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Principles that help an audit committee add value

Independence

Audit committees need the independence of perspective, experience, and knowledge to bring the test and challenge that adds value to the governance of a public entity. The amount and nature of independence needed should be carefully considered. Sometimes, having members who do not have entity roles but bring knowledge of the industry or public sector can help provide this challenge.

An independent chairperson is often the best option to promote free and frank debate during committee meetings. It also gives governors confidence knowing that they are receiving independent advice and assurance.

Members of an audit committee are in the best position to provide objective and impartial advice when they are independent from management. An audit committee is likely to want staff to attend its meetings to hear their views and get their expert advice on certain topics. But an audit committee will also want time to turn issues over and debate them, so it should feel comfortable asking for “member only” time to debate more sensitive issues and seek independent advice when necessary.

Clarity of purpose

To get the best, governors need to be clear about what they want from their audit committee, and entity management needs to help provide support that allows governance needs of the committee to be met. It is useful to set out the purpose, roles, and responsibilities of the audit committee and its scope in the context of the entity’s governance framework.

This will make it easier to shape the committee so that it is fit for purpose. For instance, the audit committee arrangements will need to be appropriate given the entity’s size, complexity, whether the audit committee role is primarily advisory or assurance-related, and the sort of membership and expertise required.

But an audit committee can only strengthen and supplement, not replace or supplant the governance arrangements of a public entity. The audit committee should not duplicate the purpose and functions of other governance arrangements. It must enhance the governance framework, risk management practices, and the controls the entity uses to monitor achievements. Being clear about the purpose of the audit committee helps to ensure that it remains focused on supporting governance (and not any other matters, either governance or management).

Trying to get clarity on the purpose and role of the committee and other parts of the assurance cycle has been a key challenge for many committees and organisations, where expectations have been mismatched. 

Competence

Competence is about having the right mix of skills and experience on the audit committee to give oversight of the matters sought of the committee. Audit committee members need to have relevant experience and expertise to bring valuable insights and perspectives to the areas of the committee’s responsibility.

The better the skills and experience of audit committee members, the better the committee can add value. Collectively, people appointed to serve on audit committees need to have expertise, such as:

  • finance and accounting, including financial reporting;
  • broad governance, assurance, and risk management disciplines;
  • understanding of internal controls and assurance frameworks, including understanding of the roles of internal and external audit;
  • knowledge of the sector or industry in which the public entity operates; and
  • other attributes as specifically relevant to the entity (for example, legal or information technology experience).

A variety of perspectives is needed in an audit committee to ensure ideas are fully debated and the group is aware of its strengths and weaknesses in various aspects of governance. Diversity of membership is a way of achieving a variety of perspectives. This means an audit committee needs a mix of experience levels, skill-sets, background experiences, and thinking styles. This can be achieved through demographic diversity, such as gender, ethnicity, education types, career and community experiences, and academic disciplines.

Open and effective relationships

To be effective, an audit committee needs to operate in an environment of co-operation and trust. Audit committee members also need to communicate effectively among themselves and with many others interested and involved in the governance and management of the entity.

The central figure among the people and relationships involved in an audit committee’s work is the chairperson of the audit committee. This person is the most important appointee for ensuring the committee functions in a way that adds value. That person needs to have expertise and experience in governance and bring personal qualities and independence to the role. The chairperson is best placed to achieve this when the audit committee is clear about its purpose, has no perceived or actual conflicts, and contains diverse, skilled, and experienced members.

When the chairperson promotes open and proactive dialogue with management and the governing body, the audit committee is able to effectively influence the organisation and its achievements.

Another relationship that is important to the effectiveness of an audit committee is with the chief executive. Audit committees seek information from management of the entity to test and challenge. In turn, they provide insight and guidance to management about how the entity’s risks are perceived, what matters to stakeholders about the entity’s performance and opportunities for improvement from a governance perspective.

Because of the governance arrangements of public entities, the relationship of the audit committee with the chief executive is often particularly important. When the audit committee works effectively to test and challenge and get assurance, it provides useful insight, guidance, and support to the chief executive. Good communication and relationship management are critical for audit committees to provide the governance test and challenge needed for organisational improvement and risk management. Good working relationships and mutual respect between the audit committee chairperson, chief executive, and chairperson of the board of governors increases the audit committee’s ability to effectively test and challenge the things that matter to the entity.

Some audit committees have access to support from an internal auditor and get much of their information and assurance from the internal auditor’s work. The independence and effectiveness of the internal auditor is greatly strengthened by the support of the audit committee. One of the main functions of the audit committee is to consider the internal audit work programme to ensure it meets entity needs and oversee the completion of the programme.

Timely communication of significant issues between the audit committee and the external auditor is critical to the auditor discharging their responsibility to the Auditor-General. The audit committee should also meet regularly with the external auditor, for example, to discuss the audit plan, interim audit findings, and results of the final audit. The audit committee needs to fully understand the role and responsibilities of the external auditor as an agent of the Auditor-General.

Making it real and keeping the principles in balance

What makes an audit committee work best is balancing the principles in the realities of the entity. For example, there is no point having…

  • … a very independent audit committee, if it knows very little about the entity and the industry or context within which that entity operates;
  • … a lot of individuals with good knowledge, if they struggle to work as a group or if they are reluctant to challenge each other and express different views or ask the “dumb” questions;
  • … a very experienced audit committee, if there is no succession planning for those who will be responsible for governance of the entity in the future; and, finally
  • … an audit committee, if the entity, its governors, and managers don’t respect the purpose of the committee and its members or want to make time to hear and use their advice.

Putting principles into practice isn’t always easy. We find that, generally, common sense works. Common sense is the action of need, not compliance. Audit committees are a way to help focus on common sense and give governance test and challenge to the organisation. If an entity chooses to have an audit committee, it needs to be fit for purpose. Audit committees created solely for compliance reasons are unlikely to be effective and add value to the entity.

We see, and those involved with audit committees tell us, that those committees that are thoughtful about applying principles in practice and in their context are most effective and valued.

A lot of formal guidance is available that encourages and sets out ways for an audit committee to take stock and focus on its effectiveness. From our perspective, the main point is that once an entity has decided to have an audit committee, it and its committee members need to reflect on how things are working – whether and how the committee can better add value and insight in the areas sought. Honest exchange about how well the committee is working and balancing the principles is what is important.

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