Journal of Economics and Behavioral Studies (ISSN: 2220-6140) Vol. 10, No. 1, pp. 49-58, February 2018 49 Do Internal Control Activities Adversely Influence the Profitability and Solvency of South African SMMEs? Juan-Pierré Bruwer Graduate Centre for Management, Cape Peninsula University of Technology, South Africa BruwerJP@cput.ac.za Abstract: Internal control activities should provide reasonable assurance surrounding the attainment of business objectives in the foreseeable future, be they financial or non-financial in nature. Recent studies suggest that internal control activities used within South African Small, Medium and Micro Enterprises (SMMEs) are inadequate and/or ineffective – they do not provide reasonable assurance surrounding the attainment of relevant objectives. For this study emphasis was placed on whether internal control activities used by South African SMMEs had an adverse influence on their profitability and solvency. Data were obtained from 119 members of management of South African SMMEs, which allowed a total of14 relationships to be tested. Only four relationships were found to be statistically significant which led to the rejection of the two developed hypotheses. Stemming from the results, it appears that there may be a need for the development of formal policies pertaining to internal control within a South African SMME dispensation. Keywords: Solvency, profitability, South Africa, SMMEs, internal control 1. Introduction Small, Medium and Micro Enterprises (SMMEs) play an important socio-economic role in both developed economies and developing economies around the globe, mainly by means of assisting with the distribution of wealth, the eradication of poverty and the decreasing of unemployment (Hill, 2001) (Wren & Storey, 2002) (Chepurenko, 2010). In a South African dispensation these business entities are believed to add approximately 57% 1 to the national Gross Domestic Product while providing employment opportunities to at least 61% of the national workforce (Naidoo & Urban, 2010) (Swart, 2011) (Ngary, Smit, Bruwer, & Ukpere, 2014). Albeit the socio-economic value which South African SMMEs add to the national economy, prior research (Fatoki & Odeyemi, 2010)(Cant & Wiid, 2013) (Moloi, 2013) suggests that 75% of these business entities fail after being in existence for less than four years – a statistic believed to be among the worst in the world (Fatoki, 2014). This is concerning as an estimated 90% of all business entities which operate on South African soil can be classified as SMMEs (Mouloungui, 2012). According to previous studies (Van Eeden, Viviers, & Venter, 2003)ȋRadas & Božić, ʹͲͲͻȌ(SAICA, 2015) the failure rate of South African SMMEs is directly linked with their ability to manage economic factors 2 and the risks associated with these factors. One manner in which economic factors and their associated risks can be managed is through the implementation of a sound system of internal control. A system of internal control is a structured process that comprises five integral and inter-related elements which should assist in the mitigation of risks which, in turn, should provide reasonable assurance that relevant business objectives will be attained in the foreseeable future(COSO, 1992)(COSO, 2012). The five inter-related elements of a system of internal control pertain to (Coetzee, 2006) (Abu-Musa, 2009) (COSO, 2012) (McNally, 2013); (Martin, Sanders, & Scalan, 2014): 1) control environment (the overall attitude of management towards internal control), 2) risk assessment (the identification and evaluation of risks), 3) internal control activities (the activities which prevent, detect and correct risks), 4) information and communication (the dissemination of information to allow relevant stakeholders to achieve their individual objectives to, in turn, help a business entity achieve its objectives), and 5) monitoring (ensuring that all elements in the system of internal control are adequate and effective). Although all of the five aforementioned inter-related elements are essential for a system of internal control to operate adequately and effectively, this study placed focus on the element of internal control activities within a South African SMME dispensation. 1 This monetary value is estimated to be around US$ 168.04 billion. 2 Economic factors comprise of micro-economic factors (factors which can generally be reasonably controlled by management) and macro-economic factors (factors which are generally beyond the control of management).