Where will all those audit committee members come from?

| Audit and Accounting

By Mike Alerding     The post-Enron environment has brought unprecedented changes to the world of audit committees, corporate governance and oversight of accounting and financial reporting all over the world. The impact of these changes can be felt and read about in almost every accounting and financial reporting periodical and the changes just keep on coming.

Prior to 2002, the accounting and auditing profession evolved quite nicely as the concept of the audit committee caught hold in the U.S. After the various financial reporting scandals highlighted by the Enron fiasco, Wall Street, the accounting profession and finally Congress became active in mandating audit committee structure, composition and responsibilities. The responsibility for ensuring the reliability and appropriateness of financial reporting shifted from the independent auditors to the “self regulation” of an independent audit committee. That’s when the fur started to fly.

Publicly traded companies quickly attempted to retool their audit committees by seeking to find audit committee members who were independent, qualified and willing to take on the growing personal liability and risk – for no pay. Existing and former audit committee members often didn’t meet the requirements but were forced to remain members because of their experience, knowledge of the company and general familiarity with audit committee protocol.

To add fuel to the fire, in 2008 the Internal Revenue Service revamped its Form 990, the annual reporting form for Not-For-Profit entities, to include inquiries that strongly encouraged NFP entities to form an audit committee. With an estimated 1 million NFP entities in existence, the demand for audit committee members increased dramatically as NFP entities scrambled to find volunteers to serve as audit committee members, once again depleting the already short supply of available, qualified candidates. NFP audit committees have a more difficult task recruiting members because the job comes with little fanfare or personal recognition, but still includes all of the risks and personal exposure.

The Sarbanes Oxley Act of 2002 (SOX) not only set forth more stringent overall rules for public company audit committees, but more specifically, required that audit committees include at least one member who meets the definition of an “audit committee financial expert”. The “audit committee financial expert” basically requires that the member be someone who has been in public accounting or a CFO of a publicly traded company who had expertise and experience in financial reporting, GAAP, auditing, internal controls and audit committee functions. Although easily defined, finding professionals who meet the definition has turned out to me very difficult.

CPA’s in public practice as auditors generally cannot serve on public company audit committees because of inherent conflicts either with the client or other clients in the same industry, so that removed a significant number of qualified candidates. Retired CPA’s who had audit experience were also very short supply because not all conflicts disappear after retirement and because once retired, most CPA’s don’t want to return to the rigors of staying current with ever-changing FASB and SEC rules. CFO’s were often available, but many did not have sufficient audit experience to qualify since most of their recent and relevant experience was in accounting and financial reporting.

Along with a short supply of qualified candidates was the stark reality that goes along with such a high-profile and risk-laden position on as an audit committee member of either a publicly-traded company or NFP entity. Although not all audit committee members need to be audit committee financial experts, it is clear that at least one member of the audit committee does need to have the background necessary to understand corporate risks, financial reporting, internal controls and auditing. People with this combination of skills and knowledge are in very short supply and, frankly, don’t have much of an incentive to serve on an audit committee.

So where will all of the audit committee members come from? Some qualified candidates do have either a personal incentive or a passion to serve, but have to weigh that against the obvious risks, including personal risk, time spent in meetings, unfavorable PR and, of course, all without pay. As my father used to say, that’s like leaning into a left hook.

Although very controversial, there is the real possibility that audit committee expertise may end up having to be supplemented by “Audit Committee Experts”, who are paid consultants or consulting firms that provide expertise, independence and objectivity to the audit committee members and the audit committee process itself. The last thing most public companies and NFP entities want to hear is that they need to pay for yet another consultant (which my father used to define as “someone from Chicago”), the stark reality is that if audit committees are to be truly functional and effective, they need to have experts who understand the myriad of complexities that come along with the job.

Interested volunteers have plenty of choices. For those of you who are qualified and are looking for a position that will provide you with high personal risk, require a lot of time and energy and no pay, I have just the job for you.

Mike Alerding is a co-founder and Senior Director of Alerding CPA Group, an Indianapolis-based public accounting firm. Visit our website: www.alerdingcpagroup.com.

This post was written by:

Michael Alerding, CPA
Senior Director

Mike has over 40 years of experience in public accounting. He is a prior columnist for The Indianapolis Business Journal and serves on multiple boards throughout Indianapolis. He currently focuses his time on litigation support, business valuations, succession planning consulting and audit and accounting engagements.
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