Audit Committee

What is an Audit Committee?

An audit committee is a sub-group of a company’s board of directors responsible for the oversight of the financial reporting and disclosure process. To be successful, the audit committee should be aware of the processes and internal controls in the organization. 

The audit committee must coordinate with the management team, independent auditor, and internal auditors to monitor the choice of accounting policies and principles and to ensure compliance with laws and regulations.

Audit Committee Regulations

As mandated by the Sarbanes-Oxley Act of 2002, the US Securities and Exchange Commission (SEC) adopted rules and requirements that a company needs to fulfill to get its securities listed on a national exchange. The requirements include the following:

• The audit committee must consist of independent members.
• The audit committee is given the responsibility of selecting and overseeing the company’s independent auditor.
• Compensation is provided to any outside auditors or independent auditor engaged by the audit committee.
• The audit committee is given the authority to engage advisors.
• Processes must be in place for managing complaints related to the accounting practices.

Roles and Responsibilities of an Audit Committee

10. The audit committee assesses the analysis of important issues and judgments made by management in the financial reports. The effects of accounting and regulatory initiatives on the financial statements are also reviewed by the audit committee.
11. The audit committee ensures that appropriate policies and processes are in place for the prevention and identification of fraud, such as asset misappropriation, corruption, and financial statement fraud. The audit committee works with management to make sure that necessary steps are taken on the detection of fraud.
12. The audit committee should understand the responsibilities of management regarding laws governing anti-corruption and determine whether appropriate policies and controls are in place for the detection and mitigation of risks related to corruption. They should be aware of the laws regarding anti-corruption, such as the U.S. Foreign Corrupt Practices Act (FCPA).
13. The audit committee meets with management and the independent auditor to discuss the quarterly and audited annual financial statements of the company. They also review the news releases on earnings, along with the financial details and recommendations given to external rating agencies and analysts.
14. The management team assesses and manages the risk a company is exposed to. The audit committee should not be overburdened with the responsibility of risk oversights. They are only responsible for discussing and reviewing the related policies. The audit committee in some organizations may also be given the responsibility of cyber risk oversight.
15. In an M&A transaction, the insights provided by the audit committee on a company’s financials, internal controls, and risk analysis provide confidence about the accuracy and completeness of the financial information. Furthermore, according to SEC rules under the Sarbanes-Oxley Act, post-merger, companies should adopt a successful integration of the financial reporting controls and disclosure controls. Otherwise, deficiencies and control problems may exist. The audit committee is responsible for administering the integration to ensure a successful M&A transaction.
16. The audit committee appoints, oversees, and compensates the independent auditor. Several national exchanges – such as NASDAQ and NYSE – list various ways of communications to be followed by the audit committee while overseeing independent auditors. The committee and the independent auditor usually hold quarterly meetings to discuss the financial reporting, internal controls, and audit of the firm.
17. Some national securities exchanges may require the audit committee to oversee internal auditors, evaluate their performance, and include any performance-related issues in the report presented to the board. The audit committee is required to hold separate meetings with the internal auditors.
18. The audit committee administers compliance with rules and legislation. They work with management to ensure that the company’s policies on the code of conduct and ethics satisfy the requirements.
19. The audit committee must coordinate with other committees to understand the risks and responsibilities and the effect on financial reporting. It needs to understand and address the impact of non-GAAP metrics used for compensation on risk assessment.

Key Takeaways

• The audit committee administers the financial reporting of a company and related risks, internal controls, compliances, and ethics.
• It must coordinate with management and auditors to come up with financial reporting that is compliant with accounting principles and policies.
• To ensure that the financial reports are accurate, the audit committee should be aware of the processes and internal controls put in place by the company’s management.
• The audit committee is responsible for appointing individual auditors, along with evaluating their performance and compensation. In some organizations, they may oversee the internal auditors as well.

More Resources

CFI is the official provider of the Commercial Banking & Credit Analyst (CBCA)™ certification program, designed to transform anyone into a world-class financial analyst.

To keep learning and developing your knowledge of financial analysis, we highly recommend the additional resources below:

• Auditor’s Report
• Forensic Audit Guide
• Legal Liability of Auditors
• Securities and Exchange Commission (SEC)
• See all accounting resources