28 May 2020 Ankit Chadha

Coso's 4 Components of Internal Control Over Financial Reporting

Internal Control Over Financial Reporting | TRC Consulting

Formulating reliable financial data is a vital obligation of every public company's management. The capability to successfully handle the company's business entails access to apt and correct info that advises decision making for its operations. Additionally, investors must be able to put confidence in a company's financial statements if the company wants to use the public securities market to raise capital.

What is Internal Control Over Financial Reporting?

Internal Control Over Financial Reporting (ICFR), is a component of internal control's more comprehensive concept. The Treadway Commission's Committee on Supporting Organizations (COSO) established the latter —an effort of many groups involved in successful internal control, which offers a guide to help businesses organize and assess controls that mitigate a wide variety of risks. Released in 1992 and restructured in 2013, this framework defines internal control as 'a process, carried out by the board of directors, management and other staff of an entity, designed to provide reasonable assurance in regards to the achievement of operational, reporting and compliance objectives.

What Is the Concept of Internal Control Over Financial Reporting?

Internal Control Over Financial Reporting (ICFR) states the control regulations developed primarily to tackle the financial reporting risks. In simpler terms, the ICFR of a public corporation is the control checks that are intended to provide assurance that the financial statements of the organization are accurate and prepared in compliance with Generally Accepted Accounting Principles (GAAP). For instance, misstatements in a financial statement can occur due to statistical mistakes, misapplication of GAAP, or deliberate mistakes (fraud). An ICFR program handles these possibilities.

A prime consideration in the design and operation of public sector ICFR is the possibility of fraudulent financial reporting. Market expectations for sales, profits, or other goals, for example, can create pressure on management to reach a predicted threshold. Effective ICFR provides reasonable assurance that in response to those pressures, corporate records are not purposely misrepresented. Therefore, internal control over financial reporting (ICFR) should be designed and implemented with fraud risk in mind and tailored to the company's circumstances.

Financial reporting often necessitates cultured decision making and well-informed judgments. For example, the following three items all require management to make judgments about assumptions and the likelihood of future events:

  • Assessing allowances for credit losses
  • Valuing illiquid securities
  • Defining whether intangible assets are diminished

In such reporting areas, there is usually a variety of appropriate, rather than a single "right" outcome that needs to be calculated and registered. Controls don't eliminate the need for judgment or the variations in reporting that is inherent in situations where a range of appropriate judgments is probable. However, controls can be structured and executed to resolve the mechanism by which accounting judgements are made, and thereby offer fair assurance that the financial records are issued in compliance with GAAP.

What Are the Four Integrated Components of Internal Control- COSO's Framework?

  1. Control Ecosystem

Control ecosystem is an established set of standard rules, procedures, and systems that provide the basis for performing internal controls throughout the organization. The board of directors, along with the executive management, set the tone at the top about the importance of internal control, including planned standards of code and conduct.

Management establishes standards at different levels of the company. The control ecosystem comprises the organization's reputation and ethical values; the criteria allowing the board of directors to perform its oversight obligations in governance; the hierarchical structure and distribution of power and duty. It also comprises the method of recruiting, cultivating, and maintaining qualified individuals; and the rigour of success metrics, opportunities and achievement awards that promote transparency. The resulting control ecosystem has a profound effect on the organization's overall internal control system.

  1. Risk Assessment

Each organization faces a variety of risks from both external and internal sources. Risks are characterized as the probability of an incident taking place and adversely affecting the accomplishment of the objectives. For the same, risk evaluation implicates dynamic and iterative processes to recognize and evaluate risks for meeting the organizational goals. Risks to the accomplishment of these organizational goals are considered relative to recognized risk tolerances. Thus, risk assessment forms the basis for determining how risks will be managed.

  1. Control Activities

Control practices are acts developed by policies and procedures that help ensure that the guidelines of management are followed to minimize risks for the achievement of goals. Management operations are carried out at all levels of the organization, at all points of company procedures, and throughout the infrastructure environment.

The control nature could be – preventive or detective and may contain a variety of manual and automated tasks such as:

  • Authorizations
  • Approvals
  • Permits
  • Verifications
  • Reconciliations
  • Analysis

Segregation of duties is characteristically built into the choice and development of control activities. In case the segregation of duties is not practical or feasible, management chooses and develops alternate control activities.

  1. Monitoring Activities

Continuing assessments, independent assessments, or a variation of the two are used to decide if one of the four internal control elements, including checks that affect the values within each function, is present and operating. Continuous assessments that are built into organizational processes at various organizational levels offer timely information.

Individual assessments that are performed regularly can vary in complexity and frequency, depending on risk evaluations, the efficacy of current evaluations, and other management factors. Findings are measured against standards defined by regulators, recognized standardizing bodies or management and the board of directors, and deficiencies are reported to management and the board of directors.

How TRC Helps with Internal Control Over Financial Reporting?

At TRC Corporate Consulting, our ICFR services help your business discover the implications of a constructive versus reactive system for internal controls in reaction to heightened regulatory emphasis so that you can improve your ICFR program — and save costs along the way.

 Our professional's ICFR activities include, but are not limited to:

  • Review of financial reporting risk assessments
  • Review of management's strategic responses to the recognized financial reporting risks
  • Handling management of control deficiencies, including the possible impact on financial reporting
  • Assessment of the quality of financial reporting and related disclosures
  • Refreshes risk assessment programs to include the right people, processes, and knowledge

At TRC Corporate Consulting, we understand that it can be a challenging task to handle the overall operations of a company. We have an extensive clientele across industries and have developed deep domain expertise that enables you with accountability, transparency, and punctuality. Our team of experts brings to your organization the right skills, knowledge, and perspective. Consult with us for internal control over financial reporting activities. For any queries, contact our team!