Why are Internal Controls Important in Business?
I have written quite a large amount recently about empowerment and accountability and the importance of accountability. When you start to get a sense of what is involved in empowerment, you see that it involves suspending control over people in order to hold them accountable. In this article I want to briefly talk about internal controls in business. I want to explain what is meant by internal controls, otherwise known as systems and structures, and what their purpose is.
Internal controls in an organisation are the procedural and structural checks that are put into place to govern the behavior and decision making of employees. You can think of controls as rules and regulations that limit what can be done and describe how things should be done. Typical examples of controls in an organisation include things like budgets, policies, procedures, rules, hierarchies, job descriptions, codes of conduct, etc.
Internal controls are always of two types; you get systems and structures. Systems include things like procedures, budgets, policies, etc. Structural controls include things like hierarchies and job descriptions. Both structures and systems fulfill the same function. They prescribe what each individual is supposed to do and limit what each individual is allowed to do.
Controls are very important in a company because they provide direction and ensure people do not misbehave themselves and actually do what they are supposed to do. Companies need controls most of all when their employees are not mature. Mature employees are employees that can be trusted to take full ownership of their responsibilities in the workplace.
In a company in which employees can’t be fully trusted it is very important to have controls in place. There might be a number of reasons why employees can’t be fully trusted. For example: it might be because of incompetence; or a lack of means (resources & equipment); or a lack of willingness & drive; or a complacent attitude; or perhaps because of a blatantly self-serving attitude. Whatever reasons might be behind untrustworthy staff, controls will help prevent these things from doing large amounts of damage to an organisation. Controls can help keep untrustworthy staff on a somewhat productive path.
Controls are not all good though and they should come with a health warning. In fact, we insist that controls need to be weeded out as much as possible.
Controls Slow Things Down
Controls always have the consequence of slowing things down in an organisation. Because controls put limits and restrictions, they prevent things from getting done as quickly as they could otherwise get done.
A typical example of a control that is seen in most companies is the procedure of having procurement invoices signed off by a number of different people. The consequence of this is that procurement decisions cannot be made as quickly. The more control imposed on the decision, the longer it will take. We clearly see then that controls slow things down. An organisation that has very many controls becomes like a lumbering cruise ship that is difficult to turn because decision making becomes so slow on account of all the controls.
Controls Waste Energy
Controls also result in a lot of wasted energy. When employees have to navigate a bunch of controls before they can get something done, they are expending energy internally on the company itself.
But, value is created by employees providing a service and achieving things out in the market. Value is created when employees expend energy out in the market. So, even though controls might be necessary, they do use up energy that could otherwise be put to use actually serving the customer.
Controls Limit Creativity
Controls also put a dampener on human creativity and initiative. In highly controlling companies the first victims are creativity and initiative. Employees will do things the way they have always been done and they won’t think outside of the box. For creativity and initiative to be present there has to be a certain degree of freedom for people to express themselves.
We see then that removing control can make for a more efficient, productive, creative, agile and flexible company. But, removing controls also comes with a big health warning. If a company removes controls over employees that are not able to handle the freedom, then you can expect a disaster. Removing controls must be done carefully, and one at a time.
Also, when controls have been removed, leaders need to really keep their fingers on the pulse so as to hold people accountable. An environment with few controls and absent leadership is very dangerous for a company.
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