This week’s episode discusses Financial Auditing, and why it is important to financial reporting; it is the quality assurance process. Any metric engine or report process should have some method to test quality of the outputs.

Bayonet the Wounded

I worked as a financial auditor for two and a half years in my early career. During that time, as I would go to different businesses to begin to audit the financial statements, I remember one company staff explained to me what the general view of the auditor was: “They come in after the war and bayonet the wounded.”

In a certain sense I understood that. Here the accountants had worked hard gathering the data from the organization, testing it, recording it, preparing the books, and keeping everything straight–effectively an ongoing war for them day in and day out–only to have me show up to question if they had done everything right, and to perhaps skewer them if I found any mistakes.

Quality Control

Yet the function of an audit really does help to make sure the numbers are recorded correctly, and assumptions made about things are really valid. At times I found simple recording errors, where numbers were transposed, which the accountants were glad to have corrected. At others I tested assumptions about if sales really had occurred or if the company really was still at risk for some transaction which perhaps the management didn’t want tested, but owners and others would have wanted to be understood.

Auditing is not a guarantee of accuracy. It is too expensive, given today’s liabilities when there are errors–intentional or not–to actually test everything. It is unreasonable to pay for someone to repeat all the functions of the accounting staff. So things are sampled, and judgments are made as to if things are “material” meaning they will really make a difference in someone looking at the results.

Ethics are Required

Are there times when the auditors, who are paid by the firm they are auditing, are perhaps influenced more by the firm than by those who use the reports yet do not pay for the audits? Yes, that can happen.

But my experience has been that auditors by and large are interested in the accuracy of measurement; I have experience with auditors who are highly ethical individuals, knowing their livelihood is dependent upon being trusted by those who do not pay for their time; they are most often clear that exchanging one fraudulent transaction from one customer would jeopardize an ongoing business worth much more than any one transaction could possibly be.

This touches upon a personal blog of mine, dealing with the importance and the power of virtues–the things that enable these kinds of behavior. You can read more about them in my person blog at VirtueWheel.com.

This is  Episode 221 of Conversations with Kip, the best financial system vlog there is.Literally learn more about ledgers and financial systems at  LedgerLearning.com.

Watch all episodes in order at the  Conversations with Kip Playlist