The members of the audit committee must be well versed in accounting principles and the major aspects of accounting practice and should be capable of communicating clearly and effectively with the CPA.
The duties of the audit committee are to ensure that senior management understands the risks and benefits of all major activities and to devise plans for achieving this understanding.
The audit committee is generally made up of five independent members: one member is the CPA who chairs the board; two members are senior executives from accounting who report to the CPA; one is a member of the accounting profession with at least three years of experience in accounting or business, and two are independent accountants.
Such risks are inherent in the complexity of a complex organization.
The audit committee plays a significant role in providing oversight and policy direction for the CPA. Its responsibilities include providing reports and recommendations to the management, including the CEO, to senior management on the status of the CPA’s duties and the results of those duties. The committees must take into consideration any special circumstances that require immediate action by the company.
Advantages of Audit Committee
Here are some of the key advantages of having an audit committee:
An audit committee can enhance the accountability of an organization’s management by providing an independent review of the financial reports and procedures.
Improved Financial Reporting
Audit committees ensure the accuracy and reliability of financial statements by working closely with internal and external auditors, thereby promoting investor confidence.
Audit committees are crucial in identifying and managing financial and operational risks. They ensure that robust systems and controls are in place to manage these risks effectively.
The committee ensures that the organization complies with all relevant laws and regulations, which can help avoid legal and financial penalties.
Audit committees can help detect and prevent fraudulent activities within the organization by ensuring robust internal controls and effective functioning.
Increased Investor Confidence
A well-functioning audit committee can increase investor confidence in the company’s financial statements, leading to potentially greater investment and higher share prices.
Enhanced Corporate Governance
Audit committees are a key element of a strong corporate governance framework by providing oversight of the company’s financial reporting.
Audit committees provide an independent check on the organization’s management and auditors, helping to ensure the integrity of the company’s financial statements and the effectiveness of its internal controls.
In case of disagreements between the management and the auditors over financial reporting, the audit committee can provide a neutral platform to resolve such disputes.
The committee bridges management, the board of directors, and external and internal auditors, facilitating open and effective communication among all parties.
In sum, audit committees play a crucial role in enhancing the integrity and reliability of an organization’s financial information, improving its risk management and internal controls, and thereby increasing the trust of investors, regulators, and the general public.
Disadvantages of audit committee
Despite their advantages, there can also be potential drawbacks of audit committees, which include:
Costly to Operate
Audit committees require a significant investment. This includes compensation for the committee members, expenses for meetings, costs for professional advisors, and sometimes additional staff support.
Audit committee work can be quite time-consuming. The committee must meet regularly, review documents, monitor company procedures, and interact with internal and external auditors. This can strain members who already have their full-time roles within the company or other commitments.
Risk of Inadequate Expertise
Audit committees need members with strong finance, law, and operations backgrounds. However, not all organizations have access to board members with this expertise. If the committee lacks the necessary knowledge and skills, its effectiveness can be compromised.
Potential for Conflict of Interest
Even though the audit committee is meant to be an independent entity, conflicts of interest can arise if members of the committee have personal or financial ties to the company. This can threaten the objective and impartial functioning of the committee.
Dependence on Management
Despite its independence, the audit committee often relies on management to provide the information it needs to carry out its work. This dependence may compromise the committee’s ability to assess the information it receives critically.
Possibility of Overreliance
There might be a risk that the board, management, or investors could rely too heavily on the audit committee to ensure financial accuracy and compliance, thereby abdicating their responsibility to oversee these matters.
The scope of the audit committee is typically restricted to financial reporting processes, audit processes, and a system of internal controls, which means that areas beyond these might need more attention.
Resistance to Transparency
Sometimes, audit committees may face resistance from within the organization, especially if management fears that the committee’s activities could reveal sensitive or unflattering information.
It’s important to note that while these challenges exist, they can be addressed through careful planning, the thoughtful composition of the committee, adequate resources, and the organization’s commitment to upholding high standards of financial reporting and internal control.