CHAPTER ONE

INTRODUCTION

1.1 Background of the Study

Globalization and the advance of technology has become a centre of focus for credit unions today. As a result of this rapid changes, business organizations have tend to extend their operations and activities beyond domestic borders result for which increase risk, fraud and other irregularities.

This has made internal control an imperative tool for sustainable business operations. Internal control as “Comprising the plan of an organization and all the co-ordinate methods and measures adopted within a business to safeguard its assets, check the accuracy and reliability of its accounting data, prorate operational efficiency and adherence to prescribed managerial policies.”

The definition of internal control is makeup financial internal control and non-financial (administrative) internal control. Financial internal control pertains to financial activities and may be exemplified by controls over company’s cash receipts and payments financing operations and company’s management of receipts and payments.

Non-financial internal control on the other hand deals with activities that are indirectly financial in nature i.e. controls over company’s personnel section and its operations, fixed assets controls and even controls over laid down procedures (Reid and Ashelby, 2013).

A sound internal control system helps an organization to prevent frauds, errors and minimize wastage. Custody of assets is strengthened; it provides assurance to the management on the dependability of accounting data eliminates unnecessary suspicion and helps in maintenance of adequate and reliable accounting records. This study therefore attempts to establish the effectiveness of internal control system in business organizations (Amudo and Inanga, 2019).

Despite the fact that internal control system is expensive to install and maintain, it gradually evolved over the years with the greatest development occurring at the beginning of 1940‟s. Not only have the complexities of the business techniques contributed to this development but also the increased size of business units which have encouraged the adoption of methods which while increasing efficiency of business, acts as a safeguard against errors and frauds and overall effective, efficient and economic usage of organisational resources ( funds, capital, human resources ).

According to (Shard and David, 2010), the implementation of a budget is tightened to a set of policies and priorities put in place by an entity and are by means of managerial effort met through effective and efficient process of control. Therefore, in order to achieve these goals the process of internal control needs to be efficient, practical and orderly to help conduct businesses.

(Mawanda, 2018) also stated that the implementation of every strategic budget comes along with proper internal control system. According to him, effective internal control system improves the reliability and reporting process of business organizations.

This play a key role in enhancing management responsibility aimed at meeting up with timely and accurate financial information. However, controls are mainly in-built in corporate financial management system within the private sector.

Financial management here include legal and organizational framework for supervising all phases of the budget cycle, including the preparation of the budget, internal control and audit, procurement, monitoring and reporting arrangements, and external audit. The broad objectives of corporate financial management are to achieve overall fiscal discipline, allocation of resources to priority needs, and efficient and effective allocation of corporate services.

Moreover, investors must be able to place confidence in an organization’s financial reports if the organization wants to raise capital in the public securities markets. Management’s ability to fulfil its financial reporting responsibilities depends in part on the design and effectiveness of the processes and safeguards it has put in place over accounting and financial reporting.

Without such controls, it would be extremely difficult for most business organizations especially those with numerous locations, operations, and processes to prepare timely and reliable financial reports for management, investors, lenders, and other users.

While no practical control system can absolutely assure that financial reports will never contain material errors or misstatements, an effective system of internal control over financial reporting can substantially reduce the risk of such misstatements and inaccuracies in a company’s financial statements (Kaplan, 2018).

Cunningham (2014), further added that internal controls are effected by people not merely policy manuals and forms, but people functioning at every level of the institution. Internal control only provides reasonable assurance to the organization’s leaders regarding achievement of operational, financial reporting and compliance objectives; promoting orderly, economical, efficient and effective operations; safeguarding resources against loss due to waste, abuse, mismanagement, errors and fraud. Internal controls lead to the promotion of adherence to laws, regulations, contracts and management directives and the development and maintenance of reliable financial and management data, and accurately present that data in timely reports (Kaplan, 2018; Cunningham, 2014).

Internal control had been known to enhance the objectives and discussions within and without the organizational departments which in turn enhanced the value within the organization (Raja, 2012). Management is obliged to increase or maximize shareholders’ wealth while displaying competence in the performance of its duties.

Internal control therefore checks on this performance in accordance with modern day practices due to the amalgamation of diverse forces which led to a quiet revolution of the profession. Companies presently require immense capability from internal control, in light of inadequate capital, to display enhanced competence in identifying and vindicating risks.

The expansion of technology has enabled internal control to monitor and examine facts with intensified rapidness, thereby improving the internal control sector. Making changes to an existing internal control department can be an important undertaking as it differs among credit unions.

The transformation from simply establishing and observing rules and regulations, to accurately delivering additional significance requires numerous organizational changes. According to Rama moorti (2013), various credit unions pay their staff poorly hence making them unresponsive, have weak ethical standards and their governance practices are unproductive emerging into asset mismanagement.

There is worry in the entire world whether the internal control function has the capability to grant so far, divergent benefits to an organization in achieving its objectives. This hidden deviated into a provocation and resulted into actualization of the meaning of internal control by the Institute of Internal Auditors (IIA) which says that internal control is a process of assuring of an organizations objective in operational effectiveness and efficiency, reliable financial reporting and compliance with laws, regulations and policies’.

According to Basel Committee (2012) microfinance institutions have come to an understanding that internal control is significant in enhancing supervision of resources which convey an enhanced fiscal performance.

There are three main objectives in the budget implementation; they include operational efficiency and effectiveness, reliability of financial reporting and compliance with relevant laws and regulations. When companies suddenly collapse, the resounding question is “what went wrong”. The cause is usually a break down in the internal control system.

There are various theories that try to explain internal control’s importance to an organization. The agency theory which is the overarching theory makes the assumption that separation of ownership and management leads to transparency in internal control function.

The contingency theory which states that internal control is most effective when it is matched with the financial risks essential to the nature of the organization. The stakeholder theory which identifies stakeholders and defines performance outcomes as the defined satisfaction measure.

Ondieki (2014) investigated the role internal control had on micro finance with cooperative credit unions financial performance in Kenya. He observed that internal control practices and financial performance had a positive relationship. The study focused on internal controls, internal control standards, independence of internal control and professional competency.

It is against this study that the current study will be focusing on internal control variables such as control environment, control activities, information and communication, monitoring and risk assessment their effect on internal control on budget implementation of credit unions in Buea and investigate whether similar findings will be replicated.

Internal control consists of five related components which are derived from the manner in which management runs its business. These components are control environment, risk assessment, control activity, information and communication system and monitoring. These components of internal control apply to all business entities though microfinance institutions may apply them differently to large corporations.

According to Messier (2011), internal control function occupies a significant part of the organizational structure of in-house control. This facilitates effective internal control and reporting with assurance of highest possible level of review and appraisal of various activities in an organization. The reputation whether bad or good is solely determined by internal control level of performance which implies that the control functions evaluate performance to improve services (Sarens, 2016).

For Hutchinson and Zain (2019), internal control is a significant part of the control arrangements in a firm and corporate management involves oversight undertakings by the audit committees and the panel of executives to ensure that financial reporting practice is sound and up to the mark. From prior years, internal auditors were just part of employees in accounting department before their services were realized to be critical in service oriented management aspects (Hutchinson & Zain, 2019).

With Beyanga (2011), internal control may play a greater role in achieving the expectations of an organization by using strategic methodologies for determining and refining the usefulness and proficiency of the governance procedures of organizational threats and how they can be controlled.

Microfinance evolution is closely linked with the reduction of poverty. Although the beginning of cooperative saving and credit activities can be traced as far as 1894 with the foundation in Rhineland of the first cooperative society of savings and credit by Raiffeisen. Microfinance was considered as an alternative to banks meanwhile in most developing countries serve only 5 to 20% of the population (Gallardo et al., 2013).

The history of microfinance in Cameroon dates back to more than one century in its traditional form popularly known as “Njangi or Tontine”. The introduction of modern microfinance in Cameroon started in 1963 by a priest Father Alfred Jansen, in Njinikom in the North West region of Cameroon (Creusot, 2016).

The idea of credit unionism spread so wild over the North west and south west regions of Cameroon and by 1968, 38 credit unions that were already in existence joined together to form the Cameroon Cooperative Credit Union League (CamCCUL) limited of cooperative credit unions and the largest microfinance institution in Cameroon.

Cooperative credit unions in Buea carryout all banking and financial services which the commercial banks do, but on a small scale. The vital instruments in this MFIs include; savings, deposit (current and fixed), investment accounts, credit or loans products such as overdrafts, term loans of different terms but majorly short termed, trade loans, salary advances, money transfer both locally and internationally in concurrence with their corresponding banks, payment of civil servant salaries, etc.

The microfinance market in Cameroon recorded an impressive double digit growth in 2011. This was thanks to the ongoing expansionary and aggressive market penetration measures adopted by major players, Cam CCUL ( Cameroon cooperative credit union league ), MC2, CCA etc.

1.2 Problem Statement

Effectiveness of internal control on budget implementation should be considered most important in every organization because the task of internal controls is to safeguard errors, fraud and also safeguard assets in the organization.

Internal controls are put in place to ensure safe custody of all assets; to avoid misuse or misappropriation of the firm’s assets and to detect and safeguard against probable frauds. Every organization should have management of the highest qualifications, caliber and dedication since its inception.

The management should meet regularly to review the affairs of the organization and to direct the strategic path of the organization and also ensure continued goal congruence (Reid & Smith, 2010).

The implementation of a standard budget must be guided by an effective and efficient system of control. This is because through it activities it serves as a tool to detect and prevent loop holes emanating from fraud.

However, the inaccuracy of this tool results in financial scandals and unadjusted operational errors (systematic or human), errors from figure transposition and other financial transactions posted in wrong accounts which if not properly looked upon may result in some serious financial loss within the nearest future (Campion, 2019).

Muthinji (2009) carried out a study on the challenges of budget implementation at the commission for higher education. His aim was to study the challenges of budget implementation and its effectiveness at the commission. He found out that budget was important for communication and there is an increasing trend towards decentralization.

Murrison (2001) did a survey on budgeting practices among the major British Non-Governmental organizations in Kenya. He focused on their budgeting practices and the extent to which budgets are used as a management control tool. The result showed that 100 percent of the Relief projects over estimated their income.

Systems in a business organization should evolve over time and all the departments and units of the firm should undergo positive transformations. The organization should also employ world class professionals to fill all the keys departments and units. This should probably be ensured by having a transparent and open system of selection and recruitment aided by an ably staffed Human Resource Department of the organization.

All departments and units should be adequately staffed with qualified and competent staff. The organization’s records and accounting systems should be refined overtime and be audited by professionally trained and recognized auditors with a good reputation (Chenhall, 2013).

An organization should always have an internal audit department to help in compliance with the internal policies and procedures. Most organizations put the above efforts in order to achieve positive performance.

However, despite all these efforts, organizations still struggle with liquidity problems, untimely financial reports, inefficient accountability for the organization’s financial resources, frauds and misuse of the organization’s resources as well as a number of decisions made not yielding the expected results. Furthermore, business transactions are not carried out according to the Generally Accepted Accounting Principles (GAAPs).

This leaves the assets of an organization being improperly safeguarded, records being incomplete and information being inaccurate which often results in misleading financial statements that cannot be relied on by the stakeholders of the firm.

Jeremiah Munene (2013) conducted a study and found out that some of the challenges experienced in regard to internal controls include; struggles with liquidity problems, financial reports are not made timely, accountability for financial resources is wanting, frauds and misuse of institutional resources have been unearthed and a number of decisions made have not yielded the expected results.

Moraa Ondieki (2013) also conducted a study and stated that internal controls can have features built into them to ensure that fraudulent truncations are flagged or made difficult, if not impossible, to transact. Internal control audits provide assurance that controls are working, but they do not necessarily detect fraud or corruption.

The objectives of internal controls audit relate to management’s plans, methods, and procedures used to meet the organization’s mission, goals, and objectives.

PROCASUR Africa Report (2012) added that poor control systems in has led to huge investments lost through fraud and misuse of assets that are used to generate revenues while members and institutions have suffered big losses.

Inadequate controls have also led to corruption and collusion of management and external auditors leading to organizations failing to achieve their set objectives. Technological changes have also brought with them challenges in control systems and this has necessitated the development of new ways of controlling organizations.

This study shall attempt to investigate the persistent poor budget implementation of business organizations in Cameroon from the perspective of internal controls which has hitherto seems to be ignored.

The effectiveness of internal controls on an organization’s budget implementation should be a key concern for most organizations. Since internal controls help to prevent and detect fraud in an organization, cooperative credit unions in Cameroon should give much importance to internal audit which is generally a feature of large companies. It’s a function provided either by employees of the entity or it can be sourced from an external organization in order to assist management in achieving corporate objectives.

The code of corporate governance highlights the need for an organization to maintain a good system of internal controls in order to manage the risks that the organization is prone to.

Internal audit can play a key role in assessing and monitoring internal control policies and procedures.

The objective of a business organization is to make profit and generate income can be attained through implementation of strong internal controls which contain different components of control such as the control environment, risk assessment, control activities, information and communication and monitoring. The effect of internal control on budget implementation in credit unions in Buea municipality (negatively or positively).

1.3 Research Questions

The main research question is;

-What is the effect of Internal Controls on Budget Implementation in credit unions in Buea municipality?

The specific research questions are;

1. What is the relationship between internal control and budget implementation?
2. How do internal controls help in the effective and efficient budget implementation of credit unions in Buea?
3. Do internal controls help management in preventing risk through budgeting?

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