21 June 2002

 

 

 

Dr Philip Pillai

Chairman

Company Legislation and Regulatory Framework Committee

(By fax:  6337 4134)

 

 

Dear Dr Pillai,

 

COMPANY LEGISLATION AND REGULATORY FRAMEWORK COMMITTEE’S (CLRFC) DRAFT REPORT – RECOMMENDATION 1.19

 

Thank you for your letter dated 10 May 2002 in which you enclosed the draft report of the CLRFC for comment by the Institute of Certified Public Accountants of Singapore (the Institute).

 

By way of this letter, we would like to provide the CLRFC with the Institute’s comments specifically to Recommendation 1.19 of the CLRFC’s draft report on the removal of the statutory audit requirement.  We shall provide the CLRFC with the Institute’s detailed comments to the various recommendations including any additional ones that we may have to this recommendation subsequently.

 

Briefly, the Institute agrees with the recommendation to exempt dormant companies from filing audited accounts and with the recommendation to empower the Registrar of Companies and Businesses to require a company to submit audited accounts.  However, the Institute does not support the recommendation to exempt exempt private companies (EPCs) from the statutory audit requirement on the following grounds:

 

·                    An audit poses minimal costs to the business

·                    It is a fallacy to equate EPCs with small businesses

·                    Leading jurisdictions have different cultural, business and legal environments with much more developed economies and a wider base and depth of businesses, even then, these jurisdictions prescribe levels of turnover beyond which an audit is required

·                    Market forces may not always play an effective role

·                    There are other stakeholders and users of audited financial information

·                    The issuance of a certificate for EPCs when such accounts are not filed is an attestation of solvency

·                    Lack of willingness to prepare proper accounts and enforceability in the local environment

·                    The decision to exempt EPCs would be irreversible

·                    The benefits of an audit far outweigh its costs

 

We attach a paper setting out the Institute’s views and comments on the implications of audit exemption for due consideration by the CLRFC.

 

At a meeting between representatives of the Association of Small and Medium Enterprises (ASME) and the Institute on 14 June 2002, the ASME articulated that it agreed with the Institute’s grounds for retaining the statutory audit requirement as the value of an audit outweighs its cost which is considered insignificant.  The ASME also stated that there should be a threshold for an audit exemption regime.  We understand that the ASME will be writing to the CLRFC together with any specific proposals it may have.

 

The Institute held a members’ forum on the CLRFC’s draft report on 30 May 2002.  At the forum, the Institute’s members requested for a dialogue session with the CLRFC.  If you are agreeable, please advise us the date and time of a dialogue session with the CLRFC and the Institute’s members.

 

Please do not hesitate to contact me should you have any queries.

 

Yours sincerely,

Janet Tan

Executive Director

 

 

 

Copy to:           Permanent Secretary,

Ministry of Finance

 

Chairman,

Public Accountants Board


 

Views and Comments of the Institute of Certified Public Accountants of Singapore on the Removal of the Statutory Requirement of Audit – Recommendation 1.19 of the CLRFC’s Draft Report

 

 

 

 

The CLRFC has recommended that dormant companies be exempted from filing audited accounts for financial years commencing from 1 January 2003 and that exempt private companies or EPCs be exempted from the statutory requirement for audit for financial years commencing from 1 January 2004 subject to the entitlement by shareholders representing at least 5 % of the EPC’s share capital to require such a company to prepare audited accounts.  The RCB should also be empowered to require a company to prepare audited accounts.

 

The CLRFC draft report has made the recommendation to exempt EPCs from the statutory audit requirement based on the following four considerations:

 

1.                  Leading jurisdictions do not impose such a statutory cost on small businesses but leave it to market forces

 

2.                  Most EPCs are owner-managed and hence shareholder interest protection is not imperative

 

3.                  EPCs are not required to file accounts with the RCB and thus the public currently has no access to an EPC’s accounts

 

4.                  Directors would be required to attest to the proper keeping of accounts

 

 

Summary of the Institute’s Position

 

The Institute of Certified Public Accountants of Singapore (the Institute) agrees with the recommendation to exempt dormant companies from filing audited accounts and with the recommendation to empower the Registrar of Companies and Businesses to require a company to submit audited accounts.  However, the Institute does not support the recommendation to exempt EPCs from the statutory audit requirement on the following grounds:

 

·                    An audit poses minimal costs to the business

·                    It is a fallacy to equate EPCs with small businesses

·                    Leading jurisdictions have different cultural, business and legal environments with much more developed economies and a wider base and depth of businesses, even then, these jurisdictions prescribe levels of turnover beyond which an audit is required

·                    Market forces may not always play an effective role

·                    There are other stakeholders and users of audited financial information

·                    The issuance of a certificate for EPCs when such accounts are not filed is an attestation of solvency

·                    Lack of willingness to prepare proper accounts and enforceability in the local environment

·                    The decision to exempt EPCs would be irreversible

·                    The benefits of an audit far outweigh its costs

 

The rationale of the Institute’s position is organised within the following four considerations of the CLRFC as follows:

 

1.         LEADING JURISDICTIONS DO NOT IMPOSE SUCH A STATUTORY COST ON SMALL BUSINESSES BUT LEAVE IT TO MARKET FORCES

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Minimal Cost Of An Audit

 

The statutory cost of an audit in Singapore is but a miniscule fraction of turnover.  The Institute’s surveys of bankers, SMEs, accountants and auditors conducted in 2000 have shown that an audit costs between 0.1% to 0.5% of annual turnover.  Therefore, cost is not and cannot be a factor for the introduction of audit exemption for EPCs in Singapore.

 

Exempt Private Companies Are Not Equivalent To Small Businesses

 

The leading jurisdictions mentioned in the CLRFC draft report (countries like the USA, UK and Australia) have an exemption regime for small businesses and not for EPCs.  Consequently, it is inappropriate to compare the regimes in the leading jurisdictions because these pertain to different groups of businesses altogether.  In re-examining the case for exemption, the CLRFC has not compared like with like because the leading jurisdictions apply criteria based on key size indicators when exempting businesses from the statutory audit.  A different set of criteria based on ownership and control of an enterprise is being proposed for audit exemption in Singapore.

 

We note that one of the tenets of the CLRFC’s consideration is to reduce the costs to small business in respect of audits.  In considering the audit exemption issue in the leading jurisdictions, the CLRFC draft report has made the erroneous premise that all EPCs are small businesses when, in fact, many EPCs are actually larger than publicly-listed corporations.  For example, the Business Times Enterprise 50 list for the year 2001 contains many large corporations which are EPCs.  A total of 26 out of the 50 are EPCs and these include Keracker Holdings (annual FY 2000 revenue of $41.98m and 150 employees), Univac Precision Engineering (annual FY 2000 revenue of $76.15m and 239 employees) and Megachem (annual FY 2000 revenue of $57.16m and 33 employees).  Please refer to the annexure for the full list.

 

The leading jurisdictions have developed their audit exemption regime based on criteria relating to size of businesses and not the form of organisation (e.g. EPC).  The audit exemption regime in countries like the UK has evolved over time starting with a small base with thresholds of ₤90,000 for turnover and ₤1.4m for total assets with subsequent revisions in the criteria for exemption with the development of the economy in the UK.  It appears that while the CLRFC draft report has quoted the situation in other countries like the UK and Australia, it did not mention the fact that such audit exemption regimes have criteria for exemption based on size and that such jurisdictions had introduced audit exemption gradually over a period of time.

 

Countries like the US, UK and Australia are highly developed economies with a much larger economy and a much bigger base and depth of businesses compared to Singapore.  The small businesses in these countries are generally larger in size than those in Singapore.  Consequently, the comparison that is made with such jurisdictions is unrealistic and may not be appropriate or relevant.  If these systems are to be followed then this should be done with care and the thresholds for audit exemption cannot be as large as those that currently exist in the developed jurisdictions.

 

Different Cultural, Business, Political And Legal Environments

 

The leading jurisdictions have developed their audit exemption regimes over a lengthy period of time thus reducing the “sudden displacement” to the marketplace and users of audited accounts.  With the CLRFC’s recommendation to introduce exemption in 2004, the timing is extremely short and could be counter-productive.  For example, in the UK, the idea of audit exemption for companies was first mooted in the early-1980s.  Actual exemption was introduced after about a decade of thorough discussion, useful feedback and careful study.

 

The position of audit exemption in other developed economies having a much larger base of business statistics, particularly in the UK, Australia and the US, cannot be directly applied to Singapore because of the very different cultural, business, political and legal environments.  In these countries, even very small businesses take pains to ensure that their accounts are properly prepared.  In the Singapore context, such a situation cannot be assured.  There are significant differentiating factors between those jurisdictions and Singapore whereby the audit regime applying in Singapore need not be the same as in those other jurisdictions.  In these other jurisdictions which have an audit relief regime, there are compensating regulatory controls in place that, purely from a cost point of view, would arguably not result in any overall or significant cost saving.

 

Singapore’s cornerstone national doctrine of openness and transparency is promoted and supported by the audit requirement.  The Institute is of the view that the audit serves an important function in Singapore’s business environment for the following reasons:

 

·                    Singapore is built on private businesses but many private companies do not have proper full-time accounting expertise available.  Often the only resource available to them is the external auditor.

·                    The system relies on the external auditors to assist in monitoring compliance with required accounting discipline and with the other statutory requirements in the Companies Act

·                    Despite the statutory requirement to do so, companies might not keep any form of books of account if audits were dispensed with particularly as there are no other effective monitoring and enforcement systems to ensure that they do so

·                    A history of audited accounts is essential for the proper and efficient progress of mergers, acquisitions and public flotations

·                    The statutory audit provides a reasonable degree of comfort and assurance to both local and overseas persons and the business and financial community of the standard of financial and accounting discipline of Singapore companies

 

Market Forces May Not Always Play A Role

 

Market forces may not necessarily lead to a desired state of affairs.  For market forces to play an effective role in the capital markets, there needs to be a level playing field in the form of availability of information to all affected parties.  The market for audited financial information can be imperfect.  For example, in the case of an EPC with many creditors, a single creditor may not have sufficient power to be in a position to require and subsequently obtain audited accounts from that EPC.

 

2.         MOST EPCS ARE OWNER-MANAGED AND HENCE SHAREHOLDER INTEREST PROTECTION IS NOT IMPERATIVE

________________________________________________________________________

 

Other Stakeholders Of Businesses

 

Whilst many EPCs may be owner-managed, this does not negate the fact that there are other stakeholders with an interest in the audited accounts.  Because of multiple stakeholders like employers, government agencies and members of the public, an audit can be considered to be a public good and the cost for the limited liability protection that a company enjoys.  To avoid this cost, a business may choose to be set up as a sole proprietorship or partnership.

 

As EPCs may be owner-managed, there may be a propensity for lack of disclosure, etc. by the shareholder-directors.  Sole proprietorships and partnerships, organisations which are not required to prepare and file audited accounts, have historically posed a problem to themselves and to IRAS from the perspective of accuracy of financial information.  Consequently, it is inappropriate to have a situation where retrospective, remedial or corrective actions may need to be taken rather than the status quo which has preventive safeguards in the form of audits.  The recent tax-related convictions are the result of accounts not being properly prepared.  These cases involved entities which were organised as sole proprietorships which did not prepare proper books of accounts or had such accounts audited or lacked proper advice.  There is no requirement for sole proprietorships to be audited.  We are of the view that an audit requirement would strengthen the compliance by businesses and avoid the spectre of unproductive enforcement action.

 

As one of the main stakeholders of incorporated business, the IRAS will incur additional enforcement costs to compensate for the lack of an audit.  Tax revenues may even be compromised in some cases, not to mention the inefficiencies which will surface as a result of the removal of the audit requirement.

 

Whilst one may argue that IRAS may catch up with errant taxpayers eventually, we are of the view that to resort to enforcement actions by IRAS may not be a correct approach because the problem is not being tackled at its source.  We are of the view that the current preventive approach is superior to the proposed reactive and investigative approach.  Generally, many people do not realise the importance of keeping proper accounts and need to be guided toward this end.  The keeping of proper accounts is only possible if an audit is required otherwise there will be a perennial “cat-and-mouse” game between the errant enterprise and a government agency like IRAS.

 

3.         EPCS ARE NOT REQUIRED TO FILE ACCOUNTS WITH THE RCB AND THUS THE PUBLIC CURRENTLY HAS NO ACCESS TO AN EPC’S ACCOUNTS

________________________________________________________________________

 

The Issuance Of A Certificate For EPCs When Such Accounts Are Not Filed Is An Attestation Of Solvency

 

It is precisely the requirement for the issuance of a certificate to be given by an EPC under the Eight Schedule to the Companies Act (or what is commonly known as a solvency statement) where such accounts need not be filed that is a form of assurance to creditors, suppliers and others who may need to transact business with the EPC.  This is because the solvency statement is a certificate signed by a director, company secretary and the auditor of the EPC stating that the company is an EPC, that duly audited financial statements complying with the Companies Act have been laid before the company in general meeting and that the company appeared to have been able to meet its liabilities as and when they would fall due.  Consequently, the certificate and with it the non-filing of EPC accounts attests to the fact that the EPC is solvent.

 

Audit exemption, on the other hand, will lead to a degeneration of the quality of financial information because not only would accounts no longer be filed but there would also not be a credible solvency statement attested to by an independent third party - the auditor.  Additionally, and more importantly, such accounts would not be audited.

 

Historically, the non-filing of accounts when a solvency statement is filed was to provide a level of confidentiality to the EPC so that competitors may not be availed of confidential key information belonging to the EPC.  It is erroneous to state that an audit is not necessary because financial information is not available to the public.  If the recommendation were to be implemented, not only would EPC accounts continue to be unavailable to the public but additionally, the accounts would not be subject to an audit and there would be no credible assurance in the form of a solvency statement signed by three parties – a director, a secretary and an auditor.

 

The accuracy of financial statements is a matter of public interest as creditors and other stakeholders need to be availed of accurate information before making a business decision, supplying goods and services or providing funds.  As mentioned earlier, as the financial statements are the basis for tax assessment, without the discipline of an auditor there is a serious risk of filing information that reduces proper tax obligations, in most cases, because of ignorance.  An audit can serve as a deterrent to fraud and money laundering and with the removal of the audit requirement, fraud and money laundering may increase.  Without the statutory audit, the risk of misleading financial statements being filed is likely to increase as the unscrupulous take advantage of a laxer regime to defraud others and for money laundering.  Because of the level of international trade and inward investment, it would not be in Singapore’s interest if the underlying integrity that the statutory audit helps to foster were to be undermined.

 

4.         DIRECTORS WOULD BE REQUIRED TO ATTEST TO THE PROPER KEEPING OF ACCOUNTS

________________________________________________________________________

 

Willingness And Enforceability

 

Although directors may be required to keep proper books and accounts, there is the question of willingness and the question of enforceability which may be counter-productive.  As mentioned earlier, businesses which are not required to be audited tend to be the ones which may not keep or prepare proper books of account.  In Singapore, considering the state of the development of the economy and the local environment, we are of the view that the only way to require companies to keep proper books of account is by way of an annual audit.

 

An attestation by directors to keep proper books of accounts would provide a much lower level of assurance compared to a solvency statement that is signed by a director, a company secretary and an independent auditor.

 

Irreversible Decision

 

The removal of the audit requirement will be irreversible.  It would not be possible for the Government to reverse the decision if, at a later time, the decision turns out to have been unwise.  There will also be the practical problems, adding to the burden on companies, in covering the period between the last audit and a re-introduced audit requirement.  A similar problem will occur where an EPC is converted to an entity other than a dormant company or EPC and would thus need to be audited.

 

A recent survey by ICPAS of its practising members in May 2002 reveals that accounting firms may have to retrench between 30% and 90% of their staff on average should the recommendation to exempt EPCs from the statutory audit requirement be implemented.

 

The audit profession requires the attainment of a body of knowledge as well as skills in auditing procedures and practices.  It can take several years for an accountant to attain an acceptable degree of proficiency in auditing and accounting matters.  If the recommendation to exempt EPCs were to be implemented, this would mean that the majority of accountants who start off in the audit profession and then proceed to be accountants, bankers or finance professionals in trade, commerce and industry would be deprived of the rigorous training that the audit practice provides.  The consequences would be felt by businesses in Singapore which would not be able to staff their accounting functions with qualified and adequately trained accountants.

 

The recommendation to exempt EPCs from the statutory audit requirement will in one fell swoop result in the loss of approximately 76% of audits which would also mean an incalculable loss of the training ground.  An auditing training and background is an important component for work in other areas of industry, trade and commerce.  The government has been encouraging professionals and SMEs to expand their operations in the region and worldwide.  With a lack of training and skills attained in the audit profession, SMEs and professional firms would not have the requisite financial skills, knowledge, expertise or experience to compete either regionally or internationally.  After all, small and medium-sized accounting firms are also SMEs which have the ability and capability to venture into the region and the world.  With the exemption of audit of all EPCs, the training aspect of the audit profession will be severely curtailed.  With the liberalisation of world-wide trade in goods and services under the auspices of the World Trade Organisation, we may be badly handicapped by our lack of skills obtained in the audit profession.

 

The Audit Benefits Much More Than It Costs

 

The involvement of auditors adds quality and credibility to the financial statements of all companies as financial statements of many companies are not prepared by suitably qualified accountants.

 

The statutory audit increases the reliability of financial statements and thus their value to the myriad users of financial information like present and potential investors, lenders, suppliers and the government and its agencies and, inter alia, fulfils the public interest role because companies enjoy the benefits of limited liability.

 

Whilst it may be argued that auditors can provide other services in a scenario of audit exemption, such other services like accounting, bookkeeping, tax compliance and advice and corporate secretarial services actually follow from the provision of audit services.  The auditor acts as a one-stop shop for such professional services.

 

Introduce The Small Business Concept In The EPC Category From 1 January 2005

 

While the CLRFC has put forward its recommendation based on the aforesaid grounds, a key premise in the recommendation is erroneous.  EPCs are not small businesses.  Consequently, the Institute would like to propose that, in the event that an audit relief regime should be introduced in Singapore, then a “small business” concept should be developed first.  This would then make the corporate regulatory system aligned with those of the leading jurisdictions.  The Institute would like to propose that a “small business” be defined as an EPC with an annual turnover of less than S$250,000 and a year-end total asset balance of less than S$350,000.  The turnover amount is approximately equivalent to the initial threshold for turnover of the UK audit exemption regime while the total asset threshold is based on the ratio of the current thresholds of total assets to turnover of the current UK audit exemption regime.  Such “small EPCs” should then be accorded the relief from the statutory audit requirement subject to the 5% shareholder requirement and the RCB prerogative.  These thresholds should be subject to periodic review depending on economic circumstances similar to the approach in the UK and Australia.  In order to reduce the “sudden displacement” to the marketplace, this should take effect from 1 January 2005.

 

 

Conclusion

 

We generally agree that for businesses and the capital market, rules and regulations should be streamlined and compliance costs reduced.  Audit exemption for EPCs may appear appealing on the surface but is a proposal fraught with flaws arising from misconception.  The true issues of audit exemption should be closely examined.  On the basis of the foregoing discussion, the Institute strongly disagrees with the recommendation to exempt EPCs from the statutory audit requirement and strongly urges the CLRFC to re-consider its recommendation.  The Institute would, however, like to propose that, if an audit relief regime is introduced in Singapore, then it would be logical, meaningful and appropriate for this regime to apply to a small business concept within the EPC category based on annual turnover of less than $250,000 and total assets of less than $350,000 with effect from 1 January 2005.

 


ANNEXURE

 

This is the Business Times’ list of Singapore’s most enterprising privately-held local companies in 2001.  Exempt Private Companies are indicated by “EPC”.

 

1.             SUNNINGDALE PRECISION INDUSTRIES LTD

2.             HI-P INTERNATIONAL PTE LTD

3.             KINERGY PTE LTD

4.             WESTECH ELECTRONICS LIMITED

5.             TEX LINE ASSOCIATES PTE LTD

6.             NEO CORPORATION PTE LTD

7.             KERACKER HOLDINGS PTE LTD                                                      - EPC

8.             SPEEDY-TECH ELECTRONICS (S) PTE LTD

9.             BBS ELECTRONICS PTE LTD

10.         UNIVAC PRECISION ENGINEERING PTE LTD                                  - EPC

11.         MAXMEGA ELECTRONICS PTE LTD                                                - EPC

12.         WAN SOON CONSTRUCTION PTE LTD

13.         OCEAN SKY TEXTILE PTE LTD

14.         LE CHAMP (SOUTH EAST ASIA) PTE LTD                                        - EPC

15.         SEI WOO RUBBERWORKS PRIVATE LIMITED                                  - EPC

16.         PTC SYSTEM (S) PTE LTD                                                                - EPC

17.         UNITED TEXMAX PTE LTD

18.         MEGACHEM PTE LTD                                                                       - EPC

19.         HAI LECK ENGINEERING (PRIVATE) LTIMITED                              - EPC

20.         LAWTON & YEO DESIGN ASSOCIATES PTE LTD                            - EPC

21.         ASPNETCENTRE PTE LTD

22.         HO LEE CONSTRUCTION PTE LTD

23.         DA VINCI COLLECTION PTE LTD

24.         SOILBUILD GROUP HOLDINGS LTD

25.         MP ASIA PTE LTD

26.         AGROCORP INTERNATIONAL PTE LTD                                           - EPC

27.         SINEXIMCO PTE LTD                                                                       - EPC

28.         EDGEMATRIX PTE LTD

29.         PCA TECHNOLOGY LIMITED

30.         SUM KEONG CONSTRUCTION PTE LTD                                          - EPC

31.         SPARKLEWOOD PRODUCTS PTE LTD                                              - EPC

32.         BENGAWAN SOLO PTE LTD                                                 - EPC

33.         CHESUYAN INTERIOR DESIGN & DECORATION PTE LTD

34.         PRECICON AUTOMATION (S) PTE LTD

35.         ALLIED TECHNOLOGIES (S) PTE LTD                                              - EPC

36.         WEE HUR CONSTRUCTION PTE LTD                                               - EPC

37.         ALTUS TECHNOLOGIES PTE LTD                                                    - EPC

38.         AIR MARKET EXPRESS (S) PTE LTD                                                - EPC

39.         INTEGRETED PRECISION ENGINEERING PTE LTD                         - EPC

40.         ACCORD EXPRESS HOLDINGS PTE LTD

41.         FUTURISTIC IMAGE BUILDER PTE LTD                                           - EPC

42.         STOVAL TECHNOLGIES PTE LTD

43.         KENYON ENGINEERING PTE LTD                                                    - EPC

44.         TECHNIQUES AIR-CONDITIONING & ENGINEERING PTE LTD       - EPC

45.         RAYCO TECHNOLOGIES PTE LTD                                                    - EPC

46.         MUN SIONG ENGINEERING PRIVATE LIMITED                               - EPC

47.         MEC INTERNATIONAL PTE LTD

48.         AUTOSCAN TECHNOLOGY PTE LTD                                                - EPC

49.         GOODRICH WALLCOVERINGS & CARPETS PTE LTD                      - EPC

50.         SOUTH ASIA TEXTILE INDUSTRIES PTE LTD