Is your Audit Committee assessing audit quality and creating the right environment for constructive challenge? Instead of spending too much time in reducing audit fees and increasing audit risk, audit committee should spend time in ensuring effectiveness of the external audit process. In a few instances I’ve felt sorry for the company, as the audit committee chair shows his effectiveness by negotiating a lower audit fee rather than do anything else for the company. In terms of materiality the audit fee may not even feature in the top 100 expense lines and wastage prevalent in these companies. Don’t get me wrong, I agree negotiations are good to prevent undue advantage being taken on either side, but it has to be commensurate with the quality of work delivered.
The following questions – reproduced from the Financial Reporting Council’s publication “Update for audit committees: Issues arising from current economic conditions (November 2010)” – seek to identify issues that will be particularly relevant to the work of audit committees.
#1 Has the audit committee discussed the outcome of the prior year review of the effectiveness of the annual audit with the auditor and does the audit strategy and plan appropriately address the issues raised?
#2 Where an internal audit function exists, has the committee considered whether it wishes internal audit to conduct additional work up to or at the year end? For example, to look at new or amended products and services? Is the committee comfortable with the boundary between internal and external audit?
#3 Has the audit committee discussed business and financial risks with the auditor and is the committee satisfied that the auditor has properly addressed risk in their audit strategy and plan?
#4 Is the committee satisfied that the external auditor has allocated sufficient additional and experienced resources to address heightened risks and, if not, are negotiations scheduled to secure additional commitments? Has management exerted undue pressure on the level of audit fees such that it creates a risk to audit work being conducted effectively?
#5 Has consideration been given to any recommendations for improvement in prior year annual reports or audit from the press or regulatory agencies? (Eg. SLAASMB, SEC,CSE.)
#6 Have arrangements been agreed with the auditor to ensure they express any concerns they have about estimates, assumptions and forecasts without undue influence by management?
Further, one of the hardest things for an audit committee and auditor to spot is fraud by “management override.” The audit committee should consider and discuss pressures faced by management with auditors and help avoid and not contribute to downplay importance of qualitative materiality factors. Eg; overstate revenue to meet analysts target because the adjustment is ‘not material’, non compliance with debt covenants, ignore basic reconciliation differences, pressurizing auditors to include items in the management representation letter rather than provide adequate supporting evidence for transactions, etc.