Impact of internal audit on firm performance in vietnam

Along with the development of the risk management framework, internal audit is gradually being seen as an effective tool for a company to control its risks through both the assurance and

I take full responsibility for the fidelity of the number and data and other contents

ACKNOWLEDGEMENT

This Barchelor thesis contained huge amount of work, research and dedication Still, implementation would not have been possible if I did not have a support of many individuals and organizations Therefore, I would like to extend my sincere gratitude

to all of them Foremost, I would like to express my sincere gratitude to my instructor – MBA Le Quang Dung for the continuous support of my research, for his patience, motivation, enthusiasm, and immense knowledge His guidance has helped me in all the time of research and writing of this thesis Without his superior knowledge and experience, the Barchelor thesis would not like in this quality of outcomes, and thus his support has been essential My sincere thanks also goes to lectures at International School, Vietnam National University (IS-VNU), who not only helps me get a clear understanding on fundamental knowledge about finance, accounting and auditing but also nurture essential soft skills such as analyzing and the decision-making capability Nevertheless, I express my gratitude toward our families and friends for their kind co-operation and encouragement which help me in completion of this Barchelor thesis Because my knowledge is limited, in the process of finishing this bachelor thesis, I inevitably make mistakes, so I respectfully receive comments from my teachers and experts

Contents

TABLE OF NOTATIONS AND ABBREVIATIONS 1

LIST OF TABLE 2

LIST OF CHARTS AND FIGURE 3

ABSTRACT 4

CHAPTER 1: INTRODUCTION 5

1.1 The necessity of thesis 5

1.2 Research objectives 6

1.3 Research questions 7

1.4 Methodology and scope of research 7

1.5 Structure of research 7

CHAPTER 2: THEORETICAL FRAMEWOEK 9

2.1 Overview of internal audit 9

2.1.1 Definition of audit 9

2.1.2 Concept of internal audit 10

2.1.3 Functions and responsibilities of Internal Audit 12

2.1.4 Scope of implementation of internal audit 13

2.1.5 Legal documents on internal audit in Vietnam 13

2.1.6 The necessity of internal audit in each enterprise 14

2.2 Firm performance 16

2.3 The association between internal audit and firm performance 17

2.4 The other factors the author uses in the thesis affect the firm performance 19

2.4.1 Stock ownership of board members 19

2.4.2 CEO – Chair separation 19

2.4.3 Firm’s size 20

2.4.4 Leverage 20

CHAPTER 3: RESEARCH METHODOLOGY 22

3.1 Scope of the study 22

3.2 Design of research and methods 22

3.2.1 Methods of analyzing and synthesizing information 22

3.2.2 Survey method 23

3.2.3 Data processing method 23

3.3 Data and data collection 24

CHAPTER IV: ANALYSIS RESULTS 26

4.1 Descriptive Statistics 26

4.2 Correlation Test 27

4.3 Regression Analysis 27

CHAPTER 5: CONCLUSION AND DISCUSSION 30

5.1 Conclusion 30

5.2 Discussion about result of internal audit factor 30

5.3 Limitations of the study 32

APPENDIX 33

Appendix 1 Questionnaire 33

1.1 English 33

1.2 Vietnamese 35

REFERENCES 38

A International sources 38

B Vietnamese sources 42

TABLE OF NOTATIONS AND ABBREVIATIONS

LIST OF TABLE

Table 1 The research factors code 25

Table 2 Data descriptive statistics results for all variables (2016-2018) 26

Table 3 The correlation between the independent variables 27

Table 4 Model Summary 27

Table 5 ANOVA Testing 28

Table 6 Coefficients 28

LIST OF CHARTS AND FIGURE

Figure 1 Conceptual framework of the study 21

ABSTRACT

Purpose: The purpose of this paper is to investigate whether internal audit factors

along with some other elements (firm’s size, leverage, CEO –Chair separation, stock ownership of board members) affect firm performance in Vietnam as well as how these factors impact firm performance

Design/methodology/approach: This research collected the data by quantitative

research and tested the model by Statistical Package for the Social Sciences (SPSS)

Findings: Survey results with 150 samples during 2016 -2018 period from enterprises

listed on Vietnam’s stock market, HOSE and HNX in particular The author found that the firm’s size as measured by the log of total assets (LTA) and the leverage as measured by debt ratio (DR) have a positive and negative impact on the firm performance respectively The remaining factors, CEO – Chair separation (DUAL), Stock ownership of board members (BOS) and especially internal audit, have no significant impact on firm performance

Practical implications: The research may assist businesses and organizations,

especially enterprises in Vietnam in order to determine whether the internal audit department should be established

Originality/value: The thesis met the university criteria in examining whether the

internal audit has an influence on firm performance in Vietnam

Keywords: Internal audit, Firm performance, Firm’s size, CEO – Chair separation,

Stock ownership of board members, Leverage

CHAPTER 1: INTRODUCTION

1.1 The necessity of thesis

Internal audit has been mentioned very early in the world with existence and development history over 60 years and recognized in over 165 countries (according to VACPA) as a professional career, an inevitable trend, an important element of management in the state economic sector, private economic sector and non-profit organizations as well

In 2001, the miracle of the financial figures under the audit giant’s hand – Arthur Anderson brought Enron Group to the peak to become the leading energy company in the 90s but also quickly went bankrupt (Boon & McKinnon, 2007) Then, in 2002, WorldCom Group – the second largest long-distance telecommunications company in the United States – filed for bankruptcy because of accounting frauds, concealing weak financial conditions and forging growth in order to raise stock prices From the collapse of big corporations (Enron, WorldCom …) to the global financial crisis in

2008 – 2009, there is a connection between the existence and operation of a business management mechanism in order to manage and control risk (COSO, 2004) Companies are under high pressure to identify all the risks that they are facing and must explain how to handle them at an acceptable level Along with the development

of the risk management framework, internal audit is gradually being seen as an effective tool for a company to control its risks through both the assurance and advisory functions for board of directors and shareholders The role of internal audit has changed from the traditional role in management evaluation activities to consulting activities and providing objective guarantee for managers Internal auditors are directly involved in the corporate governance cycle, including the operational cycle, internal control procedures, risk management and financial statements as well

In the process of transforming itself into a market economy and world economic integration, Vietnam has had really strong changes Because enterprises are facing many new opportunities as well as great challenges, the competition for survival is becoming fiercer than ever Hence, companies need to actively re-evaluation their operating model, review risks and determine an effective approach to internal audit to ensure their long-term development Internal audit is known as an independent monitoring function and the third line of defense of the business This function provides independent, objective assessments of control activities, risk management and governance within the organization From that, it contributes to improve firm performance and transparency of organization

Furthermore, according to Decree No 05/2019/NĐ-CP on internal audit issued by the Government on 22/01/2019 and applied from 01/04/2019, many state organizations and enterprises will have to perform internal audit

Despite playing an important role, internal audit has not been paid much attention by Vietnamese companies This is a problem not only in Vietnam but also in many developing countries The reason is that organizations are not aware of the roles, duties and functions of internal audit in their business activities In addition, Vietnam has not still had many empirical researches about internal audit (Nguyen Thi Khanh Van, 2018; Nguyen Minh Trang, 2017)

For all of these reasons, studying impacts of internal audit on firm performance is quite necessary and really suitable to contribute to further improvement of relevant theoretical issues In this research, the author focuses on companies in Vietnam

- Annual financial and operating data of key ratios from companies collected from questionnaires and interviews

- Analysis of correlation between internal audit and key ratios of these companies

- Multiple regression model

1.4 Methodology and scope of research

This study relies on primary data collected via online survey research and interview to examine the effects of internal audit on business performance in Vietnam Questionnaire research method and direct calls were used to collect information from participants concerning their opinions on internal audit in Vietnam This study plan was considered reasonably because it facilitates a comprehensive and detailed view of the major questions raised in the research

1.5 Structure of research

The Bachelor Thesis Report consists of five chapters In Chapter I, the current chapter, the author introduces the necessity of topic, research objectives, research questions, expected methods and structure of the study about the impacts of Internal Audit on Firm Performance in Vietnam Chapter II provides theoretical framework of the thesis, summarizes the review of prior studies and identifies key metric affecting the operating performance The content of Chapter III is the research methodology of this study The following chapter – Chapter IV – presents findings from current situation analysis and interpretations Finally, conclusion, discussion and limitations of the study are included

in Chapter V

CHAPTER 2: THEORETICAL FRAMEWOEK

2.1 Overview of internal audit

2.1.1 Definition of audit

The term “audit” has been derived from the Latin word “audire”, which means “to hear” Hence, an auditor is a person who hears or listens There are currently many different definitions of audit

According to the definition given by the International Federation of Accountants (IFAC), auditing is the independent auditors' examination and presentation of their opinions on financial statements Auditing involves searching and verifying the accounting records and examining other evidence supporting the financial statements (Whittington, 2004)

According to the American Accounting Association (AAA) “auditing is a systematic process of objectively obtaining and evaluating evidence regarding assertions about economic actions and events to ascertain the degree of correspondence between those assertions and established criteria and communicating the results to interested users” According to Denigi (2004) “auditing is described as the independent examination of and expression of an opinion on, the financial statements of and enterprise by an appointed auditor in pursuance of their appointment and in compliance with any relevant statutory obligation.”

According to Montgomery “auditing is a systematic examination of the books and records of a business or the organization to ascertain or verify and to report upon the facts regarding the financial operation and the result thereof”

The most common definition is mentioned in auditing book – An integrated approach

of Arens and Loebbecke (2012), as follows: Auditing was the process of independent experts gathering and evaluating evidence on the quantifiable information of a specific

entity Purposes were verification and reporting the concordance of the information with the established standards

Based on the audit function, it has three types, including:

- Auditing financial statements: The auditor gives opinions on honesty and reasonableness on the important aspects of the financial statements of the audited units

- Auditing activities: Auditors inspect and give opinions on the economy, effectiveness and efficiency of the audited parts or units

- Compliance audit: Auditors inspect, give opinions on compliance with laws, regulations and regulations that the audited units must perform

Nowadays in Vietnam, when it comes to auditing, people usually think of independent auditors In the Vietnamese legal documents, there is no general definition of auditing but there is a concept of independent audit It is issued in the Law of Independent Auditing No 67/2011/QH12 (29/03/2011) and the most important type of independent audit is the financial statements auditing

2.1.2 Concept of internal audit

The development history of auditing activities in the countries which owns market economy show that internal audit is still a new career Although the internal audit was originally non-professional career, did not exist in the enterprises or was considered as part of an independent audit, but later it became a professional career

Related to professional organization of internal audit, the most typical professional organization of the internal audit is the Institute of Internal Auditors (IIA), which was established in 1941 in Lake Mary, Florida, USA IIA is the global voice of experts about internal audit recognized by enterprises and managers around the world Certified Internal Auditor (CIA), which is issues by the Institute of Internal Auditors ,

is a reliable certificate in the evaluation of professional competence in Internal Audit

field, risk management, governance, internal control, information technology auditing, education and security

The IIA (the Institute of Internal Auditors) defines internal audit as “an independent, objective assurance and consulting activity designed to add value and improve an organization’s operations It helps an organization accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve the effectiveness

of risk management, control and governance processes” (IIA 1999)

The definition of Internal Audit is defined by the International Federation of Accountants – IFAC as “Internal Audit is an evaluation activity set up in the enterprise

as a service for that enterprise in order to inspect, evaluate and supervise the appropriateness and effectiveness of the accounting system and internal control.”

In Vietnamese Standards on Auditing No 610, which was issued along with the Circular No 214/2012/TT-BTC (06/12/2012) of the Ministry of Finance, stated that internal audit is an activity performed by the audited entity or provided by an external organization Its main functions are inspecting, evaluating and monitoring the adequacy, appropriateness and effectiveness of internal control system

Because of the development of auditing in general and internal audit in particular as well as the continuous changes of the business environment, each organization will have its own concept about internal audit and constantly complement it Although the concepts have different expressions, basically it is possible to understand that the internal audit is a department created within a company, performing the function of inspection and supervision to help the senior managers in that company to increase their power as well as manage activities that have been going on in the company, including: Do employees comply with organization’s rules? Is the property integrity? Are officials and employees working effectively? Are current regulations suitable when conditions change? Evaluating the accuracy of financial statements

Thus, the internal audit formed and developed from the management needs of the enterprise itself Internal audit performs an independent and objective evaluation function related to internal control structure of the enterprise The scope of internal audit includes all aspects of business activities and at all levels of different management Internal audit reviews, evaluates and reports on the status of the internal control system, provides professional analysis, recommendations and advice for managers to lead the business activities successfully

2.1.3 Functions and responsibilities of Internal Audit

According to Article 6, Chapter I of the Internal Audit Regulation issued together with Decision No 832 TC/QĐ/CĐKT (28/10/1997) of the Minister of Finance, the internal audit has three functions: inspect, identify and evaluate The tasks of internal audit are the following:

- Checking the reasonability, effectiveness and efficiency of the internal control system

- Checking and certifying the quality and reliability of economic information including financial statements, managerial accounting reports before submitting them for approval

- Checking the compliance with operational principles, business management, especially laws, policies, financial regimes, accounting, resolutions and decisions of the Board of Directors

- Detecting loopholes, weaknesses, frauds in managing and protecting the enterprise’s assets

- Proposing solutions to improve and complete business administration system of the enterprise

2.1.4 Scope of implementation of internal audit

According to Article 6, Chapter I of the Internal Audit Regulation issued together with Decision No 832 TC/QĐ/CĐKT (28/10/1997), the Minister of Finance defined that the scope of internal audit is auditing financial statements, managerial accounting reports

of enterprise and subsidiaries; compliance audit; operational audit

An audit of financial statements is an audit aimed at examining and commenting on the honest and fair presentation of the financial statements of an entity in accordance with applicable principles and regulations

Compliance audit is a test to assess the level of compliance with regulations and laws that the audited unit has implemented

Operational audit is examining and evaluating the effectiveness, efficiency and economic characteristics of an organization’s operation to propose innovation as well

as improvement measures

2.1.5 Legal documents on internal audit in Vietnam

On the basis of Decree 59/1996 NĐ-CP, the Ministry of Finance issued Decision No

832 / TC-QĐ-CĐKT of October 28, 1997, promulgating the "Internal Audit Regulation" for state organizations This decision marks the official appearance of Internal Audit in Vietnam It requires all state enterprises to establish the Internal Audit Department After that, the Ministry of Finance continuously issued a number of Circulars related to Internal Audit such as Circular No 52/1998 / TT-BTC on

"Guidelines for organizing internal audit activities" and was later replaced by the Circular No 171/1998 / TT-BTC of "Guidance on implementation of internal audit"

For the State Bank, besides Decision 832 / TC-QD-CDKT, in 2011 the Governor of the State Bank of Vietnam issued Circular No 16/2011 / TT-NHNN “Regulations on internal control and internal audit of the State Bank of Vietnam "

During 2016, with the support of the World Bank, the Government had drafted a Decree on Internal Audit in state agencies, public service agencies and enterprises The draft decree requires some enterprises to perform internal audit, to develop the internal audit regulations and procedures in accordance with the operational characteristics of its

And recently, Decree No 05/2019/NĐ-CP was born on 22/01/2019 and applied from 01/04/2019 It specifies the internal audit work; duties, responsibilities and powers of the Internal Audit Department, the person in charge of the Internal Audit; responsibilities of the parties to Internal Audit; state management on Internal Audit This is considered the first comprehensive legal framework for Internal Audit activities

in public units, listed companies, and state-owned enterprises which are operating under the parent-subsidiary model

2.1.6 The necessity of internal audit in each enterprise

The development history of the world economy shows that internal audit is an indispensable function and an obligatory activity to be performed in the operation of enterprises In essence, the nature of internal audit is not entirely new in every business The self-review, examination and evaluation of the effectiveness and efficiency of its activities is an objective element that exists in every organization, even though the simplest form When the business size is small, the operation is still simple and there are enough conditions for direct control, this work is done directly by the managers However, it also takes managers a lot of to control, which affects other executives And if a mistake is discovered, it is often too late Therefore, when the business size grows to a large enough level as well as the operation of the business and

environment become increasingly complex, managers are not able to take charge of this work themselves, they should assign professional individuals to perform with the effective assistance role Those individuals are internal auditors specialized in assessing and evaluating every business activity From that, internal audit has become a professional management tool with objects, techniques, methods and operations into the specific way Internal auditors play an important role in supporting the managers in the most efficient and effective manner

In Vietnam, due to the period of central planning activities that have led to bureaucracy, the companies operate passively and usually rely on supervisors, which result in low efficiency and low income distribution So, the development of every enterprise in the economy is constrained In that situation, checking and assessing the operations was previously misunderstood as state affairs and also extremely formal Gradually, when shifting to a market mechanism, each firm must be self-innovating, autonomous and self-responsible for its activities International economic integration requires practical steps of the economy as well as each business The firm will face high requirements, fierce competition in all areas: information, technology, quality That fact makes businesses unable to chant the slogan, maintain a weak existence by one way or another

Nowadays, weak enterprises must quickly dissolve to make room for well-motivated and capable enterprises to develop in the real market mechanism For these businesses, the only answer to survival and development is the company's performance For that reason, internal audit, whose functions are to evaluate, measure the effectiveness and effectiveness of all activities in an enterprise, necessarily is used as a management tool,

a independent activity with a system of own professional methods and techniques undertaken by internal auditors

2.2 Firm performance

According to Benjalux (2006) performance measures are the life blood of economic units, since without them no decisions can be made Financial performance Measure is one of the important performance measures for economic units Financial performance measures are used as the indicators to evaluate the success of economic units in achieving stated strategies, objectives and critical success factors (Katja, 2009)

According to Hansen and Mowen (2005), firm performance is very essential to management as it is an outcome which has been achieved by an individual or a group

of individuals in an organization related to its authority and responsibility in achieving the goal legally, not against the law, and conforming to the morale and ethic Performance is the function of the ability of an organization to gain and manage the resources in several different ways to develop competitive advantage

Basically, the firm performance is measured in terms of efficiency of the firm’s operations In fact, the more effective the firm’s operations are completed the more positive the organizational performance is and, on the contrary, the low efficiency of firm’s operations and employees’ performance means the poor firm’s performance

In other empirical studies, for instance, M Xu, W Banchuenvijit (2014) used two accounting-based indicators which were Return on Equity (ROE) and Return on Assets (ROA) to measure organization’s performance Also, Lev et al (2005) measured firm´s performance by using ROA, ROE and Earnings Growth Furthermore, Shu-Ching & Wenching (2006), measured firm´s performance by using four accounting-based indicators which were; ROA, Earnings per Share (EPS), Net Profit Margin (NPM) and ROE Similarly, Sher & Yang (2005), also used three accounting based indicators which were; ROA, Return On Sales (ROS) and ROE to measure firm performance Finally, Ayam (2012) measured firm´s performance are as follows: ROA, Return on

Capital Employed (ROCE), Dividend Yield (DY), Dividend Cover (DC), EPS, Price Earning Ration (PE) and Capital Gearing Ration (CGR)

In this study, firm performance is the dependent variable And for all of the above prior researchers, the ROA is chosen to measure the effectiveness of the economic unity in using its assets to generate profit especially manufacturing, the higher this ratio, the better the economic unity of the as it indicates the management's efficiency in using its assets to generate profit (Mahdi and Kumars, 2009) ROA gives a manager, investor, or analyst an idea as to how much a firm has earned on its asset base Accordingly the net profit in relation to the selected firms asset base is a good way to measure the extent of returns on investments made in the firms, ROA is displayed as a percentage:

𝑅𝑒𝑡𝑢𝑟𝑛 𝑜𝑛 𝐴𝑠𝑠𝑒𝑡 = 𝐴𝑛𝑛𝑢𝑎𝑙 𝑁𝑒𝑡 𝐼𝑛𝑐𝑜𝑚𝑒

𝑇𝑜𝑡𝑎𝑙 𝐴𝑠𝑠𝑒𝑡𝑠

2.3 The association between internal audit and firm performance

In the world, there have been many studies of many authors based on different aspects and different fields on internal audit Researches of Getie Mihret and Wondim Yismaw (2007), GoodwinStewart and Kent (2006), Sarens (2009) conducted assessments from the perspective of internal auditors to address the effectiveness of internal audit in both the private sector and the state area These studies are based on the definition of Internal Audit Institute of Internal Audit Institute to conduct research The results all show a positive link between the quality of internal audit function with the quality of internal control and the quality of risk management From that, internal audit could bring economic benefits to firms The drawback of these studies is that the overall research is limitet because some variables included in the model may not be well represented Besides that, studies are conducted with the specific context of each

country In particular, it is difficult to apply general research to many different countries

In addition, Ahmad et al (2009) conducted a study to explore the importance of Internal Audit in Malaysia's public sector through the self-assessment of the Internal Audit Heads and Internal Auditors The study concludes that Internal Audit functions

in the public sector in Malaysia are constrained by a lack of labor and hampered by inadequate support from senior management Furthermore, auditors rarely expand cooperation This expresses the urgent need and the essential value when researching

on the effectiveness of internal audit as well as the weaknesses to focus on promoting, impacting on those limitations to enhance the efficiency of internal audit Lenz and Hahn (2015), Badara and Saidin (2014) conducted empirical research based on evaluating the effectiveness of internal audit from both sides One from the supply side (self-assessment of the internal auditors) and the second is from the demand side (judging from related parties of internal audit) It is larger and more general about subjective and objective assessment of the effectiveness of internal audit as well as factors affecting the effectiveness of internal audit

The study of Abbott et al (2016) helped expand previous researches and deepened the understanding of the impact of internal audit to the quality of financial statements and the determinants of internal audit quality Similarly, Soh and Martinov ‐ Bennie (2011), D’Onza et al (2015), Lenz and Hahn (2015) argued that effective internal audit activities add values to organizations The researches support for the opinion that internal audit is essential to achieving an organization’s goals This is also appropriate whether the organization is private or state Companies should ensure effective internal audit to improve the efficiency and effectiveness of the organization’s operations