INTERNAL CONTROL: METHODOLOGICAL DISTINCTIONS OF COUNTERPARTY CREDITWORTHINESS CHECKS

Subject This article deals with the issues related to the methodology of client acceptance procedures within the internal control framework. Objectives The article aims to develop methodological approaches to perform internal control when checking the counterparty creditworthiness. Methods We used the methods of comparative analysis and systematization. Results The article proposes a method for internal control when checking counterparties' financial reliability preceding the conclusion of a contract, including working papers of the controller, mitigating the business risk. Conclusions and Relevance The proposed algorithm for counterparty creditworthiness checks and forms of working documents will help enterprises and entrepreneurs get information about contractors at the stage of contracting, which would reduce the default risk in the future. The findings can be applied in the theory and practice of internal and external control during counterparty creditworthiness checks, as well as in the master's degree educational process in the field of Economics and Economic Expert Analysis.

Selling † its finished products, goods, services, any business entity deals with counterparties (Latin contrahēns 'collecting, accomplishing, contracting'). Counterparties are persons or entities bound by obligations under a common agreement and cooperating in compliance with it 1 . Such relationships result in accounts receivable or payable.
It is important for any business entity to manage its accounts receivable since it is able to plan its cash flows assuming that amounts due will be timely repaid. In the mean time, business entities need to manage their accounts payable as well since acquiring entities expect suppliers to timely deliver property, work and services. If suppliers fail to perform their contractual obligations in a timely manner, the production process will stall, inducing other consequences and affecting the continuity of business operations.
Accounts receivable are managed so as to secure cash flows or other property and settle accounts with counterparties within the timelines stipulated in the contract. Managing its accounts receivable, the business entity should ensure the quality of its accounting and effective analysis. These challenging issues are examined in proceedings by A. Arens and J. Loebbecke 2 , V.B. Ivashkevich [1], L.I. Kulikova [2], G.S. Klychova and Z.Z. Khamidullina [3,4], S.A. Kemaeva [5,6], L.B. Sungatullina [7]. Distinctive aspects of accounts receivable management are studied by N.V. Gorshkova and O.V. Khmeleva [8].
Business entities may perform preliminary, ongoing and follow-up control of the transaction time. Preliminary control takes place before a transaction, ongoing control coincides in time with a transaction, and follow-up control goes after a transaction.
Scholarly proceedings mainly discuss the audit of financial statements, external and internal control which are usually of ongoing or follow-up nature. We assign the highest importance to preliminary internal control.
Contractual policy is studied by B.A. Shakhmanova as an aspect to be audited [18]. In our opinion, business entity should necessarily conduct the preliminary internal control of counterparties in terms of their creditworthiness.
The counterparty creditworthiness check is a crucial step in the contractual process. It gets especially important if the contract is intended to be long-term and entail substantial financial costs. We believe the counterparty creditworthiness check is the responsibility of the internal control department.
Unreliable entities (the so called fly-by-night organizations) affect all parties involved. The State collects less tax. Their counterparties have to face controlling authorities' interrogations concerning such organizations. Thee issues usually turn to be very costly for business entities, entailing additionally charged taxes, penalties, and denied VAT refunds. Counterparty creditworthiness checks may, if needed, help produce evidence of the business entity's prudence in documenting its business relationships with the counterparty.
General information about counterparties is in public sources on the Internet. For this, business entities need to know identification number of a tax payer (in Russian 'INN'). Publicly available sources are presented in Table 1.
Referring to the sources, we examine the specifics of checking the counterparties which are debtors of an agricultural entity in the Nizhny Novgorod Oblast and buyers of agricultural products for canteens and bakery production. Having checked commercial court case files, we found out that PAO Machinebuilding Plant as one of the analyzable counterparties is sued in the court. The proposed form of the internal controller's working document, Commercial Court Case Files Check, ( Table 3) shows the findings we made in scrutinizing the debtors. Therefore, we should analyze financial statements prepared by the Machinebuilding Plant to test whether it meets the going concern principle and is able to repay its debts within the timelines set forth in contracts if the court issues an unfavorable ruling and imposes penalties.
Looking through the register of disqualified persons 3 , business entities may detect whether the would-be counterparty's executive body consists of any disqualified persons (company check). Checking the source 4 , business entities may run through the list of disqualified persons to possibly locate the counterparty's top managers (citizen verification). We suggest documenting the results of such checks in the proposed form of the internal controller's working document as showed in Table 4.
Checking the register of material facts 5 , business entities may learn about net assets, results of audits, pledged property. Findings of internal control are given in the proposed working documents, Check of Register of Material Facts ( Table 5).
Searching through the log of mass business registration addresses (the location is qualified as such if it serves as the registered seat for 10 or more companies) 6 , it is possible to figure out the number of legal entities registered at the address in question. What also matters is to sear ch for information about legal entities having taxes in arrears and/or failing to submit tax 3 Table 6).
Business entities should be especially prudent when assessing the following aspects: • the company's address serving as the registered seat for numerous business entities; • substantial amounts of taxes due; • the same person acting as the chief accountant and CEO; • a short period of time between the official incorporation date and the conclusion of the contract with the supplier.
These aspects come under close scrutiny of financial functions, which should adhere to the statutory document 8 . The document enlists indicia of mala fide entities and rules for practicing the approach. To verify the creditworthiness of an entity, it is necessary to gather a set of documents (copies verified by the authorized person) before the contract is concluded or finished products, goods are shipped or services, work are delivered: It should be noted that the developing e-commerce made many buyers and sellers use Internet resources to seek and offer goods, work and services. Strengths can be found in every aspect of e-commerce. However, there are still many weaknesses which entail millions of losses for businesses. Sometimes Internet resources happen to lack reliability and transparency. There more frequently reoccur bogus websites repeating the information of renown companies. Modern technologies and their growth raises the state of alert among the e-commerce market actors. Online services can be used to verify the reliability and creditworthiness of counterparties before contracts are concluded, such as website trust flow checks (Yandex), online reputation and Internet safety service (WebMoney Advisor, Web of Trust), domain name search, online scams checks, antivirus software.
Users acquire additional information to verify the creditworthiness of their counterparties.
For example, using the Yandex service of trust flow check 9 , the user inserts details in the search box. The details are processed online and converted into tables. They help evaluate the creditworthiness of a counterparty. Certainly, it will not be a 100-percent guarantee of partners' reliability but will expand the user's knowledge of the counterparty's reputation.
The above data sources help reveal the quality of counterparties, their solvency, integrity and evaluate the potential of further cooperation. If the business entity chooses to enter into contracts for supply, purchase and sale, it can refer to the findings of the analysis as described above to determine the appropriate format of settlements with the counterparty in order to mitigate possible risks in the future.