Letter from... South Africa

Kirsty Laschinger reports on new legislation which should increase public confidence in the auditing profession

The recent trial of Kenneth Lay and Jeffrey Skilling served as a less-than-gentle reminder of the excesses of the late 1990s that culminated in corporate scandals like Enron, Adelphia, WorldCom and Parmalat. While Arthur Andersen has since been cleared of wrong-doing, the perception remains that the auditing profession has not done enough to protect investors from corporate crooks, mainly because auditors are not sufficiently independent of those who ultimately pay their salaries.

South Africa’s Auditing Profession Act, effective 1 April 2006, goes some way to addressing many of these concerns by shifting from a self-regulating to a shared regulating framework in order to increase public confidence in auditors.

The Act institutes a new regulatory body, the Independent Regulatory Board for Auditors (IRBA). Kariem Hoosain, CEO of the IRBA, says the Act gives the body increased powers to oversee the profession, with greater independence from the profession. This independence will be instituted through making sure that no more than 40% of the IRBA’s members are registered auditors. The funding model has not been finalised, but Hoosain hopes that the Government will contribute at least half the board’s budget.

In addition, the Act covers a number of aspects of auditor practice and conduct including discipline, ethics, reportable irregularities and the accreditation of professional bodies and qualifications.

Cathryn Emslie, a partner at Deloitte, believes the Act’s drive for independence is positive and mirrors international trends. She points out that this will aid reciprocity for inspections with international auditing bodies.

The Act requires the IRBA to attain such reciprocity. Hoosain says that it will, ultimately, reduce the costs of legislative compliance for South African companies as it will allow international bodies to recognise South African-audited information.

To bolster auditors’ independence credentials, parallel amendments to the Companies Act in South Africa will also legislate for audit partner rotation every five years. Emslie believes that rotation will make auditors more independent, although she cautions that there are some logistics restrictions. “Partner rotation, as opposed to firm rotation, allows firms to have knowledge, especially about large clients, and this has got to improve the quality of the audit.”

The IRBA will now register both individual auditors and firms, a step that will allow it to discipline firms for infractions. In the past, only the auditors involved have been disciplined. In addition, each firm involved in public interest work will be reviewed at least once in every three years by the IRBA.

However, the Act has also attracted criticism, especially for its stringent criminal sanctions. Not only can auditors now go to jail for infringements, which may be due to negligence or oversight rather than criminal intent, but firms may be held liable too. As an auditor, Emslie describes this as “nerve-wracking”. She hopes that the courts will rule in accordance with the spirit of the law.

Hoosain points out that improved regulation comes at a cost, although he hopes that the Government will subsidise some of the IRBA’s budget to help it retain independence. It is likely to cost companies more in audit fees. Emslie notes that auditors are assuming more risk in operating under the Act’s stricter regime - and increased risk demands higher remuneration. At this stage it is difficult to quantify just how much audit costs will increase. However, Emslie points out that the provisions of the new Act will improve the quality of reporting - and this should have benefits for public confidence and financial markets. “The problem,” she says, “is that these benefits are not always easy to measure.”

Whether the effect of the Act is a net cost or net benefit remains to be seen, but Emslie hopes it is the latter.

Kirsty Laschinger is a freelance writer for a number of South African publications and is a chartered financial analyst.