During the last several months various regulatory changes and enforcement actions have combined to task audit committees with expanded duties. Now, two recent reports have provided a roadmap for improved reporting.

The first, an EY analysis of this year's audit committee proxy disclosures, reveals that transparency is on a rapid ascent. The specifics suggest some relatively easy steps that virtually every public company can accomplish with ease. Half of all large company audit committee reports, for example, disclosed that the committee is responsible for the appointment, oversight, and compensation of the auditor, up from 37 percent in 2012.

More companies are also disclosing the length of time the incumbent firm has served as external auditor: 31 percent in this year's analysis, compared to 27 percent in 2012. Other important disclosures that seem to be trending upward include the factors that the committee considered in evaluating the external audit company, those that indicate that the audit committee was involved in the selection of the lead audit partner, and others that note that the audit committee was responsible for audit fee negotiations.

EY also listed several interesting developments from the 2013 proxy season that could be leading indicators of positive disclosure trends, including more companies giving an explanation for any material change in audit fees and, of particular interest to investors, more disclosure of the topics the audit committee discussed with the external auditor over the previous audit cycle.

It's time for companies to scour their audit committee reports and start improving the disclosure. That doesn't always mean adding; the idea is to make reporting better by being more specific, not to make it more voluminous by adding legalese and boilerplate.

While the EY report looks at developments from the past year, a coalition of governance leaders is looking to the future. The groups contributing to a recent paper, “Enhancing the Audit Committee Report: A Call to Action,” include a who's who of centrist governance experts: The Center for Audit Quality, the National Associate of Corporate Directors, Corporate Board Member/NYSE Euronext, Tapestry Networks, The Director's Network, and the Association of Audit Committee Members. Their collective observation is that a number of forces have combined to necessitate a serious rethink of the audit committee report. They cite the ever-increasing responsibilities of the audit committee, recent regulatory and legislative changes, the voluntary adoption of increased transparency by peer companies (as evidenced by the EY report), and intensified investor pressure.

The “Call to Action” includes examples of leading practice audit committee disclosures by companies in various areas. For example, the report includes excerpts from:

Mondelez, for its description of the scope of the audit committee's responsibilities;

Old National Bancorp, for the robustness of its report on how the audit committee handles its assigned duties, particularly the handling of ethics or compliance complaints;

Legg Mason, for the completeness of its disclosure of the composition of the audit committee, including the member's financial literacy and expertise;

General Electric and Prudential Financial, for revealing the factors that went into the committees' decisions on whether to retain their external audit firms;

Safeway, for its disclosures on auditor compensation and why that compensation has changed;

McDonald's, for the relevancy of the information it provides about how the committee oversees the external auditor; and

Coca Cola, for disclosures about how its committee evaluates the external auditor.

As shown by the disclosure from Old National Bancorp, a mid-cap bank holding company in Indiana, a company need not be huge to design well-thought-out reporting. The areas identified for improved disclosure are applicable to every public company.

What should you do to improve your audit committee reporting? First, read both reports. They are short and accessible. Then, look at your most previous audit committee proxy disclosure. Take a skeptical view of your existing reporting. See how clearly your company discusses the following elements:

The scope of the audit committee's responsibilities and composition;

The considerations that factored into the decision to hire or retain the external auditor;

The committee's role in choosing the audit engagement partner;

What the committee considered when negotiating auditor compensation; and

The factors that went into the committee's oversight and evaluation of the audit firm.

As good a roadmap as those two reports provide, there was not a single investor group included in the coalition that issued the “Call to Action,” report despite the fact that investors are the ultimate consumers of the audit committee report.

If you want to go a step beyond those two reports, and better understand what your shareowners want in the audit committee report, read through the “audit committee responsibilities” section of the Council of Institutional Investors' report, “Policies on Corporate Governance” (available at http://www.cii.org/corp_gov_policies#BOD). CII represents more than 125 large pension funds, endowments, and foundations with a total of more than $3 trillion in assets under management and had expanded its recommendations to audit committees back in April.

While many of the CII recommendations mirror those contained in the “Call to Action,” some go beyond. CII would like issuers, for example, to disclose if there are any former partners or employees of the audit firm who now work for the company, and whether directors have any relationship with the auditor, including indirect relationships through the director's employer or through service on other audit committees. CII also calls on audit committees to disclose the committee's opinion about the quality and frequency of communications from the audit firm to the committee; the clarity, utility, and insights provided in the audit report and in the auditor's letter to management; and a host of other issues.

Clearly, audit committee reporting is in the spotlight. It's time for companies to scour their audit committee reports and start improving the disclosure. That doesn't always mean adding; the idea is to make reporting better by being more specific, not to make it more voluminous by adding legalese and boilerplate. As the “Call to Action” report states, “Each public company is unique in size and complexity, and operates within a constantly changing and distinct set of circumstances.” While that may be a reason to be wary of one-size-fits-all disclosure mandates, it also puts the onus on each company to make sure its disclosures are specific, timely, relevant, and robust.

Topics