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Auditing and governing are two separate functions. But, these are not mutually exclusive. Neither are they independent; nor interdependent. Rather, one reinforces the other. Hence, the question arises how far one can go to fortify the other? Let us open our discussion with 'governance'.

By Prof S. SABIR A. JAFFERY
June 03 - 09, 2002

GOVERNANCE: The term governance refers to the functions of a government evidenced by 'ruling', 'directing', 'controlling', 'exercising of authority', and the like. These include a wide range of functions performed by the executive, judiciary, and legislative realms of a country, which work as a continuum. Hence, precisely speaking, good governance describes the successful performance of a government in carrying out its governing responsibilities.

However, the expression 'successful performance' has no fixed meanings. It is some thing relative to the situation that may vary from country to country, and even in the same country, from time to time. Moreover, any performance may have more than one rating. What one government claims to be 'good' may be condemned and even undone by the other that follows. Freezing of foreign currency accounts by Nawaz Sharif Government is an example near at hand.

Again, what is 'good' according to the government is normally 'otherwise' from the opposition's point of view. In the 55 years' history of Pakistan, there were not more than two occasions when our law makers had consensus of opinion in the Assembly: one, when their perks were being revised upwards; and, two, when the levy of tax on agriculture income was being debated.

Nevertheless, certain characteristics have been assigned to good governance by social scientists, which, inter alia, include:

>Safety and security.
>Participation with accountability.
>Transparency and openness.
>Justice and the rule of law.
>Simple and easily understandable rules of business

GOVERNANCE IN CORPORATE SECTOR A JOURNEY IN RETROSPECT: The concept of governance, particularly in a business organization, had died out by the end of the 18th century with the emergence of management as a systematic body of knowledge, an after effect of Industrial Revolution. Then onwards, terms like 'directing', 'controlling', 'administering' were substituted by 'leading', 'coordinating', and 'managing'. Gradually, the culture of giving orders and chasing men gave way to creating and maintaining of a work situation that was conducive to work.

This obviously did not simply mean providing of physical setting for the work, or developing good working methods. It was rather primarily concerned with providing the motivational climate. Thus, manager's task was destined to be the serving of the cause of the work through the people prompted by him to get that work done, instead of lashing at a reluctant work force to drag the workload to a distasteful destination. In this context, the abbreviations like IBA or MBA seem to be a misnomer. How on earth the institutions which claim to be management-oriented, and the degree that is said to be an emblem of proficiency in management, can justify the patch of 'administration' in their nomenclature?

Nonetheless, the foregone concept of 'administration' .is prepanng to stage a comeback under the garb of 'governance'. It is tantamount to moving the wheel in reverse. The purpose underlying this somersault seems to be to gradually regain the autocratic style of exercising the authority once lost under the philosophies of participative management, or, scientific management, or, management by objective.

At this stage, it was considered desirable to precisely define what good governance is in the context of corporate sector. In Pakistan, this gap was filled by the SECP (Securities and Exchange Commission of Pakistan). The Commission envisaged a code of conduct for the corporate sector, especially the listed companies, for the purpose of "establishing a framework of good corporate governance".

The nucleus of this code was reproduced by Mr. Khalid A Mirza, Chairman, SECP, in his presidential address at the workshop organized in Lahore on 2nd May 2002. He reiterated that there are four essential components of good corporate governance, namely: (i) sound value structure and high moral standards; (ii) basic framework of laws and regulations; (iii) judicial system / enforcement mechanism; and (iv) separation of ownership from management. "With the exception of legal framework", he added, "none of the above fundamentals was noticeable in Pakistan's corporate sector."

While keeping the text of the code aside for a while, one would like to ask the SECP's Chief about the affairs of public sector corporations apropos the essentials of good governance envisaged by him. Taking the last item first, he is requested to kindly enlighten the nation as to why the chairman (chairperson in case of the First Women Bank) and the president in each nationalized commercial bank is one and the same person? Where goes the dogma of separation of ownership and management in these cases? The chairman as head of the board of directors gives policy which is implemented by the management headed by the president. The president then reports compliance to the chairman who evaluates the performance of the team led by the president. Can there be any thing more ridiculous than a situation in which a person frames the policy, passes it on to himself for implementation, himself implements it, then reports the compliance to himself, and finally, himself evaluates his own performance?

Let us now examine what audit functions are, and how can they be reconciled with the needs of good corporate governance described in the foregoing paragraphs?

AUDITING ROLE OF AUDITORS IN GOOD GOVERNANCE: Auditing is defined as obtaining and evaluating evidences regarding assertions about economic actions and events to ascertain the extent to which they correspond with the established criteria, and to communicating the result to the interested users. Thus, it encompasses investigation process, attestation process, and the reporting process, pertaining to economic actions and events.

International Audit Standards maintain that an auditor's mandate may require him to take cognizance and report matters that come to his knowledge in performing his audit duties which relate to:

>Compliance with legislative or regulatory requirements;
>Adequacy of accounting and control systems;
>Viability of econonuc activities, programmes, and projects.

Two variant situations emerge when the functions of auditors and the requirements of good governance are placed face to face. The former is confined to 'econonuc actions and events, while the later is the outcome of a wide range of managerial functions. The question then arises whether the auditors should cross their operational limits in order to bring about the desired level of improvement in the quality of governance, or, alternatively, while restricting themselves to their term of reference, they should operate more effectively so as to help improve the quality of governance.

Lately, a view has emerged that auditors should play a more vital and direct role in establishing good governance. Should this mean to expect them to cross the established borders of genuine audit functions, it would be stretching the string too far, without gaining any thing positive and substantial. The only alternative then is to make the auditors feel more conscientious, more dutiful, and therefore to be more effective, while restricting themselves to their term of reference.

International Auditing Standards (IAS) also recognize that the matters that may be relevant to the governance of any business entity may be broader than those that form the subject matter of IAS, which are directly related to the audit of financial statements. IAS 260 categorically requires the auditors to communicate with the officials charged with the governance of an entity the matters arising from the audit of financial statements. They will not be required, the IAS continues, "to design procedure for the specific purpose of identifying matters of governance interest".

Even the Code of Good Corporate Governance envisaged by the SECP subscribes to this phenomenon. Rather, it prohibits in explicit terms any such excesses on the part of the auditors. Paragraph xl under the heading 'External Auditors' reads:

"No listed company shall appoint its auditors to provide services in addition to audit except in accordance with the regulations and shall require the auditors to observe applicable IFAC (International Federation of Accountants) guidelines in this regard and shall ensure that the auditors do not perform management functions or make management decisions, responsibility for which remains with the Board of directors and management of the listed company. "

Thus, it is established that auditors are not required to traverse their area of operation. Whatever they are expected to contribute towards good governance shall, therefore, be from within their range or sphere of activity. In other words, it is the quality of their performance that will make all the difference, which, therefore, needs to be ameliorated to match the requisites of good governance.

Once it is settled that it is the quality of audit that is aimed at, the question arises what is the desirable quality, and how can it be measured? The question has gained great momentum in recent years when considerable attention has been focused on the auditor's responsibility for negligence. This is largely the result of wide publicity being given world over to considerable sums sought by plaintiffs in compensation for losses they have suffered, losses which, they believe, could have been prevented had the auditors been more vigilant. To quote a lively example, m/s Pricewater House, auditors of BCCI, remained in the news for quite some time during the last decade of the preceding century for their reportedly inapt behaviour leading to the collapse of the Bank.

An answer to this very pertinent question can be traced back in what Denning LJ observed in Candler v. Crane Christmas & Co. (1951), whose opinion was later upheld in famous Hedley Byrne case [Hedley Byrne & Co. v. Heller and Partners Ltd. (1963)], and which reads. " Their [the auditors'] duty is not merely a duty to use care in their reports. They have also duty to use care in their work which results in their reports".

The 'care' again is a relative term. The degree of care required may also vary from situation to situation. However, the overriding requirement is to have a "true and fair view".

Interestingly enough, what is 'true and fair' is not necessarily the 'truth'. The famous Elephant Story will help explain this riddle. Three blind men were led to an elephant and asked to state by touching it what it was. The first who touched the animal from the side and felt hard and broad span of the skin said it was a wall. The other who groped around the tail announced that it was a rope. The third gentleman who came in contact with the trunk claimed that it was a hose-pipe. All the three, to the best of their knowledge, were 'true and fair' but none of them was right. This leads to the conclusion that the perception and belief a person may have, and the opinion that he forms, about a set of circumstances depend upon: (i) his view point, and (ii) the information made available to him.

This becomes all the more important in view of the fact that the law has not defined the expression 'true and fair'.

Moreover, the whole process of auditing requires much imagination and careful thought from beginning to end. It is highly demanding and is often described as a very onerous responsibility. No doubt the vast majority of the profession do behave with integrity but auditors can and do some times fail to exercise their duty to as high a standard as is expected of them.

CONCLUDING REMARKS: This whole discussion leads to the conclusions that:

>The auditors should restrict themselves to their Magna Carta;
>Professionally, they should strictly abide by the Accounting Principles / International Accounting Standards.
>Morally, they should comply with the International Federation of Accountants' (IFAC's) Guidelines on Code of Ethics, as adopted by the Institute of Chartered Accountants of Pakistan.

With this discipline followed meticulously, the auditors' role would have overriding impact on the overall performance of an organization, thereby contributing substantially and meaningfully towards "establishing a framework of good corporate governance", the objective underlying the Code of Corporate Governance envisaged by the Securities and Exchange Commission of Pakistan.