Final answer:
An internal auditor should report to the Board of Directors for the greatest degree of independence. This enables objective and unbiased monitoring of the company's operations, distinct from the influence of daily management. Lehman Brothers serves as an example of the failure in corporate governance when such independence is not maintained.
Step-by-step explanation:
To provide for the greatest degree of independence in performing internal auditing functions, an internal auditor should report to the Board of Directors. This recommendation is based on principles of corporate governance and the hierarchical structure that ensures independence and objectivity. The board of directors is the body responsible for the oversight of the management team, and by placing the internal auditor’s reporting line directly to them, it minimizes any potential conflict of interest and maintains the independence of the audit function.
Reporting to the CFO, CEO, or COO could compromise the auditor's perceived and actual independence, as these executives are often directly involved in the day-to-day operations of the organization. It’s important for the internal auditor to be perceived as independent from management, so that their findings and recommendations are seen as objective and unbiased. Hence, the board of directors is the most appropriate choice for internal auditors to report to.
Case Study: Corporate Governance Failure
In the case of Lehman Brothers, corporate governance mechanisms failed to provide accurate financial information, underscoring the vital importance of independent auditing functions. The internal audit role is crucial in providing checks and balances within an organization, and in serving as a part of the broader governance ecosystem that also includes external auditors and large shareholders.