By Janet Paterson, an EO UK-London member and the CEO and founder of Charter Tax Consulting, Ltd.

When you first start a business, it’s not uncommon to ensure that the board you appoint consists of your friends or people you’ve worked with before. Years ago, I worked for a service company that, while fairly small, was quite profitable. This company’s board boasted all-star members selected for their prior experience and general commercial acumen.

Being a small business, the company’s finance director (FD) was in a position of significant trust. The FD had complete control of the accounts-preparation process and the presentation of said accounts to the board. Looking back, it’s easy to see how having only one “owner” of the company’s finances could cause some issues. However, because the company was undersized, it was difficult to involve enough people in the finance department to have the segregation of duties that one would normally expect to find. We simply had to make do.

As the months went by, the company didn’t realise the considerable strain the FD was under. Before we knew it, we were getting reminders of late-paid invoices and late-filing penalties from the HM Revenue & Customs (HMRC). We questioned the FD about the late payments, and he said that they were a result of the suppliers not processing the cheques properly, or that HMRC’s records must not be updated. The board would take this at face value; after all, everyone was very busy and the FD was a well-qualified individual who should have been perfectly capable of fulfilling his role.

As they say, hindsight is always 20-20. In retrospect, these penalties and filing reminders should have indicated that all was not well. Unfortunately, the company had no real system for controlling internal finances, and the small problems could be easily explained. That is, until we saw the bigger picture. Eventually, the FD resigned due to supposed personal problems at home. When a new FD came on board, his discoveries were shocking, to say the least.

There was a reason why the company was doing so well— its creditors were vastly understated! The financial accounts maintained by the former FD contained a maze of journals and opposing entries. There was also a vast suspense account that took months to unravel. Hidden in this suspense account were journals that masked salient issues, like our pay-as-you-earn (PAYE) payments being terrifically late and, believe it or not, our rent not being paid. Fortunately, the company was strong enough to survive, and the board learned from their heinous mistakes by putting appropriate procedures in place to prevent future financial crises. These procedures included:

• Redefining the roles. They established better-defined roles between the individuals that process accounting entries and the individuals that produce them.
• Establishing sign-off processes. To maintain proper financial visibility, they made a rule that all accounting entries had to be signed off by two parties— the FD and another director. 
• Eliminating potential problems. They completely banned the use of the suspense account, which eliminated the potential for future financial problems.
• Adopting routine audits. To side-step potential disasters, they made sure all accounts are subject to a proper audit (in this case, the company was below the audit threshold, so one was not previously undertaken).
• Increasing access to technology. The company trained non-financial directors on the accounting software, so that they would know how to use the software and drill down into peculiar transactions if needed.
• Sticking to the numbers. All of the directors agreed to create more meticulous budgets with the FD, against which any variances could be analysed in more detail.

In the end, the company realised that being out of sight, out of mind—especially when it came to their finances—was not the safest or smartest route to take. What’s more, they made it a point to establish a more open, honest sense of communication between staff and management to ensure no one gets overloaded by work. Overall, this near-financial meltdown taught everyone the importance of proper financial management, and that kind of knowledge is priceless.

Janet is the CEO and founder of the United Kingdom-based tax consulting firm, Charter Tax Consulting, Ltd. Charter Tax is a boutique tax and financial planning firm specialising in international projects. E-mail Janet at [email protected].