Full Project – EFFECT OF INTERNAL CONTROL ON FINANCIAL PERFORMANCE OF COMMERCIAL BANKS: A CASE STUDY OF ACCESS BANK PLC AND FIRST BANK PLC

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CHAPTER ONE

INTRODUCTION

1.1 GENERAL INTRODUCTION

Internal control is a broad concept that covers the entire range of procedures, methods and controls established by an organization to increase the probability to achieve its business goals (Institute of Internal Auditors (IIA), 2012). Also, internal control can be seen as agroup of policies and procedure that are embedded to form control on firm’s activities to ensure the entity followed objectives set by management and board of directors (Yousef, 2017).

The banking sector is a a special sector in the economy. It handles the massive volume of funds transactions daily and provides a different kind of services to the customers. All economic activities depend on the stability and strength of the banking sector (Gamage, Lock, & Fernando, 2014). A system of tough internal controls can support to ensure that the goals and objectives of banks will be met, that the bank will help to attain long-term profitability targets and maintain reliable financial and managerial reporting (Gamage et al., 2014). This type of system can help in ensuring that the bank will comply with procedures, internal rules, plans, and laws and regulations as well decrease the risk of bank’s reputation damage or unexpected losses to the bank. This help bank’s management and Board of directors to comply with laws and regulations,produce reliable financial reports and safeguard the bank’s resources (Gamage et al., 2014)

Internal control is the set of accounting and administrative control and practices that helps managers in operating their organization more effectively and efficiently. It ensures that both the accounting and administrative activities are in order with the laid down procedures, standards, and statutory requirements. It also detects deviation if any and calls for immediate corrective measure. In any profit Accessed organization, the objective of management is to maximize profit, and internal control is a technique that can be of assistance in attaining such maximizations (Edwards and Salmonson, 1987).

Banking is a venture undertaken primarily for profit and whose operation should at least include taking money on account and releasing of such money wholly or partly on demand or authority of the depositor.

An important object of banking particularly in the developing countries is the promotion of economic development. In pursuance of this economic development as well as banks’ profitability, banks tends to improve on their services by devising methods of sound and effective system of internal control.

This study therefore, intends to evaluate how the internal control policies have affected the profit performance of commercial banks with particular reference to Access Bank Plc and First Bank Plc.

1.2 PROBLEM IDENTIFICATION

There have been incessant cases and stories been told about high frequency of fraud, embezzlement, overcharging, manipulation, missing files and ledger cards and other banking malpractices in banks today, with the management and shareholders not knowing how to handle the adverse situation.

The Access Bank Plc (AC) Plc and First Bank Plc(FB) Plc were not left out in these increase in crime – wave problems and banking malpractices, despite the existence of inter-control and devices adopted to detect fraud. This situation has culminated in the lack of confidence by the staff, shareholders and customer over the growth and profitability of the banks.

Moreso, with the proliferation of banks and also the increase in rural banking, with commercial bank’s branches, the volume of accounting records has drastically increased, thereby necessitating the appraisal of the adequacy and reliability of records, and overall efficiency of operations.

Furthermore, with the public interest in the “truth and fairness” of financial statements – profit and loss account and balance sheet, whose stratum of reliable is on the internal control system, the research is therefore aimed at investigating the extent of adherence to the internal control system and its impact on the profit performance of the banks.

1.3 STATEMENT OF OBJECTIVE

The objective of this research include among others the following:

To identify and appraise the internal control designed, installed and operated by the management of AC and FB with a view to assessing its impact on profit performance.

To examine the extent of adherence or compliance to the policies, standards and procedures by the members of the staff in order to recommend operating improvement.

To identify possible deficiencies and weaknesses of the existing internal control to find means of ameliorating them.
To review the profit performance of the banks AC and FB and relate it to their internal control.
To critically analyze the effectiveness, adequacy and applicability of the various internal control.

To offer useful recommendation to proper design, installation and operation of an adequate and good internal control system.

1.4 SIGNIFICANT OF STUDY

The research is intended to define the level of internal control and its impact on profitability of AC and FB Plc. It will be of great importance to the banking staff especially the managers and officers whose interest are geared towards the enhancement of the chances of bank profitability; in serving as a guide in the performance of their duties. It will assess the effect of fraud, manipulations, errors, improper authorization,

dishonesty, inadequate accounting records etc on profitability in view of the existing internal control system.

A comprehensive knowledge of system of internal control will form a foundation on which the auditor’s report on “true and fair view” final account is based and as such, the study will be of immense values to the practicing Accountants, Auditors, Lawyers, shareholder and other interested parties for acceptance and reliance of financial statement.

Furthermore, it will include more research in the improvement of banking services in Nigeria for the interest of the shareholders, customers and government.

Finally, the study will provide the basis for recommendation to the management of the best approach to designing, installing and operating an improved system of internal control aimed at promoting operational efficiency and eliminating or at least minimizing waste.

1.5 FORMULATION OF HYPOTHESIS

The management of AC and FB Plc designed and installed 50% good system of internal control which their policies, standards and procedures are adhered to by the members of the staff.

The system of internal control adopted by FB Plc enhances its profit performance than the system adopted by AC Plc.
The present internal control systems adopted by the banks are effective and adequately operated.

The existing internal control systems of the banks enhance their profit performance.

1.5 METHOD OF TESTING HYPOTHESIS

HYPOTHESIS I: – This hypothesis will be analyzed based on the respondents response to the Strategic Position and Action Evaluation (SPACE) of features of a good internal control system in AC and FB Plc. The rating ranges from 1 to 4, representing weak to very strong. The SPACE average will be used.

Average responses to question I of the general questionnaire taken according to department will be subjected to single proportion testing using the following test statistics:

=X – npo

Npo (L – po )

Where

n	=	sample size
x	=	number of responses in favour
po	=	proportion to be tested
The level of significance			will be 5% for the testing to give a critical value of z<I.64
(.one tailed test)

Responses to questions of the general questionnaire will be tested to obtain the part played by the management in the design and installation of internal control and ensuring that the policies standards and procedures are adhered to.

Oral interview will be conducted on the bank officials at their convenience for elaborate discussion on the extent of staff adherence to the installed system.

There will be proper investigation of documents and records to find out the reliability of the oral responses.

HYPOTHESIS II: This hypothesis will be tested based on the comparative analysis of the ages and financial statement of the Bank.

It will also be analyzed from the responses to the relevant areas covered by the questionnaire. Such areas include electronic data processing, purchasing, cash receipts and disbursement, petty cash, payroll and fix assets.

HYPOTHESIS III: This hypothesis will be tested with the following;

Oral interview will be conducted on the employees to find out the extent of their adherence to the procedural manual of the banks.
Further information will be elicited from responses to question 4,5 and 7 of the general questionnaires.
Employees will be observed during working hours (8am – 1.30pm) to ascertain the processes involved in their operations mainly withdrawals and deposits of money in the banks and also to detect errors and flaws.

A thorough study on authorization will be made to know whether employees conform to effective and adequate operation.

HYPOTHESIS IV: In analyzing this hypothesis, the following test will be carried out.

Data collected from the general questionnaire will be tested and also oral interview conducted. A five year financial statement will be analyzed and each year’s profit compared with the proceeding years to ascertain the direction of profit performance. This will then be matched with the degree of adherence to internal control features within these periods.

1.6 SCOPE/LIMITATIONS OF STUDY

This study covered the internal control systems adopted by various commercial banks in Nigeria. The population sample was taken from only two banks AC and FB and their branches in Lagos State. Other parts of the country were not covered, though empirically generalized view was made of them.

The study was restricted to two major areas of internal centre. They are:

Administrative control

Accounting and financial control (internal checks, internal audition and other financial system of control). This was done based on a

comprehensive understanding of the principles of good internal control. However, the study encountered a lot of constraints as regards time, money and sourcing of information. Effort geared towards obtaining adequate information proved abortive due to the uncooperative attitude of some interviewed staff. Besides, no bank likes the public to know the deficiencies in its internal control as the confidence reposed on it by the public might be lost. But, irrespective of these limitations, an in-depth study was still carried out.

1.7 DEFINITION OF TERMS

The researcher at this point believes that some key words and terms that will be encountered while reading this research work will be defined.

Internal Control System: This is the whole system of controls, financial and otherwise established by the management in order to carry on the business of the

enterprises in orderly and efficient manner, ensure adherence to management policies, safeguard the assistance and secure as far as possible the complements and accuracy of the records.

Internal Accounting/Financial Control: Measures that relate to protection of assets and to the reliability of accounting information and financial statements.Internal Administrative Control: A sub category of internal controls which reply principally to operational efficiency and compliance with company policy and which do not bear directly on the dependability of financial statement.

Cheques: A cheque is a bill of exchange drawn on a banker, payable on demand”

(Bill of exchange ordinance 1917 73).

Embezzlement: Theft by a person of assets entrusted to him or her

Internal Auditing: An activity carried on in some organization by a professional staff to investigate and evaluate the system of internal control on a year round basis. Also to evaluate the efficiency of individual department within the organization.

Documentation: This includes all the charts, firms, tapes, reports and other business papers that guide and describe the working of a company’s system of accounting and internal control,

Fraud: Dishonest acts intended to deceive, often involving the theft of assets and falsification of accounting records and financial statements.

Organization chart: A diagram showing organizational lines of authority and responsibility with emphasis on separation of function.

Irregularities: Acts by individuals in an organization aimed at perpetrating fraud or embezzlement.

Fidelity bond: A form of insurance contract is which a bonding company agrees to reimburse an employer for losses caused by theft by bonded employees.

Independent Auditor: Professional level accountants that examine the books and records of companies and express opinions the accounting records in the interest of third parties.

Effectiveness: Attainment of a predetermined goal.

Efficiency: Relationship between inputs and outputs

Collusion: Where two or more persons conspire to commit an illegal act such as fraud and embezzlement.

Illegal Acts: Actions that are not in conformity with prescribed company practices that are capable of leading to fraud.

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