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The importance of internal controls: a case study

08 Dec 2014

AJ BeukesStrong internal controls are as relevant to small, micro and medium enterprises as they are to multinational organisations, because they protect businesses against losses resulting from inaccurate accounting and fraud. A lack of internal controls can jeopardise the very existence of a business, as illustrated by the case study below.

These targeted systems and processes may seem impractical or expensive to businesses with limited resources. In its stead, they often place significant trust in employees responsible for business operations. Should an employee breach such trust, a business may find itself fighting for survival, realising too late that the losses incurred outweigh the cost of implementing proper control systems in the first place.

Recently, Exceed Tax & Advisory Services was appointed to perform a forensic investigation to assist a client who had suffered severe losses at the hands of an employee. The latter had unrestricted control over the company’s administration and financial systems.

The employee’s contract clearly defined the intended scope of the role, viz. responsibility for the company’s administrative processes. As the relationship between the employee and the company extended, the scope expanded to include the full accounting function, from processing transactions and invoicing clients to paying suppliers.

When the employee realised that there was a lack of oversight and control, she took advantage of her position of trust. While the business owner was focusing on dealing with clients across the country, she set up internet banking profiles for suppliers, using her personal bank account details. This scenario escalated to cash withdrawals and collusion with other employees, to whom she made direct electronic fund transfers on a frequent basis. The employee further neglected her duties by failing to collect outstanding debtors and to pay the industry pension fund and bargaining council. Income tax, VAT and PAYE were also not paid to SARS.

An employee’s fraudulent behaviour is generally attributed to having a motive and opportunity to commit fraud. In this case the employee had the motive to improve her lifestyle, and the opportunity to access the company’s funds in the absence of either supervision or procedures to prevent behaviour that could potentially jeopardise the existence of the business.  

The situation went unnoticed for several years, until the owner was denied money upon an ATM withdrawal. The owner discovered that the business had suffered severe financial losses, and had no other choice but to recapitalise the business by liquidating his pension and saving accounts.

We have worked closely with the owner to initiate legal procedures against the employees involved. Not only has this proved to be time-consuming and expensive for the client, but the burden of proof that rests with the client has served to limit the amounts that could have been claimed from the accused.

The adage that prevention is better than cure is certainly relevant to internal control systems. These systems are critical to safeguarding a company’s assets, not only against fraud but also against physical damage, obsolescence and theft.

 

For more information please contact AJ Beukes on 021 882 8140 / aj@exceed.co.za

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