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106-506: ERM can also be described as a risk-based approach to managing an enterprise, integrating concepts of internal control , the Sarbanes–Oxley Act , data protection and strategic planning . ERM is evolving to address the needs of various stakeholders, who want to understand the broad spectrum of risks facing complex organizations to ensure they are appropriately managed. Regulators and debt rating agencies have increased their scrutiny on

212-486: A fraud risk assessment. Fraud risk assessments typically involve identifying scenarios of potential (or experienced) fraud, related exposure to the organization, related controls, and any action taken as a result. The New York Stock Exchange requires the Audit Committees of its listed companies to "discuss policies with respect to risk assessment and risk management ." The related commentary continues: "While it

318-585: A combination of interrelated components – such as social environment effecting behavior of employees, information necessary in control, and policies and procedures. Internal control structure is a plan determining how internal control consists of these elements. The concepts of corporate governance also heavily rely on the necessity of internal controls. Internal controls help ensure that processes operate as designed and that risk responses (risk treatments) in risk management are carried out (COSO II). In addition, there needs to be in place circumstances ensuring that

424-527: A control framework in their internal control assessments. Many opted for the COSO Internal Control Framework, which includes a risk assessment element. In addition, new guidance issued by the Securities and Exchange Commission (SEC) and Public Company Accounting Oversight Board in 2007 placed increasing scrutiny on top-down risk assessment and included a specific requirement to perform

530-416: A control objective or mitigating a risk. Precision is an important factor in performing a SOX 404 top-down risk assessment . After identifying specific financial reporting material misstatement risks, management and the external auditors are required to identify and test controls that mitigate the risks. This involves making judgments regarding both precision and sufficiency of controls required to mitigate

636-463: A dishonest management which intentionally misrepresents results to cover its tracks. A strong, active board, particularly when coupled with effective upward communications channels and capable financial, legal and internal audit functions, is often best able to identify and correct such a problem. The internal auditors and external auditors of the organization also measure the effectiveness of internal control through their efforts. They assess whether

742-441: A fraud risk assessment and assess related controls. This typically involves identifying scenarios in which theft or loss could occur and determining if existing control procedures effectively manage the risk to an acceptable level. The risk that senior management might override important financial controls to manipulate financial reporting is also a key area of focus in the fraud risk assessment. In practice, many companies combine

848-481: A high degree of assurance, constrained by the costs and benefits of establishing incremental control procedures. Effective internal control implies the organization generates reliable financial reporting and substantially complies with the laws and regulations that apply to it. However, whether an organization achieves operational and strategic objectives may depend on factors outside the enterprise, such as competition or technological innovation. These factors are outside

954-399: A positive control environment. In a large company, the chief executive fulfills this duty by providing leadership and direction to senior managers and reviewing the way they're controlling the business. Senior managers, in turn, assign responsibility for establishment of more specific internal control policies and procedures to personnel responsible for the unit's functions. In a smaller entity,

1060-553: A practical matter, control precision by type of control, in order of most precise to least, may be interpreted as: It is increasingly difficult to argue that reliance upon controls is reasonable in achieving assertion-level objectives as one travels along this continuum from most precise to least, and as risk increases. A combination of type 3-6 controls above may help reduce the number of type 1 & 2 controls (transaction-level) that require assessment for particular risks, especially in lower-risk, transaction-intensive processes. Under

1166-433: A process may consist of financial reporting controls and operational controls (that is, those designed to achieve operational objectives)." More generally, setting objectives, budgets, plans and other expectations establish criteria for control. Control itself exists to keep performance or a state of affairs within what is expected, allowed or accepted. Control built within a process is internal in nature. It takes place with

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1272-450: A significant role in internal controls; and (g) Support management in resolving conflicts of interest. Monitor the adequacy of the organization's internal controls and ensure that all fraud cases are acted upon. The role and the responsibilities of the personnel benefits, in general terms, are to: (a) Approve and oversee the administration of the company's Executive Compensation Program; (b) Review and approve specific compensation matters for

1378-426: A variety of existing departments or functions ("risk functions") that identify and manage particular risks. However, each risk function varies in capability and how it coordinates with other risk functions. A central goal and challenge of ERM is improving this capability and coordination, while integrating the output to provide a unified picture of risk for stakeholders and improving the organization's ability to manage

1484-526: Is Integrated with An Audit of Financial Statements . The language used by the SEC chairman in announcing the new guidance was very direct: "Congress never intended that the 404 process should become inflexible, burdensome, and wasteful. The objective of Section 404 is to provide meaningful disclosure to investors about the effectiveness of a company's internal controls systems, without creating unnecessary compliance burdens or wasting shareholder resources." Based on

1590-465: Is a financial risk assessment performed to comply with Section 404 of the Sarbanes-Oxley Act of 2002 (SOX 404). Under SOX 404, management must test its internal controls ; a TDRA is used to determine the scope of such testing. It is also used by the external auditor to issue a formal opinion on the company's internal controls. However, as a result of the passage of Auditing Standard No. 5, which

1696-582: Is a key element of the Foreign Corrupt Practices Act (FCPA) of 1977 and the Sarbanes–Oxley Act of 2002, which required improvements in internal control in United States public corporations. Internal controls within business entities are also referred to as operational controls . The main controls in place are sometimes referred to as "key financial controls" (KFCs). Internal controls have existed from ancient times. In Hellenistic Egypt there

1802-455: Is a key factor used to determine the nature, timing, and extent of evidence to be obtained. As risk increases, the expected sufficiency of testing evidence accumulated for controls related to significant accounts increases (see section below regarding testing & evidence decisions). Both significance and misstatement risk are inherent risk concepts, meaning that conclusions regarding which accounts are in-scope are determined before considering

1908-446: Is a means by which an organization's resources are directed, monitored, and measured. It plays an important role in detecting and preventing fraud and protecting the organization's resources, both physical (e.g., machinery and property) and intangible (e.g., reputation or intellectual property such as trademarks). At the organizational level, internal control objectives relate to the reliability of financial reporting, timely feedback on

2014-414: Is accountable to the board of directors, which provides governance, guidance and oversight. Effective board members are objective, capable and inquisitive. They also have a knowledge of the entity's activities and environment, and commit the time necessary to fulfil their board responsibilities. Management may be in a position to override controls and ignore or stifle communications from subordinates, enabling

2120-455: Is an International Standard for Risk Management which was published on 13 November 2009, and updated in 2018. An accompanying standard, ISO 31010 - Risk Assessment Techniques, soon followed publication (December 1, 2009) together with the updated Risk Management vocabulary ISO Guide 73. The standard set out eight principles based around the central purpose, which is the creation and protection of value. Organizations by nature manage risks and have

2226-476: Is an essential part of any business. Properly managed, it drives growth and opportunity. Executives struggle with business pressures that may be partly or completely beyond their immediate control, such as distressed financial markets; mergers, acquisitions and restructurings; disruptive technology change; geopolitical instabilities; and the rising price of energy. Section 404 of the Sarbanes–Oxley Act of 2002 required U.S. publicly traded corporations to utilize

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2332-420: Is applicable for 2007 assessments for companies with 12/31 fiscal year -ends. The PCAOB release superseded the existing PCAOB Auditing Standard No. 2, while the SEC guidance is the first detailed guidance for management specifically. PCAOB reorganized the auditing standards as of December 31, 2017, with the relevant SOX guidance now included under AS2201: An Audit of Internal Control Over Financial Reporting That

2438-421: Is applied at the individual control level, based on factors in the guidance related to complexity of processing, manual vs. automated nature of the control, judgment involved, etc. Management fundamentally asks the question: "How difficult is it to execute this control properly each and every time?" With account misstatement risk and CFR defined, management can then conclude on ICFR risk (low, medium, or high) for

2544-680: Is appropriate. Centralize: Using a shared service model in key risk areas enables multiple locations to be treated as one for testing purposes. Shared service models are typically used for payroll and accounts payable processes, but can be applied to many types of transaction processing. According to a recent survey by Finance Executives International, decentralized companies had dramatically higher SOX compliance costs than centralized companies. Automate and benchmark: Key fully automated IT application controls have minimal sample size requirements (usually one, as opposed to as many as 30 for manual controls) and may not have to be tested directly at all under

2650-538: Is both accurate and complete. Key ITGC focus areas therefore likely to be critical include: change management procedures applied to specific financial system implementations during the period; change management procedures sufficient to support a benchmarking strategy; and periodic monitoring of application security, including separation of duties. The PCAOB issues "Staff Audit Practice Alerts" (SAPA) periodically that "highlight new, emerging or otherwise noteworthy circumstances that may affect how auditors conduct audits under

2756-695: Is breached. The EU regulation requires any organization--including organizations located outside the EU--to appoint a Data Protection Officer reporting to the highest management level if they handle the personal data of anyone living in the EU. In 2003, the Enterprise Risk Management Committee of the Casualty Actuarial Society (CAS) issued its overview of ERM. This paper laid out the evolution, rationale, definitions, and frameworks for ERM from

2862-539: Is complete. There are two primary levels at which objectives (and also controls) are defined: entity-level and assertion level . An example of an entity-level control objective is: "Employees are aware of the Company's Code of Conduct." The COSO 1992–1994 Framework defines each of the five components of internal control (i.e., Control Environment, Risk Assessment, Information & Communication, Monitoring, and Control Activities). Evaluation suggestions are included at

2968-407: Is how most auditing textbooks organize control objectives. Processes can also be risk-ranked. COSO issued revised guidance in 2013 effective for companies with year-end dates after December 15, 2014. This essentially requires control statements to be referenced to 17 "principles" beneath the five COSO "components." There are approximately 80 "points of focus" that can be evaluated specifically against

3074-495: Is principles-based, providing significant flexibility in the TDRA approach. There are two major steps: 1) Determining the scope of controls to include in testing; and 2) Determining the nature, timing and extent of testing procedures to perform. The key SEC principle related to establishing the scope of controls for testing may be stated as follows: "Focus on controls that adequately address the risk of material misstatement." This involves

3180-527: Is the job of the CEO and senior management to assess and manage the company’s exposure to risk, the audit committee must discuss guidelines and policies to govern the process by which this is handled. The audit committee should discuss the company’s major financial risk exposures and the steps management has taken to monitor and control such exposures. The audit committee is not required to be the sole body responsible for risk assessment and management, but, as stated above,

3286-470: Is to determine which combination of entity-level and assertion-level controls address particular MMR. Minimize roll-forward testing: Management has more flexibility under the new guidance to extend the effective date of testing performed during mid-year ("interim") periods to the year-end date. Only the higher risk controls will likely require roll-forward testing under the new guidance. PCAOB AS5 indicates that inquiry procedures, regarding whether changes in

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3392-400: Is working and whether the objectives are being achieved. In 2003, the Casualty Actuarial Society (CAS) defined ERM as the discipline by which an organization in any industry assesses, controls, exploits, finances, and monitors risks from all sources for the purpose of increasing the organization's short- and long-term value to its stakeholders." The CAS conceptualized ERM as proceeding across

3498-560: The COSO Internal Control-Integrated Framework, a widely used framework in not only the United States but around the world, internal control is broadly defined as a process, effected by an entity's board of directors, management, and other personnel, designed to provide reasonable assurance regarding the achievement of objectives relating to operations, reporting, and compliance. COSO defines internal control as having five components: The COSO definition relates to

3604-786: The Society of Actuaries but in 2009 the CERA designation became a global specialized professional credential, awarded and regulated by multiple actuarial bodies; for example Chartered Enterprise Risk Actuary from the Institute and Faculty of Actuaries . Internal control Internal control , as defined by accounting and auditing , is a process for assuring of an organization's objectives in operational effectiveness and efficiency , reliable financial reporting, and compliance with laws, regulations and policies. A broad concept, internal control involves everything that controls risks to an organization. It

3710-437: The "in-scope" or "key" controls that require testing. The SEC Guidance defines the probability terms as follows, per FAS5 Accounting for Contingent Liabilities : Judgment is typically the best guide for selecting the most important controls relative to a particular risk for testing. PCAOB AS5 introduces a three-level framework describing entity-level controls at varying levels of precision (direct, monitoring, and indirect.) As

3816-540: The 2007 guidance, SEC and PCAOB directed a significant reduction in costs associated with SOX 404 compliance, by focusing efforts on higher-risk areas and reducing efforts in lower-risk areas. TDRA is a hierarchical framework that involves applying specific risk factors to determine the scope and evidence required in the assessment of internal control. Both the PCAOB and SEC guidance contain similar frameworks. At each step, qualitative or quantitative risk factors are used to focus

3922-650: The 2007 guidance, it appears acceptable to place significantly more reliance on the period-end controls (i.e., review of journal entries and account reconciliations) and management review controls than in the past, effectively addressing many of the material misstatement risks and enabling either: a) the elimination of a significant number of transactional controls from the prior-year's scope of testing; or b) reducing related evidence obtained. The number of transaction-level controls may be reduced significantly, particularly for lower-risk accounts. The key SEC principle regarding evidence decisions can be summarized as follows: "Align

4028-831: The CAS Board decided that the CAS should participate in the initiative to develop a global ERM designation, and make a final decision at some later date. In 2007, the Society of Actuaries developed the Chartered Enterprise Risk Analyst (CERA) credential in response to the growing field of enterprise risk management. This is the first new professional credential to be introduced by the SOA since 1949. A CERA studies to focus on how various risks, including operational, investment, strategic, and reputational combine to affect organizations. CERAs work in environments beyond insurance, reinsurance and

4134-457: The Director of Internal Audit; (b) Review and discuss with management and the external auditors and approve the audited financial statements of the organization and make a recommendation regarding inclusion of those financial statements in any public filing. Also review with management and the independent auditor the effect of regulatory and accounting initiatives as well as off-balance sheet issues in

4240-514: The PCAOB regarding small public firms provided several factors to consider in assessing precision. Internal control plays an important role in the prevention and detection of fraud . Under the Sarbanes-Oxley Act, companies are required to perform a fraud risk assessment and assess related controls. This typically involves identifying scenarios in which theft or loss could occur and determining if existing control procedures effectively manage

4346-520: The SEC has since approved, external auditors are no longer required to provide an opinion on management's assessment of its own internal controls. Detailed guidance about performing the TDRA is included with PCAOB Auditing Standard No. 5 (Release 2007-005 "An audit of internal control over financial reporting that is integrated with an audit of financial statements") and the SEC's interpretive guidance (Release 33-8810/34-55929) "Management's Report on Internal Control Over Financial Reporting". This guidance

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4452-455: The SOX 404 assessment as efficient as possible. Some are more long-term in nature (such as centralization and automation of processing) while others can be readily implemented. Frequent interaction between management and the external auditor is essential to determining which efficiency strategies will be effective in each company's particular circumstances and the extent to which control scope reduction

4558-472: The accounting department information, economic and stock market variables, etc.) Communication interfaces, changes (people, process or systems), fraud vulnerability, management override of controls, incentive structure, complex transactions, and degree of judgment or human intervention involved in processing are other high-risk topics. In general, management considers questions such as: What is really difficult to get right? What accounting problems have we had in

4664-414: The achievement of operational or strategic goals, and compliance with laws and regulations. At the specific transaction level, internal controls refers to the actions taken to achieve a specific objective (e.g., how to ensure the organization's payments to third parties are for valid services rendered.) Internal control procedures reduce process variation, leading to more predictable outcomes. Internal control

4770-504: The acronym, "PERCV," (pronounced, "perceive"): For example, a validity control objective might be: "Payments are made only for authorized products and services received." A typical control procedure would be: "The payable system compares the purchase order, receiving record, and vendor invoice prior to authorizing payment." Management is responsible for implementing appropriate controls that apply to all transactions in their areas of responsibility. Control activities may also be explained by

4876-547: The aforementioned procedures will be performed as intended: right attitudes, integrity and competence, and monitoring by managers. According to the COSO Framework, everyone in an organization has responsibility for internal control to some extent. Virtually all employees produce information used in the internal control system or take other actions needed to affect control. Also, all personnel should be responsible for communicating upward problems in operations, non-compliance with

4982-719: The aggregate control system of the organization, which is composed of many individual control procedures. Discrete control procedures, or controls are defined by the SEC as: "...a specific set of policies, procedures, and activities designed to meet an objective. A control may exist within a designated function or activity in a process. A control’s impact ... may be entity-wide or specific to an account balance, class of transactions or application. Controls have unique characteristics – for example, they can be: automated or manual; reconciliations; segregation of duties; review and approval authorizations; safeguarding and accountability of assets; preventing or detecting error or fraud. Controls within

5088-444: The auditor. This documentation may be referred to in practice as the "significant account analysis." Accounts with large balances are generally presumed to be significant (i.e., in-scope) and require some type of testing. New under the SEC guidance is the concept of also rating each significant account for "misstatement risk" (low, medium, or high), based on similar factors used to determine significance. The misstatement risk ranking

5194-555: The benchmarking concept. Benchmarking allows fully automated IT application controls to be excluded from testing if certain IT change management controls are effective. For example, many companies rely heavily on manual interfaces between systems, with spreadsheets created for downloading and uploading manual journal entries. Some companies process thousands of such entries each month. By automating manual journal entries, both labor and SOX assessment costs may be dramatically reduced. In addition,

5300-513: The business processes. There are laws and regulations on internal control related to financial reporting in a number of jurisdictions. In the U.S. these regulations are specifically established by Sections 404 and 302 of the Sarbanes-Oxley Act . Guidance on auditing these controls is specified in Internal control can provide reasonable, not absolute, assurance that the objectives of an organization will be met. The concept of reasonable assurance implies

5406-528: The casualty actuarial perspective, and also included a vocabulary, conceptual and technical foundations, actual practice and applications, and case studies. The CAS has specific stated ERM goals, including being "a leading supplier internationally of educational materials relating to Enterprise Risk Management (ERM) in the property casualty insurance arena," and has sponsored research, development, and training of casualty actuaries in that regard. The CAS has refrained from issuing its own credential; instead, in 2007,

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5512-447: The chief executive officer, chief operating officer (if applicable), chief financial officer, general counsel, senior human resources officer, treasurer, director, corporate relations and management, and company directors; (c) Review, as appropriate, any changes to compensation matters for the officers listed above with the board; and (d)Review and monitor all human-resource related performance and compliance activities and reports, including

5618-432: The code of conduct, or other policy violations or illegal actions. Each major entity in corporate governance has a particular role to play: The Chief Executive Officer (the top manager) of the organization has overall responsibility for designing and implementing effective internal control. More than any other individual, the chief executive sets the " tone at the top " that affects integrity and ethics and other factors of

5724-454: The committee must discuss guidelines and policies to govern the process by which risk assessment and management is undertaken. Many companies, particularly financial companies, manage and assess their risk through mechanisms other than the audit committee. The processes these companies have in place should be reviewed in a general manner by the audit committee, but they need not be replaced by the audit committee." Standard & Poor's (S&P),

5830-527: The consulting markets, including broader financial services, energy, transportation, media, technology, manufacturing and healthcare. It takes approximately three to four years to complete the CERA curriculum which combines basic actuarial science, ERM principles and a course on professionalism. To earn the CERA credential, candidates must take five exams, fulfill an educational experience requirement, complete one online course, and attend one in-person course on professionalism. Initially all CERAs were members of

5936-527: The context of the ICFR risk related to a given control: Pervasive factors that also affect the evidence considerations above include: Management has significant discretion in who performs its testing. The SEC guidance indicates that the objectivity of the person testing a given control should increase proportionally to the ICFR risk related to that control. Therefore, techniques such as self-assessment are appropriate for lower-risk areas, while internal auditors (or

6042-467: The control objective, only stated in the negative. Management develops a listing of MMR, linked to the specific accounts and/or control objectives developed above. MMR may be identified by asking the question: "What can go wrong related to the account, assertion or objective?" MMR may arise within the accounting function (e.g., regarding estimates, judgments, and policy decisions) or the internal and external environment (e.g., corporate departments that feed

6148-457: The control process occurred between the interim and year-end period, may be sufficient in many cases to limit roll-forward testing. Revisit scope of locations or business units assessed: This is a complex area requiring substantial judgment and analysis. The 2007 guidance focused on specific MMR, rather than dollar magnitude in determining the scope and sufficiency of evidence to be obtained at decentralized units. The interpretation (common under

6254-403: The control. ICFR is the key risk concept used in evidence decisions. The ICFR rating is captured for each control statement. Larger companies typically have hundreds of significant accounts, risk statements, and control statements. These have a "many to many" relationship, meaning risks can apply to multiple accounts and controls can apply to multiple risks. The guidance provides flexibility in

6360-467: The controls are properly designed, implemented and working effectively, and make recommendations on how to improve internal control. They may also review Information technology controls , which relate to the IT systems of the organization. To provide reasonable assurance that internal controls involved in the financial reporting process are effective, they are tested by the external auditor (the organization's public accountants), who are required to opine on

6466-416: The controls of the company, to form a conclusion about the 17 principles (i.e., each principle has several relevant points of focus). Most of the principles and points of focus relate to entity-level controls. As of June 2013 the approaches used in practice were in the early stages of development. One approach would be to add the principles and points of focus as criteria within a database and reference each to

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6572-458: The controls related to the MMR should then be performed. Monitoring controls, such as detailed performance review meetings with robust reporting packages, should also be considered to limit transaction-specific testing. Focus IT general control (ITGC) testing: ITGC are not included in the definition of entity-level controls under the SEC or PCAOB guidance. Therefore, ITGC testing should be performed to

6678-621: The debt rating agency, plans to include a series of questions about risk management in its company evaluation process. This will rollout to financial companies in 2007. The results of this inquiry is one of the many factors considered in debt rating, which has a corresponding impact on the interest rates lenders charge companies for loans or bonds. On May 7, 2008, S&P also announced that it would begin including an ERM assessment in its ratings for non-financial companies starting in 2009, with initial comments in its reports during Q4 2008. International Finance Corporation Performance Standards focus on

6784-401: The effectiveness of controls. Objectives help set the context and boundaries in which risk assessment occurs. The COSO Internal Control-Integrated Framework, a standard of internal control widely used for SOX compliance, states: "A precondition to risk assessment is the establishment of objectives..." and "Risk assessment is the identification and analysis of relevant risks to achievement of

6890-510: The end of key COSO chapters and in the "Evaluation Tools" volume; these can be modified into objective statements. An example of an assertion-level control objective is "Revenue is recognized only upon the satisfaction of a performance obligation." Lists of assertion-level control objectives are available in most financial auditing textbooks. Excellent examples are also available in AICPA Statement on Auditing Standards No. 110 (SAS 110) for

6996-428: The enterprise (e.g., strategic plans, competitive benchmarking, and SOX 404 top-down risk assessment ), consideration of prior audits, and interviews with a variety of senior management. It is designed for identifying audit projects, not to identify, prioritize, and manage risks directly for the enterprise. The risk management processes of corporations worldwide are under increasing regulatory and private scrutiny. Risk

7102-580: The enterprise, designed to identify potential events that may affect the entity, and manage risk to be within its risk appetite , to provide reasonable assurance regarding the achievement of entity objectives." The COSO ERM Framework has eight components and four objectives categories. It is an expansion of the COSO Internal Control -Integrated Framework published in 1992 and amended in 1994. The eight components are: The four objectives categories - additional components highlighted - are: ISO 31000

7208-437: The entity has complete right/obligation arising from such assets (e.g. if they are leased, it must be disclosed accordingly). Further such fixed assets must be disclosed and represented correctly in the financial statement according to the financial reporting framework applicable to the company. Controls may be defined against the particular financial statement assertion to which they relate. There are five such assertions forming

7314-409: The equivalent) generally should test higher-risk areas. An intermediate technique in practice is "quality assurance," where manager A tests manager B's work, and vice versa. The external auditors ability to rely on management's testing follows similar logic. Reliance is proportional to the competence and objectivity of the management person that completed the testing, also in the context of risk. For

7420-477: The extent it addresses specific MMR. By nature, ITGC enables management to place reliance on fully automated application controls (i.e., those that operate without human intervention) and IT-dependent controls (i.e., those that involve the review of automatically generated reports). Focused ITGC testing is merited to support the control objectives or assertions that fully automated controls have not been changed without authorization and that control reporting generated

7526-444: The external independent auditor. Monitor management's response to all audit findings; (e) Manage complaints concerning accounting, internal accounting controls or auditing matters; (f) Receive regular reports from the chief executive officer, chief financial officer and the company's other control committees regarding deficiencies in the design or operation of internal controls and any fraud that involves management or other employees with

7632-526: The following steps: Under the PCAOB AS 5 guidance, the auditor is required to determine whether an account is "significant" or not (i.e., yes or no), based on a series of risk factors related to the likelihood of financial statement error and magnitude (dollar value) of the account. Significant accounts and disclosures are in-scope for assessment, so management typically includes this information in its documentation and generally performs this analysis for review by

7738-432: The function should not take any direct responsibility for making risk management decisions for the enterprise or managing the risk-management function. Internal auditors typically perform an annual risk assessment of the enterprise, to develop a plan of audit engagements for the upcoming year. This plan is updated at various frequencies in practice. This typically involves review of the various risk assessments performed by

7844-416: The highest risk areas, such as the control environment and period-end reporting process, internal auditors or compliance teams are likely the best choices to perform testing, if a significant degree of reliance is expected from the external auditor. The ability of the external auditor to rely on management's assessment is a major cost factor in compliance. There are a variety of specific opportunities to make

7950-403: The influence of the chief executive, often an owner-manager, is usually more direct. In any event, in a cascading responsibility, a manager is effectively a chief executive of his or her sphere of responsibility. Of particular significance are financial officers and their staffs, whose control activities cut across, as well as up and down, the operating and other units of an enterprise. Management

8056-402: The internal and external environment facing the enterprise. Management selects a risk response strategy for specific risks identified and analyzed, which may include: Monitoring is typically performed by management as part of its internal control activities, such as review of analytical reports or management committee meetings with relevant experts, to understand how the risk response strategy

8162-457: The internal control system is thought of by executives as only a means of preventing fraud and complying with laws and regulations, an important opportunity may be missed. Internal controls can also be used to systematically improve businesses, particularly in regard to effectiveness and efficiency. SOX 404 top-down risk assessment In financial auditing of public companies in the United States, SOX 404 top–down risk assessment (TDRA)

8268-430: The internal controls of the company and the reliability of its financial reporting. The role and the responsibilities of the audit committee, in general terms, are to: (a) Discuss with management, internal and external auditors and major stakeholders the quality and adequacy of the organization's internal controls system and risk management process, and their effectiveness and outcomes, and meet regularly and privately with

8374-402: The inventory process. SAS 106 includes the latest guidance on financial statement assertions. Control objectives may be organized within processes, to help organize the documentation, ownership and TDRA approach. Typical financial processes include expense & accounts payable (purchase to payment), payroll, revenue and accounts receivable (order to cash collection), capital assets, etc. This

8480-431: The key journal entries and account reconciliations as separate efforts enables additional efficiency and focus to be brought to these critical controls. Rely on direct entity-level controls: The guidance emphasizes identifying which direct entity-level controls, particularly the period-end process and certain monitoring controls, are sufficiently precise to remove assertion-level (transactional) controls from scope. The key

8586-435: The likelihood of material error presented by the MMR to a "remote" probability. This level of assurance is required because a material weakness must be disclosed if there is a "reasonably possible" or "probable" possibility of a material misstatement of a significant account. Even though multiple controls may bear on the risk, only those that address it as defined above are included in the assessment. In practice, these are called

8692-401: The management embodied in the financial statements. For example, if a Financial Statement shows a balance of $ 1,000 worth of Fixed Assets , this implies that the management asserts that fixed assets actually exist as on the date of the financial statements, the valuation of which is worth exactly $ 1000 (based on historical cost or fair value depending on the reporting framework and standards) and

8798-798: The management of Health, Safety, Environmental and Social risks and impacts. The third edition was published on January 1, 2012 after a two-year negotiation process with the private sector, governments and civil society organizations. They have been adopted by the Equator Principles Banks, a consortium of over 118 commercial banks in 37 countries. Data privacy rules, such as the European Union 's General Data Protection Regulation , increasingly foresee significant penalties for failure to maintain adequate protection of individuals' personal data such as names, e-mail addresses and personal financial information, or alert affected individuals when data privacy

8904-455: The material misstatement risks ("MMR"). Note that this is a slight amendment to the "more than remote" likelihood language of PCAOB AS2, intended to limit the scope to fewer, more critical material risks and related controls. An example of a risk statement corresponding to the above assertion level control objective might be: "The risk that revenue is recognized before the delivery of products and services." Note that this reads very similarly to

9010-545: The nature, timing and extent of evaluation procedures on those areas that pose the greatest risks to reliable financial reporting." The SEC has indicated that the sufficiency of evidence required to support the assessment of specific MMR should be based on two factors: a) Financial Element Misstatement Risk ("Misstatement Risk") and b) Control Failure Risk. These two concepts together (the account- or disclosure-related risks and control-related risks) are called "Internal Control over Financial Reporting Risk" or "ICFR" risk. A diagram

9116-405: The objective and risk statements when describing MMR. These MMR statements serve as a target, focusing efforts to identify mitigating controls . For each MMR, management determines which control (or controls) address the risk "sufficiently" and "precisely" (PCAOB AS#5) or "effectively" (SEC Guidance) enough to mitigate it. The word "mitigate" in this context means the control (or controls) reduces

9222-650: The objectives." The SOX guidance states several hierarchical levels at which risk assessment may occur, such as entity, account, assertion, process, and transaction class. Objectives, risks, and controls may be analyzed at each of these levels. The concept of a top-down risk assessment means considering the higher-levels of the framework first, to filter from consideration as much of the lower-level assessment activity as possible. There are many approaches to top-down risk assessment. Management may explicitly document control objectives, or use texts and other references to ensure their risk statement and control statement documentation

9328-578: The organization's financial statements; (c) Review and discuss with management the types of information to be disclosed and the types of presentations to be made with respect to the company's earning press release and financial information and earnings guidance provided to analysts and rating agencies; (d) Confirm the scope of audits to be performed by the external and internal auditors, monitor progress and review results and review fees and expenses. Review significant findings or unsatisfactory internal audit reports, or audit problems or difficulties encountered by

9434-461: The organization. Staff and junior managers may be involved in evaluating the controls within their own organizational unit using a control self-assessment . Advances in technology and data analysis have led to the development of numerous tools which can automatically evaluate the effectiveness of internal controls. Used in conjunction with continuous auditing , continuous controls monitoring provides assurance on financial information flowing through

9540-451: The past? What has changed? Who might be capable or motivated to commit fraud or fraudulent financial reporting? As a high percentage of financial frauds historically have involved the overstatement of revenue, such accounts typically merit additional attention. AICPA Statement on Auditing Standards No. 109 (SAS 109) also provides helpful guidance regarding financial risk assessment. Under the 2007 guidance, companies are required to perform

9646-786: The performance management system. They also ensure that benefit-related performance measures are properly used by the management of the organization. All staff members should be responsible for reporting problems of operations, monitoring and improving their performance, and monitoring non-compliance with the corporate policies and various professional codes, or violations of policies, standards, practices and procedures. Their particular responsibilities should be documented in their individual personnel files. In performance management activities they take part in all compliance and performance data collection and processing activities as they are part of various organizational units and may also be responsible for various compliance and operational-related activities of

9752-425: The pre-2007 guidance) that a unit or group of units was material and therefore a large number of controls across multiple processes require testing irrespective of risk, has been superseded. Where account balances from single units or groups of similar units are a material portion of the consolidated account balance, management should carefully consider whether MMR may exist in a particular unit. Testing focused on just

9858-402: The relevant controls that address them. One definition of risk is anything that can interfere with the achievement of an objective. A risk statement is an expression of "what can go wrong." Under the 2007 guidance (i.e., SEC interpretive guidance and PCAOB AS5), those risks that inherently have a "reasonably possible" likelihood of causing a material error in the account balance or disclosure are

9964-644: The reliability of financial statements is improved. Review testing approach and documentation: Many companies or external audit firms mistakenly attempted to impose generic frameworks over unique transaction-level processes or across locations. For instance, most of the COSO Framework elements represent indirect entity-level controls, which should be tested separately from transactional processes. In addition, IT security controls (a subset of ITGC) and shared service controls can be placed in separate process documentation, enabling more efficient assignment of test responsibility and removing redundancy across locations. Testing

10070-412: The risk management processes of companies. According to Thomas Stanton of Johns Hopkins University, the point of enterprise risk management is not to create more bureaucracy, but to facilitate discussion on what the really big risks are. There are various important ERM frameworks, each of which describes an approach for identifying, analyzing, responding to, and monitoring risks and opportunities, within

10176-570: The risk to an acceptable level. The risk that senior management might override important financial controls to manipulate financial reporting is also a key area of focus in fraud risk assessment. The AICPA, IIA, and ACFE also sponsored a guide published during 2008 that includes a framework for helping organizations manage their fraud risk. Controls can be evaluated and improved to make a business operation run more effectively and efficiently. For example, automating controls that are manual in nature can save costs and improve transaction processing. If

10282-574: The risks effectively. The primary risk functions in large corporations that may participate in an ERM program typically include: Various consulting firms offer suggestions for how to implement an ERM program. Common topics and challenges include: In addition to information technology audit, internal auditors play an important role in evaluating the risk-management processes of an organization and advocating their continued improvement. However, to preserve its organizational independence and objective judgment, Internal Audit professional standards indicate

10388-411: The risks. Risks and controls may be entity-level or assertion-level under the PCAOB guidance. Entity-level controls are identified to address entity-level risks. However, a combination of entity-level and assertion-level controls are typically identified to address assertion-level risks. The PCAOB set forth a three-level hierarchy for considering the precision of entity-level controls. Later guidance by

10494-426: The scope of internal control; therefore, effective internal control provides only timely information or feedback on progress towards the achievement of operational and strategic objectives, but cannot guarantee their achievement. Internal controls may be described in terms of: a) the pertinent objective or financial statement assertion b) the nature of the control activity itself. Assertions are representations by

10600-519: The scope of the SOX404 assessment effort and determine the evidence required. Key steps include: Management is required to document how it has interpreted and applied its TDRA to arrive at the scope of controls tested. In addition, the sufficiency of evidence required (i.e., the timing, nature, and extent of control testing) is based upon management (and the auditor's) TDRA. As such, TDRA has significant compliance cost implications for SOX404. The guidance

10706-452: The scoping assessment above. The low, medium, or high ranking assessed should also be associated with the risk statements and control statements related to the account. One way of accomplishing this is to include the ranking within the risk statement and control statement documentation of the company. Many companies use databases for this purpose, creating data fields within their risk and control documentation to capture this information. CFR

10812-445: The timing, nature and extent of evidence based on the interaction of Misstatement Risk and Control Failure Risk (together, ICFR Risk). These two factors should be used to update the "Sampling and Evidence Guide" used by most companies. As these two risk factors increase, the sufficiency of evidence required to address each MMR increases. Management has significant flexibility regarding the following testing and evidence considerations, in

10918-446: The two dimensions of risk type and risk management processes. The risk types and examples include: The risk management process involves: The COSO "Enterprise Risk Management-Integrated Framework" published in 2004 (New edition COSO ERM 2017 is not Mentioned and the 2004 version is outdated) defines ERM as a "…process, effected by an entity's board of directors, management, and other personnel, applied in strategy setting and across

11024-512: The type or nature of activity. These include (but are not limited to): Control precision describes the alignment or correlation between a particular control procedure and a given control objective or risk. A control with direct impact on the achievement of an objective (or mitigation of a risk) is said to be more precise than one with indirect impact on the objective or risk. Precision is distinct from sufficiency; that is, multiple controls with varying degrees of precision may be involved in achieving

11130-622: Was a dual administration, with one set of bureaucrats charged with collecting taxes and another with supervising them. In the Republic of China , the Supervising Authority (检察院; pinyin : Jiǎnchá Yùan), one of the five branches of government, is an investigatory agency that monitors the other branches of government. There are many definitions of internal control, as it affects the various constituencies (stakeholders) of an organization in various ways and at different levels of aggregation. Under

11236-436: Was included in the guidance (shown in this section) to illustrate this concept; it is the only such diagram, which indicates the emphasis placed on it by the SEC. ICFR risk should be associated with the in-scope controls identified above and may be part of that analysis. This involves the following steps: Management assigned a misstatement risk ranking (high, medium or low) for each significant account and disclosure as part of

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