The decision to make half-yearly internal audits obligatory for stock broking houses spells doom for smaller firms that are already burdened with low-trading turnover, dipping revenues and increased policy levies. According to a section of brokers, half-yearly internal audits will not only be difficult to implement, but also make a dent in their earnings kitty.  

Market regulator Sebi has recently directed brokers to carry out a complete internal audit on a half-yearly basis by independent qualified chartered accountants.

If chartered accountants are to be believed, the audit will be more of a check on aspects relating to internal control system, risk management, KYC requirements and adherence to relevant Sebi laws.

Transaction-based checks on broker’s books will not be possible, accountants opined.

“Smaller brokers are already reeling under increased levies like short-term capital gains tax (STCG) and securities transaction tax (STT); day-traders are not in the market at all. Retail investors are moving away to brokerages that are charging lesser charges.

At such times, spending a couple of lakhs on accountants would be bit of a difficult proposition,” said a Mumbai-based broker. Half-yearly auditing charges would range anywhere between Rs 2
lakh and Rs 40 lakh per audit, depending on the size of the brokerage and the stature of the chartered accounting firm.

Established brokers (the major ones) are of the opinion that if the nature of transactions are not scrutinised, the purpose of half-yearly audits will not yield desired results. The auditors will also have to evaluate risk-management processes, mark-to-market margin levels and cash and trading account balances to yield good results.

There should be set rules to audit the books of franchisees as well. If only checks are done at the corporate level, brokers should not be held responsible for flaws on the franchisees’ part, they opined.

The decision to make internal audits obligatory comes at a time when brokerages are recovering from the ‘uncovered debits’ they have been saddled with, following the market meltdown in January. During the fag end of the Bull Run, brokers had allowed client funding without collateral backing.

As a result of this, several brokers had to write off a few crores in their balance sheets because of such transactions.

“Audits should be broad-based in nature; It should look into every functional aspect of the brokerage. If done properly, brokers will be able to negate risk to a greater extent. Investor confidence will also increase if audits are conducted regularly,” said RSM Astute Group founder and chartered accountant Suresh Surana.

Internal audits were not considered mandatory as most players in the broking space were not corporate entities. For corporate entities, internal audits were required under CARO (company audit report order), which is a simple requirement without any specific scope and methodology. Stock exchanges held random audits every year through a panel of CAs.

“Though it is a welcome move by the regulator, the six-month period for conducting internal audits appears to be a bit of a policing act,” said Walker, Chandiok & Co partner and audit head Khushroo Panthaky. “To derive full benefits, the audit should be centered on risk-based checks than transaction-based checks.

A large number of franchisee offices and huge trading volumes will make transaction-based checks very difficult; a risk-based approach to auditing is much better,” Mr. Panthaky added.

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January 2021