Unaccountable 00028- PwC and Nkonki: The Auditor’s who Clipped SAA’s Wings
By Michael Marchant for Open Secrets | 27 July 2021
The ‘Big Four’ audit firms — Deloitte, EY, KPMG and PwC — all play a systemic role in economic crimes and State Capture. The evidence suggests that these firms have prioritised profit over professional duties and the law. In July 2020, Open Secrets released the latest ‘Corporations and Economic Crime Report Volume 2: The Auditors’ — draws on information from Open Secrets’ investigations and publicly available information to illustrate the crisis faced by the auditing industry and how this impacts on the public. We have written about Deloitte, PwC and EY in past installments of Unaccountable. This week we turn to PwC and Nkonki, the auditors that repeatedly gave SAA a clean bill of health while fraud and corruption soared.
For more than a decade, South African Airways (SAA) has been a drain on an already strained public purse, while systemic corruption and mismanagement has hollowed out the state-owned airline. Public ire has rightly been directed at Dudu Myeni and other directors who oversaw the long-term decline of SAA. Yet what of the auditors that cashed in on contracts while turning a blind eye to malfeasance?
Counting the cost of the destruction of SAA
Corruption and mismanagement at SAA have cost SAA employees and the broader public dearly. The state has spent more than R50-billion on bailouts to SAA since 2008. Treasury told Parliament bluntly in 2021 that “the value from this contribution has not been seen”. Many of the recent bailouts have been made in the context of a reduction in spending on essential public services.
Earlier this year, the government passed an austerity budget that demanded real-term cuts to spending on healthcare and social assistance. It later suspended the payment of the R350 Covid-19 social relief of distress (SRD) grant, while admitting that this would inevitably lead to increased hunger for many South Africans. Despite this, there was still R10.5-billion to be found to bail out SAA. President Cyril Ramaphosa finally announced the reinstatement of the SRD grant on 25 July 2021 following tireless campaigning by civil society, to ensure this vital if inadequate social relief is provided.
SAA’s employees have also been deserted and deeply affected by the collapse of the airline. After the entity was placed under business rescue, it was announced that around two thirds of all employees — 2,700 people — would be retrenched. Both the retrenched employees and those still working at SAA have been engaged in a long-running battle to be paid overdue salaries and retrenchment packages, with a settlement with SAA’s pilots only being finalised this month. Many employees have lost their homes and savings due to the failure to pay them what was owed.
While government demands austerity, SAA has been given many lifelines. In June 2021, just months after SAA emerged from 18 months under business rescue, the government controversially announced that it was finally selling a 51% stake in SAA to private buyers. The Takatso Consortium, consisting of Harith General Partners and Global Airways, will pay just R3-billion for the majority stake, enough for the airline to operate for between one and three years while they seek to make it profitable. Despite the proposed sale, which is still subject to final due diligence by both the Consortium and the Department of Public Enterprises, there remains uncertainty around the airline’s long-term viability and further investment is needed. Crucially, the state remains on the hook for all “legacy issues”, including the airline’s debt and ongoing settlement negotiations with pilots and other staff, many of whom have gone unpaid for years.
The rot starts at the top
By far the most important variable in SAA’s collapse was a systematic breakdown of internal and external controls on transparent and lawful procurement systems at the airline. This was condoned and overseen by executive management, and the central character in this regard was Duduzile Myeni. Myeni sat on SAA’s board from 2009 to 2017 and was either an acting or permanent chair of the board between 2012 and 2017.
In 2020, in response to an application by civil society organisation Outa and the South African Airways Pilots Association (Saapa), the high court declared Myeni a delinquent director and ordered that she could never again hold a directorship. The court agreed that Myeni had engaged in dishonest conduct at SAA that amounted to a wilful and grossly negligent breach of her fiduciary duties as a director.
Myeni unilaterally and deliberately undermined two crucial SAA contracts, one with Emirates and the other with Airbus, lying to the contracting partners and the minister of finance in the process and completely disregarding the provisions of South Africa’s public procurement and governance law — the Public Finance Management Act (PFMA). The court held that Myeni was a “director gone rogue” whose conduct had done “immense harm to SAA and the country”.
Under this leadership, it is little surprise that disregard for procurement law and internal controls became the norm. The Special Investigating Unit (SIU) is currently undertaking forensic investigations into a range of allegations of corruption at SAA. In its most recent report to Parliament, it said that investigations into more than 100 procurement contracts had revealed inflated pricing; fronting; conflicts of interest on the part of SAA staff; fictitious vendors; fictitious work orders; fictitious bank accounts; overpayments; non-delivery; non-performance and no value for money. Much of this conduct was criminal and has been referred to the NPA for prosecution, and the SIU hopes to recover up to R300-million.
So where were the auditors?
One of the most important tasks of an auditor is to identify the highest risk areas for the entity they are auditing. In the case of SAA, the nature of its business meant that most of its annual budget was spent on procurement — nearly R25-billion per year. Any deficiencies and malfeasance in the procurement process — such as the inflated pricing, overpayment and non-delivery identified by the SIU — posed a very high and material risk to the business. This fact should have been flagged and resulted in greater scrutiny by both SAA’s internal and external auditors, but this did not happen.
PwC and Nkonki jointly took over the external audit function at SAA from Deloitte in 2012 and remained the auditors until the Auditor-General (AG) took over the function in 2017 when the airline was in crisis. Their appointment as auditors from 2013 to 2016 was itself irregular expenditure by SAA as it did not follow any proper procurement process.
Their period as the external auditors coincided almost precisely with Myeni’s time as the permanent chairperson of the board, and the malfeasance that took place under her watch. Despite this, the auditors signed off SAA’s financial statements without qualification or concern every year during this period. They did not report any failures to comply with procurement law or raise any red flags about SAA’s internal controls or their financial statements.
When the AG took over the audit function in 2017, it quickly became apparent that these clean audit opinions were the result of very serious audit failures. The AG issued a qualified opinion on the 2017 SAA financial statements. This is done when there are material misstatements in the financial statements, or the entity has not provided the auditors with enough evidence.
In this case, SAA had misrepresented its financial position by including assets whose existence could not be verified, misreporting inventory and the costs of maintenance, and failing to properly account for the impairment of assets. It concluded that the previous auditors had failed to identify eight major misstatements and that SAA’s board was clearly in breach of several requirements in the PFMA. This included that the SAA group “did not establish adequate controls to maintain complete records of irregular expenditure” despite this being a requirement of the PFMA.
These errors from the auditors are difficult to explain. From 2014 to 2016, the PwC auditor responsible for the SAA audit was Pule Mothibe, a director at the firm since 2002. The Nkonki auditor on the SAA audit from 2014 to 2016 was Thuto Masasa. Masasa was also a partner at Nkonki and was the head of audit from 2016 until it closed in 2018. Both Mothibe and Masasa came with a wealth of audit experience and enjoyed senior roles at their firms, which makes their errors even more inexplicable.
When he appeared at the Zondo commission, it was put to Mothibe that this conduct constituted a dereliction of duty, but he insisted on calling it an “omission”. Mothibe admitted that they had identified the failures to comply with the PFMA and alerted the audit committee, but was forced to admit that they should have reported these failures in the annual report. Mothibe told Judge Zondo that this had been an “error in judgment”. It is hard to reconcile such an error with Mothibe’s decades of experience and senior position at PwC.
Subsequent investigations by the Independent Regulatory Board for Auditors (the IRBA) have confirmed that these serious auditing errors were evident in 2014, 2015 and 2016. Mothibe and Masasa settled these matters by consent order, the most common way such complaints are dealt with at the IRBA. Nonetheless, the IRBA confirmed that Mothibe and Masasa had, in every audit from 2014 to 2016, “failed to disclose material non-compliance with legislation”, failed to report on serious internal control deficiencies within SAA, and “failed to obtain sufficient appropriate audit evidence relating to… irregular expenditure and fruitless and wasteful expenditure”. The investigation also found additional audit failures in the 2016 financial year, including a failure to document their work and a failure to show the required “professional scepticism” expected of an auditor.
They knew, but said nothing
It is particularly disturbing that the audit failures in the SAA case occurred, not due to the executive management pulling the wool over the auditors’ eyes, but rather due to the auditors failing to report irregularities that were conspicuous and known to them. As indicated, Mothibe admitted to the Zondo commission that they were aware of SAA’s failure to comply with the PFMA but made an “error” in not disclosing this in their audit report.
The same is true for their failure, as determined by the IRBA, to report the glaring internal control deficiencies within SAA’s governance systems. In its 2011 audit, SAA’s previous auditor Deloitte stated that they had observed serious “control deficiencies”, particularly with regards to procurement and contract management. Because of this, they could not establish that the company was compliant with the PFMA.
In the Corporations and Economic Crime Report Volume 2: The Auditors, Open Secrets explained how these internal problems must have been known to the new auditors from PwC and Nkonki. In 2014, SAA obtained an independent review of their internal audit function by a company called Outsourced Risk and Compliance Assessment (Orca). The findings revealed a completely inadequate and chaotic internal audit system. Among the most serious findings were that many of the audit notes were handwritten and never digitised, that audit papers were often unsigned and not dated, and that audit papers were not archived properly and could be accessed and changed without people’s knowledge.
These findings were presented to SAA’s audit and risk committee and the chief audit executive admitted that the audit working papers were completely inadequate in 2011, 2012, 2013 and 2014, which caused him to go back and re-write scattered handwritten papers. As the external auditors, PwC and Nkonki would have taken part in this meeting or at least received the full details of it, and thus must have been aware of these problems. Despite this, none of the audit reports from 2014 to 2016 ever reported any concerns about the state of the internal audit processes.
Auditors get a slap on the wrists, and the public picks up the tab
The consequences of repeated audit failure over several years were serious. The state kept bailing out the airline with public funds, and creditors kept on lending, while glaring errors in the financial statements and continued failures to comply with the law were ignored by the auditors and excluded from their reports.
The auditors’ settlement agreements with the IRBA included an agreement to pay fines. Despite the serious and repeated errors, each auditor received less than R1-million in total fines for all errors. In contrast, it is estimated that PwC and Nkonki received up to R90-million in fees from their work at SAA. It is hard to see how the firms can justify the retention of any of these fees given the quality of their work at SAA. It surely would have been appropriate for those fees to be paid back and used to pay the salaries of SAA employees left stranded when the airline was placed into business rescue.
Apart from the inadequate fines, there have been no other consequences for the auditors or their firms. In fact, because the matters were settled by consent order, the IRBA’s quarterly newsletter published just half a page on the entire case. It confirmed that the auditors in question were found guilty on four charges and explained what the charges were. The report did not even indicate which firms the auditors belong to, nor that the entity was indeed SAA. There was also no attempt to provide a detailed explanation of the IRBA’s investigation or why the failures occurred. The entire approach is indicative of a desire to protect the reputations of auditors and audit firms, rather than the public from the costs of audit failure.
It is this kind of soft-touch regulation that allowed PwC to go on record afterwards to say that while it was disappointed about the audit, the findings did not indicate any kind of “ethical breach” in the audit failure. As pointed out by journalist Ann Crotty, this seems to reflect a view within PwC that a persistent failure to do a job for which the firm is paid lucrative fees does not have ethical implications. Indeed, that appears to be the view of most audit firms, banks and other corporations implicated in enabling or participating in State Capture and corruption in exchange for lucrative fees.
Real accountability — for all
The public is still eager to see genuine accountability for those implicated in State Capture, as well as the return of illicit proceeds from corrupt and tainted contracts. There are important green shoots in this regard when we consider the arrests and corruption charges instituted against key individuals and officials alleged to have played a role in the Guptas’ Estina dairy farm heist. Yet accountability will be incomplete without a proper reckoning for the corporate enablers of this era of State Capture.
We cannot leave corporate accountability to soft-touch regulators and sweetheart settlements. Instead, proper punitive and remedial measures that will discourage recurrence of the same conduct are essential. The full repayment of all fees and interest thereon is just the start. There must also be real justice, meted out without fear or favour, to corporations and their executives alike.
Unaccountable. We have not forgotten.