Nene urges ‘good men and women’ to step forward and fix auditing industry
Chance for reform as industry rebuilds after state capture crisis
● Finance Minister Nhlanhla Nene has weighed in on the calamitous state of auditing in South Africa, calling for the industry to “cleanse itself” to avoid further damage to the livelihoods of those who are innocent of any misdemeanour. This comes as another two clients said on Friday they were reassessing their relationships with KPMG.
Nene will meet with auditor-general Kimi Makwetu in the next two weeks, to ask for an explanation for axing audit firms KPMG and Nkonki Inc and what further action his office will be taking.
Nkonki Inc has since applied for voluntary liquidation, while KPMG’s future has become uncertain after Barclays Africa, a major client, signalled intentions to cut ties.
“The only way the profession in my view can cleanse itself is for the good men and women to stand firm and do what is right. It’s going to take a bit of time for them to clean up their name. The audit profession has taken a beating.”
Nene said it was unfortunate that when firms go down they take innocent employees with them.
Although he will meet with Makwetu, Nene has no authority over his office and cannot reverse the axing of the two firms.
Makwetu has already received a thumbs up from parliament. On Friday the chairperson of the standing committee on the auditor-general, Vincent Smith, said the fact that Barclays Africa had also dumped KPMG strengthened Makwetu’s case.
“The standing committees on public accounts and on the auditor-general feel that what he did was proper because his reputation is the only thing that an auditor has.”
Addressing the two committees Makwetu said that he would gather all the audit firms contracted in the public sector next month to decide how to proceed in the face of the industry’s challenges.
“It is an industry problem. The industry is in tatters because of the lack of trust between those who are audited and auditors,” Smith said.
On Friday mining firm Sibanye-Stillwater told shareholders it would vote on the future of its contract at its annual general meeting at month-end. Redefine Properties intends to terminate its KPMG contract in November.
Barclays Africa’s intention to fire KPMG this week may be the final straw. The bank’s audits were estimated to generate around R138-million in annual fees.
KMPG spokesperson Nqubeko Sibiya would not disclose what percentage of audit revenues was derived from the Barclays Africa account. The 250 staffers who were dedicated to the account — about 7% of its entire staff — would be redeployed, he said.
When asked about the number of clients the firm had lost since last year, when it was rocked by scandal related to state capture, Sibiya said he was not going to provide running commentary on the state of KPMG’s client list. “We have engaged intensively with our clients and [they] have a good understanding of the firm’s position and status of our reforms.”
Barclays Africa joins a number of smaller former clients, including AVI, Sygnia Asset Management, Wits University and Telkom, to have canned KPMG’s services.
At a briefing late last month, KPMG CEO Nhlamu Dlomu said the firm had lost less than 10% of its clients since late last year.
KPMG’s local woes join a growing list of crises that face the global auditing firm, which is one of the big four and has become the subject of multiple investigations.
In the US, advisory group Glass Lewis called for companies to dump KPMG and questioned its role in auditing certain embattled companies. One of these is Wells Fargo, which is accused of opening 3.5 million fake accounts, charging 57 000 clients for car insurance they did not need and charging unfair mortgage fees.
In the UK, the Financial Reporting Council is looking into the preparation of reports and other financial information between 2014-17 at Carillion plc after the collapse of the construction firm, which was audited by KPMG. The council is also investigating KPMG’s conduct in its audits of Rolls Royce firms.
“The question is whether KPMG is too big to fail. But you only have to look back a little while at the Enron scandal to see that sometimes these issues can result in what we would call, in the risk management industry, a catastrophic risk. A lost reputation can spread like an epidemic,” said Tara O’Connor, executive director of Africa Risk Consulting in London.
The Enron scandal sank auditor Arthur Andersen, formerly one of the big five firms, in the US in the early 2000s in a matter of days. The auditor’s South African operation was absorbed by KPMG South Africa.
Though banks globally rely on the big four to handle large and complex audits, the disappearance of one would not pose an insurmountable challenge, said Kokkie Kooyman, a portfolio manager at Denker Capital specialising in international banks. “Most of the [big four] teams that focus on banks are fairly stretched. But if all the banks ditched KPMG its teams would be taken on by other firms.”
● The South African auditing profession dare not let the crisis that has rocked it go to waste, says Bernard Agulhas, CEO of the Independent Regulatory Board for Auditors.
“It’s an opportunity for us to take a hard look at the ethics of the profession and see if we can get it back to where it was.”
Auditors need to refocus on what a goodquality audit, independence and service to the client should mean, he says.
“We need to get ourselves back to having the reputation we used to have.”
Until last year the South African auditing profession was ranked No 1 in the world by the World Economic Forum for its reporting and auditing standards. Now it is No 30.
“Auditors become complacent. Any profession needs to go through a crisis so that it can refocus its attention on where it should be.”
He says the current crisis has highlighted the need for mandatory audit rotation to ensure that audit firms are properly independent from the companies they audit.
He believes the crisis clearly demonstrates that this is not the case.
Against strong opposition from the “big four” audit firms the IRBA has ruled that there must be mandatory rotation of auditors every 10 years from 2023.
Agulhas believes that the lack of mandatory rotation has contributed to the crisis of public trust in the profession.
The problem is not incompetence or ignorance about what a good-quality audit entails, he says.
Although one hears them arguing otherwise, auditors have an obligation to ensure that financial statements are a true reflection of the affairs of a company.
They’re not merely required to report on the figures supplied to them by the company management.
“I think they’re fully aware that they shouldn’t just be reporting on information given to them, and that they need to be more sceptical and proactive.”
The fact that they’re not is why the board introduced mandatory audit firm rotation, he says.
“Clearly, if you are associated with a client for 100 years your scepticism decreases. The objective is to get auditors to question their clients.
“They are fully aware they have to challenge and interrogate every piece of information that is given to them by their client.”
It’s not about auditing standards being too low, he says. High-quality audits are about audit behaviour, and this goes beyond mere compliance.
He chairs an international committee looking at the behavioural competencies of auditors. It was started because of the lack of scepticism, independence and ethics in the profession, which are all behavioural issues, he says.
The crisis is about auditors behaving in certain ways. They became too close to their clients, didn’t question them and didn’t look at their own independence.
“Steinhoff is a clear example of the issues we’ve identified playing out in the market. We’re not saying that was the reason for the Steinhoff failure, but clearly if you look back at the relationships, those are the kinds of things we warned about.”
Auditors need to be critical and have
Auditors become complacent. Any profession needs to go through a crisis so it can refocus its attention on where it should be
questioning minds, but audit committees do too. “The audit committee must pick up on the kinds of issues we see causing big companies to fail. That is why the audit committee is there. They have to question the auditors and question the directors.”
Experience shows that they don’t do this with the necessary vigour if they’re too cosy with each other.
The crisis also highlights the need for separate audit and consulting firms, he says.
“You don’t now have audit firms generating 80% of their income from audits and 20% from consulting, as previously. It’s the other way round.
“Clearly, if you have most of your capacity focused on other services the chances are you’ll neglect the audit quality. We’ve seen so many audit failures recently, and the quality of audits has declined.”
As with mandatory audit firm rotation there is huge resistance to the idea of enforcing audit-only firms.
Agulhas says there is still a long process to be followed before separation becomes mandatory, but this is the intention.
“Certainly the concept is solid. There’s a lot of resistance so it might take some time. But clearly with the audit failures and crises we’ve had, we need to implement it as soon as possible. And we need audit firms to support us because that could restore confidence in their profession again.”
Agulhas says the sinking of black-owned audit firm Nkonki highlights the need for mandatory audit firm rotation.
Nkonki announced it was going to liquidate its Sunninghill operation after auditorgeneral Kimi Makwetu said it would no longer work for his office because it was implicated in state capture.
“Nkonki is in this situation because they’ve relied for around 80% of their income on the work from the AG,” he says.
This highlights the need to deal “decisively” with the fact that the big four still do around 95% of all private sector work.
An important reason for mandatory rotation was to address this. “If that had begun to play out in the market then black-owned firms would not be in this situation where they rely largely on one client,” he says.
In addition to affecting their independence, it makes them financially vulnerable and threatens their sustainability.
“So the issue of market concentration needs to be looked at again very seriously, because what has happened to Nkonki could happen to any firm that has 80% of its income coming from one client.”
This clearly has implications for transformation, he says. And although this is not part of the IRBA mandate, it cannot afford to ignore them.
This is also why it wants to enforce auditonly firms. “Aside from enhancing audit quality, the audit-only initiative we’re looking at is also to increase access of other firms into the market,” he says.