| Written by Mark Funkhouser,
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The most significant failures in organizations are failures of governance wherein the principals have lost control of the organization. Successful audits are those that enable the governance function to avoid or surmount these problems. When you analyze the stories of auditors about their most successful audits you find some interesting things. The dominant theme in these stories is that the audit had a significant impact, but strong secondary themes are that the audit was given considerable play in the local media and that it changed the relationships among the major stakeholders. That is, the results that were achieved occurred through a political process. I don’t think most of us realize the implications of this because we tend to think of the particular audit as an exception. We don’t realize the commonalities among successful audits and we certainly do not recognize their political nature.
Successful audits often contribute to the solution of political problems. Politics is the process, in both the private and public sector, by which stakeholders consider and adopt strategies allocating scarce organizational resources and coping with organizational challenges. In politics stakeholders contend and negotiate with each other over organizational means and ends and the values they embody. Good politics involves a fair and open process in which various stakeholders have relatively equal access to critical information and adhere to the rules and procedures embodied in the governance structure. In good politics basic values like efficiency, representativeness, social equity and individual rights are legitimated. In bad politics the process is unfairly tilted in favor of one group of stakeholders, important information is distorted or concealed and one or more of the core values of community life is abused or ignored. Most observers recognize that the scandals in Enron, Worldcom and other organizations in the recent past were almost universally failures of organizational governance. Less well recognized is the role of politics in these governance failures and the fact that audit is actually designed to strengthen governance and does so by improving the political process.
Managers are the agents in the principal-agent relationship. The owners are the principals. Principals create organizations to fulfill specific purposes on their behalf. Principals usually select individuals from among themselves to represent their interests – a corporate board of directors in the private sector or a legislative body in the public sector. This group should set policy and direction, hold management accountable and assure that the organization remains true to its purpose. Managers are appointed to run the organization on behalf of the owners. However, a basic problem of organizational life is the tendency of the agents to direct the organization toward their own purposes rather than those of the principals. Audit is designed to address this problem. Independent auditors are supposed to review the work of the agent on behalf of the principal and keep the principal apprised of the work of the agent.
Audit is often referred to as a “management tool,“ but that characterization of audit is incorrect. It is true that competent managers can find the independent audit function useful in improving organizational performance. But the independent audit function cannot be a management tool precisely because it is independent. To be a tool of management, the function would have to be under the control and direction of management. It is also true that most managers would do without the independent audit function if they could. The role of audit in organizational life is actually more fundamental. Audit is a governance tool. Governance is the overall system by which the stakeholders of an organization control and direct that organization. In the private sector, governance is the means by which the owner or shareholders control the organization. In governments, the governance structure is the means by which citizens control the organization. The governance structure is the machinery that controls the organization. Politics is how the machinery is operated.
An effective audit function improves the governing body’s ability to make policy, conduct oversight and be responsive to the community. When we do risk assessment, audit selection and audit planning we should keep these points in mind: sound governance and good politics are essential to effective government and central to the real purpose of the audit function.
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Funkhouser on Auditing