Chapter-5.docx

CHAPTER 5 KEY TERMS: Actual cost inventory ledgerA document that tracks inventory transactions that requires an additional financial information such as a copy of the supplier's invoice upon arrival. AP packet- A group of supporting documents, which are the purchase order, receiving report, and invoice, prepared by the AP clerk to be sent out to the cash disbursement department. AP pending file- A group of accounts payable documents filed chronologically under some future date when they require further attention or action. AP subsidiary ledger- An accounting ledger that shows the transaction history and amounts owed for each supplier from whom the business receives credit for purchases. Blind copy- Contains no quantity or price information about the products being received for the purpose of forcing the receiving clerk to count and inspect inventories prior to completing the receiving report.

Cash disbursement voucher- Provide improved control over cash disbursements and allow firms to consolidate several payments to the same supplier on a single voucher, thus reducing the number of checks written.

slip and receiving report) records that were closed upon receipt of goods.

Cash disbursements journal- Contains the voucher number authorizing each check and provides an audit trail for verifying the authenticity of each check written.

Purchase requisition - Document that authorizes a purchase transaction.

Purchase order - Document based on a purchase requisition that specifies items ordered from a vendor or supplier.

Check register- Record of all cash disbursements.

Purchase requisition file - File that contains a copy of purchase requisitions. It is created during the sales activity when inventories drop to their predetermined reorder point.

Closed AP file- Record of all accounts payable that have been discharged by making payment to the creditors.

Receiving report - Report that lists quantity and condition of the inventories received.

Open AP file- file organized by payment due date and scanned daily to ensure that debts are paid on the last possible date without missing due dates and losing discounts.

Receiving report file - File in which a copy of the receiving report (stating the quantity and condition of the inventories) is placed.

Open Purchase order file- file that contains the last copy of the multipart purchase order along with the purchase requisition. Open Purchase requisition file- file that contains a copy of purchase requisitions. Open/Closed Purchase Order file- file of purchase order(together with the packing

Standard cost system - Organizations that carry their inventories at a predetermined standard value regardless of the price actually paid to the vendor. Supplier’s invoice - Bill sent from the seller to the buyer showing unit costs, taxes, freight, and other charges. Valid vendor file - File containing vendor mailing information.

Vendor’s invoice- Commercial document issued by a vendor to a buyer, indicating the products or services, quantities, and agreed prices for products or services that the vendor has already provided to the buyer. An invoice indicates that payment is due from the buyer to the vendor, according to the payment terms. Voucher register- Register that reflects a firm’s accounts payable liability. Voucher payable file- Equivalent to the open AP file. Vouchers payable system- System under which the AP department uses cash disbursement vouchers and maintains a voucher register.

REVIEW QUESTIONS: 1. Differentiate between a purchase requisition and a purchase order. Difference between purchase requisition and purchase order is that purchase requisition is made by the warehouseman in order to tell the purchasing department that they are low on inventory and they need to buy to continue operating. The purchase order is made by the purchasing clerk

for the purpose of making an order to the supplier. 2. What purpose does a purchasing department serve? The main purpose of the purchase department is to confirm that the purchase is actually required in the first place. Only after the verification is done, the purchase order is prepared. Purchasing department is able to research the quality and pricing of various vendors. Their job is to monitor various supply sources and choose the highest quality good for a given price which can be reliably delivered on time.The purchasing department may also take advantage of quantity discounts,especially when two or more manufacturing facilities are involved. 3. Distinguish between an AP file and a vouchers payable file An accounts payable file contains all source documents, including invoices, organized by payment date. As the due dates come close to the current date, the invoices are pulled from the file and paid. Under the voucher system, the accounts payable clerk prepares that cash disbursements voucher upon receipt of all source documents. Each cash disbursements voucher

represents payment to one vendor. Multiple invoices may be paid with one voucher. The voucher system allows better control over cash disbursement because cash vouchers are assigned and tracked. 4. What are three logical steps of the cash disbursement system? The three logical steps disbursement system are:

of

cash

a.

authorization of cash disbursements for payment. b. preparation and distribution of checks, and c. preparation of summary information by cash disbursements and accounts payable and sent to the general ledger clerk. 5. What general ledger journal entries does the purchases system trigger? From which department do these journal entries arise? A. AP account summary triggered form the AP department DR: Inventory Control CR: Payable

Accounts

B. Journal voucher triggers from the cash disbursement system DR: Accounts payable CR:

Cash

in

Bank 6. What two types of risks can close supervision of the receiving department reduce? In the expenditure cycle, the receiving department is the area that most benefits from supervision. Large quantities of valuable assets flow through this area on their way to the warehouse. Close supervision here reduces the chances of two types of exposure: (1) failure to properly inspect the assets and (2) the theft of assets. Supporting detail: Because the receiving clerks have access to many of the firm's assets they are prone to those 2 exposure mentioned. Thus, the copy of the purchase order which they use for this inspection should have the quantities and amounts covered so that they may not be read. If the quantity is printed on the receiving clerk's copy of the purchase order, he or she may be tempted to skip the physical inspection and the company may be paying for inventory it did not receive or is

damaged. A supervisor is necessary to remove the packing slip which contains quantity information and to make sure the receiving clerks actually inspect the goods. If the value of the inventory is listed, the employee may be tempted to steal some of the inventory. Close supervision should deter employees from stealing. 7. What is a three-way match? It is a procedure used by the AP Department to authenticate and verify disbursal of payment to a creditor. This procedure is done by reconciling/matching three documents namely: invoice, purchase order (PO), and the receiving report. Through this matching, one can verify what was ordered was received and is fairly priced. The procedure is used to ensure that only authorized purchases are reimbursed, thereby preventing losses due to fraud and carelessness. 8. What steps of independent verification does the general ledger department perform? The general ledger department receives journal vouchers and summary reports from inventory control, accounts payable, and cash disbursements. With these summary

figures, the general ledger clerk verifies that: 1.

2.

total obligations recorded is EQUAL to the total inventories received, and total reductions in accounts payable is EQUAL to the total disbursements of cash.

9. What is (are) the purpose(s) of maintaining a valid vendor file? Inventories should only be acquired from valid vendors. This control procedure helps to deter the purchasing agent from buying inventories at excessive costs and receiving kickbacks or from buying from an entity in which the purchasing agent has a relationship, such a relative or a friend. 10. Some organizations do not use an AP subsidiary ledger or purchase journal. How is this possible? If they eliminate the receiving function in an advanced technology system where integrated purchase system is implemented. 11. What is the purpose of the blind copy of a PO?

The blind copy contains no quantity or price information about the products being received. The purpose of the blind copy is to force the receiving clerk to count and inspect inventories prior to completing the receiving report. 12. Give one advantage of using a vouchers payable system. Vouchers provide improved control over cash disbursements and allow firms to consolidate several payments to the same supplier on a single voucher, thus reducing the number of checks written. DISCUSSION QUESTIONS: 1. What documents constitute the AP packet? What evidence does each document provide? Documents that constitute the AP Packet The AP Clerk prepares an AP Packet which consist the three following supporting documents: • Purchase Order (PO): A typical PO contains ordering information like name and address of

supplier, quantity of items ordered and expected cost of item. • Receiving Report (RO): Receiving report contains quantity and price of the items received from the vendor. It also documents the condition of the goods received.

copy of the requisition is sent to the purchasing department, and one copy is placed in the hard- copy open purchase requisition file. Note that to provide proper authorization control, the inventory control department is segregated from the purchasing department, which executes the purchase transaction.

• Invoice: Invoice contains items in details with its quantity and agreed price of item. This AP Packet is marched in Open AP File by the AP Clerk. Only after the AP packet is formed the liability is recorded and payment can be made. This is called a three way match. It verifies that what was ordered, what was received and if it was fairly priced. 2. In the basic technology system, the inventory control clerk reviews the purchase requisition file to identify inventory needs. Explain how this file is created. The process begins when the inventory control clerk prints purchase requisitions from his PC by accessing the purchase requisition file. Recall that this file was created during the sales activity when the inventories dropped to their predetermined reorder point. One

3. Discuss the importance of supervision controls in the receiving department and the reasons behind blind fields on the receiving report. Supervision is key because in the receiving department, that is the easiest time to compromise the company's financial standing in some way Receiving clerks need to adequately count and confirm the items flowing into the company before signing the bill of lading - when given the blind copy Cash disbursements and accounts payable are then set up, which are also on the basis of correct information and receipts Placing inventory and recording at correct levels is extremely important,

any fabrication can impact the financial standing of the business entirely. 4. The level of day-to-day department activity in advanced technology systems is significantly lower than that of basic technology systems. Are these departments no longer necessary? Absolutely: for separation of duty reasons, it is critical that companies keep the necessary areas of business Even if a three way match is done automatically, those updating the necessary information need to be independent of one another in order for the integrity of the match to be intact 5. Discuss the following statement: even in advanced technology systems, the AP clerk must perform a three-way match to approve all vendor invoices for payment. In the advanced technology system, the three way match is automated. When the AP clerk receives the supplier’s invoice, the clerk accesses the system and adds a record to the vendor invoice file. This act prompts the system to automatically create a virtual AP packet by linking the vendor invoice to the associated

purchase order and receiving report records, using the PO number as a common attribute. The application then reconciles the supporting documents, using programmed criteria for assessing discrepancies. Items that fall within limits are automatically approved and paid on their due date. Discrepancies in excess of the threshold are submitted to management for review and manual approval. Through the virtual AP packet screen, management may view the supporting documents and exercise an override of the system controls to force payment. The override should be performed only by authorized management and should be fully documented in management reports. 6. What is central to a successful EDI implementation? The use of a standard format for messaging between dissimilar systems is central to a successful EDI implementation. 7. Discuss the objective of eliminating the receiving function. What accounting/audit problems need to be resolved? In the absence of explicit authorization, we have to make sure that only valid transactions are processed

Trading partners have a lot of access, which gives them a lot of freedom to accounting records, which may be a serious issue if the trading partner is unreliable or misuses that privilege. 8. What purpose does multilevel security control play in an integrated purchases/cash disbursements system? Separating the roles of purchasing, receiving, accounts payable, cash disbursement and general ledger access are completely independent, which avoids serious internal control flaws. 9. You are conducting an end-of-year audit. Assume that the terms of trade between a buyer and a seller are free on board (FOB) destination. What document provides evidence that a liability exists and may be unrecorded? The receiving report is evidence that the items have been received and a liability has been realized. If the invoice did not come in by the end of the year, then the liability may not have been recognized in the period under review.

10. How does the general control area of systems development and program change impact day-to-day transaction processing? General controls are those that control the design, security, and use of computer programs and the security of data files in general throughout the organization. On the whole, general controls apply to all computerized applications and consist of a combination of system software and manual procedures that create an overall control environment. Whereas general controls do not control specific transactions, they have an effect on transaction integrity. For example, consider an organization with poor database security controls. In such a situation, even data processed by systems with adequate built-in application controls may be at risk. An individual who is able to circumvent database security (either directly or via a malicious program) may then change, steal, or corrupt stored transaction data. Thus, general controls are needed to support the functioning of application controls, and both are needed to ensure accurate financial reporting.

Multiple Choice Questions

1. Which of the following statements is correct? 13. The cash disbursement function is part of accounts payable. 14. Cash disbursement is a treasury function. 15. Cash disbursement is an independent accounting function. 16. The cash disbursement function is part of the general ledger department.

3.

Accounts payable is responsible for paying invoices.

4.

Cash disbursements maintains the check register.

5.

Accounts payable maintains the AP subsidiary ledger.

6.

Accounts payable is responsible for authorizing payment of invoices.

3. Which document typically triggers the three-way match? d. Purchase requisition e. Supplier’s invoice

B. Cash disbursement system is responsible for processing the payment of obligations which are created in the purchases system. Cash disbursement system ensures that the payment is made only to the valid creditors and the payment amount is timely and accurate. For each disbursement, the cash disbursement clerk prepares a check such that this check may require additional verification by cash disbursement departmental manager or treasure.

f.

Purchase order

g. Receiving report

B. Supplier’s invoice triggers the process of recording the liability because till that point of time no financial event has occurred.

4. Which one of the following departments does not use a copy of the receiving report? a. The warehouse

2. Which of the following incompatible tasks?

represents

b. Accounts payable

c. General ledger d. The purchasing department

Justification: One copy of the receiving report accompanies the physical inventories either the raw materials storeroom or finished goods warehouse for safekeeping. Another copy is sent to the purchasing department, where the purchasing clerk reconciles it with the open PO. And another copy is sent to the AP Department to be filed in the AP pending file.

6. Which of the following expenditure cycle tasks should not be separated?

C. Reconciliation with the packing slip D. The way match E. Preparation of a shipping notice F. Issuance of a blind copy of purchase order

Justification: Three-way match verifies that what was ordered was received and is fairly priced. This is where the AP clerk reconciles the financial information of the invoice with the receiving report and PO in the pending file.

a. Approve the liability

1. Purchasing inventory items and updating inventory subsidiary ledger

b. Review the supporting documents for completeness and accuracy

2. Storing inventory in the warehouse and updating inventory subsidiary ledger

c. Prepare checks

3. Updating accounts payable records and posting to the cash disbursements journal 4. All of the above should be separated

5. Which control helps to ensure that the inventory items received are the correct type and the correct amount, and are in good condition?

8. Which of the following tasks should the cash disbursements clerk NOT perform?

5. None of the above need to be separated

7. Which of the incompatible duties? 11. Authorizing checks

following

payment

and

describe writing

12. Matching purchase orders, receiving reports and invoices, and authorizing payment 13. Authorizing payment and maintaining the accounts payable subsidiary ledger 14. All the above are incompatible tasks

d. Mark supporting documents paid

Justification: AP function reviews the open AP file ( or vouchers payable file) for such items and sends payment approval in the form of a voucher packet to the cash disbursements department.

9. Which ledger can be updated solely from the receiving report? a. General ledger b. Standard cost inventory ledger c. Actual cost inventory subsidiary ledger d. Accounts payable subsidiary ledger

Justification: Posting to a standard cost inventory ledger requires only information about the quantities received. Because the receiving report contains quantity information, it serves this purpose.

10. Which of the following documents would most likely provide audit evidence of an unrecorded liability? a. Invoices b. Receiving reports c. Purchase orders d. Purchase requisition