Auditors need a shake-up

Don’t just blame the banks for the credit crisis now affecting businesses. Have a look at the actions of auditors, some of whom are changing the rules on companies at very short notice.

Take this example of this small company that had just approached a bank, cap in hand, after suddenly finding out they are in deep trouble.

The company had small losses – who hasn’t?  But its directors believed that the company was complying with its banking requirements – until the half yearly audit. The first surprise was to be told that the balance sheet was overstating the value of assets, so there had to be a write down which resulted in an immediate breach of banking covenants.

The auditors told the company it had to get a waiver from the bank or the loan was in default.  If the loan was in default the company risked being classified as “not a going concern” – and a going concern disqualification would kill its planned equity raising stone dead. 

The company approached its bank for a waiver.  The bank knows the equity raising is in the pipeline and doesn’t want to rock the boat.  “Shouldn’t be a problem” says the bank, “here’s the information we need.”

But the auditors want the waiver in writing – in three days!

The banker who told me about this example was able get sign-off in time – but says he was lucky. He says that he is seeing this type of situation “all over the place”.

“If a company is viable, it should be able to work through problems but the auditors are threatening to stop the music. They are simply not giving companies enough time,” he told me.

He says the auditors also need to do more analysis and look at financial performance and the balance sheet. “They are trying to save themselves the work and just want us to guarantee funding for 12 months so they can tick a box and say yes, the company has access to funds.”  

He also points out the auditor’s actions means the borrower is forced into negotiation at a time when the banks are very jumpy.

“By forcing borrowers to negotiate early against a short deadline, auditors are forcing their clients into our hands.  “It’s great for us because we have the borrowers at our mercy with no negotiating power,” he says.

Of course, the economy is moving downward at break-neck speed and no one is saying that auditors should not be doing their jobs. Indeed, the banks would be the first to sue if the auditors were too lenient, the company fell over and the bank ended up with a bad debt.

But the banker has a point. Companies should spend as much time talking to their auditors in this environment as their bankers. And they should be looking at worst case scenarios like this so they can see what might be coming. As for the banks and auditors, it’s fine to be hard-nosed – but just remember it’s hard to get fees out of a collapsed company.