SAS 112: The New Auditing Standard Jim Corkill Controller Accounting Services & Controls

Agenda  Background  What is SAS 112  Impacts on UC and the Campus  Key Controls  Roles & Responsibilities  Q & A

Background  Sarbanes-Oxley Act of 2002  Stronger Controls for Public Companies  Created a new federal oversight board, the Public Company Accounting Oversight Board (PCAOB)  In May 2006, AICPA issued SAS 112 which substantially incorporates the PCAOB’s AS 2.

What is SAS 112 What is SAS 112? Statement on Auditing Standard 112 (SAS 112): “Communicating Internal Control Related Matters Identified in an Audit” – Effective May 2006  SAS 112 develops a framework for reporting control weaknesses over financial reporting, not designed to address other controls, such as operational controls.

Purpose of SAS 112  Ensure effectiveness of internal controls that impact financial statements  Establish a standard for determining seriousness of a control issue and classifying it into three categories:  Control Deficiency  Significant Deficiency  Material Weakness

Examples of Control Deficiencies  Lack of review and reconciliation of departmental expenditures  Lack of overdraft funds monitoring  Lack of physical inventory  Lack of timeliness of cash deposit and account reconciliation

Significant Deficiency and Material Weakness A control deficiency, or combination of control deficiencies with more than a remote chance of not preventing or detecting:  An inconsequential misstatement of the financial statements = Significant Deficiency  A material misstatement of the campus financial statements = Material Weakness  The materiality of the control deficiency is determined based on what potentially could go wrong, not just on the amount of actual misstatements.

What does this mean for UC?  The new definitions lower the bar for reporting internal control deficiencies to the Chancellor and the Regents  In addition, SAS 112 requires UC to disclose deficiencies to 3 rd parties such as:  Federal sponsors  3 rd party creditors  Accrediting agencies, Rating agencies  Insurers

Additional Impacts of SAS 112  Negative impact on sponsored project funding  Negative impact on credit rating  Additional federal audits  Negative impact on reputation Any findings could result in increased review by the federal government and/or impact the University’s ability to obtain research funding

How to Reduce Potential Findings  Place “key controls” in our operation to minimize control deficiency and risk by preventing or detecting errors and frauds in a timely manner

UC Response to SAS 112  Identify financial key controls.  Controls must be documented or they are not considered controls.  Some of these key controls reside in departments.  UC Website with documentation of all of our key controls:

UCSB Response to SAS 112 UCSB Response to SAS 112  Work with Accounting and central departments to identify key controls for our financial processes  Describe & document key controls  Identify Roles, Responsibility, and Accountability  Identify sufficient evidence of review  Discussions with Campus

Key Controls What is a Key Control? A set of critical processes to prevent or detect errors and frauds in the financial statements

Department Key Controls Examples  General Ledger Reconciliation – Each month actual revenues and expenses are reviewed and reconciled to supporting documentation.  Overdraft Funds – Department reviews funds in overdraft status and takes follow-up action.  Distribution of Payroll Expense Reconciliation – Detailed payroll expenses reviewed each month by the department for general propriety and to validate the accuracy of the charges.

Department Key Controls Examples  Purchasing and Accounts Payable Invoices – Requisitions, Purchase Orders, and Invoices are reviewed and approved at the department level. Invoices must be approved by the person with signature authorization.  Effort reports ( PARS) – PAR reports are approved each quarter by responsible official with first hand knowledge of the work performed. PARS are certified for employees who are paid directly from a federal or federal flow through award.

Department Key Controls Examples  Physical Inventory – Physical Inventory is conducted by the department custodian/PI every two years. Equipment Management ensures the inventory is conducted every two years. Records are reconciled to the physical inventory results.

Key Control Process Example: General Ledger Reconciliation Key Control:Department Reconciles their General Ledger Monthly Process:  Departments review and reconcile, annotate exceptions, and follow-up with corrective actions, i.e, submitting a journal entry, contacting a recharge unit or other dept. as appropriate, or submitting a transfer of expense.  Maintain evidence of review and reconciliation that is easily accessible for audit, i.e. use On-Line General Ledger approval function that records user, time, date stamp

Role and Responsibilities of the Department  Implement departmental key controls  Ensure the key controls are in place  Document evidence of review for all levels (signature, and/or sign checklist)  Correct and follow-up timely, when control deficiency or weakness is identified  Document evidence of corrective action taken

Role and Responsibilities of the Office of the Controller  Update university procedures and best practices for Key Controls  Act as a liaison between external auditors and departments  Provide guidance, key controls framework, and communication for SAS-112 implementation  Serve as a resource for campus departments

Tools for Departments  UCSB SAS 112 Web Site –  UC Web Site –  Department Checklist

Other Controls  These key controls are not the only controls that departments need to monitor.  Other controls exist for governance and to comply with University Policy, Laws and Regulations.  Departments should not eliminate existing controls based on SAS 112.

Important Notes  SAS 112 Effective Date – May 1, 2006  Entire Fiscal Year ( ) is subject to review and testing  DO NOT go back and create documents or back date reviews  BEGIN documenting key control processes (if you are not already) effective immediately

Resources Sandra Featherson Associate Director of Controls x7667 Jim Corkill Controller x5882

Questions?