SMEs no longer required to produce annual audits

Small- to medium-enterprise companies (SMEs), the majority of which are privately owned or personal liability companies, are no longer required by law to produce an annual audit. The disadvantages of this choice may, however, outweigh the benefits.

This is a choice that could have far reaching consequences says Clive Noland, the Chairman of Nolands, an auditing firm with offices in Cape Town, Johannesburg, Durban and Bloemfontein.

“The audit is not simply a costly annual exercise that can now be cut from the budget. It is a crucial financial – and non-financial – platform on which a company can build to meet the challenges encountered as it grows and develops into a more complex organisation.”

The new Companies Act 2008 classifies companies as either profit or nonprofit companies. Profit companies are divided into four categories: private companies, personal liability companies, state owned companies and public companies.

According to the Act, only state-owned companies, public companies, and private companies deemed to be in the public interest are now required to be audited annually.

Other private companies and personal liability companies have the right to choose whether to have the company's annual financial statements audited or independently reviewed.

Many of the provisions of the new Companies Act, especially those dealing with private and personal liability companies, are intended to lower the regulatory burden and cost for SMEs in the belief that this will promote entrepreneurship.

Few would dispute the need to reduce red tape and regulatory requirements for SMEs in a growing economy, but certain checks and balances must remain in place to ensure that growing businesses establish sound management practices.

Clive Noland points out that the Act includes serious penalties for those found guilty of signing or agreeing to false or misleading financial statements or conducting company business in a reckless manner.

“Given the new responsibilities placed on directors, including directors of SMEs, it [the audit] may be the only safeguard should they be charged with breaches of the Companies Act.”

“The role of the audit is critical to guiding governance in smaller companies before they become economically significant, and in so doing helps to reduce the chance of the business failing,” says Clive.

“The audit has immediate benefits. Take the management letter: this identifies any processes or operational deficiencies requiring correction or improvement. And if the company is a potential candidate for external funding to facilitate expansion or a listing on the JSE, the annual audit is an imperative.”

In addition, he says, audits identify the essential outcomes and skills necessary for a company to grow and prosper in the tough SME market.

Yes, it is true that should many of the SMEs choose to not be audited the auditing profession would feel the pinch, says Nolands. However, their business model is not predicated purely on auditing.

Most business people recognise that the audit enables you to improve control and decision-making within the company and reduce the risk of fraud. “More importantly,” says Clive, “the auditor gains an understanding of the business and provides objective input that, if used correctly, can help the company prosper.”

And that, of course, depends on whether the company makes the right choice.

Clive Noland is the Chairman of Nolands and qualified as a chartered accountant from the University of Cape Town where he later lectured in the Faculty of Commerce.