The board should, at least annually, conduct a review of the effectiveness of the company’s risk management and internal control systems. ... The review should cover all material controls, including financial, operational and compliance controls.” The UK Corporate Governance Code
Given the greater focus on corporate governance nowadays, the treasury team (or anyone looking after treasury in their organisation) should appreciate the importance of treasury controls and their impact on day-to-day activities.
Treasury controls consist of board-approved internal policies that cover all aspects of treasury activity, with powers delegated to the treasury team. Policies are translated into treasury procedures and reporting guidelines that include controls such as limits on the size of deposits, the use of standard settlement instructions (where payments can only be made to predetermined bank accounts) and segregation of duties. Treasuries deal with large sums of money on a daily basis and the key operational risks are fraud or error. Errors can usually be corrected (although the cost may be high), but fraudulent losses can be irretrievable. Segregation of duties is a key management control that is intended to reduce the risk of fraud and identify errors in a timely manner.
Segregation of duties is the principle that no employee should be in a position both to commit and conceal fraud or errors in the usual course of their duties (sometimes referred to as the ‘duality’ or ‘four eyes’ principle). The objective is to involve several people in the life of a single transaction, from initiation to settlement and reporting, to minimise the risk of fraud (which would require collusion on a large scale to be successful) or undetected errors slipping through (see The elements of a typical treasury transaction diagram).
Even in the smallest company, different individuals should perform the front office and back office steps for a particular deal. In the same way, different people should ideally authorise pre-dealing and dealing in the front office, and the initiation and authorisation of settlement in the back office.
The growing use of systems in the treasury function means that IT can be used as an additional control mechanism in the following ways: by automatically confirming transactions with the third party almost instantly after execution; by restricting settlement of funds to predefined bank accounts; and by flagging exceptions to management.
For example, a front office dealer may transact an FX deal with a bank and input it into a treasury management system (TMS). The transaction may be confirmed by third-party software that matches the deal entered by the dealer with the deal entered by the bank, and sends confirmation of the match to both parties. When funds need to be paid to the bank, a back office manager will approve the payments and the back office administrator will release the payment to a predetermined bank account.
As a further level of control, it is preferable for those who make up the front and the back office to have different reporting lines. This means that in smaller companies finance staff and, occasionally, key operational staff will perform some front or back office tasks.
The importance of segregating duties cannot be overemphasised. Not only does it reduce the risk of fraud, but also, much more positively for most organisations, it can provide a checking mechanism for treasury. Due to the nature and complexity of treasury activities, it is almost inevitable that at some point somebody will make a mistake. Good segregation of duties will enable such mistakes to be picked up promptly, enabling rapid rectification that minimises risk and cost.
Front office – interface to commercial teams within company; pricing advice; cash management; dealing; deal entry
Back office – confirmations; settlements; bank reconciliations; treasury systems; accounting; reporting
The following elements tend to follow in sequence, except control and reporting, which is a continuous process through the cycle. The first three of these steps will be undertaken in the front office, with the last three or four steps undertaken in the back office (or middle office, where one exists):
Sarah Boyce is associate director of education at the ACT.