In keeping with the principle of flexibility and simplicity, the new Companies Act has tried to provide as easy a regulatory system as possible for all companies.

However, greater burdens of regulation fall upon state-owned companies, public companies, and certain private companies that hold assets in a fiduciary capacity or that have a certain number of employees, turnover or level of debt. In other words, companies whose activities have a wider social and economic impact upon the public are subject to greater regulation than companies whose activities do not have such impact.

ln terms of the Companies Act, and the Regulations, this means, for example, that not all companies’ financial statements need to be audited, but will only be subject to an ‘independent review’, and some companies (basically ‘owner-managed’ private companies)  will not require either an audit or an independent review of their financial statements.

However when one reads the requirements of the new Companies Act relating to financial statements, it may well be argued that the audit requirement remains for all companies – even ‘owner-managed’ private companies – if those responsible for preparing, authorising, publishing or reviewing those statements are to comply with their statutory duties and not be held criminally or civilly liable in respect of the content of those financial statements.

Section 29: financial statements, requirements in terms of the Act

ln terms of section 29 (1) of the new Companies Act, if a company provides any financial statements to any person for any reason, the financial statements ‘must’ present fairly the state of affairs and business of the company and must explain the transactions and financial position of the business of the company. ‘Fair presentation’ is therefore a statutory requirement in terms of the new Act.

The question may very well be asked, is it possible to have some assurance as to whether or not there is ‘fair presentation’ if the financial statements have not been subject to an audit?

The need to ask this question is reinforced when the nature and usefulness (or otherwise) of a so-called ‘independent review’ is looked at. And then it must be remembered that ‘owner-managed’ private companies neither need an audit nor an independent review. Even with an ‘independent review’ it may be argued that there is no assurance as to compliance with the statutory requirement of ‘fair presentation’, and in the absence of both an audit and an independent review, the argument for non-compliance is even stronger.

Section 29 (2): financial statements must not be false or misleading

In addition to the ‘fair presentation’ requirement as required in section 29 (1), section 29 (2) of the new Act, this specifically provides that financial statements prepared by a company must not be false or misleading in any material respect, or incomplete in any material particular. If false or misleading information is given, the sanction is severe.

Once again it must be asked whether or not it can be said that financial statements are not la) false or lb) misleading if they have not been subject to an audit. ln my opinion, financial statements may very well be false or misleading if there has been no scrutiny of underlying internal control systems, actual transactions or accounting records and documents.

Section 29 (6): criminal activity

Section 29 (6) states that a person is guilty of an offence (i.e. criminal offence) if the person is “a party to the preparation, the approval, the dissemination or the publication of any financial statements ‘knowing’ that those statements do not materially comply with the requirements of the Act, or are materially false or misleading” Thus, for example, criminal activity takes place if a person prepares, approves, disseminates or publishes financial statements ‘knowing’ that there is no ‘fair presentation’, or if the financial statements are materially false or misleading. Directors of a company are most definitely “party to” the above and professional accountants and other advisors may likewise be party thereto, thus leaving both directors and practitioners open to criminal prosecution.

Whilst it could be argued that a person has to “know” about the contravention of the Act or “know” that the financial statements are false or misleading, it must be pointed out that the words “knowing”, “knowingly” or “knows” are defined in section 1 of the Act as follows: it means that the person either had actual knowledge of that matter, or was in a position in which the person reasonably ought to have had actual knowledge, or, secondly, ought to have investigated the matter to an extent that would have provided the person with actual knowledge; or, thirdly, ought to have taken other measures which, if taken, would reasonably be expected to have provided the person with actual knowledge of the matter.

Can a director of a company, or a professional person, honestly say that there is fair presentation, or that the financial statements are not materially false or misleading, if they have not been subject to an audit? An independent review does not involve an attest function or even a review of the internal controls of a company. It does not even involve an examination of a company’s underlying records to determine whether or not the financial statements are in agreement with those records. The usefulness of an independent review is certainly open to question. And an ‘owner-managed’ company does not even require an independent review, let alone an audit.

Section 77: personal liability of directors

In addition to the criminal sanction as described above, section 77 of the Companies Act provides that a director “is liable” to the company for any loss, damage or costs sustained by the company as a direct or indirect consequence of the director having signed, or consented to, or authorised the publication of a financial statement that was false or misleading in a material respect. Therefore, in addition to a criminal sanction imposed on any person who was party to a contravention of the Act in respect of the financial statements of a company, there is also personal liability for a director in the circumstances just described.

An audit

Subjecting the financial statements of companies to an audit is often a key tool used to protect stakeholders from potential harm caused by unreliable, inaccurate, unfair, misleading or dishonest information that could be contained in financial statements.

Section 1 of the Companies Act provides that the word ‘audit’ has the meaning that is set out in the Auditing Profession Act. ln the context of financial statements, “an audit” is defined as the examination of, in accordance with prescribed or applicable auditing standards, financial statements with the objective of expressing an opinion as to their fairness or compliance with an identified financial reporting framework and applicable statutory requirements. An auditor is obliged to give an opinion on the annual financial statements, and this opinion focuses on the fair presentation or otherwise of those financial statements, as well as on compliance with the provisions of the Companies Act.

Based on the points raised above, it is my opinion that the directors of a company, together with their professional advisors, would be well advised to preserve the audit requirement as provided for in the 1973 Companies Act. Failure to have the financial statements of a company audited may very well lead to substantial non-compliance with the statutory provisions of the new Companies Act, resulting in both criminal and civil consequences, and hardships for all those concerned.

Reference: Professor Walter Geach CA(SA)