A compliance audit is performed to determine whether a company’s processes or transactions have or have not followed applicable rules. These rules can be created by the organization for itself through corporate by-laws, policies, or procedures; can be imposed on the organization through external laws and regulations (ex. DCAA Compliance); or can be a set of rules that a company has chosen to follow to be recognized as a provider of a certain level of quality (ex. ISO 9001:2015). To successfully navigate the world of compliance audits, you first need to understand internal vs external audits, the different types of audits that exist for government contractors, the audit process, and your options for maintaining compliance.
Internal vs External
Compliance audits can be performed internally or externally depending on variety of factors.
Purpose
Internal Audit Internal compliance audits are conducted by employees or audit teams within the organization. The primary purpose is to assess the effectiveness of internal controls, policies, and procedures, and to identify areas for improvement to enhance compliance with regulatory requirements, organizational policies, and industry standards. | External Audit External compliance audits are conducted by independent auditors or audit firms outside the organization. The primary purpose is to provide an independent assessment of the organization's compliance with external requirements, such as laws, regulations, standards, and contractual obligations. External audits often serve regulatory or contractual compliance purposes. |
Independence
Internal Audit Internal auditors are employees of the organization and report to internal stakeholders, such as management or the audit committee. While internal auditors maintain objectivity and independence, their primary allegiance is to the organization. | External Audit External auditors are independent of the organization being audited and have no vested interest in the audit outcome. They are typically hired by the organization's management, board of directors, or regulatory agencies to provide an unbiased assessment of compliance. |
Scope
Internal Audit Internal compliance audits may focus on a broad range of areas within the organization, including financial reporting, operational processes, information technology, human resources, and environmental compliance. The scope is determined based on organizational priorities and objectives. | External Audit External compliance audits usually have a specific focus on assessing compliance with external requirements, such as legal and regulatory frameworks, industry standards, and contractual obligations. The scope is defined by the regulatory or contractual requirements and may be narrower than internal audits. |
Reporting
Internal Audit Internal audit reports are typically shared with internal stakeholders, such as management, the audit committee, and relevant departments. The reports provide insights into the organization's compliance status, control effectiveness, and areas for improvement. Management is responsible for implementing corrective actions based on internal audit findings. | External Audit External audit reports are shared with various stakeholders, including management, the audit committee, regulatory agencies, shareholders, and external parties such as investors or creditors. The reports provide an independent opinion on the organization's compliance with external requirements and may be required for regulatory or contractual purposes. |
Frequency
Internal Audit Internal compliance audits are conducted periodically or as needed based on the organization's risk assessment, internal audit plan, and regulatory requirements. They may occur more frequently than external audits and are often ongoing processes within the organization. | External Audit External compliance audits are typically conducted on an annual basis or as required by regulatory agencies, contractual obligations, or stakeholders. They are usually scheduled at specific intervals and may occur less frequently than internal audits. |
Common Compliance Audits for Government Contractors
Government contractors may undergo various types of compliance audits to ensure adherence to regulatory requirements, contractual obligations, and industry standards. Some common types of compliance audits for government contractors include:
Pre-Award Compliance Audits: Conducted before the award of a government contract, these audits assess a contractor's compliance with pre-qualification requirements, such as certifications, registrations, past performance evaluations, financial capabilities, and organizational suitability. They ensure that contractors meet the minimum eligibility criteria to bid on government contracts.
Post-Award Compliance Audits: Conducted after the award of a government contract, these audits assess a contractor's compliance with the terms, conditions, and requirements specified in the contract, as well as applicable laws, regulations, and industry standards. They verify that contractors are performing in accordance with contractual obligations, including deliverables, performance standards, reporting requirements, and invoicing procedures.
Financial Compliance Audits: These audits focus on verifying the accuracy, reliability, and compliance of financial transactions, records, and reporting practices. They assess contractors' compliance with accounting principles, cost accounting standards, billing practices, overhead rates, indirect cost allocations, and other financial requirements specified in government contracts and regulations.
Labor Compliance Audits: These audits assess contractors' compliance with labor laws and regulations, such as the Davis-Bacon Act, Service Contract Act, Fair Labor Standards Act (FLSA), and Equal Employment Opportunity (EEO) requirements. They verify compliance with wage rates, fringe benefits, overtime pay, prevailing wage determinations, labor classifications, and other labor-related provisions in government contracts.
Ethics and Integrity Audits: These audits evaluate contractors' adherence to ethical standards, integrity principles, and conflict-of-interest policies. They assess compliance with government ethics rules, gift and gratuity policies, lobbying restrictions, anti-corruption laws, and organizational codes of conduct to prevent fraud, waste, abuse, and unethical behavior.
Data Security and IT Compliance Audits: These audits assess contractors' compliance with data security and information technology (IT) requirements specified in government contracts, regulations, and industry standards. They verify compliance with data protection laws, cybersecurity standards, IT security controls, data handling procedures, and safeguarding of sensitive government information.
Quality Management Audits: These audits evaluate contractors' compliance with quality management systems, standards, and processes specified in government contracts and regulations. They assess adherence to quality assurance requirements, product and service specifications, performance metrics, inspection procedures, and corrective action processes to ensure product and service quality.
Subcontractor Compliance Audits: These audits assess subcontractors' compliance with contractual requirements and applicable laws, regulations, and industry standards. They verify that subcontractors meet the same compliance standards as prime contractors and fulfill their obligations under subcontract agreements, including performance, reporting, invoicing, and regulatory compliance.
Environmental Compliance Audits: These audits assess contractors' compliance with environmental laws, regulations, and requirements specified in government contracts, permits, and environmental management plans. They verify compliance with environmental impact assessments, pollution prevention measures, waste management practices, and hazardous material handling requirements.
Security Clearance and Facility Security Audits: These audits assess contractors' compliance with security clearance requirements and facility security measures specified in government contracts, regulations, and security clearance guidelines. They verify compliance with personnel security clearance procedures, access control measures, classified information handling protocols, and facility security plans.
What Should You Expect During an External Audit?
During an external compliance audit, an independent auditor or audit team from outside the organization examines the organization's adherence to applicable laws, regulations, standards, and contractual requirements. Here's what typically happens during an external compliance audit:
Audit Planning: The external auditor initiates the audit by defining the scope, objectives, and methodology. They review relevant regulations, standards, contracts, and organizational policies to understand the compliance requirements.
Entrance Meeting: The audit process usually begins with an entrance meeting between the external auditor(s) and key personnel from the audited organization. During this meeting, the auditor outlines the audit scope, objectives, timeline, and expectations. They may also request documentation and access to relevant records.
Document Review: The auditor examines various documents, including policies, procedures, contracts, financial records, reports, and other relevant documentation. They verify that the organization's practices align with regulatory requirements and contractual obligations.
Interviews and Observations: The auditor conducts interviews with personnel across different levels and functions within the organization to gather information about processes, controls, and compliance practices. They may also observe operations and activities to assess compliance in action.
Testing and Analysis: The auditor performs testing procedures to evaluate the effectiveness of internal controls and verify compliance with applicable regulations and standards. This may involve substantive testing, analytical procedures, and sampling techniques.
Findings Identification: The auditor identifies instances of non-compliance, control deficiencies, and areas for improvement based on the audit findings. They document their observations, including the nature and extent of non-compliance, root causes, and potential impact on the organization.
Reporting: The auditor prepares an audit report summarizing the findings, conclusions, and recommendations of the external compliance audit. The report is usually shared with management, the audit committee, and other relevant stakeholders. It provides insights into the organization's compliance status and areas requiring corrective action or improvement.
Management Response and Action Plans: Upon receiving the audit report, management within the audited organization typically provides a response outlining their acknowledgment of the findings and proposed action plans to address identified issues. This response is often included in the final audit report.
Follow-up and Monitoring: The external auditor may follow up with the organization to monitor the implementation of corrective actions and remediation plans. They ensure that the organization takes appropriate measures to address identified issues and enhance compliance processes.
Closure and Certification: Once the audit findings have been addressed satisfactorily, the external auditor may issue a certification or assurance statement confirming the organization's compliance with the relevant requirements. This certification provides assurance to stakeholders and may be required for regulatory or contractual purposes.
Overall, an external compliance audit provides an independent assessment of an organization's compliance with external requirements and helps identify opportunities for enhancing compliance processes and controls.
Outsourced Audit Support
Compliance auditing, both internal and external, is essential for government contractors to adhere to the regulations within their contracts, maintain financial accountability, mitigate risk, increase oversight and accountability, and maintain good standing with government agencies. The government’s strict regulations serve to protect their interests, but also help to identify organizations that they want to do business with. To navigate the benefits and pitfalls of compliance it is paramount that you have a thorough understanding of what is required and how to maintain compliance.
At CRI our outsourced business management services take certain administrative and back office functions out of your hands to both improve accountability and allow you to focus on forward facing goals. Our team has never failed an audit with our clients and has 30+ years of experience working with, understanding, and complying with government agencies and regulations. Feel free to take a deeper look into our compliance services and coverage or contact us to get answers to specific questions or inquire about support for your organization.