Following the money trail

Jan. 1, 2020
Performing an operations audit should take you on a path to improved business profitability.
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Any business is susceptible to problems, even if upper management thinks otherwise. Bringing in a third-party expert could help you determine the real risks within your organization and locate the processes that require immediate attention. Conducting an operational audit is one of only a few ways to get an independent, truly objective opinion on your business that will add value and help improve overall company operations.

The role of an internal auditor, according to the Institute of Internal Auditors, is to accurately identify the risk an organization faces. Their site says, “They must investigate the sources, put a relative value on each and keep the lines of communication open. This not only fosters a close and invaluable relationship with management, but also enables the auditor to anticipate emerging issues and opportunities.”

Why perform one?
There is nothing wrong with admitting that your organization doesn’t run as smoothly as it could. Ignoring that fact is what can cause problems. Just ask yourself: Does your company take too long to deliver products? Do you wish you could make better use of your floor or warehouse space? Is your profitability lower than it should be? It’s not uncommon for any company, no matter how successful, to have issues that need tending to.

“The primary benefits of performing an operational audit would include generating ideas for process improvements, evaluating alternative process solutions, offering objective outside views of new opportunities or potentially reducing expenses,” says Anthony Clark with Rhea & Ivy, P.L.C., an accountant and business advisory firm.

You may think, however, that your company is too small for an audit, or you don’t have enough employees for it to make sense, but it’s quite the contrary, says Clark.

“What we often find is that smaller organizations are sometimes the best candidates,” says Clark, who adds that small businesses typically don’t have as many processes as bigger companies, and due to a limitation of resources, they sometimes make shortcuts. A reallocation of resources or an investment in new ones can often provide tremendous benefits.

Getting started
In order to conduct an operational audit, you’ll need to have an idea of your desired results, but don’t fret if you are unsure: An auditing or similar consulting firm can help you determine that.

“A lot of companies are really optimistic about their business strategies and can be completely off the mark,” says Marc Yamada, managing consultant with PA Consulting. That’s why consultation with an outside firm is so important.

Clark explains that a firm starts “by helping the client define their desired results. We get an understanding of where they would like to be, then assess the current conditions. Through an interactive process of getting input from management and staff, we would hope to generate ideas for improvements, evaluate the best solutions and provide support during implementation.”

In parts distribution, Yamada says the core processes an auditor might analyze would be relative to the sales cycle, like order receiving, customer order entry, transactions, parts inventory and dispatching.

Once your audit begins, there are three key elements that will be determined. The first is criteria: What will the operation be judged against? Do you have policy manuals or standards to follow? Yamada explains that there must be certain performance standards established so there is something to measure against. “Processes have to be documented, have an owner and conform to a certain performance measure relative to the business or customer service levels.”

Second, the cause must be determined. This will allow you to decipher why there are differences between the criteria and what the auditor will find.

Finally, the discrepancies between the criteria and the actual findings will give you your effect — in essence, what the result or impact on your business has been.

A consultant will then look at the difference between your “best practice standard” and actual performance. PA Consulting focuses much of their effort on operational processes to help companies pinpoint and close the “gaps that need to be filled and streamlined.” And they will analyze virtually any process within a company. “The core is the customer requirement and what is leading to customer satisfaction,” says Yamada.

The six key steps to performing an operations audit:

1. Pre audit process — This step combines an introductory meeting with senior management with information gathering.

2. Risk assessment meeting — Held with the auditees, this meeting must involve the key managers of the department being audited. Major concerns should be shared and assessed in terms of their importance.

3. Control matrix — This step sets the stage for the actual audit, because the auditors determine the key management objectives and control activities.

4. Test design — The test procedure is designed for each identified control. It is then reviewed before the testing phase begins. Once testing ensues, the auditor will conduct interviews, examine documents and obtain explanations.

5. Report drafting — A draft of the review process will be developed and used as a discussion point to determine agreed upon actions needed.

6. Final audit report — The final report is then submitted to all key senior managers.

Source: McGill University

Clark’s company — which provides a number of auditing and consulting services — actually performs audits for the Automotive Distribution Network. When working with this client, they have three goals they like to meet. “Since our client is predominantly serving as a clearing house and provider for volume buying and discounting of inventory procurement, one of the things that’s so important is to ensure that the members are getting the product at the agreed upon prices, that vendor rebates and discounts are being handled properly and the information is getting processed timely.

“The key to a meaningful engagement is for the provider of the services to thoroughly understand the client’s business. We find that the most value is derived when services are provided on a periodic basis, i.e. quarterly, semiannually or annually,” says Clark.

Most we spoke to agree with the notion of more is better. Meineke Car Care Centers has 19 operations managers that are responsible for visiting stores on a quarterly basis, says Mike Carlet, the company’s CFO. They serve as “business consultants” and are there to ensure that Meineke’s corporate standards are being adhered to.

“We are monitoring everything from the cleanliness of the rest rooms to how the phones are being answered to filing systems and other processes,” explains Carlet. By making suggestions, “we are giving the (business owner) the opportunity to make changes, even though they don’t have to. We just suggest that they will make more money if they do these things.”

According to the PA Consulting Group, companies that deliver superior performance regardless of market conditions are able to because they “have a deep understanding of industry developments, which, combined with strategic alertness, allows them to spot opportunities that others miss. Second, their business operations management is industry leading…above all, they achieve complete alignment between their business strategy, their business operating model and the way they manage their operations.”

The financial audit
Because of the Sarbanes-Oxley rules, public companies are now required to conduct financial audits once a year. It came about in 2002 after a number of financial scandals were reported.

A financial audit addresses questions of accounting and reporting of financial transactions, including commitments, authorizations and the receipt and distribution of funds. The audit’s intent is to confirm that there are sufficient controls over cash and cash-like assets as well as appropriate process controls over the use of these resources.

“It provides a third-party, outside look at your financial health,” which is extremely important, says Anthony Clark of Rhea & Ivy, P.L.C. Clark explains that many privately held companies also have to perform financial audits due to agreements with shareholders, financial institutions or other lenders. They provide an assurance that financial statements are fairly presented.

Meineke is a privately held company and though they don’t have to follow Sarbanes-Oxley, the company still conducts fraud audits on their franchisees as a way to detect if any under-reporting is happening, says Mike Carlet, CFO. It gives them a sense of security knowing that their franchises are following proper protocol.

On the other hand, a program group like the Network conducts financial audits partially because of their national account presence, says David Cowsert, the group’s controller. “We are bidding on national account contracts and they want to see that we are a stable company.”

However, many financial audits now include an operational component, which allows companies to gain a better understanding of some of the risks within their company.