Internal Controls This paper will cover the ins and outs of internal controls. It will also tell why they are important not only to companies, but why they are important to investors, creditors, and even the public too. Internal controls are a serious of methods and measures that companies put in place to insure that errors or irregularities in the accounting process do not happen very often. In every company there is a chance of having one or more employees who are dishonest and may take from the company. Internal controls helps to keep this from happening on a regular basis. Internal controls have two primary goals. The first primary goal is to safeguard a company’s assets. This goal is to protect a company’s assets from being misused without permission, theft, and even robbery. The second goal of internal controls is to improve the consistency and correctness of a company’s accounting records. Internal controls accomplish this goal by decreasing the threat of errors or irregularities in the financial accounting process (Internal Controls, 2012). These two goals help make companies trust their employees and investors feel confident in their decision to invest in a company. Internal controls have not always been enforced. This is the reason for the collapse of Enron, Tyco, etc. The Sarbonese-Oxley Act (SOX) has helped make internal controls a requirement for all publically traded U. S. Corporations. SOX forces companies to pay attention even extra attention to their internal controls. The Sarbonese-Oxley Act makes boards and executives more responsible for the internal controls and making sure they are effective and consistent (Weygandt, 2008). Also SOX requires independent auditors to be brought in to a company and review their records. An independent auditor would be an outside person that would more than likely catch any errors or irregularities for the company. These errors and irregularities could be a simple mistake or they could lead to an employee that is stealing from the company. SOX can also help with investors by building confidence and trust in the company that is following SOX regulations. If a company claims deficiencies in internal controls stock prices will fall because there is a lack of internal control consistency and correctness. Internal controls and SOX help investors build their confidence in the company they are investing in. The internal controls are like a safety net that shows investors that companies are serious about their record keeping and ensuring that they are catching any errors or irregularities before they become huge problems. With a deficiency in internal controls it open up the possibility for dishonest employees to steal from the company. When an employee is stealing from a company it could take a long time for the company to figure out it is happening which could result in a large sum of assets being stolen. This could make a company collapse. Investors are looking for low risk investments. A company that has deficiencies in their internal controls is high risk investment. This causes investors to sell stock or stop purchasing stock which will eventually lower stock prices until the deficiency in internal controls is fixed which will rebuild confidence and trust in the company. The limitations of internal controls vary from company to company. The first limitation is that the cost to implement internal controls cannot exceed the benefit it would provide. This means that a gas station may want to implement internal controls to help stop shop lifters. They talk about having a security guard around the clock. To decide if this is beneficial they will have to see how much merchandise they are losing in their store compared to how much money it will cost to employee security guards. The next limitation is the ability to split tasks up among employees (Weygandt, 2008). If a company only has a couple employees a set of tasks such as ordering, delivering, billing, and collecting payment cannot be split up. There may not be enough employees for each of them to cover one part of the task. The final limitation is the fact that employees are human. They cannot be fully controlled by a company. They will choose to do something and find a way if they can. Two or more employees could get around the internal controls and steal from a company if they worked together. This could happen in small or large companies. Internal controls can only protect a company’s assets so much and then it is up to the executives, board, and managers to watch for errors and irregularities too. Internal controls are important for companies to implement and enforce to protect themselves from losing assets. With internal controls in place and the SOX helping enforce them a company can confidently operate knowing it has a system that will help prevent errors, theft, robbery, etc. This system has limitations so a company cannot just sit back and think the internal controls will completely prevent any loss in assets from happening. The company executives and board will have to take a front seat in ensuring that they protect the assets of the company. If they do not and there are deficiencies in the internal controls the company and its employees will suffer with a loss of profit, drop in stock prices, and at worst the collapse of the company. Finally we will compare the internal control principles. First is establishing responsibility. The most effective way to control is to assign a task to one individual. This eliminates any doubt in who is responsible for any loss involved with that task. If only one person completes it then only one person is responsible for it. The second principle is physical, mechanical, and electronic controls which all protect assets. Mechanical and electronic controls also help ensure consistency and correctness (Weygandt, 2008). The first two are different because establishing responsibility in employees with their tasks while the second principle is more for electronic and mechanical control. The next principle is segregation of duties. Segregation of duties comes into place when you take one task and separate it into smaller tasks. An example is in ordering. One employee does each of the following tasks that complete one large task. One employee orders, delivers, bills, and collects payment. This segregation keeps falsifying records to a minimum because a different person completes each step. Finally there is independent internal verification. This principle states companies should verify information that is arranged by employees either on a regular bases or sporadically. The last two principles are similar in that they both deal with tasks that employees complete (Weygandt, 2008).
References
Weygandt, J. J., Kimmel, P. D., & Kieso, D. E. (2008). Financial accounting (6th ed.). Hoboken, NJ: Wiley.
Internal Controls. (2012, June 27). Retrieved May 15, 2013, from Financial Accounting: http://f2.washington.edu/fm/fa/internal-controls
