Internal Control System. The Sarbanes Oxley Act (SOX) - Essay Example

The five major components of an internal control system are control, risk assessment, information and communication, control activities, and monitoring. All of the components are necessary for the effective functionality of a control system because they are interrelated. I believe that one of the most important aspects of a control system is the risk assessment. If a company does not assess a particular risk adequately the firm will not establish adequate internal controls because the problem was never identified. Risk assessment serves as a preventive measure that can be used to create an adequate plan of attack to deal with a problem. In the famous Enron scandal the lack an internal control system allowed Fay, Skilling, and Fastow to collude and steal millions of dollars. 2. When an internal control mechanism is evaluated in phases the accountants can better segment the problematic areas of the system. If for instance deficiencies are found in the monitoring phase; the company can inject money and resources to attempt to fix the problem. It is easier to perform micro evaluations than to evaluate a system as a whole. Clearly identifiable phases create added reliability in the system. Looking at the end results of the accounting cycle or at the financial statements is not the best way to detect fraud. About 10 years ago the Enron Corporation got away with accounting murder when they inflated their earnings by one billion in 2000 when in reality the firm did not have any profits. A good internal control system could have prevented this scandal from ever occurring. 3. I agree with you that some companies do not have well defined activities. One of the reasons that this occurs is due to budgetary constraints. Implementing control mechanisms is quite expensive. It is estimated that Section 404 of the Sarbanes Oxley Act costs between $1 to 3 million to implement yearly. I think that despite the fact that internal control mechanism can be expensive sometimes it is better to assume the expenses than to pay the consequences. Employee theft can be prevented by placing cameras in the warehouse where inventory is kept. Another technological innovation that can be used to protect inventory is the use of RFID tags. RFID tags allow a company to track the movement of merchandise. These systems are the long term solution to substitute the current scanner system used at the majority of retail stores. 4. I agree with you that the Sarbanes Oxley Act (SOX) requires that companies implement all the components of an internal control mechanism. The Sarbanes Oxley Act goes a step further in its requirement of internal controls. All public companies must include within the annual report a section dedicated to reporting the internal controls of the firm. I think that SOX was a tremendous idea, despite the high implementation costs. Nobody wants to go back to a business environment in which record bankruptcies were occurring largely due to accounting misbehavior. 5. I tend to agree with you that the five components of internal control are universal. As you mentioned the environment is key to the effectiveness of an internal control. As you mentioned in your response the environment of a company is largely controlled by the managerial staff. Companies that are corrupt often have leaders that allow that type of unethical behavior. I have heard of companies that have been turn into unethical companies because they let external factors such as foreign cultures cloud their judgment. If for a company it is unethical to accept a bribe in the United States, the rules should not change just because you are doing business in China. 6. I think that the lack of any of the five components automatically makes a system weaker from the perspective of how good the system could be. Just because one component of the internal control is missing does not mean that that system is weaker than another company’s system that includes all five components. For instance a company may not have a necessity to monitor due to the fact that the firm has few employees. A lack of monitoring does not make the internal controls of the firm obsolete. 7. I think that the information phase or component is very important. The accounting cycle starts with recognizing an economic event to then journalize the entry. The CFO might not care much about journal entries since he is looking at the big picture. Such a perspective would be a mistake because every little thing about a system matters. Control activities should be established by the controller of the company. 8. A component that must be closely paid attention to is monitoring. The monitoring system should include ways to monitor the top executive as well. This can be achieved through internal auditing initiatives. The internal auditor should report to the board of directors instead of the managerial staff. The work of the managers can also be monitored through external assessments of consulting firms. Another important phase is risk assessment. The risk of injury should be assessed in order prevent it and to obtain adequate insurance for the firm. 9. I agree with that an auditor gains better understanding of his duties by studying and analyzing the internal control system of an organization. The internal control system can be used as a path to start the audit. By focusing on internal controls an auditor can find the weakness of the system faster. A flaw in the system could be not safeguarding the cash account of the company. 10. I believe that it is extremely important to protect the financial information of a company. In today’s broadband age there are many hackers looking to penetrate systems to cause disruption or to steal from a firm. Companies must hire a system analyst to monitor the information system of a company at all times. Manual accounting systems are a thing of the past. Students have to learn how to work on computerized accounting software such as Peachtree and QuickBooks. Read More