TECHNOLOGICAL INSTITUTE OF

COSTA RICA
SCHOOL OF BUSINESS ADMINISTRATION
AUDIT I AE-4128

OPERATIONAL AUDIT

Teacher:
MAF. Sonia Trejos Monge

Made by:

Luis Aguirre AguirreCarlos

Jimenez
VargasEugenia Howell RodriguezAndrea
Moreno
BonillaJessica Quesada Gomez

APRIL, 2018
 table of Contents

table of Contents...............................................................................................................2
CHAPTER I: Generalities........................................................................................................4
CHAPTER II: Theoretical Framework....................................................................................6
1.8.1.1. Characteristics of Planning...........................................................................13
1.8.1.2. Advantages and Disadvantages of Planning................................................13
1.8.1.3. Main Elements of Planning..........................................................................14
Organizational Focus:........................................................................................................17
The Functional Approach:..................................................................................................17
Conclusions............................................................................................................................24
Literature................................................................................................................................25

ABSTRACT

Sometimes companies experience difficulties that threaten their performance and

proper functioning of operations, deficiencies in their effectiveness, efficiency and
efficacy.

These situations are sometimes detected, but in other cases they require in-depth
analysis to get to the root of the problem. This is why companies apply what is
known as operational auditing.

The following text attempts to provide basic knowledge about operational auditing,
including a little about its history, the objectives of its application, the advantages
and disadvantages of using this tool, and also the importance and role it plays in
companies.

The phases of the process involved are also set out, where the participants, the
elements used, the frequency with which they are carried out are defined and a little
is specified regarding the independence granted to the auditor.
CHAPTER I: Generalities

According to Reyes (2006), auditing was initially responsible for reviewing the
accounting records of a business, and fundamental importance was given to the
mathematical aspects of accounting; it also detected fraud and embezzlement of
funds.

The audit focused on accounting aspects (showing the status of the capital
contributed by investors). When the vision of accounting changed, it was
considered as information that allows good administrative management, auditors
expanded their scope of review, such as financial analysis and internal control
evaluations.

From here, the Operational Audit arises as a need to evaluate the decisions
adopted at the different hierarchical levels regarding objectives, policies, plans,
structures, budget, communication channels, information systems, procedures,
controls exercised, etc.

Through operational auditing, the true causes of deviations from the original plans
can be identified. Senior management needs to objectively understand the extent to
which objectives are being met and how resources are being used across all units
of the company. This is why professionals are needed who can provide objective
and independent information on the company's situation.

The focus of operational auditing then falls on the executive, that is, the person who
makes decisions and therefore determines, affects or directs the performance of a
human group that pursues an objective.
 1.1. Background

According to Reyes (2006), the first formal background on the origin of operational
auditing dates back to 1945, when on the occasion of the annual conference of The
Institute of Internal Auditors, the topic Scope of International Auditing of Technical
Operations was included for discussion on the panel.

In the year 1948, Arthur H. Kents, Internal Auditor for the Standard Oil Company of
California, writes an article called Audit of Operations.

In 1945 Frederic E. Mints, Internal Auditor of the Lockheed Aircraft Corporation,

begins to formally use the term Operational Auditing in his work and reports, as it is
known to date, causing a great stir in the community due to the novelty of the name
for this nascent discipline.

Since the late 1970s, some public accountants have been carrying out
administrative audit work whose purpose is to promote the efficiency of entities.
This type of examination is predominantly called operational audit.

The importance of establishing standards for this type of work was recognized by
the Mexican Institute of Public Accountants. In December 1972, the operational
audit commission issued its first bulletin with the purpose of identifying the
operational audit work carried out by the independent public accountant and with
the intention of unifying criteria on the subject.
CHAPTER II: Theoretical Framework

1.2. Definition

According to the website emprendepyme.net (2016), the operational audit provides

how to use resources efficiently and maximize and strengthen business
development. The processes that occur daily in a company can be very numerous.
And, obviously, from management, it is almost impossible to be able to control
everything and ensure perfection in daily operations. Hence, the need for
operational auditing arises. This involves the total or partial evaluation of a
business's procedures, with the aim of helping management to eliminate
deficiencies through certain corrective measures. The operational audit allows us to
analyze and evaluate all the decisions and strategies taken in the operations plan,
with which we develop the company's production process.

1.3. Objectives of the Operational Audit

Following verbatim what emprendepyme.net (2016) asserts, it is understood that

operational auditing is a great alternative to detect deficiencies in time and
transform the company's activity into a profitable process, which is ultimately what
interests a company most: doing more with the least amount of resources possible.

The same website indicates that the objectives of the Operational audit are:
 1. Analyze administrative, managerial and operational aspects on which
appropriate modifications will be made in order to improve business
operations.

2. Identify which areas need to reduce costs and support processes with
greatest needs.

There are many companies that are doing badly, but they don't know how to detect
the reason. That's where operational auditing comes in. This will allow you to detect
the weak point of the business with complete certainty, establish the measures that
the company must adopt and, thus, finally manage to recover and successfully
achieve its objectives.

1.4. Orientation

According to the document by Carina Suárez contained in the Gerence.com page

(2017), in the Operational Audit the information is directed towards the
administrative aspect, that is, towards all the company's operations at present with
projection to the future and retrospective to the near past.

When performing an operational audit, poor conditions are often observed, which
are often unavoidable. But showing the faulty reason and thus obtaining effects that
benefit the organization, not only at present but also in the future.

An evaluation of the effectiveness of procedures and practices requires some

preliminary review or study in order to understand how these procedures and
practices work and to form an idea regarding their effectiveness and usefulness.
Based on these reviews it is possible to identify specific issues.
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as problem areas or deficiencies that require further study, all of this has obviously
led to profound institutional readjustments in the organization of the activities of
public bodies in planning, budgeting, accounting and control.

A more selective application of audit resources becomes necessary, except that for
any activity or aspect that must be examined by a legal requirement, audit
requirements should normally be directed to those activities and aspects that
appear to offer the greatest potential for constructive improvement.

1.5. Advantages and Disadvantages of Operational Audit

Among the advantages of Operational Audit are:

❖ The company obtains an objective and realistic opinion. This will have
important effects on inventory control in the short/medium term: increased
production, faster sales (sales plan), reduced costs, etc.

❖ Saving money in the long run. It is a big investment, but with great positive
results visible over time.

Among its disadvantages, the same website, emprendepyme.net (2016) mentions:

❖ It is a process that costs money, which is why many companies are reluctant
or simply cannot afford it.
 ➢ It requires a relatively long period of time to complete, since it involves an
exhaustive analysis and examination of the company's operations with which
to detect productive improvements.

➢ Difficulty in finding significant deficiencies.

To achieve the above, aspects that allow for a complete evaluation of the
department(s) to be audited must be considered, and it is essential that the auditor
concentrates on what must be audited. In this regard, knowledgeweb.net (2018)
states that the nature and philosophy of operational auditing, Bradford Cadmus,
Director of Research and Education at The Institute of Internal Auditors, defines
them with the following textual quotes:

1. When an auditor reviews revenue records, he is doing an internal audit.

When you observe how a client is treated, you are acting as an
operational auditor.

2. The operational auditor must assume that he is the owner of the business,
that it belongs to him.
Before you recommend a change, or criticize an operation, you should
ask yourself what you would do if you were the owner.

3. The operational auditor must ask himself: How would the owner review his
business if he had the time to do so?

4. Operational auditing should be considered as a state of mindset, in the

form of analysis, focus and reasoning.

5. Operational auditing involves becoming familiar with the operations and

their problems, followed by the analysis and evaluation of the controls to
ensure that they are adequate to protect the organization.
Among the characteristics of the Operational Audit, Reyes (2006) lists the following:

It helps to reformulate the organization's objectives and policies.

It helps senior management evaluate and control the organization's activities.
It helps decision-makers have a long-term vision so they can plan better.
Depending on the circumstances, the operational audit may be carried out
partially, considering one or more specific areas periodically and on a
rotating basis.
The Operational Audit must be carried out by a multidisciplinary group, where
each professional must be incorporated to the extent that their knowledge is
needed.
The Operational Auditor must base his preparation on general administration,
organizational theory, auditing, economics, costs, general and social
psychology, marketing, finance, personnel administration, political production
and business strategy, among others.
It must not hinder the normal operations of the company.

1.7. Operational Audit Process

According to Thibodeaux (2018), During the pre-intervention, the auditor meets with
management, explains the audit process and collects basic information about the
company to determine concerns and risks. The auditor then meets with key
managers to verify the components of the
audit and associated concerns. Third, the auditor meets with those in control of
high-risk areas and determines and documents their control objectives and
activities. The auditor sends documentation to managers for confirmation and
discusses controls that are not in place. Fourth, the auditor designs and prepares
testing procedures for each key control. Review plans with managers and carry out
tests, document and analyse all results and proposals for improvement. Fifth,
prepare an audit report, meeting with management until it is clear that management
knows how to address the problems found. The final step is the creation of a final
report and follow-up.

1.8. Phases of Operational Audit

In her prezi presentation, Engineer Victoria Chulde (2013) lists 3 Phases in the
Operational Audit:
1. Planning
2. Execution
3. Inform

The text of this presentation is extracted from what corresponds to each phase and
it is stated that:

1.8.1. PHASE I: PLANNING

In this phase, the relationships between auditors and the entity are established to
determine scope and objectives.
An outline is made of the entity's situation, regarding its organization, accounting
system, internal controls, strategies and other elements that allow the auditor to
prepare the audit program that will be carried out.

1.8.1.1. Characteristics of Planning

Its characteristics are as follows:

1. It is a permanent and continuous process.

2. It is always oriented towards the future.
3. Seek rationality in decision making.
4. Seeks to select a course of action from among several alternatives.
5. It is systemic.
6. It's repetitive.
7. It is a cyclical technique.
8. It is an administrative function that interacts with the others.
9. It is a coordination and integration technique.
10. It is a technique of change and innovation.

1.8.1.2. Advantages and Disadvantages of Planning

The main advantages of Planning are:

It requires activities with order and purpose

It points out the need for future changes
It provides a basis for control
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• It is limited by the accuracy of the information and future events.

é There are psychological barriers: A common barrier is that people take the
present more into account than the future.
It delays actions.

1.8.1.3. Main Elements of Planning

The first phase of the Operational Audit consists of the following elements:

1. Knowledge and understanding of the entity to be audited, including: site

visits, interviews and surveys, comparative analysis of financial statements,
objectives tree (complexity breakdown), SWOT analysis, cause-effect
analysis and problem tree.
2. Objectives and scope of the audit. This describes the “what for?” and the
“why?” Management is informed about the actual status of the company,
ensuring compliance with the statutes that require annual audits.
3. Scope. This covers the scope and the period to be audited, that is, whether
all activities involving operational management are to be examined; and it
may be an audit of one year, one month, one week, or even several years.
4. Preliminary analysis of Internal Control. The result will provide an
understanding of the nature and scope of the audit plan and the assessment
and appropriateness of the procedures to be used during the examination.
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It is the phase of the process where the action plan previously prepared by the
auditor is executed, through three steps:
a. Conducting Audit Tests to verify compliance with internal control procedures.
b. Make use of audit techniques and procedures to obtain sufficient and competent
proven evidence, in order to establish elements of judgment to issue a final opinion.
c. Working papers such as forms, spreadsheets and questionnaires.

In this phase there must be the respective supervision by the auditor and his entire
work team.

1.8.3. PHASE III: REPORT

In this phase, the working papers are reviewed and the fulfillment of objectives is
evaluated. A draft of the opinion is also prepared and finally, the final audit report is
prepared containing the opinion with the following:

It is a clean opinion
With exception
With adverse opinion
é With abstention of opinion
 1.8.4. SUMMARY OF THE THREE PHASES OF OPERATIONAL AUDIT

Planning:

^ Customer Knowledge

^ Analysis of risk areas

^ Preliminary assessment of internal control

^ Preparation of general and specific work programs

Execution

^ Application of audit tests

^ Application of audit techniques and procedures

^ Preparation of working papers

^ Supervision of assistants

Report

^ Review of working papers

^ Measurement of audit objects

^ Preparation of the Audit Report

1.9. Operational Audit Approaches

According to Suárez (2018), there are two approaches in Operational Audit:

Organizational Focus:

The application of this approach is based on the management of a department or

other command unit. In addition to the functions or activities within an organization,
it examines its administration, considering its system, its personnel, its information
methods, its personnel evaluation methods, its budgets and the place it occupies in
the company's general plan. You can also make a microscopic description of the
company's structure, studying its shape from numerous angles.

The Functional Approach:

It deals with the monitoring of one or more activities from their beginning to their
conclusion; preferably all functions through the units involved in them, they are less
concerned with the activities of general administration; within the units than with
their effect on the functions they review.

Functional Audits are often very difficult because they perform a long, indirect
experiment in a company and can be extremely frustrating for anyone trying to
understand the many aspects of the workflow.
1.10. People in charge of an Operational Audit

Suárez (2018) continues his contribution by stating that the operational audit is
carried out by a team of professionals from various disciplines depending on the
situation to be presented.

The operational audit can be carried out by company personnel or by external

persons. The team is made up of auditors, professional public accountants, and
professionals with practical and formal training in the accounting profession. In
addition to this multi-purpose team of personal auditing professionals, there are
also professional technicians from other disciplines such as: engineers,
economists, mathematicians, lawyers, electronic systems specialists, business
administrators, etc. Each one is responsible for collaborating in their area of
expertise.

Auditors must carry out their work personally, as a manager would do if he had
time. They must also assume that they are the owners of the business, that they
are the owners of the benefits, and before criticizing a change or criticizing an
operation, they must ask themselves what they would do if the business were really
theirs.

The operations auditor has the responsibility of assisting both operational and
general management, and must offer recommendations to operating directors.

Auditors have the responsibility to observe international auditing standards,

generally accepted accounting principles, etc. in their reviews and evaluations;
everything concerns the clarity, adequacy and execution of the work for the
preparation of the respective report.
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The operational audit is optional, therefore it is necessary to carry out an audit

taking into account the following factors:

By Competition; for a company to be competitive in the commercial field, a more

specific audit must be carried out so that it can locate or detect its skills and threats
and thus be able to overcome them through the auditor's information indicating
recommendations and thus make this company have many opportunities and be
competitive compared to other companies and have a strength to satisfy its
individual needs.

By Senior Management; the company's senior management has the need to

determine areas of greater sensitivity and contribute to greater efficiency of
operations, the purpose of which is to ensure the efficient, effective and economic
fulfillment of business objectives.
(Suarez, 2018)

1.12. Importance of Operational Audit

In her article on Internal Audit, Carina Suárez (2018) states that the Operational
Audit is important because it is the subsequent control instrument over the
administration in general. It has a more important meaning for the public sector
since normally the private sector has an automatic instrument that determines its
efficiency and effectiveness.

This instrument is the measurement of net profit, the income and expenses of the
company are closely related, if the company produces effectiveness it is
efficient, otherwise corrective measures will be taken.
In the public sector, an entity's interests normally come from the public sector and
are not produced in relation to its operating expenses. For this reason, operational
auditing is important in government, and there is growing interest in its application
by those in the highest control body.

The Operational Audit, with the purpose of providing a managerial service, no

longer content with obtaining an opinion on the reasonableness of the Financial
Statements and the effectiveness of internal control, had the need to know the
existing deficiencies and irregularities that threatened efficiency, economy and
effectiveness. The importance of the Operational Audit leaves behind the image of
the auditor who only focused on reviewing accounts and determining those
responsible for embezzlement, fraud, misappropriation of funds and other
irregularities. The auditor becomes a thinking, creative element with great
imagination and common sense to better perform his functions and to evaluate the
execution and value the results obtained.

Operational Audit allows the development of entities to be accelerated towards

efficiency, always seeking continuous improvement of action plans and procedures,
for which it is essential that all professionals who carry out control actions become
aware of the importance of Operational Audit in the shortest possible time, due to
the valuable benefits it brings.

1.13. Degree of auditor independence

The importance of an auditor's independence and objectivity cannot be overstated.

He should feel free to bring out any of the
conclusions that are justified. In order for the Operational auditor to
obtain the
maximum independence in carrying out its reviews should be located within the
organization so that it can report to the most practical level of the company.

Its effectiveness will be diminished in those areas for which operational

responsibility lies with the officials in charge of the auditor.

It is important for the operational auditor to proceed carefully by developing his

programme slowly and steadily in order to avoid serious pitfalls; development
should be gradual and build on experience.

For operational staff without a track record, it is difficult to distinguish between the
work of the internal operations auditor and that of the independent auditor. It is
clear that both use similar techniques to approve, verify the reliability of records and
the adequacy of protective controls. The auditor is delegated by the board of
directors to be responsible for reporting to shareholders, management and the
public on the adequacy of management's representations regarding the financial
condition of the business and the financial results of operations for a specific
period.

Internal operations auditors are responsible to general management for the

adequacy and effectiveness of the control system throughout the organization; they
deal with financial records and their work is generally directed toward how these
serve management to have profitable operations (Suárez, 2018).
1.14. Frequency of Operational Audit

An operational audit is not always carried out at a specific time, but rather occurs
when the management or directors of an organization require it or consider it
necessary. It may be necessary to do this at the end of each fiscal year if the
organization's policies so establish.
In the event that there are no policies or there is a lack of understanding of these,
the meaning of their directives as control elements in the main areas of importance,
the inadequacy of administrative controls, the degree of non-compliance in the
functional areas and operational controls and the recommendations for adopting
and modifying the controls. All of this leads to the performance of an operational
audit where the auditor will be able to develop the client's background, which
influences, for example: the profit history, the return on investments, the main
product classes, the usual distribution channels, production control and inventory
policy, as well as the inspection of other services or signs of other problems.
Conclusions

As part of the conclusions, it is established that operational auditing within

companies is of great relevance and should be applied in most companies since, as
previously mentioned, carrying out this process can benefit the effectiveness,
efficiency and efficacy of the companies' operations.

It is known that it is a costly process and that the investment to be made does not
consist solely of economic capital, but it is considered to be a non-risky and
essential investment to be able to overcome the operational problems that arise
every day in companies.

In addition to this, there is no specific and strict time established to carry out
operational audits. These are carried out mostly when there is a difficulty presented
and observed and it is desired to determine the root of the problem or when
management requests it for some special reason. However, it is considered that
this type of audit should be used at least once a year and more frequently in the
most vulnerable units of the company.

On the other hand, it is recommended that when an operational audit is being

carried out, both approaches are applied in the process since this will increase the
value of the opinion for management since not only would it be evaluating process
by process of the workflow, but an administrative evaluation of each unit is also
carried out. This makes it easier to identify discrepancies in processes, jobs and
budgets.
Finally, as has been reiterated, it is vitally important that the auditor has no or few
limitations imposed by management, since this would benefit the process in terms
of quality and transparency.

Literature

Cepeda Alonso, G. (1999). Audit and Internal Control. Mexico: Mc Graw-Hill.

Reyes, A. (2006). Theoretical Framework on Model, Operational Audit, Marketing

Program, Financial Intermediation, Financial Results. Obtained from
http://ri.ufg.edu.sv/jspui/bitstream/11592/6679/3/657.452-A663d- Chapter
%20II.pdf

Suarez Revollar, C. (November 5, 2018). Operational Audit. Obtained from

Gerence.com: https://www.gerencie.com/auditoria-operativa.html

Thibodeaux, W. (2018). What is an Operational Audit process? Obtained from The

Voice of Houston: https://pyme.lavoztx.com/qu-es-un-proceso-de-auditora-
operational-6128.html