Unjust justice by SECP

Justice that is said to be blind has eyes in the Securities and Exchange Commission of Pakistan, (SECP). The SECP's website reveals it had reviewed listed companies' few published financial statements during the years 2001 to 2003. The shortcomings noted in them reveal a total abandon of law, and a merry-go-round.
Due to space constraints only a few are cited: the directors of an insurance business commenced business without obtaining, as required by law, the registration certificate from the Commission; the deferred charges were said in the notes to be written off over three years period but written off in one go in the year; revenue expenses were included in capital work in progress; gain on sale of plot was not taken to profit-and-loss account but shown as revenue reserve, and amount of prepaid interest/markup of over a million was not charged to profit-and-loss account, depreciation on revaluation of assets was not charged to profit and loss account but adjusted against surplus on revaluation of fixed assets, and surplus on sale of revalued assets was included in the profit-and-loss account.
The SECP, as in fact it is, has held the misdoings to be wilful acts to " mislead the public, the investors and the regulatory authorities that, to quote from orders, these otherwise "absolutely untrue and false" financial statements presented a true and fair view."
The SECP has, however, very strangely spared directors from fine and imposed fine on auditors only under section 260 of the Companies Ordinance, 1984 ('Ordinance') that is reproduced below 260.
Penalty for non-compliance with provisions by auditors. - (1) If any auditor's report is made, or any document of the company is signed or authenticated otherwise than in conformity with the requirements of section 157, section 255 or section 257 or is otherwise untrue or fails to bring out material facts about the affairs of the company or matters to which it purports to relate, the auditor concerned and the person, if any, other than the auditor who signs the report or signs or authenticates the document, and in the case of a firm all partners of the firm, shall, if the default is wilful, be punishable with fine which may extend to 2 [one hundred] thousand rupees.
In the case of the financial statements of Shaffi Chemical Industries Limited, the SECP functionary in Paragraph 10 of his order dated 26 June, 2003 has observed that in his view "both the company and its auditors both are responsible for this serious irregularity" but the company (directors) has been spared from fine and only the auditors have been fined under section 260.
Sparing the directors from and imposing fine on auditors only raises two questions: Who prepares and is responsible to ensure that the financial statements present a 'true and fair view'? In this behalf, sections 233 and good governance regulations are reproduced below:
SECTION 233:
ANNUAL ACCOUNTS AND BALANCE SHEET: The directors of every company shall lay before the company in annual general meeting a balance sheet and profit-and-loss account.
The directors' responsibilities are reiterated in the code of corporate governance thus:
(xvi) The directors of listed companies shall include statements to the following effect in the Directors' Report, prepared under section 236 of the Companies Ordinance, 1984:
(a) The financial statements, prepared by the management of the company, present fairly its state of affairs, the result of its operations, cash flows and changes in equity.
The statutory auditors, as per section 255 reproduced below, only give an opinion on such director prepared financial statements:
AUDITORS' RESPONSIBILITIES C: whether or not in their opinion the balance sheet and profit and loss account or in the income and expenditure account have been drawn up in conformity with this Ordinance and are in agreement with the books of accounts.
It is an administrative oddity that the SECP has spared the perpetrators of the misdoing. So doing, prima-facie, was beyond the powers vested in it by section 234 of the Ordinance, that is reproduced below:
(1) Every balance-sheet of a company shall give a true and fair view of the state of affairs of the company as at the end of its financial year.
(6) The provisions of sub-section (7) of section 230 shall apply to any person who is a party to the default in complying with any of the provisions of this section.
To facilitate, sub-section (7) of section 230 referred to in sub-section (6) is also reproduced below:
(7) If a company fails to comply with any of the requirements of this section, every director, including chief executive and chief accountant, of the company who has knowingly by his act or omission been the cause of such default shall:
(a) in respect of a listed company, be punishable with imprisonment for a term which may extend to one year and with fine which shall not be less than ten thousand rupees nor more than twenty thousand rupees, and with a further fine which may extend to two thousand rupees for every day after the first during which the default continues; and
The word used in sub- section (6) (incidentally also in sub-section (7)) is "shall," which according to Blacks Law dictionary, "excludes the idea of discretion, and imposes a duty to enforce, particularly where public interest is involved." As companies traded on the regulated market (stock exchange) involve public interest, the SECP had no discretionary powers to not impose the fine on the directors.
So, why were the directors spared from any action and fine is a mystery and where mystery begins justice ends. As someone said "who thinks the law has anything to do with justice? It's what we have because we can't have justice."
Justice in the hands of the powerful is merely a governing system like any other. Why call it justice? Let us rather call it injustice- injustice sustained at the exact degree of necessary tension to turn the cogs of the huge machine-for-the-making-of-rich-men, without bursting the boiler."
It should be relevant here to point out that the object of the penalty is to punish offenders or deter breach, or to encourage compliance. The penalties provided by the 'Ordinance' are peanuts. Such peanut fines would not halt the menace rather allow the practice to continue undeterred: imposing such petty amount as fine is like punishing for money snatching by a jail term till the rising of the court, which should make it a roaring business.
Compare in this behalf, for instance, the fine imposed by Section 377 of New Zealand's Companies Act for false statement: New Zealand's Act provides the fine of (in terms of its local economic value) huge sum of New Zealand $200,000 (which in terms of exchange rate of 1NZ$= Rs 40 works out to Rs 8 million) against the fine of the petty amount of Rs 20,000 provided by the Ordinance.
The penalties provided by other regimes are no less stringent than New Zealand.
If the menace of misstatement/omission of information and fraud is really to be eradicated, the existing penalty regime of the 'Ordinance' needs to be replaced by harsher and sterner penalties.
Further, more corporate actions should be declared as offences liable to punishment as most other jurisdictions have already done, for instance, Australia, New Zealand and South Africa regulations/acts declare 346, 170 and 119 actions respectively as offences liable to fine laced with imprisonment up to 10 years.
Lastly, though the SECP has held that the published financial statements did not show the true and fair view yet it has not directed for the amended accounts.
Thus, highly wrong financial information about the entity has been allowed to remain in the market; if it is adjusted in future as "prior year's item" (without disclosing the reasons for the adjustment) the investors have been kept in the dark about the true bona fide of the directors etc.
However, all said, despite the above, it was encouraging to note the SECP undertaking the review of published financial statements. One had hoped the momentum to pick up but no single order is posted in year 2004.
It is unthinkable that all published accounts of listed companies during 2004 were impeccable, the SECP seems to have stopped reviewing the accounts.
If so, it is most unfortunate. The regulators of other jurisdictions, on the other hand, have augmented their efforts to bring about constructive change in the types of practices that contributed to the financial reporting and auditing failures. Sri Lankan regulators are doing so for almost a decade now.
Other jurisdictions, eg, the UK1/, Canada2/, New Zealand and the USA3/ etc now put in place rules to even spot check the firms to verify the quality of the rendered audit opinion.
Hopefully, the SECP shall not only re-commence the review of the financial statements but also as well increase the number manifold.
NOTES:
1.THE UK: The Financial Services Authority says it is committed to fining listed companies and impose 'significant financial penalties' on companies that report misleading figures.
2. CANADA: Canada has set up a new board, The Canadian Public Accountability Board (CPAB) that will review the country's six major auditing firms each year and impose sanctions when companies fail to comply. The new rules also require more frequent and rigorous inspections of corporations.
3. THE USA: The audit oversight board is set to look into over 500 audits by the Big Four and 150 produced by the second-tier accounting firms.
4. The remit of the UK regulatory body and the US SEC is to review 300 and 350 financial statements each year.