Fears over proposed revamp of audit standards misplaced: NFRA
Sep 18, 2024
Synopsis
The National Financial Reporting Authority (NFRA) has dismissed concerns that revamping domestic audit standards to align with global norms will negatively impact small and mid-sized audit firms. NFRA clarified that the new rules will only affect a small percentage of companies, ensuring minimal disruption while enhancing trust in financial reporting.
The National Financial Reporting Authority (NFRA) has termed as “misplaced” fears of a proposed revamp of the domestic audit standard in sync with global norms adversely affecting small and mid-sized audit firms in India.
In a note on its draft norms to overhaul the extant Standard on Auditing (SA) 600, NFRA said the audit of more than 98% of the active companies in India won’t be impacted by the new rules.
NFRA formally released the draft standard on Tuesday and sought public comments on it by October 30.
ET was the first to report on August 28 that the Institute of Chartered Accountants of India (ICAI) had raised its concerns over the NFRA draft norms that propose to make the principal auditor of a corporate group responsible for the entire group's financial statements.
This, ICAI had reckoned, would give adequate power to the principal auditors—often belonging to large accounting firms—to influence the company management and get the component auditors, who were mainly from small and mid-sized ones, replaced with their own people, leading to a concentration of audit work with a few big firms.
Component auditors usually conduct the audit of subsidiaries of a corporate group.
The NFRA note, however, said: “This (audit work concentration) is not an observed phenomenon and this line of thought undermines the right of the shareholders to appoint auditors or the role of the Audit Committees in the appointment of the auditors, as provided in Companies Act.”
‘No audit work concentration’
The NFRA note says the new audit standard will apply to only listed companies, banks and insurers, barring the state-run ones, whose number stands at 7,850. These companies are currently audited by about 2,500-3,000 accounting firms, only 60-70 of which are big and most of the remaining firms are sole proprietorships or small ones.
Even after including the subsidiaries and joint ventures of the listed and unlisted companies that are under NFRA’s purview (except for the state-run ones), the number stands at 24,469, the regulator said, citing the CMIE data. This is just about 1.5% of the 1.746 million active companies in India that are required to be audited, NFRA said.
Even going by the National Stock Exchange database, only about 1.8% of active companies will likely be subject to the new standard, it added.
These data should “put to rest any apprehension of audit concentration”, the NFRA note said, without naming ICAI.
Since its roll-out in 2002, the domestic audit standard hasn’t been upgraded in accordance with the revamped International Standard on Auditing (ISA) 600.
“The primary reason for proposing the adoption of a revised standard for group audits is to help safeguard public interest and investor protection, and the need for a standards framework that is robust enough to meet the challenges posed by complex financial systems today.” The note said.
ET had earlier reported that NFRA believed that the revamp was a must to prevent corporate frauds by fostering greater accountability among auditors responsible for the financial statements of companies, based on which millions of retail investors and others put their money in stock markets.
The country has about 158 million demat account holders and their number is growing at about 24% a year. Also, there were 191 million mutual funds investors as of end-June.
Vishesh C Chandiok, chief executive of Grant Thornton Bharat, said, “We do believe that this (revamp) proposal will work towards bringing in global best practices in group audits with clarity in the role of principal auditor, enhanced transparency in component reporting and essentially enhancing trust in financial reporting."
For its part, ICAI’s Central Council deliberated on issues around NFRA’s draft audit standard on Tuesday.
Assessment of competence
As per the draft norms floated by NFRA, the principal auditors would be mandated to assess the professional competence of component auditors. ICAI had opposed any such proposal, arguing that all these auditors are members of the same professional body—ICAI--having the same education, training and licensing requirements.
The NFRA note, however, said: “Competence and capability encompass not just being a CA, but relevant experience, understanding and adhering to quality control framework, ethical considerations, amongst other competencies.”
Moreover, while the CA qualification remains an eligibility condition for being appointed an auditor, even regulators, such as the RBI, Sebi and IRDAI, and the Comptroller and Auditor General provide for additional criteria--including sector experience, specific skills sets and number of audit partners and their experience--for the empanelment of auditors by them, the note said.
Lessons from big corporate frauds
NFRA’s move to revamp the audit standard also follows its probe into various corporate scandals—from IL&FS, DHFL and Reliance Capital to Coffee Day Enterprises—where principal auditors and component auditors often sought to blame one another for the frauds, the note indicates.
The regulator’s orders relating to group audits of these fraud-hit companies show “an improper application of SA 600, wherein a mechanical reliance was placed by the principal auditor on the work of the other auditor without assessing the special circumstances that required additional audit procedures”, the note said.
The alleged fraud at Reliance Capital, Reliance Home Finance and Reliance Commercial Finance amounted to Rs 29,000 crore. The scandal at DHFL involved Rs 34,000 crore and at Coffee Day Global Rs 3,500 crore. IL&FS collapsed with a debt of about Rs 90,000 crore.
[The Economic Times]
