Abstract
This
research examines determinants of banks persistence of internal control
weakness in Nigeria. The main objective is to examine if there exist a
significance relationship between bank internal control environment and control
weakness. The secondary source i.e. companies annual reports and accounts were
adopted. The study discovered that there is a positive relationship between
bank internal control activities and internal control quality. It was concluded
that bank control environment is a determinant of the level of internal control
quality and that an increase in banks control environment will increase the
quality of internal control. The study however recommends amongst others that enough
resources should be provided for personnel to carryout effective risk
management and internal controls.
TABLE OF CONTENTS
Title
Page i
Certification
ii
Dedication
iii
Acknowledgements
iv
Abstract
v
Table
of Contents vi
Chapter One:
Introduction 1
1.1
Background to the Study 1
1.2
Statement of Problem 5
1.3
Research Questions 6
1.4
Objective of the Study 7
1.5
Statement of Hypothesis(es) 8
1.6
Significance of the Study 9
1.7
Scope of the Study 10
1.8
Limitations of the Study 11
1.9
Definition of Terms 11
Chapter
Two: Review of Related
Literature 13
2.1 Introduction
13
2.2 The
Concept of Internal Control 14
2.3 Internal
Control Objectives 21
2.4 Types of
Internal Control Systems 24
2.4.1 Directive Controls 25
2.4.2
Preventive Control 26
2.4.3
Compensating Controls 26
2.4.4
Detective Controls 27
2.5 Components
of Internal Control 27
2.5.1 Control Environment 28
2.5.2
Risk Assessment 30
2.5.3 Information and Communication 33
2.5.4
Control Activities 37
2.5.5
Monitoring 38
2.5.6 Internal Control Evaluation 41
2.6 Parties Responsible for and Affected by Internal Controls 42
2.7 Limitations
of Internal Controls 45
2.7.1
Judgment 45
2.7.2
Breakdowns 46
2.7.3
Management Override 46
2.7.4
Collusion 47
2.8 An Overview
of the Nigerian Banking Industry 48
2.9 Challenges
of the Internal Control Unit in the Nigerian Banking Industry 56
Chapter
Three: Research Method and Design 60
3.1
Introduction 60
3.2
Research Design 60
3.3
Description of Population of the Study 61
3.4
Sample Size 61
3.5
Sampling Techniques 62
3.6
Sources of Data Collection 62
3.7
Method of Data Presentation 62
3.8
Method of Data Analysis 62
Chapter
Four: Data Presentation, Analysis and Interpretation 65
4.1 Introduction 65
4.2 Data Presentation 65
4.3 Data Analysis 66
4.4
Hypotheses
Testing 86
Chapter
Five: Summary of Findings, Conclusion and Recommendations 91
5.1
Introduction 91
5.2 Summary of Findings 92
5.3
Conclusion 94
5.4
Recommendations 96
References
98
CHAPTER ONE
INTRODUCTION
1.1
Background to the Study
There
is currently considerable interest in the topic of internal control systems and
its contribution to exact management of any business economic resources
(Kantzos & Chondraki, 2006; Rittenberg, 2006). This developing role of the
internal controls is also reflected in its current definition as posited by
Cahill (2006) which states that “internal control is the system of internal
administrative and financial checks and balances designed by management, and
supported by corrective actions, to ensure that the goals and responsibilities
of the organization are achieved”. The growth in international financial
markets, the emergence of the universal banking policy amongst others has given
banks the opportunity to design new products and to provide a wide range of
services which has come with increases in associated risks (Palfi &
Muresan, 2009).
Consequently,
there is growing management recognition of the importance of implementing a
good internal control system as the activities of internal controls are now
seen as critical elements in the assurance process.
With
particular emphasis on banks, strong internal contract systems have long been
seen as particularly relevant to banks because of their vulnerability to fraud
and the links between information systems and money (Cahill, 2006). A system of
effective internal controls is a critical component of bank management and a
foundation for the sate and sound operation of banking organizations. A system
of strong internal controls can help to ensure that the goals and objectives of
a banking organization will be met, that the bank will achieve long-term
profitability targets, and maintain reliable financial and managerial
reporting. Such a system can also help to ensure that the bank will comply with
laws and regulations as well as policies, plans, internal rules and procedures,
and decrease the risk of unexpected losses or damage to the bank’s reputation.
According to the Basle Committee on Banking Supervision (1998), this heightened
interest in internal controls is, in part, a result of significant losses
incurred by several banking organizations. An analysis of the problems related
to these losses indicates that they could probably have been avoided had the
banks maintained effective internal control systems. Such systems would have
prevented or enabled earlier detection of the problems that led to the losses,
thereby limiting damage to the banking organization. The committee report
highlighted further that the internal control systems must be designed to
provide reasonable assurance of realizing the underlying objectives, as there
should be necessary assurance that all bank’s revenues accrue to its benefit,
all expenditure is duly authorized and properly disbursed, all assets are
adequately safeguarded, all liabilities are recorded, all statutory
requirements relating to the provision of accounts are complied with and all
prudential reporting conditions are strictly adhered to in such a manner for
providing management information.
In
the Nigerian banking industry, there is the perception by stakeholders that the
quality of internal control appears to be inadequate. The persistence of
financial fraud and fragility in the system resulting to several bails out
attempts by the apex bank (i.e. Central Bank of Nigeria) strengthens the suspicion
of a deep-rooted internal control challenge.
Though
studies in this regards have been largely anecdotal, the Basle Committee on
Banking Supervision (1998), report provides a comprehensive framework that
provides insight into what could determine the internal control weakness such
as; Lack of adequate management oversight and accountability, and failure to
develop a strong control culture within the bank, insufficient guidance and oversight
by boards of directors and senior management, inadequate recognition and
assessment of the risk of certain banking activities, the absence or failure of
key control structures and activities. The focus of the study therefore is to
examine and provide empirical findings of the factors influencing the quality
of internal controls in the Nigerian banking industry.
1.2 Statement of Problem
This
heightened interest in internal controls is, in part, a result of continue losses
incurred by several banking organizations. An analysis has been put before the
banks to maintain effective internal control systems. Such systems would have
prevented or enabled earlier detection of the problems that led to the losses,
thereby limiting damage to the banking organizations. The trend analysis of
fraud in the banking sector as indicated in the NDIC (2009) report reveals that
in 2003, the total number of attempted fraud was 850, in 2004 it increased to
1175, in 2005 it further increased to 1229. The total number of attempted
frauds declined to 1193 in 2006 and increased again to 1553 in 2007. The
experience in 2008 -2013 showed above 30% increase in the number of fraudulent
attempts. The total expected losses to the banking sector from 2003 – 2005 were
857.46million, 2610.00 million, 5602.05 million respectively. In 2006, it stood
at 2768.67 million while in 2007, it stood at 2970.85 million. The amounts seem
to have increased progressively from 2007 – 2013 with an average increment rate
of above 25% (NDIC, 2009). Research into the factors that could be responsible
for internal control weakness is a largely undeveloped research area in the
Nigerian environment and specifically for the Nigerian banking industry.
Against this bank drop, the study intends to examine the main causes and how
best these problems can be eradicated or minimize to its barest minimum.
1.3 Research Questions
In
the light of the issues in framework provided in the Basel 1999 report, the
following research questions have been identified and will form the direction
for the study;
1.
Is there a significant relationship
between bank internal control environment and internal control weakness?
2.
Is there a significant relationship
between the quality of bank’s risk assessment activities and the internal
control weakness?
3.
Is there a significant relationship
between Banks internal monitoring activities and the internal control weakness?
4.
Is there a significant relationship
between Banks internal control activities and the internal control weakness?
1.4
Objective of the Study
The
following are the objectives of the study;
1.
To examine if there exist a
significant relationship between bank internal control environment and internal
control weakness.
2.
To identify if there exist a
significant relationship between the quality of bank’s risk assessment
activities and the internal control weakness
3.
To determine if there exist a
significant relationship between banks internal monitoring activities and the
internal control weakness.
4.
To examine if there exist a
significant relationship between banks internal control activities and the
internal control weakness.
1.5
Research Hypotheses
The
following hypotheses have been specified to guide the direction of the study;
Hypothesis
One
HO:
There is no significant relationship
between bank internal control environment and internal control weakness.
HI:
There is a significant relationship between bank internal control environment and
internal control weakness.
Hypothesis
Two
HO:
There is no significant relationship
between the quality of Bank’s Risk assessment activities and the internal
control weakness.
HI:
There is a significant relationship
between the quality of Bank’s Risk assessment activities and the internal
control weakness.
Hypothesis Three
HO:
There is no significant relationship
between Banks internal monitoring activities and the internal control weakness.
HI:
There is a significant relationship
between Banks internal monitoring activities and the internal control weakness.
Hypothesis Four
HO:
There is a significant relationship
between Banks internal control activities and the internal control weakness.
HI:
There is a significant relationship
between Banks internal control activities and the internal control weakness.
1.6
Significance of the Study
A study of this nature
holds numerous benefits across an eclectic range of stakeholders in the
Nigerian banking industry.
1. The study will be useful to management in
evaluating the like determinants of internal control quality in the banking
sector. The research objectives clearly delineate critical factors that may be
perceived as basis for the tendencies for weakness of internal control system
and findings about these factors will be useful.
2. The study will contributes to the
literature especially as it provides evidence from a developing economy like Nigeria.
3. The study will be of immense benefits to
policy institutions like the CBN and the NDIC as well as could provide the
necessary theoretical framework needed for effective policy formulation, simulation and implementation.
1.7
Scope of the Study
This
study is to examine the determinants of bank persistence of internal control
weakness in Nigeria.
The study focused on the determinants of the persistence of internal control
weakness in Nigerian banks. A respondent’s size of 120 from thirteen publicly
quoted commercial banks was selected as the study sampling size from a
population of twenty two commercial banks operating in Nigeria. The study
covers financial years between 2007 and 2013, the study is restricted to only
staff in Benin City branches.
1.8
Limitations of the Study
The
study identifies the following limitations; firstly, there is the challenge of
inappropriate measurement of variables especially when qualitative issues such
as those addressed in this study are examined. Thus in dealing with such issues
the potential for subjectivity is often inevitable. In addition, the smallness
of the sample size is also considered a limitation. Furthermore, there is the
challenge of low response rate especially with regards to questionnaires. There
is the potential for intended respondents to display apathy towards filling of
the research questionnaires. This is an often cited challenge associated with
primary research. Also, the eventual analysis of the research findings is
always subject to the assumption that the respondents have provided a true
opinion to the questions and often times this cannot be ascertained by the researcher.
1.9 Definition
of Terms
Internal Control: It has been defined by the Auditing
Planning Committee (APC) in UK as “the whole system of control financial and
otherwise established by management in order to carry out the business of the
enterprise in an orderly and efficient manner to safeguard the assets and
secure as far as possible, the competence and accuracy of records, the
prevention and detection of errors and fraud in accordance with the final
preparation of financial statement.”
Control: Is an exercise performed in the
present to achieve a plan drawn up for the future.
Management: It
is defined as the process of planning, organizing co-ordinating and controlling
the activities of an organization. It is seen as a group of people who monitor
and control the organization activities towards the achievement of the
organization objectives.
Internal Audit: Internal audit can be defined as audit carried out
by employees of an enterprise who are specially assigned by management to
conduct a review of the accounting and internal control systems and to make
recommendations to management on how to improve the system (Institute of
Internal Auditors, 1998).
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