So, you have been tapped or want to serve on an audit committee of a corporate board? Other than the Nominating & Governance Committee, the Audit Committee is one of the more prominent committees present on a corporate. There is a great amount of risk serving on an Audit Committee. Many say that the responsibilities and time required is daunting. Many say that it can feel like a full-time job.
It is important to know what you are getting into, so you mitigate the risk of saying later … “if I had only known”. I am hoping the following insights will help you with your decision to join an Audit Committee and understand all that comes with it.
Structure & Responsibilities
The Audit Committee is composed of independent directors who have a significant level of financial literacy. Audit Committee members must have the right skillset and level of expertise to ask the risk questions. The fundamental skills required include the ability to read and understand financial statements. At least one committee member must be a certified financial expert.
The primary purpose of the Audit Committee is to provide oversight of the financial reporting such as financial statements and disclosures. The Audit Committee also reviews and discusses the quarterly and annual financial statements as well as financial information that is provided by analysts. The committee has oversight of management’s financial and accounting policies, as well as internal and disclosure controls.
The Audit Committee should be the ultimate guardian ensuring the numbers/reporting have integrity. Between the CFO and the Audit Committee, their roles are crucial in ensuring the financial system is held together. There are also specific rules and standards set by the NYSE and the NASDAQ. The Audit Committee has direct responsibility for appointing, compensating, and retaining the external auditor. The external auditor reports to the Audit Committee, therefore the Audit Committee has the responsibility for resolving disputes between the external auditor and management. The committee will also lead the annual review of the auditor. Lastly, the Audit Committee has responsibility for labor and regulatory compliance, including whistleblower situations and communications.
The amount of your time that will be required when serving on the Audit Committee greatly depends on the type, size and regulatory depth of the company. For example, financial services organizations have a lot of compliance and regulatory issues, so more time will be required. You will typically spend four to six hours in preparation for board meeting. Audit Committee meetings can run five to six hours. When reviewing the 10K, it takes more time than the 10Q, so the time required also depends on where the company is in the reporting cycle.
Given today’s business climate and environment, the Audit Committee has a lot on its plate. There has been a lot more discussion about cybersecurity which also lands on the agenda of the Audit Committee and for financial services or healthcare companies, it is daunting. Of all of the board committees, the Audit Committee is the most time intensive and has more responsibilities than other committees. It seems that if “they” can’t find a place for a issue, it seems to land in the hands of the Audit Committee. As times passes it will only get more complex.
Capacity & Expectations
Given the complexity and wide range of responsibilities, how does the audit committee address all of this? Most audit committees meet quarterly but it may be more frequent if there are other topics to address. The agenda is covered in advance by the Audit Chair meeting with the CFO and outside audit partner on a quarterly basis so that the agenda is planned and plan on an annual basis. Each committee member should have a quarterly and annual planner. The Audit Chair must be extremely organized to ensure that something will not be missed. There is also an Executive Session at the end of every audit committee meeting to include audit partner. Some boards have split risk and audit into two separate sub committees to help all of this to be more manageable.
The Audit Chair’s expectations of the committee typically include requiring everyone on the committee to read documents in advance; note that it can be hundreds of pages! The Chair might expect some of the committee members to ask the CFO questions, so being prepared by doing the homework is quintessential. There is no room for egos – if committee member does not understand something, he/she must ask the Chair and/or CFO. No question is a dumb question. There needs to be intellectual curiosity and communication makes significant difference. So, always get and be educated!
Advice for New Audit Committee Members
Of course, if you are a new committee member, it will take you more time than others as you gear up and become accustomed to the pace. It sounds pretty basic, but new committee members should take on responsibility and not be bashful with asking questions. There is a lot of public information out there, so take the opportunity to educate yourself. It is important to feel comfortable and ask your fellow committee members a lot of questions. If it is a healthy culture, they will be happy to help.
New Audit Committee members should do a financial review by interviewing the CFO and CEO to understand challenges and issues. They may also interview the external audit partner. This should all be accomplished before the new Audit Committee members’ first committee meeting. Do not worry though, most companies have a formal process for onboarding Audit Committee members.
Given the breadth of responsibilities and the experience required to serve on an Audit Committee, you will typically see the Audit Committee having a higher committee retainer than that of the Nominating/Governance committee. Fifty percent of the top (by revenue) 500 NYSE listed companies provide a retainer for the Audit Committee in addition to the customary board seat retainer. The median Audit Committee retainer is approximately $15,000 as compared to approximately $10,000 for the Nominating/Governance committee.
The are drivers which have changed the responsibilities of the Audit Committee over time. As business and the risk environment changes, it will continue to get even more complex. The game changers that are making a difference to that complexity include globalization, new disruptive technologies, numerous types of risk, volume of regulations, increased requirements for transparency, and culture to name a few. Ten years ago, the Audit Committee was not dealing with these things. Audit Committees will have more and more on their plate so it is critical that they balance and prioritize issues. To succeed, the board and Audit Committees need to look at themselves differently.