NBFC representative body brings to RBI’s notice how “extremely challenging the implementation in the short span of time”, it also highlights, number of operational issues which need clarification by RBI.The representative body of NBFCs, Finance Industry Development Council in another letter to the Reserve Bank of India Governor, Shaktikanta Das, asks, to keep new guidelines for the appointment of auditors on NBFCs “in abeyance at least for the current financial year”
Also Read: Implement norms for statutory auditors in next fiscal, FIDC to RBI
While the NBFC representative body brings to RBI’s notice how “extremely challenging the implementation in the short span of time”, it also highlights, number of operational issues which need clarification by RBI.
The major challenge is also on account of retrospective application and shorter transitional period of the said circular. FIDC also called it onerous in terms of establishing independence. “The look-back period of one year as mentioned in the guidelines (in respect of services rendered) to evaluate independence. It will significantly limit the choice available to companies for engaging firms to perform permissible non-audit services which do not create any threats to independence,” FIDC wrote.
Apart from that, noting the practical challenges the letter mentioned, “Mid-year change in auditors for FY 22 is causing disruption for most of the NBFCs and will cause avoidable hardships to both NBFCs and audit firms.”
Additionally, there will be a challenge to find an eligible audit firm given various restrictions such as cooling period, number of audits, partner strength of audit firm, audit/non-audit services for the group to which an NBFC belongs to.
There has been much criticism around the new circular issued by RBI applicable to all NBFCs, including small NBFCs holding public deposits irrespective of their asset size. The exception being, for NBFCs with asset size below Rs 1000 crore, which can voluntarily adopt the current practice. All the NBFCs are required to implement the said guidelines from second half of this financial year.
A greater number of audit firms with multi-disciplinary capabilities are required to deal with complex audits of large NBFCs which is a pre-requisite for effective implementation of the said guidelines and if a firm can audit only 8 NBFCs, it may not be easy to find an eligible firm, as per RBI norms, the letter mentioned.
We believe the successful and meaningful implementation of such far-reaching changes, within a short span of time, is extremely challenging as there are a lot of serious concerns posing avoidable hardships to the NBFCs (including HFCs) in the matter. There are a number of other operational issues which also need to be clarified by RBI.FIDC wrote in the letter
FIDC wrote, “RBI is virtually not giving any room to the Board and Audit Committee to select auditors while making Board responsible for ensuring quality, performance and independence of auditors.”10 main points from the letter…
Other key challenges faced by NBFCs
1: The impact of overriding the extant of these guidelines on the provision of Companies Act, 2013 regarding auditor’s appointment, rotation, cooling period, audit/non-audit services to group entities is not clear.
2: Shorter tenure, besides being relatively short, as mentioned in the guidelines is also inconsistent with Companies Act, 2013; “Other Regulators in the financial services sector, e.g., IRDAI have already aligned with Companies Act,” FIDC mentioned.
3: There is also a possibility that a large number of audit firms with the necessary skills sets, capacity and capability, may not qualify to be appointed due to various eligibility restrictions enumerated in the circular.
An issue that has also been highlighted by many experts ETCFO interviewed.
4: Implementation of the circular at this point of time will also put constraints on management’s bandwidth due to disruption caused by the ongoing COVID-19 pandemic.
5: On the impact on account of a joint audit, the NBFC representative body wrote, “We are constrained to point out that joint audit system, presently prevalent in public sector banks in India, has not proved to correspondingly enhance audit quality and assurance. It is believed to increase the risk of duplication or inadequate coverage and lack of accountability.”
They indicated that in global precedents joint audits are not a widely “successful model” with “many jurisdictions rolling back such requirements”.
6: It may be challenging to effectively divide the responsibility of auditing IT systems between joint auditors, which are integral to the business operations of financial services entities.
7: Indian auditing standards (IND AS) do not facilitate enhanced auditor responsibility; the joint audit framework is based on the concept of divided responsibility between audit firms whereby they are not liable for areas audited by the co-auditor.
8: Given the mandate of various rules like the limit on number of audits, shorter engagement period, cooling-off period, independence, there is going to be a situation where the “availability of quality audit firms commensurate with the size and complexity of the group structure, will become a challenge.”
Hence, FIDC wrote, “RBI is virtually not giving any room to the Board and Audit Committee to select auditors while making Board responsible for ensuring quality, performance and independence of auditors.”
9: The independence requirements of the circular will cause significant disruption. Many NBFCs are part of a conglomerate having multiple companies in their group. The member companies engage auditors in a consultancy role for many non-audit functions on an ongoing basis. The above requirement will hardly leave any eligible auditors that can be engaged by such an NBFC or its group companies.
10: Stringent view regarding “conflict of interest”, disallowing group entities of an NBFC to engage the same firm for audit services does not create any conflict in the first place. Such restriction will render a firm engaged in an audit of the NBFC ineligible to carry out any audit / non-audit work of other group entities during an extended period of almost 5 years.
FIDC recommends RBI to consider setting up an expert committee. This committee may consist of representatives from NBFCs, Chartered Accountants, Audit Firms, Institute of Chartered Accountants of India, for discussing and evaluating provisions of this circular and then bring out changes to ensure effective implementations and wider acceptance with the least disruption.