NEWS

 

TITLE: Impact of Proposed Audit Exemption

DATE: 28/02/2017

This year sees the introduction of the new Companies Act 2016 which became effective on 31 January 2017. The Act contains a power for the Registrar to issue a Directive exempting companies from the need to have an audit. Today marks the last day of public consultation by the SSM and given the significance of the Audit Exemption Directive, Council has decided to issue a statement to members reiterating our position.

Proposed Audit Exemption Directive

When Suruhanjaya Syarikat Malaysia (SSM) issued the consultative document on the Companies Bill in July 2013 for public consultation, the Malaysian Institute of Accountants (MIA) had then proposed to SSM that only dormant companies be exempted from statutory audit. When the Companies Bill 2015 was subsequently approved in 2016, MIA had also submitted a detailed memorandum in July 2016 to SSM.

Nevertheless, when SSM issued the Draft Practice Directive (Audit Exemption) 2017 for public consultation in November 2016, it was proposed that audit exemption be implemented for dormant companies as well as small companies. In response to the Draft Practice Directive, MIA reiterated its stance for audit exemption for dormant companies only to SSM on 24 November 2016.

An analysis of the responses to SSM on SSM’s website on the Draft Practice Directive as at 23 February 2017, echoed our views for audit exemption to be applied to dormant companies only, where 62% (61 out of 99) of respondents agreed to exemption for dormant companies only or to no audit exemption at all.

The respondents to date comprise 6 institutes/associations, 3 banks (Malayan Banking Berhad, RHB Bank Berhad and Bank Islam Malaysia Berhad), 51 professional firms and 39 individuals. Although based on a simple analysis by number of respondents, the majority are already against audit exemption for small companies, greater weightage should be given to responses by the 6 institutes/associations as they represent a significant number of members and organisations as follows:

  1. Malaysian Institute of Accountants (MIA) [33,614 members]
  2. The Malaysian Institute of Certified Public Accountants (MICPA) [3,048 members]
  3. The Malaysian Institute of Chartered Secretaries and Administrators (MAICSA) [4,025 members]
  4. Malaysia Accounting Firms Association (MAFA) [130 firms]
  5. The Association of Banks in Malaysia (ABM) [26 member banks]
  6. Malaysian Association of Company Secretaries (MACS) [1,200 members]

These institutes/associations clearly do not support audit exemption for small companies. This is in contrast with the insignificant number of individuals and entities that support audit exemption for small companies.

Impact Assessment Survey

In response to SSM’s Draft Practice Directive, MIA conducted an Impact Assessment Survey from 20 December 2016 to 15 February 2017 by sending questionnaires to 1,417 audit firms in Malaysia to collect empirical data on audit exemption. A total of 445 audit firms responded to the survey.

  1. Lack of readiness by Small and Medium Enterprises (SMEs) to prepare reliable financial statements

    The survey revealed that 75% of audit firms had the response that less than 10% of their clients that are SMEs have expertise in preparing financial statements that comply with either Malaysian Private Entities Reporting Standard (MPERS) or Malaysian Financial Reporting Standards (MFRS).

    The business environment in Malaysia is still developing and SMEs generally do not or are unable to hire qualified accountants to handle the accounting and finance functions. This brings into question the integrity and reliability of financial statements produced by these SMEs in the absence of audit.
  2. Implications on tax returns and ability to obtain financing

    Recognising the value of an external audit in ensuring accurate tax returns are filed with the Inland Revenue Board (IRB), Section 77A(4) of the Income Tax Act requires tax returns furnished by companies to be based on audited accounts. Audited financial statements also enhance a company’s ability to obtain financing. An independent audit, particularly for those with potential to go public, also builds public confidence towards the integrity of financial statements and in nurturing the right corporate behaviour of SMEs. There were also concerns that financial institutions may have less verified data or financial statements on which to base their lending decisions.
  3. Impact on Small and Medium Practices (SMPs) and accountancy students

    The survey also showed that approximately 64% of respondents were not ready to cope with the impact of the loss in audit revenue arising from audit exemption for both dormant and small companies. SMPs, which provide audit and assurance as well as business advisory services to SME clients, are important avenues for training and mentoring accountancy graduates and interns. If audit exemption is implemented, there may be less SMPs to avail themselves as training grounds for some of these interns and graduates.

Town Hall Meeting

MIA also held a town hall meeting with audit firms on 13 February 2017 which was attended by 270 participants. At the town hall meeting, 199 (95%) out of 209 respondents who participated in our short survey do not agree with audit exemption for small companies.

Promoting Understanding of the Value of an Audit

MIA has taken initiatives to promote understanding of the value of an external audit through the publication of a booklet entitled “Why Audit Matters to SMEs?” in December 2016 and engagement with associations and business communities.

Currently, all companies enjoying the privilege of limited liability when it conducts their operations should subject their businesses to mandatory audits to safeguard the interest of third party users and other stakeholders. An audit can be considered to be a service to the public at large and it is a small price to pay for the limited liability protection that a company enjoys.

Among others, an audit brings financial discipline, which is especially important as under the new Companies Act 2016, increased liabilities will be imposed on company directors for failing to prepare adequate financial statements.

Other Initiatives by MIA

In addition, MIA has been initiating measures to improve SMPs through the adoption of a two-pronged approach involving the enhancement of audit quality and MIA’s Practice Review Framework.

Quality enhancement comprised the setting-up of the SMP Department in May 2015 and implementing a Quality Assessment Programme in collaboration with the MICPA. MIA also has a Practice Review Framework, as part of its By-Laws, to assess the quality of public practice services provided by member firms. The Practice Review Framework is being revised to incorporate significant deterrence to curb non-compliance with professional standards. Measures such as shortening the review and disciplinary process, increasing the number of firms being reviewed and significantly increasing penalties for non-compliance are being planned.

Conclusion

The results of the survey conducted by MIA, the responses at the town hall meeting, and the analysis of the responses on the SSM’s website on Draft Practice Directive whereby all institutions and associations do not support audit exemption for small companies, confirm and strengthen our view against audit exemption for small companies for the time being.

  Audit exemption for small companies may appear appealing on the surface in contemplation of reduction in compliance cost but the impact of inaccurate financial statements and inaccurate tax submissions has far-reaching consequences across the regulatory and financial reporting ecosystem. Furthermore, without the comfort of an audit opinion, even if lenders make financing available, they would be taking on more risks and may thereby be compelled to raise financing costs which will be counter-productive for SMEs.

Considering the disproportionate loss of benefits as compared to the audit fees saved, exempting small companies from audit is untenable. As such, MIA only supports audit exemption for dormant companies. MIA looks forward to SSM giving due consideration to MIA's views on exempting only dormant companies and hopes that their final decision takes into account all the supporting stakeholders views, in the national interest.