Who's watching you how? Effective oversight by an audit committee can help nonprofits remain effective in addressing social issues

California CPA, June, 2003 by Charles A. Barragato

The public has become increasingly focused on business oversight and corporate governance issues since Enron's collapse. However, these issues are not confined to the for-profit domain. In recent years, a number of nonprofit organizations--including the United Way, Red Cross and Adelphi University--have been highlighted in the press for questionable spending and compensation arrangements.

Given the size and economic importance of the nonprofit sector, not-for-profits shouldn't wait for legislators and regulatory bodies to develop preventative guidelines and procedures. Thus, nonprofits should take some proactive steps and look at their governing systems with a view toward promoting sound oversight practices that improve the quality and integrity of financial reporting and the attest function.

A suggested first step toward improving a nonprofit's oversight process begins with the adoption of a written audit committee charter.

EFFECTIVE OVERSIGHT

During the past three decades, the debate over corporate governance issues has changed dramatically. Much of the debate has focused on how to effectively implement an oversight process that will lead to better financial reporting.

During the late 1970s and early 1980s, many professional and regulatory bodies, including the AICPA and the SEC, made some general recommendations regarding audit committees and their relation to the oversight concept.

Then, in 1987, the Treadway Commission recommended that audit committees become more proactive in overseeing the financial reporting, internal control and legal and ethical processes of firms.

These recommendations--sometimes referred to as "good practice procedures"--have been used by many firms to develop their own audit committee guidelines.

This was followed in the late 1990s by a Blue Ribbon Committee sponsored by the New York Stock Exchange and NASDAQ, which issued 10 recommendations to the SEC and the accounting profession, all aimed at improving the effectiveness of audit committees. And in December 1999, the SEC adopted new rules for audit committees of listed companies that included a requirement that companies adopt a formal written audit committee charter.

In November 2000, international rating agency Standard and Poor's initiated a service for rating companies on corporate governance.

Finally, in July 2002, Congress enacted the Sarbanes-Oxley Act, which may be one of the most significant reforms to our securities laws since the 1930s. The act is intended to bring about fundamental changes in the way audit committees, management and auditors communicate and carry out their respective responsibilities.

THE BENEFIT OF EFFECTIVE OVERSIGHT AND A FUNCTIONING AUDIT COMMITTEE

In recent years, some of the most important nonprofit institutions in the United States have been embarrassed and negatively affected financially by scandals alleging, among other things, gross mismanagement and poor accountability. Given the huge amount of resources that flow through this sector, increased attention has been focused on the duties and responsibilities of nonprofit boards.

Though the concept of the audit committee is not new to the nonprofit sector, its application has remained fragmented due to the size and diversity of the sector and a general lack of guiding principles for best practices.

More than ever, the public continually seeks the assistance of the nonprofit sector to help address social issues that businesses and governments cannot resolve.

If nonprofits are to remain effective in this role, they must increase their operating efficiency; improve their accountability to donors and other constituents; successfully run the gauntlet of legal, ethical and regulatory processes; and seek proactive board members who recognize the critical role they play in the governance process.

An effective oversight process that incorporates the use of a functioning audit committee can help nonprofits achieve these goals.

Though the use of audit committees will no doubt impose certain burdens and costs on nonprofit organizations, such committees will improve communications among directors, auditors and management; enhance the quality of financial reporting; assist board members in fulfilling their stewardship responsibilities; foster an environment that will attract and retain high quality board members; and assist the organization in achieving its stated goals and objectives.

AUDIT COMMITTEE CHARTER

Audit committee charters cover three broad areas:

* Mission statement: While much of the financial reporting responsibility is with management, this section describes various areas where the committee may exercise oversight of the financial reporting process. Some of those include the system of internal controls, the audit process and the organization's process for monitoring compliance with laws and regulations. This section also explains that the audit committee works with the board of directors, management and external (or internal) auditors in carrying out its responsibilities.