Several agencies, namely, SEBI, the Company Affairs Department, the Serious Fraud Investigation Agency, the state police and the newly constituted board of directors, are investigating the Satyam scam and, as expected from governmental agencies, getting in each other's way. Currently, all that they have is the so-called confessional statement of Ramalinga Raju and speculative theories on what might have happened and no other material facts have been established (it would be fun if Raju were now to say that his statement was false).

Some general issues arising from the scam are:

1. Is it possible for an unscrupulous management to deceive totally even a honest, competent statutory auditor?
   
2. Is a statutory auditor expected to detect fraud every time with no excuses for failing?
   
3. How to make the auditor truly independent of the management?
   
4. Should the Audit Committee be able to detect a fraud which escapes the statutory auditor (or which the latter connived at)? Should the Committee consist entirely of outside directors with specialised knowledge of company law and/ or accounting methodology?
   
5. Should company employees qualified as chartered accountants be also governed by the Code of Conduct and Ethics applicable to practising auditors?
   
6. What is the precise role of so-called independent directors? How independent can they really be?
   
7. If the management and the auditor collude, is it possible for a part-time director to detect fraud?

Auditors can do more

Looking at points 1 and 2, many chartered accountants feel that, though conventional frauds can be looked for and detected, cases where the fraudster has adopted a novel modus operandi may escape detection. An auditor could be blamed for being negligent or collusive but not for being outwitted by an innovative fraudster. Laws and rules are all the time being tightened but frauds keep occurring.

Laymen, however, ask: if an auditor cannot detect fraud, why have an audit at all? This is like asking: if burglaries keep occurring in spite of locking the house, why lock the house at all? Any procedure or rule can make deviation difficult but not always impossible. Just as we learn from every new fraud, the fraudster learns from every new rule! A fraud detection checklist could be prepared by the Institute of Chartered Accountants for the statutory auditors' guidance and updated with every discovery of a new type of fraud.

There are, however, two aspects which auditors could be advised to look into which they may not always be doing at present. There are rumours that in Satyam, the fixed deposit receipts shown to the auditors could have been copies of the original (made by modern electronic techniques) and the deposits might have been encashed and the funds diverted. Auditors may now be advised, as standard practice, to check at least a few of all original documents with their issuers and verify their authenticity.

Similarly, Raju and his family reportedly have been unloading their shares in the market for some time even prior to his confession. Sale of shares in large numbers or at frequent intervals by the promoter or his family could be another item which an auditor could verify. Though this by itself may not amount to an irregularity, this might give a hint of something fishy being in the offing and alert the auditor.

Separate auditor from management

In public enterprises, the statutory auditor is appointed by the Auditor General and the management has no choice. In private enterprises, the appointment is made by the management and the fee is also fixed by them (though technically this is approved by the general body). There is a possibility of auditors being obliged to the management and in some cases becoming accomodative.

Thus, it is desirable that auditors are chosen by the management from a panel prepared jointly by the SEBI, Institute of Chartered Accountants and the Company Affairs Department and changed every three years.

To address point 4, it is good to have only independent Directors as members of the Audit Committee while functional directors and the CFO could attend when called for answering queries. The chairman and at least one or two other members should be persons with special qualification in accounting and company law.

Company employees qualified as chartered accountants could also be governed by the Code of Conduct and Ethics applicable to practising auditors. This may help such managerial personnel in resisting pressures from top management to collude with them.

Safeguard independence of independent directors

A Board of directors is supposed to be a management team with a unity of purpose. Once some Directors are dubbed 'independent,' there is division in the ranks, more so if they have to be watchdogs over the management. If independent directors turn objectors to avoid being blamed for not being sufficiently independent, this would affect the cohesion of the board and stall decisions. For instance, in public enterprises, a single government nominee could effectively overrule all other directors merely because he could go back and complain to the government, and start an enquiry!

The independence of such directors has to be ensured by their mode of selection. Thereafter, they should function as members of the management team on the board. In the case of private companies, the SEBI and the Company Affairs Department could prepare a panel of persons qualified to be independent directors from which the company necessarily has to choose and these directors could be changed every three years or so. At the same time, it is necessary to limit the remuneration for such directors at reasonable levels but not tempting enough to 'soften' them.

Can part-time directors detect fraud?

In the case of Satyam, how come none of the management experts and retired senior government officials on board suspected a fraud? A senior, reputed chartered accountant said at a recent seminar: "I spent several hours studying the latest Satyam balance sheet and accounts but could not find anything irregular or fishy. No wonder the part-time directors could not either."

There seems to be no checklist or methodology by which a director could get behind the audited accounts and detect fraud. Maybe the company affairs department and the SEBI should work on this and evolve at least a broad checklist even if it is not fool-proof.

While Satyam is perhaps the worst scam in Indian corporate sector, it should not result in blind overkill leading to indiscriminate tightening of rules and penal action that good auditing firms would hesitate to take up such audits and competent, honest persons would be unwilling to serve as independent directors on boards.