Today most businesses are operated by limited companies, which are owned by the shareholders and managed by directors appointed by such shareholders. The appointed management is faced with a conflict of interest i.e. whether to act in the best interest of the company and by extension the shareholders’ interest or to act in their best interest. This is what is referred to as the agency problem.
The separation that exists between the owners and management forces the absentee owners to institute control measures to ensure honesty of their company’s stewards (i.e. management). The companies Act attempts to remedy this problem by requiring the management to maintain proper accounting records of all the transactions of the company and to prepare financial statements that show a true and fair view to be presented to the shareholders at the annual general meeting.
However, even with this requirement there still exists the risk that the accounting records maintained and the financial statements prepared by management might not be accurate, free from bias and reflect the true financial position and performance of the company. The companies Act therefore goes further to require that management must have the financial statements subjected to an independent examination and a report issued to the shareholders as to whether the financial statements show a true and fair view. The auditor carries out this independent examination. To ensure independence of the auditor the companies Act gives the power of appointment and removal of the auditor from office to the shareholders.
The primary objective of an audit of financial statements is to enable the auditor to express an opinion whether the financial statements are prepared, in all material respects, in accordance with an identified financial reporting framework. (Financial reporting framework refers to the international accounting standards, provisions of the companies Act and other relevant statutes and legislation). The auditor expresses an opinion as to whether the financial statements give a true and fair view of the financial position and performance of the company. An audit is intended to protect shareholders and other parties who have dealings with the company from dishonest directors and ensure that financial statements are free from bias, manipulation and are relevant to the needs of the users.
- To give credibility to the financial statements. This arises from the fact that the accounts have been subject to an examination by an independent person.
- An audit may assist in the prevention and detection of errors and frauds.
- The auditor’s experience will enable him to make recommendations on ways of improving the accounting and internal control system.
- Directors’ responsibilities in relation to the accounting function of the company
- To ensure that proper books of accounts are maintained by the company.S.147 (1) requires that every company shall maintain proper books of accounts.
To prepare financial statements i.e. a profit and loss account and a balance sheet to be presented to the shareholders during the annual general meeting.
To ensure that the balance sheet gives a true and fair view of the state of affairs of the company as at the end of the financial period, and every profit and loss account gives a true and fair view of the profit or loss of the company for the financial year.
To safeguard the company’s assets
To prevent and detect errors and frauds within the company.
To set up an internal control system. This system will assist management in meeting all the above objectives.
- It is an independent appraisal of the performance of management in seeking to secure economy, efficiency and effectiveness in the use of resources at its disposal.
Economy: The terms and conditions under which an organisation acquires human and material resources: an economical organisation acquires these resources in the appropriate quality and quantity at the lowest prices.
Efficiency: The relationship between goods and services produced and the resources used to produce them. An efficient organisation produces the maximum outputs for any given set of resource given quality and quantity of goods or services. The underlying management objectives are increased productivity and lower unit costs.
Effectiveness: How well a programme or activity is achieving its established goals or other intended effects.
The major concern in the government bodies has been that such bodies may not be providing good value for money to their users and the public at large. The resources available to these organisations can be considered to be public funds for which the public expects accountability and the achievement of economy, efficiency and effectiveness.
The public would be interested in a report on these bodies that highlighted the following:Any misconduct or frauds.
- Weaknesses in or lack of arrangements for securing economy, efficiently and effectiveness.Unnecessary expenditure or loss of income due to waste extravagance, inefficientFinancial administration, poor value for money, mistakes or other causes.Failure to comply with statutory requirements.
- Deficiencies in rate or country funds, sinking funds or reserve funds and other similar financial matters calling for comment.
Unlawful items not accounted for.
A value for money audit would therefore be expected to produce more than just an opinion on the accounts but would include investigating economy, efficiency and effectiveness and considering and reporting on matters of public interest.