The case study focuses on the three-way interaction among internal controls, staff behavior, and incentives. Sales employees are unlawfully supplying kickbacks to customers of the beer-distribution company. Consequently, sales staff are reimbursing themselves by filing fraudulent expense reports. The owner of the company faces the tough decisions: if he fires the employees involved, he faces the risk of an overall company shut-down. The case study ends with the question of internal methods to avoid similar occurences in the future.
Robert L. Simons, Robert J. Boxwell Jr.
Harvard Business School (191119-PDF-ENG)
Jan 15, 1991 (Revision: Mar 25, 2010)
Case questions answered:
- Be prepared to discuss Exhibit 5 of the case, “Basics of Internal Controls” in class:
- Why are each of these steps important?
- Is this list exhaustive?
- Would you change it or add any additional procedures?
- What should Vince Patton do with respect to Carter Mario, George Pavlov, and Joe Roberts? Should each individual be handled in the same way?
- What recommendations would you make to prevent the improper use of lunch receipts and broken bottle claims?
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Westchester Distributing, Inc. (A) Case Answers
1. Be prepared to discuss Exhibit 5 of the case, “Basics of Internal Controls” in class:
a. Why is each of these steps important?
Each step is important because internal controls reduce the risk of asset loss and help ensure that plan information is complete and accurate, financial statements are reliable, and that the plan complies with laws and regulations.
b. Is this list exhaustive?
The list is fine, but there needs to be a step for separation of duties so that to prevent the case of Joe Roberts forgetting the rule, Roberts can share a role with someone else and that will decrease the chance of internal failure in the company.
c. Would you change it or add any additional procedures?
I would add a step of separation of duties by the different departments. There can be a department just for Account Receivables and another of Account Payable. This would allow the company to minimize the potential damage of what not following the regulations can cause.
2. What should Vince Patton do with respect to Carter Mario, George Pavlov, and Joe Roberts? Should each individual be handled in the same way?
No because even though Mario and Pavlov are the main culprits, it is unacceptable that a person who is highly ranked as Roberts be confused of the regulations and should be immediately fired. Yes, the company is a small company and it’s going to lose some revenues, but the long term consequences are much more important. The company needs to
set an example and be tough on the employees as these kind of mistakes are hugely consequential to the company. I feel that people should get a second chance, but because the circumstance is too huge, Roberts has to leave. If he does stay, what kind of image would that send to the other employees? A high-rank person who doesn’t know the regulations? It is best if Robert were to leave immediately. Also Pavlov should be demoted from his position of Sales Manager because I feel that he is the one who had the bigger influence on the scheme. Vince Patton should fine both of them heavily and all employees are to be given a handbook detailing all regulations related to their jobs. This establishes that the Employees were made aware of the ABC board regulations.
3. What recommendations would you make to prevent the improper use of lunch receipts and broken bottle claims?
First, Mr. Patton should ensure that managers and administrators are given better training on ABC board regulations as it seems that even Joe Roberts, the VP of Sales, was unaware that the owners could be held responsible for violations made by employees even if unaware of the violations. Management should be capable of evaluating a situation like this one and eliminating the problem rather than escalating it by offering additional gifts to the client.
There should also be a new policy for filing expense reports. When making a broken bottle claim the employee must get a signature from the on-duty manager of the vendor showing that payment was received. This way it will be difficult to create false reimbursement claims. Similarly, managers who schedule lunch meetings must report who they will be meeting with beforehand so that the involved persons can be contacted if necessary.
Additionally, employees should not be allowed to both make and report transactions. Before making a payment to a vendor for broken bottles the employee must call the office and receive certification from a manager for this purchase. This distribution of responsibility for the transaction helps to ensure that an employee cannot conduct business independently.
While employees are asked to sign the Rules of Conduct annually, this document should also be posted in the workplace so that it remains in the minds of employees at all times. It is not enough that this document exists, the owners must show that they are making an effort to see that the rules are enforced.
Finally, to ensure that these practices are being properly carried out, Mr. Patton should apply to be audited by an independent CPA. This will ensure that there is a record of all accounting practices and verifiable by an outside source. Taking these steps will allow Mr. Patton to monitor the operations of his company more closely, and he will be able to provide independent records to verify that he has taken all possible measure to prevent future violations.