Internal audit independence and its relationship to senior management

Statistical Process Control

What is the correct relationship of internal audit to senior management?

The correct relationship of internal audit to senior management is a supportive relationship. It is imperative that senior management makes it known, through is ways and actions, that it supports internal audit. One piece of evidence consists of senior management granting internal audit easy access to senior management and the audit committee. The process of senior management providing easy access for internal audit guarantees the correct relationship of internal audit to senior management.

How should conflict be managed? Is conflict inevitable?

Conflict is always inevitable between internal audit and senior management. When internal audit interact with senior management, there is always a potential for conflict. In fact, it is virtually impossible for people with diverse background skills and norms to work together; make decisions, and try to meet project goals and objectives without conflict. Internal audit and senior management must come together and compromise anytime conflict arises. Evaluations must be made to manage conflict in order to see where improvements can be made to better the relationship between the two. Both groups must use conflict to their advantage to strengthen their cohesion. Conflict does not always lead to negative outcomes; instead, it can lead to beneficial outcomes for internal audit and senior management.

Was audit independence compromised in the WorldCom study?

In the WorldCom study, audit independence was compromised because the CAE did not follow protocol. The CAE were to report to the audit committee, board of directors, or the appropriate governing committee. Instead, the CAE decided to report to personnel of their choosing, which was the CFO.

What should the Audit Committee of the Board of Directors do to ensure auditor independence?

The Audit Committee of the Board of Directors should create rules to ensure auditor independence. One important rule that should go into effect immediately is term limits. After a number of years, companies would be required to hire new auditors. Knowing that work is available for a limited amount of years would force auditors to become more independent.

There is a second rule that the Audit Committee of Board of Directors should create to ensure auditor independence. The rule should state that the external auditor should provide non-audit services which in turn should be approved in writing by the CFO or the Chief Financial Officer. In addition, a third rule should be established by the Audit Committee of the Board of Directors. This rule should state the CFO or the Chief Financial Officer needs committee approval for certain non-audit services. It is imperative that the Chief Financial Officer seek written approval of the Committee before the external auditor engages in actions that would cause independence to vanish.

There are two actions that the external auditor can perform to lose independence. First, independence can be in danger if the fee for a particular engagement excels over $10,000. The second way in which independence can vanish is if the annual fees for all non-audit services exceed, or likely to exceed, 50% of the auditor's annual audit fees. However, if the 3 rules mentioned earlier were established, independence would always be ensured.