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CPE for Government Auditors

Pulling It All Together

What’s the matter with the crowd I’m seeing?
“Don’t you know that they’re out of touch?”
Should I try to be a straight-A student?
“If you are then you think too much.
Don’t you know about the new fashion, honey?
All you need are looks and a whole lot of money?”
It’s the next phase, new wave, dance craze, anyways
It’s still rock and roll to me.
Everybody’s talkin’ ‘bout the new sound
Funny, but it’s still rock and roll to me.
It’s Still Rock and Roll to Me, Billy Joel

Objectives:

  • Sequence the steps of developing an internal control structure

Whew!  You made it. We are in the last chapter! Congrats, you have held on through a long case study and a complicated model.

In this final chapter, we are taking another look at the steps of creating a control structure from scratch which will also serve as a review of this text. I will quote various excerpts from the Green Book as I go.  Also, we will address what happens when auditors visit to evaluate your controls.

Steps of developing controls

As I see it, the steps of developing controls are as follows:

1.Choose a subject matter

Maybe you have been asked to develop controls for a whole organization or just a segment of an organization.  In either case, you will benefit from breaking your subject matter down into smaller more defined segments because it is easier to imagine controls for something specific than to imagine controls for something broad.

For instance, if I asked you to control the University of Michigan, you would probably walk out the door never to come back!  But if I asked you to control student financial aid at the University of Michigan, you would feel better.  If I asked you to set up controls to make sure that student financial aid at the University of Michigan is distributed on time, you’d feel super because that is very doable!

The side of the COSO cube prompts us to break the subject matter down into segments.  In the COSO and Green Book literature, the side of the cube is dubbed the ’levels of organizational structure.’  I think of it instead as ‘what’ you are planning to control.

2. Focus on what is risky

Now that you have broken the organization up into segments, you can hone in on the segments that are the most likely to cause trouble.

Risk assessment is the second control component on the face of COSO model, but it is, in practice, the first component you consider when establishing controls.

For each piece, you ask four questions:

  1. What could go wrong?
  2. So what?
  3. How big of a deal is the ‘so what?’
  4. How likely are things to go wrong?

Here are the terms the Green Book uses for all of these questions:

  1. What could go wrong? The Green Book calls the answer to this question ‘identified risks.’
  2. So what?  The Green Book calls this ‘significance.’
  3. How big a deal is the so what?  The Green Book calls this ‘magnitude.’
  4. How likely are things to go wrong?  The Green book calls this ‘likelihood.’

From the Green Book:

7.05 Management analyzes the identified risks to estimate their significance, which provides a basis for responding to the risks. Significance refers to the effect on achieving a defined objective. 

7.06 Management estimates the significance of the identified risks to assess their effect on achieving the defined objectives at both the entity and transaction levels. Management estimates the significance of a risk by considering the magnitude of impact, likelihood of occurrence, and nature of the risk. Magnitude of impact refers to the likely magnitude of deficiency that could result from the risk and is affected by factors such as the size, pace, and duration of the risk’s impact. Likelihood of occurrence refers to the level of possibility that a risk will occur. The nature of the risk involves factors such as the degree of subjectivity involved with the risk and whether the risk arises from fraud or from complex or unusual transactions. The oversight body may oversee management’s estimates of significance so that risk tolerances have been properly defined. 

3. Decide if you want to tolerate the risk

When you are confronted with a risk, you have four choices of how to handle it:  you can accept it and live with the possible consequences, you can avoid it by not doing the activity, you can mitigate it by layering on controls or you can ask someone else to take on responsibility for it.

If you choose to keep on doing or to tolerate the activity that causes the risk, but you’d rather not suffer from this choice, you will proceed through the rest of the steps laid out here to help you create the controls to mitigate the risk.  Mitigate is a fancy word for ‘reduce.’

From the Green Book:

7.08 Management designs responses to the analyzed risks so that risks are within the defined risk tolerance for the defined objective. Management designs overall risk responses for the analyzed risks based on the significance of the risk and defined risk tolerance. These risk responses may include the following: 

  • Acceptance - No action is taken to respond to the risk based on the insignificance of the risk. 
  • Avoidance - Action is taken to stop the operational process or the part of the operational process causing the risk. 
  • Reduction - Action is taken to reduce the likelihood or magnitude of the risk. 
  • Sharing - Action is taken to transfer or share risks across the entity or with external parties, such as insuring against losses. 
8.06 Management analyzes and responds to identified fraud risks so that they are effectively mitigated. Fraud risks are analyzed through the same risk analysis process performed for all identified risks…


4. Come up with a control objective

In order to focus your efforts and make sure that everyone is clear about what you are working toward, the Green Book recommends you come up with a clear control objective.

The Green Book talks about objectives in two layers.  In one layer, they ask you to consider ‘why’ you want to control something.   Is it because you are concerned about operations, compliance or reporting? The GAO calls these ‘categories of objectives’ and they are listed on the top of the cube.
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OV1.01 Internal control is a process effected by an entity’s oversight body, management, and other personnel that provides reasonable assurance that the objectives of an entity will be achieved (see fig. 2). These objectives and related risks can be broadly classified into one or more of the following three categories: 

  • Operations - Effectiveness and efficiency of operations 
  • Reporting - Reliability of reporting for internal and external use 
  • Compliance - Compliance with applicable laws and regulations 

OV1.02 These are distinct but overlapping categories. A particular objective can fall under more than one category, can address different needs, and may be the direct responsibility of different individuals. 
Operations Objectives 

OV2.19 Operations objectives relate to program operations that achieve an entity’s mission. An entity’s mission may be defined in a strategic plan. Such plans set the goals and objectives for an entity along with the effective and efficient operations necessary to fulfill those objectives. Effective operations produce the intended results from operational processes, while efficient operations do so in a manner that minimizes the waste of resources. 

OV2.20 Management can set, from the objectives, related subobjectives for units within the organizational structure. By linking objectives throughout the entity to the mission, management improves the effectiveness and efficiency of program operations in achieving the mission. 

Reporting Objectives 

OV2.21 Reporting objectives relate to the preparation of reports for use by the entity, its stakeholders, or other external parties. Reporting objectives may be grouped further into the following subcategories: 

  • External financial reporting objectives - Objectives related to the release of the entity’s financial performance in accordance with professional standards, applicable laws and regulations, as well as expectations of stakeholders. 
  • External nonfinancial reporting objectives - Objectives related to the release of nonfinancial information in accordance with appropriate standards, applicable laws and regulations, as well as expectations of stakeholders. 
  • Internal financial reporting objectives and nonfinancial reporting objectives - Objectives related to gathering and communicating information needed by management to support decision making and evaluation of the entity’s performance. 

Compliance Objectives

OV2.22 In the government sector, objectives related to compliance with applicable laws and regulations are very significant. Laws and regulations often prescribe a government entity’s objectives, structure, methods to achieve objectives, and reporting of performance relative to achieving objectives. Management considers objectives in the category of compliance comprehensively for the entity and determines what controls are necessary to design, implement, and operate for the entity to achieve these objectives effectively. 

OV2.23 Management conducts activities in accordance with applicable laws and regulations. As part of specifying compliance objectives, the entity determines which laws and regulations apply to the entity. Management is expected to set objectives that incorporate these requirements. Some entities may set objectives to a higher level of performance than established by laws and regulations. In setting those objectives, management is able to exercise discretion relative to the performance of the entity. 

But later in the book, the GAO drills down into the categories and describes the need for a specific, customized control objective.

6.02 Management defines objectives in specific and measurable terms to enable the design of internal control for related risks. Specific terms are fully and clearly set forth so they can be easily understood. Measurable terms allow for the assessment of performance toward achieving objectives. Objectives are initially set as part of the objective-setting process and then refined as they are incorporated into the internal control system when management uses them to establish the control environment. 

6.03 Management defines objectives in specific terms so they are understood at all levels of the entity. This involves clearly defining what is to be achieved, who is to achieve it, how it will be achieved, and the time frames for achievement. All objectives can be broadly classified into one or more of three categories: operations, reporting, or compliance. Reporting objectives are further categorized as being either internal or external and financial or nonfinancial. Management defines objectives in alignment with the organization’s mission, strategic plan, and performance goals. 

6.04 Management defines objectives in measurable terms so that performance toward achieving those objectives can be assessed. Measurable objectives are generally free of bias and do not require subjective judgments to dominate their measurement. Measurable objectives are also stated in a quantitative or qualitative form that permits reasonably consistent measurement. 

Our objective was, “Do controls deter the coach from using his purchasing card for personal purchases as defined by Grace School District Policy #C7.459?”

5. Compare the baseline to the ideal

Now it is time to talk to managers and find out if there are any existing controls in place.  This will be your baseline of controls.

16.02 Management establishes a baseline to monitor the internal control system. The baseline is the current state of the internal control system compared against management’s design of the internal control system. The baseline represents the difference between the criteria of the design of the internal control system and condition of the internal control system at a specific point in time. In other words, the baseline consists of issues and deficiencies identified in an entity’s internal control system. 

16.03 Once established, management can use the baseline as criteria in evaluating the internal control system and make changes to reduce the difference between the criteria and condition. Management reduces this difference in one of two ways. Management either changes the design of the internal control system to better address the objectives and risks of the entity or improves the operating effectiveness of the internal control system. As part of monitoring, management determines when to revise the baseline to reflect changes in the internal control system. 

Next, you will compare the baseline to the ideal:  the list of 17 principles.  When management has not already addressed a principle with a control or two, then you will need to design a control for that principle.  Remember, in order to judge a control system as effective, all five components and the underlying 17 principles should be in place!

OV3.03 To determine if an internal control system is effective, management assesses the design, implementation, and operating effectiveness of the five components and 17 principles. If a principle or component is not effective, or the components are not operating together in an integrated manner, then an internal control system cannot be effective. 

Appendix I: The 17 principles support the effective design, implementation, and operation of the associated components and represent requirements necessary to establish an effective internal control system. The 17 principle requirements of the Green Book are as follows: 

  1. The oversight body and management should demonstrate a commitment to integrity and ethical values. 
  2. The oversight body should oversee the entity’s internal control system. 
  3. Management should establish an organizational structure, assign responsibility, and delegate authority to achieve the entity’s objectives. 
  4. Management should demonstrate a commitment to recruit, develop, and retain competent individuals. 
  5. Management should evaluate performance and hold individuals accountable for their internal control responsibilities. 
  6. Management should define objectives clearly to enable the identification of risks and define risk tolerances. 
  7. Management should identify, analyze, and respond to risks related to achieving the defined objectives. 
  8. Management should consider the potential for fraud when identifying, analyzing, and responding to risks. 
  9. Management should identify, analyze, and respond to significant changes that could impact the internal control system. 
  10. Management should design control activities to achieve objectives and respond to risks. 
  11. Management should design the entity’s information system and related control activities to achieve objectives and respond to risks. 
  12. Management should implement control activities through policies. 
  13. Management should use quality information to achieve the entity’s objectives. 
  14. Management should internally communicate the necessary quality information to achieve the entity’s objectives. 
  15. Management should externally communicate the necessary quality information to achieve the entity’s objectives. 
  16. Management should establish and operate monitoring activities to monitor the internal control system and evaluate the results. 
  17. Management should remediate identified internal control deficiencies on a timely basis. 

6. Consider cost 

Before you run out and implement all of the controls you designed in the last step, stop and think about how much each of the controls is going to cost you.  Do you need to invest in technology to make the control work?  Or do you need to beef up your staff?  Also, consider whether the new controls will slow down processes and frustrate employees, suppliers and customers.  Excessive controls are also known as ‘red tape’ and ‘burdensome bureaucracy!’

OV4.07 Management may decide how an entity evaluates the costs versus benefits of various approaches to implementing an effective internal control system. However, cost alone is not an acceptable reason to avoid implementing internal controls. Management is responsible for meeting internal control objectives. The costs versus benefits considerations support management’s ability to effectively design, implement, and operate an internal control system that balances the allocation of resources in relation to the areas of greatest risk, complexity, or other factors relevant to achieving the entity’s objectives. 

7. Does it prevent, detect or correct?

Again, before you proceed with the hard work of implementing the controls you designed, take some time to evaluate whether each control is preventative, corrective, or detective.  Detective controls are nice, but stopping the risk before it happens would be better than cleaning up the mess after it happens. This is especially true when it comes to unacceptable risks such as death and injury.  Make sure you have a good mix of all three types of controls with a preponderance of preventative controls.

8. Document

At this point, you are working with a large volume of information.  Just in case you get a little overwhelmed and forgetful, you’d better write down everything you have worked on so far.  The GAO is pretty firm about documentation:

OV4.08 Documentation is a necessary part of an effective internal control system. The level and nature of documentation vary based on the size of the entity and the complexity of the operational processes the entity performs. Management uses judgment in determining the extent of documentation that is needed. Documentation is required for the effective design, implementation, and operating effectiveness of an entity’s internal control system. The Green Book includes minimum documentation requirements as follows: 

  • If management determines that a principle is not relevant, management supports that determination with documentation that includes the rationale of how, in the absence of that principle, the associated component could be designed, implemented, and operated effectively. (paragraph OV2.06) 
  • Management develops and maintains documentation of its internal control system. (paragraph 3.09) 
  • Management documents in policies the internal control responsibilities of the organization. (paragraph 12.02) 
  • Management evaluates and documents the results of ongoing monitoring and separate evaluations to identify internal control issues. (paragraph 16.09) 
  • Management evaluates and documents internal control issues and determines appropriate corrective actions for internal control deficiencies on a timely basis. (paragraph 17.05) 
  • Management completes and documents corrective actions to remediate internal control deficiencies on a timely basis. (paragraph 17.06) 

OV4.09 These requirements represent the minimum level of documentation in an entity’s internal control system. Management exercises judgment in determining what additional documentation may be necessary for an effective internal control system. If management identifies deficiencies in achieving these documentation requirements, the effect of the identified deficiencies is considered as part of management’s summary determination as to whether the related principle is designed, implemented, and operating effectively. 

9. Evaluate the design vs. operation

Once you have organized your thoughts and chosen controls for all five components and the 17 principles, someone has to put them into action.  That could take a while.  As usual, it is best to be patient and thorough instead of agitated and spotty.  Ha.  Agitated and spotty is a great title for a teen romance novel!

The GAO takes pains to mention the difference between the design of a control and the implementation of a control in over a dozen places in the Green Book.  Here are a few quotes:

OV2.13 Internal control is a dynamic, iterative, and integrated process in which components impact the design, implementation, and operating effectiveness of each other. No two entities will have an identical internal control system because of differences in factors such as mission, regulatory environment, strategic plan, entity size, risk tolerance, and information technology, and the judgment needed in responding to these differing factors. 

OV3.05 When evaluating design of internal control, management determines if controls individually and in combination with other controls are capable of achieving an objective and addressing related risks. When evaluating implementation, management determines if the control exists and if the entity has placed the control into operation. A control cannot be effectively implemented if it was not effectively designed. A deficiency in design exists when (1) a control necessary to meet a control objective is missing or (2) an existing control is not properly designed so that even if the control operates as designed, the control objective would not be met. A deficiency in implementation exists when a properly designed control is not implemented correctly in the internal control system. 

10. Evaluate whether you can declare your controls effective!

Sorry to say that your work isn’t done when you finish designing, documenting and implementing controls.  True to the monitoring component of the COSO model, you can’t just set things up and forget them.  You need to come back and evaluate whether everything you have set up is working, correct any unintended consequences of your efforts, improve controls and start the cycle all over again.

OV3.03 To determine if an internal control system is effective, management assesses the design, implementation, and operating effectiveness of the five components and 17 principles. If a principle or component is not effective, or the components are not operating together in an integrated manner, then an internal control system cannot be effective. 

This is a great place to introduce auditors back into our conversation because they may be able to help you ensure that the controls you designed are functioning properly.  That is what we will do in our next newsletter.

Chapter 13: Monitoring

Once there were parking lots
Now it’s a peaceful oasis
You’ve got it, you’ve got it

This was a Pizza Hut
Now it’s all covered with daisies
You got it, you got it

I miss the honky tonks,
Dairy Queens, and 7-Elevens
You got it, you got it

And as things fell apart
Nobody paid much attention
You got it, you got it

I dream of cherry pies,
Candy bars, and chocolate chip cookies
You got it, you got it

We used to microwave
Now we just eat nuts and berries
You got it, you got it

This was a discount store,
Now it’s turned into a cornfield
You’ve got it, you’ve got it

Don’t leave me stranded here
I can’t get used to this lifestyle

The Talking Heads: Nothing But Flowers

Atrophy – gradual decline in effectiveness or vigor due to underuse or neglect.

You can’t just “Set it and forget it” 

I love to multitask when doing household chores.  I feel very satisfied when the dishwasher and the clothes washer are running at the same time.  My satisfaction rises even more when I can get my oldest daughter to vacuum simultaneously while I tidy up the living areas.  If I can also have a sauce simmering on the stove while my youngest practices piano, I achieve domestic nirvana!

My drive to be working on several tasks at once has driven me to buy silly products. I used to use ‘Scrubbing Bubbles’ until I realized I was paying a lot of money for nothing.  It is a great idea to spray the shower and then walk away to let those little bubbles eat away the soap scum.  Nice theory, too bad it doesn’t work.

Remember the ads for Ronco Chicken Rotisserie? “Set it and forget it!”  What a great marketing spin.  I almost bought one of those.  I love to start something and then walk away from it and do something else.  This is why my husband does most of the cooking.  My repeated, unintentional ventures into Cajun style cooking – where everything is “blackened” – was getting old.

I wish we could just set our kids and work colleagues on the right path once.  I wish they would keep on the path and never wander off.  I wish people wouldn’t forget or rebel against what they were supposed to do.  But wishing ain’t gettin’!

This component of the COSO model reminds us that we can’t just set things up and forget them.  We can’t walk away from our cooking, our kids or our work processes and hope for the best. Our controls and processes have to be monitored or chaos (and burnt toast) eventually rules.

As a wise counselor once told me, life is like riding a boat headed down a winding river.  Just as you get the boat going straight, the river bends and you have to paddle, paddle, paddle to keep from hitting the shore.  And sometimes you overcorrect and end up hitting the opposite shore, and you have to moderate and change your pace.  You can’t just get on the river and hope to get to the end without any corrections. You are going to have to work really hard to keep you on the narrow path that is the middle of the river.

Design is worthless without implementation

Have you ever used the ‘set it and forget it’ method with a process or a control?  Have you ever designed a process or a control then walked away because you have other things to do? Too bad that doesn’t work.

Upon asking the athletic department staff why she stopped going out for three bids on major purchases – the staff person might say, “That was a lot of work.  No one ever checked to see if I was doing it, and I got tired of keeping all those records.  When I need to buy something, I don’t want to slow down to fill out all that paperwork!”

Here we have someone who doesn’t understand the importance of the control.  She reasons that it is too time consuming to go through the mandated steps when the result is always the same anyway.   She has a solid, logical justification for blowing off a well-designed control.

This is why we have to monitor controls.  We can’t just ask the staff person to do their job once and assume she is always going to do what we asked.

Monitoring has two layers

Some monitoring is contemporary and ongoing and some is occasional.  Which monitoring method you use depends on your control objective and the resources you have to dedicate to monitoring controls.  Monitoring is viewed by some as a luxury that their organization can’t afford and, therefore, is one of the least frequently implemented components of the COSO model/Green Book.

The Green Book describes these two types of monitoring as ongoing monitoring and separate evaluations.

16.04 Management monitors the internal control system through ongoing monitoring and separate evaluations. Ongoing monitoring is built into the entity’s operations, performed continually, and responsive to change. Separate evaluations are used periodically and may provide feedback on the effectiveness of ongoing monitoring. 

Ongoing monitoring includes reconciliations

Matching information to corresponding information from a different source is one of the best ways to make sure the information is correct.  Sometimes matching is called a reconciliation; sometimes it is called a comparison.  For instance, you might reconcile the general ledger record of purchases by the coach to the credit card statement, you might match the expense reports submitted by the coach to the credit card transactions or the general ledger, or you might match or compare the expense report to receipts.

16.05 Management performs ongoing monitoring of the design and operating effectiveness of the internal control system as part of the normal course of operations. Ongoing monitoring includes regular management and supervisory activities, comparisons, reconciliations, and other routine actions. Ongoing monitoring may include automated tools, which can increase objectivity and efficiency by electronically compiling evaluations of controls and transactions. 

Separate Evaluations

Separate evaluations are performed occasionally, not contemporarily.  Separate evaluations are best performed by someone who does not have responsibility for any of the processes or controls. It would be great if the monitor is truly independent of the subject matter and if this monitor would not suffer any negative consequences for telling the truth. For instance, the fine arts department could do a periodic review of the purchases made by the athletic department.  The arts department might actually enjoy monitoring and telling the truth about the athletic department!  A formal audit can also serve as a separate evaluation.

16.06 Management uses separate evaluations to monitor the design and operating effectiveness of the internal control system at a specific time or of a specific function or process. The scope and frequency of separate evaluations depend primarily on the assessment of risks, effectiveness of ongoing monitoring, and rate of change within the entity and its environment. Separate evaluations may take the form of self- assessments, which include cross operating unit or cross functional evaluations. 

16.07 Separate evaluations also include audits and other evaluations that may involve the review of control design and direct testing of internal control. These audits and other evaluations may be mandated by law and are performed by internal auditors, external auditors, the inspectors general, and other external reviewers. Separate evaluations provide greater objectivity when performed by reviewers who do not have responsibility for the activities being evaluated. 

Auditors beware!

Notice that auditors are not mentioned in the Green Book when discussing one of the types of monitoring – ongoing monitoring. There is a reason for that!  Auditors have to be careful NOT to get involved in the day-to-day management of programs and activities because they will compromise their auditor independence.  If an auditor helps manage a program, they will not be able to objectively evaluate the program.

The Institute of Internal Auditors encourages auditors to use a technology called ‘continuous monitoring’ to help catch errors and control breakdowns.  Continuous monitoring scans transactions continually and creates reports of outlying or unusual transactions.  Once the unusual transactions are identified, management or the auditor can follow up and resolve the outlying or unusual transactions.

The GAO is not a fan of auditors implementing continuous monitoring on behalf of management.  The GAO is much stricter about auditor independence than the Institute of Internal Auditors and expressly prohibits auditors from being involved in continuous monitoring in its Government Auditing Standards (Yellow Book).  In the GAO’s view, monitoring is the duty of management not the auditor, and when the auditor performs continuous monitoring, the auditor’s independence is impaired.

The last sentence of the following excerpt from the GAO’s Yellow Book is as firm an admonishment as the GAO can muster!

YB 2011 3.54 Accepting responsibility for designing, implementing or maintaining internal control includes accepting responsibility for designing, implementing, or maintaining monitoring procedures. Monitoring involves the use of either ongoing monitoring procedures or separate evaluations to gather and analyze persuasive information supporting conclusions about the effectiveness of the internal control system. Ongoing monitoring procedures performed on behalf of management are built into the routine, recurring operating activities of an organization. Therefore, the management participation threat created if an auditor performs or supervises ongoing monitoring procedures is so significant that no safeguards could reduce the threat to an acceptable level. 

Monitoring asks that you don’t assume, you verify

The monitoring component encourages managers not to assume that controls are working as they were designed, but instead, to put extra controls in place to ensure that controls are working as they were designed.  If you set it and forget it, a significant error or fraud can occur and go undetected because the controls you thought were in place were not actually in place.   Or you could end up wedged against the bank of the river holding a can of Scrubbing Bubbles and a piece of Cajun toast.  Neither of these is a desirable situation!

Another Layer to the Green Book

When I was younger, I was often unpleasantly surprised to find out that responsibilities have layers.  I thought I had gone through the final step… but no!  Instead I realized there was another step, another layer of complexity that needed to be embraced.  And then I found another layer and another layer.

I remember one moment of frustration regarding my ‘dream’ car vividly. When I was 16 I wanted a cool car so I could have more freedom, but first I had to pass the driving test.  Check.  Then I had to learn how to change a tire and add water and oil. Check.  Next, Dad withholds cool car and instead buys me a junky car because he imagined that I would bang up my first car (he was right). Check.

Dad decides I can handle a somewhat cooler car when I am 18.  Sweet!  Check.  Proceed to drive the somewhat cooler car slowly through a notorious speed trap in Houston only to get a ticket for having an expired inspection sticker.  What?  Wait.  What the heck is an inspection sticker? Nobody told me about annual inspections.  How much does that cost?

Well, I don’t want you finishing up this book about internal controls and then gasp, “Inspection stickers!  No one told me about inspection stickers!”  My dad’s response to my complaint was, “What did you think that big square thing with the date on it in the driver’s side window was?”  No good answer for that.

So I want to pause to cover another important layer of the COSO model that you may not have considered yet – although it sits right in the introduction of the Green Book– the requirement that the controls work together in an integrated manner.

Green Book: OV2.04 … The five components of internal control must be effectively designed, implemented, and operating, and operating together in an integrated manner, for an internal control system to be effective. 

Integrate the controls

What does ‘integrate’ mean?  Integrate means that various parts are linked together or coordinated.

Maybe an example will demonstrate what integrated controls look like.  Let’s say that your control objective is to prevent unallowable charges on credit cards issued to the buildings and maintenance folks.

The ideal controls sound like they both help satisfy the control objective AND belong together.  See if you can see how these controls fit together:

Control Environment:  Hire accountants skilled at performing reconciliations
Control Activity: Require buildings and maintenance employees submit receipts and invoices to support credit card charges
Monitoring: Accountants match receipts to invoices each month and evaluate charges for allowability.
Information and communication: Accounting emails a report detailing unallowable charges and un-reconciled/undocumented charges to the executive team each month

Several people have been very proud to show me their tricked out, ‘dream’ Green Book spreadsheet. One of my favorites was a spreadsheet that listed the 17 principles along the left hand side as row titles.  And then the 12 compliance items for federal programs were listed along the top as column headers.  The controls in place were the contents of the cells.  But I had to inform the proud creator that simply listing a control in a cell wasn’t all that needed to be done, the controls also needed to be integrated.  They were not happy.  Layer, layer, layer.

Iterative

Just like learning how to take care of a car, the process of creating controls is long and full of little surprises.  Whenever I see the word iterative, I now know what they really mean is you are now embracing the ‘never ending quest for improvement’.  Iterative also means that it will never be perfect, which is hard for some folks to tolerate.  Anybody who has tried to design a control process, document a control process, and implement a control process can attest to it being imperfect and never, ever done.

And the Green Book goes on to say that simply copying other people’s control system probably isn’t going to work either.  Bummer.

Green Book: OV2.13 Internal control is a dynamic, iterative, and integrated process in which components impact the design, implementation, and operating effectiveness of each other. No two entities will have an identical internal control system because of differences in factors such as mission, regulatory environment, strategic plan, entity size, risk tolerance, and information technology, and the judgment needed in responding to these differing factors. 

Where we have been and where we are going

I hope you have been enjoying the book so far.  First we had to learn what the top, side, and front of the cube meant, from a very broad view.  Then we took a deep dive into risk assessment.  Next it is time to mitigate the risks we have identified.  We will endeavor to embrace our responsibilities and avoid unpleasant surprises by layering on controls for the remaining four components of the COSO model: control activities, information and communication, monitoring, and control environment.

If you would like to catch up on what I have written so far about the Green Book, please see these article/chapters.

Internal controls a la GAO’s Green Book

Chapter 2: Grounding the Green Book in Reality

Chapter 3: The Face of the Cube

Chapter 4: The remaining dimensions of the cube

Chapter 5: Ranking What You Care About: The Risk Assessment Component

Fraud Risk per the GAO’s Green Book

Fraud Risk Factors a.k.a. the Fraud Triangle

Completing the risk assessment

The next chapter should sound very familiar if you have every worked on controls before.  We will use concepts like ‘segregation of duties’ and ‘authorization.’   We are far from done. Iterate, integrate, iterate, integrate….

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