Cash is King/Queen in a small business. In an owner-managed business, working “on” the business vs. “in” the business is hard to do. You are so concerned with increasing revenues and keeping costs at a manageable level, that sometimes other operational areas are put on the “to do” list for a later day. However, having some financial controls in place is a good idea. The main purpose of these controls or procedures is to ensure that the cash earned in the business is protected. It also ensures accuracy in financial reporting and minimizes the risk of fraud or error. For small businesses, where resources are often tight, effective internal controls can mean the difference between survival and failure.
Here are some benefits of implementing financial internal controls in a small business:
Protection Against Fraud
One of the primary purposes of internal controls is to reduce the risk of fraud. Fraud can take many forms, from employees misappropriating funds to unauthorized purchases made on company credit cards. Small businesses, especially those with fewer employees, are often more vulnerable to fraudulent activities because a single person may have too much access over critical functions, like bookkeeping and financial reporting.
By implementing separation of duties—one of the cornerstones of internal controls—a business ensures that no single employee has complete control over any financial process. For instance, the employee who receives cash at the cash register during the day should not be the same person that reconciles the daily cash to sales at the end of the day.
Improved Accuracy in Financial Reporting
Accurate financial reporting is essential for informed decision-making. Internal controls such as regular account reconciliations, proper documentation of expenses, and reviews of financial statements ensure that the information on which you base your business decisions is reliable.
Having accurate records not only helps you understand your cash flow and profitability but also provides you with credible data when seeking loans or investors. Financial accuracy also ensures compliance with tax laws, reducing the risk of costly penalties and audits. An example of a control, would be to perform monthly bank reconciliations on all bank and credit card accounts. This ensures that transactions are recorded accurately and completely in your books and records. This exercise would also allow the person reconciling the account to identify any significant or unusual transactions that do not look appropriate.
Operational Efficiency
Effective internal controls contribute to operational efficiency by streamlining financial processes. When procedures are clearly defined and automated where possible, employees can perform their tasks more quickly and accurately. For example, having a well-documented purchase approval process can reduce delays in procuring materials or services, keeping projects on track. In a small business, this could be that the person who is placing the order needs to have approval from the business owner before finalizing the order. This approval could be done with an e-signature, or even an email. Approval by text is not as effective since it’s hard to refer back to it if there is a question as to whether or not approval has been given.
Additionally, automation tools like accounting software can enforce internal controls by requiring certain steps to be completed before moving forward, ensuring compliance and reducing human error.
Enhanced Accountability
Internal controls promote accountability among employees. When everyone in the organization understands the procedures and is held to a high standard, there is less room for mistakes, negligence, or misconduct. Clear, documented processes make it easy to track who is responsible for each financial transaction, reducing the likelihood of disputes and finger-pointing when things go wrong.
In small businesses, this is particularly important because owners often have a close working relationship with their staff. Transparent accountability helps maintain trust and ensures that any financial discrepancies are identified and addressed promptly. An example of this would be to have the internal controls documented in an employee handbook or a procedure manual that all employees have read.
Other reasons to have internal controls
Lenders and external investors: If they understand that your business already implements financial internal controls, they will have more confidence in you as a business owner. They understand that you understand the importance of safeguarding your company’s funds.
Tax Audits: Overall, tax auditors don’t care whether or not your business has any financial controls in place. However, when there is a request for information from a tax auditor, having financial controls in place will help you find the information you are looking for in a more efficient manner. And as a result, will allow you to have the tax auditor finish their work more quickly. It also gives them confidence that you are a fiscally responsible business owner.
Conclusion
In the fast-paced world of small business, it’s easy to prioritize growth and customer acquisition over back-end processes like financial controls. However, without effective internal controls, your business is vulnerable to fraud, errors, and inefficiencies that could derail your success. By investing in financial internal controls early, you protect your assets, ensure accurate reporting, and set your business up for sustainable growth.
Internal controls are not just for big corporations; they are a vital tool for small businesses to maintain financial health and thrive in a competitive market.
Please reach out to us at [email protected] if you would like us to talk to you about your company’s internal controls.