Can auditors save their integrity?

In the wake of scandals affecting the accounting and auditing profession, is the auditor’s integrity slowly being eroded?

Auditors are expected to exercise independence during the performance of their work. Independent auditors were described by author David Flint as “completely objective”, “unprejudiced by previous involvement in the subject of audit”, “uncompromised by vested interest in the outcome or its consequences”, and “unbiased and uninfluenced by considerations extraneous to the matter at issue”.

Given what has happened in the accounting and auditing profession in South Africa over the past nine months or so, one must wonder whether the integrity of auditors is still intact.

It makes someone doubt if the auditors involved have exercised independence in the execution of their work – the case at hand is that of auditors who performed their work at Linkway Trading, the SA Revenue Service (Sars) and VBS Mutual Bank.

It is worth mentioning that scandals in the accounting and auditing professions do occur in other countries.

A series of events that resulted in the bankruptcy of the US’s energy, commodities and services company Enron Corporation and the dissolution of Arthur Andersen LLP, which was one of the largest auditing and accounting companies, made headlines all over the world.

The collapse of Enron, which held more than $60 billion in assets in the 2000s, generated much debate as well as legislation designed to improve accounting standards and practices, with long-lasting repercussions in the financial world.

It is alleged that the company’s executives falsified financial records to conceal its real level of debt by putting $8.5 billion of group liabilities into a special purpose vehicle, which accounts were not consolidated with those of the company.

The group became bankrupt and audit firm Arthur Andersen went out of business as a result of obstructing justice by, among other things, shredding documents relating to the audit.

The scandal resulted in a wave of new regulations and legislation designed to increase the accuracy of financial reporting for public-traded companies in the US.

The most important of those measures, the Sarbanes-Oxley Act (2002), imposed harsh penalties for destroying, altering or fabricating financial records. The act also prohibited auditing firms from doing any concurrent consulting business for the same clients.

Turning back to South Africa, the independence of auditors was in the spotlight after a leaked email revealed that a partner at auditing firm KPMG had attended the Gupta family wedding held at Sun City during 2013. It is alleged that, at the time, they were auditing companies owned by the Gupta family.

What caused an outcry is a revelation that Linkway Trading, which is one of the Gupta-owned companies that KPMG was auditing, received funds from the state, which were supposed to go to farmers in the Free State. KPMG allegedly signed off R30 million of state money to pay for the Gupta wedding and allowed Linkway to treat the wedding expenses as business expenses, which helped the company to avoid paying R8.5 million in tax.

This revelation prompted an internal investigation by KPMG International, which led to the dismissal of eight senior executives from KPMG’s division in South Africa.

It raised concerns about auditor independence, which led the Independent Regulatory Board for Auditors to institute mandatory audit firm rotation – a move criticised by the Chief Financial Officers Forum, among other bodies. This regulation will compel listed companies to change audit firms every 10 years.

Sars appointed KPMG to conduct a forensic investigation following allegations that the intelligence unit that was formed by one of the former commissioners in about 2006 spied on the activities of the National Prosecuting Authority.

It was further alleged that KPMG was influenced by a legal firm representing Sars to incorporate certain findings in their report, and KPMG agreed to incorporate the recommendations.

A letter that is alleged to have been written by Sars’ legal firm was leaked to the media.

These reports led to KPMG International conducting an investigation into various allegations raised with respect to KPMG South Africa’s work on behalf of the Gupta family and work performed for Sars.

KPMG International had this to reveal about the investigation: “KPMG International has conducted a comprehensive investigation. While the investigation did not identify any evidence of illegal behaviour or corruption by KPMG partners or staff, this investigation did find work that fell considerably short of KPMG’s standards.

“Based on the results of this investigation, significant actions have been taken and are being announced … with respect to KPMG South Africa. These actions include a series of leadership changes, changes in the governance of KPMG South Africa, and enhanced quality control procedures in certain areas.”

With regard to the report on the investigation conducted by KPMG South Africa for Sars, KPMG International instructed that the part of the report that refers to conclusions, recommendations and legal opinions should not be relied on.

It was further reported that KPMG South Africa had contacted Sars and offered to repay the R23 million fee received for the extensive work performed, or to make a donation for the same amount to charity.

It could then be argued that the repayment of fees received from Sars was an admission by the firm that it had provided mediocre services that resulted in a mediocre audit report being produced.

All the findings in the audit report should be supported by evidence. However, in this case, it would appear that the firm incorporated inferences from a legal firm in their audit report and this affected the credibility of their report.

With regard to the firm’s work at VBS Mutual Bank, it was widely reported in the media that two KPMG partners responsible for auditing VBS had not disclosed the full extent of their financial interests in relation to the embattled bank, which was placed under curatorship.

Nhlamu Dlomu, KPMG’s CEO, confirmed at a press briefing that these two individuals were responsible for signing off the bank’s financials.

These revelations led to the two individuals resigning ahead of disciplinary charges being laid against them.

Recently, I attended the annual general meeting (AGM) of an organisation that I am also a member of. One of the items that had to be dealt with was the approval of the annual financial statements.

The treasurer of the organisation made a presentation on the finances of the organisation and, because the financials had to be presented to the AGM, he explained that they did not cover the full financial period, as three days of the income was not covered as the members make direct deposits. He further explained that the auditors of the annual financial statements gave their assurance that the three-day period would not result in any significant difference to the reported income. It was suggested that the AGM should adopt the annual financial statements with a provision that annual financial statements covering the full period would be emailed to all the members.

One of the members opposed that motion, suggesting that the assurance of auditors could not be trusted as the profession was engulfed by numerous scandals. The meeting resolved not to adopt the annual financial statements, but rather to do so in the next AGM.

Under the circumstances, it may be concluded that, in the wake of scandals affecting the accounting and audit profession, the integrity of auditors is slowly being eroded.

- Kwaza is the internal audit general manager at the Amathole District Municipality, Eastern Cape. He writes in his personal capacity