Internal Control in Small Business
Internal controls are essentially checks and balances within a company with the objective of preventing fraud, limiting financial losses and reducing errors and omissions. It consists of methods and procedures adopted in a business to ensure that business objectives are achieved, financial and operational requirements are complied with, business financial information is accurate and reliable and assets are safeguarded.
Big businesses usually understand the critical importance of internal controls, in contrast many small businesses are careless regarding internal controls, and many assume they are too small for internal controls. Often entrepreneurs think of internal controls as a requirement for big business. They assume that internal controls are a lot of manuals with procedures, set up by a group of consulting accountants and monitored by the internal auditors, which serve to slow down the pace of business. This assumption could not be further from the truth! Even a relatively small business can enforce certain internal controls that are very effective. The moment a business owner begins to delegate some of the duties in running the business in the natural course of growth the need for internal control arises.
Different types of control procedures are required to address the different aspects of controls required in a business. The broad categories of controls needed in a business are outlined below. This is not in any way exhaustive and the business owner is advised to work with a CPA to implement cost effective controls suited to the business.
Controls to safeguard assets - This aims to protect physical and non-physical assets and minimize losses. Physical assets include cash, stock and equipment while non-physical assets could include debtors, intellectual property or customer lists. Control techniques include; physical security such as locking premises, changing computer passwords regularly, segregation of duties - avoiding giving one employee total control over a process, rotation of duties, making sure there is an independent check on processes and procedures – surprise counts and inspections, having clear guidelines on personal use of assets.
Controls to ensure financial Information is accurate and reliable - These controls include: limiting access to information systems and records, regular and timely reconciliation of accounts, segregation of duties, comparison between budgets and actual, independent checks, validation checks, exception reports, approved authority levels, authorization for transaction entry, document control - sequential numbering of documents such as checks to avoid duplication, good audit trail of transactions, audit and analysis of key assets.
Controls to ensure compliance with financial and operational requirements – These controls ensure that business is being operated as envisioned by the owner and in accordance with legal and regulatory guidelines. Controls here include; procedural controls over company activities like purchasing as to limit anyone person's control over an entire process like the purchase process, job sharing where segregation of duties is not feasible because of small size of the business, proper expense approval, acquisition of asset, debt or liability on behalf of the business, safety regulations.
Controls to assist in achieving the businesses objectives - Controls here used include; appropriate staff supervision, checks to ensure staff have essential qualifications, skills and training to do the job, proper authority levels, clear lines of responsibility, spot checks, safety guidelines, procedure for dealing with customers and regulators, review of internal controls for adequacy and effectiveness.
Why do small businesses need internal control?
As businesses grow and employees are hired, more duties are delegated, this leaves the company vulnerable to errors, fraud and oversights; and therefore a need for formal controls.
From a business management view point, effective internal controls make for more structured and better management of the enterprise and greater control over assets.
An unpleasant fact of business is that some customers shoplift, some vendors and suppliers overcharge and short-count on deliveries, some employees embezzle or steal assets, and some managers commit fraud against the business or take personal advantage of their position of authority in the business, hence the need for controls over assets.
Lastly while loses of millions of dollars may not be perpetrated in a small business, a loss of $50,000 may prove catastrophic for a small business with limited resources.
Sources
http://www.smartbiz.com/article/articleview/270/2/5/
http://accounting-financial-tax.com/2009/04/effective-internal-control-for-small-medium-business/
www.whistleblowing.com.au/information/.../InternalControls.pdf
