Risk Management Assignment Analysing Issues Encounter by Paradise Industries

Question

Task: Consider the case study of Paradise Industries and prepare a report on risk management assignment addressing to the managing director of the company to provide risk evaluation and internal controls in the context of its expenditure and conversion cycle.

Answer

Introduction
Paradise Industries, explored in the risk management assignment, is involved in the manufacturing of high- precision machine tools and is based at Adelaide. A centralized computer system has been employed in the company with distributed terminals in the departments. Recently, the company has started to face various operational problems as a result of its expenditure and conversion cycle. This report is addressed to the managing director of Paradise Industries for providing an evaluation of the risks, processes and the internal controls associated with its expenditure and conversion cycle. It presents the expenditure and conversion cycle in the form of a flow chart and analyse the related internal control weaknesses and risks and the changes required to be made for the reduction of such risks.

System flow chart of expenditure cycle

The above flow chart depicts that the expenditure cycle of the company is initiated at the point when the inventory level falls below the reorder point and end with the updated general ledger accounts regarding the removal of liability.

System flow chart of conversion cycle

Physical internal control weaknesses in the expenditure cycle
Internal control can be defined as a system which relates to the practices and procedures developed by the entities with an objective of securing assets, improving efficiency, ensuring the accuracy of accounting information and measuring the compliance management procedures and policies. It is essential to have a good internal control in the organization for the purpose of offering reliable financial reporting information to the management for decision making (Ali, 2019).

The expenditure cycle comprise of the activities that are associated with the acquisition of the goods and services and the payment made for it (Chandra, Menon and Mishra, 2018). The analysis of the expenditure cycle of Paradise Industries provide that it has certain physical internal control weaknesses. Firstly, it is found that the purchase requisition is automatically generated when the inventory item falls below the reorder point. However, it does not identify the current demand in the market and does not analyse the current inventory held by the company before the actual placing of orders which constitutes the major weakness of the cycle.

Secondly, it is also not clear that which procedure is followed by the purchase clear for the selection of suppliers and ordering of inventory. This is the another weakness of the internal control of the cycle as the clerk should ensure the obtainment of quotes from various suppliersfor getting information about the delivery date, prices and quality. Also, there is no cross checking performed by the senior official regarding the quotes received which is further adding to the weaknesses. This is because it increases the chances of errors which may be deliberate and can get unnoticed (Cheng, Felix and Indjejikian, 2019.). Thirdly, on the arrival of the invoice from the supplier, a record is added by the accounts payable clerk to the supplier invoice file. This is also one of the weaknesses of the internal control system as there is should be proper assurance made on the part of the accounting department of the company that the invoice amount is right and the invoice reflects the purchase discounts appropriately before adding it into the supplier invoice file. This is necessary because after this step all the general ledger accounts gets updated by the system and the cheque is printed (Sun, 2016). The fourth internal control weakness is that a record is added to the cheque register file after sending the cheque to the supplier and its copy to the cash disbursement department. This is the weakness as the record should only be added when the cheque is cleared since there are chances that is might bounce. This will increase complications for the company in such a case and therefore, it should remain as a liability in the system till the time the cheque gets cleared.

Risks in the conversion cycle
The conversion cycle can be defined as the time period taken by the company for the conversion of its resources or investment into cash (Das, 2016). The conversion cycle is also regarded as one of the most important measures of the management effectiveness. The analysis of the conversion cycle of Paradise Industries provides that it suffers from a number of risks. However, it is also found that some changes can be made for the reduction of such risks.

Risk of loss of data- The first risk that can be identified from the conversion cycle adopted by the company is the risk of loss of data.Since the company has adopted a centralized computer system, the data received from different department terminals is stored in the central location. Moreover, in case of a centralized computer system, there is no or minimal data redundancy. The term data redundancy can be described as the storage of data in more than one location. Therefore, the adoption of centralized computer system has been recognized as a risk in the conversion cycle of Paradise Industries due to the fact that if the set of data is lost by the company unexpectedly then in such as case, it will be very difficult to retrieve it back. This can further be associated with the risk of complete system failure.

Working Capital Risk-The analysis of the case study of Paradise Industries further provides that it suffers from the risk of working capital. The conversion cycle is considered to be an effective liquidity measure and forms the basis of the working capital of an organization. The term working capital can be elaborated as the current liabilities of the company subtracted from its current assets. It is not clear from the case study whether the company is taking proper steps in the conversion cycle for the purpose of ensuring that it has enough working capital in order to carry out the day to day business processes effectively. Therefore, the conversion cycle of the company may suffer from working capital risks (Farooq, Maqbool, Waris and Mahmood, 2016). No Cross Checking of the Entries- The analysis of the case study also provides that the conversion cycle of the company is being undertaken without any cross checking of the entries being made in the system. This is the serious risk for the company as the wrong quantity of production or wrong recording of the cost by the accounting clerk can put the company into serious trouble. Such wrong entries in the system can be deliberate with the wrong intention of the concerned authorities or can even be a result of a mistake. The company can also suffer from huge losses or might become unsuccessful in fulfilling the demand of its customers (Kitsios and Kamariotou, 2016).

Risk to Security- The conversion cycle of the company is being completed through the use of centralized computer system as a result of which the security of the network system is under huge risk. It is found that even if proper measures are taken for the protection of the network, a centralized system is very easy to attack as compared to a decentralized system (McGew, 2020).

Changes Required for the Reduction of Risks
Risk is unavoidable for every company. However, certain measures can be takenand changes can be made in the current processes of the company such that the impact and frequency of such risks can be reduced to some extent. Backup System in Secondary Location- This is one of the most import measure which must be taken by Paradise Industries for the purpose of protecting itself from the risk of loss of data and complete system failure. Even if the company prefers to install a centralized computer system, it should be ensured that the company always keeps a backup system in a secondary location. In this way, even if the centralized system suffers from a system failure, the company can restore its data easily by obtaining it from the secondary location (Kamariotou and Kitsios, 2018).

Adoption of a Distributed Computer System- A distributed computer system stores the information at multiple physical locations which will protect the company from the risk of loss of data. It is further identified, that the data lost in the distributed system can be retrieved through easy steps due to the existence of the copy of the data at various locations in the database. Distributed computer system will also work for the company in the reduction of data redundancy along with providing the needed assistance in the improvement of overall performance (Stanciu, 2017).

Adoption of a Working Capital Strategy- The company can utilize an effective working capital strategy in order to reduce its working capital risk. Supply chain finance (SCF) and associated technology solutions have proved to be an effective working capital tool in the recent years for the extension of Days Payable Outstanding (DPO). The adoption of such tool can assist to extend the DPO, reduce the conversion cycle and provide free flow of cash (Person, 2014).

Proper Monitoring of the Employees and the Use of Passwords- The employees should be clearly notified that there are activities are being tracked regularly such that they do their work effectively and do not make deliberate mistakes. Moreover, an official shall be designated in each department who ensures that the entries made in the system are correct and has no mistakes. After proper checking, it should be made visible to the other departments. Moreover, as far as the security of the system is concerned, the company can protect itself by making the use of strong passwords such that the unauthorized persons cannot gain access to it (Deursen, 2015).

Conclusion
Therefore it can be concluded that Paradise Industries is suffering from certain internal control weaknesses which are required to be considered for ensuring the smooth functioning of the expenditure cycle. It is identified from the case study that the actual inventory and current demand is not being considered before the purchase requisition generation. Also, selection of supplier, lack of cross checking of the entries and removal of the liability from the system before the actual clearance of the cheque are also some of the areas which lead to the weaknesses in the internal control. Furthermore, it is identified that the company suffers from the risk of loss of data, working capital, lack of security and cross checking in case of its conversion cycle. However, such risks can be avoided by the company by making some changes such as creating a backup system in the secondary location, adoption of a distributed computer system, monitoring the employees, using passwords and adopting an appropriate working capital strategy.

References
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