Learning to Love Your Management Letter

Understanding Your Management Letter
Management letters go beyond the auditor’s report to give particular attention and insight to your specific business and operational circumstances.    Management letters are used by auditors to communicate internal control deficiencies and to make suggestions for strengthening internal controls and improving operating efficiencies.

An organization must design internal controls to provide reasonable assurance that its assets are safeguarded, that operations are managed effectively and efficiently, and that financial reports are reliable.  Internal controls must be designed to give assurance that transactions are properly authorized and are recorded to allow for financial statement presentation in accordance with Generally Accepted Accounting Principles.

When Are Management Letters Required?

Auditing standards require that auditors communicate in writing to management, and those charged with governance, any identified control deficiencies that in the auditor’s judgment rise to the level of “significant deficiencies” and “material weaknesses”.  All identified significant deficiencies and material weaknesses must be reported by your auditor in subsequent management letters until the deficiency is corrected.

USEFUL DEFINITIONS

• Internal controls are the methods and measures used by a business to monitor assets, prevent fraud, minimize errors, verify the correctness and reliability of accounting data, promote operational efficiency, and ensure that established managerial policies are followed.  Internal controls extend to functions beyond the accounting and financial departments. They vary according to organizational size, complexity, and management structure.
• Those charged with governance refers to those with responsibility for overseeing the strategic direction of the entity and obligations relating to the accountability of the entity, including the financial reporting process.
• A control deficiency exists when the design or operation of a control does not allow management or employees, in the normal course of performing their assigned functions, to prevent, or detect and correct misstatements on a timely basis.
• A significant deficiency is a deficiency, or a combination of deficiencies, in internal control that is less severe than a material weakness, yet important enough to merit attention by those charged with governance.
• A material weakness is a deficiency, or combination of deficiencies, in internal control such that there is a reasonable possibility that a material misstatement of the entity’s financial statements will not be prevented, or detected and corrected on a timely basis.