Amicus Therapeutics, Inc., is a biopharmaceutical company that develops drugs for the treatment of various diseases, including Parkinson’s disease

Amicus Therapeutics, Inc., is a biopharmaceutical company that develops drugs for the treatment of various diseases, including Parkinson’s disease. Amicus Therapeutics reported the following financial data (in thousands) for three recent years:

For Years Ended December 31 Year 3 Year 2 Year 1 Cash and cash equivalents $  69,485 $ 24,074 $  43,640 Net cash flows from operations (100,139) (51,669) (45,794) 

a. Determine the monthly cash expenses for Year 3, Year 2, and Year 1. Round to one decimal place.

b. Determine the ratio of cash to monthly cash expenses for Year 3, Year 2, and Year 1 as of December 31. Round to one decimal place.

c. Based on (a) and (b), comment on Amicus Therapeutics’ ratio of cash to monthly operating expenses for Year 3, Year 2, and Year 1.

Answer:

a. 

Year 3:  $8,344.9 per month ($100,139 ÷ 12)

Year 2:  $4,305.8 per month ($51,669 ÷ 12)

Year 1:  $3,816.2 per month ($45,794 ÷ 12)

b. 

Year 3:  8.3 months ($69,485 ÷ $8,344.9)

Year 2:  5.6 months ($24,074 ÷ $4,305.8)

Year 1:  11.4 months ($43,640 ÷ $3,816.2)

c. 

At the end of Year 1, Amicus Therapeutics had 11.4 months of cash and cashequivalents remaining to use in operations. 

At the end of Year 2, Amicus had 5.6 months of cash and cash equivalents to use in operations. However, during Year 2, Amicus issued over $130 million of common stock, which was used to purchase short-term investments of $128 million. If the short-term investments of $128 million are included as being available to convert to cash, Amicus has 35.3 months of available cash to use in operations at the end of Year 2.

At the end of Year 3, Amicus had 8.3 months of cash and cash equivalents to use in operations. However, during Year 3, Amicus issued over $256 million of additional stock and at the end of Year 3 had short-term investments of $145 million. If the short-term investments of $145 million are included as being available to convert to cash, Amicus has 25.7 months of available cash to use in operations at the end of Year 3. 

Overall, Amicus has been able to support its operations by issuing additional stock. However, its negative cash flows have increased from $(45,794) in Year 1 to $(100,139) in Year 3. Unless Amicus had generated positive cash flows from operations, its ability to continue raising funds from issuing stock or debt will be limited. Thus, in the long run, Amicus must generate positive cash flows from operations to survive.

Capstone Turbine Corporation produces and sells turbine generators for such applications as charging electric, hybrid vehicles

Capstone Turbine Corporation produces and sells turbine generators for such applications as charging electric, hybrid vehicles. Capstone Turbine reported the following financial data for a recent year (in thousands):

Net cash flows from operating activities $(23,018)

Cash and cash equivalents 32,221

a. Determine the monthly cash expenses. Round to one decimal place.

b. Determine the ratio of cash to monthly cash expenses. Round to one decimal place.

c.  Based on your analysis, do you believe that Capstone Turbine will remain in business?

Answer:

a. $1,918.2 ($23,018 ÷ 12)

b. 16.8 months ($32,221 ÷ $1,918.2)

c. Capstone Turbine has cash to continue its operations for approximately 16.8 months.

Journalize the entries to record the following: a. Check is issued to establish a petty cash fund of $750.

Journalize the entries to record the following:

a. Check is issued to establish a petty cash fund of $750.

b. The amount of cash in the petty cash fund is now $176. Check is issued to replenish the fund, based on the following summary of petty cash receipts: office supplies, $248; miscellaneous selling expense, $212; miscellaneous administrative expense, $96. 

(Because the amount of the check to replenish the fund plus the balance in the fund do not equal $750, record the discrepancy in the cash short and over account.)

Answer:

a. 

Petty Cash 750

                 Cash 750

b. 

Office Supplies                      248

Miscellaneous Selling Expense        212

Miscellaneous Administrative Expense  96

Cash Short and Over                   18

         Cash                                 574

Mattel, Inc., designs, manufactures, and markets toy products worldwide. Mattel’s toys include Barbie® fashion dolls and accessories, Hot Wheels®, and Fisher-Price brands

Mattel, Inc., designs, manufactures, and markets toy products worldwide. Mattel’s toys include Barbie® fashion dolls and accessories, Hot Wheels®, and Fisher-Price brands. For a recent year, Mattel reported the following net cash flows from operating activities (in thousands):

First quarter ending March 31 $  (53,110)

Second quarter ending June 30 (187,663)

Third quarter ending September 3018,435

Fourth quarter ending December 31956,895

Explain why Mattel reported negative net cash flows from operating activities during the first and second quarters and a large positive cash flow for the fourth quarter, with overall net positive cash flow for the year.

Answer:

Toy manufacturers and retailers experience a seasonal trend in cash flows from operating activities. Mattel, Inc., experiences negative cash flows during the periods when merchandise is ordered and produced for the holiday season. Mattel, Inc., generates large positive cash flows during the holiday season, November–December. As a result, Mattel, Inc., reports overall positive net cash flows from operating activities for the year.

El Dorado Inc. has monthly cash expenses of $168,500. On December 31, the cash balance is $1,415,400.

El Dorado Inc. has monthly cash expenses of $168,500. On December 31, the cash balance is $1,415,400.

a. Compute the ratio of cash to monthly cash expenses.

b.  Based on (a), what are the implications for El Dorado Inc.?

Answer:

a. 8.4 months ($1,415,400 ÷ $168,500)

b. At the current rate of operations, El Dorado has 8.4 months of cash remaining. El Dorado should either restructure its operations or plan on raising additional financing in order to continue in business.

Alaska Impressions Co. records all cash receipts on the basis of its cash register tapes.

Alaska Impressions Co. records all cash receipts on the basis of its cash register tapes. Alaska Impressions Co. discovered during October that one of its salesclerks had stolen an undetermined amount of cash receipts while taking the daily deposits to the bank. 

The following data have been gathered for October:

Cash in bank according to the general ledger $11,680

Cash according to the October 31 bank statement 13,275

Outstanding checks as of October 313,670

Bank service charge for October 40

Note receivable, including interest collected by bank in October 2,100

No deposits were in transit on October 31.

a. Determine the amount of cash receipts stolen by the salesclerk.

b. What accounting controls would have prevented or detected this theft?

Answer:

a. The amount of cash receipts stolen by the salesclerk can be determined by attempting to reconcile the bank account. The bank reconciliation will not reconcile by the amount of cash receipts stolen. The amount stolen by the salesclerk is $4,135, determined as shown below.

Cash balance according to bank statement$13,275 Deduct outstanding checks3,670 Adjusted balance$ 9,605 Cash balance according to company’s records$11,680 Add note and interest collected by bank2,100 Deduct bank service charges40 Adjusted balance$13,740

Amount stolen: $4,135 ($13,740 – $9,605)

b. The theft of the cash receipts might have been prevented by having more than one person make the daily deposit. Two individuals would then have been necessary to steal cash receipts. In addition, two employees making the daily cash deposits would tend to discourage theft of the cash receipts from the employees on the way to the bank.

Daily reconciliation of the amount of cash receipts—comparing the cash register tapes to a receipt from the bank as to the amount deposited (a duplicate deposit ticket)—would also discourage theft of the cash receipts. In this latter case, if the reconciliation were prepared by an employee independent of the cash function, any theft of cash receipts from the daily deposit would be discovered immediately. That is, the daily deposit would not reconcile against the daily cash receipts.

The following June 30 bank reconciliation was prepared for Poway Co.a. Identify the errors in the following bank reconciliation:

The following June 30 bank reconciliation was prepared for Poway Co.

Poway Co. Bank Reconciliation For the Month Ended June 30 Cash balance according to bank statement . . . . . . . . . . . . . . . . . . . . . . . . . . $16,185 Add outstanding checks: No. 1067. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $  575 1106. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 470 1110. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,050 1113. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      910      3,005 $19,190 Deduct deposit of June 30, not recorded by bank . . . . . . . . . . . . . . . . . . . . 6,600 Adjusted balance. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $12,590 Cash balance according to company’s records . . . . . . . . . . . . . . . . . . . . . . . $ 8,985 Add: Proceeds of note collected by bank: Principal . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $6,000 Interest . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .      300 $6,300 Service charges . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .        15      6,315 $15,300 Deduct: Check returned because of insufficient funds . . . . . . . . . . . . . . . . $   890 Error in recording June 17 deposit of $7,150 as $1,750 . . . . . . .  5,400 6,290 Adjusted balance. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 9,010

a. Identify the errors in the following bank reconciliation:

b. Prepare a new bank reconciliation for Poway Co., using the format shown in the illustrative problem.

Answer:

a. 

1. The heading should be “June 30,” and not “For the Month Ended June 30.”

2. The outstanding checks should be deducted from the balance per bank.

3. The deposit of June 30, not recorded by the bank, should be added to the balance per bank.

4. Service charges should be deducted from the balance per company’s records.

5. The error in recording the June 17 deposit of $7,150 as $1,750 should be added to the balance per company’s records.

6. The adjusted balances ($12,590 and $9,010) are not equal.

b. A correct bank reconciliation would be as follows: Cash balance according to bank statement$16,185 Add deposit of June 30, not recorded by bank6,600 Deduct outstanding checks: No. 1067$ 575 1106470 11101,050 1113910 3,005 Adjusted balance$19,780 Cash balance according to company’s records$ 8,985 Add: Note and interest collected by bank $6,300 Error in recording June 17 deposit as $1,750 instead of $7,1505,400 11,700 Deduct: Check returned because of insufficient funds $ 890 Service charges15 905 Adjusted balance$19,780

An accounting clerk for Chesner Co. prepared the following bank reconciliation:From the data in this bank reconciliation

An accounting clerk for Chesner Co. prepared the following bank reconciliation:

Chesner Co. Bank Reconciliation August 31 Cash balance according to company’s records . . . . . . . . . . . . . . . . . . . . . . . $11,100 Add: Outstanding checks . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 3,585

Error by Chesner Co. in recording Check No. 1056 as $950 instead of $590 . . . . . . . . . . . . . . . . . . . . . . . . . . . . 360 Note for $12,000 collected by bank, including interest . . . . . . . . . .   12,480   16,425 $27,525 Deduct: Deposit in transit on August 31. . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 7,200 Bank service charges . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .           25 7,225 Cash balance according to bank statement . . . . . . . . . . . . . . . . . . . . . . . . . . $20,300

a. From the data in this bank reconciliation, prepare a new bank reconciliation for Chesner Co., using the format shown in the illustrative problem.

b. If a balance sheet is prepared for Chesner Co. on August 31, what amount should be reported for cash?

Answer:

a. Cash balance according to bank statement$20,300 Add deposit in transit on August 317,200 Deduct outstanding checks3,585 Adjusted balance$23,915 Cash balance according to company’s records$11,100 Add: Error in recording Check No. 1056 as $950 instead of $590$ 360 Note for $12,000 collected by bank, including interest12,480 12,840 Deduct bank service charges25 Adjusted balance$23,915 b.$23,915

Using the data presented in Exercise 8-18, journalize the entry or entries that should be made by the company.

Using the data presented in Exercise 8-18, journalize the entry or entries that should be made by the company.

Answer:

July 31 Cash540 Accounts Payable540 31 Miscellaneous Expense20 Cash20

Accompanying a bank statement for Santee Company is a credit memo for $15,120 representing the principal ($14,000) and interest ($1,120)

Accompanying a bank statement for Santee Company is a credit memo for $15,120 representing the principal ($14,000) and interest ($1,120) on a note that had been collected by the bank. The company had been notified by the bank at the time of the collection but had made no entries. Journalize the entry that should be made by the company to bring the accounting records up to date.

Answer:

Cash              15,120

        Notes Receivable  14,000

        Interest Revenue   1,120

The following data were accumulated for use in reconciling the bank account of Mathers Co. for July:

The following data were accumulated for use in reconciling the bank account of Mathers Co. for July:

1. Cash balance according to the company’s records at July 31, $32,110.

2. Cash balance according to the bank statement at July 31, $31,350.

3. Checks outstanding, $2,870.

4. Deposit in transit, not recorded by bank, $4,150.

5. A check for $170 in payment of an account was erroneously recorded in the check register as $710.

6. Bank debit memo for service charges, $20.

a.  Prepare a bank reconciliation, using the format shown in Exhibit 13.

b. If the balance sheet is prepared for Mathers Co. on July 31, what amount should be reported for cash?

c.  Must a bank reconciliation always balance (reconcile)?

Answer:

a.Cash balance according to bank statement$31,350

Add deposit in transit, not recorded by bank4,150 Deduct outstanding checks2,870 Adjusted balance$32,630 Cash balance according to company’s records$32,110 Add error in recording check as $710 instead of $170540 Deduct bank service charge20 Adjusted balance$32,630 b. $32,630; the adjusted balance from the bank reconciliation should be reported on the July 31 balance sheet for Mathers Co. c. Yes. The bank reconciliation must always balance (reconcile) to an adjusted balance.

Identify each of the following reconciling items as: (a) an addition to the cash balance according to the bank statement,

Identify each of the following reconciling items as: (a) an addition to the cash balance according to the bank statement, (b) a deduction from the cash balance according to the bank statement, (c) an addition to the cash balance according to the company’s records, or (d) a deduction from the cash balance according to the company’s records. (None of the transactions reported by bank debit and credit memos have been recorded by the company.)

1. Bank service charges, $30.

2. Check of a customer returned by bank to company because of insufficient funds, $400.

3. Check for $320 incorrectly recorded by the company as $230.

4. Check for $1,100 incorrectly charged by bank as $110.

5. Deposit in transit, $3,300.

6. Outstanding checks, $7,950.

7. Note collected by bank, $10,500.

Answer:

a. Addition to the balance per bank: (5)

b. Deduction from the balance per bank: (4), (6)

c. Addition to the balance per company’s records: (7)

d. Deduction from the balance per company’s records: (1), (2), (3)

Which of the reconciling items listed in Exercise 8-16 require an entry in the company’s accounts?

Which of the reconciling items listed in Exercise 8-16 require an entry in the company’s accounts?

Answer:

(1), (2), (3), (7)

The preceding additions and deductions to the cash balance according to the company’s records require journal entries in the company’s records. Additions and deductions to the cash balance according to the bank’s records do not require the company to record journal entries.

Abbe Co. is a small merchandising company with a manual accounting system. An investigation revealed that in spite of a sufficient bank balance

Abbe Co. is a small merchandising company with a manual accounting system. An investigation revealed that in spite of a sufficient bank balance, a significant amount of available cash discounts had been lost because of failure to make timely payments. In addition, it was discovered that the invoices for several purchases had been paid twice.

Outline procedures for the payment of vendors’ invoices so that the possibilities of losing available cash discounts and of paying an invoice a second time will be minimized.

Answer:

The use of the voucher system is appropriate, the essentials of which are outlined below. (Although invoices could be used instead of vouchers, vouchers more satisfactorily provide for account distribution, signatures, and other significant data.)

1. Each voucher should be approved for payment by a designated official only after completion of the following verifications: (a) that prices, quantities, terms, etc., on the invoice are in accordance with the provisions of the purchase order; (b) that all quantities billed have been received in good condition, as indicated on a receiving report; and (c) that all arithmetic details are correct.

2. The file for unpaid vouchers should be composed of 31 compartments, one for each day of the month. Each voucher should be filed in the compartment representing the last day of the discount period or the due date if the invoice is not subject to a cash discount.

3. Each day, the vouchers should be removed from the appropriate section of the file and checks issued by the disbursing official. If the bank balance is insufficient to pay all of the vouchers, those that remain unpaid should be refiled according to the date when payment should next be considered.

4. At the time of payment, all vouchers and supporting documents should be stamped or perforated “Paid” to prevent their resubmission for payment. They should then be filed in numerical sequence for future reference. The implementation and use of a computerized system would also reduce the chance that any available cash discounts are missed. For example, when invoices are received and approved for payment, they are automatically scheduled for payment within the discount period. However, even in a computerized system, the use of an approval process that requires supporting documents and indicating “paid” on these supporting documents is an important control for avoiding duplicate payments.

Paragon Tech Company, a communications equipment manufacturer, recently fell victim to a fraud scheme developed by one of its employees

Paragon Tech Company, a communications equipment manufacturer, recently fell victim to a fraud scheme developed by one of its employees. To understand the scheme, it is necessary to review Paragon Tech’s procedures for the purchase of services.

The purchasing agent is responsible for ordering services (such as repairs to a photocopy machine or office cleaning) after receiving a service requisition from an authorized manager. However, because no tangible goods are delivered, a receiving report is not prepared. When the Accounting Department receives an invoice billing Paragon Tech for a service call, the accounts payable clerk calls the manager who requested the service in order to verify that it was performed.

The fraud scheme involves Mae Jansma, the manager of plant and facilities. Mae arranged for her uncle’s company, Radiate Systems, to be placed on Paragon Tech’s approved vendor list. Mae did not disclose the family relationship.

On several occasions, Mae would submit a requisition for services to be provided by Radiate Systems. However, the service requested was really not needed, and it was never performed. Radiate Systems would bill Paragon Tech for the service and then split the cash payment with Mae.

Explain what changes should be made to Paragon Tech’s procedures for ordering and paying for services in order to prevent such occurrences in the future.

Answer:

To prevent the fraud scheme described, Paragon Tech must separate responsibilities for related operations. As in the past, all service requisitions should be submitted to the Purchasing Department. After receiving the service request, Purchasing should complete a Service Verification form stating the service that has been ordered and the name of the company that will provide the service. This form should be delivered via intercompany mail to the person responsible for verifying that the service was performed. This person should have firsthand knowledge of whether the service was performed. This person, who must be someone other than the manager requesting the service, should fill in the date and time the service was received and sign the form. In addition, the vendor providing the service should sign the form before leaving the premises. When completed, the Service Verification form should be forwarded to the Accounting Department. Accounting will authorize payment of the vendor’s invoice after the Service Verification form has been compared with the invoice.

The actual cash received from cash sales was $18,371, and the amount indicated by the cash register total was $18,400

The actual cash received from cash sales was $18,371, and the amount indicated by the cash register total was $18,400. Journalize the entry to record the cash receipts and cash sales.

Answer:

Cash                  18,371

Cash Short or Over        29

            Sales                 18,400

The actual cash received from cash sales was $71,315, and the amount indicated by the cash register total was $71,220

The actual cash received from cash sales was $71,315, and the amount indicated by the cash register total was $71,220. Journalize the entry to record the cash receipts and cash sales.

Answer:

Cash                71,315

            Sales               71,220

            Cash Short or Over      95

Abbe Co. is a small merchandising company with a manual accounting system. An investigation revealed that in spite of a sufficient bank balance

Abbe Co. is a small merchandising company with a manual accounting system. An investigation revealed that in spite of a sufficient bank balance, a significant amount of available cash discounts had been lost because of failure to make timely payments. In addition, it was discovered that the invoices for several purchases had been paid twice.

Outline procedures for the payment of vendors’ invoices so that the possibilities of losing available cash discounts and of paying an invoice a second time will be minimized.

Answer:

The use of the voucher system is appropriate, the essentials of which are outlined below. (Although invoices could be used instead of vouchers, vouchers more satisfactorily provide for account distribution, signatures, and other significant data.)

1. Each voucher should be approved for payment by a designated official only after completion of the following verifications: (a) that prices, quantities, terms, etc., on the invoice are in accordance with the provisions of the purchase order; (b) that all quantities billed have been received in good condition, as indicated on a receiving report; and (c) that all arithmetic details are correct.

2. The file for unpaid vouchers should be composed of 31 compartments, one for each day of the month. Each voucher should be filed in the compartment representing the last day of the discount period or the due date if the invoice is not subject to a cash discount.

3. Each day, the vouchers should be removed from the appropriate section of the file and checks issued by the disbursing official. If the bank balance is insufficient to pay all of the vouchers, those that remain unpaid should be refiled according to the date when payment should next be considered.

4. At the time of payment, all vouchers and supporting documents should be stamped or perforated “Paid” to prevent their resubmission for payment. They should then be filed in numerical sequence for future reference. The implementation and use of a computerized system would also reduce the chance that any available cash discounts are missed. For example, when invoices are received and approved for payment, they are automatically scheduled for payment within the discount period. However, even in a computerized system, the use of an approval process that requires supporting documents and indicating “paid” on these supporting documents is an important control for avoiding duplicate payments.

Sergio Flores works at the drive-through window of Big & Bad Burgers. Occasionally, when a drive-through customer orders

Sergio Flores works at the drive-through window of Big & Bad Burgers. Occasionally, when a drive-through customer orders, Sergio fills the order and pockets the customer’s money. He does not ring up the order on the cash register.

Identify the internal control weaknesses that exist at Big & Bad Burgers and discuss what can be done to prevent this theft.

Answer:

Big & Bad Burgers suffers from a failure to separate responsibilities for related operations.

Big & Bad Burgers could stop this theft by limiting the drive-through clerk to taking customer orders, entering them on the cash register, accepting the customers’ payments, returning customers’ change, and handing customers their orders that another employee has assembled. By making another employee responsible for assembling orders, the drive-through clerk must enter the orders on the cash register. This will produce a printed receipt or an entry on a computer screen at the food bin area, specifying the items that must be assembled to fill each order. Once the drive-through clerk has entered the sale on the cash register, the clerk cannot steal the customer’s payment because the clerk’s cash drawer will not balance at the end of the shift. This change also makes the drive-through more efficient and could reduce the time it takes to service a drive-through customer.

If another employee cannot be added, the weakness in internal control could be improved with more thorough supervision. The restaurant manager should be directed to keep a watchful eye on the drive-through area in order to detect when a clerk takes an order without ringing up the sale.

Another option is for Big & Bad Burgers to implement a policy that any customer who does not receive a receipt is entitled to a free burger and advertise this policy at thecash register and drive-through window. This approach uses the customer as an internal control.

The mailroom employees send all remittances and remittance advices to the cashier. The cashier deposits the cash in the bank

The mailroom employees send all remittances and remittance advices to the cashier. The cashier deposits the cash in the bank and forwards the remittance advices and duplicate deposit slips to the Accounting Department.

a. Indicate the weak link in internal control in the handling of cash receipts.

b. How can the weakness be corrected?

Answer:

a. The remittance advices should not be sent to the cashier.

b. The mailroom employees should send the remittance advices directly to the Accounting Department.

All-Around Sound Co. discovered a fraud whereby one of its front office administrative employees used company funds to purchase goods

All-Around Sound Co. discovered a fraud whereby one of its front office administrative employees used company funds to purchase goods such as computers, digital cameras, and other electronic items for her own use. The fraud was discovered when employees noticed an increase in the frequency of deliveries from vendors and the use of unusual vendors. After some investigation, it was discovered that the employee would alter the description or change the quantity on an invoice in order to explain the cost on the bill.

What general internal control weaknesses contributed to this fraud?

Answer:

All-Around Sound Co. should not have relied on the unusual nature of the vendors and frequency of deliveries to uncover this fraud. The purchase and payment cycle is one of the most critical business cycles to control because the potential for abuse is so great. Purchases should be initiated by a requisition document. This document should be countersigned by a superior so that two people agree as to what is being purchased. The requisition should initiate a purchase order to a vendor for goods or services. The vendor responds to the purchase order by delivering the goods. The goods should be formally received using a receiving document. An accounts payable clerk matches the requisition, purchase order, and invoice before any payment is made. Such “triple 

matching” prevents unauthorized requests and payments. In this case, the requests were unauthorized, suggesting that the employee has sole authority to make a request. Another issue is that this employee had access to the invoices. This access allowed the employee to change critical characteristics of the invoice to hide the true nature of the goods being received. The invoice should have been delivered directly to the accounts payable clerk to avoid corrupting the document. There apparently was no receiving document (common for smaller companies); thus, only the invoice provided proof of what was received and needed to be paid. If there had been a receiving report, the invoice could not have been doctored and gone undetected because it would not have matched the receiving report.

A former chairman, CFO, and controller of Donnkenny, Inc., an apparel company that makes sportswear for Pierre Cardin and Victoria Jones

A former chairman, CFO, and controller of Donnkenny, Inc., an apparel company that makes sportswear for Pierre Cardin and Victoria Jones, pleaded guilty to financial statement fraud. These managers used false journal entries to record fictitious sales, hid inventory in public warehouses so that it could be recorded as “sold,” and required sales orders to be backdated so that the sale could be moved to an earlier period. The combined effect of these actions caused $25 million out of $40 million in quarterly sales to be phony.

a.  Why might control procedures listed in this chapter be insufficient in stopping this type of fraud?

b.  How could this type of fraud be stopped?

Answer:

a. The most difficult frauds to detect are those that involve the senior managers of a company who are in a conspiracy to commit the fraud. The senior managers have the power to access many parts of the accounting system, while the normal separation of duties is subverted by involving many people in the fraud. In addition, the authorization control is subverted because most of the authorization power resides in senior management.

b. Overall, this type of fraud can be stopped if there is a strong oversight of senior management, such as an audit committee of the board of directors. Individual whistle-blowers in the company can make their concerns known to the independent or internal auditors who, in turn, can inform the audit committee. The audit committee should be independent of management and have the power to monitor the actions of management.

The procedures used for over-the-counter receipts are as follows: At the close of each day’s business, the salesclerks count the cash

The procedures used for over-the-counter receipts are as follows: At the close of each day’s business, the salesclerks count the cash in their respective cash drawers, after which they determine the amount recorded by the cash register and prepare the memo cash form, noting any discrepancies. An employee from the cashier’s office counts the cash, compares the total with the memo, and takes the cash to the cashier’s office.

a.  Indicate the weak link in internal control.

b.  How can the weakness be corrected?

Answer:

a. The salesclerks should not have access to the cash register tapes.

b. The cash register tapes should be locked in the cash register and the key retained by the cashier. An employee of the cashier’s office should remove the cash register tape, record the total on the memo form, and note discrepancies.

One of the largest losses in history from unauthorized securities trading involved a securities trader for the French bank Societe Generale

One of the largest losses in history from unauthorized securities trading involved a securities trader for the French bank Societe Generale. The trader was able to circumvent internal controls and create more than $7 billion in trading losses in six months. The trader apparently escaped detection by using knowledge of the bank’s internal control systems learned from a previous back-office monitoring job. Much of this monitoring involved the use of software to monitor trades. In addition, traders were usually kept to tight trading limits. Apparently, these controls failed in this case.

What general weaknesses in Societe Generale’s internal controls contributed to the occurrence and size of the losses?

Answer:

The Societe Generale trading losses show how small lapses in internal control can have large consequences. When the losses became so large that they could no longer be hidden, it was too late. The loss could have been avoided using a number of internal controls. First, the separation of duties control was overcome by the trader’s intimate knowledge of the monitoring software. This knowledge of the monitoring system allowed the trader to hide trades effectively. The design of the monitoring software would need to be improved and access prohibited by traders. If traders have access to the monitoring software, the separation of duties control is violated. Second, the trader should be under managerial oversight. For example,

trades that exceed a certain amount of exposure should require management approval. In this way, a trader would be forced to slow down or stop once trades reached a certain limit. This would avoid the trader’s tendency to try to “make up” losses with even larger bets. Finally, if the trader had had to take required vacation time, managers may have been alerted then to the hidden losses once the trader was unable to attend to the trading positions.

An employee of JHT Holdings, Inc., a trucking company, was responsible for resolving roadway accident claims under $25,000

An employee of JHT Holdings, Inc., a trucking company, was responsible for resolving roadway accident claims under $25,000. The employee created fake accident claims and wrote settlement checks of between $5,000 and $25,000 to friends or acquaintances acting as phony “victims.” One friend recruited subordinates at his place of work to cash some of the checks. Beyond this, the JHT employee also recruited lawyers, whom he paid to represent both the trucking company and the fake victims in the bogus accident settlements. When the lawyers cashed the checks, they allegedly split the money with the corrupt JHT employee. This fraud went undetected for two years.

Why would it take so long to discover such a fraud?

Answer:

This is an example of a fraud perpetrated with multiple parties in different positions of control, which makes detecting fraud more difficult. In this case, the fraud began with an employee responsible for authorizing claim payments. This is a sensitive position because his decisions would initiate payments. However, claims would need to be authorized and verified before payment would be made. Knowing this, the employee made sure each claim had a phony “victim.” Thus, there was a verifiable story behind each claim. Only by tracking physical evidence of the accident could it be discovered that the claim was fictitious. However, the very nature of the process was to resolve small claims quickly without excessive control. Finally, corrupt lawyers were brought into the fraud to act as attorneys for the claimants. This gave the claims even more credibility. In actuality, the lawyers had done legitimate business with the trucking company, so all appeared normal. This fraud was discovered when the fraudulent employee’s bank noticed irregularities in his bank account and notified authorities. As the saying goes, “Follow the money!” 

Ramona’s Clothing is a retail store specializing in women’s clothing. The store has established a liberal return policy for the holiday season

Ramona’s Clothing is a retail store specializing in women’s clothing. The store has established a liberal return policy for the holiday season in order to encourage gift purchases. Any item purchased during November and December may be returned through January 31, with a receipt, for cash or exchange. If the customer does not have a receipt, cash will still be refunded for any item under $75. If the item is more than $75, a check is mailed to the customer.

Whenever an item is returned, a store clerk completes a return slip, which the customer signs. The return slip is placed in a special box. The store manager visits the return counter approximately once every two hours to authorize the return slips. Clerks are instructed to place the returned merchandise on the proper rack on the selling floor as soon as possible.

This year, returns at Ramona’s Clothing have reached an all-time high. There are a large number of returns under $75 without receipts.

a. How can salesclerks employed at Ramona’s Clothing use the store’s return policy to steal money from the cash register?

b. What internal control weaknesses do you see in the return policy that make cash thefts easier?

c. Would issuing a store credit in place of a cash refund for all merchandise returned without a receipt reduce the possibility of theft? List some advantages and disadvantages of issuing a store credit in place of a cash refund.

d. Assume that Ramona’s Clothing is committed to the current policy of issuing cash refunds without a receipt. What changes could be made in the store’s procedures regarding customer refunds to improve internal control?

Answer:

a. The salesclerks could steal money by writing phony refunds and pocketing the cash supposedly refunded to these fictitious customers.

b. Ramona’s Clothing suffers from inadequate separation of responsibilities for related operations because the clerks issue refunds and restock all merchandise. In addition, there is a lack of proofs and security measures because the supervisors authorize returns two hours after they are issued.

c. A store credit for any merchandise returned without a receipt would reduce the possibility of theft of cash. In this case, a clerk could only issue a phony store credit rather than taking money from the cash register. A store credit is not as tempting as cash. In addition, salesclerks could only use a few store credits to purchase merchandise for themselves without management getting suspicious.

An advantage of issuing a store credit for returns without a receipt is that the possibility of stealing cash is reduced. The store will also lose less revenue if customers must choose other store merchandise instead of receiving a cash refund. The overall level of returns/exchanges may be reduced because customers will not return an acceptable gift simply because they need cash more than the gift. The policy will also reduce the “cash drain” during the weeks immediately following the holidays, allowing Ramona’s Clothing to keep more of its money earning interest or use that cash to purchase spring merchandise or pay creditors.

A disadvantage of issuing a store credit for returns without a receipt is that preholiday sales might drop as gift-givers realize that the return policy has tightened. After the holidays, customers wanting to return items for cash refunds may be frustrated when they learn the store policy has changed. The ill will may reduce future sales. It may take longer to explain the new policy and fill out the paperwork for a store credit, lengthening lines at the return counter after the holidays. Salesclerks will need to be trained to apply the new policy and write up a store credit. Salesclerks also will need to be trained to handle the redemption of the store credit on future merchandise purchases.

d. The potential for abuse in the cash refund system could be eliminated if clerks were required to get a supervisor’s authorization for a refund before giving the customer the cash. The supervisor should authorize the refund only after seeing both the customer and the merchandise that is being returned.

An alternative would be to use security measures that detect a salesclerk attempting to ring up a refund and remove cash when a customer is not present at the sales desk. These security measures could include cameras or additional security personnel discreetly monitoring the sales desk.

Finally, an employee on the following work shift could be assigned the responsibility of restocking returned merchandise and reconciling the returns to a refund list for the department.