Taking stock of auditor independence.

• Author: Daroca, Andrea
• Position: Government-auditor relationship

Finance officers can take a number of actions to maintain independence from external auditors and thereby strengthen public confidence in the fair presentation of government financial statements.

The collapse of Enron and the debacle at WorldCom are just two instances of the changing dynamic that the external audit function plays in disseminating financial information to users of that data. Because of relationships with their clients beyond the strict audit function, the external auditors of Enron and WorldCom have had their independence questioned by Congress, the business press, and the public. The thrust of the inquiry is the extent, if any, that the alleged lack of independence may have played in the resultant problems. Without independence, the vital credibility that the public attributes to the auditor's opinion as to the fair presentation of financial statements is impaired. So far, the controversy over auditor independence has been limited to private companies and their auditors. Nonetheless, government finance officers should exercise perhaps even greater caution to maintain independence from their auditors, given the public nature of the funds for which they are responsible.

The concept of independence is multifaceted. Paragraph 3.11 of Government Auditing Standards, or the Yellow Book, reads as follows: "In all matters relating to the audit work, the audit organization and the individual auditors, whether government or public, should be free both in fact and appearance from personal, external, and organizational impairments to independence." (1) Independence is a mutual responsibility; auditors and their clients must be independent of each other. Thus, rules that apply to external auditors implicitly lead to measures that should be considered by finance officers.

Now is a good time for governments to take a look at their practices and the interaction they have with their auditors. The public trust must never be jeopardized. However, it is important to keep in mind that change takes resources. An independence blueprint that is economically impractical is worthless. In periods of economic stress or for smaller governments that may lack financial wherewithal, the importance of practicality is vital. Although the benefits of independence may be difficult to measure, cost-benefit tradeoffs must be considered. This also applies in regard to relationships with external auditors. A plan that makes it economically infeasible for auditors to achieve their objectives in a professional manner is equally senseless.

Managing the Government-Auditor Relationship

Governments cannot afford to become complacent in their relationships with external auditors, regardless of the perceived duration and professionalism of those relationships. The very length of service to a government, which used to be considered a positive, is subject to question in today's more skeptical environment. Even though a city and its auditor may in fact be independent of each other, the appearance of independence (i.e., how a situation would appear to a knowledgeable third party) is equally important. Governments and their auditors need to understand that the actions of either might be subject to the scrutiny of outside parties. As such, lengthy relationships with a single auditor or auditing firm may be detrimental to the appearance of independence.

To alleviate concerns about the length of tenure between governments and their auditors, governments should periodically go out to bid for such services. The bidding process should involve competition among a diverse group of accounting firms, including the current provider. Firms should not be penalized for doing a good job. Although the proposed cost of auditing services is always important, the primary criterion for the selection or retention of an auditor should be quality, not fees.

Bidding for audit services is expensive for both government and accounting firms. It is usually less costly to renew a contract than it is to enter into a new one. However, "automatic" renewals of audit contracts may hamper the appearance of independence between governments and their auditors. Although it is important that both...