Reduce Transaction Risk Throughout Your Financial Close Process

Key Takeaways:

  • Create an exception-driven close process that automatically highlights out of compliance transactions
  • Ensure the close process includes summary reporting on compliance activities
  • Formalize the reconciliation process, identifying each account’s specific risks criteria and supporting documentation
  • On-going integrated fraud testing on possible risk areas
  • Utilize reconciliation best practices to perform risk analysis

 The challenge for businesses is that many of the period-end close risks stem from manual tasks scattered throughout financial close processes during the pre-close, entity closes and the post-close. The result is that accounting and finance teams spend a lot of time bridging between the manual tasks and loading these into an ERP system that is supposed to make life easier.  On the more sinister side, the more complex and adhoc the process, the greater the chances of defalcation and fraud.  All companies can do better with some relatively easy process steps.

The common monthly transaction ‘schemes’ we have noted in our normal review of the close process are easy to detect if active monitoring of risk accounts is conducted. 

 Revenue recognition – Most common scheme we noted is the modification of sales terms and conditions in the closing of sales deals.  These contracts are modified or amended outside of the recognized sales process or reporting channels and may impact revenue recognition. Some modifications may include granting of favorable rights of return, extended payment terms, refund, or exchange. Sales personnel may provide these terms and conditions in concealed side letters, e-mails, or in verbal agreements in order to recognize revenue before the sale is complete. In the ordinary course of business, sales agreements can and often are legitimately amended, and there is nothing wrong with giving customers a right of return or exchange, as long as revenue is recognized in the proper accounting period with reserves established.

Holding accounting periods open – Improperly holding accounting records open beyond the end of an accounting period can enable companies to record additional transactions that occur after the end of a reporting period in the current accounting period. This scheme commonly involves recording sales and/or cash receipts that occur after the end of the reporting period in the current period. These acts are often accompanied by the falsification or modification of accounting documentation (dates on shipping delivery documents, PO’s, bank statements, cash reconciliations, cash receipt journals, etc.) in an attempt to cover-up the transaction trail.

 “Refreshed” Receivables – In order to mask rising account receivable balances while avoiding increasing the bad debt provision, a company may “refresh” the aging of receivables and improperly represent A/R balances as being current in nature instead of showing the true age of the receivables. This may occur with exchange transactions with customers, where customers can receive “credits” to their accounts and allowed to repurchase goods where little, if any, physical transfer of the product or service occurs. Sometimes the perpetrator may simply modify or edit dates of invoices in the A/R system that results in a “restart” of the aging process for the modified receivables. Schemes may involve the falsification or improper modification of accounting documentation (invoices, purchase orders, change orders, shipping reports, etc.) to cover up the fraud scheme.

So What Should You Do?

  1. Actively Monitor Risks

Monitoring risks and ensuring compliance are critical components of the financial close process. An organization’s chances of undetected fraud and/ or material misstatements making it into financial statements increases with a passive and non-systematic monitoring of risks.  You should consider:

  • Setting up an effective mechanism to ensure sound controls are in place and adhered to, by integrating active risk monitoring into your financial close process.
  • You should try to accomplish automated tasks and exceptions-based reviews, enhanced risk monitoring within your ERP or in reconciliation systems like Blackline®, with can be accomplished with very little extra work, effectively monitoring all desired activities, while only flagging those that violate your pre-defined thresholds.

Conduct Optimized Risk Analysis

By leveraging analytical capabilities of current systems and pre-packaged ones from respected vendors (e.g. Benford’s Law), companies should seamlessly monitor the financial close ‘in-process’, to spot anomalies, and detect fraud.

Use pattern simulations to conduct an optimized risk analysis so that you can focus the riskiest areas with the largest potential impact; and not get bogged down reviewing every low risk, low impact transaction and activity.  Simple Monte Carlo simulations will get you to the prioritized list of risk areas. More advanced techniques are available, and are relatively cost effective.

  1. Governance Within the Financial Close Management

By integrating your process and reconciliation tools with your ERP system you will create better risk transparency via a single financial close process system. With this seamless integration, you will be able to:

  • Create, update, and monitor financial master data in one system – and distribute changes anywhere – to accelerate the financial close process.
  • Strengthen and document internal controls
  • Streamline testing and assessments
  • Perform timely remediation

The overall benefit is that your company will generate accurate reports that comply with multiple regulations. This integration provides real-time visibility of risk related tasks, and helps your company increase transparency across their entire financial close process leading to higher stakeholder confidence.

Share this entry