An effective internal control system includes organizational planning of a business and adopts all work-system and process to fulfill the following objects:
- Safeguarding business assets from stealing and wastage.
- Ensuring compliance with business policies and the law of the land.
- Evaluating functions of each employee and officer to increase efficiency in operation.
- Ensuring true and reliable operating data and financial statements.
It is to be kept in mind, a business organization, be its small or large, can enjoy the benefits adopting internal control system.
Prevention of stealing-plundering and wastage of assets are a part of internal control system.
Protection of assets
A business organization protects its assets in the following ways:
- Segregating the duties of the employees
Segregation of the duties of the employees means that each employee is assigned with specific tasks.The person in charge of assets is not allowed to maintain accounts of the assets. Some other person maintains the accounts of these assets.Since different employees perform same nature of transactions, the work of each is automatically checked.Segregation of the duties of the employees of an organization reduces the possibility of stealing assets and if stolen, detection becomes easier.
For example, there is no scope of stealing cash by a cash-receiving employee where cash receipts accounts are maintained by a different employee.
- Assigning specific duties to each employee
The employee assigned with a specific duty is held responsible for his assigned activities.If and when any problem arises the manager can immediately .identify the person concerned and holds him liable.Lost documents can easily be detected if the task of maintaining records is assigned to a particular employee and it becomes possible to know the recording process of transactions.
An employee assigned with a particular job can easily provide necessary information regarding that job. Moreover an employee feels proud if he is assigned with a particular job and tries to complete the job using die best of his skill.
- Rotating job assignments of the employees
Some organizations rotate job assignments of employees at intervals to avoid fraud-forgery by the employees concerned.Under this policy the employee concerned can easily understand that on placement of somebody else in his place his dishonesty, if it is done, will be detected. This ensures honesty of an employee.
- Using mechanical devices
Business concerns adopt various mechanical devices to avoid stealing, destruction and wastage of assets.Under the mechanical system, cash register, cheque-protectors, time-clock, mechanical-counters etc. are used as controlling methods. Since a cash-register contains locking-tape, each cash sale is recorded here.The amount of cheque is written on the cheque by the cheque-protector machine to avoid any sort of alteration. Arrival and departure of employees are recorded properly with the help of time- clock.
Compliance with organization policies and laws of the country
Internal control becomes effective only when compliance with organization policies and laws of the country is ensured.
To make internal control system effective and ensured, efficient and trustworthy employees are required to be appointed.
Effective starting of internal control system depends on time and labor spent for recruitment of employees.
There should be training programme for the newly appointed employees and policies of the business concerns are to be communicated to them properly.
Every cash disbursement must have prior approval of the higher authority.
Daily written job specification makes employees responsible anti dutiful. ‘Employees duties and execution of policies are to be well-defined to them during primary training period.
In case of joint-stock company internal control system is to be framed complying with the law of the country.
Evaluation of performance
Proper controlling system should have provision for supervision and evaluation of assigned duties of the employees. Absence of evaluation and supervision system hampers objectives of a business organization to a great extent.
Many business organizations engage internal auditors to evaluate and supervise work of the employees.
Functions of internal auditors are to evaluate and supervise the extent of policies and methods of the organization followed by the employees.
Accuracy of accounting records
A business organization should maintain complete and correct accounting record.
For ensuring proper maintenance of accounts efficient and honest personnel are to be appointed and trained.
The performance of the employees is evaluated at intervals. By the supervisors to ensure that the policies of the business are followed by the employees.
An inaccurate or incomplete accounting record prompts the dishonest employees to steal because they can easily subside the act of stealing. Transactions accounted are the documentary evidences of a business.
These documentary evidences are the integral part of internal control systems.
These documents are to be arranged serially for convenient control. Since these primary documents are the documentary evidences of transactions of a business, the validity of these documents is to be checked time to time.
The documents used for recording transactions of accounts are examined for re-audit purpose of merchandise inventory of a business organization.
While maintaining accounts of transactions the accountant is. to preserve the following four documents:
- Purchase requisition: Written order placed by the officers of department concerned to the purchase department for purchasing certain quantity of goods is called purchase requisition.
- Purchase order: Before purchase, the buyer sends a written order to the seller requesting him to send particular goods. This written order is called purchase order.
- Invoice/Chalan: The seller sends an invoice with the sold goods to the buyer wherein the descriptions, quantity, rates of the goods are mentioned.
- Receiving report: It is a purchase document prepared by an officer of the purchase department. It is treated as a documentary evidence of the goods received.
The flow of documentary evidence of business transactions and commodities is shown below by a diagram:
- Requisition department sends purchase requisition to purchasing department.
- Purchasing department sends purchase order to supplier, with copies going to receiving department and accounting department.
- Supplier sends goods to receiving department, where goods received are checked against purchase order and sends invoice to accounting department.
- Receiving department sends goods to requesting department and sends receiving report to accounting department.
- Accounting department checks receiving report against purchase order and invoice and sends cheque for payment of invoice to the supplier.
Price of purchased goods is paid on the basis of these four documents and these are compared with accounting record.
A business concern fails to make payment of legitimate invoice without these documents or it might have to make payment of fictitious invoice or more than one invoices.
A business concern effectively completes its internal control system comparing sources and documents with accounting records of those transactions.
It is unfortunate that a business concern adopting its internal control system cannot avoid thefts altogether.
A dishonest employee always tries to misappropriate no matter whatever effective control systems exist as in a business concern.
Therefore, a business concern has to make arrangement of casualty insurance on its assets. Under this system loss of non-cash assets is reimbursed.
A business concern may arrange fidelity bonds on employees handling cash and other negotiable instruments. Under this system a business concern will get reimbursement of money lost or theft.
Under these two systems i.e., casualty insurance on assets and fidelity bonds on employees, a business concern can recover at least a portion of any loss caused due to stealing, misappropriation etc.