Internal Controls and Your Budget

Why having internal control over the budget process does not automatically mean it is done correctly.

I just finished my portion of work in a recurring, annual audit and certification of internal control over financial reporting in a large, publicly held manufacturing company.  This is an engagement designed to assist management in their assessment of design and effectiveness of various internal controls over financial reporting, mandated by the Sarbanes-Oxley Act of 2002 for most publicly traded companies.

Budgeting and Forecasting Controls

Among the many functions in accounting, finance and operations, this company had a small set of controls surrounding the area of budgeting and forecasting.  Although these controls do not directly affect financial statements, evidence of their performance is an indication of effective finance policies, attention to detail and management’s commitment to execute its entity level controls.  The annual budget internal controls usually are concerned with the existence of an annual plan, its review and approval by management and the review and approval of changes to the budget throughout the process.

Reviewing the Budget

One of the activities I am always involved in when testing controls over the annual budget includes reviewing the budget itself.  As is common with very large organizations, this company’s  budget consisted of a compilation of many worksheets prepared and submitted by regional divisions and operating units, and entry into the corporate finance management software.

To my surprise, the first time I worked on this engagement, there was no budget of the corporation’s balance sheet.  There was only an income statement, by region, by operating division and by business unit and product line.  When I asked one of the finance managers why they were not budgeting the balance sheet his response was: “we never do that”.  Since I knew the real reason from experiencing the same phenomenon in other organizations I accepted his response.

Challenges in Financial Management Software

Anyone who works in the administration of large enterprise financial management software knows how difficult and costly it is to properly implement and maintain the software across a large organization.  Creating a model that will project a complete and accurate balance sheet is not a trivial task.

In fact, unless the planning software incorporates (by design) transaction based forecasting technology, the forecasting of a balance sheet with all of its accounts across the budget period is going to be a rough approximation of these account balances.

Passing the Internal Audit

This manufacturing company passed its internal audit of the budget process controls.  There was evidence of the existence of an annual budget, evidence of review and approval of this budget, and evidence of review and approval of changes to the budget and its periodic re-forecasts.

While there were no compliance issues, I kept asking myself whether this organization could really obtain complete benefits from their existing budget process, without budgeting the balance sheet.  My conclusion was that without the proper tools and employing a lot of hard work and constant review and troubleshooting, this company, like many other similar organizations, will simply continue to ignore this important component of the budget and will dismiss it as “unimportant” or something that traditionally has never been done.

Benefits of Centage

I couldn’t help but remind myself how Centage delivers the benefits finance and corporate managements truly need.  This software automatically, completely and accurately forecasts the balance sheet (and its derived statement of cash flows) without any user-supplied formulas, macros or links. In contrast to the manufacturing company example above, companies that use an application like Centage, whether or not they employ a formal set of internal controls over the process, benefit from an accurate set of forecasted financial statements and other business intelligence, gaining better insight into the future financial health of their organizations.

Suitability for Different Organizations

While Centage may not directly fit into very large and complex organizations like the one described here, it is well suited for small and medium size or even mid-market companies that understand that the budget process and its companion analysis process  should be used for their intended purpose. I only hope that as time goes by, many more organizations will come to the realization that just having good control over the budget process is not enough in getting the true benefits from it. Strengthen your internal controls and budget planning by leveraging the best financial projection software available in the market.

‍See how you can build a driver-based budget model in days. Test multiple scenarios, generate accurate and automated forecasts, and enforce your chart of accounts.