Regulators. Auditing the auditors: A case of too many cooks?

Who has the last say on the oversight of auditors? The CA Institute, one would think. But that may not be the case. It appears that there are overlaps among authorities — such as the Institute of Chartered Accountants (ICAI), the National Financial Reporting Authority (NFRA), and the Ministry for Corporate Affairs (MCA), the Reserve Bank of India (RBI) and the Securities and Exchange Board of India (SEBI) — when it comes to appointment, supervision and regulation of auditors. A case of too many cooks spoiling the broth?

There is a section that believes that this is inevitable as each authority is responsible for a specific category of supervision, but there is another which believes that maybe auditors need a super regulator. There is definitely a case for a unified authority or approach so that there is no confusion among the public and less anxiety among auditors who are being regulated. To some extent it was this that had led to the constitution of the NFRA in October 2018.

When the NFRA was set up, there was a need felt across various jurisdictions in the world, in the wake of accounting scams, to establish regulators, independent from those they regulate, for enforcement of auditing standards and ensuring the quality of audits to strengthen the independence of audit firms, quality of audits and, therefore, enhance investor and public confidence in financial disclosures of companies.

“I do agree that there are too many regulators and these are a result of knee-jerk reactions. As and when some incident happens we try finding fault with regulator, and end up setting up a new regulator,” Ved Jain, Past President ICAI, says.

“The MCA administers the Companies Act including the provisions relating to financial reporting and auditing. The NFRA has disciplinary jurisdiction over the auditors of what may be called public interest entities. The ICAI regulates the rest of the CAs. The NFRA and the ICAI have no powers to prosecute. The MCA has powers to prosecute auditors under Section 147 of the Act. One way is to designate the NFRA as the authority to exercise those powers under Section 458 of the Act. I believe this will happen over time as the NFRA builds capacity and acquires experience in dealing with auditors and companies,” says R Narayanaswamy, Professor of Finance and Accounting at Indian Institute of Management, Bangalore..

But Jain feels that the ICAI was the best regulator in case of any adverse event happening. “Instead of putting a new regulator we should try to address the concerns with the existing regulator,” he said adding “What happens if another instance similar to Satyam or Nirav Modi takes place. Should we say then, ‘NFRA has failed… Let us have another regulator’? One needs to make a distinction between systemic failures and a human failure.”

Jain may have a point here. But, then, somewhere the accountability has to be fixed.

When talking about the NFRA, the late Finance Minister Arun Jaitley was quoted as saying, “The NFRA is not intended to replace the disciplinary jurisdiction of the ICAI. Bulk of the cases will continue to be under the procedure of the ICAI. The jurisdiction of the NFRA for investigation of chartered accountants and their firms would, in the first instance, extend to listed companies and large unlisted companies.”

In March 2018, the Union Cabinet had approved the proposal for establishment of the NFRA. The official statement then said, “The decision aims at establishment of NFRA as an independent regulator for the auditing profession which is one of the key changes brought in by the Companies Act, 2013. The inclusion of the provision in the Act was on the specific recommendations of the Standing Committee on Finance (in its 21st report).”

NFRA’s jurisdiction

The jurisdiction of the NFRA for investigation of CAs and their firms under Section 132 of the Act would extend to listed companies and large unlisted public companies, it had said, adding that the Central Government can also refer such other entities for investigation where public interest would be involved.

“The inherent regulatory role of the ICAI as provided for in the Chartered Accountants Act, 1949 shall continue in respect of its members in general and specifically with respect to audits pertaining to private limited companies, and public unlisted companies below the threshold limit to be notified in the rules,” the statement had said adding that the ICAI shall continue to play its advisory role with respect to accounting and auditing standards and policies by making its recommendations to the NFRA.

“Remember that an auditor is neither an insurer nor a guarantor. An auditor is an assurer. This assurance is given by auditor applying prescribed assurance standards. The ICAI, though autonomous, is a statutory body created by the government under an Act of Parliament. The Ministry of Corporates Affairs oversees its functioning. It has also eight government representative in its Governing Council. Therefore instead of having another regulator, more confidence should be reposed in it,” Jain says adding that “If some corrective measures are considered appropriate gaining from experience, it can be implemented in the ICAI rather than having another body. The NFRA is not going to guarantee that there will be no mishap in the future.”

But there is a perception that the audit profession’s self-regulatory body has been soft on members indulging in misconduct.

So, should there be a system where the issues around audit regulation and overlaps are sorted out at the Financial Stability and Development Council (FSDC) where the various regulators are members?

According to Narayanaswamy, “The FSDC is a coordination forum for financial sector and capital market regulators. It is meant to ensure that things don’t fall through the cracks and resolve jurisdictional disputes among the regulators. Auditing spans all industries. It’s better to have one agency that administers matters relating to auditing. That has to be NFRA. That said, the RBI, SEBI, IRDAI, and PFRDA, among others, have powers to take action against a variety of persons including auditors of entities regulated by them under the laws that govern them.”

“The NFRA needs considerable financial, technical, technological and human resources and ideally a separate legal framework to be able to fulfil its mandate as an independent and autonomous regulator,” he added.

Even as the debate continues and in any corporate misdoing, the finger invariably points to the auditors, there is a need to redefine the roles of the professional institutes. But, if the NFRA is indeed the answer, then strengthen it and help it evolve into an independent regulator with some teeth. Sooner this is done, it is better.

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