A key player in those meetings was the district’s external auditor. In addition to answering general questions regarding leases, the auditor examined account structures and discussed with district leaders which accounts would be affected, answered questions about which discount rates to use, and helped the team address other issues related to implementing the new standard.
With this guidance, the district was better prepared and able to adjust procedures to comply with the new lease-reporting standard.
Constructive Collaboration
This example illustrates how the CFO, accounting team, and auditor can work together constructively and collaboratively. Even though they have different but complementary roles, they share the goal of improving the district’s financial processes, accuracy, and reliability.
As the CFO and accounting team carry out their responsibilities throughout the year, the auditor can be at their side, providing critical guidance and direction. Auditors can maintain independence without being standoffish; their role is to teach, not just to test.
These practices culminate with preparation for the annual financial audit. The audit is an opportunity for the CFO and accounting team to demonstrate their knowledge throughout the year as they record transactions, and for the auditor to validate and publicly affirm the reliability of their processes. The auditor offers validation by affirming the results. Trust and open communication between the district and its auditor can make the annual audit less intimidating and more focused on continual improvement.
So what does it take to create a collegial, productive relationship between a district’s CFO and accounting team and the auditor as they engage in the process that culminates with the annual financial audit?
The Value of an Audit
Districts are required to engage in financial reporting to provide useful information to the board and community; to enable the district to make rational planning, capital investment, bond, and similar decisions; and to assess the amounts, timing, and uncertainty of prospective cash receipts from taxes, fees, and investment returns. The financial reports provide information about the district’s economic resources, claims on those resources, the effects of transactions, and events and circumstances that change its resources.
An effective financial audit does the following:
- Independently and objectively evaluates the financials, internal controls, and compliance.
- Identifies control deficiencies, significant deficiencies, or material weaknesses.
- Provides information to peers in the industry and access to experts on government accounting.
- Offers knowledge and training opportunities.
- Increases transparency and confidence from trustees and board members, legislators, and donors.
Begin with Trust
The relationship between the CFO and the auditor is most effective when it starts from mutual respect and collaboration. Auditors must be careful to seek documentation without the presumption of error or seeming to make accusations. They are looking for internal controls and consistent execution of the initiation, recording, reconciliation, and reporting of financial transactions.
It is natural for accounting staff to feel defensive when the audit team arrives seeking proof and documentation or asking about possible missing control steps, but remember it is not personal. Auditors should be tactful, and district accounting teams can help by remembering that the audit is about processes, not people.
The key is to recognize that each group plays a different role and has a different objective, but they all work toward a common goal. The CFO and accounting team record and document financial transactions; the auditor offers support and guidance. The result is an audit that lends confidence to the district’s work and validates the results.
The Nuts and Bolts: What to Expect
The accounting team’s responsibility is to have useful financial reporting based on the activity that has occurred all year. Data come into the accounting department from many different sources, and the accounting team has to make sense of it all. They must aggregate data, reconcile transactions, and tie balances back to transactions of significant accounts.
CFOs generally trust their accounting team and district colleagues, knowing how much work goes into processing and documenting tens of thousands of transactions each year.
In addition, accounts and transactions must be structured in compliance with the GASB, the state education agency, and other requirements, such as those that come attached to state or federal grant funds.
School districts operate with public funds and must demonstrate that they appropriately discharge the custody and care of those funds. The public is watching to ensure that district management is handling those funds responsibly. Even the smallest district must maintain strong financial records to accurately report income and spending to district management, the school board, and the public. Districts of all sizes face federal, state, and local audit and grant reporting requirements.
Each transaction makes a journey from initiation through authorization to reporting, and that journey is what the auditor must validate, based on how transactions were processed and recorded. The auditor verifies the financial reporting presentation by going back and reviewing the framework of transactions, account balances, and assertions.
When the auditors start asking questions, it may seem like they do not recognize the level of effort and diligence everyone put in. However, CFOs generally trust their accounting team and district colleagues, knowing how much work goes into processing and documenting tens of thousands of transactions each year.
What the Auditor Looks For
When validating financial data, the auditors recognize the CFO’s and team’s competence, but they must still gather empirical evidence to document the completeness and accuracy of the transactions and balances. Auditors document that the information has been validated at its source, analyzed, reconciled, and reported accurately and completely.
The auditor is looking for certain characteristics of effective financial reporting:
- Relevance. The auditor evaluates the potential effects of past, present, or future transactions or other events on future cash flow to confirm or correct previous evaluations, making information available to decision makers in time for them to adjust course when necessary.
- Faithful representation. The information must be verifiable, neutral, and complete. “Verifiable and neutral” means the information does not have a material error or bias or that the recognition or measurement method has been applied without material error or bias.
- Comparability and consistency. Information must be presented in a way that enables users to identify similarities and differences between two sets of data—for example, across multiple years for one district or across districts. Comparability requires the use of the same accounting policies and procedures, such as the GASB and state financial standards.
- Understandability. Information must be classified, characterized, and presented clearly and concisely.
Beyond verifying the accuracy of the balances, the auditor must validate how internal controls were designed, how consistently they were followed, and how well they worked to establish the necessary level of certainty over management’s assertions.
Why Internal Controls Matter
Modern accounting departments rely on multiple disjointed systems to process and record transactions. As complexity increases, so does reliance on comprehensive, well-designed, well-maintained internal controls—from segregation of duties to user access controls to accounts payable reconciliations. Those controls are part of what the auditors are there to verify.
For example, in looking at a district’s information technology ecosystem, the auditor needs to understand which IT risks may affect the records, transactions, and financial results being reported. Key attributes and risks the auditor should consider include
- Complexity of systems and data sharing
- Interfaces, data sharing, and integration of applications
- Changes to systems or implementation of new systems
- Number of users (internally and externally)
- User access design—role-based security and how those roles are assigned to employees to maintain segregation of duties
- Automated calculations and evidence of validation and reconciliation
- Key reports or other output
Districts should remember that auditors ask for information on IT and other controls, not to be intrusive or find fault, but to provide objective, substantive support for financial reporting. In addition, these internal control assessments are required under federal Uniform Guidance for certain grant funds.
Making It Work by Working Together
The most successful financial audits begin and end in a spirit of collaboration and trust. When the CFO and accounting team are working in synch, the entire process will run more smoothly, and the quality of the audit will be better. The CFO and staff are more likely to save time and money that can be put to other uses.
That is why it is so important for a district to lay a strong foundation for success during the process of selecting an external auditor. Pay attention not just to the audit firm’s qualifications but also to those of the audit partner and team that will actually do the work. Make sure they understand the district’s business and, ideally, have experience with similar districts.
An audit team that works in other districts can bring best practices to your district, as well as help you avoid mistakes that have been made elsewhere. Most importantly, make sure that the audit partner and team are committed to open, honest, and frequent communication.
Effective financial reporting, strong internal controls, and solid processes for gathering and reporting data will put the district in a position to provide a quality product to the board and community not just for one year but well into the future.
As they go through the journey together, the auditor can give district staff confidence that the information they are providing is the best, most complete reflection of the district’s activity. The more everyone prepares, communicates, and collaborates, the better the process will go.