Industry Insights

Benefits of an Effective Internal Control Environment

June 2010
Author:  Jason Myers

Jason Myers

Director

Construction & Real Estate, Manufacturing & Distribution

201 N. Illinois Street, Suite 700
P.O. Box 44998
Indianapolis, IN 46244-0998 (46204)

Indianapolis
317.383.4000

Since the implementation of the Sarbanes-Oxley Act of 2002 (SOX), the emphasis on an organization’s internal control over financial accounting and reporting has been much greater, even for private companies. While companies may view internal control as a hassle and a potentially expensive investment, the benefits of maintaining effective internal control far outweigh the costs, when implemented strategically.

When we consider internal control, we often think of segregation of duties, misappropriation of assets and, most severely, fraud. While these issues are extremely important to a company, there are many benefits to be gained from effectively designed and implemented internal control. Controls give increased credibility with lenders and vendors, provide for more timely and accurate financial data for decision makers and create a more efficient and value-added audit.

Increased Credibility with Lenders & Vendors

During these difficult economic times, many lenders and vendors have heightened their focus on companies they do business with. Effective internal control instills confidence with lenders and vendors as they help to prevent unforeseen litigation, negative situations and/or business disruptions. Inaccurate reporting and errors can be mitigated by implementing preventive and detective controls that can be as simple as routine reconciliations. This results in adhering to debt and/or customer agreements, thereby building credibility with both lenders and vendors as business continues uninterrupted.

Provide for More Timely & Accurate Financial Data for Decision Makers

We consistently hear from our clients, “If I only would have known this earlier,” or “Why didn’t we identify this several months ago?” Through the implementation of strategic preventive controls centered on the financial reporting process, the company’s key decision makers will be able to make better decisions. A decision maker can only make decisions based on the facts and circumstances known to them. If the facts and circumstances can be accurately presented in real time, this alone will help improve the success rate on key decisions that can ultimately lead to a company’s success or demise.

Create a More Efficient & Value-Added Audit

Auditors may be able to reduce substantive audit testing if controls are determined to be effective. With effective internal control, “… we [BKD] may often be able to modify the nature and/or timing and/or reduce the quantity of substantive procedures performed. The reduction in substantive procedures will be realized in audit year one and even more in audit years two and three when tests of operating effectiveness would not have to be repeated, unless material changes have occurred to the business process or controls or a significant risk is involved.”1 This reduction in time on audit testing will allow for other value-added procedures and recommendations to management, which ultimately can lead to a more value-added and efficient audit engagement.

Internal control may appear to be a time-consuming and expensive investment; however, the many benefits from creating and maintaining effective internal control over financial reporting far outweigh the risks of not having them. In our current economic environment, business owners are cutting costs in all areas, yet those who believe the cost of internal controls is too great should consider more than just the obvious benefits. Most companies envision internal control requiring additional employees, adding new systems or even a complete overhaul of the current business environment.

While big changes may be necessary in some situations, this is not always the case. The changes may be as simple as re-evaluating an underutilized existing system or reorganizing employees to increase responsibilities, resulting in a greater value to your business. It is not always a matter of increasing expenses, employees or adding new standards. It is simply a matter of evaluating the current structure and adjusting in areas where inefficiencies can be turned into opportunities.

For more information on this issue or related matters, please consult your BKD advisor.


1 AAM1009 “Interim Audit Procedures and Controls-based Auditing for Non-public Entities and Non-Statement on Standards for Attestation Engagements No.15, An Examination of an Entity’s Internal Control Over Financial Reporting that is Integrated With an Audit of Its Financial Statements (SSAE 15) Engagements”