Audit

Definition: The examination of a company’s financial reports by an independent firm to verify that they are accurate.

Example: Ernst & Young, LLP, one of the so-called ‘Big Four’ public company accounting and auditing firms is the auditor chosen by Apple. Its opinion about the reliability of Apple’s financial reports appears toward the end of its 10-K, the annual report it files with the SEC.

Investeach explains: The issue of company audits is fraught with controversy. They are supposed to give investors comfort that they can rely on the financial reports a company produces. However, unexpected implosions of high-profile companies such as Enron and Worldcom have called into question the value of audits. These companies’ financial reports showed that they were doing well. Their reports were audited. Then, the companies collapsed. The auditing firms claimed that they were lied to and purposely misled by the companies they were auditing. They said that there was nothing they can do if a company makes a concerted effort to keep them in the dark. This was little comfort for investors were left holding worthless shares of these companies.

The fall-out from these high-profile failures led to the passage in 2002 of the Sarbanes-Oxley Act. SarbOx, or Sox, if you really want to be efficient, made significant changes to the auditing profession to reduce the chance of corporate failures such as those mentioned above from happening again.

Finally, you can imagine the deja-vu investors felt with regard to company audits when the financial crisis began in late 2007. Dozens of banks and lending companies seemingly went from record profits to devastating losses almost overnight. Did borrowers all-of-a-sudden stop paying back their loans, or was this problem building up, unreported, for some time before it became an epidemic that could no longer be ignored?

Riddle Me This:

1. Why should investors have more confidence in financial statements that have been audited?
2. Where can we read the opinion the auditing firm writes after completing its audit of a company?
3. Identify two high-profile corporate failures that left the investment community stunned.
4. Identify the law that was passed in response to these failures.
5. What major incident once again put scrutiny on the auditing profession?

2017-08-30T22:12:02+00:00