By Rose Hightower
According to the Securities and Exchange Commission (SEC) Chief Accountant, 99 percent of deficiencies related to Internal Controls over Financial Reporting are due to a lack of or inefficiencies within required documentation.
Companies are required to establish and integrate their documentation and operational strategies and may comply with the letter of the law by "going through the motions." You may ask, "What do you mean by 'going through the motions'?" Look at your last annual report, in the policy and procedure section of Management Discussion and Analysis (MD&A), can you really produce those documents? Do documents actually exist for these and other outward facing statements which imply that there is official company documentation or evidence to back it up? Are these official company documents included within SOX testing or internal audit reviews? If you answer yes, that the documents exist, are current and implemented within company's operations, and are validated and tested, then you are in the top 20 percent of those companies who are doing more than "going through the motions" and might even make up the 1 percent of those that the SEC Chief Accountant says have control over financial reporting. Otherwise, read on....
In the name of transparency, investors and shareholders want and need more than just "going through the motions." There is a reputational and real bottom line risk due to inadequate and inefficient documentation over financial reporting. Of course the reputational risk occurs when the SEC "calls you out" for not being sufficiently compliant. And the actual risk lies with the oversight of the financial reporting process(es).
By now, we all know the effects of reputational risk, lower stock prices, investor litigation, bad press, bad jokes on late night TV, federal-level scrutiny of company executives, loss of customers, employees, suppliers. Few companies can survive this and remain unscathed long enough to recapture the losses incurred.
What is often overlooked is the real bottom line impact to having inefficient and ineffective processes. You may ask, "How can documentation help improve process effectiveness, efficiency and add value to the bottom line?"
The vision for every accounting environment is to have a one-catch system so that the data would flow from the point of origin to the financial statement with as little interference or manipulation as possible. In theory this one-catch, one-pass, one-touch approach should not be that difficult or expensive to implement. After all isn't that what the enterprise data management systems (e.g., Oracle and SAP) are all about? But in practice, that's another story.
The One-Catch, One-Pass, One-Touch approach.
- One-Catch to capture all the relevant processing and reporting data at the point of origin; e.g., the sales order. Ensure the sales order checklists include not only sales details and terms and conditions but also accounting and finance criteria for accounts receivable (A/R) and revenue recognition.
- One-Pass to ensure that the necessary reviews and approvals include not just the processing of the transactional data but also the financial reporting of it. This means that accounting and finance approval must be included within the workflow process or approval matrices.
- One-Touch to eliminate redundancy of handling the transactional data: e.g., by sales order processors, by distribution processors, by revenue recognition analysts, by accounting staff. When the necessary one-catch and one-pass data is on one form or in one document file, then the journal entry recording and reporting is seamless, leaving time for the accounting staff to analyze sales trends, profitability per sale, alternative terms and conditions which would satisfy both customer and company profit objectives.
Okay, now, raise your hands, how many of you have one of these enterprise-wide transactional processing systems and how many of you are satisfied that the accounting flows from the point of origin? Without doing a detailed research study, I would be surprised if 20 percent (using the 80/20 rule) of these systems installed actually saw the project through to where the benefit of a one-catch approach is complete and the vision is realized.
So why don't companies see the implementation through to the optimum end state where the most value can be gained?
- Time and money. Once the order to cash (OTC) and procure to pay (P2P) applications are installed, most companies have run out of the time and energy they choose to devote to the project. Remember that accounting is the last milepost within the reporting journey, so by the time the transaction gets to recording and reporting, it is history and the company's investment focus is elsewhere. If you haven't invested in an enterprise-wide application, then you already have the segmented approach to identifying, collecting, and gathering the necessary data for accounting and finance analysis and reporting.
- Tediousness of the documentation process. Documenting processes is different than the type of everyday documentation accountants know how to do. Documentation requires organizing thoughts, writing words not just numbers, and referencing regulations. Documentation requires gaining approval and, once approved, it is subject to criticism and audit. Accounting staff are generally obsessively compulsive about following and documenting the approach and calculation methodology but there is a real resistance to mixing accountants and process. Somehow by putting a spotlight on the repetitive nature of what they do, it cheapens the technical value they bring to the table. Those who are secure and confident understand that their value surpasses the routine nature of the job. To overcome this repulsion to process and documentation, think of it as anyone can be trained to complete bank reconciliations: it doesn't make them a cash manager. Anyone can be trained to process journal entries, but that doesn't make them an accountant. Anyone can be trained to complete tax forms, but it doesn't make them a tax accountant. Now you fill in the blanks. Your value is more than the tasks you perform.
Regulatory environment. There is regulatory fatigue in the accounting and reporting community. Looking at recent history, in 2002, Sarbanes-Oxley changed the accounting process environment by requesting that the controls we were taught to implement in college had to be visible and tested. Both before and after SOX, came restatement. Most companies have had to deal with some level of prior period adjustment and restatement. Before we could feel a sense of accomplishment or satisfaction with that initiative, the International Accounting Standards (IAS) and the International Financial Reporting Standards (IFRS) introduce new and dramatic changes to already strained processes. It's time to realize that the reality is that the dust will never settle long enough for the landscape to be flat and the navigation clear and smooth. The initiatives and their results seem simple and logical, however the changes and demands they make on already stressed processes are overwhelming. Because of the issues from #1 above, most companies have not re-engineered the process, but simply tried to "add on" or "patch" the new requirements onto old legacy systems. The result is additional analytical control and bridge building for the accounting staff and additional testing and audit fees for internal and external auditors.
Creating documentation and its associated value means dedicating effort and perspective. Effort – to document both the routine and non-routine nature of what is performed. Perspective – to place the accounting processes within the context of the business. Perspective requires linking the accounting and reporting to the transaction. I have seen too many accountants who didn't want to be bothered understanding the "who, what, when, where, how" about the data that comes to them; i.e., the one-catch approach. What is really sad is that I have also seen this trait in SOX testers and internal auditors, both of which should require the testing and auditing of the entire end-to-end operational process, not just the recording, review, and approval of the data. But that's another commentary for another day.
How can documentation decrease the risk of reputational embarrassment and improve the bottom line?
- Develop or complete the data collection process by including a one-catch, one-pass, one-touch accounting system. Ensure that the data collected is accurate, complete, and timely. Although this may increase investment in a system or application, in the long run you will be maximizing the return on this investment by having it work at its full capacity. You've already made the investment which is a sunk cost; add a little more customization and consulting investment to complete the job. Quantify the benefit by assessing the savings in a reduction of or better utilization of the accounting staff you already have: quicker time to close the books, less SOX testing and Audit fees. Could you put a dollar value next to the impact of presenting data and information for decision making with confidence and on a timelier basis?
- Document the rationale and approach used for decision making. That means identifying the criteria for each type of decision made, i.e., yes, no, more information required. When creating a one-catch system, build in as much of the repetitive review and approval by defining "rules" or "criteria" that the system can assess. Imagine eliminating those mind-numbing meetings or stacks of paper which only require your nod. What is the benefit of not having to review another business-as-usual transaction, just because... and for saving your valuable time to review only those with exceptions.
- Understand the business. Document where and how the accounting process(es) touch the business and how the various types of business transactions affect the accounting process(es). This is perhaps the most difficult task since it requires more than a functional view of the business operations. One hopes the company has identified key process owners by function and region and there is an accounting counterpart to each of these process owners. To add value to the bottom line, increase job enrichment and satisfaction, and ensure that the accounting counterpart is well versed and connected to the operational side. As a side benefit, by having this connection, it can add value to the SEC's 302 / 404 sub certifications required for financial reporting purposes.
- Define the accounting processes. This is not difficult; refer back to your accounting 101 and 102 days for a topical list. Or, de-construct where and how the information winds up on the reportable financial statements. If you are really stuck, refer back to the standard input/output model. This step links and interacts with steps 1, 2, and 3 above and highlights the additional dimension and value attributed to your accounting professionals.
Documentation is a journey and not an end state. To be successful, the business and its environment are always changing. I suggest sponsoring and supporting your documentation program manager. This program manager's role is to monitor and oversee these steps and ensure the integration and linkage of process to add value.
About the author and IDEAL Consulting
For more information about ensuring integration within your enterprise accounting system, the One-Catch strategy, or documentation program management, contact IDEAL Consulting Solutions International, LLC. To enrich your skills, attend one of the various public workshops or ask for a company-specific workshop in process, project, program, or documentation management. If you are fluent or proficient in these topics, submit your resume and join our team.
For assistance, templates, and sample documentation refer to the Accounting and Finance Policies and Procedures and/or the Internal Controls Policies and Procedures manuals published by John Wiley and Sons.
Rose Hightower is an accountant, professor, author, and owner of IDEAL Consulting Solutions International, LLC. IDEAL is a firm specializing in consulting in implementation of accounting and finance process and documentation programs. As a consultant she and her staff, provide practical lessons and simple solutions for any size company. She is known as "The Policy Guru."