AN APPRAISAL OF INTERNAL CONTROL SYSTEM ON LARGE FIRM (A CASE STUDY OF EMENITE LTD ENUGU)
This chapter portrays the theoretical framework of the meaning, purpose and important of internal control in an organization as already viewed by others. Data are gathered and reported to provide management with information it required in its decision making to advice the desired objectives of the organization. Such information is at great importance to the shareholders and other financial institutions, creditors and management agencies in the public sector.
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The American institute of certified public Accountants emphasized that internal control is a means to an end not an end in and itself. This process is effected by individual, a merely policy manuals documents and forms. By inducing the concept of “reasonable assurance”. It recognizes that internal control cannot realistically, provide absolute assurance that an organization’s objectives will be achieve. Reasonable assurance recognizes the cost of an organization’s internal control should not exceed benefit expected to be obtained notably the prevention of error and fraud. The type of internal control system to be established by an organization will depend largely on the size, nature and purpose of the organization. In large firm, excellent internal control may be achieved by extensive segregation of duties so that no one person handles a transaction completely from the beginning to the end. Internal control varies significantly from one organization to the next, depending on such factors as nature of operation and objective. Yet certain features are essential to satisfactory. They are:
- Integrity and ethical value
- Commitment to competence
- Board of directors or audit committee
- Management philosophy and operating style
- Organizational structure
- Assignment of authority and responsibility
- Human resource policies and procedures
- INTEGRITY AND ETHICAL VALUES
The effectiveness of internal control depends directly upon the integrity and ethical value of the personnel who are responsible for creating administrating and monitoring controls. Management should establish behavioral and ethical standards that discourage employee from engaging in acts that would be considered dishonest, unethical or illegal. To be effective, these standards must include by official policies, codes of conducts and example.
- COMMITMENT TO COMPETENCE
Employees should posses the skills and knowledge essential to the performance of the job. If employees are lacking in skills or knowledge, they may be ineffective and performing their assigned duties. This is especially critical when the employees are involved in performing internal controls ideally. Management should be committed to hiring employees with appropriate levels of education and experience and providing them with adequate supervision and training.
C. BOARD OF DIRECTORS OR AUDIT COMMITTEE
The control environment of an organization is significantly influenced by the performance effectiveness of its board of directors or audit committee. Factors that bear on the effectiveness of the board or the audit committee include the extent to which it raises and pursues difficult question with management and its interaction with the internal and external auditors.
Audit committee of the board of directors should be composed of outside directors who are neither affairs nor employees of the organization. This enables the audit committee to be effective at overseeing the quality of the organization’s financial reports, and at acting as a deterrent to management override of control and to management fraud.
d. MANAGEMENT PHILOSOPHY AND OPERATING STYLE
Management differs in both their philosophies forward financial reporting and their attitudes toward taking business risks. Some management is extremely aggressive in financial reporting and place great emphasis on meeting or exceeding earnings projection. They may be willing to undertake activities of high risk with the prospect of high return. Other management terms are extremely conservative and risk averse. These differing philosophies and operating style may have an impact on the overall reliability of the financial statements
Management’s philosophy and operating style also is reflected in the way the organization is managed controls in an informal organization are often implemented face – to- face contact between employees and management. A more formal organization wills establish written policies. Performance reports and exception reports to control its varies activities.
e. ORGANIZATIONAL STRUCTURE
Another factors is the entitles organizational structure. A well-designed organization structure provides a basis for planning directing and controlling operations. It divides authority responsibilities and duties among members of an organization by dealing with issue as centralized verses decentralized decision-making and appropriate segregation of duties among the various departments.
When management decision-making is centralized and dominated by one individuals abilities and moral character are extremely important to the auditors. When a decentralized style is used, procedure to monitor the decision making of the managements involved become equally important.
The organizational structure of an entity should separate responsibilities for:
i. Authorization of responsibilities
ii. Record keeping for transaction
iii. Custody of assets
In addition to the extent possible execution of transaction should be separated from these responsibilities. The effectiveness of such structure is usually obtained by having designated department. The top executive of the major department should be of equal rank and should report directly to the president or to an executive rice president.
f. ASSIGNMENT OF AUTHORITY AND RESPONSIBILITY
Personnel within an organization need to have clean understanding of their responsibilities and the rules and regulation that grown their action. Therefore to enhance the control environment, management develops employee’s job description and clearly duties authority and responsibility within an organization. Policies also may be established describing appropriate business practices, knowledge and experience of key personnel and the use of resources.
g. HUMAN RESOURCE POLICIES AND PRACTICES/PROCEDURE
Ultimately the effectiveness of internal control is affected by the characteristics of the organization’s personnel. Thus, managements policies and practices for hinging, orientation, training, evaluating, counseling promoting and compensating employees have a significant effect on the effectiveness of the control environment.
As an example, standards for hiring the most qualified individuals with an emphasis on educating experience and enhance of integrity and ethical behavior illustrate the organization’s commitment to hiring competent and trustworthy people. Effective human resources policies often can mitigate other weakness in the control environment.
2.1 ORIGIN AND PURPOSE OF INTERNAL CONTROL
The concept of internal control system originated from the 1990. It was known then as internal check and referred to the separation of functions among three or more in such a way the work of one served as check verification on the work of another.
Internal control system had evolved gradually over the years with the greater development occurring in 1940s. The development came from the auditors and management alike who where finding the principle unceasingly useful. The management has recognized internal control as an indefensible tool for carrying out its responsibilities and auditors have pressed for improvement in the system in order to be of assistance to their dients as well as to permit reduction in audit work made by increase in the credibility of the accounting records.
The principle was consequently incorporated into the auditing standard to facilitate a proper study and evaluation of existing control system so as to assist the auditor in the fair view of the financial transaction of the organization. Moreover, internal control system enables business managers to perform their stewardship function of safeguarding business assets against physical loss or misrepresentation in the company’s financial statement due to error of fraud. Internal control built into an accounting system are designed to:
i. Keep errors free from being made in the first place.
ii. Detect errors it may record information before they are incorporated in accounting reports.
iii. Prevent employees from committing fraud embezzlement or other theft.
iv. Increase the operation affecting the business by encouraging employees to comply with company’s policies.
These days, internal control had become one of the most effective tools of organizational management that is practiced by even social institutions like school, hospitals and even social clubs.
2.2 DEFINITION OF INTERNAL CONTROL SYSTEM
Internal control has been given several definition by different writers, professional institutions and major accounting organizations.
According to kooper (1994), internal control in its earliest day was defined as “certain checks and procedure to prevent direct financial fraud or misappropriation of property. However this definition is not complete hence the system has grown in scope from mere financial control to embrace other forms of control within an enterprise.
The American Institution of Certified Public Accountants (AICPA) defined internal control as the plan of organization and all the co-ordinate methods and measures adopted within a business to safeguard its assets check the accruing and reliability of it accounting data. Promote operational efficiency and encourage adherence to prescribed management policies.
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Another generally accepted definition is the one given by Committee Of Sponsoring Organizations (COSO) as “A process effected by the entities board of directors, management and other personnel designed to provide reasonable assurance regarding the achievement of objectives in the following categories:
a. Reliability of financial reporting
b. Effectiveness and efficiency of operations
c. Compliance with applicable laws and regulations.
The institute of chartered. Accountants of England and was Wales in its auditing defines internal control as not only internal check and internal audit but “the whole system of control, Financial and otherwise established by management in order to carry on the business of the enterprise in an orderly and efficient manner. Ensure adherence to management policies, safeguard the assets and secure records. “the individual components of an internal control system are unknown as ‘control’ or internal control”. Let us consider the definition in detail
a. The whole system: internal control can be seen as single procedures (e.g. clerk A checks the calculations performed by clerk B) or as a whole system. The whole system should be more than the sum or the parts.
b. Financial and otherwise: The destruction is not important, perhaps financial would include the physical Accers restrictions to computer terminals.
c. Established by the management: internal control systems are established by the established by the management either directly or by means of external consultants. Internal audit or accounting personnel. External auditors may be asked to advise on the setting up of systems.
d. Ensure adherence to management policies: Not all management have expressed policies. But as an example, a budget is an expression of management policy and adherence to the budget can be achieved by procedures such as variance analysis. Another one may be the selling prices of the enterprise product being laid down by management and control existing to ensure that these prices are adhered to.
e. Safeguard the assets: Obviously allowing assets to be broken lost or stolen is unacceptable and procedures are always devised to safeguard them. Examples are locks and keys, the keeping of plant register, regular reviews of debtor’s balances etc. Embezzlement of goods is an example of failure to safeguard assets.
f. Secure completeness: It is especially important that all transactions are recorded and processed. Procedure which do include checks that no goods to see that no goods sold (always evidenced by a delivery note) have failed to result in an invoice
g. And accuracy of the record: This can be achieved by the use of control accounts, independent comparison of two sets of records and stock, or piecework payments and good work into store
Finally, the definition of internal control is comprehensive in that it address achievement of objectives in the areas of financial reporting, operations and compliance with laws and regulations. It encompasses the method by which top management delegate’s authority and signs responsibility for such as selling, purchasing, accounting and production. Internal control include the program for preparing verifying and distributing to various levels of management those current reports analysis the enable executives to maintain control over the variety of activities and functions that are performed in large organizations.
2.3 INTERNAL CHECK AND CONTROL
It is an essential part of internal control in a large business organization. It is defined as in the statement of Auditing as the allocation of authority and work in such a manner as to afford checks on the routine transactions of day to day work by means of the work of one person being proved independently by another or the work of a person being complementing tom that of another requires:
a. The arrangement of duties among staff or department in such a way that no one person is in a position to carryout the work of a particular operation alone in which fraud is possible.
b. Other automatic checks, which form part of the routine system, e.g. use of control totals. Internal check is characterized by early detection of fraud.
Internal check as a matter of necessity states from allocation of authorities and responsibilities in such a manner that alone person done does not see a transaction through from the commencing stage to the completing or final stage.
