Common Control Principles Adopted to Protect Assets of an Organization
Internal controls are systems and structures installed by a company to facilitate effective operations by enabling it to appropriately manage, diminish, and mitigate risks and occurrences of fraud. The framework encompasses numerous provisions targeting specific aspects of an organization, including protecting and safeguarding the assets of a business. According to Mahadeen et al. (2016), functional internal controls enhance accountability and minimize the risk of asset loss, waste, misuse, and misappropriation, which could negatively affect the operational effectiveness of a firm. Although the specific managerial oversight and administration techniques adopted are primarily determined by the nature and category of assets, the most common approaches include physical security, proper monitoring, adequate documentation and recording, and access control. Authorization of activities and transactions of the procurement, usage, and disposal of assets is also a critical and widely applied strategy in safeguarding the assets.
Physical Security
Physical security encompasses all the visible safeguards installed to enhance the managerial controls designed to prevent loss, wastage, damage, fraud, and misappropriation of a firm’s assets. These include the specific provisions limiting unauthorized people’s access, minimizing the risk of damage through such occurrences as fire incidents, theft, and misuse. Notably, many organizations install provisions such as perimeter fences with manned entrances, closed-circuit television cameras for round-the-clock surveillance, and manned security. Other security measures include fire sensing and extinguishing systems to prevent and minimize damage occasioned by the inferno, vehicle tracking and monitoring equipment, and vaults for storing keys and necessary documentation for assets.
Proper Authorization
Authorization entails specifying the privileges and rights by identified employees to the purchase, use, and disposal of particular assets. This internal control technique enhances the legitimacy of the activity or event relating to a given asset by ensuring that only the permitted employees undertake the defined transaction. For instance, an organization may require that a supervisor authorize all the departure of delivery vehicles from the premises by signing their work tickets that define destinations and duties. The strategy would limit the possible misuse and deployment of the company’s automobiles in unrelated activities. Such authorization is also critical in the procurement and disposal processes of assets to authenticate the rightfulness and validity of the transactions. For example, the United States Postal Service would have a supervisor authorize the departure of vehicles going out for delivery, explicitly defining their destination and departure time.
Monitoring
Monitoring is a fundamental internal safeguard for assets implemented by organizations to ensure compliance with the outlined procedures in their acquisition, utilization, depreciation, and eventual disposal. Generally, this is a comprehensive approach that promotes the efficient and proper use of company assets by tracking and recording all the critical aspects. This minimizes the risk of embezzlement, misappropriation, or fraud. For instance, an asset management and monitoring system should be installed to tracks the years, values, and corresponding appreciation and depreciation of land, plants, equipment, and buildings to ensure they are in the firm’s name.
Documentation and Record-Keeping
Organizations have robust and comprehensive requirements for the accurate, correct, and complete documentation and recording of all assets. This encompasses such provisions as updating any activity, event, or occurrence relating to the company’s possessions. Notably, the documentation and recording provide sufficient evidence, which captures all fundamental aspects and conditions of the assets, including location, encumbrances, charged on any financial obligation, and whether hired or wholly owned. For instance, the maintenance of detailed records of a company-owned motor vehicle, capturing the date of purchase, and applicable depreciation values would ensure that the automobile is not undervalued during disposal.
Segregation of Duties
Segregation of duties is a fundamental principle and building block of an effective asset internal control system. It serves the principals of oversight and an accompanying review of a transaction by another party to identify errors (Yakubu et al., 2017). Segregation of duties splits a particular task into various phases, with each stage assigned to a different person. For instance, the responsibilities surrounding the authorization, acquisition, custody, use, record-keeping, and disposal of assets should not be undertaken by one employee. It becomes difficult to defraud or misuse an asset by separating roles since at least two people must be involved to swindle successfully. For example, the United States Postal States would have the procurement manager preparing the acquisition of delivery vans, a senior staff verifying and authorizing the purchase, while the custody and eventual disposal would be done by different persons.
Bank Reconciliation as a Part of Internal Control Systems
Bank reconciliation is an integral part of an effective internal control mechanism in an organization. It is a comprehensive exercise encompassing reviewing an organization’s financial records and bank balances to ensure harmony and detect any errors or frauds. According to Onwonga et al. (2017), proper bank reconciliation practices significantly eliminate employees’ incentive to perpetrate fraud. Since businesses register many transactions in their cash and bank accounts at any given time, it becomes imperative to harmonize and conciliate the records periodically. Due to the large volume of ongoing financial transactions in an organization, rarely do the figures reflected in the bank records match those in the firm’s cash registers. Bank reconciliations’ objective is to provide a complete and accurate explanation of the observed disparities and identify any unusual activity, which would necessitate an in-depth review. A deeper analytical exploration of all the relevant documents should be conducted upon discovering and identifying any suspicious activity to recognize the reasons underlying the variation.
Additionally, bank reconciliations enhance the firm’s ability to keep accurate records by providing an alternative copy for comparison. This implies that an organization’s documents obtained from the internal accounting department are meticulously reviewed against the itemized details of the bank record. In this regard, reconciliation helps enhance the accuracy and completeness of financial transactions in a company by making visible the differences between the accounting system and bank balances. For instance, a bigger cash balance than the bank figures indicates possible revenues received in the system but were not banked. Therefore, this tool is an integral part of an organization’s internal control system.
Generally, the preparation for bank reconciliation is an inherent need across all organizations due to a large number of financial transactions in cash, direct deposits by trading partners, and checks. The voluminous nature of activities incentivizes fraud since the unscrupulous conduct may be difficult to uncover under such circumstances. This implies that bank reconciliation is a perennial business need and should be undertaken periodically and regularly, and preferably before the transactions accumulate.
The bank reconciliation procedure entails matching the balances in an organization’s accounting records for the cash account and the corresponding figures on the bank statement. For the preparation, an entity commences the process by obtaining bank records for the specific period under review and extracts the incomes and outgoing funds from the firm’s accounting system. This is followed by the simultaneous analysis of the documents to identify any disparities and their subsequent harmonization.
Tabular Presentation of the Bank Reconciliation Procedure.
Different Fixed Asset Depreciation Methods and their Impact on Income Statement
Organizations adopt and utilize different asset depreciation methods, including the straight-line, double-declining balance, sum-of-the-year’s digits, reducing balance, and the unit of production methods. Notably, each of these approaches has a different effect on the income statements since they are a non-cash charge made on an entity’s profits (Mert & Dil, 2016). Thus, depreciation decreases the value of an asset held by an organization and is deemed an allowable expenditure.
Straight-Line Method
Straight-line is the simplest and the most widely used method of depreciation. This strategy charges a uniform amount for the years of a fixed asset’s useful life. In this regard, the depreciation charge made on the asset is the same for all the years. The impact of this method on the income statement is that it reduces the business earnings stably and uniformly over the asset’s useful life.
Double Declining Balance Method
Under this method, an organization accelerates the depreciation costs to minimize its tax exposure, particularly in the early years of an asset. In this regard, this strategy results in a higher depreciation value at the beginning of an asset’s life. Therefore, the implication of this method is that it causes an organization to register lower profits during the initial years of an asset than in the later years.
Reducing Balance Method
The reducing balance method encompasses the depreciation of an asset at a set percentage. This implies that the expensed amount declines over the years corresponding to the value of an asset. The effect of this method is that equal burden is apportioned to each year, with the initial periods bearing the most significant values. In this regard, this method results in lower profits in the first years following an asset acquisition due to a higher depreciation charge.
Sum-of-the-year’s Digits Depreciation
This is an accelerated strategy in which depreciation is considered as a fractional constituent of a sum of the useful years. For instance, if an asset’s years are 5, the sums of years are 1+2+3+4+5 = 15. This implies that the asset depreciates faster in the first years, resulting in lower incomes in the corresponding period. Conversely, a lower charge is apportioned in the later years of an asset since its production capacity will have dwindled.
Units of Production Depreciation
This method apportions an equal expense rate to all the units produced. It is widely used where an asset’s value is tied to its production capacity rather than its useful years. This implies that a higher charge is made when the asset produces more units, resulting in lower incomes during periods of increased production. Conversely, an organization reports higher profits when the units produced are low, leading to reduced depreciation charges.
References
Mahadeen, B., Al-Dmour, R., Obeidat, B., & Tarhini, A. (2016). Examining the effect of the organization’s internal control system on organizational effectiveness: A Jordanian empirical study.International Journal of Business Administration, 7(6), 22–41. Web.
Mert, H., & Dil, S. (2016). Effects of depreciation methods on performance measurement methods: a case of energy sector.Journal of Economics, Finance, and Accounting, 3(4), 330–330. Web.
Onwonga, M., Achoki, G., & Omboi, B. (2017). Effect of cash reconciliation on the financial performance of commercial banks in Kenya.International Journal of Finance, 2(7), 13–33. Web.
Yakubu, I. N., Alhassan, M. M., Alhassan, A. I., Adam, J., & Sumaila, M. R. (2017). The effectiveness of internal control system in safeguarding assets in the Ghanaian Banking Industry (the case of Agricultural Development Bank).International Journal of Management and Commerce Innovations, 5(1), 544–557. Web.