October 2012
 
Legally Blindsided

By Michael Marinaccio

 

A critical audit report raises the ire of general counsel, creating a political situation that could ultimately threaten internal audit’s independence.

 

Sam is the vice president and chief audit executive at Tools For You, a US $5 billion-plus Fortune 500 manufacturing and distribution company. During his more than three years in the position, Sam has maintained a functional reporting relationship with the audit committee and an administrative reporting line to the chief financial officer (CFO). He has a strong working relationship with the firm’s senior executives, maintaining regular dialogue with them in an effort to understand their business perspectives and expectations of internal audit. Sam maintains especially close contact with the senior vice president and general counsel (GC) via biweekly meetings where they discuss current developments and coordinate actions regarding issues of governance, fraud, risk, and compliance. He believes their relationship is both cordial and effective. 

Last year, Sam’s staff audited the legal function at international headquarters and reported numerous significant deficiencies. The GC disagreed with most of the audit and tried to persuade Sam to soften the report’s tone. Sam stood by the report, believing the content was balanced and accurate, and issued it without making any alterations. Although the decision created some friction between them, Sam still believed he and the GC had managed to preserve a positive working relationship. That belief, however, began to change soon afterward.

About six months ago, the GC informed Sam that he must stop using the current internal audit co-sourced provider — he claimed the provider was conflicted because it had undertaken an IT consulting engagement. Sam disagreed and sought the support of the CFO, but to no avail. Making matters worse, the GC took it upon himself to inform the service provider of his decision, leaving Sam completely out of the loop. Still, rather than inflaming the situation, Sam accepted the GC’s decision and rationalized that the provider might in fact have had a conflict of interest. Nonetheless, he had to scramble to hire a new co-sourced provider while soothing the former provider’s hard feelings over the decision.

At one of his biweekly meetings with the GC three months later, Sam was informed that effective immediately the Legal Department would have to review and clear all audit report drafts before issuance. Once again, Sam accepted the change believing that objecting would paint him as uncooperative. Then just last month, during an audit committee meeting, the GC openly criticized Sam throughout his presentation of results from a sensitive investigation. He rebuked the audit staff for failing to document audit workpapers correctly and reaching conclusions that weren’t supported by audit evidence.

The CFO told Sam the following day that an attorney from the Legal Department would be assigned to each internal audit project. The attorney would review the total audit work product — scope, audit procedures, audit evidence, conclusions, reports, etc. — and provide feedback to the in-charge auditor, Sam, and the GC. Sam objected to this latest maneuver and told the CFO that he believed it crossed the line and would negatively impact audit independence. The CFO urged Sam to cooperate; otherwise more drastic measures might be taken.

Sam now feels his independence has eroded and that he has lost the CFO’s support. He calls the chairman of the Audit Committee to discuss the issue and to arrange for a face-to-face meeting. During the call Sam learns that the GC has presented a proposal to the chair that would have Sam and his department reporting administratively to the GC. Sam is floored by the revelation.

If you were Sam, how would you proceed? What are your next steps?
 
Share your comments below.

 


Reality is that!?
Indeed the Sam's situation is very sad, but there is his fault that he did not adhere to the internal audit standards where the protection of internal audit activity is clearly defined, if the structure of the organization and audit committee is appropriate. Before join an organization look at the structure and learn if there will be any disputes with management team and besides your accurate diplomacy approach, is there any way to protect you work from the unfair management through the Superior Level (audit committee members that should be independent from the company's management). The Sam's situation is also known for me in my previous internal audit practices where the top management has collusion in-between or the Superior Level was just enjoying there retirement by doing nothing, and there was no way to get justice and the only way was just to leave companies. But anyway, I am very proud that I am Internal Auditor and my job is exactly difficult and accountable but also is very interesting, pleasurable and enjoyable.
Posted By: Nazar Nabiev
2012-11-01 8:08 AM
What would Sam do?
Sam should seek a meeting with the Board Chair to explain the situation, background and likely consequences.
Posted By: Freda Wamala
2012-10-29 9:17 AM
Legally Blindsided
Time to change jobs. Attempting suggestions from several of the earlier posts highlights youthful inexperience.
Posted By: Mike
2012-10-10 10:04 AM
Comment on article
During meetings, the point needs to be made up front that it's the business owners who own the processes and controls, not legal. Any potential findings and how these should be addressed should be the responsibility of the business owners. As auditors, we should just say what we observed and why we are saying it using multiple supporting examples found through our fieldwork.
Posted By: SBP
2012-10-08 2:46 PM
LEGALLY BLINDSIDED
I would go through with the face-to-face with the Audit Committee Chair, seeking an audience with the full audit committee. At this meeting I would remind the audit committee of the sacrosanct nature of independence, and urge them to reject the GC's proposal citing the sequence of events and the possible ramifications if such a proposal was allowed.
Posted By: ANDRE R ESTWICK
2012-10-08 1:59 PM
Legally Blindsided
I would ask the audit committee to fund a pear review from a reputable firm or company, that was approved by the IIA. The scope should include independence, audit workpaper review, competence and training of auditors, etc. Report to be presented to the Audit Committee, not GC or CFO.
Posted By: Kevin M Morrissey
2012-10-05 9:26 AM
Similar situation happened to me
Good afternoon, I read with empathy Sam's story. As I have unfortunately discovered, there is little Internal Audits can do when a company's senior leaders care more about protecting themselves rather than protecting the company. My advice to Sam is to confidentially find another job as soon as possible. When I encountered a similar situation in 2009, it took me until mid 2011 to find a fairly suitable job. In 2009, I had worked a few years for a now-bankrupt company in the midwest. I saw unethical behavior by the CFO, and reported it to the audit committee (to whom I reported to, dotted-line, at that time). In my report, I explained also that independence of the internal audit function was impaired as a result of my solid-line-reporting to the CFO. I respectfully asked the committee to have me report solid-line either to them or to the CEO (who, I later learned, was just as corrupt as the CFO). An example of unethical acts of the CFO: within weeks after being hired, the CFO fired the 3-person payroll department—which I had just audited and found to have a very strong system of internal controls. Despite my findings, the CFO replaced the entire payroll department with 1 person - her best friend who she brought with her from out-of-state, from a previous company at which the two of them had worked together. Instead of taking action on my report, the audit committee left everything up to the committee chair. And, the audit committee chair did not except chide me for being "too conservative" and "caring too much about 'your' accounting rules." Bottom line, the committee chair cared nothing about the company, but only about protecting himself and his board of directors—for, he had hand-picked both the CFO and the CEO. And, he and the board had ousted the great, founding CEO to replace him with the corrupt CEO who then bankrupted the company in less than a year—a company that had had a stellar, 25-year history. A few months after my report to the audit committee, the CFO paid herself an $80,000 unauthorized bonus, with the help of her payroll friend and the accounting director, who—like the payroll friend—had been installed by the CFO after the CFO constructively terminated the previous, ethical accounting director. By the end of 2009, the CFO along with the CEO and the accounting director set about filing bankruptcy, claiming that they planned to continue operations after “shedding debt.” As you may have guessed, however, the CEO cashed out his 401(k), he nor the board ever bothered to prosecute the CFO for her $80,000 bonus, the accounting director and her department cronies paid $10,000 to $40,000 to themselves in “bonuses,” the audit committee and board went gleefully about their jobs at their own, unaffected companies—unscathed by their fiduciary failure and disregard for 300 employees and 2,000 shareholders—and I and 300 other hard-working individuals became unemployed, at the height of 2010’s unemployment spike. Because I was the person who outed the senior leaders’ corruption, I was retaliated against by being the only person in the finance department to be terminated when the company shut down. Whereas the rest of finance was allowed to remain on the payroll indefinitely, until they found jobs elsewhere to ensure they always had income. I filed a complaint with the EEO and later filed as a creditor/claimant against the company’s bankruptcy. However, EEO pretty much blessed the company by claiming “we could find no evidence of retaliation…” And the judge tossed my creditor claim, claiming that I “did not have an employment contract” with the company, and because the EEO had already denied my claim. Wow, really? Is there no punishment for wrongdoing? Moreover, the board elected the accounting director as executor of the bankrupt company. So to this day, she receives a 6-figure salary simply for opening and responding to mail for the bankrupt company. I, on the other hand, was summarily terminated, and on food stamps and a $270 a month unemployment for months, because of corruption, greed, and fiduciary failure of a board, audit committee chair, and 3-pack of senior “leaders.” I began looking for another job in 2009, immediately after the CFO made her first move of firing payroll. But it took me until mid-2011 to find a somewhat decent paying job in the audit field. Sam, I wish you much luck. Jamie P Seudonym
Posted By: James P Seudonym
2012-10-04 4:21 PM


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