ANS: Exposure is the absence or weakness of a control which increases the
firm’s risk of financial loss or injury. Risk is the probability of incurring such
a loss or injury.
17. Explain the characteristics of management fraud.
ANS: Management fraud typically occurs at levels above where the internal
control system is effective. Financial statements are frequently modified to
make the firm appear more healthy than it actually is. If any misappropriation
of assets occurs, it is usually well hidden.
18. The text discusses many questions about personal traits of employees
which might help uncover fraudulent activity. What are three?
ANS: executives: with high personal debt, living beyond their means,
engaged in habitual gambling, appear to abuse alcohol or drugs, appear to
lack personal codes of ethics, appear to be unstable
19. Give two examples of employee fraud and explain how the theft might
occur.
ANS: Charges to expense accounts: Cash could be stolen and charged to a
miscellaneous expense account. Once the account is closed, detection would
be more difficult.
Lapping: This involves converting cash receipts to personal use. If a
customer’s check is taken, his/her balance will not reflect a payment and will
be detected when a statement is sent. In order to conceal this fraud, a later
payment is used to cover the stolen check. This is in effect a small scale
Ponzi scheme.
20. What are the six broad classes of physical control activities defined by
SAS 78?
ANS: Transaction authorization, segregation of duties, supervision, access
controls, accounting records, independent verification
ESSAY
1. The text describes six internal control activities. List four of them and
provide a specific example of each one.
ANS: Control Activity Example
Authorization general (purchase of inventory when level drops) or specific
(credit approval beyond normal limit)
Segregation of functions separate authorization from processing separate
custody of assets from record keeping
Supervision required when separation of duties is not possible, such as
opening the mail (cash receipts)
Accounting records maintain an adequate audit trail
Access controls maintain physical security Independent verification bank
reconciliation, physical inventory count
2. Contrast management fraud with employee fraud.
ANS: Employee fraud is usually designed to directly convert cash or other
assets to the employee’s personal benefit.
Management fraud involves less of a direct benefit to the perpetrator.
Management fraud may involve an attempt to misstate financial performance
in order to gain additional compensation or to earn a promotion.
Management fraud may also involve an attempt to misstate financial
performance in order to increase the price of the company’s stock or to
reduce the cost of debt.
3. Discuss the importance of the Foreign Corrupt Practices Act of 1977 to the
accounting profession.
ANS: The Foreign Corrupt Practices Act of 1977 (FCPA) is a law that
requires all companies registered with the Securities and Exchange
Commission to: keep records that fairly and reasonably reflect the
transactions of the firm and its financial position maintain a system of
internal control that provides reasonable assurance that the organization’s
objectives are met As a result of the Foreign Corrupt Practices Act of 1977,
management devotes substantial time to developing and maintaining the
internal control structure because failure to do so violates the FCPA and
could lead to heavy fines and imprisonment. Accountants are key participants
in establishing and maintaining the internal control structure. Therefore, it is
accountants who are instrumental in ensuring that the firm is in compliance
with the Foreign Corrupt Practices Act of 1977.
4. Why are the computer ethics issues of privacy, security, and property
ownership of interest to accountants?
ANS: Privacy is a concern because the nature of computer data files makes it
possible for unauthorized individuals to obtain information without it being
recognized as “missing” from its original location. Security is a concern
because its absence makes control from a privacy viewpoint questionable. In
addition lack of security may permit unauthorized changes to data, therefore
distorting information that is reported. Property ownership raises issues of
legitimacy of organizational software, valuation of assets, and questions of
lost revenues.
5. According to common law, there are five conditions that must be present
for an act to be deemed fraudulent. Name and explain each.
ANS: In order for an act to be deemed fraudulent under common law, it must
possess the following characteristics: false representation, meaning some
misrepresentation or omission must have occurred, material facts, meaning
that the facts must influence someone’s actions, intent, meaning there must
have been the intention to deceive others, justifiable reliance, meaning it did
affect someone’s decision, and injury or loss must have occurred.
6. Management fraud is regarded as more serious than employee fraud. Three
special characteristics have been discussed for management fraud. What are
they? Explain.
ANS: It usually occurs at levels above the normal internal control system.
There is typically an intent to present a better picture of the business than is
valid, often to deceive creditors and/or shareholders. If assets are
misappropriated, the route is quite devious involving a maze of business
transactions.
7. Four principal types of corruption are discussed. Name all four and explain
at least two.
ANS: Corruption involves an executive, manager, or employee of a business
working in collusion with an outsider. The four principal types of corruption
are: bribery, illegal gratuities, conflicts of interest, and economic extortion.
Bribery involves giving, offering, soliciting, or receiving things of value to
influence an official in the performance of his or her lawful duties. An illegal
gratuity involves giving. receiving, offering, or soliciting something of value
because of an official act that has been taken. A conflict of interest occurs
when an employee acts on behalf of a third party during the discharge of his
or her duties or has self-interest in the activity being performed. Economic
extortion is the use (or threat) of force (including economic sanctions) by an
individual or organization to obtain something of value.
8. Misappropriation of assets can involve various schemes: charges to
expense accounts, lapping, and transaction fraud. Explain each and give an
example.
ANS: Charges to expense accounts involve fictitious charges to such
accounts as miscellaneous expense to offset theft of an asset. Because the
expense account is closed to revenue at the end of the period, the period in
which it could be detected is short. Lapping is a technique whereby an early
theft is covered up by a later one, i.e., with the moves “lapping” over each
other. The simplest example involves taking a customer’s payment. A later
payment is then credited to the first customer’s account, not the second. And
on it goes. This requires some control over billing to avoid tipping off the
last customer. Transaction fraud involves deleting, altering, or adding false
transactions to divert assets to the perpetrator. For example, if an employee
leaves the business and the supervisor fails to notify payroll and continues to
clock the employee in and out, a fraudulent paycheck would be produced. If,
in addition, the supervisor distributes the paycheck, it can be kept, and
cashed.
9. Computer fraud is easiest at the data collection stage. Why?
ANS: Computer fraud is easiest at the data collection stage because much of
what occurs after the data collection or input stage is not visible to human
eyes. Once entered, the system will presume that the input is legitimate and
will process it as all others.
10. Explain why collusion between employees and management in the
commission of a fraud is difficult to both prevent and detect.
ANS: Collusion among employees in the commission of a fraud is difficult
to both prevent and detect. This is particularly true when the collusion is
between managers and their subordinate employees. Management plays a
key role in the internal control structure of an organization. They are relied
upon to prevent and detect fraud among their subordinates. When they
participate in fraud with the employees over whom they are supposed to
provide oversight, the organization’s control structure is weakened, or
completely circumvented, and the company becomes more vulnerable to
losses.
11. Since all fraud involves some form of financial misstatement, how is
Fraudulent Statement fraud different?
ANS: Fraudulent statements are associated with management fraud. While
all fraud involves some form of financial misstatement, to meet the definition
under this class of fraud scheme, the statement itself must bring direct or
indirect financial benefit to the perpetrator. In other words, the statement is
not simply a vehicle for obscuring or covering a fraudulent act. For example,
misstating the cash account balance to cover the theft of cash does not fall
under this class of fraud scheme. On the other hand, understating liabilities to
present a more favorable financial picture of the organization to drive up
stock prices does qualify.
12. Explain the problems associated with lack of auditor independence.
ANS: Auditing firms who are also engaged by their clients to perform non-
accounting activities such as actuarial services, internal audit outsourcing
services, and consulting lack independence. They are essentially auditing
their own work. This risk is that as auditors they will not bring to
management’s attention detected problems that may adversely affect their
consulting fees. For example, Enron’s auditors – Arthur Andersen – were
also their internal auditor’s and their management consultants.
13. Explain the problems associated with lack of director independence
ANS: Many boards of directors are comprised of individuals who are not
independent. Examples of lack of independence are directors who: have a
personal relationship by serving on the boards of other directors companies;
have a business trading relationship as key customers or suppliers of the
company; have a financial relationship as primary stockholders or have
received personal loans from the company; have an operational relationship
as employees of the company.
14. Explain the problems associated with Questionable Executive
Compensation Schemes
ANS: A survey by Thompson Financial revealed the strong belief that
executives have abused stock-based compensation. The consensus is that
fewer stock options should be offered than currently is the practice.
Excessive use of short-term stock options to compensate directors and
executives may result in short term thinking and strategies aimed at driving
up stock prices at the expense of the firm’s longterm health. In extreme
cases, financial statement misrepresentation has been the vehicle to achieve
the stock price needed to exercise the option.
15. Explain the problems associated with inappropriate accounting practices.
ANS: The use of inappropriate accounting techniques is a characteristic
common to many financial statement fraud schemes. Enron made elaborate
use of Special Purpose Entities (SPE) to hide liabilities through off balance
sheet accounting. WorldCom management transferred transmission line costs
from current expense accounts to capital accounts. This allowed them to
defer some operating expenses and report higher earnings. Also, they
reduced the book value of hard assets of MCI by $3.4 billion and increased
goodwill by the same amount. Had the assets been left at book value, they
would have been charged against earnings over four years. Goodwill, on the
other hand, was amortized over much longer period.
16. Explain the purpose of the PCAOB.
ANS: The Sarbanes-Oxley Act creates a Public Company Accounting
Oversight Board (PCAOB). The PCAOB is empowered to set auditing,
quality control, and ethics standards, to inspect registered accounting firms,
to conduct investigations, and to take disciplinary actions.
17. Why is an Independent Audit Committee important to a company?
ANS: The Sarbanes-Oxley Act requires all audit committee members to be
independent and requires the audit committee to hire and oversee the external
auditors. This provision is consistent with many investors who consider the
board composition to be a critical investment factor. For example, Thompson
Financial survey revealed that most institutional investors want corporate
boards to be comprised of at least 75% of independent directors
18. What are the key points of the “Issuer and Management Disclosure” of
the Sarbanes-Oxley Act?
ANS: 1. Public companies must report all off balance-sheet transactions.
2. Annual reports filed with the SEC must include a statement by
management asserting that it is responsible for creating and maintaining
adequate internal controls and asserting to the effectiveness of those controls.
3. Officers must certify that the company’s accounts ‘fairly present’ the firms
financial condition and results of operations. Knowingly filing a false
certification is a criminal offence.
19. In this age of high technology and computer based information systems,
why are accountants concerned about physical (human) controls?
ANS: This class of controls relates primarily to the human activities
employed in accounting systems. These activities may be purely manual,
such as the physical custody of assets, or they may involve the use of
computers to record transactions or update accounts. Physical controls do not
relate to the computer logic that actually performs these accounting tasks.
This is the subject matter of chapter 16. Rather, they relate to the human
activities that initiate such computer logic. In other words, physical controls
do not suggest an environment in which clerks update paper accounts with
pen and ink. Virtually all systems, regardless of their sophistication, employ
human activities that need to be controlled.
20. How has the Sarbanes-Oxley Act had a significant impact on corporate
governance?
ANS: The Sarbanes-Oxley Act requires all audit committee members to be
independent and requires the audit committee to hire and oversee the external
auditors. This provision is consistent with many investors who consider the
board composition to be a critical investment factor. For example, a
Thomson Financial survey revealed that most institutional investors want
corporate boards to be comprised of at least 75 percent independent directors.
21. Discuss the non accounting services that external auditors are no longer
permitted to render to audit clients under SOX legislation.
ANS: The Act addresses auditor independence by creating more separation
between a firm’s attestation and non-auditing activities. This is intended to
specify categories of services that a public accounting firm cannot perform
for its client. These include the following nine functions:
Bookkeeping or other services related to the accounting records or financial
statements;
Financial information systems design and implementation;
Appraisal or valuation services, fairness opinions, or contribution-in-kind
reports;
Actuarial services;
Internal audit outsourcing services;
Management functions or human resources;
Broker or dealer, investment adviser, or investment banking services;
Legal services and expert services unrelated to the audit; and
Any other service that the PCAOB determines is impermissible.
While the Sarbanes-Oxley Act prohibits auditors from providing the above
services to their audit clients, they are not prohibited from performing such
services for non-audit clients or privately held companies.
22. What are the key points of the “Issuer and Management Disclosure” of
the Sarbanes-Oxley Act?
ANS: The Sarbanes-Oxley Act imposes new corporate disclosure
requirements including: Public companies must report all off-balance-sheet
transactions. Annual reports filed with the SEC must include a statement by
management asserting that it is responsible for creating and maintaining
adequate internal controls and asserting to the effectiveness of those controls.
Officers must certify that the company’s accounts “fairly present” the firm’s
financial condition and results of operations. Knowingly filing a false
certification is a criminal offence.
DEFINITIONS
1. Ethics - Pertains to the principles of conduct that individuals use in making
choices and guiding their behavior in situations that involve the concept of
right and wrong
2. Business Ethics - Involves finding the answers to 2 questions. How do
managers decide what is right in conducting business? And how do they
achieve what is right?
3. Computer Ethics - Is the analysis of the nature and social impact of
computer technology and the corresponding formulation and justification of
policies for the ethical use of such technology
4. Privacy - People desire to be in full control of what and how much
information about themselves is available to others
5. Security - Is an attempt to avoid such undesirable events as a loss of
confidentiality or data integrity
6. Fraud - Denotes a false representation of a material fact made by one
party to another party with the intent to deceive the other party to justifiably
rely on the fact
7. False Representation - There must be a false statement or a non disclosure
8. Material Fact - A fact must be a substantial factor in inducing someone to
act
9. Intent- There must be the intent to deceive or the knowledge that one's
statement is false
10. Injury or Loss - The deception must have caused injury or loss to the
victim of the fraud
11. Justifiable Reliance - The misrepresentation must have been a substantial
fact on which the injured party relied
12. Employee Fraud - Is generally designed to directly convert cash or other
assets to the employee's personal benefit
13. Management Fraud - Usually does not involve the direct theft of assets. Is
usually done by top management where internal controls can't detect
14. Fraud Triangle - Consists of situational pressure, opportunity, and ethics
15. Fraudulent Statements - Are associated with management fraud. The
financial statement misrepresentation must bring direct or indirect financial
benefit to the perpetrator
16. Corruption - Involves an executive, manager or employee of the
organization in collusion with an outsider. 10% of occupational fraud cases
17. Bribery - Involves giving, offering, or soliciting things of value to
influence an official in the performance of their lawful duties
18. Illegal Gratuity - Involves giving or receiving something of value
because of an official act that has been taken
19. Conflict of Interest - Occurs when an employee acts on behalf of a third
party during the discharge of their duties or has self interest in the activity
20. Economic Extortion - Is the use of force by an individual or organization
to obtain something of value
21. Skimming - Involves stealing cash from an organization before it is
recorded on the organization's books and records
22. Cash Larceny - Involves schemes in which cash receipts are stolen from
an organization after they have been recorded in the organization's books and
records
23. Lapping - In which the cash receipts clerk first steals and cashes a check
from customer A and makes up the difference from customer B
24. Vendor Fraud - Are perpetrated by employees who cause their employer
to issue a payment to a false supplier by submitting invoices for goods and
services
25. Shell Company - First requires that the perpetrator establish a false
supplier in the books of the victim company. Them by issuing false invoices
creates payments to this false supplier
26. Pass Through Fraud - Is similar to a shell company fraud with the
exception that a transaction has taken place. Inventory is purchased from a
legitimate supplier then the place is inflated by a fake supplier before being
sold to the victim company
27. Pay and Return - Involves a clerk with check writing authority who
intentionally pays a vendor twice for the same invoice. The supplier
reimburses one of the checks and the employee takes the cash
CHAPTER 4
TRUE OR FALSE
1. The packing slip is also known as the shipping notice.
2. The bill of lading is a legal contract between the buyer and the seller.
3. Another name for the stock release form is the picking ticket.
4. Warehouse stock records are the formal accounting records for inventory.
5. The purpose of the invoice is to bill the customer.
6. In most large organizations, the journal voucher file has replaced the
formal general journal.
7. The cash receipts journal is a special journal
8. In the revenue cycle, the internal control “limit access” applies to physical
assets only.
9. In real-time processing systems, routine credit authorizations are
automated.
10. In a computerized accounting system, segregation of functions refers to
inventory control, accounts receivable, billing, and general ledger tasks.
11. A written customer purchase order is required to trigger the sales order
system.
12. Inventory control has physical custody of inventory.
13. The principal source document in the sales order system is the sales
order.
14. Sales orders should be pre-numbered documents
15. Integrated accounting systems automatically transfer data between
modules.
16. If a customer submits a written purchase order, there is no need to
prepare a sales order.
17. Sales return involves receiving, sales, credit, and billing departments, but
not accounts receivable.
18. A remittance advice is a form of turn-around document.
19. A bill of lading is a request for payment for shipping charges.
20. In point of sale systems, authorization takes the form of validation of
credit card charges.
MULTIPLE CHOICE
1. The revenue cycle consists of
a. one subsystem–order entry
b. two subsystems–sales order processing and cash receipts
c. two subsystems–order entry and inventory control
d. three subsystems–sales order processing, credit authorization, and cash
receipts
2. The reconciliation that occurs in the shipping department is intended to
ensure that
a. credit has been approved
b. the customer is billed for the exact quantity shipped
c. the goods shipped match the goods ordered
d. inventory records are reduced for the goods shipped
3. The adjustment to accounting records to reflect the decrease in inventory
due to a sale occurs in the
a. warehouse c. billing department
b. shipping department d. inventory control department
4. Which document triggers the revenue cycle?
a. the sales order c. the sales invoice
b. the customer purchase order d. the journal voucher
5. Copies of the sales order can be used for all of the following except
a. purchase order c. shipping notice
. credit authorization d. packing slip
6. The purpose of the sales invoice is to
a. record reduction of inventory
b. transfer goods from seller to shipper
c. bill the customer
d. select items from inventory for shipment
7. The customer open order file is used to
a. respond to customer queries c. ship the customer order
b. fill the customer order d. authorize customer credit
8. The stock release copy of the sales order is not used to
a. locate and pick the items from the warehouse shelves
b. record any out-of-stock items
c. authorize the warehouse clerk to release custody of the inventory to
shipping
d. record the reduction of inventory
9. The shipping notice
a. is mailed to the customer
b. is a formal contract between the seller and the shipping company
c. is always prepared by the shipping clerk
d. informs the billing department of the quantities shipped
10. The billing department is not responsible for
a. updating the inventory subsidiary records
b. recording the sale in the sales journal
c. notifying accounts receivable of the sale
d. sending the invoice to the customer
11. Customers should be billed for backorders when
a. the customer purchase order is received
b. the backordered goods are shipped
c. the original goods are shipped
d. customers are not billed for backorders because a backorder is a lost sale
12. Usually specific authorization is required for all of the following except
a. sales on account which exceed the credit limit
b. sales of goods at the list price
c. a cash refund for goods returned without a receipt
d. write off of an uncollectible account receivable
13. Which of following functions should be segregated?
a. opening the mail and making the journal entry to record cash receipts
b. authorizing credit and determining reorder quantities
c. maintaining the subsidiary ledgers and handling customer queries
d. providing information on inventory levels and reconciling the bank
statement
14. Which situation indicates a weak internal control structure?
a. the mailroom clerk authorizes credit memos
b. the record keeping clerk maintains both accounts receivable and accounts
payable subsidiary ledgers
c. the warehouse clerk obtains a signature before releasing goods for
shipment
d. the accounts receivable clerk prepares customer statements every month
15. The most effective internal control procedure to prevent or detect the
creation of fictitious credit memoranda for sales returns is to
a. supervise the accounts receivable department
b. limit access to credit memoranda
c. pre-number and sequence check all credit memoranda
d. require management approval for all credit memoranda
16. The accounts receivable clerk destroys all invoices for sales made to
members of her family and does not record the sale in the accounts
receivable subsidiary ledger. Which procedure will not detect this fraud?
a. prenumber and sequence check all invoices
b. reconcile the accounts receivable control to the accounts receivable
subsidiary ledger
c. prepare monthly customer statements
d. reconcile total sales on account to the debits in the accounts receivable
subsidiary ledger
17. Which department is least likely to be involved in the revenue cycle?
a. credit c. billing
b. accounts payable d. shipping
18. Which document is included with a shipment sent to a customer?
a. sales invoice c. packing slip
b. stock release form d. shipping notice
19. Good internal controls in the revenue cycle should ensure all of the
following except
a. all sales are profitable c. credit is authorized
b. all sales are recorded d. inventory to be shipped is not stolen
20. Which control does not help to ensure that accurate records are kept of
customer accounts and inventory?
a. reconcile accounts receivable control to accounts receivable subsidiary
b. authorize credit
c. segregate custody of inventory from record keeping
d. segregate record keeping duties of general ledger from accounts receivable
21. Internal controls for handling sales returns and allowances do not include
a. computing bad debt expense using the percentage of credit sales
b. verifying that the goods have been returned
c. authorizing the credit memo by management
d. using the original sales invoice to prepare the sales returns slip
22. The printer ran out of preprinted sales invoice forms and several sales
invoices were not printed. The best internal control to detect this error is
a. a batch total of sales invoices to be prepared compared to the actual
number of sales invoices prepared
b. sequentially numbered sales invoices
c. visual verification that all sales invoices were prepared
d. none of the above will detect this error
23. Which department prepares the bill of lading?
a. sales c. shipping
b. warehouse d. credit
24. A remittance advice is
a. used to increase (debit) an account receivable by the cash received
b. is a turn-around document
c. is retained by the customer to show proof of payment
d. none of the above
25. A weekly reconciliation of cash receipts would include comparing
a. the cash prelist with bank deposit slips
b. the cash prelist with remittance advices
c. bank deposit slips with remittance advices
d. journal vouchers from accounts receivable and general ledger
26. At which point is supervision most critical in the cash receipts system?
a. accounts receivable c. mail room
b. general ledger d. cash receipts
27. EDI trading partner agreements specify all of the following except
a. selling price c. payment terms
b. quantities to be sold d. person to authorize transactions
28. A cash prelist is
a. a document that records sales returns and allowances
b. a document returned by customers with their payments
c. the source of information used to prepare monthly statements
d. none of the above
29. An advantage of real-time processing of sales is
a. the cash cycle is lengthened ownership and responsibility for assets in transit.
b. current inventory information is available 2. State two specific functions or jobs that should be segregated in the sales
c. hard copy documents provide a permanent record of the transaction processing system.
d. data entry errors are corrected at the end of each batch ANS: sales order processing and credit approval; inventory control (record
30. Commercial accounting systems have fully integrated modules. The word keeping) from warehouse (custody); and general ledger from accounts
“integrated” means that receivable subsidiary ledger
a. segregation of duties is not possible 3. State two specific functions or jobs that should be segregated in the cash
b. transfer of information among modules occurs automatically receipts system.
c. batch processing is not an option ANS: cash receipts (custody) from accounts receivable (record keeping); and
d. separate entries are made in the general ledger accounts and the subsidiary general ledger from accounts receivable subsidiary ledger mail room
ledgers (receiving cash) and accounts receivable subsidiary ledger
31. The data processing method that can shorten the cash cycle is 4. List two points in the sales processing system when authorization is
a. batch, sequential file processing required.
b. batch, direct access file processing ANS: credit check, sales returns policy, preparation of cash prelist
c. real-time file processing 5. For the revenue cycle, state two specific independent verifications that
d. none of the above should be performed.
32. Which of the following is not a risk exposure in a microcomputer ANS: shipping verifies that the goods sent from the warehouse are correct in
accounting system? type and quantity; billing reconciles the shipping notice with the sales order
a. reliance on paper documentation is increased to ensure that customers are billed only for the quantities shipped; general
b. functions that are segregated in a manual environment may be combined in ledger reconciles journal vouchers submitted by the billing department (sales
a microcomputer accounting system journal), inventory control (inventory subsidiary ledger), and cash receipts
c. backup procedures require human intervention (cash receipts journal) treasurer determines that all cash received got to the
d. data are easily accessible bank
33. Which journal is not used in the revenue cycle? 6. What task can the accounts receivable department engage in to verify that
a. cash receipts journal all checks sent by the customers have been appropriately deposited and
b. sales journal recorded?
c. purchases journal ANS: The company should periodically, perhaps monthly, send an account
d. general journal summary to each customer listing invoices and amounts paid by check
34. Periodically, the general ledger department receives all of the following number and date. This form allows the customer to verify the accuracy of the
except records. If any payments are not recorded, they will notify the company of
a. total increases to accounts receivable the discrepancy. These reports should not be handled by the accounts
b. total of all sales backorders receivable clerk or the cashier.
c. total of all sales 7. What specific internal control procedure would prevent the sale of goods
d. total decreases in inventory on account to a fictitious customer?
35. The credit department ANS: credit check
a. prepares credit memos when goods are returned 8. The clerk who opens the mail routinely steals remittances. Describe a
b. approves credits to accounts receivable when payments are received specific internal control procedure that would prevent or detect this fraud.
c. authorizes the granting of credit to customers ANS: supervision (two people) when opening the mail; customer complaints
d. none of the above when monthly statements mailed
36. Adjustments to accounts receivable for payments received from 9. A customer payment of $247 was correctly posted in the general ledger
customers is based upon but was recorded as $274 in the customer’s account receivable. Describe a
a. the customer’s check specific internal control procedure that would detect this error.
b. the cash prelist ANS: reconcile the accounts receivable control account to the accounts
c. the remittance advice that accompanies payment receivable subsidiary ledger; compare control totals of cash received with
d. a memo prepared in the mailroom total credits to A/R subsidiary ledger
37. The revenue cycle utilizes all of the following files except 10. Goods are shipped to a customer, but the shipping department does not
a. credit memo file c. shipping report file notify billing and the customer never receives an invoice. Describe a specific
b. sales history file d. cost data reference file internal control procedure that would detect this error.
38. All of the following are advantages of real-time processing of sales ANS: Billing department matches the stock release copy of the sales order
except (from shipping) to the invoice, ledger, and file copies of the sales order (sent
a. The cash cycle is shortened directly to billing), and then mails the invoice to the customer. After a certain
b. Paper work is reduced amount of time has passed, the billing department should investigate any
c. Incorrect data entry is difficult to detect unmatched invoice, ledger, and file copies of the sales order.
d. Up-to-date information can provide a competitive advantage in the 11. A clerk embezzles customer payments on account and covers up the theft
marketplace by making an adjustment to the accounts receivable ledger. Describe a
specific internal control procedure that would prevent this fraud.
SHORT ANSWER ANS: segregation of duties; do not let one person have custody of payments
1. Distinguish between a packing slip, shipping notice, and a bill of lading. and the ability to make adjustments to the records; all adjustments to
ANS: The packing slip travels with the goods to the customer, and it accounts receivable records must be authorized
describes the contents on the order. Upon filling the order, the shipping 12. A credit sale is made to a customer, even though the customer’s account
department sends the shipping notice to the billing department to notify them is four months overdue. Describe a specific internal control procedure that
that the order has been filled and shipped. The shipping notice contains would prevent this from happening.
additional information that the packing slip may not contain, such as ANS: perform a credit check and require management approval for all sales
shipment date, carrier and freight charges. The bill of lading is a formal to accounts that are overdue
contract between the seller and the transportation carrier; it shows legal 13. What specific internal control procedure would prevent a customer from
being billed for all 50 items ordered although only 40 items were shipped?
ANS: billing should reconcile the shipping report with the sales order
14. What specific internal control procedure would prevent the shipping clerk
from taking goods from the storeroom and sending them to someone who
had not placed an order?
ANS: shipping clerk should not have access to the storeroom
15. What specific internal control procedure would prevent an accounts
receivable clerk from issuing a fictitious credit memo to a customer (who is
also a relative) for goods that were “supposedly” returned from previous
sales?
ANS: credit memo should be authorized after verifying the return of goods
based on evidence from the person who received the goods
16. What specific internal control procedure would prevent an increase in
sales returns since salesmen were placed on commission?
ANS: customer credit should be verified by the credit department reduce
commissions for sales returns
17. What specific internal control procedure would detect the misplacement
of a sales invoice after preparation and not mailed to the customer? The
invoice was never found.
ANS: all documents should be prenumbered
18. What function does the receiving department serve in the revenue cycle?
ANS: The receiving department counts and inspects items which are returned
by customers. The receiving department prepares a return slip of which a
copy goes to the warehouse for restocking, and a copy goes to the sales order
department so that a credit memo can be issued to the customer.
19. What are the three rules that ensure that no single employee or
department processes a transaction in its entirety.
ANS: The three rules that ensure segregation of functions are:
1. Transaction authorization should be separate from transaction processing
2. Asset custody should be separate from asset record keeping.
3. The organization structure should be such that the perpetration of a fraud
requires collusion between 2 or more individuals.
20. What is automation and why is it used?
ANS: Automation involves using technology to improve the efficiency and
effectiveness of a task. Automation of the revenue cycle is typically used to
reduce overhead costs, make better credit granting decisions, and better
collect outstanding accounts receivable.
21. What is the objective of re-engineering?
ANS: The objective of re-engineering is to greatly reduce costs by
identifying and eliminating non valueadded tasks and also by streamlining
necessary existing processes.
22. What are the key segregation of duties related to computer programs that
process accounting transactions.
ANS: Response: The tasks of design, maintenance, and operation of
computer programs need to be segregated. The programmers who write the
original computer programs should not also be responsible for making
program changes. Both of these functions must also be separate from the
daily task of operating the system.
23. How is EDI more than technology? What unique control problems may it
pose?
ANS: EDI represents a unique business arrangement between the buyer and
seller in which they agree, in advance, to the terms of their relationship on
such items as selling price, quantities, delivery times, payment terms and
methods of handling disputes. The terms of agreement are binding. One
problem is ensuring that only valid transactions are processed. Another risk
is that a non-trading partner will masquerade as a trading partner and access
the firm's processing systems.
24. What makes point-of-sales systems different from revenue cycles of
manufacturing firms?
ANS: In point-of-sale systems, the customer literally has possession of the
items purchased, thus the inventory is in hand. Typically, for manufacturing
firms, the order is placed and the good is shipped to the customer at some
later time period. Thus, updating inventory at the time of sale is necessary in
point-of-sale systems since the inventory is changing hands, while it is not
necessary in manufacturing firms until the goods are actually shipped to the
customer.
25. Give three examples of Access Control in a Point-of-Sale (POS) system.
ANS: Lock on the cash drawer
 Internal cash register tape that can be accessed only by the manager
 Physical security over the inventory. The following are examples: Steel
cables to secure expensive
 leather coats to the clothing rack. Locked showcases to display jewelry and
costly electronic equipment.
Magnetic tags attached to merchandise, which will sound an alarm when
removed from the store. Note to Instructor: Some physical security devices
could also be classified as supervision
ESSAY
1. When Clipper Mail Order Co. receives telephone and fax orders, the
billing department prepares an invoice. The invoice is mailed immediately. A
copy of the invoice serves as a shipping notice. The shipping department
removes inventory from the warehouse and prepares the shipment. When the
order is complete, the goods are shipped. The clerk checks the customer’s
credit before recording the sale in the general journal and the account
receivable subsidiary ledger. The receptionist opens the mail and lists all
payments. The receptionist also handles all customer complaints and
prepares sales return forms for defective merchandise. The cashier records all
cash receipts in the general journal and makes the appropriate entry in the
accounts receivable subsidiary ledger. The cashier prepares the daily bank
deposit. Describe at least four internal control weaknesses at Clipper Mail
Order Co.
ANS: no sales order is prepared; credit should be checked before shipping
the items; invoices are mailed before the goods are shipped; shipping has
access to the warehouse; record keeping duties are not segregated (general
ledger from subsidiary ledger); only one person opens the mail; sales return
forms are not authorized by management; custody and record keeping duties
are not separated; the cashier has custody of cash, makes journal entries, and
maintains A/R ledger; Cashier has custody of cash and handles customer
complaints (e.g., about unrecorded payments).
2. How may an employee embezzle funds by issuing an unauthorized sales
credit memo if the appropriate segregation of functions and authorization
controls were not in place?
ANS: An employee who has access to incoming payments, either cash or
check, as well as the authorization to issue credit memos may pocket the cash
or check of a payment for goods received. This employee could then issue a
credit memo to this person’s account so that the customer does not show a
balance due.
3. For each of the following documents, describe its purpose, the functional
area preparing it, and the key data included: sales order, bill of lading, credit
memo.
ANS: A sales order is used to collect information needed to initiate the sales
process. It can be a copy of the customer’s purchase order prepared by the
customer or a document prepared by a member of the sales staff in response
to mail, phone or personal contact with the customer. It contains information
about the customer, the type and quantity of merchandise being requested,
price information, shipping information, etc. The bill of lading is prepared by
the shipping clerk. It is a formal contract between the seller and the carrier
who will transport the goods to the customer. It contains information about
the carrier, the customer, descriptions of the package(s) being shipped,
declared value of the goods, and information on freight charges, including
how much and who will pay. A credit memo is a document authorizing
issuance of credit to a customer for returned goods. It is prepared in the sales
department after receipt of a return slip from receiving. It shows the
customer’s name, reason for the return, a list of items and prices, and the
total amount of credit. Many credit memos require additional authorization.
4. What features of a reengineered cash receipts system contribute to
improved control and reduced costs? What complicates the process?
ANS: A reengineered cash receipts system can include automated mail
processing that opens envelopes and separates checks and remittance advices
in a manner that limits access of the mail room clerk to the checks. Software
can be used to read the amount of payment and compare to the amount due,
verify that the check has been signed, etc. “Good” transactions continue
through processing, exceptions are handled separately. Checks are sent to the
cash receipts department for deposit, listings of transactions are sent to
accounts receivable, cash receipts, and general ledger departments. This
process is complicated when the organization receives many partial
payments, single payments covering multiple invoices, or encounters many
clerical errors on the part of customers.
5. What role does each of the following departments play in the sales order
processing subsystem: sales, credit, and shipping? Be complete.
ANS: The sales department receives the order information from the
customer, either by mail, phone, or in person. Information is captured on a
sales order form which includes customer name, account number, name,
number and description of items ordered, quantities and unit prices plus
taxes, shipping info, discounts, freight terms. This form is usually prepared
in multiple copies that are used for credit approval, packing, stock release,
shipping, and billing. The credit department provides transaction
authorization by approving the customer for a credit sale and returns and
allowances. The shipping department receives information from the sales
department in the form of packing slip and shipping notice. When the goods
arrive from the warehouse, the documents are reconciled with the stock
release papers. The goods are packed and labeled. The packing slip is
included. The shipping notice is sent to billing. A bill of lading is prepared to
accompany the shipment.
6. With regard to segregation of duties, rule one is that transaction
authorization and transaction processing should be separated. What does this
require in the revenue cycle?
ANS: Within the revenue cycle, the credit department is separate from the
rest of the process. Hence, the authorization of the transaction (granting of
credit) is independent. If other people, e.g., sales staff, were able to authorize
credit sales, there would be the temptation to approve sales to any customer,
even those known to not be credit worthy.
7. With regard to segregation of duties, rule two is that asset custody and
record keeping should be separated. What does this require in the revenue
cycle?
ANS: In the revenue cycle, the warehouse has custody of physical assets
while accounting (especially general ledger and inventory control) maintains
the records. Also, in the cash receipts subsystem, cash receipts has custody of
the asset (cash) while general ledger and accounts receivable keep the
records.
8. What role does each of the following departments play in the cash receipts
subsystem: mail room, cash receipts, accounts receivable, and general
ledger? Be complete.
ANS: The mail room receives the customer’s payment–usually a check
accompanied by a document called a remittance advice (which may be a
copy of the invoice sent to the customer). Mail clerks separate the two,
prepare a cash prelist or remittance list which lists all the payments received
and sends the checks to the cashier and remittance advices to accounts
receivable. In cash receipts someone (e.g., cashier) restrictively endorses the
checks and records the payments in the cash receipts journal. A deposit slip
is prepared which accompanies the checks to the bank. The accounts
receivable department posts from the remittance advices to the customer
accounts in the AR subsidiary ledger. The general ledger department records
cash receipts to the cash and AR control accounts based on the list from the
mailroom and the summary report of posting from A/R.
9. For each of the following documents, describe its purpose, the functional
area preparing it, and the key data included: remittance advice, remittance
list, deposit slip.
ANS: A remittance advice is sent by the customer to accompany payment.
However, it is often part of or a copy of the invoice sent by the billing
department after the goods were shipped. A remittance list is often called a
cash prelist and is prepared by the mail room clerk to record all cash
received. It accompanies the checks to the cashier. A deposit slip is prepared
by the cashier to accompany the checks to the bank. This is usually a
preprinted bank form.
10. How is independent verification carried out in a manual revenue system?
ANS: Independent verification occurs in several departments as part of the
sales order processing system. The shipping department verifies that the
goods released by the warehouse for shipment, as shown on the stock release
document, match the packing slip. Billing compares the shipping notice with
the invoice to be sure customers are billed only for goods shipped. And
general ledger reconciles the journal vouchers prepared by billing, inventory
control, cash receipts, and accounts receivable. This reconciliation focuses on
a match between what was ordered, what was removed from the stockroom,
what was shipped, what was billed, cash received, and credit to the customer
account.
CHAPTER 5
True or False
1. Purchasing decisions are authorized by inventory control.
2. The blind copy of the purchase order that goes to the receiving department
contains no item descriptions.
3. Firms that wish to improve control over cash disbursements use a voucher
system.
4. In a voucher system, the sum of all unpaid vouchers in the voucher register
equals the firm’s total voucher payable balance.
5. The accounts payable department reconciles the accounts payable
subsidiary ledger to the control account.
6. The use of inventory reorder points suggests the need to obtain specific
authorization.
7. Proper segregation of duties requires that the responsibility approving a
payment be separated from posting to the cash disbursements journal.
8. A major risk exposure in the expenditure cycle is that accounts payable
may be overstated at the end of the accounting year.
9. When a trading partner agreement is in place, the traditional three way
match may be eliminated.
10. Authorization of purchases in a merchandising firm occurs in the
inventory control department.
11. A three way match involves a purchase order, a purchase requisition, and
an invoice.
12. Authorization for a cash disbursement occurs in the cash disbursement
department upon receipt of the supplier’s invoice.
13. An automated cash disbursements system can yield better cash
management since payments are made on time.
14. Permitting warehouse staff to maintain the only inventory records
violates separation of duties.
15. A purchasing system that employs electronic data interchange does not
use a purchase order.
16. Inventory control should be located in the warehouse.
17. Inspection of shipments in the receiving department would be improved
if the documentation showed the value of the inventory.
18. One reason for authorizing purchases is to enable efficient inventory
management.
19. If accounts payable receives an invoice directly from the supplier it needs
to be reconciled with the purchase order and receiving report.
20. Supervision in receiving is intended to reduce the theft of assets.
MULTIPLE CHOICE
1. The purpose of the purchase requisition is to
a. order goods from vendors
b. record receipt of goods from vendors
c. authorize the purchasing department to order goods
d. bill for goods delivered
2. The purpose of the receiving report is to d. bill for goods delivered
a. order goods from vendors
b. record receipt of goods from vendors
c. authorize the purchasing department to order goods
d. bill for goods delivered
3. All of the following departments have a copy of the purchase order except
a. the purchasing department c. accounts payable b. the sum of the paid vouchers represents the voucher payable liability
b. the receiving department d. general ledger of the firm
4. The purpose of the purchase order is to c. the voucher system permits the firm to consolidate payments of several
a. order goods from vendors invoices on one voucher
b. record receipt of goods from vendors d. many firms replace accounts payable with a voucher payable system
c. authorize the purchasing department to order goods 18. In the expenditure cycle, general ledger does not
d. approve payment for goods received a. post the journal voucher from the accounts payable department
5. The open purchase order file in the purchasing department is used to b. post the account summary from inventory control
determine c. post the journal voucher from the purchasing department
a. the quality of items a vendor ships d. reconcile the inventory control account with the inventory subsidiary
b. the best vendor for a specific item summary
c. the orders that have not been received 19. The documents in a voucher packet include all of the following except
d. the quantity of items received a. a check c. a receiving report
6. The purchase order b. a purchase order d. a supplier’s invoice
a. is the source document to make an entry into the accounting records 20. To maintain a good credit rating and to optimize cash management, cash
b. indicates item description, quantity, and price disbursements should arrive at the vendor’s place of business
c. is prepared by the inventory control department a. as soon as possible c. on the discount date
d. is approved by the end-user department b. on the due date d. by the end of the month
7. The reason that a blind copy of the purchase order is sent to receiving is to 21. The cash disbursement clerk performs all of the following tasks except
a. inform receiving when a shipment is due a. reviews the supporting documents for completeness and accuracy
b. force a count of the items delivered b. prepares checks
c. inform receiving of the type, quantity, and price of items to be delivered c. signs checks
d. require that the goods delivered are inspected d. marks the supporting documents paid
8. The receiving report is used to 22. When a cash disbursement in payment of an accounts payable is recorded
a. accompany physical inventories to the storeroom or warehouse a. the liability account is increased c. the cash account is unchanged
b. advise the purchasing department of the dollar value of the goods b. the income statement is changed d. the liability account is decreased
delivered
c. advise general ledger of the accounting entry to be made
d. advise the vendor that the goods arrived safely
9. When a copy of the receiving report arrives in the purchasing department,
it is used to
a. adjust perpetual inventory records
b. record the physical transfer of inventory from receiving to the warehouse
c. analyze the receiving department's process
d. recognize the purchase order as closed
10. The financial value of a purchase is determined by reviewing the
a. packing slip c. receiving report
b. purchase requisition d. supplier’s invoice
11. Which document is least important in determining the financial value of a
purchase?
a. purchase requisition c. receiving report
b. purchase order d. supplier’s invoice
12. In a merchandising firm, authorization for the payment of inventory is the
responsibility of
a. inventory control c. accounts payable
b. purchasing d. cash disbursements
13. In a merchandising firm, authorization for the purchase of inventory is
the responsibility of
a. inventory control c. accounts payable
b. purchasing d. cash disbursements
14. When purchasing inventory, which document usually triggers the
recording of a liability?
a. purchase requisition c. receiving report
b. purchase order d. supplier’s invoice
15. Because of time delays between receiving inventory and making the
journal entry
a. liabilities are usually understated
b. liabilities are usually overstated
c. liabilities are usually correctly stated
d. none of the above
16. Usually the open voucher payable file is organized by
a. vendor c. purchase order number
b. payment due date d. transaction date
17. Which of the following statements is not correct?
a. the voucher system is used to improve control over cash disbursements