What Is an Internal Audit?

What Is an Internal Audit?

Let me explain what an internal audit really is. It's an analysis of your business aimed at spotting ways to add value for stakeholders and boost operations. These audits cover everything from processes and procedures to operations, current economic conditions, established controls, company culture, ethics, and the quality of products and services. They assess any risks your business might face, and after the analysis, the auditors provide recommendations for improvements.

Key Takeaways

Here's what you need to know directly: An internal audit examines your company's records, systems, processes, and workflows. It's designed to find opportunities for making improvements. These audits are crucial for your business's success because they're usually done by a third-party auditing service that has no stake in your business. That third-party approach ensures you get objective and unbiased results.

How an Internal Audit Works

You should understand that many types of internal audits exist across different industries. For instance, if you're a government agency or a company working for the government, you might face regular compliance, investigative, and technology audits as required by law. As a private business owner, you could hire a third party for an operational audit to discover ways to become more efficient.

Types of Internal Audits

There are several types you might encounter. A compliance audit reviews your company's operations and procedures to ensure adherence to internal rules, procedures, and policies. Financial audits include things like payroll audits to confirm employees are paid correctly, or benefit plan audits to verify that employer plans meet legal requirements and are properly funded. Environmental audits assess your business's environmental performance or its impact on the environment. Technology or IT audits evaluate your organization's IT infrastructure for vulnerabilities and best practices. An operational audit looks at processes and procedures to identify improvements in operations, while a performance audit checks if your business meets the performance metrics set by management.

Internal Audit vs. External Audit

The main difference between an internal audit and an external one comes down to the audience. It's an internal audit if it's started by your executives or senior management for internal improvements, even if a third party performs it. On the other hand, it's external if it's done for someone outside your organization, like a forensic audit for legal proceedings, and it's usually initiated by an external entity.

Internal Audit Process

Internal auditing typically follows four steps: planning, auditing, reporting, and monitoring. In the planning step, auditors start by figuring out how to conduct the audit. They meet with your leadership to set goals, identify risks, and sort out logistics and resources. Depending on the audit type, they get familiar with your organizational and financial structures, analyze existing controls and procedures, review previous annual reports, identify and prioritize risks, pinpoint auditable units, and design information-gathering techniques like surveys. Then they present the plan to leadership for feedback, formalize it, and share it with the audit committee and board.

For the auditing step, they use the developed method and checklist to assess your business. They try to minimize disruptions by starting with surveys, data assessments, and workflow reviews, only moving to fieldwork like physical inventories or employee interviews when needed.

In reporting, they generate interim reports with significant findings, ensuring the board gets time-sensitive info immediately. Otherwise, a pre-close meeting lets management add information that might change findings. Audit reports include an executive summary, objectives, scope, background, conclusion, opinions, and a management action plan. Sometimes, executive summaries from the chief audit executive cover scope, conclusions, observations, and concerns, with more details in sections on objectives, scope, background, conclusion, opinions, and the action plan.

Finally, monitoring or follow-up involves smaller audits to check if changes were implemented. Auditors look for milestones or goals to see if adjustments worked, or they focus on specific programs or units.

Internal Audit Reports: The 5 Cs

Internal audit reports often follow the 5 Cs framework. They address criteria, which is what needs auditing and why; condition, the observed circumstances around issues; consequence, how issues affect the company in areas like finance, regulations, security, or publicity; cause, what prompted the audit and caused the issues; and corrective action, what the company can do to fix them.

Importance of Internal Audits

Internal audits are vital for your business's profitability and success. They spot inefficiencies, helping you streamline processes and cut costs. This frees up money for research and development, expansions, or building cash reserves for debts or emergencies. It adds value for stakeholders by showing your business is reducing costs and staying profitable, competitive, and relevant. Investors might take notice, potentially increasing share values. Another key benefit is that audits motivate employees and management to follow policies, discouraging shortcuts or unethical behavior since they know processes will be reviewed.

The Bottom Line

To wrap this up, an internal audit reviews your business's processes, systems, and procedures to find improvement opportunities. These are generally handled by third-party entities with no interest in your business, giving you unbiased, objective input.