0. COSO 2013
Perspectives Conference
November 26, 2013

1. Agenda Framework background Reasons for change Timeline
Changes to the framework and its components
Accompanying Guidance and Illustrative Tools
Stakeholder perspectives
Considerations for transition
Understanding Current ICFR Matters

2. Background summary
On May 14th, 2013, The Committee of Sponsoring Organizations of the Treadway Commission (COSO) issued its updated Internal Control – Integrated Framework (Framework) and related illustrative documents. The original Framework, issued in 1992, has been one of the most widely accepted frameworks for designing and evaluating systems of internal control. It is used by most U.S. public companies and many others to evaluate and report on the effectiveness of their internal control over external financial reporting.
The new framework is available at
Authored by PwC under the direction of the COSO Board, the updated Framework is expected to help organizations design and implement internal control in light of many changes in business and operating environments since the issuance of the original Framework, broaden the application of internal control in addressing operations and reporting objectives, and clarify the requirements for determining what constitutes effective internal control.
Also issued were a series of illustrative tools, which we will discuss today, that are expected to assist users when assessing whether a system of internal control meets the requirements set forth in the updated Framework. These tools are particularly relevant to those who prepare financial statements for external purposes based upon requirements set forth in the updated Framework.
COSO believes that users should transition their applications and related documentation to the updated Framework as soon as feasible under their particular circumstances. COSO will continue to make available its original Framework during the transition period extending to December 15, 2014, after which time COSO will consider it as superseded by the 2013 Framework.
The COSO Board believes that the continued use of the original Framework during the transition period (May 14, 2013-December 15, 2014) is appropriate. During this period, the COSO Board believes that organizations reporting externally should clearly disclose whether the original Framework or the 2013 Framework was utilized.

3. Project timeline Assess & Survey Stakeholders Design & Build
Public Exposure & Assess
Finalize
2010
2011
2012
May 14, 2013
Transition Period
Effective Date
Public Exposure- Summary of Public Responses (On-line survey)
Interest across geographies – approximately 50% of respondents from North America and 50% from international regions.
Concurrence that the updated Framework:
Will help strengthen systems of internal control
Provides important considerations of effective internal control through formalization of concepts introduced in the original Framework.
Appropriately expands the reporting objective
Divergent views exist – for instance, the updated Framework:
May set a higher threshold for attaining effective internal control
May impose additional burden on entities’ reporting on internal control
Should incorporate aspects of ERM-Integrated Framework, e.g., objective setting.
June 2013 – November 2014
December 2014

4. Internal control – Integrated framework
OPERATIONS
Information & Communication
Monitoring
Control Environment
Control Activities
Unit A
Unit B
Activity 1
Activity 2
Risk Assessment
FINANCIAL REPORTING
COMPLIANCE
First Published in 1992
Gained wide acceptance following financial control failures of early 2000’s
Most widely used framework in the US
Also widely used around the world
Original COSO Cube

5. Fundamental concepts
Geared to achievement of objectives – operations, reporting, and compliance
A process – ongoing tasks and activities
Effected by people – actions taken at every level of the organization
Able to provide reasonable assurance – but not absolute assurance
Adaptable to entity structure – flexible in application
Five components of internal control – requirements to achieve effective internal control:
Control Environment
Risk Assessment
Control Activities
Information and Communication
Monitoring Activities
Requirements for effective internal control-
Retains concept that effective internal control provides reasonable assurance regarding achievement of objectives
Effective internal control requires that:
Each of the five components on internal control and relevant principles are present and functioning
The five components are operating together in an integrated manner
When a component or relevant principle is deemed not present and functioning, or when components are deemed not operating together, a “major deficiency” exists
When a major deficiency exists, the entity cannot conclude that it has met the requirements for effective internal control.
An effective system of internal control reduces, to an acceptable level, the risk of not achieving an objective.

6. Driving the change Since the inception of the original Framework:
Business has changed dramatically –
Increasingly global
More complex
Driven by technology
Investors are more engaged –
Seeking greater transparency
Demand greater accountability for the integrity of internal control systems that support organizations’ operations, governance and external communications
Regulatory Regimes have expanded –
Additional forms of external reporting are emerging
The COSO Board decided to update the original Framework to make it more relevant to investors and other stakeholders.
Summary of revisions arising from comment letters-
Definition of internal control
Removes modifiers (e.g., reliable financial reporting) from categories of objectives
Assessing Effectiveness
Clarifies that effective internal control requires (i) each of the five components and relevant principles are present and functioning and (ii) the five components are operating together
Modifies classification of internal control deficiencies into two tiers: (i) major deficiency, which precludes effective internal control, and (ii) internal control deficiency
Clarifies that points of focus (formerly attributes) are important considerations in determining whether a principle is present and functioning
Removes presumption that points of focus are present and functioning, and clarifies use of judgment in identifying and considering relevant points of focus
Principles
Clarifies descriptions of several principles

7. What is not changing Retains the core definition of internal control
Internal control is a process, effected by an entity’s board of directors, management, and other personnel, designed to provide reasonable assurance regarding the achievement of objectives relating to operations, reporting, and compliance
Retains the five components of internal control
Retains the requirement of five components for an effective system of internal control
Retains management’s important role of judgment in designing, implementing and conducting internal control, and in assessing effectiveness of internal control
PHIL
Summary of other considerations arising from comment letters-
Objective setting
Retains five components of internal control
Retains view that specifying objectives is part of internal control but establishing objectives is not
Objectives
Retains operations, reporting, and compliance objective categories, and expands descriptions
Retains view that safeguarding of assets primarily relates to operations objectives, and recognize its consideration within reporting and compliance
Retains view that strategic objectives is not part of internal control
Structure and Layout
Retains view that the Framework comprises all chapters
Enterprise Risk Management (ERM)
Retains distinction between ERM and Internal Control
Retains view that strategy-setting, strategic objectives, and risk appetite are aspects of ERM and not part of the updated Framework
Retains definition of risk appetite and application of risk tolerance
Smaller Entities and Governments
Includes excerpts from COSO’s Guidance for Smaller Public Entities
Includes considerations relevant for smaller entities
Technology
Expands discussion in the points of focus and in several chapters
Excludes discussion on specific technologies and associated risks due to rapid pace of change in technology.

8. Information & Communication Monitoring Activities
Updated COSO cube
The update considers changes in business, operating, and regulatory environments
Changes in the environments…
Drive updates to the Framework…
Expectations for governance oversight
Globalization of markets and operations
Changes in business models
Demands and complexity in laws, rules, regulations, and standards
Expectations for competencies and accountabilities
Use of, and reliance on, evolving technologies
Expectations relating to preventing and detecting fraud
Operations
Reporting
Compliance
Control Environment
Risk Assessment
Entity
Division
Operating Unit
Function
Control Activities
Information & Communication
Monitoring Activities
Updated COSO Cube

9. Changes across all areas of the original framework
The more significant changes to the original Framework include:
Clarifying the Role of Objective Setting in Internal Control. The original Framework identified objective setting as a management process, and indicated that having objectives was a pre-condition to internal control. The new Framework emphasizes that point and states that objective-setting is not a part of internal control.
Reflection of the Increased Relevance of Technology. Technology has evolved substantially since 1992 from large stand-alone mainframe computers that process batches of transactions to highly sophisticated, decentralized, and mobile applications involving multiple real-time activities that can operate across many systems. Technology can affect how all components of internal control are implemented.
Enhancing Governance Concepts. The new Framework includes more content on governance related to the board of directors and its committees including audit, compensation, nomination, and governance.
Expanding the Objectives of the Financial Reporting Category. This category would expand to consider external reporting beyond financial reporting, and expand internal reporting for both financial and non-financial information.
KOJO

10. Changes across all areas of the original framework (continued)
The more significant changes to the original Framework include (continued):
Enhancing Consideration of Anti-fraud Expectations. The Framework contains more discussion on fraud. It also includes as a principle that management considers the potential for fraud when assessing risks to achieve its objectives.
Considering Different Business Models and Organizational Structures. Business models and structures have evolved. An increasing number of companies are using third parties to provide products or services necessary to their operations. Competition, globalization, dynamic industry and technological changes, new business models, competition for talent, cost management, and other factors have required management to look beyond internal operations to obtain necessary services.
KOJO

11. Changes across all areas of the original framework (continued)
The more significant changes to the original Framework include (continued):
Applying a Principles-Based Approach. The Framework focuses greater attention on principles by explicitly identifying 17 that are implicit in the original Framework. The 17 broad principles represent the fundamental concepts associated with the components of internal control, and apply to all organizations. Attributes that represent characteristics associated with the principles are included.
Control Environment
Risk Assessment
Control Activities
Information and Communication
Monitoring Activities
Demonstrates commitment to integrity and ethical values
Exercises oversight responsibility
Establishes structure, authority and responsibility
Demonstrates commitment to competence
Enforces accountability
Specifies suitable objectives
Identifies and analyzes risk
Assesses fraud risk
Identifies and analyzes significant change
Selects and develops control activities
Selects and develops general controls over technology
Deploys through policies and procedures
Uses relevant information
Communicates internally
Communicates externally
Conducts ongoing and/or separate evaluations
Evaluates and communicates deficiencies

12. Applying the framework – key concepts
Each of the five components and relevant principles is present and functioning.
“Present” refers to the determination that the components and relevant principles exist in the design and implementation of the system of internal control to achieve specified objectives.
“Functioning” refers to the determination that the components and relevant principles continue to exist in the operations and conduct of the system of internal control to achieve specified objective.
The five components operate together in an integrated manner.
“Operating together” refers to the determination that all five components collectively reduce, to an acceptable level, the risk of not achieving an objective. Components should not be considered discretely; instead, they operate together as an integrated system.

13. Key changes to internal components
The new Framework changes the internal control components as follows:
Control Environment
Expanded guidance on:
What creates and encompasses the control environment
Accountability for internal control
Integrity as a prerequisite to internal control and ethical behavior
Governance concepts, including oversight by the board of directors, independence considerations, and relevant skills and expertise.
Evaluating adherence to standards of conduct
Differences in cultural and potential impacts on control environment.
Planning and preparation for succession
Operations
Risk Assessment
Control Environment
Monitoring Activities
Control Activities
Entity
Division
Operating Unit
Function
Information & Communication
Reporting
Compliance
Changes in the Control Environment would:
Provide more explicit discussion on what is involved in achieving the ideal control environment and explain linkages between the components of internal control to demonstrate a sound foundation.
Combine into five principles the content on integrity and ethical values, commitment to competence, board of directors or audit committee, management of authority and responsibility, and human resource policies and practices.
Clarify that the expectations of integrity and ethical values include lessons learned and developments in ethics and compliance (e.g., codes of conduct, the attestation process, whistle-blower processes, investigation and resolution, and training and reinforcement, both internally and with third parties).
Expand the discussion about governance roles, recognizing differences in structures, requirements, and challenges across jurisdictions and industries.
Expand risk oversight and strengthen the linkeages between risk and performance to help allocate resources to support internal control and the achievement of business objectives.
Emphasize the need to consider internal control in light of the complexities of organizational structures that have resulted from using outsourced service providers and other external partners.
Align roles and responsibilities discussed in organization structure with the Roles and Responsibility chapter so that the major roles are used consistently within the proposed Framework.

14. Key changes to internal components (continued)
The new Framework changes the internal control components as follows:
Risk Assessment
Specifically defines “risk”
Includes the concepts of inherent risk and assessing fraud risk
Clarifies that the risk assessment process includes risk identification, risk analysis, and risk response
Expands the discussion regarding risk tolerance and how risk may be managed, including through accepting, avoiding, and sharing risks
Discusses consideration of the rate of change (including with respect to the entity’s business, operations, and technology) in the determination of the frequency of a company’s risk assessment process.
Separates the “financial reporting” objective into four categories:
External financial reporting,
External non-financial reporting,
Internal financial reporting, and
Internal non-financial reporting.
Adds discussion regarding possible corruption occurring within the entity
Operations
Risk Assessment
Control Environment
Monitoring Activities
Control Activities
Entity
Division
Operating Unit
Function
Information & Communication
Reporting
Compliance
Changes in risk assessment would:
Broaden the Financial Reporting category of objectives to include other aspects of external reporting and internal reporting.
Reflect the view that non-financial reporting occurs in relation to an external requirement or standard.
Clarify that risk assessment includes processes for risk identification, analysis, and response
Incorporate risk tolerances (set as a precondition to internal control and relating to the level of acceptable variation in performance and the relative importance of objectives) into the assessment of acceptable risk levels.
Expand the discussion on management needing to understand significant changes in the organization’s internal and external factors and how those might affect the overall system of internal control.
Consider fraud risk relating to material misstatement of reporting, inadequate safeguarding of assets, and corruption as part of the risk assessment process

15. Key changes to internal components (continued)
The new Framework changes the internal control components as follows:
Control Activities
Modified description of control activities as business process control activities and transaction control activities
Expanded discussion regarding:
Relationship of control activities and risk assessment
Control activities at different levels of an organization
Preventative controls versus detective controls
Technology and related concepts, including technology infrastructure, security, acquisition and development, and the relationship between automated control activities and general controls over technology.
Operations
Risk Assessment
Control Environment
Monitoring Activities
Control Activities
Entity
Division
Operating Unit
Function
Information & Communication
Reporting
Compliance
KOJO
Changes in control activities would:
Broaden the discussion to reflect technology’s evolution since 1992 (e.g., replacing data center concepts with a general discussion on the technology infrastructure) and update the discussion on general technology controls to focus on an overall concept about what needs to be controlled.
Expand the discussion of the relationship between automated control activities and general controls over technology to reinforce the linkages to business processes
Expands the discussion that control activities constitute a range and mix of control techniques, provide a more detailed description, and suggest methods to categorize them. Transaction level controls would be made distinct from controls at other levels of the organization.
Clarify that control activities are actions established by policies and procedures, but are not by themselves the policies and procedures.

16. Key changes to internal components (continued)
The new Framework changes the internal control components as follows:
Information & Communication
Additional guidance regarding:
How information and communication support the functioning of the other components of internal control
Communication between the organization and external parties
Importance of direct communication between personnel and the board of directors
Reevaluating information needs
Considering security and restricted access to information as well as the costs and benefits of obtaining and managing information.
Expanded discussion on obtaining and identifying relevant information, evaluating the quality of information, verifying sources of information, and retaining information
Operations
Risk Assessment
Control Environment
Monitoring Activities
Control Activities
Entity
Division
Operating Unit
Function
Information & Communication
Reporting
Compliance
KOJO
Specifically, changes in information and communication would:
Emphasize the importance of information quality and expand the discussion about the expectations for verifying to a source when information is used to support external reporting objectives
Expand information about the effect of regulatory requirements on reliability and protecting information
Expand the content about the volume and sources of information in light of increasingly complex business processes, greater interaction with external parties, and technology advances
Add content about the information and communication needs between companies and third parties and emphasize the importance of considering how processes may occur outside the company (e.g., third-party service providers for payroll, customer relationship management, data center operations, supply chain, manufacturing, etc.). The content would cover how companies should obtain information from counterparties that operate outside their legal and operational boundaries

17. Key changes to internal components (continued)
The new Framework changes the internal control components as follows:
Monitoring Activities
Evaluating the achievement of all the principles in the ED as part of the assessment of internal control
Discussion regarding the distinction between control activities and monitoring activities
Inclusion of the concepts of:
Using a baseline of understanding of internal control (in establishing plans for ongoing and separate evaluations)
Using IT in the context of monitoring
Using monitoring to identify gaps, anomalies, root causes, and opportunities for improvement
Additional considerations regarding monitoring at different levels of an organization and monitoring of third-party service providers.
Operations
Risk Assessment
Control Environment
Monitoring Activities
Control Activities
Entity
Division
Operating Unit
Function
Information & Communication
Reporting
Compliance
Specifically, changes in monitoring would:
Refine the terminology in the two main categories of monitoring activities that are referred to as ongoing evaluations and separate evaluations
Add the requirement for a baseline understanding when establishing and evaluating ongoing and separate evaluations
Expand the content about using technology and external service providers

18. Accompanying Guidance to the Framework
Issuance of the revised Framework also includes the following Tools:
Illustrative Tools for Assessing Effectiveness of a System of Internal Control
Internal Control over Financial Reporting: A Compendium of Approaches and Examples
PHIL
The COSO board has approved the final language of the framework update, but will spend the next several weeks producing it, preparing for distribution, and planning the communication strategy.
When the final document is published in mid-May, the original framework will remain available and deemed appropriate for use through December 15, 2014.
When published, it will include the Illustrative Tools for Assessing Effectiveness of a System of Internal Control, an addendum the board developed to help companies better understand how to assess the effectiveness of their controls. At the same time, COSO also plans to release Internal Control over Financial Reporting: A Compendium of Approaches and Examples, a companion piece meant to help companies apply the updated framework to meet their financial reporting objectives.

19. Illustrative tools for assessing effectiveness of a system of internal control
Tools include a collection of templates and scenarios that can assist users when assessing the effectiveness of a system of internal control based on the requirements set forth in the updated Framework.
Templates help management present a summary of assessment results and its determination of whether components and principles are present and functioning
Scenarios illustrate how templates can be used to support an assessment of effectiveness of a system of internal control, including:
Is a component and relevant principles present and functioning?
Are the five components present, functioning and operating together in an integrated manner?
Illustrative tools do not replace or modify the updated Framework.
PHIL

20. Internal control over financial reporting: A compendium of approaches and examples
Overview of ICOFR Compendium
Types of external financial reports – financial statements for external purposes and other external financial reporting derived from an entity’s financial and accounting books and records
Suitable objectives – financial reporting rules and standards form the basis upon which management specifies suitable objectives for the entity and subunits
Judgment – proper application of suitable objectives to the entity’s transactions mitigates risk of material misstatement
Overlapping objectives – operations, compliance and non-financial reporting objectives may overlap or support the external financial reporting objective
Deficiencies in internal control – material weakness and significant deficiency reflect definitions established by regulators for internal control over financial reporting
Smaller entities – principles are suitable and presumed relevant for all entities, and smaller entities may apply these principles using different approaches
Selected Approaches and Examples illustrate various aspects of applying the principles in an ICEFR context:
Approaches and examples are intended to assist users in understanding how the updated Framework can be applied when preparing financial statements for external purposes and other external financial reporting
Definitions, components, principles, and points of focus are consistent with the updated Framework.
Stakeholders should refer to the updated Framework for comprehensive discussion of an effective system of internal control
Compendium supplements and can be used in concert with the updated Framework when considering ICEFR.

21. Stakeholder perspectives
Actions for Consideration
Questions to Consider
First Line of Defense – Senior Management
Develop your plan to transition from the 1992 to the 2013 Framework. Your transition plan should consider:
Education on and evaluation of the 2013 Framework and its changes
Mapping of the existing system of internal control to the 2013 Framework
Assessment of the efficiency and effectiveness of the existing system of internal control
Implementation of new or upgraded controls, if needed,
Interaction with the Audit Committee, Board, and external auditors
Evaluation of impacts on reporting (e.g., sustainability reporting and changes in internal control under Regulation S‑K, Item 308(c))
Has my documented system of internal control kept pace with significant changes in my business organization, operations, technology and governance needs?
Does my control structure create the flexibility needed to manage increased globalization, an increasing complex regulatory environment and rapidly changing technology and its impacts on my stakeholders?
Do my risk assessment and monitoring controls function as an “early warning system” that act in unison with the other COSO objectives?

22. Stakeholder perspectives (continued)
Actions for Consideration
Questions to Consider
First Line of Defense – Line Management
Map the 17 principles and/or points of focus to your existing controls or controls the organization is contemplating in an organizational transformation within each component to demonstrate where the relevant principles are present and functioning in support of the objectives.
Identify and discuss control design gaps with senior management and develop plans to remediate any such gaps.
Does my control structure reflect a cohesive approach to controls for my organizational unit or function?
Does my control structure address the revised language of the reporting objective to cover internal and external financial and non‑financial reporting?
Have I designed my risk assessment and monitoring controls in a way that is precise enough to manage the specific risks within my organizational unit or function?

23. Stakeholder perspectives (continued)
Actions for Consideration
Questions to Consider
Second Line of Defense – Risk, Compliance and Other Policy Setting Groups
Perform an assessment of the impact of the 2013 Framework on your organization’s policies, guidance, training and related tools.
Work with senior and line management to communicate the impact of the 2013 Framework on the organization to Internal Audit and the Board/Audit Committee.
Has the organization defined and provided guidance on risk tolerance, risk velocity and persistence in a way that is readily understood within the organization?
Has the organization taken full advantage of the use of monitoring controls, including data analytics, within its control structure to better monitor the effectiveness of process-level controls and identify process-level changes?
Can we use the 2013 Framework to better integrate our compliance needs to lower costs and create a more transparent compliance process?

24. Stakeholder perspectives (continued)
Actions for Consideration
Questions to Consider
Third Line of Defense - Internal Audit
Discuss with the audit committee the impact of the 2013 Framework on Internal Audit’s operations and plans.
Proactively work with first and second lines of defense to create and manage the transition process to the 2013 Framework.
Have we identified the potential impacts of the 2013 Framework on our audit methodology?
Is there a focus on evaluating the clarity of business objectives such that significant risks to those objectives can be identified and assessed?
Does the organization’s and internal audit’s risk assessments incorporate risk tolerance, velocity and persistence?
Does our methodology actively assess whether controls are adapting to changing risk profiles or changing objectives?

25. Stakeholder perspectives (continued)
Actions for Consideration
Questions to Consider
Boards of Directors and Audit Committees
Understand how management is addressing the 2013 Framework and the timing and implications of migrating from the 1992 Framework to the 2013 Framework.
Engage in discussions with your external audit firm to review the organization’s 2013 Framework transition plan and understand implications on the execution of the 2013 and 2014 audits.
Has management’s plan fully addressed all aspects of the changes to the 2013 Framework?
Does management’s transition plan appropriately account for the people, process and technology resources that will be needed for the transition?
What changes does the external audit firm expect as a result of the 2013 Framework for your organization?

26. Considerations for transition
Proposed thoughts for new framework transition
Understanding and Awareness– key personnel within the organization understand the new framework, fundamentals not changing and key framework changes
Preliminary Assessment– perform an initial mapping of the company’s system of internal control over a key area (such as financial reporting) to the framework as a pilot for benchmarking
Broad Assessment – depending on the organization, complete the assessment on the broader internal control environment, educating and training personnel through the process
Transition Plan– develop a transition plan and core team of management to execute
Document and Evaluate
Validation Testing and Gap Remediation
External Review Testing
Continuous Improvement– continuously evolve the system of internal control, embedding responsibility into the company’s culture, business processes and procedures

27. Understanding Current ICOFR Matters

28. ICFR Executive Summary
ICFR is important and has recently been the subject of regulatory scrutiny
The SEC’s expectations of management and the PCAOB’s expectations of auditors with respect to ICOFR are similar
ICOFR will continue to be scrutinized until management and auditors make measurable improvements
Measurable improvements begin by making sure that management and auditors have an appropriate understanding of the flow of information from initiation to recording and reporting, the related risks to financial reporting, and the controls that mitigate those risks.
ICOFR “Hot Topics” include:
Management Review Controls
Controls over the Completeness and Accuracy of Information
IT Application and IT General Controls
Use of Third Parties
Identifying and Evaluating Control Deficiencies
ICOFR includes all 5 components

29. Questions

30. Citations
COSO News Release – COSO Issues Updated Internal Control-Integrated Framework and Related Illustrative Documents. (May 14th, 2013)
COSO – Internal Control – Integrated Framework, Executive Summary (May 2013)
Compliance Week – COSO Approves Final Internal Control Framework Update, Tammy Whitehouse (March 21, 2013)
KPMG Defining Issues – COSO Releases Proposed Update to Internal Control-Integrated Framework for Comment, Thomas J. Ray and Rocco Venezia (December 2011, No )
KPMG Thought Leadership– The road to transition: COSO’s Internal Control 2013 – Integrated Framework, Sam Fogleman, Sue Townsen, and Emad Bibawi (June 2013)
COSO– The 2013 COSO Framework & SOX Compliance, J. Stephen McNally (June 2013)
Selected Approaches and Examples illustrate various aspects of applying the principles in an ICEFR context:
Approaches and examples are intended to assist users in understanding how the updated Framework can be applied when preparing financial statements for external purposes and other external financial reporting
Definitions, components, principles, and points of focus are consistent with the updated Framework.
Stakeholders should refer to the updated Framework for comprehensive discussion of an effective system of internal control
Compendium supplements and can be used in concert with the updated Framework when considering ICEFR.

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