Page 124 - DCOM204_AUDITING_THEORY

Auditing Theory

Notes 4. Information and communication

5. Monitoring
All five internal control components must be present to conclude that internal control is effective.

7.2.1 Control Environment

The control environment is the control consciousness of an organization; it is the atmosphere in
which people conduct their activities and carry out their control responsibilities. An effective
control environment is an environment where competent people understand their
responsibilities, the limits to their authority, and are knowledgeable, mindful, and committed
to doing what is right and doing it the right way. They are committed to following an
organization’s policies and procedures and its ethical and behavioral standards. The control
environment encompasses technical competence and ethical commitment; it is an intangible
factor that is essential to effective internal control. A governing board and management enhance
an organization’s control environment when they establish and effectively communicate written
policies and procedures, a code of ethics, and standards of conduct. Moreover, a governing
board and management enhance the control environment when they behave in an ethical manner-
creating a positive “tone at the top”—and when they require that same standard of conduct from
everyone in the organization.

Task Identify various factors contribute to internal control for a manufacturing company.

Who is Responsible?

Management is responsible for “setting the tone” for their organization. Management should
foster a control environment that encourages:
1. the highest levels of integrity and personal and professional standards.
2. a leadership philosophy and operating style which promote internal control throughout
the organization assignment of authority and responsibility.
7.2.2 Importance of Internal Control

Internal controls help safeguard funds, provide efficient and effective management of assets,
and permit accurate financial accounting. Internal controls cannot eliminate all errors and
irregularities, but they can alert management to potential problems.
Effective controls reduce the risk of asset loss and help ensure that plan information is complete
and accurate, financial statements are reliable, and laws and regulations are complied with.
Internal auditors play an important role in their organization’s corporate governance, internal
control structure, risk management analysis, and financial reporting process. In the past decade,
auditors actively have provided management with consulting and assurance services to assist in
compliance with regulations such as the U.S. Sarbanes-Oxley Act of 2002. Internal audit resources
also have been expanded to satisfy the high demand for services to assist in executive certifications
of internal controls and financial reports.

Example: U.S. Securities and Exchange Commission’s (SEC’s) Proxy Disclosure
Enhancements rules released in December require companies listed on U.S. exchanges to disclose
their governance measures, including their board structure, the board’s oversight of risk
management, and its relationship with executive compensation policies and practices.

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