Composition and Accountability of Audit Committee - Assignment Example

Name : xxxxxxxxxxx Institution : xxxxxxxxxxx Course : xxxxxxxxxxx Title : Composition and Accountability of Audit Committee Tutor : xxxxxxxxx @ 2009 Qn. 1 Composition and Accountability of Audit Committee Reasons for the requirements for audit committee Introduction The audit committee is a fundamental element of governance and accountability in any particular organization. The responsibilities of an audit committee vary depending on the size, complexity, entity and requirements of the organization. The members of the audit committee are usually selected from the board of directors of the company. The committee has to be made up of independent directors whereby at least one of them should be a qualified financial expert. Every member of the member of this particular committee must be independent according to a particular specified criterion. There are various reasons for the necessity of an independent audit committee within in an organization. One of the important responsibilities of the audit committee is to scrutinize the interior control process of an organization. The committee guarantees that the management has followed and developed a system of control that is adequate. The aspect of monitoring is part of compliance with the regulatory and legal requirements of the NYSE. The monitoring of interior control process of an organization facilitates effectiveness in terms of evaluation of control reports that are produced by the management, which involves a statement concerning the usefulness of the internal controls above the company’s financial report (Anderson, Mansi, 2004). Risk management and assessment are also part of the essential roles that an audit committee performs. An audit committee with knowledgeable directors and is independent is in the right position to inquire if has put up effective mechanisms for managing risks adequately. The best practice that can be performed by an audit committee is risk assessment .The proposal of the NYSE necessitates that the audit committee not only discusses with the management concerning the risk assessment of finances but also the risk management of policies that are used in the running of the organization. It is essential that the audit committee verifies what actions the management has taken in the identification, monitoring and controlling of risks (Asbaugh, Mayhew, 2003). Risk management also entails that the audit committee that institute procedures of that can be used in handling the complaints on auditing, controls of internal accounts and general accounting. The audit committee also ensures that internal audits are appropriately resourced. This process involves the measuring the suitability of the range of internal audits, in terms of the work planned. The audit committee also addresses whether the managements responds effectively to the findings of the internal audits. The audit committee also oversees the process of financial reporting. Quarterly reports and annual reports are principal means for managing stockholders performance and making reports on the financial conditions of the organization. The audit committee is therefore charged with the role of reviewing financials statement with external auditors and the management. The NYSE recommends that that audit committee discuses the release of the earnings made to the press with the management. The key role in financial reporting that is performed by the audit committee is to monitor ever financial information that is communicated to the members of the public in order to guarantee that the information being received by investors is not misleading. The information includes reviews of the release of earnings on GAAAP information that is not adjusted and pro formers. The audit committee guarantees that the released do not violate the requirements of the SEC. The audit committee plays the important role of proper arrangement of off- balance sheet by making sure that the arrangements made are well disclosed. The understanding of the off balance sheet will enable the audit committee weigh the suitability the procedure and know if it will measure up to regulatory requirements. The audit committee should further make certain that the requirements of the Analysis disclosure (MD&A) and GAAP requirements of disclose are met according to the arrangement of the off-balance sheet. It is therefore necessary for the audit committee to have a continuing and healthy discussion with the management concerning the off-balance sheet (Palepu, 1986). The audit committee also monitors the choices if accounting principals and policies. The selection of principals of accounting has a major consequence on the financial statements. The audit committee has to be given a report by the auditor concerning the principle used and the impacts of that the alternative choices pose on financial statements. The requirement of the NYSE is that the audit committee together with the external auditors and the management should evaluate the consequence of estimates on financial reporting. The discussion of principals and policies of accounting should includes aspects of the current principal used and its effects, alternative principals, the outcome of principles and the principle that is best preferred by the auditors. The audit committee should also at least play the key role of communication with key individuals in the running of the organization. Furthermore in addition to the CEO, CFO, and external auditors, the audit committee should put into consideration the aspect of at least once a year, interviewing service providers and employees in key roles of the organization such as the officer in charge of corporate governance, the leader of the disclosure committee and the assistant controller and the controller. This is to ensure that accountability and good performance is maintained (Palepu, 1986). Qn. 2. Examination of the importance of audit committee independence and financial expertise through the use of cases of HIH and WorldCom The HIH Case The HIH GROUP collapse was a scandal that resulted into a huge financial deficiency of up to $5.3 billion which can be accounted as Australian biggest corporate failure. There are various lessons of corporate governance that can be learnt from this particular incident especially concerning the importance of financial expertise and the audit committee. This is due to the fact that the HIH collapse was not just as a result of embezzlement and fraud but also mainly an issue of mismanagement. Most of the financial difficulties that faced the organization were as a result of breaching the law. When making an analysis of the role played by the audit committee in HIH. The evident fact indicates is that the audit committee was ineffective in the performance of its functions. The role of the independence of audit committee in any organization is very essential in the management of the organization. In a situation were the committee does not use its independence in management of the organization, there is bound to be issues of wrong governance in the organization, thus affecting its performance. The audit committee of HIH initially had regular meetings with the executive directors and directors to discuss contentious matters within the management, however, when such meeting took place, the audit committee did not and could not actually ask the right questions, concerning how various activities such as financial reporting, auditing and verification of various financial activities of the management . The financial expertise of the stake holders of any organization should be an effective tool of ensuring that the running of the organization is successful. The HIH, audit committee and other officials of the company such as the CEO and the chairman, illustrated poor management skills .There was clear lack of accountability within the organization for instant the CEO was very dominant, and the chairman was very ineffective he did not carry out his role properly. For instance company and personal fraud were actually intermingled and disclosure to the board was not made (Menon & Williams, 1994). The WorldCom audit committee The financial scandals in many organizations are associated to the attention and function of the audit committee. The audit committee should have good financial expertise in order to ensure that accountability is enhanced in an organization. The establishment of an internal audit committee that is effective is probably the most important structure in the organization. When evaluating the WorldCom fiasco, the lesson learnt is that the audit committee is obliged to be in charge of the operations of the department of internal audit, to the degree that the basic functions should be auditing the financial reports. The audit committee of world com gave mandate to the management to take charge of the interior audit department and develop a structure of incentive that needed the audit group to put emphasis on operational audits. The audit group gave information to the audit committee that was not adequate therefore the company was saved from a huge collapse (Securities Exchange Commission (SEC), 2003). The essential lesson to be learnt is that severe confederations should be laid on the audit committee. It is essential that any set audit committee should perform its function as required but not rely on any other body or individual to perform its functions. 3. Comparison and contrast of the Australian and US requirements for the composition, operation of an audit committee with regard to its composition and relation with other parties. One of the differences that exist between the Australia and the U.S requirement for composition and operation process for the audit committee is in the aspect of financial reporting and the composition of the audit committee. In Australia, companies are subjected to the listing rule of ASK which requires the involvement of the audit committee at the initial stages of the financial year. Furthermore the council guides of the ASK require that the audit committee has to comprise of three members who are not executive directors. In the U.S, the listing rules made by the NYSE obligates all listed companies must have an audit committee and a formal charter of the audit committee which highlights the duties. When it comes to the aspect of composition, in the U.S, the Sarbanes-Oxley act requires that every member of the Audit committee should be a member that is independent and must be within the board of directors. The SEC further obliges that the ever audit committee member of a company that is publicly listed should be independent according to criteria that is specified in the regulations of the SEC (McMullen, Raghunandan, 1996). The other difference that exists between the Australian audit committee and the U.S audit committee is in the qualifications of the Audit committee. In Australia the ASK guidelines recommend that every member of the committee should have financial literacy, at least one person should have skills in financial issues and understanding of the criteria of operation of the company. In the U.S the qualifications of the Audit committee are disclosed by public companies according to the Sarbanes –Oxley Act .However in the private sector a company that has members within the audit committee without financial knowledge should give explanations why. The other difference is that role of the Audit committee differs between the two countries. In Australia the recommendations about the role of the audit include a formal character which is made available to the public. The audit committee also plays the task of supervising the sovereignty external auditors and also the reviewing the truthfulness of the financial reports of the company. In U.S the Audit committee follows the regulations of the NYSE whereby the responsibility and the authority of the audit committee must be indicated on a charter which highlights specific duties and roles which are specified in the charter (Breslow, 1982). Effectiveness of audit committee requirements in Australia and the US is highlighted by functions such controls and evaluation of risks. The auditing committees of the two countries are had laid emphasis on risk management in order to avoid losses within the many organizations Fraud surveys have also improved the methods of dealing with fraud. The effectiveness of the Audit committee in both countries is also overseen by the various Acts which enhance the mandate and the independence of the audit committee in order to eliminate external and personal influence in financial decision making (Reynolds et al 2004). C. Diagrammatic framework of the audit committee in regards to composition and relations to other parties. Qn. 4. The Qantas Airways limited is one of the listed companies in the Australian stock exchange. The composition of the audit committee of this particular company consists of directors who are non –executive, this member who have financial literacy, this gives them the ability to understand the financial statements. Furthermore the committee comprises of one member who is has experience as a qualified accountant or a professional in other financial or accounting fields (Beasley, 1996). The chairman of the committee is selected by the board and is supposed to be a non – executive director who is independent. Other members include the chief financial officer, officer in charge of risks, the internal audit general manager and the committee chairman. The secretary of the company has to attend all meeting is order to make certain that the minutes of the meeting are well taken. As highlighted by the composition of this particular organization it is evident that the composition of the audit committee is well suitable for performing functions of the audit committee due to its independence and level of professionalism present among the members. When evaluating the aspect of independence and operation of the Qantas Airways audit committee, what is evident is that most functions performed by the audit committee are performed according to the various Corporate Acts without the interference of the management of the organization. For instance the committee monitors compliance to external audits, according to Cooperate Act section 307. The committee also an implement non – audit and audit processes (Krishnan, 2005). The auditor’s independent requirements Act also requires that the board is supposed to be satisfied with by the audit services provided by the audit committee. The charter of internal auditors requires that the external and internal auditors are independent, in order to enhance the effective running of the organization. In addition aspect of reviewing financial information is done annually to guarantee the true performance and financial position of the Qantas Group is represented. This is done according to compliance with the standards of accounting. In general the Qantas Airways limited is an example of a company that an audit committee that aims as developing accountability in terms of accounting and management practices. Bibliography Anderson, R., Mansi, S., 2004, Board characteristics, accounting report integrity, and the cost of debt. Journal of Accounting and Economics.37 (3), 315–342. Asbaugh, H., Mayhew, B., 2003. Do non-audit services compromise independence? Further evidence. The Accounting Review. 78 (3), 611–639. Beasley, M., 1996. An empirical analysis of the relation between the board of director composition and financial statement fraud. The Accounting Review. 71 (4), 443–465. Breslow, N.E., 1982, Covariance adjustment of relative-risk estimates in matched studies. Biotmetrics 38 (3), 661–672. Purnanandam, A., Swaminathan, B., 2004, Are IPOs really underpriced? Review of Financial Studies. 17 (3), 811–848. Reynolds, K., Deis, D., Francis, J., 2004. Professional service fees and auditor objectivity. Auditing. A Journal of Practice & Theory 23 (1), 29–52. Securities Exchange Commission (SEC), June 5, 2003, Management’s Report on Internal Control over Financial Reporting and Certification of Disclosure in Exchange Act Periodic Reports. Krishnan, J., 2005. Audit committee financial expertise and internal control: An empirical analysis. The Accounting Review 80 (2), 649–675. . McMullen, D., Raghunandan, K., 1996, Enhancing audit committee effectiveness. Journal of Accountancy 182 (2), 79–81. Menon, K., Williams, J., 1994. The use of audit committees for monitoring. Journal of Accounting and Public Policy 13 (2), 121–139. Palepu, K., 1986. Predicting takeover targets: A methodological and empirical analysis. Journal of Accounting and Economics 8 (1), 3–35. Read More