Internal Control (Grade 10 NSC Matric Accounting): Revision Notes

Internal Control Processes

Introduction

Internal control processes are essential procedures that businesses implement to safeguard their assets and ensure smooth operations. These processes help prevent theft, fraud, and losses whilst maintaining accurate records. Effective internal control requires maintaining oversight of various business areas including stock, debtors, creditors, fixed assets, consumable goods, and cash. Understanding these controls will help you recognise how businesses protect their resources and maintain financial integrity.

Stock control

Stock control refers to the management and protection of inventory that a business holds for sale. Proper stock control ensures that goods are safe, properly recorded, and available when needed whilst minimising losses and theft.

Physical security and insurance

The storage location for goods must be carefully selected to protect inventory from natural disasters such as rain, wind, and other environmental hazards. Buildings should be secure to minimise the risk of burglary. All stock should be insured to protect the business against potential losses from damage or theft.

Documentation and record keeping

Complete and accurate documentation is critical for stock control. Documents must be completed whenever stock is purchased from suppliers, and similarly when stock is issued to the sales department. Stock lists need to be kept current and up-to-date at all times. This documentation creates a paper trail that helps track inventory movements throughout the business.

Stock levels and management

Businesses need to maintain appropriate stock levels – neither too much nor too little. Keeping excessive stock ties up money and increases the risk of goods becoming obsolete or damaged. Insufficient stock leads to lost sales opportunities and disappointed customers.

The purchasing department must consider the time of year when ordering stock, as seasonal variations affect demand. For example, during the Christmas season, more stock would be needed compared to other times of the year. If stock remains unsold for too long, holding a sale may prevent possible losses from goods deteriorating or going out of fashion.

Stocktaking and communication

Regular stocktaking must be conducted to verify physical inventory against records. The sales department should maintain constant communication with the warehouse to ensure sufficient stock is available on the shelves for customers. Additionally, the sales department needs to track how much stock customers return, as this provides valuable information about packaging quality and product suitability. If returns are frequent, alternative packaging materials should be considered.

Order accuracy

It is crucial that customer orders contain the correct stock items and are packaged properly. Delivering the wrong items or using inadequate packaging damages customer relationships and creates additional costs for the business.

Separation of duties

An important control measure is the separation of duties, ensuring only one person is involved with each specific activity. When multiple people are involved in a process, it becomes easier to identify accountability. This separation helps prevent theft of stock by staff members, as well as fraud and corruption. Clear responsibility for each task makes it harder for dishonest activities to go unnoticed.

Control over debtors

Debtors are customers who purchase goods or services on credit and owe money to the business. Effective control over debtors ensures that the business extends credit wisely and collects payments efficiently.

Debtor selection and creditworthiness

Debtors must be selected carefully before granting credit. Businesses should investigate whether potential credit customers are creditworthy – meaning they have a history of paying their debts on time. This investigation helps reduce the risk of bad debts.

Record keeping and account management

A complete record of all transactions with debtors must be maintained. Every debtor should have an individual account that is kept up-to-date. This allows the business to track each customer's payment history and outstanding balance.

Regular communication

Businesses should send out regular statements of account to debtors. These statements remind customers of their outstanding balances and encourage timely payment.

Incentives and penalties

To encourage prompt payment, businesses can offer discounts to debtors who pay their accounts regularly. Conversely, if a debtor's account becomes overdue for a certain period, interest charges should be levied on the outstanding amount. This penalises late payment and compensates the business for the delayed receipt of funds.

Limiting bad debts

Businesses must actively work to limit bad debts – amounts owed by customers who are unable or unwilling to pay. This involves careful credit assessment and monitoring of debtor accounts.

Control over creditors

Creditors are suppliers from whom the business purchases goods on credit. The business owes money to these suppliers. Proper control over creditors ensures the business selects reliable suppliers and maintains good relationships whilst managing cash flow effectively.

Supplier selection criteria

When the purchasing department chooses a supplier, several important factors should be evaluated:

• Regular supply capability: Can the supplier provide goods consistently and reliably on a regular basis?
• Trade discounts: Does the supplier offer trade discounts that reduce the purchase price?
• Payment period: What payment terms does the supplier offer? Longer payment periods improve the business's cash flow.
• Settlement discounts: Does the supplier provide discounts when accounts are paid promptly or on time?

Receiving goods from suppliers

All items received from suppliers must be accompanied by proper documentation. The warehouse clerk has important responsibilities when goods arrive:

• Verify the delivery: Check that the goods listed on the invoice match the items actually delivered.
• Inspect for damage: Examine goods to identify any that are damaged during transport.
• Find alternatives: If problems occur frequently with a particular supplier, an alternative supplier should be found to ensure consistent quality and service.

Control over fixed assets

Fixed assets are items purchased by the business for use within the business operations rather than for resale. These include land and buildings, vehicles, and equipment. Before purchasing any fixed asset, the business must investigate the purpose of the purchase to ensure it is necessary and appropriate. Fixed assets consist of land and buildings, vehicles, and equipment. Each type requires specific control measures.

Land and buildings

Before starting a business, a fundamental decision must be made about whether to buy or rent premises. This decision depends on the type of business, available capital, and long-term plans.

Location considerations: Buildings should be located in areas where property values are stable or increasing, ensuring the worth of the building will not decrease over time.

Maintenance: Regular maintenance of buildings is essential to prevent large expenses arising later. Small repairs done promptly prevent problems from escalating into costly major repairs.

Insurance: Buildings must be insured against natural disasters such as fire, floods, storms, and earthquakes to protect this significant investment.

Vehicles

Businesses must conduct a proper investigation to determine their actual needs before purchasing vehicles. This assessment ensures that the vehicles acquired will satisfy the business's operational requirements.

Depreciation: The business must write off depreciation on vehicles using a rate and method suitable for the vehicle's expected lifespan. Depreciation recognises that vehicles lose value over time due to wear and tear.

Maintenance: Regular vehicle maintenance is crucial to keep them in good working condition and extend their useful life.

Technological adaptation: Businesses should monitor technological changes in vehicles and adapt accordingly. For example, the shift towards electric vehicles may influence future purchasing decisions.

Equipment

Similar to vehicles, proper investigation must be conducted to determine the purpose and necessity of equipment before purchase.

Depreciation planning: The business must assess the lifespan of equipment and determine the appropriate method and rate for writing off depreciation. This ensures the equipment's declining value is properly recorded in the financial statements.

Keeping current: Technology constantly evolves, particularly for equipment such as computers. Businesses must remain up-to-date with technological changes to maintain efficiency and competitiveness.

Maintenance: Equipment must be maintained regularly to ensure it functions properly and lasts as long as possible.

Control over consumable goods

Consumable goods are items that are used up in the course of business operations. These consist of stationery, fuel, and packing materials. Unlike stock for resale or fixed assets, consumables are expensed when used. Control and management must be kept over these goods to prevent waste and ensure availability.

Appointing a responsible person

A responsible person must be appointed to manage consumable items. This individual's key responsibilities include:

• Maintaining stock records: Keeping an accurate record of all consumable items on hand
• Ensuring adequate stock: Making sure sufficient stock of all items is available when needed
• Recording transactions: Documenting all purchases of consumables and tracking when goods are issued to different departments

This centralised control prevents waste, ensures availability, and maintains accountability for consumable goods usage.

Control over cash

Cash is the means of exchange used to conduct business. Money takes many forms including notes, coins, credit cards, and cheques. All employees handling money must be well-informed about the responsibilities that come with managing cash. Proper internal controls over cash are critical because money is highly susceptible to theft and misappropriation. The following journals are relevant to cash management.

Cash receipts journal

The cash receipts journal records all money received by the business. Internal controls for cash receipts ensure that money coming into the business is properly handled by a responsible person, recorded immediately in the books, and deposited in the bank as soon as possible.

Key procedures for cash receipts:

• Issue receipts: A document must be issued for every amount of cash received. This creates a record of the transaction.
• Record immediately: Cash received must be recorded in the cash receipts journal promptly to maintain accurate books.
• Safe storage: Cash must be kept in a secure place until it can be deposited in the bank.
• Monthly reconciliation: Bank statements must be checked monthly so that any discrepancies in the books can be identified and corrected. This process also helps detect fraudulent activity.
• Separation of duties: Only one person should be responsible for each specific activity in the cash receipts process. When multiple people are involved, accountability is clearer, making it easier to identify any irregularities. This prevents theft, fraud, and corruption by staff members.

Cash payments journal

The cash payments journal records all payments made by the business. All cash paid out should be done by cheque, excluding petty cash payments. When a cheque is issued, two signatures are typically required for security purposes.

Key procedures for cash payments:

• Secure storage: All cheques that are issued must be kept in a safe place before being sent to recipients.
• Consecutive numbering: Cheques issued must be entered in the cash payments journal using consecutive numbers, ensuring no cheques go unrecorded.
• Never sign blank cheques: Blank cheques must never be signed, as this creates an opportunity for fraud.
• Monthly reconciliation: At the end of each month, the cash payments journal must be compared with the bank statement and all necessary corrections made. This reconciliation process helps identify any fraudulent transactions or errors.
• Separation of duties: As with cash receipts, only one person should be involved with each activity. Multiple people involved in the process makes it easier to assign responsibility and accountability, preventing theft, fraud, and corruption.

Petty cash journal

The petty cash journal records small payments made in cash. These are small amounts that are paid for minor business expenses. A responsible person must be appointed to manage petty cash payments.

Key procedures for petty cash:

• Locked storage: The petty cash must be kept in a locked petty cash box and stored in a safe place to prevent theft.
• Record transactions: All petty cash payments must be recorded in the petty cash journal immediately.
• Dual signatures: Whenever possible, two people should sign for any petty cash payments. This dual authorisation adds an extra layer of security.
• Supporting documentation: As far as possible, external documents (such as receipts) must be attached to petty cash vouchers. This provides evidence of the legitimate business purpose for the payment.

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