What is an Audit?

Published by Thomas Herold in Accounting, Corporate Finance, Laws & Regulations

'Audit' is explained in detail and with examples in the Corporate Finance edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.

An audit refers to a third party evaluation and review of a business or individual’s financial statements. The goal is to ensure that the financial records are both accurate and reflective of the transactions for the entity they represent. Such a review can be carried out by an external auditing firm or by accounting employees within an organization itself.

There is also the possibility for the Internal Revenue Service itself to conduct audits in order to confirm the veracity of a business or individual’s tax payer returns and transactions. As the IRS engages in such audits, this usually creates a dark cloud over the victim organization or individual. This is because such IRS audits come with a negative connotation. It is as if the government suspects the taxpayers in question have engaged in illegal activities with their taxes or income declarations.

For those audits which an external company performs on behalf of corporations, these are often very useful in taking away the tendency towards personal bias. It means that the final picture of the corporation should be more complete, unbiased, and accurate. Such audits are often seeking any inadvertent material error in the corporations’ statements or activities. They reassure shareholders of the company that the financial statements are accurate. As third parties undertake audits, the bias of the internal accountant who would otherwise be engaging in the auditing tasks is eliminated.

This could be regarding a company subsidiary or division, the entire corporation or one system within it, or the financial books of the business. There is also no pressure that a member of management will think negatively of the employee for producing less than stellar outcomes from the audit when the corporation engages and retains an external accounting firm.

The majority of publicly traded firms become audited one time each year. Enormous corporations can be audited even every month. There are companies in industries where their oversight organization requires legally that the firm receive routine audits so as to eliminate any temptation to deliberately misrepresent financial information. Such misrepresentation is literally called fraud. Still other large corporations look at audits and auditors as a valuable tool to ascertain how effective their financial reports and associated internal controls of them actually are.

Two different types of auditors exist in the realm of external audits. These are statutory auditors and external cost auditors. The statutory varieties independently labor to consider the quality of the financial statements and reports. The external cost auditors consider and review the cost sheets and statements to make certain they do not contain any errors, misrepresentations, or fraudulent facts or figures. Each of the two different kinds of auditing personnel work with a range of varying standards that are different than those which the corporation hiring them would engage in otherwise.

Such internal auditors will be hired by the firm or other organization on whose behalf they are engaging in the audit in the first place. They do their fiduciary best to deliver reliable and accurate information and certification to the management of the company, the board of directors, and shareholders regarding the books and all internal operating systems and procedures of the company in question.

Other auditors will be consultants. They will still utilize the standards of the corporation which they are auditing instead of an independent set of standards, even though they are not internal employees of the organization. Such consultants are brought in when the corporation or other organization lacks the necessary resources to perform their own internal operational audits.

Auditors must meet certain specified standards which their jurisdictional governments lay out when they conduct these audits. The American Institute of Certified Public Accountants has its respected external audit standards which they call the GAAS Generally Accepted Auditing Standards. Internationally, the International Auditing and Assurance Board maintain their International Standards on Auditing. The U.S. also has a regulatory body dating back to 2002 called the PCAOB, or Public Company Accounting Oversight Board.

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The term 'Audit' is included in the Corporate Finance edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.