AFM: audit committees are aware of their role in improving reporting and audits

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Supervisory directors who have a seat on audit committees are becoming increasingly aware of the increased importance of a critical performance of their role. Supervisory directors acknowledge in that connection that expectations of them are increasing all the time. This is evident from an exploratory survey performed by the AFM among supervisory directors who have a seat on the audit committees of 60 listed companies.

Audit committees play an important role in the corporate governance of companies. A critical performance of this role is crucial, also from the perspective of investor protection. The AFM expects that audit committees will have a positive influence on internal control and specifically as regards the quality of financial reporting and audits. The investigation focused on the manner in which audit committees perform this role.

The law and the Dutch Corporate Governance Code regulate the duties of audit committees as regards reporting and audits. Audit committees are not supervised directly by the AFM. The European Audit Regulation that will enter into effect by the middle of 2016 will further strengthen their role. The AFM will be charged with monitoring this role from that moment on. This exploratory investigation is in anticipation of that. The AFM wishes to engage in a dialogue with audit committees and calls on accountants and investors to do the same.

Strengthening checks and balances

The AFM has, based on the investigation, identified five points for attention through which the role of the audit committee in the system of checks and balances between shareholders, accountants and management can be strengthened further.

  1. Awareness of the consequences of the absence of an internal auditor
    Supervisory directors consider the internal auditor to be very important because the activities related to internal control have a broader scope than the activities of the external auditor. The AFM considers it important that audit committees are keenly aware of the risks inherent in not having an internal auditor. This requires additional responsibility on the part of the supervisory directors concerning the (supervision of) the internal risk management and control systems of businesses. 

  2. The role of the audit committees in selecting the accountant
    A member of the audit committee or the supervisory board is generally the leading figure in a selection committee for the selection of a new accountant (79% according to the investigation). This model is in accordance with the principle of the Dutch Corporate Governance Code and provides a good basis for all companies. Several supervisory directors do note that the CFO also has an essential role in practice. The AFM understands this, but it has the impression that in practice the influence of the company and that of the CFO in particular on the selection process often extends beyond merely organising the selection process. This is at odds with the increased awareness that the party being audited should not appoint its own auditor. Incidentally, European legislation will increase the role of audit committees in the selection of the auditor. 
  3. More attention on the part of audit committees required for internal quality assessments by the audit organisation and AFM investigations into the quality of audits
    Supervisory directors are generally satisfied with their external auditor. It has also become clear that the audit committees of nearly all businesses assess the performance of the auditor at least once a year. For this purpose they mainly use their own experiences and the information provided by the company's management. Supervisory directors have limited awareness of the findings of the internal quality assessments of the audit files performed by the audit organisation and they also have limited awareness of the findings of the investigations performed by the AFM or other supervisors. The AFM calls on supervisory directors to make use of this as well. 
  4. More attention required for expertise in the audit committee, which is appropriate to the complexity of the company
    In connection with the increasing complexity of reporting, internal control and audits, commensurate own knowledge among supervisory directors is important. Some supervisory directors indicate that a supervisory director should have a background as a controller or CFO. The Dutch Corporate Governance Code requires that audit committees include a financial expert. Further formulation of the principles as regards the financial expert and IT expertise in the Dutch Corporate Governance Code could be desirable. 
  5. Considerations of supervisory directors when accepting supervisory directorships
    Supervisory directors assume a critical attitude when accepting supervisory directorships, for example as regards the confidence they have in the management or the internal control. This could limit the ability of companies that are less in control to attract competent supervisory directors. Incidents show that the internal governance of precisely those companies shows room for improvement; critical supervisory directors are needed there the most.

The AFM is committed to promoting fair and transparent financial markets.

As an independent market conduct authority, we contribute to a sustainable financial system and prosperity in the Netherlands.

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