INSIDE FINANCE: What About the Auditors? They Said Banks Were OK

Among various aspects of the Russian banking crisis, one has gone largely unexplored. How could it happen that all the banks that collapsed in 1997 and in previous years had received the approval of their auditors? That is especially interesting considering that large banks mainly employed the Russian branches of the Big Six international auditing companies.


Many banks' problems stemmed from the government's Aug. 17 refusal to pay its debts. But plenty of banks went broke even before the debt default. Remember Imperial, Tokobank, Moscow National bank, Tveruniversalbank, Kredobank? Weren't they audited by Coopers & Lybrand, Price Waterhouse and others?


Tokobank's auditor, for example, confirmed the high quality of the bank's loan portfolio year after year. In the end, the portfolio turned out to consist mostly of bad loans. Moscow National Bank's auditor did not even notice the bank siphoning off budgetary funds on a massive scale.


All this is evidence of serious problems in the area of bank auditing. Apparently a bank's client or shareholder cannot trust the auditor's report because it fails to show conclusively that the bank's balance reflects its actual operations and its true financial state.


This is not a matter of the inadequacies of Russian accounting rules, which forced banks to write two sets of books, one to Russian and one to international standards. For all the above-mentioned banks, both sets were checked by the auditors. The problem is that the audits were clearly not thorough enough.


Auditors, including international ones, have been willing to compromise with bank managers, which is unacceptable by any international standards. Unfortunately, even the Central Bank managers do not understand that today. The Central Bank's ongoing attempts to replace its auditor with a more convenient one are evidence of that.


Two years ago, when picking an auditor for the Central Bank's 1996 books, the State Duma rejected Big Six companies. The rhetoric behind the rejection was all about supporting domestic companies and keeping the Central Bank's secrets out of the hands of foreign intelligence services. The so-called "closed" articles of the Central bank's balance were to be audited by the state Accounting Chamber.


All this came as a surprise to the Central Bank management then. Why trade world-renowned auditing experts, whose signatures on a bank balance confirmed its authenticity without a shadow of a doubt, for little-known local firms? But the Central Bank put up with it despite fears that Russian auditors, with their purely theoretical knowledge of professional ethics, would barge into those areas of the bank's life that are protected by law from their curious eyes. "Buy Russian" was a fashionable slogan then.


The Duma approved Russian firm Unicon as the Central Bank's 1996 auditor. The same company won the 1997 tender. But now, everything has changed. On Oct. 21, 1998, Central Bank chief Viktor Gerashchenko wrote a letter to State Duma Speaker Gennady Seleznyov asking that Coopers & Lybrand be appointed the Central bank's auditor.


Generally speaking, even commercial banks very rarely change auditors. If that happens, it means either that the bank has a serious problem with the auditor or that there is wrongdoing in the bank and the auditor won't close his eyes to it. Which is the case at the Central Bank?


As far as we know, the Central Bank has not publicly disclosed any problems with its previous auditor. One has to consider the second option. It appears as though Gerashchenko would very much like amore friendly company to conduct the audit. Coopers & Lybrand audited the Central Bank's annual report for 1994, the last year of massive loans to the Russian economy by Gerashchenko's Central Bank.


Gerashchenko's desire to see Coopers as his auditor is so great that he is willing to close his eyes on a number of technical problems with the company's license in Russia. There is, for example, the fact that after the federal law "On auditing certain kinds of activity" came into effect Oct. 3, 1998, the Central Bank lost the right to issue bank auditing licenses, and Coopers & Lybrand's license was issued only Oct. 27.


Besides, Coopers & Lybrand simply does not exist anymore - it has merged with Price Waterhouse.


But these technical difficulties aside, an immodest offer from a client such as the one Coopers received from Gerashchenko is a serious blow to a self-respecting audit firm's reputation. It would be logical to expect PricewaterhouseCoopers to preserve its good name by refusing to audit the Central Bank.