chapter 12-1 prepared by coby harmon university of california, santa barbara westmont college...

Chapter 12-1

Prepared by Coby Harmon University of California, Santa Barbara

Westmont College

Prepared by Coby Harmon University of California, Santa Barbara

Westmont College

SECOND EDITION

Chapter 12-2

Administrative Processes and Controls

Chapter 12-3

1. An introduction to administrative processes

2. Source of capital processes

3. Investment processes

4. Risks and controls in capital and investment processes

5. General ledger processes

6. Risks and controls and risks in general ledger processes

7. Reporting as an output of the general ledger processes

8. Ethical issues related to administrative processes and reporting

9. Corporate governance in administrative processes and reporting

Study ObjectivesStudy ObjectivesStudy ObjectivesStudy Objectives

Chapter 12-4

Real WorldReal WorldReal WorldReal World Alcoa, Inc., the world’s leading producer of

aluminum, is well known for its accomplishments in the areas of

sustainability and innovation in the transportation, aerospace,

construction, and electronics industries. In 2012, Alcoa was appointed to

Fortune magazine’s list of Most Admired Companies for the twenty-ninth

consecutive year.

A lesser known fact about Alcoa is that it is often

the first of the Dow Jones Industrial companies to report its quarterly

earnings. Alcoa has worked hard to achieve a fast close, whereby it has

fine-tuned its accounting processes and information systems to facilitate

the completion of periodic transaction processing and closing of the

general ledger within two days of the end of the period. Then, it can

report its consolidated financial results externally within one week. In

today’s fast-paced business environment, companies can gain

competitive advantage by closing their books quickly and delivering

timely information to internal and external stakeholders.

Chapter 12-5

Three administrative processes described in this chapter:

1. Source of capital processes

2. Investment processes

3. General ledger processes

Administrative ProcessesAdministrative ProcessesAdministrative ProcessesAdministrative Processes

Chapter 12-6

Administrative processes are transactions and activities that

either are specifically authorized by top managers or are used

by managers to perform administrative functions.

First set of processes: Examples include sale of stocks or

bonds, the initiation of loans, bonds or notes payable, and the

investment of funds in marketable securities.

Second set of processes: financial information being

recorded in general ledger accounts.

SO 1 An introduction to administrative processes

Introduction to Administrative ProcessesIntroduction to Administrative ProcessesIntroduction to Administrative ProcessesIntroduction to Administrative Processes

Chapter 12-7

Exhibit 12-2Overall View ofTransactions, Processes, andResulting Reports

Introduction to Introduction to Administrative Administrative ProcessesProcesses

Introduction to Introduction to Administrative Administrative ProcessesProcesses


Chapter 12-8

Which of the following is not part of an administrative

process?

a. The sale of stock

b. The sale of bonds

c. The write-off of bad debts

d. The purchase of marketable securities


Introduction to Administrative ProcessesIntroduction to Administrative ProcessesIntroduction to Administrative ProcessesIntroduction to Administrative Processes

Concept Check

Chapter 12-9

Capital is the funds used to acquire long-term, capital

assets of an organization.

Source of capital processes are those processes to

authorize the raising of capital,

the execution of raising capital, and

the proper accounting of that capital.

SO 2 Source of capital processes

Sources of Capital ProcessesSources of Capital ProcessesSources of Capital ProcessesSources of Capital Processes

Chapter 12-10


Sources of Sources of Capital Capital ProcessesProcesses

Sources of Sources of Capital Capital ProcessesProcesses

Exhibit 12-3Sources of Capital Process Map

Chapter 12-11

Which of the following statements is not true regarding source of

capital transactions?

a. These processes should not be initiated unless there is specific

authorization by management at a top level.

b. Source of capital processes will result in potential dividend or

interest payments.

c. Retirement of debt is a source of capital process.

d. The fact that these transactions and processes cannot occur

without oversight by top management means other controls are

not necessary.


Sources of Capital ProcessesSources of Capital ProcessesSources of Capital ProcessesSources of Capital Processes

Concept Check

Chapter 12-12

Management should properly manage, or administer, the

investment of excess funds.

Investment processes are those processes which

► authorize,

► execute,

► manage, and

► properly account for

investments of excess funds.

SO 3 Investment processes

Investment ProcessesInvestment ProcessesInvestment ProcessesInvestment Processes

Chapter 12-13 SO 3 Investment processes

Investment Investment ProcessesProcessesInvestment Investment ProcessesProcesses

Exhibit 12-4Investment Process Map

Chapter 12-14

The officer within a corporation that usually has oversight

responsibility for investment processes is the

a. controller.

b. treasurer.

c. chief executive officer (CEO).

d. chief accounting officer (CAO).

SO 3 Investment processes

Investment ProcessesInvestment ProcessesInvestment ProcessesInvestment Processes

Concept Check

Chapter 12-15 SO 4 Risks and controls in capital and investment processes

Risks and Controls in Capital and Risks and Controls in Capital and Investment ProcessesInvestment ProcessesRisks and Controls in Capital and Risks and Controls in Capital and Investment ProcessesInvestment Processes

For both source of capital processes and investment

processes, the important control is the specific authorization

and oversight by top management.

Generally, the risks are not related to employee fraud, but are

instead related to management fraud.

Chapter 12-16

Which of the following statements is not true regarding internal

controls of capital and investment processes?

a. Internal controls aimed at preventing and detecting employee

fraud in capital and investment processes are not as effective.

b. Top management fraud, rather than employee fraud, is more

likely to occur.

c. Any fraud is likely to involve manipulating capital and investment

processes.

d. Because of top management oversight, the auditor need not

review these processes.

Risks and ControlsRisks and ControlsRisks and ControlsRisks and Controls

Concept Check

SO 4

Chapter 12-17

Real WorldReal WorldReal WorldReal World In the early 2000s, the Securities and Exchange Commission investigated Nathan A. Chapman, Jr.

and three of his companies. One of the companies, echapman.com, was scheduled to sell tock through an initial public offering (IPO). In an IPO, the company offering stock must explain to potential investors the manner in which funds from the IPO will be used.

The SEC found that Chapman lied about the use of IPO funds. Chapman was actually using proceeds from the sale of new stock to buy more of his own stock. These purchases were only intended to show a larger volume of sales of the stock, thereby making it look like a more attractive stock. He was attempting to artificially pump up the price of the stock through these purchases of his own stock. To conceal this fraud, his company falsified the financial statements.

In this case, typical internal controls such as segregation of duties and reconciliations would not likely prevent or detect these frauds. The more important controls of specific authorization by top management and close scrutiny by the internal and external auditors are especially important in capital and investment processes.

SO 4

Chapter 12-18 SO 5 General ledger processes

Exhibit 12-5Accounting Cycle Process Map

General Ledger General Ledger General Ledger General Ledger

Chapter 12-19

Which of the following statements is true?

a. Routine transactions are recorded in the general

journal.

b. Nonroutine transactions are entered in the general

journal.

c. Nonroutine transactions are recorded in a subsidiary

ledger.

d. Nonroutine transactions are recorded in a special

journal.SO 5 General ledger processes

General Ledger ProcessGeneral Ledger ProcessGeneral Ledger ProcessGeneral Ledger Process

Concept Check

Chapter 12-20

Regarding subsidiary ledgers and general ledger control accounts,

which of the following is not true?

a. Total balances in a subsidiary ledger should always equal the

balance in the corresponding general ledger account.

b. The general ledger maintains details of subaccounts.

c. Control is enhanced by separating the subsidiary ledger from

the general ledger.

d. Reconciling a subsidiary ledger to the general ledger can help

to detect errors or fraud.

SO 5 General ledger processes

General Ledger ProcessGeneral Ledger ProcessGeneral Ledger ProcessGeneral Ledger Process

Concept Check

Chapter 12-21 SO 6 Risks and controls and risks in general ledger processes

Risks and Controls in General Ledger Risks and Controls in General Ledger ProcessesProcessesRisks and Controls in General Ledger Risks and Controls in General Ledger ProcessesProcesses

Common procedures associated with the general ledger:

► Authorization of transactions

► Segregation of duties

► Adequate records and documents

► Security of the general ledger and documents

► Independent checks and reconciliation

► Cost-benefit considerations

Chapter 12-22

Real WorldReal WorldReal WorldReal World

Consider the checkout lanes at a department store such as Wal-

Mart. Around the world, there are employees working checkout

lanes who are scanning products by passing them over the bar

code scanner and accepting payment. In a large company such

as Wal-Mart, it would be tremendously inefficient for the system to

delay the general ledger posting until a specific employee logs in

to conduct the posting. Rather, when the checkout lane employee

completes a sale by accepting payment and printing a sales

receipt, he or she has authorized an event that will automatically

update sales, inventory, and cash balances.

Authorization of transactions

SO 6 Risks and controls and risks in general ledger processes

Chapter 12-23

Real WorldReal WorldReal WorldReal World

Wal-Mart and Procter & Gamble (P&G) have interconnected IT

systems. P&G sells consumer products such as soap, shampoo,

and diapers to Wal-Mart. A sale by P&G to Wal-Mart is actually

triggered by the Wal-Mart IT inventory system. As Wal-Mart

inventory levels of certain products fall below established reorder

points, the systems interact and authorize a transfer of products

from P&G to Wal-Mart. This means that P&G’s sale and the

subsequent update of its sales and receivable accounts are

activated by its customer’s computer system. Similarly, Wal-

Mart’s purchase and update of its inventory and payables

accounts are triggered by this system.

Authorization of transactions


Chapter 12-24

Which of the following statements regarding the authorization of general

ledger posting is not true?

a. Posting to the general ledger always requires specific authorization.

b. User IDs and passwords can serve as authorization to post

transactions to the general ledger.

c. A journal voucher serves as authorization for manual systems.

d. As IT systems become more automated, the authorization of

general ledger posting is moved to lower levels of employees.



Concept Check

Chapter 12-25

In a manual system with proper segregation of duties, an

employee in the general ledger department should only

a. authorize posting to the general ledger.

b. post transactions to the general ledger.

c. reconcile the subsidiary ledger to the general ledger.

d. post transactions to the subsidiary ledger.



Concept Check

Chapter 12-26 SO 7 Reporting as an output of the general ledger processes

Reporting as an Output of the General Reporting as an Output of the General Ledger ProcessesLedger ProcessesReporting as an Output of the General Reporting as an Output of the General Ledger ProcessesLedger Processes

External Reporting

Four general purpose financial statements

► balance sheet,

► income statement,

► statement of cash flows, and

► statement of retained earnings

are created from general ledger account balances.

Chapter 12-27 SO 7 Reporting as an output of the general ledger processes

Reporting as an Output of the General Reporting as an Output of the General Ledger ProcessesLedger ProcessesReporting as an Output of the General Reporting as an Output of the General Ledger ProcessesLedger Processes

Internal Reporting

Internal reports are usually not financial statements, but

reports tailored to specific needs of each management level

and function. Many factors affect the type of report provided

► Type of organization

► Function managed

► Time horizon

Chapter 12-28

Which of the following statements about reporting is true?

a. External users need detailed, rather than summarized,

information.

b. All reports, internal and external, are derived only from general

ledger data.

c. All organizations need similar internal reports.

d. Internal reports are tailored to the specific needs of each

management level and function.

SO 7 Reporting as an output of the general ledger processes

Reporting as an Output of the General Reporting as an Output of the General Ledger Ledger Reporting as an Output of the General Reporting as an Output of the General Ledger Ledger

Concept Check

Chapter 12-29

For each report shown, indicate in the appropriate column whether the

report is likely to be for internal or external users (some reports may be

both), and whether data would come exclusively from the general ledger.

SO 7 Reporting as an output of the general ledger processes

Reporting as an Output of the General Reporting as an Output of the General Ledger Ledger Reporting as an Output of the General Reporting as an Output of the General Ledger Ledger

Report Name Internal or External Exclusively G/L Data?

Income statement

Aged accounts receivable

Inventory stock status

Open purchase orders

Machine down-time

Cash flow statement

P roduction units produced

External

Both

Internal

Internal

Internal

External

Internal

Yes

No

No

No

No

No

No

Chapter 12-30 SO 8 Ethical issues related to administrative processes and reporting

Ethical Issues Related to Administrative Ethical Issues Related to Administrative Processes and ReportingProcesses and ReportingEthical Issues Related to Administrative Ethical Issues Related to Administrative Processes and ReportingProcesses and Reporting

Reasons that unethical and fraudulent behavior would tend to

be management-initiated.

First, in a properly controlled system, employees do not have

access to related assets or source documents.

Second, administrative processes are tightly controlled and

supervised by top management.

Finally, routine nature of processes such as sales, purchasing,

payroll, and conversion generates a huge volume of transactions.



Unethical Management Behavior in Capital Sources

and Investing

Management should

be honest in the financial statements presented, footnote

disclosures, and any related disclosures.

avoid misleading creditors about

► the financial status of the company or

► its ability to repay any borrowing.



Internal Reporting ethical Issues

Top management has an ethical obligation to use financial

and other reports to encourage beneficial and ethical

behavior. Reports to lower level managers are usually used

for two purposes.

1. Feedback to lower level managers.

2. Used by upper management to evaluate and reward the

performance of lower level managers.

Chapter 12-33

Which of the following is not an area of measure in a

balanced scorecard?

a. Vendor

b. Customer

c. Financial

d. Learning and growth

SO 8 Ethical issues related to administrative processes and reporting


Concept Check

Chapter 12-34 SO 9 Corporate governance in administrative processes and reporting

Corporate Governance in Administrative Corporate Governance in Administrative Processes and ReportingProcesses and ReportingCorporate Governance in Administrative Corporate Governance in Administrative Processes and ReportingProcesses and Reporting

Setting and monitoring financial goals, and establishing and

maintaining reliable accounting journals and ledgers so that

performance can be properly reported, are important to

effective corporate governance.

In addition, internal controls and ethical practices within the

administrative processes help ensure proper financial

stewardship of a company’s administrative resources.

Chapter 12-35

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chapter 12-1 prepared by coby harmon university of california, santa barbara westmont college...

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