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Audit Committees

bylaws. Audit committees’ responsibilities should be however, avoid diluting the committees’ charge with
clearly defined and documented in their charter. Although information overload. Recognizing that audit committees
the scope of the audit committees’ responsibilities is pre- operate on a part-time basis and serve in an advisory
determined by boards, the committees should be allowed capacity to boards, it is essential that boards place limita-
to expand their charge with board approval and investi- tions on the scope of the committees’ charge. Such a scope
gate significant matters that affect financial reporting dis- limitation enables boards to evaluate the committees’ per-
closures. formance as well as protect the committees against legal
Boards of directors should carefully give considera- claims for their inactions that are outside their charge.
tion to the following points with respect to their appoint- Roles and responsibilities of audit committees are dis-
ments of directors to audit committees: closed in the annual proxy statements of publicly owned
companies.
1. Number of directors: The number of independent
directors appointed to audit committees depends on
SUMMARY
the nature of the business and industry dynamics,
the size of the company, and the size of the board of Since the Enron and WorldCom fallout, a number of
public and private sector institutions have issued reforms
directors. The general consensus seems to be that
with respect to audit committees in the corporate gover-
three to five members are adequate.
nance context. Presumably these reforms and the new
2. Composition: Because members of audit committees legal and regulatory framework will provide guidance and
have varied backgrounds and occupations, they pro- assistance to boards of directors and their audit commit-
vide a mix of skills and experience. Although the
tees in effectively discharging their fiduciary responsibili-
members have different levels of expertise, it is
ties to shareholders. Likewise, these reforms will enable
strongly advisable to have at least one individual audit committees to maintain quality in their oversight of
who has a financial accounting background. both the internal and external audit processes as well as
3. Meetings: Audit committees meet one to four times the financial reporting process to restore investor confi-
each year, with three or four meetings being the dence in the financial reporting system.
most common. Finally, it is evident that the scope for the responsibil-
ities of audit committees will significantly increase. There-
NATURE OF AUDIT COMMITTEES’ fore, it is essential that audit committees engage in an
RESPONSIBILITIES active, continuous educational improvement program to
help their boards discharge their fiduciary responsibilities
Boards of directors define the role and responsibilities of
to shareholders. Contemporary corporate governance
their audit committees. This jurisdictional charge is usually
imposes serious responsibility on audit committees. Fail-
disclosed in the audit committees’ written charter, which
includes the terms of reference, such as mission statement, ure to assume such responsibility may require different
organizational structures for corporate governance.
membership (size and composition), term of service, fre-
quency of meetings, scope of responsibilities, and report- SEE ALSO Auditing
ing responsibilities. Audit committees are primarily
responsible for the quality related to such matters as:
BIBLIOGRAPHY
• External auditing process American Institute of Certified Public Accountants.
http://www.aicpa.org
• Internal auditing process
American Institute of Certified Public Accountants. (1978).
• Internal controls Audit committees, answers to typical questions about their
organization and operations. New York: Author.
• Conflicts of interest (code of corporate conduct,
fraud presentation) American Institute of Certified Public Accountants. (2005). Pro-
fessional standards, U.S. auditing standards/attestation standards
• Financial reporting process (Vol. 1). New York: Author.
• Regulatory and legal matters Blue Ribbon Committee on Improving the Effectiveness of Cor-
porate Audit Committees. (1999). Report and recommenda-
• Other matters (interim reporting, information tech- tions of the Blue Ribbon Committee on improving the
nology, officers’ expense accounts) effectiveness of corporate audit committees. New York: New
York Stock Exchange; Washington, DC: National Association
Although boards of directors have defined the of Securities Dealers.
responsibilities of audit committees, boards may expand Braiotta, Louis (2004). The audit committee handbook (4th ed.).
the scope of the audit committees’ charter; boards should, New York: Wiley.

ENCYCLOPEDIA OF BUSINESS AND FINANCE, SECOND EDITION 41