When the Auditor Loves the Client

When a member of the supervisory board or management is guilty, when they are not guilty, what they should have known, what they did not, what they failed to do, what they did not…? If the usual answers to these questions seem more or less exact, the last argument in defense of the supervisor is: ‘The audit has determined that the operations are in order. Why should we doubt that?’ When the auditor says it is day, then it is day regardless of the fact that it is somewhat dark. It is probably a matter of worsened eyesight.

To move away from domestic examples like Podravka or HEP, the recently concluded one-year investigation into the collapse of Lehman Brothers showed that executive managers approved false financial statements, manipulated data, and concealed them from the Management Board, diminished the value of risky real estate-related assets, and with the help of “accounting tricks” reported excellent results. Where was the auditor during this time? The last hope that ‘evil’ managers cannot deceive us. Lehman’s auditor was Ernst & Young, the report revealed; however, they failed to “ask questions about the improper and inappropriate presentation” of the company’s financial results. They simply ignored a warning report that was never delivered to the company’s Management Board.
 
Neither the first nor the last time, nor the first nor the last auditor. What is somewhat frightening is the fact that even after the global collapse of the financial industry, there are no signs of clearer and firmer regulation, in this case, of auditing services. Unless we accept self-regulation as sufficient. The problem with the phrase independent auditor lies precisely in independence. Even if it concerns people completely devoid of greed, that same client pays those same auditors. In this case, competition is a tricky thing. To prevent the client from leaving (especially if it concerns million-dollar fees) to the competition, auditors become ‘flexible’ and their eyes sometimes close by themselves. ‘Well, that mistake in the financial statement is not so big that we should make a drama.’ And so little by little, Enron or now Lehman Brothers happens. Despite the fact that Enron’s collapse brought down their auditor as well, losing faith in the rest of the auditing elite does not seem likely because there are only a few truly large ones left in the global market (after multiple mergers in previous decades).

When the first capital companies as we know them today were formed, they served to raise large amounts of capital to finance large ventures with uncertain success, such as maritime voyages. However, although there was a larger community of shareholders, the connections among them were strong enough to be directly involved in managing the venture and controlling the results. Responsibility remained with the company, and the control system did not require additional supervisory mechanisms. In today’s conditions, where capital is so widely dispersed and where individual ownership control is either impossible due to professional management or only slight shares, auditing control is extremely necessary. However, not formal, but as we would nicely say, professional and ethical. As experience shows, nothing comes from those nice words without more rigorous control.

As I dislike generalizations, I believe that most auditors perform their job properly and ethically, but the fact remains that giving a positive assessment is linked to material benefit. Retaining the client, providing additional lucrative services such as consulting, advancing individuals within the auditing firm… As long as this is the case, despite the code of professional ethics, independence, in this area, remains just a sweet utopian story.