Amid the current landscape of several corporate failures in South Africa, including the dramatic collapse of Steinhoff, and the resulting job losses and negative impact on shareholders, including pensioners, the role of auditors in reporting reportable irregularities to the Independent Regulatory Board for Auditors ("IRBA") has come under heightened scrutiny. The auditing profession must work to restore public trust and confidence as an independent body that will ring the alarm bells and alert shareholders and the public to financial and accounting irregularities. Within the increasingly complicated commercial landscape, auditors seek to fulfill their professional obligations relative to reporting Ris. Meanwhile, internal governance structures within corporate organisations seek to protect the company's share price and overall financial well-being. What has emerged is a rather complex dynamic between auditors and audit clients. In particular, there are growing debates ensuing in particular regarding what triggers the reportable irregularity reporting requirement in the first instance.
Perhaps a rather obvious starting point in trying to unravel this is the legislative requirement imposed on auditors in this regard. It appears, on the face of the wording of section 45 of the Auditing Profession Act, 26 of 2005 ("APA"), that the legislature intentionally set a low evidentiary threshold for an auditor to be required to make a first report of a suspected reportable irregularity to the Independent Regulatory Board for Auditors ("IRBA"). The wording used in the APA provides that if an auditor "is satisfied or has reason to believe" that a reportable irregularity either exists or has existed, this triggers the obligation for an auditor to make a first report to the IRBA. The auditor is then required to make a second report to the IRBA within 30 days from the date of the first report following a process that includes engagement with the management board and consideration of representations made to the auditor regarding the suspected reportable irregularity. The second report, in contrast to the first report, must reflect the "opinion" that the auditor has formed on the matter. The "opinion" can be to the effect that either there was no reportable irregularity, there was a reportable irregularity but it is not ongoing, or there is a reportable irregularity which is ongoing. But what is the difference, if any, between being "satisfied or having reason to believe" as referred to for purposes of the first report, and forming an "opinion" for purposes of the second report?
The APA itself does not define the terminology and is therefore not of any direct assistance in answering this question. Although the relevant IRBA guidelines on reportable irregularities ("IRBA Guide"), refer to the type of information which an auditor would consider, and the type of investigation that the auditor may undertake, to verify information regarding a suspected irregularity it does not take the issue of the level of certainty, or evidence, that is required to either be "satisfied", to have "reason to believe", or to form an "opinion", any further. The IRBA Guide is also not, by its very nature, intended to constitute a binding interpretation of the legislative provisions involved and instead focuses on helpful examples rather than untangling complex and technical evidentiary issues. The absence of clarity on this question however places auditors, and their audit clients, in a difficult position when dealing with a potential reportable irregularity. The absence of a clear evidentiary standard for a first or second report to the IRBA necessarily drives auditors and audit clients in opposite interpretive directions given the impact that a report to the IRBA may have on the commercial interests of an audit client, particularly from the perspective of its possible recordal in the audit client's annual financial statements in certain circumstances. Auditors, when deciding whether or not to report a suspected reportable irregularity, may default to simply reporting to avoid the risk of professional disciplinary censure for failing to report. Conversely, audit clients most often would prefer to see the reporting obligation interpreted restrictively to avoid negative business consequences of overzealous reporting.
It seems to the writers that, in assessing the meaning of the words "satisfied or reason to believe" the first question is whether there is a requirement for any objective proof of a reportable irregularity to exist for an auditor to be "satisfied" or to have "reason to believe". The word "satisfied" does not, if seen in isolation, suggest anything but a subjective state of mind. It is conceivable in the ordinary course that a person could be satisfied, in his or her own mind, that a factual situation exists without having any rational basis for being so satisfied. The insertion of the conjunctive "or" between the words "satisfied" and "reason to believe" does not necessarily dispel the potential for a subjective assessment approach. The words "reason to believe", although hardly more specific in content, at the very least implies a requirement for the existence of an objective reason that results in a belief (presumably based on facts that have come to the auditor's attention). "Reason to believe" cannot, after all, be without reason in the first instance. The Supreme Court of Appeal, in the context of the then prevailing security legislation, in the case of Minster of Law and Order v Hurley rejected the notion that the phrase "reason to believe" could be interpreted to turn on a subjective belief and concluded that objective facts must exist to constitute "reason" for the belief held by the relevant official.
Does the combination of the word "satisfied" conjunctively with the words "reason to believe" mean that the legislature, in casting the net for potential reportable irregularities widely, wanted to include both subjective belief and objective reason to believe, as alternative grounds on which an auditor may be required to report a suspected reportable irregularity? This appears to be a contradiction in terms. It is suggested that, in order to arrive at a sensible interpretation of what the legislature intended with the wording used in this instance, it is necessary to take cognisance of the entire context of the legislation within which the words are used. The specific and narrow description of the elements of a reportable irregularity does not favour a view that the legislature intended to allow or encourage subjective assessment in relation to reportable irregularities. The expectations that the APA projects in relation to the conduct of auditors in general also reflect an evidence-based approach to all manner of assessments conducted by auditors. This would be in accordance with the general duties and expectations of an auditor which at their core, require auditors to have audit evidence for conclusions reached and/or judgements made. The writers suggest that it is inconceivable that the legislature could have intended to require, or endorse, a position where an auditor is considered "satisfied" with the existence of a particular state of affairs on an irrational basis and without reference to objective facts. For example, an auditor who makes a first report based simply on the conjecture of something that is stated in the market about an audit client, could certainly not legitimately state that he or she had "reason to believe". The consequences of adopting a subjective approach, not based on objective facts would be far-reaching and in fact dire not just for audit clients, but for the auditing profession itself. It is suggested that the conjunctive construction must be viewed as a drafting anomaly and that there must indeed be some objective "reason to believe" in all circumstances where an auditor makes a first report to the IRBA of the suspected existence of a reportable irregularity. We suggest that for an auditor to be "satisfied" that a reportable irregularity exists must mean that the auditor, based on a consideration of the known objective facts and the legal definition of a reportable irregularity, believes that the elements of a reportable irregularity are present in the situation under consideration.
It is however suggested that being "satisfied" or having "reason to believe" does not rise to the level of a positive probability assessment. It is not, in the ordinary course, necessarily unreasonable to believe that a particular state of affairs exists without having sufficient proof to satisfy a civil court that the position that is believed to exist is probable. It is suggested that being "satisfied" or having "reason to believe" can come about as a result of information that may not satisfy an evidentiary probability assessment, but must at least be sufficient for a reasonable person to believe it possible that a particular state of affairs exists. We suggest that the requirement for the auditor to be "satisfied" or have "reason to believe" has similarities to a prima facie evidentiary test. In the writers' view, the fact that further engagement with the client's management board and an opportunity to make representations to the auditor follows on from the first report of a reportable irregularity supports the notion that essentially the initial test is akin to a prima facie test. This means that the auditor believes, but not necessarily as a matter of probability, that facts exist which would meet the legal definition of a reportable irregularity.
In the forming of an "opinion", in the context of the duties of an auditor, it is however difficult to see that there is not a degree of probability assessment required. To form a rational and reasonable "opinion" that a reportable irregularity exists, the auditor must at least have a bona fide and rationally supportable view that the underlying facts that comprise the reportable irregularity are probable. An opinion that a reportable irregularity exists can surely not be formed based on facts that are viewed as less than probable or inconclusive. An opinion must be formed applying professional judgement, which inter alia relies on the collection of appropriate audit evidence to support the judgement. In such instances, where legal controversies exist, the auditor, who is not a legal expert and may rely on legal advice obtained, can only be required to form an opinion if the controversy is resolvable. If the auditor, following the thirty-day period of engagement with the audit client, has insufficient evidence to determine if a reportable irregularity occurred, then the second report should state that a reportable irregularity has not occurred.
It appears, that auditors in practice, at times adopt the view that once the auditor is "satisfied" or has "reason to believe", for purposes of a first report of a reportable irregularity to the IRBA, such initial view automatically ripens into an "opinion" if nothing is presented by or on behalf of the relevant audit client to displace the initial view formed by the auditor. The writers are of the view that there are several logical, practical and legal difficulties with such an approach. It is beguiling, from a resource-saving perspective, for the auditor to take this approach insofar as it reduces the auditor to a passive position in the engagement process, with the management board of the client shouldering the burden of the engagement process. This is in direct conflict with what is expected from the auditor in the thirty-day period between lodging the first report and the second report and reduces the engagement with management to merely pay lip service to the requirements of the APA. From a logical perspective, the approach potentially relies on a non-existent equivalence between the requirements for the first and second report to the IRBA in circumstances where the legislature has specifically stated the two sets of requirements in completely distinct terms. If it is accepted, as we submit it should, that forming an "opinion" is a distinct evaluation compared to becoming "satisfied" or "having reason to believe" then the auditor would be remiss in the duty to form an "opinion" by simply relying, by default, on the same facts that resulted in the meeting of the initial threshold without considering whether such facts meet the requirement to form an opinion. Although it could logically and conceivably be that the facts known for purposes of becoming "satisfied" or "having reason to believe" in a specific instance is sufficient to form an "opinion", it could however equally be that facts which meet the initial threshold do not meet the threshold to form an "opinion". The engagement process required during the thirty-day period also does not suggest that the legislative expectation is for the auditor to simply take a "default" second report approach and doing so does not, in the view of the writers, constitute compliance with the auditor's duties. Relying on the "default" approach does not, in the view of these writers amount to the forming of an "opinion" in the true sense of the word. The specifically stated requirement that the auditor considers all information in the forming of an opinion also implies that the auditor cannot simply rely on what was known at the time of the first report without something more. If this were to be the case, then there would simply have been one report and one threshold and there would be no requirement to engage with management in the thirty-day period. It is inconceivable that the legislature did not intend for there to be different tests applicable to the first and second reports.
It is suggested that the correct approach to follow is for the auditor to assess all information that is relevant to forming an opinion for purposes of the second report to the IRBA before formulating and submitting the second report, including seeking legal advice if necessary. It is further the view of the writers that there is a need for the legislature and the IRBA to revisit the current wording of section 45 of the APA. A clearer formulation of the relevant evidentiary tests to be applied would assist auditors and their clients and would better achieve the overall purpose of the APA and the section.
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