ABSTRACT
The study sought to determine the effect of internal control system on financial performance of manufacturing firms in Kenya. To achieve the objective of this study, the study used hypothesis testing research design. The study tested the following hypotheses: H1: Internal Controls and Financial Performance are positively related; H2: Internal Controls have a significant impact on Financial Performance. The population chosen for this study was 65 manufacturing firms registered by ministry of industrialization in Kenya. The study selected a sample of 20 manufacturing firms from a target population of 65 manufacturing firm. The sample was drawn using stratified random sampling technique. The study relied on both primary and secondary data. Primary data was collected using structured questionnaires while the secondary data was gathered from financial statements based on availability and accessibility of data.
The findings revealed that most manufacturing firms had a control environment as one of the functionality of internal controls of the organization that greatly impacts on the financial performance of the firms. It was also established that the management had put in place mechanisms for mitigation of critical risks that may result from fraud. The study examined the effect of control activities on the financial performance of manufacturing firms in Kenya. The results also revealed that that the staff were trained to implement the accounting and financial management systems (M=3.24, S.D=1.334), the security system identified and safeguarded organizational assets (M=4.20, S.D =1.334). The statistical results from the regression analysis show that there is a positive relationship between internal control and financial performance of manufacturing firms in Kenya. The independent variables (Control Environment, Risk Assessment, Control Activities, Information and Communication and monitoring) contributed to 75.7% of the variation in financial performance as explained by adjusted R2 of 0.75.7% which shows that the model is a good prediction.
It was concluded that manufacturing firms that had invested on effective internal control systems had more improved financial performance as compared to those manufacturing firms that had a weak internal control system. Most large scales manufacturing firms that fully invested in strong internal control systems. The study further recommends that the governing body, possibly supported by the audit committee, should ensure that the internal control system is periodically monitored and evaluated. The limitation of this study is that the study was focused on 20 manufacturing firms only while we have more than 500 manufacturing firms in Kenya, therefore these findings may not be used for generalizations on all manufacturing firms in Kenya. It is therefore important for a study to be conducted using wider scope and coverage then, the findings can be compared and conclusions drawn.
TABLE OF CONTENTS
LIST OF ABBREVIATIONS AND ACRONYMS
CHAPTER ONE:INTRODUCTION ........................................................................ 1
1.1 Background of the Study ......................................................................................... 1
1.1.1 Internal Controls ............................................................................................... 6
1.1.2 Financial Performance .................................................................................... 11
1.1.3 Internal Controls and Financial Performance ................................................. 12
1.1.4 Manufacturing Firms in Kenya ....................................................................... 13
1.2 Research Problem .................................................................................................. 14
1.3 Objective of the Study ........................................................................................... 18
1.4 Value of the Study ................................................................................................. 18
CHAPTER TWO:LITERATURE REVIEW ......................................................... 19
2.1 Introduction ............................................................................................................ 19
2.2 Review of Theories ................................................................................................ 19
2.2.1Agency Theory................................................................................................. 19
2.2.2 Contingency Theory........................................................................................ 20
2.2.3 The Theory of the Firm ................................................................................... 22
2.3 Determinants of Financial Performance of Manufacturing Firms ......................... 23
2.4 Review of Empirical Studies ................................................................................. 24
2.5 Summary of Literature Review .............................................................................. 29CHAPTER THREE:RESEARCH METHODOLOGY ........................................ 30
3.1 Introduction ............................................................................................................ 30
3.2 Research Design..................................................................................................... 30
3.3 Population .............................................................................................................. 31
3.4 Sample.................................................................................................................... 31
3.5 Nature of Data ........................................................................................................ 31
3.6 Data Analysis ......................................................................................................... 31
3.6.1 Tests of Significance ...................................................................................... 33
CHAPTER FOUR:DATA ANALYSIS AND PRESENTATION OF FINDINGS
...................................................................................................................................... 34
4.1 Introduction ............................................................................................................ 34
4.2 Response Rate ........................................................................................................ 34
4.3 Descriptive Statistics .............................................................................................. 34
4.3.1 The Level of Education Attained by the Respondents .................................... 34
4.3.2 The Duration that the Institution had been in Operation ................................ 35
4.3.4 Functionality of Internal Controls of Manufacturing firms in Kenya............. 36
4.3.5 Control Environment ...................................................................................... 37
4.3.6 Risk Assessment ............................................................................................. 38
4.3.7 Control Activities ............................................................................................39
4.3.8 Information and Communication ................................................................... 40
4.3.9 Monitoring ...................................................................................................... 41
4.4 Regression Analysis ............................................................................................... 42
4.4.1 Model Summary.............................................................................................. 42
4.4.2 Analysis of Variance ....................................................................................... 43
4.3.3 Test for Coefficients ....................................................................................... 44
4.5 Summary and Interpretation of Findings ............................................................... 45
CHAPTER FIVE:SUMMARY, CONCLUSIONS AND
RECOMMENDATIONS ........................................................................................... 48
5.1 Introduction ............................................................................................................ 48
5.2 Summary of findings.............................................................................................. 48
5.3 Conclusions ............................................................................................................ 49
5.4 Policy Recommendation ........................................................................................ 50
5.5 Limitations of the Study......................................................................................... 51
5.6 Suggestions for Further Study ............................................................................... 52
REFERENCES ........................................................................................................... 53
APPENDICES ............................................................................................................... i
Appendix 1: Questionnaire ............................................................................................. i
Appendix 2: List of Manufacturing Firms in Kenya .....................................................v
LIST OF TABLES
Table 3.1 Measurement of Variables ........................................................................... 32
Table 4.1 Education ..................................................................................................... 35
Table 4.2 Duration ....................................................................................................... 35
Table 4.3 Control Environment ................................................................................... 37
Table 4.4 Risk Assessment .......................................................................................... 38
Table 4.5 Control Activities ......................................................................................... 39
Table 4.6 Information and Communication ................................................................. 40
Table 4.7 Monitoring ................................................................................................... 41
Table 4.8: Model Summary ......................................................................................... 43
Table 4.9: ANOVA ...................................................................................................... 43
Table 4.10 Test for Coefficients .................................................................................. 44
LIST OF ABBREVIATIONS AND ACRONYMS
| ACCA | Association of Chartered Certified Accountants |
| APB | Auditing Practices Board |
| CE | Control Environment |
| COSO | Committee of Sponsoring Organizations |
| IC | Internal Controls |
| ICS | Internal Control Systems |
| INTOSAI | International Organization of Supreme Audit Institutions |
| SOX | Sarbanes - Oxley |
| VFM | Value for Money |
