THE EFFECT OF INTERNAL CONTROL ON FRAUD DETECTION AND PREVENTION IN SMALL AND MEDIUM SIZE ENTERPRISES: THE CASE OF BUEA MUNICIPALITY

Abstract

This research, titled the Impact of internal control systems on detecting and preventing fraud in SMEs in Buea, was designed to explore the effects of internal control systems on detecting and preventing fraud in SMEs.

The inquiry was further subdivided into analyzing the influence of the control environment and activities on the level of fraud prevention and detection in SMEs, as well as determining the effect of information on the level of fraud prevention and detection in SMEs in Buea.

This intended to gain an understanding of the internal control variables that affect identifying and preventing fraud in SMEs in Buea, namely the control environment and information. The explanatory research methodology was used, and data were obtained from 50 respondents via a self-administered questionnaire based on the Likert scale of five responses.

The data were analyzed using SPSS 20V for descriptive statistics, and correlation analysis was utilized to determine the parameters of internal control on the business establishment’s dependability and validity. The control environment and information control were shown to be significant at the 5% level of significance. As a result, it was advised that a controlled environment be developed to eliminate fraud.

Additionally, information should be incorporated so that managers can follow the origins of fraud and ensure the business’s continuity concerning computerized software that tracks all financial records to best reduce fraud in small and medium-sized firms in Buea municipality.

PART ONE

INTRODUCTION IN GENERAL

1.1 The Study’s Context

Nowadays, small and medium-sized businesses (SMEs) are critical to the development of any economy (world bank,2009). They generate jobs by boosting the population’s welfare to over 90% of firms in Africa, the Caribbean, and the Pacific (Bowale & IIesanmi, 2014).

SME leaders are accountable for combating corporate fraud by detecting and preventing such actions through the implementation of initiatives to strengthen internal control over their company activities. Managers implement controls to safeguard assets and assure the accuracy of financial records. Corporate fraud and business failures increase the need for organizations to improve their internal controls (Fourie & Ackermam, 2013).

The global financial crisis of 2007 and 2008 serve as a reminder of the importance of enhancing internal control inside a corporation. Small and medium-sized enterprises (SMEs) are the backbone of every economy and a critical source of economic and dynamic growth and flexibility.

In Africa, SMEs refer to businesses with fewer than 250 employees that are distinct and separate commercial entities, including cooperatives and non-governmental organizations that are privately owned and managed. The world bank defines SMEs as businesses with a maximum of 300 employees, $15 million in annual revenue, and a minimum of $1 million in assets (world bank, 2013), while the European Union defines SMEs as businesses with fewer than 250 employees and a minimum annual revenue of 50 million euros (European Commission, 2011).

However, SMEs are usually defined as businesses with more than five but fewer than fifty employees, and they are essential agents of economic transformation in many developing nations, accounting for more than 50% of GDP.

They also contribute significantly to innovation and technological development by providing both human capital and raw materials to larger businesses (Fjose et al., 2010), and thus are the primary source of employment in the majority of African countries.

In Cameroon, the official definition of SMEs is derived from Law 2010/001 of April 13, 2010) on the promotion of small and medium-sized enterprises (world bank 2013). The law states that small enterprises employ less than 5-20 people and generate less than 15 million CFA in annual revenue, whereas medium-sized enterprises employ between 20-100 people and generate between 100 million and 10 billion CFA in annual revenue.

According to the national statistics institute (INS), agriculture accounts for over 90% of Cameroon’s economy, with a 34 per cent share of GDP (World Bank, 2013).

In today’s economy, SMEs are defined by their employee count; the larger the enterprise, the more employees (Ayyagari et al, 2005).

This is not acceptable in today’s business environment, as SMEs strive to improve their efficiency by making their operations more profitable (Levine, 2020).

When businesses with a high-profit margin and a larger net asset are classified based on turnover and employee count, the information can be distorted because businesses with a high-profit margin and a larger net asset can be classified incorrectly. Given that the survey is being conducted in Cameroon, the Cameroonian definition of SMEs will be used (Buea municipality). Internal control encompasses the company’s policies, tasks, and behaviours, as well as another aspect, such as facilitating its effective and efficient operation by enabling it to respond appropriately to SMEs (Gree & Thurnik, 2003). This includes safeguarding assets against unauthorized use or fraud, as well as identifying and managing liabilities.

Additionally, it ensures the quality of internal and external reporting, which necessitates the maintenance of proper records and processes to ensure a continuous flow of timely, relevant, and reliable information. Internal control systems can be defined as the comprehensive system of financial and other controls established by management to conduct the enterprise’s business in an orderly and efficient manner (Jenfa, 1991).

Every business operates under a set of procedures and rules that govern how they conduct their daily operations; these procedures and policies must be followed to assure the achievement of enterprise goals. Internal control is a procedure that assists an organization in attaining its goals, which may include operational efficiency and effectiveness, financial reporting dependability, and compliance with applicable laws and regulations (COSO, 1992).

According to the University of California (2008), effective internal controls are contingent on their components, including the control environment, which is an organization’s control consciousness; it is the environment in which people conduct their activities and fulfil their control responsibilities.

An effective controlled environment is one in which competent people understand their obligations and the boundaries of their power and are knowledgeable, mindful, and devoted to doing what is right and doing it correctly.

1.2 Problem Statement

Buea municipality is the capital of Cameroon’s South West Region. It is located on the eastern sloop of Mount Cameroon and has an estimated population of 47300 people (http://en.m.wikipdia.org >). The municipality has an abundance of economic resources, including land, labour, and capital, which can help SMEs grow and perform better.

For instance, a sizable area of the region is blessed with fertile volcanic alluvial soil, which represents a sizable opportunity for agricultural firms. Additionally, Buea has a thriving young population, with colleges and higher-level education institutions that educate and graduate thousands of students, ensuring a consistent supply of competent workers. Similarly, there is a substantial amount of unskilled labour provided by indigenous people and employees drawn from various regions of Cameroon as a result of the country’s political instability.

While the region has promise, as previously said, SMEs in this area suffer from loopholes such as asset loss, fraud, waste, and mismanagement as a result of internal control failure. Those SMEs that survive continue to perform poorly despite their critical contribution to the economy (Neneh & Zyl), however, a lack of internal control has a detrimental effect on the profit and continuity of business (Oath man & Ali, 2014), as 38 per cent of small businesses and 88.3 per cent of large enterprises have these departments but face internal control challenges such as adhering to concrete accounting principles, employee performance, to name a few.

Internal controls have been critical to the success of numerous corporations throughout the world. It mitigates risk, directs operations toward predetermined aims and goals, and also encourages enterprises to practice sound corporate governance, which improves financial reporting and the trustworthiness of directors, hence generating wealth for company shareholders and national GDP.

However, when businesses unexpectedly fail or disclose faults, there is frequently a loud question of “what went wrong?” The most common cause is a malfunction in the internal control system. In the absence of these elements, organizations frequently fail.

Internal controls as a risk management component are intended to detect all material fraud and errors, but the recent trend in business establishments has shown that this is not the case, as numerous fraud and error cases continue to emerge. When all of these failures and errors occur, we begin to question whether internal controls are truly effective at detecting and eliminating fraud and errors in business management.

I chose this topic due to the ineffectiveness of internal controls in preventing and detecting fraud and errors in commercial establishments; I would like to learn how to resolve the problem of ineffective internal controls.

Concerning the research problem stated above, this work will attempt to resolve it and contribute to the existing body of knowledge. This process will be accomplished by attempting to answer the following question: What role does internal control play in detecting and preventing fraud in business establishments?

This is because the majority of firms lack efficient internal controls, which results in the institutions performing poorly. Additionally, mismanagement can be traced back to ineffective internal controls, indicating a pressing need to investigate the feasibility of installing appropriate and efficient internal controls that will aid in the efficient management of enterprises.

1.3 Research Issues

The following are the primary research questions for this study:

Does Buea municipality’s internal control system for detecting and preventing fraud affect SMEs or not?

Specific inquiries

How effective are internal control systems at detecting and preventing fraud in small and medium-sized businesses?

What influence does information have on the detection and prevention of fraud in small and medium-sized enterprises (SMEs) in Buea?

To what extent do the control environment and operations of the municipality of Buea affect the detection and prevention of fraud in SMEs?

Further reading:

The efficiency of internal audit as a tool to improve the financial performance of Microfinance Institutions (MFIs) in Buea