“Whoever educates himself and improves his own morals & character is superior to the man who tries to teach & train others.”(Hazrat Ali A.S)

Independence of the external auditors:

This is the priority of the board to ensure that the external auditor carry out their audit work properly,so that the board of directors is able to rely on the conclusions and recommendations they provide at the end of the audit.One of the main requirement for the auditor is that they should perfor their audit and duty with independence.In this sense, it means freedom from the influence of the company's executive management.

There are at least two ways in which the independence of the auditors might be at risk.

Familarity of the audit firm or audit partner with the company.when the same audit partner is responsible for the audit of a particular client company every year for a long period of time, he or she is likely to become very familiar with the company and its management.As this familiarity grows,the audit partner will probably become more willing to accept assurances from management and rely on the accuracy of the information they provide.This obviously can be very serious problemwhen the assurances given by management are false and the information is incorrect or incomplete.
Non audit work and a reliance of the audit firm on the company for a large amount of fee income.Anaudit firm receives an audit fee each year.In,addition,it is common for the audit firm to obtain a substantial amount of fee income from non-audit work,such as providing tax advice and advice on information systems,and carrying out investigations for the company.If an audit firm obtains a large amount of its income from one corporate client,it will probably be reluctant to diagree with the company's management on issues relating to the preparation of the financial statments(such as the size of estimates and the application of accounting policies).

The audit firm Arthur Andersen collapsed in 2002 as a result of the Enron scandal.Andersens were the auditors of enron,and it was found that the firm,in particular its office in Houston Texas,wasnot independent of the company.The publicity given to andersens led to a general of confidence in the audit firm,which was dissolved.

The Problem of familiarity of the auditors with an audit client can be reduced by either:

rotation of the audit firm,so that the same audit firm doenot carry out the audit of any company for more than a maximum number of years,or
rotation of the audit partner,so that the same audit partner is not responsible for the audit of any company for more than a maximum number of years.

Rotation of audit partners has become a regulatory requirement in some countries (including the UK) as a mean dealing with this problem.The task of monitoring the independence of the audit firm on the company for fee income should be the responsibility of the board of direcotrs.It is generally-accepted good corporate governance practice that this responsibility should be delegated by the board to its audit committee.

Example:

In 2006 auditors PWC were fined by the Accountants joint Disciplinary Scheme(JDS) for failures by coopers and Lybrand in connection with the collapse of the engineering firm Transtec in 1999.

The JDS found that coopers & Lybrand had placed too much reliance on what they were told by the company's management and as a result their audit procedures has been inadequate.Several senior executives of Transtec had colluded to conceal some Key information from the company's board of directorsand the auditors about debit notes issued to the company by car manufacturers Ford.The auditors had not spotted the Fraud,although they had been misled by management.

The JDS concluded that the audit firm had failed to carry out adequate audit procedures in relation to the debit notes,including investigating conflicting explanations as to what the debit notes were.In the 1998 audit they didn't clearly express their own concerns and so did not find fault with the management.

Role and Functions of the Audit Committee:

Codes of corporate governance suggest what the role and functions of the audit committee should be.The UK corporate governance code(combined code)states as aprinciples of governance that the board should establish formal arrangements for:

Considering how they should apply the financial reporting and internal control principles and;
maintaining an appropriate relationship with the company's auditors.

It should do this by establishing an audit committee.The code states that the role and responsibilities of the audit committee should include:

to monitor the integrity of the company's financial statements and anyother formal statements relating to the company's financial performance.
to review the company's internal financial controls
to review the company's internal control and risk management systems(unless this responsibility is given to a seperate risk committee or retained by the full board itself).
to monitor and review the effectiveness of the company's internal audit function.
to make recommendations to the board about the appointment,reappointment or removal of the audit firm as auditors of the company(for the board to make a recommendation to the shareholders).
approve the remuneration and term of engagement of the external auditors.
to review and monitor the independence and objectivity of the company's external auditors
to review and monitor the effectiveness of the audit process
to develop and monitor a policy for the use of the external auditor to perform non-audit work for the company.

Oversight assessment and review:

Recommendations about the role of the audit committee were first proposed in the UK in the Smith Report,a report on audit committee published at about the same time as Higgs Report in 2003.The provision in the UK corporate governance code(combined code) were based on the recommendations in the smith report.

Extracts from the Smith Reports were subsequently included as an appendix to the Combined Code,Called the Smith Guidance.Some of the comments in this Gudance were:

The functions of the audit committee are concerned with oversight assessment and review of functions performed by executive management and the external auditors.It is not the responsibility of the audit committee to perform those functions.For example the finance directos is responsible for preparing the financial statments and the role of the audit committee is to oversee,assess and review this process.Similarly,the auditors perform the audit,but the audit committee is responsible for assessment and review.
The audit committee reports to the board,and the board reaches decisions based on the recommendations of the audit committee.However it the board and the audit committee disagree about a particular matter,the audit committee should have the right to report the disagreement to the shareholders.

Example:

The smith guidance went into some detail about the role of the audit committee in the annual audit cycle.it is useful to look at ome of the suggestions in the guidance,to get an idea of what the audit committee might actually do.

At the beginning of the annual audit the audit committee should check that appropriate plans for the audit are in place.It should check that the owrk plan for the audit is consistent with the size and scope of the audit engagement.It should also check that the audit team will be of the right size and will have a suitable range of skills and experience for the work.
At some stage in the audit cycle,the audit committee should meet with the external auditors to discuss the results of the audit and the findings of the auditors.As a part of this review ,the committee should discuss any particular problms or disagreements that occured during the audit(and wheher these have been resolved).The committee should also ask about any important accounting judgements that have been made in preparing the financial statments.They should also ask the auditors about the errors that they found during the audit.
There should be a review of the audit after it has been completed.The audit committee should consider the audit plan and whether the auditors met the requirements of the plan.The committee should also consider whether the auditors were strong-minded in their dealings with the company's management.It should also obtain the views of the financ director about the conduct of the audit by the auditors.

Composition of the audit committee:

An audit committee should make its judgement and recommendations independent of influence from executive management.However,the opinion abotu the composition of the audit committee varies between countries.

The UK Corporate Governance Code(Combined Code) states that the audit committee should consist entirely of independent Non-Executive directors.In large listed companies there should be atleast three members of the committee(and in smaller listed companies at least two)
The singapore Code of Corporate Governance states that the audit committee should atleast three members,all of them NED.However,only a majority of the committee,including the committee chairman,needs to be independent.

In order to perform their functions properly the members of the audit committee should have some understanding of finance and accounting .However it would be unreasonable to expect that all the audit committee members should be qualified accountants.There are differences of opinion about how much experience or understanding of finance and accounting the audit committee members should have.

The UK corporate governance code(combined code) states that the board of directors should satisfy itself that 'atleast one member of the audit committee has recent and relevant financial experience.The smith guidance states that it is desirable that this person(who is likely to be the audit committee chairman) should have a professional accountancy qualification from one of the professional bodies.The amount of financial understanding required from the other audit committee members will depend on the nature of the company and its business.
The guidelines in the singapore code of corporate governance state that the members of the audit committee should be appropriately qulified to carry out their responsibilities but at least two of the committee members should have accounting or related financial managemnet expertise or experience.

“Whoever educates himself and improves his own morals & character is superior to the man who tries to teach & train others.”(Hazrat Ali A.S)

Independence of the external auditors:

There are at least two ways in which the independence of the auditors might be at risk.

The Problem of familiarity of the auditors with an audit client can be reduced by either:

rotation of the audit firm,so that the same audit firm doenot carry out the audit of any company for more than a maximum number of years,or

rotation of the audit partner,so that the same audit partner is not responsible for the audit of any company for more than a maximum number of years.

Example:

In 2006 auditors PWC were fined by the Accountants joint Disciplinary Scheme(JDS) for failures by coopers and Lybrand in connection with the collapse of the engineering firm Transtec in 1999.

Role and Functions of the Audit Committee:

Codes of corporate governance suggest what the role and functions of the audit committee should be.The UK corporate governance code(combined code)states as aprinciples of governance that the board should establish formal arrangements for:

Considering how they should apply the financial reporting and internal control principles and;