Reliable Audit Reports Sine Qua Non For Financial Sector: RBI Governor Shaktikanta Das

Reliable audit reports for financial firms are sine qua non to ensure stability of the sector and, in turn, the broader economy, according to Reserve Bank of India Governor Shaktikanta Das.

The role of the audit profession is critical in ensuring that the regulator understands the true health of the financial sector and can act appropriately, he said in a speech at the National Academy of Audit and Accounts.

Das' comments come soon after the RBI barred chartered accounting firm Haribhakti & Co. from taking up any type of audit assignments for entities regulated by it for two years. The first-of-its-kind action followed the audit firm's failure to comply with the regulator's directions. Earlier in the year, the RBI had tightened rules for statutory auditors, which shortened the tenure of auditors of banks. The RBI also prescribe joint audits for large financial institutions.

The independence of auditors and role of ethics in the audit profession is critical, said Das. A fair and impartial audit helps instill confidence in stakeholders, he added.

In his speech, Das stressed that statutory auditors have a responsibility to report directly to the regulator if they see any concerns emerging at financial entities regulated by it. The RBI's supervision focuses on audit quality related to identification of gaps, assessment of asset quality and innovative accounting practices, if any, which could have an impact on the capital base of regulated entities.

Das flagged concerns related to non-bank lenders, which are now required to follow the Indian Accounting Standards or Ind-AS.

Under these rules, NBFCs use an 'expected credit loss' methodology to determine the extent of provisions required to be set aside against doubtful assets.

Das said while this provides greater flexibility to NBFCs, it can pose a 'model' risk, that is, the model may not reflect a realistic scenario. This has been observed in several cases, he said.

Auditors must challenge the management's assumptions and verify the model, he stressed.

Another specific concern Das highlighted was related-party transactions. In the last few years, investigations into stressed banks and non-banks have thrown up several instances of related-party lending, which allowed for diversion of funds.

Auditors need to scrutinise this related-party lending, Das said. Several cases, according to him, have been found where the true nature of financial transactions is camouflaged under layers of IT solutions.

Auditors need to be technologically savvy to understand the real nature of transactions, Das said.

Since the RBI relies on work done by audit professionals, they are being sensitised to improve quality and depth of audit, he said.