Of the many provisions in the new Companies Act intended at tightening lax corporate governance standards, those relating to the auditing profession are possibly the most significant. Recently notified rules under the Act have made it mandatory for companies — both listed and unlisted — to rotate their auditor once every five years and the audit firm once in ten years. The idea here is to ensure that the auditor’s objectivity is not compromised by a cosy relationship with the client. Auditors have been barred from taking on consulting or other assignments from their clients and will attract personal liabilities for negligence; at the same time, they will be vested with a whistle-blower function. Thus, in the event of detecting any irregularities committed in the company, they are obliged to report the same within 45 days to its board and within 60 days to the Central government. Besides, the Act has proposed a new regulatory body — the National Financial Reporting Authority (NFRA) — to oversee these rules, conduct enquiries and levy penalties on auditors for non-compliance.

Predictably, leading audit firms have criticised the new rules. Mandatory rotation, they claim, will dilute the quality of the audit, as there will be less time now to understand the company or the industry it is in. But this doesn’t hold water as 10 years is more than sufficient to acquire industry knowledge. The argument against subjecting unlisted firms to compulsory auditor rotation is also a non-starter. After all, it is not only public shareholders, but also banks, suppliers, buyers and tax authorities that rely on a company’s published financials. Even more specious is the claim that banning consulting assignments and penalties for negligence will make statutory audits a costly and unattractive proposition. What stops auditors from hiking their fees? Investors who rely on the opinion of auditors will certainly not object to that.

For investors, lenders and other stakeholders, the real problem arises from the failure of auditors to flag serious accounting issues. All too often, when faced with non-disclosure of material facts, bad accounting policies or non-adherence to standards, auditors shy away from qualifying their reports and take shelter under ‘emphasis of matter’ clauses or ‘notes’ tucked away in the accounts. These render published accounts unreliable. There are nearly 1,700 listed companies suspended from trading for not complying with basic disclosure requirements such as filing financial results. Companies routinely vanish from the bourses as a result of promoters siphoning off funds. These are common infractions that rigorous auditing can uncover. The Centre should expedite taking the next step, that of constituting the NFRA. Many elaborately drafted Indian laws fail to make a difference because they are not followed through, especially by framing the required rules. The auditor-related provisions in the new Companies Act should not suffer from this.

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