'Our job is not to certify that there's no fraud'

'Our job is not to certify that there's no fraud'

Dennis M. Nally, Global Chairman, PricewaterhouseCoopers, speaks to Puja Mehra on improving audit practices.

Dennis M. Nally
Dennis M. Nally

Last fortnight, Dennis M. Nally, Global Chairman, PricewaterhouseCoopers, was on his maiden visit to India since being elected, evidently not in the best of circumstances. Investigations are on against two of the firm’s Hyderabad-based partners who gave unqualified audits to Satyam before its promoter B. Ramalinga Raju confessed to a gross overstatement of profits.

But the $1.4-billion fraud isn’t the only storm rocking the world of audit. The financial crisis in the US and Europe, followed by the Madoff scandal, has generated much heat. While less forthcoming on Satyam, Nally spoke to Puja Mehra on improving audit practices. Excerpts:

Is it more difficult for an auditor to do its job well in India?
We’ve been through a very challenging seven years. First Enron, then WorldCom. Lot of regulatory changes came out of that, most notably Sarbanes-Oxley. There continues to be a lot of debate around what changes really need to be put in place to deal with the financial crisis that we’ve just been through, regardless of what part of the world you’re in.

Satyam was compliant with these post-Enron regulations. Have changes in regulations not kept pace?
It gets back to what is the purpose of rules and regulations—what is the role of the auditor and what is the expectation from the auditor. Many times there is an expectation from the investor community that the auditor is in fact fully responsible for the detection of fraud. Now that is not our job, today.

Whose responsibility is it to detect fraud today?
There’s a lot of mechanisms put in place to deal with the preparation of fair financial statements. It starts with good governance from the Board of Directors, the CEO, CFO and the management.

But it must make the auditor uncomfortable to express an unqualified confidence in a financial statement of a company and see that company’s promoter confess within months to an accounting jugglery…
Our job is to assess the environment that the company is operating in, its governance practices and internal controls. From that we make judgments to express an opinion on the fairness of its financial statements. If our job was described as to provide a 100 per cent assurance that there have been no material mistakes and no frauds have been committed, that would require audit firms to significantly increase the amount of work we do today and have much more forensic and different types of auditing.

Is verifying the existence of bank deposits (as in the case of Satyam) not elementary? Is it part of a forensic auditing?
Based on facts audit professionals exercise their judgment as to what procedures should be utilised in a given circumstance.

How do you feel about two PwC partners, one of whom was already being investigated in another case of a professional lapse, pretty much sleeping through Satyam?
Obviously, whenever a situation like this takes place, we regret what has happened and we are trying to understand exactly what transpired there. But we are not commenting specifically on a client matter. We have an investigation going on. We’re cooperating 100 per cent.

What do you want to tell investors in other companies that your partners in India are auditing?
We believe this is an isolated situation. We have new leaders of our assurance and risk and quality practice. We have formed an outside advisory council of individuals that are advising us on how we’re doing and what we can do better. We’re learning from that and that is the key: what can you learn from a situation like this so that you can mitigate this type of situation taking place in future.

Is it isolated? Just about every major fraud that came into light in last few years around the globe has had PwC as one of the auditors—in Japan, Satyam, feeder funds of Madoff…
With due respect, I think that is a total mis-characterisation.

Are you saying it is a coincidence?
I would offer to suggest that maybe there are a lot of frauds that our work does detect that never get publicised.

If a promoter does decide to perpetrate a fraud, how difficult is it for an auditor to detect it?
As has been demonstrated, when there is a significant effort at the top of an organisation to falsify financial statements it could be very difficult for an auditor to detect that.

Is it sound practice for the Institute of Chartered Accountants, a body comprising members elected from the profession, to also be the regulator?
In the post Sarbanes-Oxley world, independent organisations have been formed to provide the oversight and regulations of the auditing profession. We will encourage as a best practice having a group of individuals that are not a part of the profession whose job is to protect the investing public and to help strengthen the world of auditors.

Your predecessor (Samuel A. DiPiazza, Jr, see interview, BT, March 23, 2008) who was in India a few months back, talked of PwC being a victim of Satyam as much as anyone else. Is PwC a victim?
I think what Sam was referring to as being misled was the fact that even the auditor is duped into a process. (Being) a victim means the knowledge we had at that stage was no different than that many others had.

An auditor is surely in a better position than anyone else…
As we all know, when there is a desire at the top of organisation to commit a massive fraud, individuals in the organisation that have participated in the fraud can do a lot of different things to keep it away from individuals, including auditor firms, the Board of Directors and the analyst community.

PwC’s ratio of audit to non-audit services is 33 per cent. Doesn’t that construct—that goes for all the Big Four—a conflict of interest?
Certainly, there are services where there is an inherent conflict. On the other hand, there are other services that are beneficial to a company and help in the audit process.

In India, promoter groups, being major shareholders, appoint auditors. Would it be better if stock exchanges set up a body for appointing auditors to put a distance between promoter and auditor?
The real issue is: who is the group that is providing good governance over both parties? The promoter group, minority shareholders and the Board of Directors represent the interest of all shareholders—and not just of one versus the other.