What Is a Control Objective in Accounting and Auditing?

A control objective represents a specific goal an organization establishes to manage and mitigate risks within its business operations. These objectives are designed to prevent or detect errors, fraudulent activities, and operational inefficiencies before they can cause significant harm. The purpose of a control objective is to provide a clear, measurable target for internal control activities. For instance, instead of a vague goal like “manage cash well,” a specific objective would be “to ensure all cash receipts are recorded and deposited within one business day.” This level of specificity allows management to design targeted procedures and later assess whether those procedures are effective to ensure the integrity of its financial information.

Categories of Control Objectives

Control objectives are organized into three distinct categories based on the COSO framework, which helps organizations design and evaluate their internal control systems. Each category addresses a different aspect of the business, ensuring a comprehensive approach to risk management. These categories are not mutually exclusive, as a single business process can have objectives that fall into all three areas.

The first category is operational objectives, which relate to the effectiveness and efficiency of the company’s core business operations. This includes goals related to performance, productivity, and the safeguarding of assets against loss, damage, or theft. An example of an operational objective is, “All inventory shipments must be accurately recorded in the perpetual inventory system on the same day they occur.” This objective aims to maintain accurate inventory records for production planning and prevent stockouts or overstocking.

Reporting objectives form the second category and pertain to the reliability, timeliness, and transparency of an entity’s financial and non-financial reporting. These are designed to ensure that information the company disseminates to management, investors, and regulators is accurate and trustworthy. A common reporting objective is, “To ensure the quarterly financial statements filed with the Securities and Exchange Commission (SEC) on Form 10-Q are prepared in accordance with U.S. Generally Accepted Accounting Principles (GAAP).”

The final category is compliance objectives, which are focused on adherence to applicable laws and regulations. These objectives ensure the company avoids penalties, legal action, and reputational damage. For example, a compliance objective could be, “To ensure all employee payroll withholdings for federal and state taxes are calculated and remitted in accordance with all applicable regulations.” This would involve following the deposit schedules mandated by the IRS for forms like Form 941, thereby avoiding significant tax penalties.

Designing Control Objectives for a Business Process

Formulating effective control objectives begins with a focused approach, concentrating on one specific business process at a time. This allows for a detailed analysis rather than a superficial overview of the entire organization. Management must first select a distinct operational area, such as accounts payable or payroll processing. By isolating a single process, the team can dedicate its resources to understanding the unique functions and workflows involved to identify potential weaknesses.

Once a business process is selected, the next step is to identify the risks associated with it. This involves considering what could go wrong within that specific workflow. For the accounts payable process, risks include:

• Paying fraudulent invoices from a shell company
• Making duplicate payments for a single invoice
• Paying an incorrect amount
• Failing to take advantage of early payment discounts

Each of these risks represents a potential financial loss or operational inefficiency that a control objective must be designed to prevent or detect.

With a clear understanding of the risks, management can then formulate a specific and measurable control objective to address each one. The objective should state the desired outcome in clear terms, serving as a direct response to an identified risk. For the risk of paying a fraudulent invoice, a well-formulated objective would be: “To ensure payments are made only for goods and services that were legitimately ordered and received by the company.” This objective provides a clear benchmark for success, guiding the development of specific control activities, such as implementing a three-way match system comparing purchase orders, receiving reports, and vendor invoices.

The Role of Control Objectives in an Audit

From an auditor’s perspective, control objectives established by management serve as the benchmark for evaluating the effectiveness of a company’s internal control system. Auditors do not create these objectives; instead, they use the company’s stated goals as the criteria against which the control environment is measured. For public companies, this process is a component of the audit of internal control over financial reporting, as mandated by Section 404 of the Sarbanes-Oxley Act.

An auditor’s work involves linking these objectives to the specific control activities that management has implemented. If a company has a reporting objective to “ensure the accuracy of financial statements,” the auditor will identify the tangible procedures in place to achieve this. These activities might include monthly reconciliation of bank accounts, management review of financial results, and controls over journal entries.

The audit process is the testing of these control activities to determine if they are operating effectively enough to achieve the stated objective. For an objective related to restricting system access, an auditor would test the controls in place, such as reviewing user access lists to ensure that former employees have been deactivated and that current employees only have access appropriate for their job roles. This testing involves examining evidence, observing the control being performed, and sometimes re-performing the control activity to confirm it works as designed.

The results from testing these controls allow the auditor to form a conclusion about whether the company is meeting its control objectives. If the tests reveal that control activities are not functioning properly, it is identified as a control deficiency. Depending on its severity, a deficiency could be classified as a significant deficiency or a material weakness, which would be reported to management and the audit committee. These findings are integral to the auditor’s opinion on the effectiveness of the company’s internal control over financial reporting.