The De-trop phase of the Financial Sector
Which one is better to compromise- Loss or Laws?
There is always an element of thrill in breaking the laws and enforcement regulations to benefit our clients. In the professional’s lingo, this is a part of italic_client relationship management_italic. In any professional service there is a trade-off between client satisfaction and regulation compliance
In a fast growing economy such as India, where we have the global BIG 4 (Deloitte, KPMG, E&Y, PWC) auditing firms in action, analysis is a lot more interesting. Boasting of a huge client base and an equal number of allegations against them, the BIG 4 are still ruling the financial services market in their own style with a thick skin to all legal criticism. But the biggest worry is that, the BIG 4 are slowly loosing government confidence and investor faith due to their bad track record in the recent past.
Markets took a big hit a decade ago, when the Satyam Scam surfaced. It marked a black ink on PWC, the statutory auditor of Satyam Computers. Consequently, Securities Exchange Board of India (SEBI) slapped a 2 year ban on PWC from auditing listed companies in January 2018. Recently, E&Y was also caught in a gloomy space. Due to its irregularities in statutory bank audit functions, RBI imposed a 1 year ban on E&Y from bank audits. The IL&FS crisis has confirmed that the other 2 BIG4 are not any better. The debt obligation default IL&FS and corresponding mismanagement by its statutory auditors has indicated clear signs of corporate fraud. As a result of which the government is seeking a 5 year ban on its auditors.
A scrutiny into the IL&FS case with professional skepticism leads us to a few of the many issues that crippled the financing giant and the markets along with it.
According to Sec 144 of the Companies Act, 2013, an auditor is not supposed to render certain services. These include consultancy, management advisory services among others. It was found from investigations that Deloitte, the previous auditor of IL&FS did provide consultancy and internal accounting service to IL&FS.
The statutory have also failed to perform analytical procedures (SA 520) and obtain external confirmations (SA 505) which are a part of their standards. The auditor is also responsible to obtain reasonable assurance that the financial statements are free from material misstatements, which they have clearly failed to do, indicating that there is detection risk exists. Source and application of funds was not much studied and as well not disclosed. There was also instances of teaming and lading of funds and advances.
All of which were undisclosed. Despite of running such questionable operations, nothing was reported by the auditors. The auditor should have modified his audit opinion according to SA 705, indicating the operations and the financial statements are not free from material misstatements.
When none of this happened, it is fairly reasonable on our part to conclude that the statutory auditors have also been a party to the fraud instead of disclosing it. This puts their credibility into question and brings to light the white collared crime existing in the space of financial services sector.
This unsolicited phase of Indian markets could be a big game changer if the demand shifts towards new and young audit and accounting firms. This opportunity can help them grow big time in an industry that is shadowed by big players. This change in the dynamics of financial service industry can help reshape the paralyzed sector which is in a severe need of a harbinger of hope.