Committee selection: off the bench

external audit cover

According to recent regulatory guidance, the audit committee ‘must be
prepared to take a robust stand, and all parties must be prepared to make
information freely available to the audit committee, to listen to their views
and to talk through the issues openly’. But how realistic is this in practice?

Out on a limb

An audit committee that meets the job specifications required (see box) only
achieves part of its function. When push comes to shove, will it stand its
ground when it disagrees with the executive board, or fall meekly in line?

As there is now a dedicated section of a company’s annual report set aside to
describe the work of the audit committee, some argue that the body now has an
authority it might otherwise lack. But while management is under an obligation
to ensure the audit committee is kept properly informed, in practice the
situation might not be so rosy.

Gerald Russell, Ernst and Young’s London senior partner and director of the
firm’s NED programme, warns that candidates are shying away from the
high-maintenance roles, because the requirements are unrealistic.

‘Part of the answer may be more thought about the level of support needed by
the audit committee chairman from the internal and external auditors. The
expectation that audit committee chairmen have to know everything has to
change,’ says Russell. ‘It may be there should be regulatory recognition that it
is naive to believe the audit chairman has more knowledge or expertise than the
CEO: the role is to chair the committee, not assume command of all risk.’

Too close for comfort?

With the onset of the beefed-up Combined Code, the governance minefield has
become even more treacherous for audit committees. One key point covers the
employment of former employees of the external auditor, paying particular
attention to the policy regarding former employees of the audit firm who were
part of the audit team and moved directly to the company.

So the appointment of Chris Lucas as Barclays FD, formerly the engagement
partner of external auditor PwC, must be something of a headache for its audit
committee. Even after he served the requisite buffer period between the two
roles, critics question whether auditor independence can be guaranteed when the
FD has such close links with the firm?

Toeing the line

Audit committees have to negotiate a razor-thin path in discharging their
mandate and it’s easy to see where clashes can occur between committee, board
and auditor. They should, for example, satisfy themselves there is a proper
system and allocation of responsibilities for the day-to-day monitoring of
financial controls, but they should not do the monitoring themselves.

Co-author of the Combined Code Sir Robert Smith makes it clear that companies
need to be pro-active in their dealings with the audit committee: ‘Audit
committees have wide-ranging, time-consuming and sometimes intensive work to do.
Companies need to make the necessary resources available. This includes suitable
payment for the members of audit committees. They – and particularly the audit
committee chairman – bear a significant responsibility and they need to commit a
significant extra amount of time to the job.’

Every committee and every company is unique, but Russell puts particular
emphasis on clarification of the chairman’s role if the situation is to improve.
‘Without more clarity, the perceived risks of taking the job will become a
disincentive outweighing the benefits, thereby leaving a dangerous vacuum at the
heart of corporate governance,’ he says.

The job spec

With regards to the board and independent auditors, the audit committee’s
role entails:

  • monitoring the integrity of the financial statements of the company and
    announcements relating to the company’s financial performance;
  • making recommendations to the board for it to put to the shareholders for
    approval at AGMs, eg. appointment of the external auditor and its remuneration;
  • reviewing and monitoring the external auditor’s independence and
    objectivity, and the effectiveness of the audit process; and
  • developing and implementing policy on the engagement of the external auditor
    to supply non-audit services.

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