Int'l auditors get bitter welcome<\/p>\n
By Andy Budiman<\/p>\n
JAKARTA (JP): International auditors assigned by Bank
\nIndonesia (BI) and the Indonesian Bank Restructuring Agency
\n(IBRA) to carry out the due diligence of banks in the country
\nhave been assailed with so many unkind remarks.<\/p>\n
Since the start of the implementation of the Agreed Upon Due
\nDiligence Procedure (ADDP), they have been condemned for having
\ndone a lousy job, not understanding the domestic banking
\nsituation and making the banks look so much worse than they
\nshould be.<\/p>\n
Actually, the auditors have been following the terms of
\nreference that were agreed upon and mandated by BI and IBRA, with
\nthe blessings of the Asian Development Bank (ADB), the
\nInternational Monetary Fund (IMF) as well as the World Bank.<\/p>\n
They simply did what they had been told, informed of and
\nbriefed upon. And that is the nature of ADDP -- a procedure that
\nis agreed and needed to be followed strictly, word for word. If
\nnot, they would not get paid for services rendered.<\/p>\n
And opening the Pandora's box, the so-called international
\nauditors also consist of local auditors -- those who know the
\nlanguage, culture, and business as well as the political climate
\nof Indonesia, those with many years of experience in banking,
\naccounting and bank auditing.<\/p>\n
So, if bankers have said that the auditors' judgment was
\nunsound because they did not know the actual situation, the
\nlanguage and the culture -- this would simply be like telling
\nthem that men have not stepped foot on the moon.<\/p>\n
Yes, the auditors did not account collateral value other than
\ncash, as instructed. It was certain that they simply applied a
\nmatrix drawn up by BI in determining the risk rating and
\nprovision of the customers of the banks.<\/p>\n
The matrix has many variables to be considered -- financial,
\neconomic, industrial, etc. So, it is not only delinquency that is
\nused to measure the risk rating of borrowers.<\/p>\n
It is true that judgment and interpretation of the new
\nregulations came into play, but as auditors, they have to be
\nconservative at all times.<\/p>\n
But, many things are crystal clear and yet bankers still want
\nto dispute them because they claim that they know more about the
\ncustomers and the situation compared to the international
\nauditors.<\/p>\n
The matrix accompanying this article can be used to make a
\ncomparison with a close to real life example.<\/p>\n
A borrower, with outstanding loans (unsecured) of Rp 20
\nbillion (around US$220,000), who has not made an interest payment
\nfor more than six months and has most recent financial statements
\ndated 1996, which indicated that at the time the loan was made
\ntheir debt to equity ratio was more than 10 times. This would
\nhave raised the alarm at that time.<\/p>\n
But, the bank simply kept the borrower on a \"Pass\" rating,
\nwith a provision for loan losses of 1 percent, since the borrower
\nalways paid interest on time.<\/p>\n
And now, two years down the road and the borrower has not paid
\na single rupiah in the past six months and with no means to
\nassess his financial conditions, but with only oral assurance
\nfrom the borrower that the loan will be repaid. Now, how does an
\nauditor expect to assess the risk that this borrower will not go
\ninto default?<\/p>\n
As there is only little evidence that the borrower could repay
\nthe loans, the auditor may conclude that the borrower will not be
\nable to repay his debt and the loan should be provided a loan
\nloss provision covering the whole amount. If he was able to keep
\npayments current, the loan would not have been delinquent and the
\nfinancial information would have been kept up to date. On the
\nother hand, bankers would be adamant in having the borrower
\nrated, at a maximum, as \"Special Mention\" with 5 percent
\nprovision or a slightly worse rating of \"Substandard\" with 5
\npercent provision, simply because the bank claims that the owner
\nhas a lot of money or they have promised to pay the loan by next
\nweek.<\/p>\n
However, it should be remembered that only cash can be used to
\nrepay the loan -- the first C in banking i.e. cash flows.<\/p>\n
If the situation is not as bad as the ADDP reports say, how
\ncould it happen that last year's audited financial statements,
\nwhich were audited by local accounting firms, did not reflect
\neven a scintilla of the problems that the reports indicate? This
\nassumption should be made without blaming the economic crisis
\nthat came so suddenly and caught every one off guard.<\/p>\n
If banks and their auditors were acting prudently and did
\ntheir jobs in a professional manner, problems would have surfaced
\nearlier. This is one of the reasons that international auditors
\nwere hired, simply because the integrity of the local public
\naccounting firms is being questioned. Even some of the big-named
\naccounting firms associated with well known international
\naccounting firms are simply known to be too close to clients
\nwhich discolor their independent judgment at the expense of the
\ninvesting public, uninformed shareholders and also the
\ngovernment. This situation continues in much the same way.<\/p>\n
In the extreme, the public shareholders should be encouraged
\nto bring these accounting firms to court as they may have misled
\nthe investing public by signing audited financial statements that
\ndo not reflect the true financial condition of these banks in the
\nprior years.<\/p>\n
Some publicly listed banks' audited financial statements for
\nthe year 1996 had been restated for no apparent reasons. Don't
\nthe investing public have the right to question their practices
\nrelated to the audited financial statements that had been
\nreleased months or years ago and are now being restated?<\/p>\n
That is simply an act of gross negligence on the auditor's
\npart. It is very unacceptable, unprofessional, misleading and
\nwould have caused a big court battle if it had happened in a
\ncountry like the United States.<\/p>\n
The international auditors believe that their reports reflect
\nthe true picture -- in accordance with the terms of reference --
\nof the financial conditions of the banks that went through the
\nexercise on that specific balance sheet date.<\/p>\n
In general, the majority of the banks would have to write off,
\nat least, 50 percent of their loan portfolios to make them
\nhealthy again. Some of them even have to write off a loan
\nportfolio close to 100 percent -- for some of these banks, the
\nADDP could have taken place two or three years ago and the result
\nwould have been the same.<\/p>\n
Bankers should wake up because the majority of their customers
\nwill not be able to repay their loans -- not in the next two or
\nthree years at minimum. They have to face this fact, as the
\nsituation is pretty bad, and their customers are unlikely to pay
\nthem back, even if they have personal liquid assets stashed
\nsomewhere in Switzerland (which, of course, they would not see on
\npaper).<\/p>\n
This is very problematic and is rooted in the culture of this
\ncountry. We tend to wait and wait and wait for things to get
\nbetter. Most of us tend to act like ostriches -- sticking our
\nheads in the sand and pretending that nothing is happening. It is
\nsimply human not to want to deal with problems that are in an
\nunchartered territory as well if we know for sure that we can not
\ndeal with them.<\/p>\n
The fact is, if nothing is done very quickly, worse will
\ncertainly happen soon. More monies will be needed to save the
\ncountry's banking industry or whatever is left of it.<\/p>\n
This is true, considering that the bulk of the ADDP was done
\nas of March 31, or June 30, 1998. As an example, if a bank was
\nrated a C as of March 31, 1998, new capital to the tune of Rp 250
\nbillion was needed to achieve a 4 percent capital adequacy ratio
\n(CAR), added to a net loss of Rp 20 billion.<\/p>\n
Then, as of Dec. 31, 1998, if the new capital has not been
\ninjected and the loss position is more than Rp 200 billion and
\nthe asset base has not changed a whole lot, how much more money
\nwill the Bank need to achieve a 4 percent CAR? The answer is a
\nlot more because the problem is at a dangerous level.<\/p>\n
Things have to move very quickly to save the banking industry.
\nThe prudent way is with international benchmarking as the
\nstandard, and leaving the old ways of doing businesses. This
\nwould go some of the way to saving the banks and letting them
\nhave a future.<\/p>\n
Indonesian banks cannot afford to be doing business in the old
\nway, breaking legal lending limits simply because other banks do
\nthe same thing, shifting related party loans to other financial
\ninstitutions at year end so that this will not be disclosed in
\nthe audited financial statements, or even risk sharing with the
\ndefault risk remaining with the original underwriter of loans.<\/p>\n
Banks are public depository institutions -- they serve the
\ninterests of the public. The banking industry has to be heavily
\nregulated and strictly monitored, so that all prudent regulations
\nand measures are strictly followed. The slightest infraction
\nshould be fully penalized to protect the public at large.<\/p>\n
The writer is an auditor of an international accounting firm.
\nThis article reflects his opinion, not necessarily of the firm
\nwhere he is currently employed.<\/p>",
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