InformationSheet 2 GBER 323

Image Source: https://boardandfraud.
com/2018/07/16/compliance-101-
defining-an-internal-control/
MODULE CONTENT
COURSE TITLE: Governance, Business Ethics, Risk Management,
and Internal Control
MODULE TITLE: INTERNAL CONTROL AND REVIEW
MODULE NO: GBER 323-2
NOMINAL DURATION: 8 HRS
SPECIFIC LEARNING OBJECTIVES:
At the end of this module you MUST be able to:
1. Evaluate the Professional Accountant’s role in internal control, review and

compliance
TOPICS:
 Management control systems in corporate governance

 Internal control, audit and compliance in corporate governance
 Internal control and reporting
 Management information in audit and internal control
ASSESSMENT METHOD/S:
 Online work and activity
Bachelor of Science Bulacan Date Developed:

Aug 2020
in Accounting Polytechnic Page 1 of 16
Date Revised:
Information Systems College Sept 2020
Governance, Business Developed by:
Ethics, Risk Management, Document No. Ms. Rachael Louise
and Internal Control Revision No.:02
20-GBER 323
(GBER 323) De Guzman, LPT
REFERENCE/S:
 https://www.investopedia.com/
 https://www.myaccountingcourse.com/accounting-
dictionary/management-control-systems
 https://www.marketing91.com/management-control-system/
 https://bizfluent.com/facts-6817611-importance-internal-controls-
corporate-governance.html

Aug 2020
Date Revised:
20-GBER 323
Information Sheet GBER 323-2
INTERNAL CONTROL AND REVIEW
Learning Objectives:
After reading this INFORMATION SHEET, YOU MUST be able to:
1. Evaluate the Professional Accountant’s role in internal control, review and

compliance
Image Source: https://www.marketing91.com/management-control-system/
Management Control Systems in Corporate Governance
MANAGEMENT, SYSTEMS AND CONTROL
One of the best ways to understand management control systems or MCS is

by examining the different components that make it. The concept is built on
three distinct elements: management, systems, and control.
Management
As you know, management is about organizing people and processes in a

manner that helps the organization achieve specific objectives. The
management process wants to ensure different parts work together to attain
these goals.
How can this be done? Well, this in most instances means dealing with different
resources and allocating them to correct roles and purposes. Management
Aug 2020
Date Revised:
20-GBER 323
includes guidance and monitoring of these resources as well. You are
essentially managing how other people perform a specific role and use
resources, instead of doing it yourself. As a manager, you are essentially a
facilitator – if A needs to be done, you find B to do it and provide him the strategy
and the resources to do it.
OK, so that explains the core concept, but what about the functions of
management? You need to identify and understand the key components of
management as well. The first component is the different functions of
management. The definitions can be different depending on the situation, but
generally, five functions are identified as the core functions of management.
These are planning, organizing, staffing, leading, and controlling.
The other key part of management is the resource types it entails. The most
common forms of resourcing include: human resources, financial
resources, technological resources and natural resources. You could use the
above functions to allocate, control and monitor the different forms of resources.
You are combining the functions you have at hand – planning, staffing and so
on – with the resources, such as financial resources. The clearest example is
having the function of staffing and using the human resource funding to hire in
new staff.
The definition of management in the context of MCS is important because

of how organizations can be viewed. Think of an organization as a system. Now
the role of management is therefore facilitating the production of beneficial
outcomes from the system. If you want the system, i.e. the organization, to
produce a result A, you use management to gather the resources, i.e. the human
and other resources, to guarantee A gets done. You are essentially the engine,
which gathers the other parts together to move the car forward.
SYSTEMS
What about systems? As mentioned above, you can view organizations as

systems. The Business Dictionary gives two definitions to systems, which are
both good to understand in the context of MCS. Systems are:

Aug 2020
Date Revised:
20-GBER 323
Image Source: https://www.cleverism.com/management-control-system-guide/
or you could view them as:
The key to systems, especially in the case of MSCs, is the structure of which they
are formed and often perform. Every system comes with input, output and
feedback mechanism. The system is able to maintain itself even when the
surroundings are changing and it has a specific set of boundaries within which
is operates. The picture here illustrates the idea of a system in a business context
perfectly.
You have an input, the business system and the output. You also have the
feedback mechanism. The business system would be the strategy the
business uses to create a specific output. If the output is to provide cheap
shoes, the business strategy is manufacturing of the shoes with the specific
elements this entails.
The input, therefore, is the resources (materials, labor, equipment) you need
to achieve the output. So, you take the resources, you implement them with
your chosen strategy, and you get the results. The results then provide
feedback to inputs on the performance of the system. Perhaps you didn’t
receive as many shoes as you wanted and so, you can increase input. For
example, buy more materials, hire more people and so on.

Aug 2020
Date Revised:
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The objective of the system is to achieve a pre-determined result each time
it is executed.
In a business environment, the sale process can be viewed as an example of

the process. The organization has a set of policies and processes in place to
guarantee the sale effort would always lead to a same result (i.e. the sale). As
mentioned in the above section, management would be one of the methods
used to guarantee the result occurs in the system each time.
In the case of the example above, your pre-determined result might be to have
1,000 good quality shoes with an individual shoe costing $50 to make. The
feedback might show you that occasionally the cost of shoes rises to $70 and
you know you need to tweak the input or the processes you use, as you’ve
deviated from the wanted results.
Control
Finally, you have the concept of control. As stated above, control is one of the
functions of management. In this context, it refers to the process of analysis
and corrective action. When controlling, you are essentially monitoring
whether you are receiving an expected result of a process (or during it) or if the
outcome deviates from the expectation.
If there is a deviation, you take corrective action to ensure the expected

results occur. Previously, the concept of control was mainly focused on
correction after an error had occurred. In the example of the shoe production,
you would notice there was a deviation when you count the shoes and instead of
getting 1,000, you’ve made 999.
But with the rise of modern technology, control can be used to foreseeing an
error. This has changed the function and made it increasingly important part of
the management process. For example, your shoe production facility might have
monitoring systems that help you realize the shoes are not being finalized as
quickly as they should in order to make 1,000 pairs. You are essentially able to
see that you would encounter a problem; instead of just realizing a problem has
occurred.
If you consider the process in the forms of steps, control in relation to

management would look like this:
 Setting a goal and establishing desired objectives.– “I want to create

1,000 pairs of shoes in a month.”
 Measuring the achievements of goals and objectives.– “I’ve made 999
pairs of shoes in a month.”

Aug 2020
Date Revised:
20-GBER 323
 Comparing the achieved goals and objectives with the original goals
and objectives. – “I wanted 1,000 and I got 999. I wanted to do it in a
month and I’ve spent a month.”
 Analyzing variances and reporting on them. Determining the
underlying causes for the variations.– “I’m one pair of shoes short, but
I’ve met the deadline. I did not have enough materials on day two and I got
behind in my goals.”
 Taking corrective action to eliminate the variations.– “I’ve recalculated
the requirements for fabrics and I’ve ordered enough for next month.”
 Following up and repeating the process.– “I’ve now created the right
amount of shoes every month.”
WHAT IS A MANAGEMENT CONTROL SYSTEM?
The above has hopefully started your mind to process the concept of MCS, as
you are aware of the special meaning and interconnectedness of the specific
concepts that make it. But let’s look a bit closer to what MCSs are and how they
are defined in the modern context.
One of the first definitions of MCSs is from 1972 when Ernest Anthony Lowe,
professor at the University of Sheffield, published an article called On the Idea
of a Management Control System. According to Anthony Lowe, an
organization would need to establish a specific system to control and plan
the different operations it is going through. He identified four reasons for
the necessity of the systematic management control:
▪ All organizations have definable organizational objectives.

▪ Management has hierarchy, with managers being in sub-units. Each
manager must define personal goals, which are aligned with the
organization’s objectives.
▪ Organizational situations, together with human behavior, create an
uncertain situation and this uncertainty is present in internal and
external circumstances.
Anthony Lowe also described in his book how management control systems are
the processes “by which managers ensure that resources are obtained and
used effectively and efficiently in the accomplishment of the organization’s
objectives“.
Other theorists began building on top of Anthony Lowe’s writings. Horngreen,

Datar and Foster have defined MSCs “as means of gathering and using
information to aid and coordinate the process of making planning and
control decisions throughout the organization and to guide the behavior of
its managers and employees”.
Essentially what they are saying is that a management control system is a

tool businesses can use to measure its performance and to compare its
desired objectives against its actual objectives. By establishing a
Aug 2020
Date Revised:
20-GBER 323
management control system, the business makes it easier to align individual
decision making with the larger organizational objectives. The system is rather
comprehensive, creating a framework in which not only are the internal aspects
controlled and monitored, but the external behaviors and environments are also
looked after.
So, what can you actually do with such as system? It essentially allows you to
perform the following functions:
 Document operational objectives – You can outline what the

organization wants to achieve in terms of short- and long-term goals.
This could be directly related to financial performance, but it could also
entail social objectives such as waste reduction, for example.
 Document the operational strategies and policies – Of course, you also

need to ensure you are aware of the how. How will you achieve the above?
You will need to document the policies in place in the organization,
the different equipment and resources needed, and the strategies you
implement. This could deal with things like employee management
(salary, working hours, etc.)
 Assess the performance of organizational processes – You then need
the tools to assess the performance of what you are trying to achieve
and how. This includes gathering information from different sources,
whether financial or non-financial. At this point you are looking closer to
the organization and checking what it is doing and how. You are detailing
and outlining what the result of your policies and strategies are.
 Compare performance in relation to the objectives and policies –

Finally, you compare the actual performance to the objectives you set
at the start. You can clearly notice this is the essence of the
business system. You have the structures in place, you add the resources,
and you see what the result is, after which you can check what you got in
comparison to what you wanted to get. Another great analogy would be
cooking food with an oven. Consider you want to make a crispy baked
potato. You take the input (the potatoes) and you use the strategies (oiling
the potato, adding salt, putting it into the oven for a set amount of time).
You take out the baked potato and you check if you have the right result
(is it crispy?).

Aug 2020
Date Revised:
20-GBER 323
Key Takeaways:
Management control systems are the formal and informal structures put
in place by a business that compare the goals and strategy of the
organization against the actual outcomes. In other words, it measure
how well the functions of a business and the business as a whole
perform and meet objectives. This comparison is then reviewed and used
to drive managerial decisions.
What Does Management Control Systems Mean?
In a general sense, these systems are put in place so that an organization is

sure to be consistently checking on its performance and goal alignment.
One of the main benefits of having control systems is communicating goals and
objectives to the business and ensuring that managers in the business
understand their role in achieving them.
Most businesses that successfully use MCS use both financial and
nonfinancial measures. While it makes sense to use financial measures since
the data is usually readily available and most businesses are very conscious
about dollars and cents, it is important not to discount nonfinancial measures.
Nonfinancial measures significantly impact businesses of all types and must be
monitored.
Let’s look at an example.
Leah is the director of human resources at a small

company. Lately, she’s been feeling like more employees
have been leaving this year than last year. She would like
to have some kind of system in place so that she can have
data to either back up or refute her feeling and use that
data to coach her team in the future. How can a MCS help
Leah to keep track of this metric in the future?
Leah should track employee turnover. By using this control system, she will
know if more employees are leaving than usual and can look into why this might
be happening.
Elements of Management Control System
The core elements that determine the effectiveness and success of a

management control system framework are as follows-
#1. Aligning with goals and strategies of a company

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Date Revised:
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The first step you need to do before implementing management control system
is to understand the current policies, strategies, objectives, and operational goals
of the company that it wants to fulfill.
Remember, it is important to align the goals of MCS and operational goals of the
organization so that both of them can complement each other. Moreover, in case
of differences, the management control system will end up being worthless and
ineffective.
The implementation of MCS will not require a change in core objectives or

policies of a company instead the system must be integrated in such a manner
that it proves a true fit and ensures maximum efficiency in organization
operations.
#2. A perfect fit inside the organizational structure
Consider the organizational structure as you need to make the management

control system to fit perfectly with the current framework. Understand
the decision making structures and create an MCS that understands and
enhances it instead of hindering it in any capacity.
It can be done by dividing the responsibilities as per the new framework so that
the control becomes more focused on the new system
#3. Motivating via reward systems
It is important to have promotional structures in an organization that can

motivate employees to show the highest levels of creativity, efficiency, and
productivity.
One of the reasons for using a management control system is motivating

the employees and of course, the managers so that they can work efficiently
to achieve organizational goals.
The reward structure is a part of MCS, and it can be done by tying the rewards
with the achievement of goals. It includes monetary reward like raise, bonus
or material reward like access to the health club, pass for food court, or a
voucher that you can reimburse.
A management control system (MCS) is a system which gathers and uses

information to evaluate the performance of different organizational
resources like human, physical, financial and also the organization as a whole
in light of the organizational strategies pursued.
Management control system influences the behavior of organizational

resources to implement organizational strategies. Management control system
might be formal or informal.

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Date Revised:
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This study presents a systematic review of research on the relationships
between various management control system (MCS) components as a
package with corporate governance and on their impact on organizational
performance.
Management control philosophy and corporate governance (CG) are related

to the sharing of power among stakeholders and the protection of
shareholders’ interests. CG mechanism includes overseeing the activities of
the board of directors and the auditing committee, and ensuring the integrity
of the financial reporting process. Conversely, management control
philosophy includes the activities and attitudes of management related to
controls and actions that convey importance throughout the organization. The
activities related to the management accounting in the organizations must be
implicated in CG.
Internal Control, Audit and Compliance in Corporate Governance
What are Internal Controls?
Internal controls are the practical aspects of corporate governance. They are the
policies and procedures that a firm uses to ensure compliance with its own moral
code. The goals of internal corporate governance controls typically include:
 Safeguarding assets. Internal controls are put in place to help prevent

asset loss due to mistakes or fraud.
 Minimizing errors. People inevitably make mistakes. Internal controls

ensure that financial information is carefully reviewed to reduce errors.
 Promoting efficiency. Internal controls can take time, which has the
potential to lower efficiency. Internal controls can also prevent mistakes,
though, which improves efficiency in the long run.

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 Minimizing risk. Internal control procedures may include regular risk
assessments to find areas where inaccuracies are occurring and improve
those areas.
To meet these goals, a company may engage in several internal control
activities which fall into two broad categories:
 Preventative: As the name indicates, preventative control activities are

designed to keep fraud and mistakes from occurring in the first place.
 Detective: These activities help uncover errors that weren’t caught by

preventative measures.
Internal Control Activities
Governance arrangements and internal control mechanisms vary from company

to company. Typical internal control activities include:
▪ Authorization. Authorization refers to ensuring the appropriate parties

approve transactions. For example, purchases above a specific dollar
amount might require authorization from a department head.
▪ Documentation. Documentation refers to keeping a record of a

transaction. For example, when an invoice is paid, you would keep
documentation of your payment, such as a receipt or a bank statement.
▪ Reconciliation. Reconciliation involves comparing transactions to

documentation and resolving any issues.
▪ Security. Security can include physical security measures,

cybersecurity measures and procedural security measures, such as
ensuring multiple parties sign off on significant transactions.
▪ Separation of Duties. Transactions involve several steps. Separation of

duties refers to not allowing a single individual to complete all the
steps in a transaction. For example, one person might record a
transaction, another might authorize it and another person would
reconcile it.
Of course, even the best internal control activities can’t prevent every mistake.
An effective internal control framework will minimize errors, though.
Auditing and Internal Controls
Audits look at a company’s controls and corporate governance to ensure

everything is working as it’s supposed to. If an audit uncovers issues, the
auditors make recommendations for resolving those issues. External audits
are conducted by a neutral third party. Internal audits are done by board
members or other stakeholders in an organization to uncover issues before
an external audit.
Aug 2020
Date Revised:
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Internal audits can take place on any schedule that ensures procedures are
being followed. Some departments might have weekly audits, while others
might have quarterly or semi-annual audits. Internal audits are an essential
part of ensuring corporate governance directives and internal controls are being
followed.
Why Are Internal Controls Important to Corporate Governance?
Internal control activities ensure that companies adhere to corporate

governance guidelines. Corporate governance sets the standards and
recommends procedures; internal controls ensure those procedures are being
followed. Internal controls also ensure there is an audit trail that can be retraced
during internal and external audits.
For example, if an internal audit found a difference of a few

thousand dollars, an internal auditor could retrace each step of
recent transactions to find when the funds went missing. If it was
an error, it can be corrected, and if it was theft, more severe
measures can be taken.
Money and information have a clear path through a company with good internal
controls, and that path can be easily retraced. This allows shareholders to feel
confident about their investments and customers to feel confident about any
goods or services they’ve purchased. Companies can show proof of good
corporate governance.
What is an Internal Audit?

Internal audits evaluate a
company’s internal controls, including
its corporate governance and accounting
processes. These audits ensure
compliance with laws and regulations and
help to maintain accurate and timely
financial reporting and data collection.
Internal audits also provide management
with the tools necessary to attain operational efficiency by identifying problems
and correcting lapses before they are discovered in an external audit.
Understanding Internal Audits
Internal audits play a critical role in a company’s operations and corporate

governance. Internal controls are processes and procedures implemented by a
company to ensure the integrity of its financial and accounting information,
promote accountability, and help prevent fraud. Examples of internal controls
are segregation of duties, authorization, documentation requirements, and

Aug 2020
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written processes and procedures. Internal audits seek to identify any
shortcomings in a company's internal controls.
In addition to ensuring a company is complying with laws and regulations,

internal audits also provide a degree of risk management and safeguard against
potential fraud, waste, or abuse. The results of internal audits provide
management with suggestions for improvements to current processes not
functioning as intended, which may include information technology systems as
well as supply-chain management. Cybersecurity is becoming increasingly
important as companies need to protect their confidential electronic information
from outside attacks.
Internal audits may take place on a daily, weekly, monthly, or annual basis.
Some departments may be audited more frequently than others. For example, a
manufacturing process may be audited on a daily basis for quality control, while
the human resources department might only be audited once a year. Audits may
be scheduled, to give managers time to gather and prepare the required
documents and information, or they may be a surprise, especially if unethical or
illegal activity is suspected.
Internal Audit Process
Internal auditors generally identify a department, gather an understanding of

the current internal control process, conduct fieldwork testing, follow up with
department staff about identified issues, prepare an official audit report, review
the audit report with management, and follow up with management and
the board of directors as needed to ensure recommendations have been
implemented.
1. Assessment Techniques
Assessment techniques ensure an internal auditor gathers a full understanding
of the internal control procedures and whether employees are complying with
internal control directives. To avoid disrupting the daily workflow, auditors begin
with indirect assessment techniques, such as reviewing flowcharts, manuals,
departmental control policies or other existing documentation. If documented
procedures are not being followed, direct discussion with department staff may
be necessary.
2. Analysis Techniques
Auditing fieldwork procedures can include transaction matching, physical
inventory count, audit trail calculations, and account reconciliation as is
required by law. Analysis techniques may test random data or target specific
data, if an auditor believes an internal control process needs to be improved.
3. Reporting Procedures

Aug 2020
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Internal audit reporting includes a formal report and may include a preliminary
or memo-style interim report. An interim report typically includes sensitive or
significant results the auditor thinks the board of directors needs to know right
away. The final report includes a summary of the procedures and techniques
used for completing the audit, a description of audit findings, and suggestions
for improvements to internal controls and control procedures. The formal report
is reviewed with management and recommendations for improvement are
discussed. Follow up after a period of time is necessary to ensure the new
recommendations have been implemented and have improved operating
efficiency.
KEY TAKEAWAYS:
✓ An internal audit offers risk management and evaluates the
effectiveness of a company’s internal controls, corporate governance,
and accounting processes.
✓ Internal audits provide management and board of directors with a
value-added service where flaws in a process may be caught and
corrected prior to external audits.
What Are Internal Controls?
Internal controls are the mechanisms, rules, and procedures implemented by a

company to ensure the integrity of financial and accounting information,
promote accountability, and prevent fraud. Besides complying with laws and
regulations and preventing employees from stealing assets or committing fraud,
internal controls can help improve operational efficiency by improving the
accuracy and timeliness of financial reporting.
How Internal Controls Work
Internal controls have become a key business function for every U.S. company
since the accounting scandals in the early 2000s. In their wake, the Sarbanes-
Oxley Act of 2002 was enacted to protect investors from fraudulent accounting
activities and improve the accuracy and reliability of corporate disclosures. This

Aug 2020
Date Revised:
20-GBER 323
has had a profound effect on corporate governance, by making managers
responsible for financial reporting and creating an audit trail. Managers found
guilty of not properly establishing and managing internal controls face serious
criminal penalties.
Importance to Auditors
The auditor’s opinion that accompanies financial statements is based on an

audit of the procedures and records used to produce them. As part of an audit,
external auditors will test a company’s accounting processes and internal
controls and provide an opinion as to their effectiveness.
Internal audits evaluate a company’s internal controls, including its corporate

governance and accounting processes. They ensure compliance with laws and
regulations and accurate and timely financial reporting and data collection, as
well as helping to maintain operational efficiency by identifying problems and
correcting lapses before they are discovered in an external audit. Internal audits
play a critical role in a company’s operations and corporate governance, now that
the Sarbanes-Oxley Act of 2002 has made managers legally responsible for the
accuracy of its financial statements.
Operational Efficiency
No two systems of internal controls are identical, but many core philosophies
regarding financial integrity and accounting practices have become standard
management practices. While internal controls can be expensive, properly
implemented internal controls can help streamline operations and increase
operational efficiency, in addition to preventing fraud.
KEY TAKEAWAYS:
✓ Internal controls are the mechanisms, rules, and procedures
implemented by a company to ensure the integrity of financial and
accounting information, promote accountability and prevent fraud.
✓ Besides complying with laws and regulations, and preventing employees
from stealing assets or committing fraud, internal controls can help
improve operational efficiency by improving the accuracy and timeliness
of financial reporting.
✓ Internal audits play a critical role in a company’s internal controls
and corporate governance now that the Sarbanes-Oxley Act of 2002 has
made managers legally responsible for the accuracy of its financial
statements.

Aug 2020
Date Revised:
20-GBER 323

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Image Source: https://boardandfraud.

COURSE TITLE: Governance, Business Ethics, Risk Management,

and Internal Control

MODULE TITLE: INTERNAL CONTROL AND REVIEW

MODULE NO: GBER 323-2

NOMINAL DURATION: 8 HRS

SPECIFIC LEARNING OBJECTIVES:

At the end of this module you MUST be able to:

1. Evaluate the Professional Accountant’s role in internal control, review and

 Management control systems in corporate governance

 Online work and activity

Bachelor of Science Bulacan Date Developed:

Bachelor of Science Bulacan Date Developed:

INTERNAL CONTROL AND REVIEW

After reading this INFORMATION SHEET, YOU MUST be able to:

1. Evaluate the Professional Accountant’s role in internal control, review and

Image Source: https://www.marketing91.com/management-control-system/

Management Control Systems in Corporate Governance

MANAGEMENT, SYSTEMS AND CONTROL

One of the best ways to understand management control systems or MCS is

As you know, management is about organizing people and processes in a

The definition of management in the context of MCS is important because

What about systems? As mentioned above, you can view organizations as

Bachelor of Science Bulacan Date Developed:

or you could view them as:

Image Source: https://www.cleverism.com/management-control-system-guide/

Image Source: https://www.cleverism.com/management-control-system-guide/

Bachelor of Science Bulacan Date Developed:

In a business environment, the sale process can be viewed as an example of

If there is a deviation, you take corrective action to ensure the expected

If you consider the process in the forms of steps, control in relation to

 Setting a goal and establishing desired objectives.– “I want to create

Bachelor of Science Bulacan Date Developed:

WHAT IS A MANAGEMENT CONTROL SYSTEM?

▪ All organizations have definable organizational objectives.

Other theorists began building on top of Anthony Lowe’s writings. Horngreen,

Essentially what they are saying is that a management control system is a

 Document operational objectives – You can outline what the

 Document the operational strategies and policies – Of course, you also

 Compare performance in relation to the objectives and policies –

Bachelor of Science Bulacan Date Developed:

What Does Management Control Systems Mean?

In a general sense, these systems are put in place so that an organization is

Let’s look at an example.

Leah is the director of human resources at a small

Elements of Management Control System

The core elements that determine the effectiveness and success of a

#1. Aligning with goals and strategies of a company

Bachelor of Science Bulacan Date Developed:

The implementation of MCS will not require a change in core objectives or

#2. A perfect fit inside the organizational structure

Consider the organizational structure as you need to make the management

#3. Motivating via reward systems

It is important to have promotional structures in an organization that can

One of the reasons for using a management control system is motivating

A management control system (MCS) is a system which gathers and uses

Management control system influences the behavior of organizational

Bachelor of Science Bulacan Date Developed:

Management control philosophy and corporate governance (CG) are related

Internal Control, Audit and Compliance in Corporate Governance

What are Internal Controls?

 Safeguarding assets. Internal controls are put in place to help prevent