JOHANNESBURG – The claim of expertise by auditing firms is becoming difficult to believe, given the recent developments around the handling of the Gupta, Steinhoff and VBS Mutual Bank books.
The blatant disregard in which the firms were exposed presupposed a skating on thin ice which could pose a systemic risk to South Africa’s capital markets.
Credible audits are a cornerstone of fostering confidence in capital and financial markets – more so in a country where corruption thrives.
It is therefore not unreasonable to expect corporate audits to provide investors with a reassurance that all is good with their outlay.
However, this is made more difficult by the now known unexpected corporate collapses, fraud and failures.
Why then should we trust their signing off on books and that their opinions are worth the paper they are written on?
Shouldn’t we demand a second layer of reassurance?
Just last week Tongaat Hulett investors found themselves holding their breath after the company notified shareholders that its past financial statements may not have presented an accurate picture of its performance.
The notice sent the shares plunging nearly 30percent as the agriculture and agri-processing group said the ongoing strategic and financial review of the company contained revealed certain practices that would require further examination and which, if verified, might require remedial action, including assessing the impact on its previously reported financial information.
Corporate thuggery is nothing new. It is as old as the rise of capitalism itself. But when such a practice intertwines with audit failure, whether by design or by incompetence, investors are left at their own mercy.
The World Economic Forum’s Competitiveness Index Report for 2017/18 said the quality of auditing and reporting standards in South Africa fell from a lofty position to number 30.
In theory, auditors are appointed independently by its shareholders, to whom they ought to report.
However, in practice, auditors are picked by the company’s bosses, to whom they all too often become beholden.
The big four accounting firms Deloitte, PricewaterhouseCoopers, Ernst & Young, and KPMG are by far a keystone of global commerce. Investors inherently depend on their opinion to determine whether their nest is safe.
The ruin of Enron and General Electric should have seen a significant shift and change in how auditors go about their business.
This has not been the case.
More failures have followed, with nearly all of the big four firms implicated.
Below par audits of Lehman Brothers, which anchored the 2008 global financial crisis, points to the universal risks posed to the financial system when auditors abdicate their role to critically assess audit evidence.
Lehman Brothers was given a clean bill of health by Ernst & Young. Weeks later, Lehman Brothers collapsed.
In his book, The Big Four: The Curious Past and Perilous Future of the Global Accounting Monopoly, scholar Ian Gow and award-winning author Stuart Kells warn that the tide is turning against the big accounting firms.
“A disaster scenario for the Big Four is that clients will come to view audits as a generic commodity, a necessary evil that generates no benefit. That scenario has already arrived, and regulators are more and more ready to do something about it,” the two write.
“The firms have been accused of short-termism in trading off integrity and quality against profitability. Sooner or later, though, the short-term ends, the drive for cash at the expense of standards cannot be sustainable.”
It is easy to see why some auditors turn a blind eye to corporate malfeasance.
The relationships between companies and accounting firms are bedevilled by perverse incentives and conflicts of interest.
Auditing firms habitually sell consulting services to clients. They may also be hired to senior management positions or take roles of internal auditors.
Why then are we taken aback when the quality of audit suffers?
The entire auditing industry needs to undertake a deep self-introspection and to stop washing its hands of failures that take place on their watch.
They should not use mandatory firm rotation as a panacea for their shortcomings.
Companies’ audit committees need to provide full disclosure of the basis of their choice of auditors.
Investors can only be served well if auditing firms embrace recommendations of the Association of Chartered Certified Accountants, which argues that their work should be enhanced to take on areas such as risk management, corporate governance and testing of the assumptions underlying companies’ business models.
If not, the world will see the collapse of more companies, because of shoddy work by audit firms, and this would continue to undermine the stability of the international financial markets.