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How Manual Processes Undermine Compliance & Internal Controls

How Manual Processes Undermine Compliance & Internal Controls

“Here’s what happens: the invoice arrives. And we have no context for it. Legal hasn’t approved this; Finance hasn’t approved this; IT Security hasn’t cleared it. You ask around, “Who approved it, who reviewed it?” Often times, the answer is no one. So you see what I’m dealing with here…”
Senior Controller at a large semiconductor company.

The grievance is shared by enough accountants, controllers or compliance managers that it’s become a commonly voiced problem across companies, particularly changing and rapidly growing organizations. Even the most carefully organized Internal Controls are easily flouted and bypassed if such controls prove to be too inconvenient to follow for the average team member in your company.

Since the subject of invoices was raised earlier, let’s examine — more closely — what the senior controller in question is trying to say.

The controller, along with her team of accountants, had laid out a very specific policy that established precisely how purchases were to be made in her company. The purchasing process involved several steps:

  • Requisition by a team member
  • Approval by Team Lead
  • Approval by Department Lead
  • Approval by IT (if requested item related to IT supplies such as laptops, or other subscription services such as software etc.)
  • Approval by Legal (this step in the approval process was necessary because certain items and services were to be purchased by a set of vendors that had been carefully vetted by the company’s legal team)
  • Approval by CFO (this step, no less crucial, applied specifically to purchases that exceeded a certain dollar threshold and would, therefore, require to be signed off by the CFO)

After all the approvals were sought, a purchase order was drawn up by the company’s purchasing manager, and was subsequently dispatched to the vendor. Once the order was accepted by the vendor, it would be shipped to the company, along with a packing slip (or a waybill or shipping document). A few weeks later, the invoice would show up, and the Accounts Payable department would match the invoice to the purchase order (to root out any discrepancies between the PO and the invoice), and with the packing slip (to ensure that the goods/services ordered had actually been received by the company). This was a standard and fairly simple invoice reconciliation process that suited the Accounts Payable department.

So far, it’s hard to see any red flags in this workflow. And yet, this process, with all its airtight controls, scarcely worked. The central issue, here, was that this was a manual process with all its attendant paperwork and problems.

Here is what was going wrong:

The Finance team expected employees to manually fill out a requisition form every time they needed to purchase something. Once the form was completed, the employee was expected to obtain signatures from his Team Lead, Department Lead, along with obtaining clearances from Legal, and, if need be, IT & the CFO. While these internal controls were cautious and systematic, they placed far too many demands on the team member, who’s already far too busy and struggling to keep up with the demands of his core job function.

In their attempts to track and control the outflow of money from the company, the Finance Department had neglected how they would affect the work day of the team member who’s scarcely in a position to see beyond the immediate demands of his job. To have to obtain three different signatures, in person, is a big ask, and team members chose to forego seeking approvals altogether, preferring instead to place orders with vendors themselves. Since this workflow was clearly too much of a hassle, some requisitioners and approvers found a way around it by obtaining and giving verbal approvals instead.

As it turned out, the number of unapproved purchases vastly outnumbered approved purchases, and it was left to the Accounts Payable department to figure out what to do with all the invoices that were accumulating in the mail.

“It’s exhausting; I have to reconcile all these invoices by month-end, and I can’t find a paper trail for them. I can’t tell who placed the order because it’s certainly not the Purchasing Manager. I can’t even determine if the goods that we have been invoiced for have actually been shipped yet. I don’t even know where to start looking. It takes me days to figure it all out.”
Accounts Payable Clerk. 

To the Finance Department, the failure to obtain approvals and documenting them is essentially a deliberate error of omission at the hands of the employee. But the impact of these errors extends beyond the purchasing process. Without being able to determine if an invoice is actually legitimate (i.e. it matches the Purchase Order and Packing Slip), the AP clerk has no option but to green light the invoice and pay the vendor anyway. Late payment can attract a penalty or damage vendor relationships, and the Accounts Payable team needs to reconcile all invoices if the Finance team hopes to close its books on time. Here we see how a lapse in internal controls in the purchasing process leads to a lapse in controls in the accounting process.

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