ACCIST REVIEWER

The Conceptual System

OVERVIEW OF PURCHASES AND CASH DISBURSEMENTS ACTIVITIES
The expenditure cycle is examined conceptually here. The sequence of activities is traced through
purchases processing and cash disbursements procedures that constitute the expenditure cycle
for most retail, wholesale, and manufacturing organizations. The tasks described in this section
may be performed manually or by computer. The focus is on what needs to be done. Documents
and files may be physical or digital.

Purchases Processing Procedures

This include the tasks involved in identifying inventory needs, placing the order, receiving
the inventory, and recognizing the liability which apply to both manufacturing and retailing firms
but the two differ in the way purchases are authorized; production planning and control function
in manufacturing firms while inventory control function in merchandising firms.

Monitor Inventory Records – Inventory control monitors and records finished goods inventory
levels. When inventories drop to a predetermined reorder point, a purchase requisition is
prepared and sent to the prepare purchase order function to initiate the purchase process.

Prepare Purchase Order - Prepare purchase order function receives the purchase requisitions
which are sorted by vendor and a purchase order (PO) is prepared for each vendor. Copies are
sent to the vendor, accounts payable, receive goods function (blind copy), and filed in the open/
closed purchase order file.

Receive Goods - Goods arriving are reconciled with the blind copy of the PO containing no
quantity or price information about the products being received in order to force the receiving
clerk to count and inspect inventories. Then, receiving clerk prepares a receiving report stating
the quantity and condition of the inventories. Copies are made in which one accompanies the
physical inventories; one filed in the open/closed PO file; one each sent to AP department and
inventory control; and one placed in the receiving report file.

Update Inventory Records – When standard cost system is used, posting to a standard cost
inventory ledger requires only information about the quantities received which the receiving
report contains. Updating an actual cost inventory ledger requires a copy of the supplier’s invoice
when it arrives.

Set Up Accounts Payable – When the supplier’s invoice is not received, the firm defer recording
the liability. When the invoice arrives, the AP clerk reconciles the financial information with the
receiving report and PO in the pending file which is called a three-way match. Then, transaction is
recorded in the purchases journal and posted to the supplier’s account in the AP subsidiary
ledger. After recording the liability, the AP clerk transfers all source documents (PO, receiving
report, and invoice) to the open AP file. Finally, the AP clerk summarizes the entries in the
purchases journal for the period (or batch) and prepares a journal voucher for the general ledger
function.

Vouchers Payable System

Under this system, after the AP clerk performs the three-way match, a cash disbursement
voucher to approve payment is prepared by the clerk. Vouchers allow firms to consolidate several
payments to the same supplier on a single voucher, thus reducing the number of checks written.
Each voucher is recorded in the voucher register which reflects the AP liability of the firm. The
sum of the unpaid vouchers in the register is the firm’s total AP balance. The AP clerk files the
cash disbursement voucher, along with supporting source documents, in the vouchers payable
file.
Post To General Ledger – General ledger function receives a journal voucher from the AP
department and an account summary from inventory control. Then, posts from the journal
voucher to the inventory and AP control accounts and reconcile the inventory control account
and the inventory subsidiary summary. The approved journal vouchers are then posted to the
journal voucher file. With this step, the purchases phase of the expenditure cycle is completed.

CASH DISBURSEMENTS SYSTEMS

- Processes the payment of obligations created in the purchases system
- Ensures that only valid creditors receive payment and that amounts paid are timely and
correct

1. IDENTIFY LIABILITIES DUE

- Identify items that have come due
- Review open AP file and send payment approval in the form of a voucher packet to the
cash disbursements department

2. PREPARE CASH DISBURSEMENT

- Upon receipt of the voucher packet, documents are reviewed
- Checks are prepared and recorded for every disbursement
- Records checks in the cash disbursements journal
- A journal voucher is sent to the general ledger department

3. UPDATE AP RECORD
- The liability is removed from the AP subsidiary account upon receipt of the voucher
packet
- The voucher packet is filed in the closed voucher file, and an account summary is
prepared and sent to the general ledger function

4. POST TO GENERAL LEDGER

- The amounts in the journal voucher and account summary and reconciled with the AP
summary
- AP control and cash accounts are updated accordingly
 - The journal voucher is then filed

PROCESS:
1. AP Department
- The AP Department checks for items due in the open vouchers payable (or AP) file and
sends vouchers and supporting documents to the cash disbursements department

2. Cash Disbursements Department

- The cash disbursements clerk receives the voucher packets and reviews the documents
- A check is prepared and recorded, and goes to the cash disbursements department
manager for his/her signature
- The negotiable portion of the check is mailed to the supplier
- The clerk returns the packet and check copy to the AP department and files one copy of
the check
- The clerk summarizes the entries made to the check register and sends a journal voucher
to the general ledger department.

3. AP Department
- Upon receipt of the packet, the AP clerk removes the liability and files the voucher
packet in the closed voucher file
- The clerk sends and AP summary to the general ledger department.

4. General Ledger Department

- The general ledger clerk posts to the control accounts and files the documents

EXPENDITURE CYCLE CONTROLS

Primary Internal Controls

TRANSACTION AUTHORIZATION
Purchases Subsystem
The inventory control function continually monitors inventory levels. As inventory
levels drop to their predetermined reorder points, inventory control formally
authorizes replenishment with a purchase requisition.
This process prevents authorized purchasing which can eventually result in excessive
inventory levels for some items, while others go out of stock.
Cash Disbursements Subsystem
The AP function authorizes cash disbursements via the cash disbursement voucher.
A cash disbursement journal (check register) containing the voucher number
authorizing each check provides an audit trail for verifying the authenticity of each
check written.

SEGREGATION OF DUTIES
Segregation of Inventory Control from the Warehouse. The primary asset is
inventory. Inventory control keeps the detailed record of the asset, while the
warehouse has custody. At any point, an auditor should be able to reconcile inventory
records to the physical inventory.
Segregation of the General Ledger and Accounts Payable from Cash
Disbursements. The asset subject to exposure in the cash disbursements subsystem is
cash. The records controlling this asset are the AP subsidiary ledger and the cash
account in the general ledger. By segregating the function of writing checks, posting
to the cash accounts, and maintaining AP to different individuals can greatly reduce
fraudulent activities against the firm.

SUPERVISION
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. Theft of assets

ACCOUNTING RECORDS
The control objective of accounting records is to maintain an audit trail adequate for
tracing a transaction from its source documents to the financial statements. The
expenditure cycle employs the following accounting records: AP subsidiary ledger,
voucher register, check register, and general ledger. The auditor’s concern is that
obligations may be materially understated in the financial statements because of
unrecorded transactions. Hence, expenditure cycle systems must be designed to
provide supporting information, such as the purchase requisition file, the PO file, and
the receiving report file. By reviewing these peripheral files, auditors may obtain
evidence of inventory purchases that have not been recorded as liabilities.
ACCESS
Direct Access. A firm must control access to physical assets such as cash and
inventory. Direct access controls include locks, alarms, and restricted access to areas
that contain inventories and cash.
Indirect Access. A firm must limit access to documents that control its physical assets

INDEPENDENT VERIFICATION
Independent Verification by Accounts Payable. Copies of key source documents
flow into this department for review and comparison. Each document contains unique
facts about the purchase transactions, which the AP clerk must reconcile before the
firm must recognize an obligation. These include:
1. The Purchase Order. It shows that the purchasing agent ordered only the needed
inventories from a valid vendor. It should reconcile with the purchase requisition.
2. The Receiving Report. It is an evidence of the physical receipt of the goods, their
condition, and the quantities received. The reconciliation of this document with
the PO signifies that the organization has a legitimate obligation.
3. The Supplier’s Invoice. It provides the financial information needed to record an
 obligation as an account payable.
Independent Verification by the General Ledger Department. It receives journal
vouchers and summary reports from inventory control, accounts payable, and cash
disbursements. From these sources, the general ledger function verifies that the total
obligations recorded equal the total inventories received and that the total reductions
in AP equal the total disbursements of cash.

PHYSICAL SYSTEMS
Manual System- supports conceptual treatment of systems presented in the
previous section. This should help you envision the relationship between
organizational units, the segregation of duties and information flows essential to
operations and effective internal control.
Inventory Control-when inventories drop to predetermined order point, clerk prepares purchase
requisition. Copies are sent to purchasing requisition department and open purchase requisition
file.
Purchasing Department- receives purchase requisitions, sorts them by vendor, and prepares
multipart purchase order for each vendor. Copies are sent to vendor (2), inventory control,
accounts payable, receiving department and open purchase order file.
Receiving- goods arriving are reconciled with blind copy of PO. Upon completion of physical
count and inspection, the receiving clerk prepares multipart receiving report stating the quantity
and condition of inventories. Copies goes to purchase department and with the physical
inventory. The clerk closes the open PO by filing the purchase requisition, PO and the receiving
report in the close PO file.
AP Department- when invoice arrives, AP clerk reconciles it with pending file, records and posts
it purchase journal and supplier’s account in AR subsidiary ledger. AP clerk transfer the source
documents (PO, receiving report, invoice) to open vouchers payable file.
General Ledger Department- receives journal voucher of payables and inventory account
summary. The clerk reconciles these and posts it to inventory and AP control accounts. With this
step, the purchase phase is completed.

CASH DISBURSEMENTS PROCEDURES

Data Processing Department
 The system scans the due date field of the voucher register for items due.
 Checks are printed and each check is recorded in the check register or the cash
disbursements journal.
 The check number is recorded in the voucher register to close the voucher and transfer the
items to the closed or paid AP file.
 The checks are sent to the cash disbursements department, along with a transaction listing.
 Batch totals of closed or paid AP and cash disbursements are prepared for the general ledger
update procedure.
 Batch totals of open or unpaid and closed or paid AP, inventory increases, and cash
 disbursements are posted to the AP control, inventory control, and cash accounts in the
general ledger respectively.
 The totals of closed AP should balance the total of cash disbursements.
Cash Disbursements Department
 The cash disbursements clerk reconciles the checks with the transaction listing.
 The cash disbursement clerk submits the negotiable portion of the checks to management
for signing.
 The checks are mailed to the suppliers.
 One copy of each check is sent to AP, and the other copy is filed in cash disbursements, along
with the transaction listing.
Accounts Payable Department
 The AP clerk matches the check copies with open vouchers upon their receipt
The AP clerk transfers these now closed items to the closed voucher file.

Data Processing
The following tasks are performed automatically.
1. The inventory file is searched for items that have fallen to their reorder points.
2. A record is entered in the purchase requisition file for each item to be replenished.
3. Requisitions are consolidated according to vendor number.
4. Vendor mailing information is retrieved from the valid vendor file.
5. Purchase orders are prepared and added to the open PO file.
6. A transaction listing of POs is sent to the purchasing department for review.

Receiving Department

 Upon receipt, receiving clerk accesses the open PO file in real time by entering the PO
number taken from the packing slip.

Data Processing
The following tasks are performed automatically by the system.
1. Quantities of items received are matched against the open PO record, and a Y value is placed in
a logical field to indicate the receipt of inventories.
2. A record is added to the receiving report file.
3. The inventory subsidiary records are updated to reflect the receipt of the inventory items.
4. The general ledger inventory control account is updated.
5. The record is removed from the open PO file and added to the open AP file, and a due date for
payment is established.
Each day, the DUE DATE fields of the AP records are scanned for items due to be paid. The
following procedures are performed for the selected items.
1. Checks are automatically printed, signed, and distributed to the mail room for mailing to
vendors. EDI vendors receive payment by electronic funds transfer (EFT). EFT is discussed in the
appendix to Chapter 12.
2. The payments are recorded in the check register file.
3. Items paid are transferred from the open AP file to the closed AP file.
4. The general ledger AP and cash accounts are updated.
5. Reports detailing these transactions are transmitted via terminal to the AP and cash
disbursements departments for management review and filing.

CONTROL IMPLICATIONS

THE AUTOMATED SYSTEM

IMPROVED INVENTORY CONTROL
 The automated system welcomes an improved ability to manage inventory needs.
 It automatically detects and process inventory requirements as they arise, thus, risks of
excessive or shortage of inventory is reduced.
 However, program errors or flawed inventory models may cause issues. That's why
monitoring automated decisions is really important.
BETTER CASH MANAGEMENT
 It promotes effective cash management by scanning voucher files daily.
 It also reduces labor costs.
TIME LAG
 There is lag between the arrival of goods in the receiving department and recording
inventory receipts, hence, may negatively affect the sales process.
PURCHASING BOTTLENECK
 The purchasing department having direct involvement in all purchasing decisions creates
additional work, leading to time lag in the ordering process. So, routine purchases can be
automated, thus, reducing purchasing agents from routine work.
EXCESSIVE PAPER DOCUMENTS
 The automated system is weighed down with paper documents.
 Operations department create and send documents for data processing, and are
converted to magnetic media.
THE REENGINEERED SYSTEM
ADRESSING OPERATIONAL WEAKNESSES OF THE AUTOMATED SYSTEM
 Uses real-time procedures and direct access files to shorten lag in record keeping
 Eliminates routine clerical procedures by distributing terminals to user areas
 Paper document reduction by using digital communications
SEGREGATION OF DUTIES
 Removes the physical separation between authorization and transaction processing.
 Provides detailed transaction listings and summary reports that allow management to
spot errors and unusual events that warrant investigation.
ACCOUNTING RECORDS AND ACCESS CONTROLS
Advanced systems maintain accounting records on digital storage media, with little to no hard-
copy backup.