Speak Nothing but the Truth...

Being in the audit profession for close to four decades, I felt I would fail in my duty if I remain a mute spectator on the ongoing events involving auditors.  I therefore choose to speak up – not so much to find faults, but to pave a way for the future.

Recently auditors have been going through a rough patch, some deserving and some not so deserving.  Clearly, in some cases, auditors chose to look the other way, and are being held responsible by the regulators and the society at large.  Any watch dog, could see through what was happening in some of these companies.  Therefore, the suggestion that auditors should now become bloodhounds that bark and bite, is misplaced and sets wrong expectations of the auditors.  A regressive approach can slow down business, and can be extremely harmful in the long run.  Whether auditors should become more careful and responsible?  Yes, of course – they should have always been.

In other cases, holding the auditors responsible is unwarranted. There are expectation gaps about the auditors’ role.  Additionally, business failures are being wrongly identified as felony and audit failures.  Even procedural lapses or non-compliance with laws have been blown beyond proportion and given a criminal twist.  Evergreening or round tripping to cloud a non-performing debt going bad are not always apparent, despite best audit efforts.  Evergreening involves numerous other entities, over which auditors do not have access and it is difficult to detect.

At a meeting with a regulator, I had strongly opposed the idea of auditor having to sign a certificate on the extent of pledge of the promoters holding in a listed entity.  Given the numerous structures available to pledge the shares, if any one knows the true extent of the pledge, it is the promoter alone.  Would it be fair to ask the auditors to sign a certificate on the percentage of promoters’ pledge?  Fortunately, the regulator did accept my view.  Don’t avoid the regulators, be engaged with them.

Of all things, auditors are being made responsible for business and management decisions (e.g. granting a loan to a subsidiary).  This is absurd.  An auditor’s report is on the fairness of the financial statements, and whether the impact of managements decisions and transactions are properly reflected in financial statements.   If the loan became impaired, and management did not make a provision in the financial statements, auditors responsibility is to qualify the audit report.  Auditors cannot tell the management, the board, the audit committee and the shareholders of a company, how they should carry out their business.  Is it fair to have such unrealistic expectation from the auditors?  By all means, haul the auditors if the funds were siphoned off and auditors did not report on the same, though the siphoning was quite visible.

The recent spate of audit failures should not be seen from the prism of big or small accounting firms, and projecting big firms as the origin of all evils.  The 10 trillion NPAs in the Indian banking system was audited by many small and big audit firms.  Vested interests are confusing the issue and providing wrong suggestions.

One suggestion that is doing the round is to ban audit firms.  This is a wrong idea and akin to throwing the baby with the bath water.  Would it be fair to punish thousands of employees for the mistakes of a few?  Punish – but only the senior members of the engagement team if they are responsible and others who forced them do the wrong things.

The primary responsibility for the fairness of financial statements is that of the management, the board of directors, and audit committee members.  Particularly audit committee members, should accept their responsibility and not treat the financial statements as belonging to the auditors.  Guys wake up and smell the coffee please. 

I asked my driver once, why he broke a traffic signal and his response was ‘there was no camera or policeman to watch him break that signal’.  Needless to say, fear of regulators and regulation is desirable.  However, the trick is to strike a balance by regulating pro-actively rather than reactively and regressively.  Excessive and regressive regulations will slow down business and increase rent-seekers.  Regulators should hire staff, who understand the businesses, are progressive and better qualified and are willing to help those that are honest and weed those out, who continue to remain egregious.  Regulators should continuously reach out to the business, and understand and solve problems, rather than wait for them to accumulate beyond a point where it becomes difficult to resolve.

There are six quadrants to corporate governance - company management, company board, credit rating agencies, auditors, regulators and major investor/other significant fund providers.  Just focussing on audit failure is really digressing from the main issue and providing disproportionate interest to the auditors.  Regulators should provide equal importance to each of these quadrants.

Most big evils plaguing the economy are fairly well known to the regulators.  The existence of NPAs in the financial sector was common knowledge.  Is it fair for regulators to have turned a blind eye, all these years, and then make the auditor a scapegoat?

There are enough regulations in the country – whether with respect to auditors’ independence or the punitive measures for negligence.  There is no need for a host of new legislations or measures – which may end up being counter-intuitive.  We just need to implement our laws well and in good time.  More legislation is not a panacea for sloppy implementation of the existing laws.

Too many cooks spoil the broth. Likewise, there are too many regulators, yet there is no effective implementation of the law.  This needs to be looked into immediately.

Companies fail for a host of reasons - greedy promoters, bad government policies, insensitive bureaucrats, corrupt politicians, slow judiciary, bad economic conditions, business decisions taken in good faith but which did not work, mis-management and so on.  India is complex and many situations can be very convoluted. There are wheels within wheels. For many auditors the lesson is well learnt.  Auditors signing financial statements should take all due precautions.  If they are greedy or negligent, they can’t complain about the consequences.

Auditors should accept their clients carefully.  When you hang out in the wrong places, with the wrong people, you will soon do the wrong things.   The core fundamental question for auditors is whether auditing should be carried out like a business or like a noble profession.  Focussing on excessive and unreasonable growth is bound to land one in trouble.  if you drive a car for the last so many hours at 200 kms an hour, do you think you will not meet with an accident?

Ethics cannot be taught – they should be cultivated at a very young age.  Parents and teachers should teach children the importance of doing things the right way.  Finally, for auditors, the quote from Martin Luther King is most apt – “The time is always right to do what is right”.