Essential reforms in pursuit of good governance

Friday, 16 October 2015 00:00 -     - {{hitsCtrl.values.hits}}

Separation of roles and avoidance of conflicts of interest in companies


Following are excerpts of an open letter written by good governance activist Chandra Jayaratne on the need for separation of roles and avoidance of conflicts to the Registrar of Companies and heads of and Board members of the Securities Exchange Commission of Sri Lanka, the Chairman and the Board of the Colombo Stock Exchange, the President and the Council of the Institute of Chartered Accountants of Sri Lanka, the President and the Council of the Institute of Chartered Corporate Secretaries of Sri Lanka, The Chairpersons of the Chambers of Commerce and Industry, and the Chairperson and the Council of the Sri Lanka Institute of Directors. It has been copied to President, Prime Minister, Finance Minister, Minister of Development Strategies and International Trade, Minister of Justice and Law Reforms, Minister of Industry and Commerce, Secretary to the Treasury, Central Bank Governor and Attorney General as well



I am sure that you no doubt acknowledge the principle, that effective separation of roles within a corporate entity is essential for good governance. The separation of roles within in entity must ensure

  •  independence, professional integrity, and due accountability led good governance  
  •  an operating environment where effective internal control and compliance led best practices of governance are in place, as a part of the core culture of the entity
  • that conflicts of interests and related party transactions are effectively managed 

Your kind attention is drawn to the undernoted provisions covering the appointment of auditors in terms of the Company Law applicablei in Sri Lanka;

  • In terms of Sections 156 and 157(1); A person or a partnership by the firm’s name shall not be appointed unless such person or partners of the firm are members of the Institute of Chartered Accountants or is a registered auditor.
  • In terms of Section 157(3); None of the following persons may be appointed or act as an auditor of a company;-

lA director or employee of the company

lA person who is a partner or in the employment of a director or employee of the company;

lA liquidator or an administrator or a person who is a receiver in respect of property of the company;

lA body corporate;

lA person who by virtue of above first three sub paragraphs may not be appointed or act as auditor of a related company

  • In terms of Section 157(4); A person who holds any office referred to in the first three sub paragraphs of the section 157(3) may not be appointed as an auditor of a company for a period of two years after such person has ceased to hold that office.
  • In terms of Section 162; An auditor shall in carrying out the duties of an auditor ensure that his judgment is not impaired by reason of any relationship with or interest in the company or any of its subsidiaries.
  • In terms of Section 163 (3)- The auditor of a company shall at the same time as he delivers his report to the company, deliver to the company a statement of

lThe existence of any relationship (other than that of auditor) which the auditor has with, or any interests which the auditor has in, the company or any of its subsidiaries; and

lThe amount payable by the company to the persons or firm holding office as auditor of the company as audit fees and expenses and as a separate item, any fees and expenses payable by the company for other services provided by that person or firm 

The role of a company secretary is describedii as follows;

lIf you accept appointment as a company secretary, you will become an officer of the company, sharing legal responsibilities with the directors for certain tasks required by the Companies Act

lSome people cannot be appointed as company secretary. These include: 

• The company’s auditor. 

• Undischarged bankrupts (unless given court leave).

lYou can use a professional chartered secretary, the company’s accountant (but not auditor), a solicitor or another provider of company administration services.

lAccording to the letter of the law, the job of company secretary in any company involves you in serious potential liabilities.

It is clear from the above that the Auditors cannot be engaged directly or indirectly as secretaries, liquidator, receiver or administrator and that it is the duty of the auditors to avoid direct or indirect conflicts of interests in accepting any other assignments, especially in engaging as tax advisors, providing advisory/consultancy services, writing up books and finalising accounts, internal audits, registrars services, payroll services, etc. The auditors are also bound by section 163 (3) to deliver a specific report along with the audit report.

It is commonly believed that the above commitments are sometimes directly violated, and in other instances not strictly practiced by many of the auditors operating in Sri Lanka, whilst some others serving as auditors openly provide secretarial and other services, using independently held companies, which are operated under their control and management of the audit partners and sometimes even brazenly share common office spaces and common services. 

It is also believed that in many of the serious financial crimes now under investigation by the law enforcement officials the above violations, indirect services provisions and providing such services (such as being the Secretary of the company)under cover of independent entities, with such entities being  effectively under the control and management of the auditors. These unlawful/unacceptable practices have led to operating environments supportive of serious crimes being committed and remaining undetected.

It is evident that persons who have failed to strictly comply with the letter and spirit of the statutory and regulatory compliance requirements have not been subjected to penal sanctions by the relevant professional institutes.

In the light of the above, it is strongly  recommended that following a transparent joint strategic reviews and effective assessment of the state of affairs, collective reform measures recommended below, be put in place as a matter of urgent priority;

1.Institute of Chartered Accountants of Sri Lanka to enact bylaws that strictly prohibit any practicing member or member firms from directly or indirectly having any connections, interests or even related party interests in companies engaging in services that contravene the provisions of sections 157(3) and (4)

2.Institute of Chartered Accountants of Sri Lanka to enact bylaws that strictly require practicing member or member firms to comply with provisions of sections 162 and 163 (3)

3.Institute of Chartered Accountants of Sri Lanka and to enact bylaws that require strict penal action against any member or member firms found to directly or indirectly violate above bylaws

4.The Registrar of Companies to amend the Annual Return format to require that the companies file a sworn affidavit executed by the auditors of their compliance with sections 157 (3) and (4) as well as section 162 and also to file a copy of the statement delivered in terms of 163(3)

5.The Registrar of Companies to require the Directors and Company Secretary to file along with the annual return a sworn affidavit that the operations and management of the company have been in due compliance with the provisions of the companies and all other applicable statutory and regulatory compliance requirements 

6.The Securities and Exchange Commission and the Colombo Stock Exchange to update its Code of best practices on Corporate  Governance tightening compliance process

7.The Chambers of Commerce, the  Institute of Chartered Corporate Secretaries and the Sri Lanka Institute of Directors  to update and tighten all applicable compliance requirements and processes and also codes of conduct and ethics and consequential enforcement action against errant member firms and directors reported to have violated these requirements

8.Media to support collective awareness enhancing initiatives, media communications and in empowering the stakeholders to demand the enforcement of these compliance requirements ;

9.Associated naming and shaming will be an effective deterrent to the continuation of unacceptable governance failures.

I trust that the collective self governance recommendations made above will significantly improve the overall governance framework.


i Companies Act No.7 of 2007