Are Your Accounting Policies Providing Internal Control?

What is the difference between a well-conceived and well-written accounting policy and a poorly conceived and poorly written accounting policy?  Of course, the needs of every organization are different, and the most important element of an accounting policy is that it helps the organization. Last week we mentioned the importance of gathering accounting policies into the accounting manual.  Now let’s review some important points to consider when crafting policies.

Accounting Policies Communicate Strategy

Accounting policies are an important way to communicate management’s philosophy or vision for running the organization.  It is within this framework that employees use accounting policies to guide decision making as well as establish effectiveness criteria, key performance indicators, or metrics that help determine the organization’s level of success.  Implementing accounting policies and procedures is one method of creating the internal controls needed for a successful and compliant (i.e. SOX) organization.

Accounting policies that don’t communicate management’s vision for operations, but simply state hard and fast accounting rules without explanation are less useful in communicating with employees.  Let’s take a look at a credit policy that expresses overarching goals:

The organization should provide credit in a timely manner to maximize sales and minimize risks in collections.

In other words: The organization provides fast credit to customers who will pay.  This is an example of management’s philosophy.  In order to fulfill the goal with objectives, we will need to establish effectiveness criteria based on stated goals: timely manner, maximize sales, and minimize risks.  This, however, is what a well-defined process does.  It establishes specific effectiveness criteria that can be modified to the changing conditions that all businesses and departments face.  The specific, measurable objectives have flexibility because the overarching goals of the policy remain constant.

A rule based accounting policy could be written as:

The organization provides $5,000 in credit to first time customers.

Does this leave the credit staff any latitude to make decisions to fulfill the mission?  Do you want your credit staff to follow accounting rules even when they are wasteful or detrimental to sales?  In this instance they could turn away a potentially great customer with an excellent credit rating because of this rule.

This is an example of a ballistic process focused on static credit criteria.  There is no way to judge how effective the policy and process are because people just follow the rule with no method of measurement or evaluation.

There are always exceptions to the rules, but when rule-based policies are given (instead of an overarching strategy or philosophy behind the rules), then employees are not empowered to make those decisions.  Accounting management should always be looking for ways to empower staff members to make good decisions, and a big impediment to making good decisions is the lack of information. Creating an accounting manual of clearly written accounting policies and procedures that express management philosophy is one way to communicate important information to the staff.

Accounting Policies Lead to Performance Criteria

Viewing accounting policy as way to communicate information about the overall mission or strategy of a particular function or accounting process does aid and inform organizational members.  When these overarching goals of the accounting process are translated into specific metrics or effectiveness criteria, now the puzzle is complete.  Your accounting policies should provide the guidance that helps establish criteria, but the accounting policy itself should not be the criteria.

In terms of an accounting manual for internal control, which method provides better internal controls: a set of accounting rules that may or may not be followed; or expressed guidance that fulfills organizational goals and leads to establishing criteria, which in turn clearly demonstrates how effective accounting processes are carrying out accounting policies?

Rules may be followed, and one could claim that they provide control.  But expressed rules will never play a role in improving the organization, and improvement should always be an organizational goal of any accounting manager or organizational leader.  Thinking of accounting policies as an expression of mission or strategy is a positive step in establishing clear communication with your staff and starting down the path of continual improvement.

To learn more about Bizmanualz Accounting Procedures go to http://www.bizmanualz.com/accounting/ and check out the Accounting Policies and Procedures Manual or sign up for the Bizmanualz Newsletter and download a free sample accounting procedure right now.

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Posted on Monday, December 15th, 2008 under Accounting Policies, Accounting Procedures Manuals, Internal Control

Licensed under a Creative Commons Attribution 3.0 United States License.

Originally published by Bizmanualz, Inc. under the title Are Your Accounting Policies Providing Internal Control?.

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