Rarely does one size fit all – but clearly one report will benefit all: In October, the NACD Blue Ribbon Commission on the Audit Committee issued its report. In addition to providing leading practices in key areas of oversight, the report offers 10 principles to help guide audit committees in their oversight of the financial-reporting process:
- Be proactive in focusing the agenda on what’s important—financial reporting risk—and make the most of audit committee meetings. Ensuring that the audit committee’s agenda appropriately addresses the issues that require the audit committee’s attention can be a major challenge. Develop focused (yet flexible) agendas, with an eye on the company’s key financial-reporting risks.
- Insist on transparency, both external and internal—among the audit committee, management and internal and external auditors. Good external transparency, i.e., from the investor’s standpoint, hinges on achieving internal transparency, including information quality and flow and communications between the board and management, auditors and other key players in the organization.
- Focus closely on external financial communications—beyond the 10-K and 10-Q. Earnings releases often pose more issues than the 10-Qs or 10-Ks because they contain important business information which often does not come from the financial-reporting system, is not audited, and is not subject to ICOFR or disclosure controls. If you haven’t already done so, reconsider the types of earnings guidance the company issues.
- Question the continuing validity of key assumptions that underlie critical accounting judgments and estimates. Be up-to-speed on key financial-reporting issues and developments affecting the company. From fair value accounting, to the convergence of U.S. GAAP and international financial-reporting standards to critical accounting policies, judgments and estimates, an ongoing challenge for audit committees is to understand important financial-reporting issues and developments affecting the company. Take a close look at management’s key assumptions underlying all critical accounting estimates.
- Assess the audit committee’s role in the oversight of risk management, with an eye to clarifying the scope. The tremendous focus on risk today is an opportunity for the board to reassess the role of the audit committee (and the full board and other standing committees) in overseeing risk, based on the unique needs of the company and industry.
- Set clear expectations for external and internal auditors. The audit committee relies heavily on the insight, technical capabilities, judgment and independence of internal and external auditors, who together provide “checks” on management. Encourage (and expect) frequent, informal communications with the audit engagement partner.
- Make sure the CFO and the entire finance organization have what they need to succeed, and be sensitive to the strains on these organizations. In this highly charged and uncertain business environment, the demands of the economic crisis, resource constraints and pressures to meet performance expectations have all exacerbated the normal rigors of the CFO’s and finance team’s jobs. Audit committee support of the CFO and finance team has become even more critical.
- Assess tone at the top and throughout the organization, including the effectiveness of compliance and antifraud programs. The economic downturn has placed tremendous pressure on management to achieve operating results; at the same time, cost cuts and workforce reductions may have exacerbated these pressures. Promote a culture of compliance and financial-reporting integrity throughout the organization, and insist that the tone set by senior management is clear, unambiguous and consistent.
- Help link change and risk management, and monitor critical alignments (controls and risks). Change creates risk. During times of dramatic change, the risk of misalignment—of the company’s strategy, goals, risk, controls, compliance, incentives and people—goes up exponentially.
- Take a hard look at the audit committee’s effectiveness, including its composition and leadership. Count on increased expectations for good governance and effective oversight, and focus on opportunities to improve. If you don’t get the basics right, your ability to ask the right questions and challenge management is critically limited.
Mary Pat McCarthy is executive director of KPMG’s Audit Committee Institute and a vice chair of KPMG LLP. Eric Holt is global and national service line leader—Internal Audit, Risk and Compliance Services at KPMG LLP.
Hi Mary,
Thank you for the attempt to enlist ten principles of an effective audit committee.
What is missing in your emphasis is the effective communication element that must be enshrined in audit committee agenda.
Suffice it to say, that public sector corporate governance need to be highly given voice. It is this area that consumes alot of national budget support in developing economies therefore, they demand the attention required.
What is the best way forward when corporate governance is poor and there is not a proper political support for state owned enterpsies aside that of private sector?
Richard Gudoi Gid’Agui
Communication should be outstanding on its own as a major factor . It is mentioned under item 2 above but the issue is the stakeholders need attention hence communication to be on its own.
issues of corporate social responsibility is a must. IT issues are needed as well as the expansion of committees to include legal committees, environment,health and safety and insurance committees, quality committees need to be considered ,It this can be communicated to all stake holders the better.