Audit and Optimal Financial Disclosures

Audit 2Audit and optimal financial disclosures

Over the past decade accounting scandals have led to a flood of financial disclosure regulations. A hope among global businesses is for one set of accounting standards around the world. However, to date, countries have had different levels of oversight, enforcement and compliance due to different types of regulatory institutions. It has been said that in many countries stronger institutions are needed, but ultimately, producing complete and accurate financial statements is the obligation of management. Best practices involve delegating responsibility to the audit committee, which in turn works closely with the firm’s independent external auditor.

Providing accurate and complete financial information is an obligation of management

The starting point for thinking about financial reporting is recognizing that it is the obligation of management to provide accurate and complete financial information for the market. At SAP, the management committee and the supervisory board created financial guidelines and established five layers of oversight. The supervisory board delegated responsibility to the audit committee for pulling together the information for the financial reports, with the audit committee then engaging the firm’s independent auditor. The audit committee and the external auditor developed best practices that guide how they work together.

Among best practices guiding the relationship between the audit committee and the external auditor are alignment of the audit committee with the company’s strategy; full transparency with the auditor regarding strategy and operations; and a report by the auditor regarding the company’s internal controls. In addition, the auditor is involved in all meetings of the audit committee and there is a seamless flow of information between the audit committee and the auditor.

As businesses become more global, they should be linked by one set of accounting standards

Professor Daske states that as businesses are increasingly global, one idea is to create a common set of accounting standards. However, this is currently far from a reality. For example, in Japan, about 1% of public companies use IFRS (International Financial Reporting Standards), another 1% uses the U.S. version of GAAP and 98% use local Japanese GAAP.

In practice, alignment requires more than just common standards. Even when countries adopt standards such as IFRS, there often are significant differences in how reporting occurs. This is because of:

IncentivesDespite standards, actual reporting practices are driven by incentives and company choices.

Lack of institutions: Many countries lack strong institutions to ensure that standards are translated into practice. While the SEC has existed in the U.S. for more than 70 years, Germany has only had a comparable institution for five years. In Europe, institutions to enforce standards are often weak and lack resources.

Lack of compliance: As a result of weak institutions, there are issues with the compliance and enforcement of these standards. Professor Daske notes that audit checklists are not thoroughly followed, and while 100% of U.S. banks comply with mandated regulations, perhaps only 50% of banks outside of the U.S. comply. Moreover, even when compliance with regulation is lacking, firms can receive a positive opinion from their auditor.

Dr. Werner Brandt, CFO, SAP AG
Professor Holger Daske, University of Mannheim, Business School
Professor Yasuhiro Ohta, Keio Business School

Read more in the White Paper Corporate Governance and Leadership

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