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Punish the errant, not the innocent: Why a blanket ban on top audit firms won’t help

Punish the errant, not the innocent: Why a blanket ban on top audit firms won’t help

Punish the errant, not the innocent: Why a blanket ban on top audit firms won’t help
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By Sonal Sachdev  Jun 12, 2019 6:55:27 AM IST (Updated)

If the audit firm is punished and not the individual, the unethical professional could very well jump ship and go back to her / his old ways without any penance. Blanket bans on top audit firms would cause unnecessary disruption and perhaps open the doors for even less ethical professionals to fill the void, writes Sonal Sachdev.

There is no room for leniency towards auditors who collude with managements to present an incorrect picture of a company’s financial health to its stakeholders. The importance of finances made public cannot be overstated, as these are relied upon by lenders, creditors and investors for making important business and investment decisions. So, if an auditor knowingly permits falsehoods to be spread, it is unforgivable and must attract severe punishment.

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This said, the profession is a very individual-centric one, quite like that of a medical practitioner or a lawyer. The way an audit is conducted and managed would largely be driven by the honesty and ethical code of the partner leading the assignment and his team. It is therefore possible for highly ethical, less ethical and unethical audit professionals to co-exist in a large firm, though governed by some overarching organisational principles and processes. In fact, it is not uncommon to find facts hitherto unknown being revealed when the team conducting a company’s audit, from the same firm, changes.
Then again, there are two extremes of the roles auditors can play. While at the one end, one must appreciate how much an auditor can be held accountable for, given that they can only evaluate whether entries are accurately made and that these are backed by proper documentation and corroborated by statements by banks and other third-parties, at the other, many chartered accountants are known to support their clients through creative accounting practices — including buying and selling entries from other companies to paint a prettier picture.
You could liken this to the co-existence of Dr Jeckyll and Mr Hyde. But unlike in that famous piece of fiction, when it comes to auditors, Dr Jekyll and Mr Hyde are not the same person and therefore each can be treated differently, or punished and rewarded as the case may be.
Given this, going after large audit firms as a whole may not be the best way to fix the crisis of confidence in the audit profession and the malaise of management-auditor nexus. A better approach may be to mete out strong punishment to those involved specifically in cases of wrongdoing within an audit firm, accompanied by perhaps some action against the audit firm like disgorgement of all earnings from the client in question.
The approach should be to punish the errant, not the innocent. If the audit firm is punished and not the individual, the unethical professional could very well jump ship and go back to her / his old ways without any penance.
What’s more, blanket bans on top audit firms would cause unnecessary disruption and perhaps open the doors for even less ethical professionals to fill the void. To give you a quick sense, there are a total of 158 companies, which are part of the BSE-500 index and audited by BSR & Co or Deloitte Haskins & Sells—both audit firms that the Ministry of Corporate Affairs is seeking to ban, following lapses in the accounts of IL&FS Financial Services, a company whose books they audited.
Such disruption and auditor shuffling is hardly warranted. Rather, a rotation of audit teams from a firm even within the auditor rotation cycle could be instituted to keep both audit tam members and managements on their toes. This along with strong deterrents against audit malpractices should do the trick.
Short point: don’t punish Peter for the faults of Paul.
Read Sonal Sachdev's columns here
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