Managing risk is part of every activity in life such as working, driving, planning, or goal setting. We assess the risks involved in a given action, evaluate the likelihood of detrimental outcomes with given courses of action, and decide how to manage the risk to increase the chances for positive results. Risk management in accounting is no different. As professionals, accountants are held to high standards, and consequently, professional associations such as the American Institute of Certified Public Accountants (AICPA) and the Institute of Management Accountants (IMA) have codes of ethics or professional conduct to outline their specific expectations.
Accountants typically record and report financial information for organizations to their stakeholders in a manner that fairly represents the financial standing of each group. Without risk management in the accounting process, transactions could be omitted or recorded incorrectly, leading stakeholders to draw incorrect conclusions, make poor investment decisions, and potentially lead to business failure.
Like in the recent case of JP Morgan’s $2-billion loss, it came from trading in credit derivatives, financial assets that separate and transfer credit risk. This case is just one example of why safeguards and reform are so important in regards to individual banks and the broader financial system and economy.
Accountants counter risk through the use of internal controls. Companies establish these internal controls based on their specific needs to reduce the probability of theft or fraud and promote the reliable application of generally accepted accounting principles (GAAP) in the preparation of their financial statements.
Internal controls can include, but are not limited to:
- surveillance cameras
- segregation of duties
- rotation of duties
- physical inventories
- supervisor review
- internal audits
- mandatory vacations
- authorization of transactions
- use of safes or locks to protect assets
The important aspect to remember is that you will never completely eliminate risk when people are involved. Therefore, accountants must determine the proper balance to effectively manage the risk present and provide accurate information for the stakeholders involved.
By Emily Philippe
Accounting Professor, American Public University