Why are Audit Committees so Important to an Organization’s Overall Governance?

This guidance is applicable to public companies, private companies and nonprofit companies.

The current economic environment has heightened the need for effective audit committees. The financial debacles and alleged fraudulent activities at established organizations – even some nonprofits – along with phenomena such as the credit crunch and continuing economic turbulence are well known to the public. Young, growing organizations also face a unique set of challenges triggered by their less-developed internal control structures. As a result, both established organizations as well as emerging organizations have an even greater need for independent oversight.

A study released in 2010 by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) concluded that fraud is NOT limited to companies of a certain size and found that companies charged with fraudulent reporting by the Securities and Exchange Commission (SEC) included startups with no assets or revenues, as well as much larger companies.1 Although the study did not specifically analyze nonprofit organizations, these findings are mirrored in the nonprofit sector.

Today’s economic environment has shifted the focal point for governing bodies from simply overseeing operations to assessing strategies and risk management processes, understanding the complexity of operations and being prepared to handle crises. We will explore all of these in more detail in the following pages.

Under the COSO internal control framework, “the control environment sets the tone for an organization. It is the foundation for all other components of internal control, providing discipline and structure.”2 A key element of the control environment is the “tone at the top,” the message from the highest levels of the organization regarding the ethical and compliance behaviors of management and employees. We believe that for an audit committee to truly exercise proper oversight, it must influence the tone at the top. Key steps that the audit committee should take in this direction include the following:

  • Ensure management clearly communicates to all employees that financial misreporting is absolutely unacceptable
  • Insist on receiving all news, especially bad news, promptly and fully
  • Ask tough questions
  • Be skeptical
  • React quickly to issues and take preventive measures for the future

BDO Insight

A strong audit committee is important for all organizations. Growing organizations, as well as established organizations, benefit from the experience, oversight and direction that an audit committee may provide.

UP NEXT: Why Should a Nonprofit Organization Consider Forming An Audit Committee?

GO BACK: Effective Audit Committee Guide

(1) Refer to COSO “Fraudulent Financial Reporting: 1998-2007 – An Analysis of U.S. Public Companies” at: http://www.coso.org/documents/COSOFRAUDSTUDY2010.pdf.
2) Source: Executive summary of the COSO framework, which may be accessed within the COSO website at: http://www.coso.org/guidance.htm.