Business

Business

Relief welcome but concerns remain
Finance Minister K.N. Choksy's relief package announced last Sunday was certainly welcome news to a public that was becoming increasingly disgruntled over the burdens being heaped on them by a government that won power on the promise of making their lives easier and creating a bright future. The fuel price cuts should have a ripple effect across the entire economy and help to bring down the cost of living. Selling essential commodities like rice and milk food, and possibly bread, at reduced prices through state outlets is also welcome and should provide some relief to consumers as well as offering much-needed competition to the country's rapacious private traders and retailers.

These measures were obviously taken to ward off any social unrest that could have been triggered had the government not taken action to tackle the rising cost of living and reign in prices. It shows that we have a government that, at least to some extent, is responsive to the complaints of the public. Sheer survival instinct also probably played a part in the decision.

But two concerns emerge from the government's announcement. The first is how the government is going to find the money to support the relief package and bridge the shortfall in revenue that could arise. The government has not spelt out how it intends to raise the funds. Saying that it would be done with the money raised through privatisation is not convincing as the proceeds of privatisation - Rs. 21 billion is expected this year - had already been factored into the government's budget forecasts.

The second is whether the business community and retail traders, who have long mastered the art of exploiting a hard-pressed public, would pass on the benefit of these price cuts - or use them to increase their profit margins.

The government last week announced a crackdown on traders who sell essential items at unreasonable prices. The Internal Trade Department is said to have launched raids on unscrupulous traders throughout the island. It has warned that the licences of traders caught exploiting the consumer would be cancelled immediately.

On Tuesday, it conducted raids on five pharmacies in the Colombo South region. They were caught selling drugs above the controlled prices. In earlier raids it is said to have cancelled the licences of over 40 traders for selling consumer goods at unreasonable prices. It might be a good idea to find out how many of those traders who had their licenses cancelled have managed to either get the cancellations revoked or got fresh licences.

The crackdown on errant traders and businesses is all well and good. The objective is laudable. But the question is - will it work? Previous practice is not too encouraging. It is common knowledge that government actions to fight crime and to rein in errant traders usually end up as temporary measures. A case in point is the removal of pavement hawkers with much fanfare. It is not unusual to see them back after a few weeks.

In a country where consumer protection is rather weak and there has not been an established tradition of vigorous and forceful resistance by consumers, it is easy for businesses to get away with exploitation. The laws and rules that govern the sale of products and services are more often than not observed in the breach. One example is private buses - they still do not issue tickets despite numerous announcements, which usually accompany increases in bus fares that private bus operators would have to issue tickets if they are allowed to raise bus fares.

Another example is that of auto-rickshaws or three-wheelers that operate without meters. Their rates vary widely and are often as high as those charged by radio cabs.

It would be good if the actions against exploitative traders and businesses are well publicised. The public should be told who these traders are and how they have been punished. A policy of "naming and shaming" should be adopted since it could serve as an effective deterrent.

Hopefully, the proposed Consumer Affairs and Fair Trading Authority would have the teeth to actually carry out its mandate. Existing bodies either lack the power to take effective action against errant traders or lack the resources and the will to do so.

The business and trade chambers also have called for effective measures to monitor compliance with government efforts to bring down the cost of living. They themselves should see that their members comply with these initiatives and pass on the benefit of price cuts to consumers.

Accounting standards under the spotlight
What happened to Enron and WorldCom in the United States can happen anywhere in the world, says Ajith Ratnayake, director general of the watchdog outfit, the Sri Lanka Accounting and Auditing Standards Monitoring Board (SLAASMB). In the wake of these scandals that have weakened investor confidence in the system, the monitoring body would have to be more careful and watchful and try to prevent such things happening here, he said in an interview. Excerpts:

How would you say the role of auditors has changed in the light of the scandals such as Enron and WorldCom where the auditors themselves have been criticised for not being vigilant enough?
The audit is a necessary part of the process in giving assurance to companies as well as shareholders, investors and bankers. Without an audit one cannot have even that degree of assurance. An audit does not give an absolute level of assurance because there are limitations in the audit as well.
In the Enron case, at the moment it is difficult to say to what extent the auditors were at fault, to what extent they knew the financial statements were not showing a true and fair view and to what extent the auditors did not do their job in order to find out whether the company's accounts were correct. Even if the auditors were found negligent in Enron's case it does not mean that they are negligent in all cases.

One thing that Enron and WorldCom shows is that even if the auditors had done the work properly, and they could not find the problems at Enron - if they could not give the assurance that was required by the stakeholders then the auditors get into a difficult situation. The existence of Arthur Andersen is seriously in doubt. This shows that auditors have to take a more positive and proactive approach.

What happened in the United States can happen anywhere in the world. You can't say that it cannot happen in Sri Lanka. As a monitoring body we have to be careful and watchful and try to prevent such things happening here. So do the auditors.

Unfair practices
There is a widespread perception among the public and investors that there's a lot of "creative accounting" going on here, that some companies do not show true accounts in their books. Can you describe what the board's inquiries have revealed?
We have found situations where we feel that companies may have tried to show a view that is not the proper one - not give a true and fair view. Sometimes companies will try to show a better picture than that really exists. We have taken steps to ensure the companies correct the situation the following year in such cases.

Can you give some examples of creative accounting that the board has come across? What are the practices that investors should watch out for?
When there is a diminishing value of an investment and the diminishing value is not temporary then the standards require that the diminishing value be provided for in the financial statement. But we found some cases where that has not been done. Another practice - when it comes to preparation of consolidated accounts, sometimes people might avoid using equity-based accounting for associate companies (firms in which the firm has some stake and influence but not full control).

When you prepare consolidated accounts, you're supposed to account for an associate company's profit or loss on an equity basis - which means that the company's share of the profit or loss of the associate company should be reflected in its accounts. That's based on the shareholding. If you don't do it that way and the associate company is showing losses - then you will not show the loss in your accounts. So the company's position is not properly shown.

Sometimes there are cases we have found where certain types of assets were not depreciated and we had to get them to comply with that. Also there is another area of concern - we find sometimes people use very low, or unreasonably low, rates of depreciation.

Overall, how would you characterise the manner in which companies comply with the board's standards?
The percentage of significant deviations that were observed in 2000 was 17 percent. In 2001, it dropped to about nine percent of the financial statements that we have reviewed. Probably there is a greater awareness of the need to comply with standards. Also, the steps we have taken would probably have had an influence in the level of compliance.

Non-compliance
What action can the board take when it detects non-compliance?
We ask the companies to correct their accounts. We do a regular review of the financial statements that we get. If there are minor deviations we write to the company informing them of the deviations that were detected so that they can take corrective measures in preparing financial statements in the future.
That is not a direction issued by us but we expect the company to comply as a voluntary measure. If they don't comply we don't take strict action. This is called a Letter of Assistance that helps the company to improve its financial statements. Most of the companies that have received letters from us fall into that category - they have received letters of assistance.

Isn't that practice unfair by investors because it means for one whole year they might be taking investment decisions based on misleading financial statements?
Yes. In the future we might try to give that information earlier to the public.
If the deviation is significant and substantially influences the reader in his decisions then we ask them to come to an agreement to correct the financial statements in the next year's accounts. There have been four cases in the past year. We also can insist that they republish the same year's accounts. We have not done that so far. If there are very serious cases where they have been engaged in fraudulent practices and have not disclosed that in the financial statements then we have the powers to take them to court. And the courts have the powers to impose more serious penalties. We have not done that yet. In the cases we came across we didn't feel it necessary to go that far.

Isn't the board being rather lenient and aren't these actions somewhat tame when it comes to fighting this type of practice which amounts to white-collar crime? Shouldn't there be stiffer penalties?
Actually, stiffer penalties are available for enforcement. But I think we need to be careful in taking action against companies because it can disrupt business. We need to ensure that the normal business activities of the country go on smoothly. We should take action only when we feel the offence is serious enough. If we can get them to correct themselves, without taking that level of action, then I think we should go in that direction. But if there is a serious crime involved and people have been mislead into thinking that there is nothing wrong at all, then of course we need to take more stringent action.

There appears to be some difference in the way ordinary members of the public are treated when they break the law and the way companies are treated when they break the law. When members of the public break the law, they are either fined or jailed, whereas in the case of businesses, they are mainly advised to take corrective action. Isn't that unfair?
If that happens it is unfair. Actually we will not hesitate to take action where it is necessary. Supposing we feel there is action required - where there has been criminal negligence - then we will definitely take action.
Serious action

What is the most serious action the board can take?
We can take the company to courts and the courts have the powers to impose prison sentences.

Going to courts is a lengthy process. Is there any other action you can take to ensure better compliance and to deter such malpractices?
The board can give a direction either to correct the accounts the same year or the following year. The board can also compound an offence to a fine. Apart from that the board does not have any other powers other than the power to take the company to courts. And it is the courts that have the power to impose bigger penalties.

Has the board fined any companies?
No.

What sort of complaints do you get from the public?
Unfortunately, most of the complaints are not really related to significant violations of accounting standards. They are mostly cases where they have had a grudge against the company. A common complaint is where someone has a legal action against the company and that has not been shown as a contingent liability in the financial statements. Supposing somebody has a claim against a company and they have taken legal action to recover that claim, then there is a possibility of liability by that company.

That liability has not yet crystallised. So there is a contingent liability. Normally contingent liabilities have to be disclosed in the financial statements. If the contingent liability can be quantified the company is expected to quantify it as well. When people take legal action against a company and it is a big claim, the company normally makes a disclosure. Often the complaints we get are from these people that have taken legal action against the company, who want to see that there is more disclosure in the financial statements. In none of those cases have we taken action against the company because we found that the complaints themselves were frivolous.

Does that mean that the response from the public is inadequate?
Most members of the general public are not quite aware of the accounting standards and do not have a good enough understanding of the implications of deviations from the accounting standards. We have not found situations where they have correctly identified deviations that have had a significant influence on the picture shown in the financial statements.

How much do you rely on public complaints and how much on your own investigations?
At the moment we rely mostly on our own work. Of course, we welcome information from the public. But so far we have not received anything that shows that there is a material difference in the financial statements.
Improving standards

What steps are being considered to improve standards and the level of compliance as well as deterrent action and punishment, especially in the wake of these accounting scandals? In the US there have been calls to change auditors regularly, as well as the staff who do the audits, and for the SEC to appoint auditors. Are such changes being contemplated here?
We probably would have to be more careful in our monitoring activities. We have not considered enhancing punishment. The penalties we have are adequate. We have a system that is not there in many countries. Most countries don't have a monitoring board. Even in the USA monitoring is done by the SEC which has now proposed a separate body like what we have here to monitor compliance with accounting standards.

Measures such as asking companies to change auditors regularly need to be looked into carefully because there are conflicting views. Some feel that changing auditors regularly will actually reduce the quality of the audit - because the auditors get more familiar with the operations of the company when they do their audit. They also say that when a new auditor comes in there is a possibility of deviation from standards and fraudulent activities initially because the auditor is not aware of the processes involved.

We have just taken a policy decision to allow companies to adopt international accounting standards. So far companies have had to comply with Sri Lanka accounting standards. Even when companies asked us whether they could comply with international accounting standards, we refused because the law requires, and the board itself monitors, compliance with Sri Lanka accounting standards. The board has decided not to take action against any company if they comply with international accounting standards and they disclose it.

Particularly banks - they might want to prepare their accounts in accordance with international accounting standards (IAS) so that they could send their accounts to corresponding overseas banks. This would give outsiders who look at the accounts of those companies more assurance that they have been prepared in compliance with international accounting standards. I feel that now most companies that have overseas relationships will go in for international accounting standards.

Even earlier, companies could have complied with most of the international accounting standards. Because our accounting standards are based on international ones, most of the guiding principals are the same. So in most cases you could comply with both standards. But recently some of the international accounting standards that have come up were not in line with Sri Lanka accounting standards. Because there is a gap between adoption of international accounting standards and Sri Lanka accounting standards, there is a time lag because of which companies were unable to comply with both standards. One example is the proposed dividend.

If a company proposes a dividend based on its profits for a financial period, then according to Sri Lanka accounting standards it has to be shown as a liability - an amount that has to be paid out. But the recent international accounting standards say that it has to be shown as part of equity and not as a liability. So under SLAASMB the liability will be more. Under IAS the liability will be less. The gearing ratio changes because of that. Because of this it was difficult for companies to follow both standards.

What action can you take against auditors when you come across cases of non-compliance by the company? Are there cases of collusion or deliberate negligence by auditors?
So far we have not taken action against the auditors. That does not mean we will not do so in the future. Some of the cases where we have detected significant violations - the auditors themselves have reported but the company has not corrected the action. In some cases the auditors have not reported deviations.

We do have some oversight over the auditors. I think in the future we will monitor the auditing process more carefully.

Why is it that in cases of significant deviations you do not take action against the auditors?
The deviations that we have detected so far - we did not think there was sufficient reason to warrant us taking action against the auditor.
Pressures

What sort of pressures do auditors come under to allow companies to resort to creative accounting?
It is possible that auditors come under pressure from management not to report on deviations in order to show a better picture. Because auditors are appointed by the shareholders often on the advice of management, it is quite possible auditors come under quite a strong influence of the management not to report on certain deviations or to allow them to pass. So auditors have to maintain their independence and not give in to such pressure.

Why don't you divulge the names of the culprits? Isn't there some deterrence in a policy of "naming and shaming"?
I think we need to disclose more information to the public and we might do so in the future.

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