Internal Fin In inancial Controls [Opportunity to redefine control environment] Huzeif ifa Unwala August 04 2016 Founder Ver erit ita Manage gement Advis visors Pvt. vt. Ltd Ltd.
TOPICS S • Fraudulent Financial Reporting • Global IFC Scenario • IFC Regulatory requirements in India • ICOFR implementation guidance by ICAI • Globally reported material weaknesses • NBFC Case Study
FRAUDULANT FIN INANCIAL REPORTING So Source - COSO SO St Study on Fraudule lent Fin inancia ial l Report rtin ing • Increasing trend of Financial reporting frauds • Higher number of CEO/ CFO convictions on account of financial reporting frauds • Most abused accounts Revenue, Capex and employee benefits • Auditor characteristics don’t really matter
FRAUDULANT FIN INANCIAL REPORTING (In (India ia) Co Cont.. Source - SF So SFIO IO • A forensic report prepared for the Serious Fraud Investigation Office (SFIO) shows over a third of India’s top 500 companies, including those in the top 100, are “managing” their accounts. • It finds that companies where promoters hold more than 50% of total shareholding are more likely to take such steps to impress markets with their performance. Both domestic companies and subsidiaries of multinationals listed in India show similar trends when their shareholding is concentrated in a few hands. • The report notes that almost all companies whose financial numbers are questionable underreport tax liabilities. Also, all such efforts have been approved by the board of directors of these companies, raising questions about the effectiveness of corporate governance norms in some boardrooms.
Internal In l Fina inancia ial l Co Controls ls – Co Concept, etc. Bac Background - Glo Global Sce Scenario . • In June 2003, the Securit ities and Exchange Commis issio ion (SEC) of the United States of America adopted Rules for the implementation of Sarbanes – Oxle ley Act, 2002 (SOX) that required certification of the Internal Controls over Financial Reporting (ICFR) by the management and by the auditors. • The Publi lic Company Accountin ing Oversight Board (PCAOB) has issued Auditing Standard (AS) 5 on “An Audit of Internal Control Over Financial Reporting That Is Integrated with An Audit of Financial Statements” . • In June 2006, the Fi Financial Instruments and Exchange Act (J (J-SOX) was passed by the Diet, the National legislature of Japan. The requirements of this legislation are similar to the requirements of internal controls over financial reporting under SOX. • Entities listed in UK main market (i.e LSE) has to voluntarily comply or explain non compliance under the Turnbull Guidance. This is a smart departure from mandatory control attestation over financial reporting. • Globally also, auditor’s reporting on internal controls is together with the reporting on the financial statements and such internal controls reported upon relate only to internal controls over financial reporting. For example, in USA, Section 404 of the Sarbanes Oxley Act of 2002, prescribes that the registered public accounting firm (auditor) of the specified class of issuers (companies) shall, in addition to the attestation of the financial statements, attest the internal controls over financial reporting.
Co Comparis ison of f IF IFC/ C/ IC IC defi finit itio ions Internal l Fi Fina nancia ial l Co Control ols De Defin init itio ion as as per per Definition Def on as as per per Sec Section 134(5) (5) over Fi Financia ial l Repo eportin ing as as of the of the Co Companie ies Ac Act, 2013 SA SA 315 per Sec per Sec 143 • This guidance provides direction that • Internal control – The process • Explanation.--For the purposes applies when an auditor is required designed, implemented and of this clause, the term to report under Clause (i) of Sub- maintained by those charged "internal financial controls" section 3 of Section 143 of the 2013 with governance, means the policies and Act on whether the company has in management and other procedures adopted by the place adequate internal financial personnel to provide company for ensuring the controls over financial reporting and reasonable assurance about orderly and efficient conduct of the operating effectiveness of such the achievement of an entity's its business, including controls. objectives with regard to adherence to company's reliability of financial • Effective internal financial controls policies, the safeguarding of its reporting, effectiveness and over financial reporting provide assets, the prevention and efficiency of operations, reasonable assurance regarding the detection of frauds and errors, safeguarding of assets, and reliability of financial reporting and the accuracy and completeness compliance with applicable the preparation of financial of the accounting records, and laws and regulations. The term statements for external purposes. If the timely preparation of "controls" refers to any one or more material weaknesses reliable financial information aspects of one or more of the exist, the company's internal components of internal financial controls cannot be control. considered effective.
In Internal l Fina inancia ial l Co Control As per section 134 of the companies Act 2013, the term ‘Internal Financial Controls’ means the po polic icie ies and and pr proc ocedures adopted by the company for ensuring: • Orderly and efficient conduct of its business, including adherence to company’s policies, • Safeguarding of its assets, • Prevention and detections of fraud and errors, • Accuracy and completeness of the accounting records, and • Timely preparation of reliable financial information. Components Operati tional Fraud ICF ICFR IFC IF Controls Con ls Prevention Internal l Co Control ols Man Management has has a a fund fundamental l resp espon onsib ibil ilit ity to o de develo lop an and ma main intain in mi minim imiz ize the the RI RISK SKS effectiv ive internal l con ontrol ol. to o you our Organiz Or izatio ion!! !!!
OBJECTIV IVES
Obje jectiv ives of f In Internal l Fina inancia ial l Co Controls ls To develop & implement a Document the process flow, risk framework of Internal Financial and controls for material processes/significant accounting Controls Assessment captions To identify material weaknesses, To facilitate Board certification significant deficiencies, and ensure full compliance with deficiencies the provisions of the Companies (if any) Act, 2013
Report rtin ing requir irements on Defic ficie iencie ies Na Nature of of De Defic ficie iencie ies Reporting Requirement Audit Board Report / Deficiency ** Management Committee Auditors Report Significant Deficiency ## Yes Yes No No No No Yes Yes Yes Yes No No Material weakness ^^ Yes Yes Yes Yes Yes Yes ** A ‘deficiency’ in internal financial control over financial reporting exists when the design or operation of a control does not allow management or employees, in the normal course of performing their assigned functions, to prevent or detect misstatements on a timely basis. ## A ‘significant deficiency’ is a deficiency, or a combination of deficiencies, in internal financial control over financial reporting that is important enough to merit attention of those charged with governance since there is a reasonable possibility that a misstatement of the company's annual or interim financial statements will not be prevented or detected on a timely basis. ^^ A ‘material weakness’ is a deficiency, or a combination of deficiencies, in internal financial control over financial reporting, such that there is a reasonable possibility that a material misstatement of the company's annual or interim financial statements will not be prevented or detected on a timely basis.
REGULATORY REQUIREMENT
Background - In India ian Sc Scenario io SE SEC 143 143(3)(i) of of Com Companies s Act, ct, 2013 2013 Audit Aud itor The auditors of the companies to report as whether the company has adequate internal financial controls system in place and the operatin ing effectiv iveness of such controls. Auditors reporting on internal financial controls is effective from FY 2015-16. Director’ s SEC 134 SE 134(5)(e) of of Com Companies Act, t, 2013 2013 Resp espon onsib ibil ilit ity Statement St In case of lis isted com ompanies , Director’s Responsibility Statement should, among the other matters, state that director’s has laid down internal financial controls and such controls are ade adequate and were ope operating effectively ly .
SEC 177 SE 177(4)(vii ii) of of Com Companies s Act, ct, 2013 2013 Audit it Com Committee Every Audit Committee shall act in accordance with the terms of reference specified in writing by the Board which shall inter alia, include, evaluation of internal financial controls and risk management systems. Com Companies (Ac (Accounts) Ru Rule les, 2014 2014 Cl Clause se 8 Boar Board Report Matters to be included in the Board report states that companies should provide the details in respect of adequacy of internal financial controls with reference to the Financial Statements..
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