Question

Lapses in the auditing mechanism will result in a financial crisis. In light of the recent corporate crisis in India, discuss the reform measures needed in corporate auditing

Answer 1

Approach:

• Explain the concept of auditing and its importance for the financial stability.
• Mention few Indian corporate crises due to the lapses in auditing.
• Mention about the regulation mechanism for auditing professionals.
• Suggest measures to reduce the auditing lapses.
• Make appropriate conclusion.

Auditing and Financial Stability:
Auditing is the systematic examination of the financial transactions of corporates and reporting of any irregularities in the financial sphere. It gives a clear data about the financial position of the companies to the shareholders.

Audit lapses and Indian corporate crisis:
Auditors are the watchdogs of the financial integrity in the corporate world. But when there are lapses in the auditing functions it will definitely leads to financial crisis of the company. This will have a negative impact on the economy of the nation. In recent times the Satyam Scam was due to the auditing lapses as the auditors failed to do their duty correctly and honestly. It was one of the major irregularities in the booming Indian IT sector.

The present Infrastructure Leasing and Financial Services (ILFS) crisis is also the result of the lapses in the auditing mechanism. These economic crisis are very big such that they impact the macro-economic parameters of the economy.

Regulation of auditing profession:
The auditing profession is regulated by the Institute of Chartered Accountants of India (ICAI). The ICAI is a statutory body functioning under the Ministry of Corporate Affairs. Recently the National Financial Reporting Authority was notified which take away the role of the ICAI in regulating the auditors of listed companies, large unlisted companies besides the Banking and Insurance companies. The main functions of the NFRA are

• Make recommendations to the Central Government on the formulation and laying down of accounting and auditing policies and standards for adoption by companies or class of companies or their auditors.
• Monitor and enforce compliance with accounting standards and auditing standards in such manner as may be prescribed.
• Oversee the quality of service of the professions associated with ensuring compliance with such standards, and suggest measures required for improvement in quality of service and such other related matters as may be prescribed.

Measures to reduce the audit lapses:
The auditing mechanism has to be fool proof inorder to maintain investor confidence in the economy. It is not the issue of India only, the audit scams are widespread all over the world. Some of the measures to reduce the lapses are:

• Breaking the monopoly of big auditing firms and creating healthy competition.
• Mandatory joint auditing mechanisms.
• Inclusion of ethics in the audit exams.
• Stringent punitive actions for the violators.
• Strengthening National Financial Reporting Authority for effective the regulatory framework.

Conclusion:
Thus the auditors should help to expose the financial irregularities in corporates and strengthen the investors’ confidence on the economy. From past experience the monopoly of the auditing by few auditing firms was the reason for the irregularities as they are associated with the scams. Hence a healthy competition among the auditing firms along with effective regulation will help to reduce these kind of scams in future.