External and Internal Auditing: What's the Difference?

  • Apr 06, 2009
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Abstract

            The auditing profession is something that can involve many different kinds of activities.  These activities include protecting investors, organizations, and the economy as a whole.  There are very real dangers involved this ever evolving profession.  Fraud is most likely the most obvious and most dangerous activity that auditors must detect.  The second most dangerous is not doing their job well.  External auditors open themselves up to legal liability when they engage in audits, and not performing their job efficiently can be devastating.  This article will discuss these dangers, along with the roles and responsibilities of external and internal auditor, including the many career opportunities that come with these professions.

 

External and Internal Auditing: What’s the Difference?

          In order to compare and contrast the roles and responsibilities of external and internal auditors, as well as discuss the vast amount of career opportunities that comes with becoming an external or internal auditor, we must first define what they mean.  The Institute of Internal Auditors (IIA) describes an internal auditor as “one who performs an independent, objective assurance and consulting activity designed to add value and improve an organization’s operations. An internal auditor helps an organization accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control, and governance processes.”  In contrast, an external auditor is defined as performing a periodic or specific purpose audit to determine, among other things, whether the accounting records provided are accurate and complete, prepared in accordance with the provisions of GAAP, and examine financial statements prepared from the accounts present fairly an organization’s financial position, and the results of its financial operations.  Now that we know the difference between what an external auditor does versus an internal auditor, we may begin to describe the roles and responsibilities each has in the accounting field.

            External auditors have a great influence on the audit of internal controls through their audit activities, including conferring with management and their recommendations for improvement to internal controls.  They provide important feedback on the efficiency of the internal control system.  Specifically, external auditors examine on a test basis, transactions and records that support accompanying financial statements and the associated disclosures.  They review the accounting principles applied and considerable estimates made by management, and evaluate the overall presentation of an organization’s financial statements.  Before an external auditor can conduct his responsibilities, however, they must comply with the generally accepted auditing standards.  The most important being the independence the auditor must have in relation to the organizations he/she is auditing, and attaining the adequate training and proficiency to perform an audit.

            Internal auditors, on the other hand, evaluate and provide reasonable assurance of risk management and decide if internal control systems are implemented as intended to allow the organization’s goals to be met.  They report on deficiencies in the internal controls, issues involving risk management, and provide recommendations on how to improve in these areas.  Security is also an area of expertise an internal auditor may have when employed by an organization.  An internal auditor examines the security involving sensitive information that must be kept inside the organization.  Other responsibilities include communicating with management and external auditors, constantly continuing their education, and provide support to an organization’s anti-fraud controls.

            So far, the major differences between internal and external auditors are the amount of experience and expertise each holds.  Internal auditors seem to obtain knowledge specifically about the organizations to which they are employed.  This knowledge and experience may be carried with them from job to job, however, different organizations employ different accounting methods that could be tremendously different than that of the one they previously worked for.  External auditors have specific guidelines and laws to abide by, which requires them to obtain vast amounts of knowledge of many different types of accounting methods, controls, and more importantly, uncommon entities and environments.

            Upon discussing the roles and responsibilities of external and internal auditors, we can bring to light the many career opportunities that are available to both professions.  First, external auditors have an immeasurable advantage over internal auditors when it comes to employment prospects.  As stated earlier, external auditors seem to have the knowledge and expertise that can enable them to move from different accounting fields more easily than of an internal auditor.  External auditors can become private CPA’s with less difficulty, work as an internal auditor for a diverse amount of organizations, and progress in a firm more rapidly.  These assumptions may not hold true to all external auditors, however, the roles and responsibilities involved in each profession seem to set a higher standard for external auditors.

            According to www.bls.gov, “employment of accountants and auditors is expected to grow by 18 percent between 2006 and 2016, which is faster than the average for all occupations.  This occupation will have a very large number of new jobs arise, almost 226,000 over the projections decade.  An increase in the number of businesses, changing financial laws, and corporate governance regulations, and increased accountability for protecting an organization’s stakeholders will drive growth.”  After taking a glimpse at today’s economy, the previous statement may not hold much truth, but it is undoubtedly accurate in that the accounting profession will continue to grow, specifically auditing. 

         The next statement, made by the same website, must be presented when discussing career opportunities of auditors.  “An increased need for accountants and auditors also will arise from changes in legislation related to taxes, financial reporting standards, business investments, mergers, and other financial events.  As a result of accounting scandals at several large corporations, Congress passed the Sarbanes-Oxley Act of 2002 in an effort to curb corporate accounting fraud.  This legislation requires public companies to maintain well-functioning internal controls to ensure the accuracy and reliability of their financial reporting.  It also holds the company’s chief executive personally responsible for falsely reporting financial information.”

          The growth of the accounting industry as a whole is something that cannot be overlooked.  When considering the amount of fraud that has occurred over the years, it is impossible not to project an enormous need for more auditors over the next decade.  For example, the Bernie Madoff Ponzi scheme will require hours upon hours, days upon days, and months upon months to unravel the damage he and his “investment firm” has done.  There will be a countless number of external auditors working with the internal auditors from his failed investment firm to find out what exactly happened, and to try and recover monies for the duped investors.  As another example is the Texas-based Stanford Investment Firm that is now being investigated for also engaging in a Ponzi scheme.  This type of fraud is the most perilous to investors due to its nature.

         Fraud and changes in law due to fraud are the main reasons of the enormous growth in the accounting industry, specifically auditing.  It is the personal responsibility of internal and external auditors alike to actively investigate for fraud in their organization or their client’s organization.  To not be proactive in detecting fraud is to only do half of their job.  Auditors are required to analyze and interpret financial statements, internal controls, and so much more, hence detecting fraud should be one of the requirements in any engagement or employment in an organization as an auditor. 

          To emphasize the importance of detecting fraud, and its role in employment opportunities, specifically for internal auditors, the following quote is taken from an article related to a study titled, “The Importance of Internal Audit in Fraud Detection” by Paul Coram, Colin Ferguson, and Robyn Moroney. “In recent years the importance of good corporate governance has received significant public and regulatory attention.  A crucial part of an entity’s corporate governance is its internal audit function.  At the same time, there has been significant public concern about the level of fraud within organizations.”  In their study, they “assess whether organizations with an internal audit function are more likely to detect fraud.”  Their findings suggested that “internal audits add value through improving the control and monitoring environments within organizations to detect fraud, and that keeping the internal audit function within the organization is more effective than completely outsourcing that function.”

          This study leads me to believe that the roles, responsibilities, and career opportunities for internal and external auditors will expand at a rapid pace, and there is no reason to think otherwise.  With the amount of financial corruption throughout our society growing year after year, it is not incorrect to say that auditors, external and internal, are basically the financial world’s police.  Basically, auditing is going be a depression-proof profession due to the nature of fraud, and the ever-expanding companies worldwide.  Hopefully accounting students looking for a profession out of college look into becoming auditors, and continue to solidify the assumption that they really can police the financial world ethically and morally.

         In conclusion, external and internal auditors are the same in that they have an extremely important job to protect investor’s life savings.  They are different, however, in that external auditors should have a broader range of knowledge than do the internal auditors.  Regardless, accounting a quite possibly one of the greatest professions to enter into today, and auditing is only the tip of the “accounting iceberg”.

Joseph Costello

West Chester University Accounting Student

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