Analyse the structure and roles of audit committees and discuss their benefits and limitations

An audit committee can help a company maintain objectivity with regard to financial reporting and the audit of financial statements.

2.1 Role and function of audit committees

An audit committee is a sub-committee of the board of directors, usually containing a number of nonexecutive directors. The role and function of the audit committee should be set out in written terms of reference and the extract from the UK Corporate Governance Code on the next page details what the roles and responsibilities of the audit committee should include.

First though we will consider the advantages of having an audit committee. An audit committee can:

· Improve the quality of financial reporting, by reviewing the financial statements on behalf of theBoard

· Create a climate of discipline and control which will reduce the opportunity for fraud

· Enable the non-executive directors to contribute an independent judgement and play a positive role

· Help the finance director, by providing a forum in which he can raise issues of concern, and which he can use to get things done which might otherwise be difficult

· Strengthen the position of the external auditor by providing a channel of communication and forumfor issues of concern

· Provide a framework within which the external auditor can assert his independence in the event ofa dispute with management

· Strengthen the position of the internal audit function, by providing a greater degree ofindependence from management

· Increase public confidence in the credibility and objectivity of financial statements

One of the principles of the UK Corporate Governance Code is that ‘the board should establish formal and transparent arrangements for considering how they should apply the corporate reporting and risk management and internal control principles and for maintaining an appropriate relationship with the company's auditors'. The provisions relating to this principle are set out in the following table.

2.2 Drawbacks of audit committees

We discussed the possible benefits of the audit committee above. Opponents of audit committees argue that:

a) The executive directors may not understand the purpose of an audit committee and may perceive that it detracts from their authority.

b) There may be difficulty selecting sufficient non-executive directors with the necessary competence in auditing matters for the committee to be really effective.

c) The establishment of such a formalised reporting procedure may dissuade the auditors from raising matters of judgement and limit them to reporting only on matters of fact.

d) Costs may be increased.