Institutional EYE

Commentary on Corporate Governance Issues

The aftermath of Satyam

January 12, 2018

Nine years after the shenanigans in Satyam Computer Services Ltd (Satyam) came to light, SEBI has found Price Waterhouse (PwC) and its network firms guilty. This is one of the most stringent orders passed by any regulator against a Big Four auditor and might appear salutary, but all the players – Satyam itself, PwC, regulators and even companies other than Satyam, have muddled through this saga.

 

Nine years after the shenanigans in Satyam Computer Services Ltd (Satyam) came to light, SEBI in its order has found Price Waterhouse (PwC) and its network firms guilty. The firm and its network entities have been barred them from issuing audit certificates to any listed company and SEBI registered enities in India for two years. Two partners working on the audit have been docked.

 

This is one of the most stringent orders passed by any regulator against a Big Four auditor and might appear salutary, but all the players – Satyam itself, PwC, regulators and even companies other than Satyam, have muddled through this saga.

 

Satyam

Satyam as an entity no longer exists – it was acquired by and subsequently merged with Tech Mahindra Ltd.  The process followed, permitting an orderly transfer of its ownership and then running as a stand-alone entity before being merged with its new owner, is playbook worth emulating.

 

PwC

Nine years after the shenanigans at Satyam came to light, SEBI in its order has found PwC guilty and has barred the network and its entities from issuing audit certificates to any listed company in India for two years. SEBI has also ordered PwC and its two erstwhile partners who worked on the IT company’s accounts to pay Rs. 130.9 mn, along with interest at 12% per annum from January 2009 on account of wrongful gains.

 

As the SEBI order has repeatedly stressed, leave all else, the firm was even unable to verify if the money was in the bank. It failed in doing its job.

 

Since the scam broke, PwC has strengthened its processes, stepped up training of its staff, provided pushback on aggressive interpretations and shed audits of companies with questional antecedents.

 

But even as it was doing all this, it has spent the last decade fighting the regulators in court regarding its failure to spot  a crime its perpetrator had admitted to committing.

 

Corporate India

The Companies Act 2013 mandates rotation of individual auditors every five years and of the audit firm after a maximum period of ten years i.e. (after two terms of five years each) for listed companies. A cooling-off period of five years is required, to be considered eligible for re-appointment.

 

In the light of the SEBI order banning PwC, there are 49 companies(out of the 701 companies we track) that appointed/reappointed PwC as their auditor in FY17 AGM or the five-year tenure of PwC is yet to be completed.

 

Given that companies have just signed off on auditor rotation, these companies can be said to be guilty of reading the regulators mind and suo moto assuming that only a soft penalty will be imposed on the auditor. It never pays to second guess the regulator.

 

These companies will now scramble to appoint a new auditors for FY19 – all along maintaing that they are the victims.

 

PwC will no doubt be appealing against the order and in the words of their chairman’s missive to their clients, “expect a positive outcome.” But in the absence of this, PwC’s clients are left cleaning up.

 

PwC will either resign. Under the provisions of Section 140 (2) of the Companies Act 2013 this will lead to a casual vacancy in the office of an auditor which shall be filled by Board of Directors within 30 days and then approved by shareholders in an extraordinary general meeting within 3 months from passing Board resolution. Such auditor shall hold office till the conclusion of next AGM.

 

If case PwC do not resign on their own, the company will have to remove them as auditors under section 140 (1) as they have been disqualified from being appointed as the auditors under section 141 (3). The board shall first pass resolution for removal and within 30 days the company shall apply to the Central Government for approval. The company then must pass a special resolution to remove the auditor within 60 days from the date of receipt of approval by Central Government. Removal of auditor by special resolution will be considered as special business for section-102.

 

Whether the new firms get appointed for two years, the remainder PwC term or five years will now be debated.

 

Regulators

PwC is allowed to audit the books in FY18, but not in FY19 and FY20.

Investors will want to know that if PwC is competent to audit in FY18, then why can they not do so in FY19 and FY20? If SEBI is not convinced about the checks and balances that PwC now has in place, then they should not be allowed to audit the books of accounts in FY18. In this sense the order contradicts itself.

 

Other issues

There are other subtexts too. Some real others imagined. One that this is a reaction to PwC paying a fine in the US, but getting away in India and so Indian regulators needed to step up their game. Two, that SEBI is using this to establish jurisdiction over auditors in listed companies. This finds mention in the Kotak Committee and Satyam no-doubt is a good case to begin (- clealy imagined). Three, Chartered Accountants (Amendments) Act, 2006 spells out the quantum of fines that can be imposed on auditors by its Disciplinary Committee.  Even as the government is proposing to set up the National Financial Reporting Authority, constituted under section 132 of Companies Act, 2013, to strenghten the audit practice, the maximum fine proposed is a paltry Rs. 10 lacs or upto ten times the fees received. This needs rethinking: penalties needed to be increased substantially.  In the absence of this change, action will not be punitive, and the best we can hope for is a wobbly fix. Four, the debate on the role, responsibilty, and liabilty of the partners, the  partnership, the audit firm and the audit network will continue. Five PwC has its tentacles extedeing to all parts of the market. For instance it too is investigating the NSE CoLo case. This will need to be repackaged.

 

Given the above, one can safely say that the optimum outcome would have been if the fines were punitive. Allowing, stopping and the permitting PwC from signing of accounts is disruptive for companies and craetes uncertainities for investors. The time since the scandal broke should have been used to negotiate the level of penalty. If the Institutue of Chartered Accountants was not on board, the consent mechanism should have been used to negotiate exemplary fines.  The companies should not have second guessed the regulators and having misread them, must unfortunately be prepared to pay the price for doing so. Given that PwC is not complicit the frm should have pressed aggresively for a plea bargain. It should have played with a straight bat and not appealed and dragged this matters in court. Only the manner in which Satyam was wound-up is a lesson worth preserving.

 

A modified version of the above  appeared in Business Stanard on 12 January 2018. Link

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