Day-to-day business operations involve financial reporting, internal controls, risk assessment and other practices to maximise efficiency. As a result, there are numerous documentation and processes to assess and determine their effectiveness on an ongoing basis. Therefore, the term auditing will often appear in most business operations. However, audits are broken down into two parts; internal and external audits. In most cases, understanding the difference between the two is a challenge. Here is a simple breakdown to understand the difference between internal and external audits.
An internal audit is a process that analyses an organisation’s internal controls to determine their effectiveness. It is an accounting process where a designated auditing department within the organisation performs. Internal auditors process objective and independent financial, management and operation reports.
They must precisely evaluate company performance and give independent insights not influenced by other areas of the company. To further streamline internal auditing processes, companies must use an audit trail. This audit trail provides a list of events and dated financial records detailing operations. Such presentation enables the identification of loopholes for further improvements in future.
Benefits of Internal Audits
Streamlines Operations and Efficiency
Internal audits pinpoint inefficiency and operational problems because they are more in-depth. Therefore, the insights expound on the source of the problem and identify solutions to streamline operations.
Identify and Mitigate Risks
Internal auditors can highlight the consequences of certain events and the likelihood of the same events occurring within the organisation. Risk awareness provides a solid foundation for risk mitigation, minimising the chances of these events happening.
Compliance and Successful External Audits
Internal audits can follow similar procedures as external audits and identify reporting and compliance inconsistencies. Identifying and solving these issues helps the organisation avoid non-compliance penalties.
Drawbacks of Internal Auditing
Internal audits are costly, and conducting these processes frequently may impact revenues.
Auditing processes are disruptive and may affect normal business operations. Such downtime affects a company’s bottom line in the long run.
External audits assess the accuracy of an organisation’s financial statements and compliance of accounting practices to respective rules and regulations. External auditors verify financial reports and records to assess a company’s performance. The individual or company performing the external audit is independent and with no close ties to the company.
Businesses and governments can get more insight into organisations’ accounting without conflict of interest. For example, all publicly listed companies must publish their financial statements for investors. In addition, non-profits also need external audits to maintain their tax-exemption status.
Benefits of External Auditing
External audits allow companies to prove the accuracy of their financial statements. Shareholders need this proof because other parties want to work with an honest and transparent business.
Stronger Internal Controls
The results of an external audit allow a business to establish strong internal policies to ensure accurate financial reporting. These new practices are ideal for streamlining accounting and efficiency.
Drawbacks of External Auditing
Companies awaiting an external audit will constantly worry about fulfilling regulatory requirements. They may also have concerns about needing to comply with industry requirements.
Negative audit results could damage a company’s reputation with the potential loss of investors. Compliance issues also affect both small and big corporations.
Key Differences between Internal and External Audits
Internal audits assess a company’s financial and compliance controls and evaluate risk management effectiveness and efficiency of organisation practices and policies. Alternatively, an external audit only reports inefficiency in internal controls and identifies corrective actions for addressing non-compliance.
Internal audits focus on ensuring business practices support company objectives towards goals achievement and possible risks that would affect the objectives. Unlike internal audits, external audits focus on determining the accuracy of business accounts and financial statements concerning performance.
An internal audit gives insights to suggest preventative measures for management in line with governance, internal controls and risks on an ongoing basis. An external audit only centres on financial statements and is conducted yearly or once every five years. Conducting an audit for compliance purposes is only carried out by a regulatory body in charge of compliance.
An internal audit generates reports and gives governance assurance that the senior management, boards of directors and audit committees need. Meanwhile, external audits generate reports and provide insights for stakeholders to make informed decisions. Besides, the audit is conducted by an independent organisation outside the company’s management structure.
Coordinating Internal and External Audits
While the focus, scope, and purpose of internal and external audits differ, editors often collaborate for accurate reporting to eliminate duplicate reports and maximise coverage. External auditors may also consult internal auditors since they know the company’s departments and guarantee proper coordination and communication. Therefore, internal auditors must provide reports, papers and necessary documentation in a way that is easy to use.
External and internal audits have different focuses, scopes, audiences and purposes, but they all help the company achieve accuracy in its records and financial data. Besides, auditing generally ensures that a business complies with the law. As a result, stakeholders and management will be confident knowing their company practices and principles are efficient.