Believe it or not, with every breaking news with respect to fraud/misappropriation/or untenable and unreasonable demands of different government authorities, the most affected and harassed person, now a days, is the auditor or the auditing firm who or which has carried out the audit of that organization. Auditor and the Audit once revered and respected are today viewed with suspicion. Even the unconcerned retired professionals have also come to reminisce about the past completed professional assignments giving them goose bumps/sleepness nights. Future being full of uncertainties, today’s auditor is like an army man who joins the army full of zest and aplomb, but who is not in the know of his.
In the recent past, it has been reported with frightening regularity, events that have made the auditors get shock treatments. The Enron controversy has resulted in wiping out the name of biggest audit firm from the auditors dictionary, the Barings bank (going under in Singapore) stock scams in India (The Big Bull Story/The KPeffect), Dot Com ‘Busts’ world over, Bankruptcy’s of ‘US’ Housing Loan companies and Lehman Brothers, recent Citibank scam in India, and our own ‘SATYAM SAGA’ have revealed tumultuous situation raising simultaneously a question “whether and to what extent reliance can be placed on audited accounts”. Can anyone visualize the impact such events would have had on the reported Earnings/statements of affairs, had these been discovered/or have come to light timely. These events can be broadly categorized as under:
(i) Willful misappropriation and/stakeholders or hiding of the information by the management even from the auditors.
(ii) Willful misappropriation or hiding of the information by the management in collusion with the auditor.
(iii) Skillful falsification of books/records by management so as to mislead the stake holders.
(iv) Systemic failure to detect misdeeds of an employee and/ or of employees both by the management and the auditors.
(v) Untenable, unreasonable demands raised by different authorities to meet, alibi temporarily, the targets set by their seniors.
With the electronic era in vogue, not only commission of frauds, producing/creating evidence to support the fraud/but also hiding it, has become easier to the computer savvy management/managerial personnel.
Ø An audit and the result thereof, is dependent upon, besides the skill of the auditor, the evidence produced and the reliance placed upon such evidence by the auditors. An auditor is not a detective. Unless there are reasons to believe that there is something amiss, the auditor relies on such evidence produced. It is, if the management decides willfully, not easy to detect and decipher/ distinguish the genuineness of the evidence so produced. Effectiveness of an audit is therefore dependent upon the effectiveness of the evidence made available. If the evidence is created it will be difficult for the auditor to question the veracity of the transactions in question. Evidence may be improper or defective. An improper / defective evidence helps in detection of a mistake. However, if such evidence happens to be a created evidence, it will be extremely difficult to detect the underlying fraud/misappropriation.
Ø A genuine mistake/error invariably leaves some trail behind. However, where it is a deliberate one, even the audit trail is so deliberately smudged to avoid detection. The original concept of an auditor not being a bloodhound is no longer applicable in today’s creative times. The auditor relies upon information and explanations furnished to him which he believes is necessary for the purpose of his audit. If the management chooses to furnish, duly substantiated with created evidence, an explanation knowing full well it is concocted, it is difficult for an auditor not to accept it. The evidences can be in the nature of third party, confirmations, bank’s confirmation etc.
Ø There may be instances where due to the over zealousness of the management personnel frauds may be committed with full knowledge of the auditors, these may be related to showing super profits or window dressing the financial statements with a view to securing benefits from the bankers/ creditors and the like. Instances have come to light where, for the purpose of availing benefits under tax laws, assets have been shown to have been required without actually acquiring the same. This has happened in quite a few leasing and finance companies, which have availed 100% depreciation.
Ø In the earlier days, frauds/misappropriations generally were committed by the employees where they noticed some loophole. Frauds by managements were a rare phenomenon. Today frauds by management and of the employees are mounting/hurting the stakeholders and the auditors alike. Meticulous planning goes into commission of such frauds. Skillful employees may be exploiting the gaps in procedures, bypassing the hurdles and committing the frauds which are difficult to detect/ or which may come to light after several years.
Ø Management frauds may also take the shape of diversion of funds to their own sister concerns either directly or indirectly causing a loss to the company knowingly and willfully. To cover the tracks, the books of accounts, related documents/ vouchers may be skillfully falsified, so that detection becomes impossible. Employees in charge of the finance section and at the helm of the affairs may also adopt the same tactics, if not supervised effectively by the board or by the CEOs / Chairman of companies.
There is need to overhaul the business laws in such a way that no room is left for interpretations being made in a way most favorable to the user. It is a common practice to interpret a law in the most favorable way to have no or less impact on the organizational results. This legitimate practice leads to huge demands at a later stage or at the assessment stage due to divergence of opinion between the management and the authorities concerned. The matter takes considerable time for resolution. In the meanwhile the authorities may coerce the organization into paying a portion of the hefty demand. Such types of demands play havoc with the organization’s financial health. In the process there is loss of confidence on the management and its auditors. Laws need to be simple and drawn in manners which have least or no possibilities of multiple interpretations.
Ø Given the above issues and the complexity of today’s business environment and the significant amounts transacted on a daily basis. How can an auditor ensure that the tests applied by him and the procedures followed are sufficient to insulate him from the imminent danger. The auditor has to ensure that the evidence in his possession, collected during the course of audit, points towards his having been diligent as any man of average intelligence would have been under the given set of circumstances.
To lessen the chances of mistakes being committed and to bring more efficiency in our working we can think of taking some steps listed as under:-
- Audit working papers are of immense help if something goes wrong at a later stage. Emphasis must be laid on storage and creation of quality audit working papers. It is not mandatory to maintain records in physical form. These may be kept in soft form to make best use of present day limited office space as well as make retrieval of records easy and quick. The review of audit by seniors should also be made more meaningful/efficient and effective to ensure that the laid down procedures have been followed by the staff and officials of the audit firm, if errors and frauds are committed, the procedures laid down should be adequate to discover the same.
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Present day organizational operation have become so complicated due to adoption of latest software, technologies and frequent changes in the law besides quick growth of business due to takeovers, mergers etc., it is of immense importance to keep oneself updated with the changes taking place. Keeping in view the size of majority of our audit firms and operations in
- Audit staff must be well educated about the accounting software the client is using and the types of reports which can be created. Knowledge about operation of software is not as important as the knowledge about the various reports particular software is capable of generating. This knowledge will be helpful in verifying all sorts of transactions/accounts/reconciliations etc.
- Analytical reviews which used to be very difficult in the past can now be carried out efficiently and easily with the help of ERP software. An auditor must verify the reasons for the variations, while comparing current year figures with the previous years. Customized auditing guidelines may have to be documented for every client enabling auditing staff to have necessary idea about the clients accounting and the area requiring special attention during the audit. It will be appreciated if the document provides guidelines about the process to be adopted for conducting audit depending on the nature of clients business.
- Continuous up gradation of knowledge through sharing and discussions, attending seminars and training should be made part of the office routine. Quality service not only will minimize mistakes but also ensure efficiently the required assignment.
The above discussion is not an exhaustive but is just a beginning to understand the need in adopting good auditing practices to ensure our professional safety in a world where the instances of corruption are on the rise.
Note : The original article Auditor’s Horrible Nights was released sometimes back on this website and due to unexpected response my guru and a very senior and reputed chartered accountant Mr. K A BALASUBRAMANIAN took pains to revise the said article to make it more meaningful and useful to our professional colleagues . I hope you will appreciate the efforts taken by Mr. K A Balasunramanian and will enjoy reading the article in renewed form.
CA. K A BALASUBRAMANIAN
&
DILIP K RAINA –Chartered Accountant
B.Com; FCA (ICAI); PGDFM; PGDCA; DBM; Cert. IFRS (ICAEW); NCFM Capital Market (Dealers Module); Microsoft Certified IT Professional: Application for Microsoft Dynamics NAV (ERP) & AXAPTA (ERP).
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