Internal Control Requirements for Publicly Traded Companies 2
LJB’s Proper Internal Controls 2
LJB’s Improper Internal Controls 3
Recommendations for Improvement 3
Internal Control Requirements for Publicly Traded Companies
In a meeting last week, the president of LJB expressed interest of going public in the near future and asked us about the internal control requirements for such action. To become publicly listed, LJB must follow the Sarbanes-Oxley Act of 2002 (SOX), which requires all US publicly traded companies to maintain an adequate system of internal control. Under SOX Section 404, a company must report on internal controls over financial reporting in its annual report. Four key elements must be included in this report (Smith, Ledyard;):
1. Statement of responsibility by the company management (CEO and CFO) for establishing and maintaining an adequate internal control structure and procedure for financial reporting.
2. Statement identifying the framework used by management to evaluate the effectiveness of the company’s internal control over financial reporting.
3. Management’s assessment of the effectiveness of internal controls over financial reporting.
4. Attestation by the company’s external auditor on management’s assessment of the effectiveness of the company’s internal controls and procedures for financial reporting.
As the president of LJB, he and other executives and board of directors must ensure that the internal controls are reliable and effective. In addition, he must hire independent outside auditors to attest to the adequacy of the internal control system.
LJB’s Proper Internal Controls
To become publicly listed, LJB must ensure and maintain an adequate and effective internal control system. After evaluating LJB’s current internal controls, I have found several positive acts. First, the accountant of LJB has recently started to use prenumbered invoices, which I believe to be a right decision because all companies, including LJB, should establish proper documentation procedures. LJB should document transactions and events when they occur. The use of prenumbered invoices can help to prevent a transaction from being recorded more than once, or conversely, from not being recorded at all (Kimmel, Weygandt, & Kieso, 2011, p. 341). In addition, an effective internal control system should require that all source documents be promptly forwarded to the accounting department for accounting entries; this helps to ensure timely recording of the transactions and contributes directly to the accuracy and reliability of the accounting records (Kimmel, Weygandt, & Kieso, 2011, p. 341). So when the accountant has asked for buying an indelible ink machine to print checks, I believe it will be a wise and necessary purchase. Second, the accountant does a good job of moving all checks into a safe in his office during weekends. This is in compliance with physical controls, which relate to the safeguarding of assets and enhance the accuracy and reliability of the accounting records (Kimmel, Weygandt, & Kieso, 2011, p. 342). By moving the checks into the safe, they are secured during nonbusiness hours and not accessible to no one, this prevents potential fraud and theft.
LJB’s Improper Internal Controls
On the other hand, there are several other controls which LJB is not doing properly. First, the accountant is now serving two roles as both treasurer and controller. This is a violation of segregation of duties. Different individuals should be responsible for related activities, however, the accountant is responsible for both supply purchases and payments for these purchases, and this increases the potential for errors and irregularities (Kimmel, Weygandt, & Kieso, 2011, p. 339). Since the accountant can make orders of supplies without supervisory approval, he may be tempted to receive kickbacks from suppliers (not saying he will); he may authorize payments for fictitious invoices since he also