The General Concept of Auditing in Ethiopia by Kasahun Gilo

1

Introduction

The term auditing has been defi ned by diff erent authorities. There is no universally accepted defi nition of auditing.

The process of auditing professionalization in Ethiopia appears to exhibit distinctPatterns during the three epochs when the state followed capitalist-oriented (pre 1974),Communist (1974 through to 1991), and then capitalist-oriented (1991 onwards) ideologies.

Auditors in Ethiopia are classified in to external (Independent) auditors which are performed by certified and authorized private auditors, internal auditors and government auditors.

The Commercial Code of Ethiopia contains articles that are related to the auditing practice in Ethiopia.

There are also different types of auditing in Ethiopia. These includes:-

Private (External) auditing, internal auditing,performance auditing,compliance auditing,Investigation auditing,project and contract auditing.

1

2

The Office of Auditor General Plays key roll including a development, management and administration of auditing in Ethiopia. It is the responsible organ for auditing in Ethiopia.

Generally,there are six pillars that make up a strong financial reporting infrastructure: statutory framework, profession and ethics, education and training, enforcement mechanisms, accounting standards, and auditing standards. However these pillars are not developed or implemented in Ethiopia resulting in week auditing system or status at all.

Auditing In Ethiopia

An overview

1. Historical Development and The General Concept of Auditing

1.1 Historical Development 0f AuditingThe term audit is derived from the Latin term ‘audire,’ which means tohear. In early days an auditor used to listen to the accounts read over byan accountant in order to check them Auditing is as old as accounting. Itwas in use in all ancient countries such as Mesopotamia, Greece, Egypt.Rome, U.K. and India.The original objective of auditing was to detect and prevent errors andfrauds.Auditing evolved and grew rapidly after the industrial revolution in the18th century with the growth of the joint stock companies the ownership andmanagement became separate. The shareholders whowere the owners needed a report from an independent expert on the accountsof the company managed by the board of directors who were the employees.The objective of audit shifted and audit was expected to ascertain whetherthe accounts were true and fair rather than detection of errors andfrauds.

With the increase in the size of the companies and the volume of transactions the main objective of audit shifted to ascertaining whether the accounts were true and fair rather than true and correct. Hence the

2

3

emphasis was not on arithmetical accuracy but on a fair representation of the financial efforts. The later developments in auditing pertain to the use of computers in accounting and auditing.In conclusion it can be said that auditing has come a long way from hearing of accounts to taking the help of computers to examine computerized accounts

1.2 The General Concept of Auditing

The term auditing has been defi ned by diff erent authorities

According to Spicer and Pegler: "Auditing is such an examination of booksof accounts and vouchers of business, as will enable the auditors to satisfy himself that the balance sheet is properly drawn up, so as to givea true and fair view of the state of affairs of the business and that the profit and loss account gives true and fair view of the profit/loss for the financial period, according to the best of information and explanationgiven to him and as shown by the books; and if not, in what respect he is not satisfied."

According to Prof. L.R.Dicksee. "Auditing is an examination of accounting records undertaken with a view to establish whether they correctly and completely reflect the transactions to which they relate.

2. Auditing in Ethiopia

2.1 Development of Auditing In Ethiopia

The process of auditing professionalization in Ethiopia appears to exhibit distinctPatterns during the three epochs when the state followed capitalist-oriented (pre 1974),Communist (1974 through to 1991), and then capitalist-oriented (1991 onwards) ideologies. This section examines the auditing professionalization processes in the Country during the past periods.

3

4

It is apparent from the foregoing quote that performance auditingin a rudimentary sensewas started for the government system of Ethiopia in the early 20th century explains that the contribution of foreign advisors to the kings of Ethiopia during the period from the 1890s throughto the 1970s led to the issuance of government regulations and proclamations. Some of the proclamations and regulations continueto define or at least strongly influence the legal basis of accounting and audit practice in Ethiopia to this date. Examples include the 1960 Commercial Code of Ethiopia (Government of Ethiopia 1960), the Audit Commission Proclamation of 1944 (which was the foundation for the Auditor General proclamation of 1961),and the Audit Service Corporation (ASC) Proclamation of 1977 (Government of Ethiopia 1977).

In discussing the contribution of foreign advisors to the development of accounting inEthiopia, Kinfu (1990) considers as initial contributions the role of consultants during theConstruction of the Ethio-Djibouti railway in the 1890s and of the legal, military, and foreign affairs advisers in the 1930s. The author then attributes developments of accounting from 1934 to the early-1970s to the Anglo-American legal and financial advisors to Emperor Haile Silassie I (1928-1974). The first substantial development during this period was the issuance of Ministry of Finance directives in 1942 (Argaw 2000a; Kinfu 1990; Kinfu, Negash & Merissa 1981). This was followed by the formationof the Audit Commission by Proclamation No. 69/1944 to undertake external audit of accounts of the Ministry of Finance (Governmentof Ethiopia 1944), which was subsequently mandated to conduct external audit of other budgetary institutions as well. This marks the start of today’s Office of the Federal Auditor General of Ethiopia (OFAG), which, amongst other duties, monitors and regulates the accounting and auditing profession in the country.

In about the same time frame, the Ethiopian Highway Authority andEthiopian Airlines

4

5

were established. In addition, the Ethiopian Telecommunications Corporation and the Ethiopian Electric Light and Power Authority became autonomous state-owned enterprises. These phenomena led toinvolvement of foreign companies as partners, financiers or consultants to the Ethiopian state-owned enterprises. Consequently, internal audit was introduced in these enterprises with a view to strengthening internal controls.As a consequence of the growth of demand for trained manpower in accounting andauditing up to the early-1940s, the Addis Ababa College of Commerce was established in 1943. The Colleges of Business were then established at Addis Ababa University in 1963 and Asmara University in 1969. These institutions have played essential rolein the development of the accounting and auditing profession in Ethiopia by producing trained manpower (Argaw 2000a; Kinfu 1990).

Other significant developments in the history of accounting and auditing in Ethiopia took place in the 1960s. Firstly, the Commercial Code of Ethiopia was proclaimed in 1960 (Government ofEthiopia 1960). This Code contains accounting and external auditing provisions, which still serve as the legal basis for financial reporting and external audit of companies (Argaw 2000a;Kinfu 1970; Kinfu, Negash & Merissa 1981; World Bank 2007). The code contains some requirements for financial accounting, reporting, and external auditing of companies that operate in Ethiopia. Limitations that possibly constrained the code’s contribution to the development of accounting and auditing in thenation include that it does not: (a) specify the accounting standards to be followed in financial reporting; (b) define the qualifications of an auditor; (c) require compliancewith professional standards on auditing; or (d) impose an audit requirement upon private limited companies with less than 20 members (World Bank 2007). The second development was the formation of the Office of the Auditor General (OAG) in 1961 by Proclamation 199/1961(Government of Ethiopia 1961). This proclamation accorded the OAG greater authority than was providedin the 1944 proclamation that established the Audit Commission (Argaw 2000a; Kinfu 1990). The proclamation has subsequently been

5

6

revised three times, in 1979, 1987 and 1997. The 1997 version of the proclamation is the legal basis for external audit for government organizations in Ethiopia to date of writing.

1974 – 1991Following a revolution, a military government with a communist ideology took power inEthiopia in 1974. Subsequently, private companies were nationalized and the number of state owned enterprises in the country increased. As a result of these changes, international public accounting firms, i.e., PriceWaterhouse Peat & Co. and Mann Judd & Co., closed their Ethiopian branches.

Nevertheless, formation of the Audit Service Corporation (ASC) (Government of Ethiopia 1977) to conduct external audit of publicenterprises was an important landmark in the history of accounting and auditing in this period.

This development was a result of the need to fill the gap createdby the closure ofinternational accounting firms. Furthermore, internal audit as a separate function appeared during this period (in 1987) when the Auditor General was mandated by Proclamation No. 13/1987 to monitor and regulate internal auditing in government offices and state-owned enterprises. This proclamation also gave the auditor general the authority to issue minimum requirements for recruitment of internal auditors, provide training to internal auditors, and require reports on internal audit of government organizations

As this period is generally considered as a time when the development of accounting and auditing was directly or indirectlyconstrained, limited achievements were made in terms of development of audit profession.

Post 1991Post 1991 was a period when Ethiopia shifted back to a free-market economic system

6

7

after being structured as a command economy for seventeen years. This shift led to a number of public enterprises being privatized. The resulting new corporate governance structure in the private sector would be expected to enhance the importance offinancial reporting and external auditing. Change of government and the type of government tendto be important influences on the development of the accounting and auditing profession in ethiopia.The free-market system has been considered as one of the signals of hope for a betterfuture for the accounting and auditing profession. Matching this expectation, the ethiopian government has been undertaking financial reforms in the areas of financial reporting and internal audit in the public sector.

3. Types of Audit and Auditors in Ethiopia

3.1 Types of Audit in Ethiopia

The Commercial Code of EthiopiaThe Commercial Code of Ethiopia contains articles that are related to the auditing practice in Ethiopia. The Commercial Codeof Ethiopia contains provisions requiring partnership and corporation (Share Company) to keep books and accounts, related to corporations specifically about appointment of auditors, competency of auditors, professional secrecy and liabilities of auditors. Furthermore, the code specifies persons who are founders and beneficiaries of a company or its subsidiary, persons related by blood to the fourth degree, or persons who receive remuneration from company founders it also states that directors are not to engage in auditing that company. (Principle of Independence)In addition, according to the code, an auditor is liable for breach of professional secrecy,for negligence in the performance of professional services, and for breach of contract.

7

8

According to the Commercial Code, auditors are liable to client and third party for lossesthey cause, for issuing inappropriate report, for failure to inform the law for any offencesthat they knew were committed by the client that affects the public.

3.2 Private (External) auditing in EthiopiaPrivate auditing practice was started with the opening of a branch office of Price Waterhouse Peat & Co. in Addis Ababa, following the establishment and growth of multinational British companies like A. Bessie & Co., Mitchell Cotts Ltd., and Shell; and the issuance of the cmmercial Code of Ethiopia in 1960. The demand for commercial audit has increased, as the Commercial Codeof Ethiopia required the multinational companies to present audited financial statements for renewal of trade license. The Office of Auditor General audits or causes to be audited the accounts of the Federal Government offices and organizations. On the other hand, the Audit Service Corporation provides auditing services to public enterprises.

The private businesses also need audited financial statements forvarious purposes such as for bank loan and for tax purposes. Thus, private auditing firms provide auditing, accounting services, tax services, and management advisory services on fee basis primarily to the private businesses. The type of audit conducted by private auditing firms is financial statement audit.You can open a private auditing firm and provide auditing services to the public if you meet the requirements of the Officeof Auditor General. The Office of Auditor General issues license to private auditors.

3.3 PERFORMANCE AUDIT

In Ethiopia performance audit is mostly done in governmental organizations by both internal and external private auditors. However some private

8

9

organizations and nongovernmental organizations also employ external and internal auditors and undertakes performance audit. In Ethiopia it is the least developed type of audit. In Ethiopia there is no law which enforces privately owned organizations to undertake performance audit.

3.4 compliance Audit

Compliance Audit in Ethiopia mostly focuses on tax audit done by tax auditors of Ethiopian government.

A tax audit is a systematic examination of business`s relevant commercial system to determine whether a taxpayer’s declaration states the tax liability correctly and complying with the provisions of the tax laws and related subsidiary legislations. Auditing involves examination of financial statements, books of accounts and vouchers of a taxpayer by Tax Auditors so as to ascertainwhether the taxpayer has accurately considered revenues and expenses when determining the taxes shown in the declarations as per the requirements of the tax laws. It also involves other approaches such as observation of premises, direct monitoring of receipts in cash businesses, use of mark-up techniques and analysis of key ratios.

The overall objective is to improve the compliance of taxpayers, whether they declare the correct amount of tax and paid at the right time. The expectation bya taxpayer of an audit should have a deterrent effect and encourage the taxpayer to declare as far as possible a credible tax return. It also improves the taxpayer’s understanding and awareness of the relevant taxes.

4. Types of Auditors in Ethiopia

4.1 internal Auditors

The history of the development of internal auditing in Ethiopia dates back to about themiddle of the 1940s just about the time when internal audit was evolving as an organized profession in the Untied States. Internal audit in Ethiopia, had its early legislative root in theConstitution of 1923 which authorized the establishment of an “Audit Commission” (Articles 34); and the Audit Commission itself

9

10

was established much later by Proclamation 69/1944 to audit the accounts of the Ministry of Finance.The same Proclamation mandated the then Ministry of Finance to audit other budgetary institutions as a measure of internal control over the financial operations of the budgetary institutions. It appears that this early practice of internal auditing as per Procl. 69/1944 was, in fact, to be the root of what the Inspection Department of the Ministry of Finance and Economic Development (MoFED) continued to perform to this day, until the recent reorganization.The latter part of the 1940s witnessed the establishment of internal audit functions inkey public sector institutions such as the national defense, education, roadconstruction, and other non-budgetary public sectors, which included the EthiopianAirlines, Telecommunication and the financial sector consisting of the modern layer ofthe Ethiopian economy. These institutions in one way or the otherhad external linksor financing operations, which created awareness of the need for internal controls tosectarian appropriate financial management and to safeguard organizational assets.The period of the early 1950s, marked the introduction of a budgetary system ingovernment. The commencement of an annual public budget in 1955 for the first timein the history of the country ushered in a system of financial administration based onthe annual budget with all its attendant requirements for strengthened internal controlin the budgetary agencies. This entailed the formation of internal audit as an integralapart of the budgetary internal control system.The establishment at the time of the Addis Ababa Commercial School and the AddisAbaba University College supplied with limited but better informed manpower, for

10

11

some key institutions in the economy.

4.2 Current status of Internal Auditing In Ethiopia The Scope and Practice of Internal Auditing in EthiopiaIn order to assess the state of internal auditing in the country as a basis for furtheraction to strengthen the function, a survey was conducted by the Office of the AuditorGeneral in 1991. The main purposes were to determine the service quality, methodology and educational and skill content as well asorganizational structure of internal auditing. The survey was carried out by means of questionnaires developed by an ad hoc committee.Although the questions were widely distributed the analysis was based on the 362responses obtained from 312 different ministries, government departments and 50public enterprises. In other words, 86% of the responses were obtained from publicbodies.The survey indicated that there was a serious lack of internal audit education andtraining. An accounting background has been seen as the most important requirementfor entry into the internal auditing work. Such a requirement, however, does notprovide internal auditors with the knowledge of adequate analytical tools necessary forcarrying out their professional responsibilities. Hence the findings of the survey at thetime indicated that the scope and professional content of internal auditing work wasseverely limited to:1 Low-level financial and compliance audits,2 Pre-audit3 Non-audit work such as witnessing the hand-over of stores, cashandpersonnel transfers

11

12

The prevalence of such limited scope of work of internal auditingwas attributed to anumber factors, which included:1 The low level education, training and experience of internal auditors2 The lack of management awareness about the functions and contributions ofinternal auditing3 The prevalence of weak internal control systems in organizations in whichinternal audit is an integral part.4 The absence of a professional organization to cater for the professional development of internal auditing in the country for a long time.Presently, Government has taken the initiative to improve upon some of the aboveenumerated weaknesses and to reorganize and strengthen the internal auditing practiceboth in public bodies and fully and/or partially Government ownedenterprises; to thiseffect, not only did Government provide for the necessary legislative framework by theFinancial Administration Proclamation of the Federal Government (Proclamation57/1996) and the Council of Ministers Regulation (Regulation No. 17/1997) as well asdirectives issued by MoFED but also taking measures to reorganizeand strengtheninternal auditing in these organizations.Need to Adopt the Professional Practice Framework of the Institute of Internal Auditors (IIA)1 The framework consists of a common body of knowledge most thoroughly researched, authoritative and globally accepted for the training and practice of internal auditing.

3. Internal Audit studies, qualification exams are based on the contents of this Framework and this would assist Ethiopian candidates to familiarize themselves with the basic materials.

12

13

4. The Framework is made up of best practice guides for modernday internal auditing profession and it is expected that any development and modernization of internal auditing

Internal auditor is employees of the companies they audit. This type of auditors involved in an independent appraisal activity, often known as internal auditing within an organization as a serviceto the organization. The objective of internal auditing is to assist the management of the organization in the effective discharge of its responsibilities. The attainment of this overall objective involves such activities as:

Reviewing and appraising the soundness, adequacy, and application of accounting, financial, and otheroperating control at a reasonable cost.

Ascertaining the excellent of compliance with established policies, plans and procedures,

Ascertaining the extent to which company assets areaccounted for and safeguarded from losses of all kinds:

Ascertaining the reliability of management data developed writhen the organizations:

Appraising the quality of performance in completing assigned responsibilities;

Recommending operating improvements; The scope of the internal audit function extends to

all of the organization’s activities (Internal

13

14

auditors are primarily involved in compliance and operational audits).

4.4 Governmental Auditors

Government auditors are employed by various local, state, and federal governmental agencies. At the federal level, the three primary agencies are the Office of Auditor General, the audit service corporation, and the federal Inland Revenue authority. The office of Auditor General is a federal organizationheaded by the auditor general. This office is responsible for conducting financial statement audit, compliance audit and operational audit of various Federal Government offices. The regional governments have also their own regional audit bureau with similar functions.

The Federal Inland Revenue Authority is responsible foradministering the federal tax laws. Thus, the authority’s auditors audit the returns of taxpayers forcompliance with applicable tax laws. That is, the auditors examine the tax returns of the taxpayer to ensure that it is prepared in accordance with the tax laws and regulations. The authority’s auditors are known as tax auditors.

Another government organ that performs audit is the audit Service Corporation. The Audit services corporation audits the financial statements of the public enterprises. Thus, the type of audit performed

14

15

by the audit service corporation is financial statementaudit.

Governmental Units that provides auditing service in Ethiopia includes

4.4.1 The Office of Auditor GeneralIn 1942, a financial regulation was issued prescribing modern financial and accountingresponsibilities of government ministries and control, and audit of government receiptsand payments including budgeting. Subsequent to this requirement,the audit and controldepartment was established by proclamation 69/1946, under the Prime Minister headedby the Auditor General.In 1958, a separate Auditor General's Office was established. This proclamation toestablish the Auditor General's Office has been revised continuously with the change ingovernment the last one being the 1997 proclamation. According tothe proclamationNumber 68/1997, the Office of the Auditor General is established has the followingobjectives:. Strengthen an audit system required for reliable information necessary for the proper management and administration of the plans and budget of the Federal Government.. Ascertain that all receivable money and property of the FederalGovernment are allocated, preserved and used properly in accordance with the laws and the regulations of the Federal Government, and report same to the council; . Undertake financial and performance audits of the offices and organizations of the Federal Government;. Make efforts, in cooperation with concerned organs, to promote and strengthen accounting and audit profession;

15

16

. Give professional assistance and advice to Regional and Federalcivil servants and organizations engaged in accounting and auditprofessions. Draw up a standard of auditing by which accounts of the officesand organizations of the Federal Government shall be examined andfollow up the implementation of same. The Federal Auditor Generalis appointed by the Council of People’s Representatives upon recommendation of the Prime Minister. The Deputy Auditor General is also appointed through the same procedure (Art 5).The Federal Auditor General is accountable to the Council of the Peoples’ Representatives, and between sessions, shall be accountable to the President of the Federal Republic. Each regional state has also its own Audit Bureau with functions similar to those of the Federal Office of Auditor General. According to Art 7 of proclamation Number 68 of 1997, the FederalOffice of the AuditorGeneral has the following authorities and duties:. Audit or cause to be audited the accounts of the Federal Government offices and organizations;. Audit or cause to be audited accounts involving budgetary subsidies and any special grants extended by the Federal Government to Regional Governments; . Audit the accounts of private contractors relating to the Federal Government contractual work, which involves a sum exceeding Birr 500,000 (Birr five hundred thousand);. Carry out or cause to carry out as may be necessary program and efficiency audit or performance audit in order to ensure that the performance of FederalGovernment offices and organizations is in accordance with the law, economically sound, and has attained the desired objectives;. Report audit findings to the head if the audited Federal Government office and organization, as the case may be, the result of the audits performed in accordance with sub- articles, (1), (2), (3), and (4) of this article, the result of the audits performed shall be immediately submitted to the Council of the Peoples’ Representatives, where it indicates the commission of crime;. Issue directives, in cooperation with other offices concerned, regarding accounts and property auditing procedures and standards;

16

17

. Issue certificates of competence to internal auditors to be employed by anyFederal Government offices and organizations;. Where it deems it necessary, require internal auditors of any Federal Government offices to audit the accounts and property of their offices and report the findings;. Where it deems it necessary, train internal auditors in cooperation with concerned organs;. Where it has to believe that any account has been kept in a criminal and dishonest manner, impound such books, documents, ledgers, vouchers and other materials related to such account;. Give necessary advice on the financial and accounting regulations to be prepared by the Ministry of Finance.. Make efforts in cooperation with other concerned government offices with a view to promoting the accounting and auditing profession, take appropriate measures to ensure that the development of the accounting and auditing profession of the federal government is in the right direction;. Maintain a close contact and cooperation with the audit and control offices of regional governments with a view to enhancing the development of auditing;. Issue, renew, suspend, and cancel certificates of competence ofprivate auditors and accountants who provide auditing and accounting services.. Charges fee for the issuance and renewal of such certificates in accordance with regulations issued by the Council of Peoples’ Representatives;The Office of the Auditor General performs financial, program, regulatory and efficiencyaudit. Both are statutory audits. Audits conducted by the Office of Auditor General do nothave the same objective as audits conducted by private audit firms. This can be clearlyunderstood from the following brief objective of the audit conducted by the Office of theAuditor General.The main objective of audit of Office of the Auditor General is to conduct operationaland compliance audit.

17

18

The auditors of the Office of Auditor General perform their duties in accordance withinternational auditing standards and according to the financial audit manual prepared bythe office. In the following paragraphs you will see the professional standards followedby the auditors of the Office of the Auditor General. The commercial type accounts should be prepared in accordance with the commercial accounting standards.These standards include going concern concept, the accrual concept, the consistencywith the government accounting standards. These standards focus on the principle ofaccountability based on budgetary appropriations.One of the auditor’s responsibilities in auditing either the commercial type entities or thecentral government accounts would be to ensure that the financialstatements are preparedin accordance with the accounting standards discussed above.All audit staff engaged in Office of Auditor General (OAG) auditsare required to plan,control and record their work. Moreover, auditors have to evaluate the internal controlsystem of the client to determine the extent of reliance they could place on such internalcontrols. To arrive at reasonable conclusion, the OFAG also requires auditors to gathersufficient, relevant and reliable audit evidence using various techniques including reviewof financial statements.The OAG requires all auditors to be professionally independent, to possess the professional knowledge, skills and discipline necessary for the proper performance of audit. The standards of due care and professional secrecy or confidentiality are also included in the ethical standards of Office of Auditor General (OFAG).The ethical standard of OFAG indicates that auditors should have good communication skills. This helps the auditors to gather evidence tactfully and communicate findings effectively.

18

19

Moreover, auditors should conduct themselves at all time in a manner consistent with the good reputation of the profession. 4.4.2 The Audit Service CorporationAs stated earlier the Office of the Auditor General was given thesole responsibility toaudit or cause to be audited all the government enterprises. However, the small number oftrained manpower, especially after the 1974 revolution, when the Ethiopian governmentnationalized a number of private enterprises, the office could not satisfy the need foraudit with in the country. Thus, there was a need to establish a semi-independent auditservices corporation under the aegis of the Auditor General. Therefore, the Audit ServiceCorporation was established in 1977 pursuant to Proclamation 126/1977. According to Proclamation 126/1977, the objective of the corporation was: . To render audit services to production, distribution and service giving organizations, of which the government is the owner or majority shareholder.. To render management consultancy services to the organizations specified above.. To find way and means for further development of audit profession and try to make Ethiopia self-sufficient within a short period, with respect to audit profession.The corporation was established as an independent entity with powers to sue and be sued,enter into contracts, determine terms and conditions of recruitment, as well as to chargefees for its services.The objective of audit rendered by the audit service corporation is the same as that ofprivate auditing firms. The audit service corporation audits public enterprises to examineif their financial statements present fairly the true picture of their activities. The audit is

19

20

conducted on fee basis. The end result is an audit report that contains the expression ofthe auditor's opinion. Thus, the type of audit rendered by the audit service corporation is afinancial statement audit.

4.5 Independent (External) Auditor An independent auditor, also known as certified public accountant or external auditor, has no connection to the organization being audited. Independent auditor conducts the audit on a fee basis, and is primary responsible to third parties-creditors and shareholders. The type of audit carried out by an independent auditor is financial statement audit. In Ethiopia, the authorized auditors perform financial statement audit. In addition, the Audit service corporation a government—owned organization, performs financial statement audit.

5. Current Status of External Auditing profession in Ethiopia

There are some notable efforts in Ethiopia aimed at improving thequality of financialinformation. One is aimed at establishing accounting and auditingstandards for the privatesector under the auspices of the Office of the Federal Auditor General (OFAG). Another isaimed at improving the capacity for public finance management under the auspices of the

20

21

Ethiopian Civil Service College (ECSC). Work is also ongoing on revision of the EthiopianCommercial Code under the auspices of the Ministry of Justice .

The Office of the Federal Auditor General and the Ethiopian CivilService Collegehave been given some legislative authority for regulating the accountancy profession.OFAG was established by Proclamation No.68/1997 by which it was set up “to make efforts, inco-operation with concerned organs, to promote and strengthen accounting and auditingprofessions.” OFAG has other broader responsibilities as providedfor in the country’sConstitution. Article 101 (2) of the Constitution states that “The Auditor General shall audit andinspect the accounts of ministries and other agencies of the Federal Government to ensure thatexpenditures are properly made for activities carried out during the fiscal year and in accordancewith approved allocations and submit his reports thereon to the House of Peoples Representatives.” The ECSC was re-established through Council of Ministers RegulationsNo.121/2006. One of its objectives, as set out in these regulations, is “to formulate standards andcertify professionals.” The ECSC is also given powers and duties,“to formulate standards andbased on such standards confer professional certification in auditing and accountancy.” Forthese purposes, the ECSC has established a Institute for Certifying Accountants and Auditors(ICAA). The ECSC already has broader responsibilities of responding to capacity buildingneeds of the civil service.There are efforts by the Ethiopian Civil Service College (throughits Institute forCertifying Accountants and Auditors - ICAA) to certify accountants and auditors, focusing

21

22

initially in the public sector. The ECSC was initially established in 1995. In the first 10 yearsof its operations ECSC designed and offered diploma and degree programs in accounting,economics, management, law, and urban development. The ECSC was re-established in 2006with new focus. The focus is now on special needs of the civil service, including specializedprograms that have never been properly offered by other institutions. It has dropped a fewdiplomas and degrees in accounting, economics, and law, which areavailable in other collegesand universities. The ECSC has been tasked to undertake certification of accountants andauditors. For this purpose, ECSC has already set up the Institutefor Certifying Accountants andAuditors (ICAA) and is designing its programs and operations. Initially this effort was inresponse to the capacity requirements of the public sector, but it is planned that it will expand todeal with the private sector needs as well. This also, the ROSC team believes, is a useful step inthe right direction. But it needs to be well coordinated with theother related initiatives. Thesevarious initiatives need to be brought together to holistically deal with establishing strongfinancial reporting infrastructure for the country.

OFAG issued a Code of Ethics for Professional Accountants in the country in January 2004. While the Code is tailor made for practice in Ethiopia, it is modeled on the Codeof Ethics for Professional Accountants issued by IFAC and the International Organization ofSupreme Audit Institutions (INTOSAI). Since issuing the Code, OFAG has investigated aserious complaint, which resulted in disciplinary measures being taken against two auditors.OFAG circulated the resulting disciplinary measures to the profession, regulatory bodies,

22

23

companies and other institutions that engage auditors.

Regardless of these efforts, currently there is no requirement for compliance with accounting and auditing standards both in theCommercial Code 1960 and other laws and regulations for specific sector entities. Some laws require compliance with generally accepted accounting principles and generally accepted auditing standards, but these terms are not defined. The Ethiopian professional Association of Accountants and Auditors (EPAAA) is not a professional certification or regulatory body, does not have legal backing and is not a member of the International Federation of Accountants (IFAC). The Office of the Federal Auditor General (OFAG) regulates the accountancy profession but has other broader responsibilities. There is no quality review ofauditors’ work and no local legal requirement for auditors to have professional indemnity insurance. There is no local professional accountancy qualification. Enforcement mechanisms offinancial reporting requirements are nonexistent because of lack of capacity in regulatory institutions and the absence of penalties in the regulations.

Generally speaking,the status of auditing profession in Ethiopia is characterized with the following:-

1 The accounting and auditing provisions in the Commercial Code1960 need to be brought up to date with good internationalpractice. The Commercial Code makes directors of companiesresponsible for preparation of financial statements, includingconsolidated financial statements for group companies, and forensuring that an audit of the financial statements is conducted.However, the provisions for both preparation and audit offinancial statements require improvement. In provisions forpreparing financial statements, there is no requirement to complywith accounting standards, and the financial statements requiredto be produced are only balance sheet and profit and lossaccount. In provisions for audit, there is no requirement tocomply with auditing standards, no specified qualification ofauditors, and no audit requirement for private limited companies

23

24

with 20 or less shareholders; and companies are required toappoint more than one auditor at a time.

2. Public Enterprises Proclamation 25/1992 requires state-owned enterprises to keepBooks of accounts which is the base for auditing following generally accepted accounting principles (GAAP). However, within the Public Enterprises Proclamation, there is no requirement for state-owned enterprises to prepare financial statements in compliance with any defined accounting standards or for their auditors to comply with any defined auditing standards. Without definition, interpretations of GAAP can vary widely. As to audits, the Proclamation states that the provisions on powers, duties, and liability of auditors in the Commercial Code shall apply. The Commercial Code does not require auditors to comply with any defined auditing standards.

3. The financial reporting requirements of NGOs are contained in the GeneralGuidelines for the Implementation of the National Policy on Disaster Prevention andManagement. There is no guidance for NGOs on the standards to be used in preparation and auditing of their financial statements inthe General Guidelines. The regulations require NGOsto prepare financial statements; have the financial statements audited by chartered accountants;and file annual audited financial statements with their supervising agency, the Disaster Preparedness and Prevention Agency. However the regulations do not provide the NGOs withguidance on standards to be used in preparation and auditing of the financial statements.4.There are no extra requirements for banks and insurance companies for preparation of their annual financial statements. Banks and insurance companies are subject to regulatory laws and directives issued by the National Bank of Ethiopia, but there areno extra requirements in these laws or directives for preparation of annual financial statements. The applicable requirements for preparation of annual financial statements for

24

25

banks and insurance companies are those provided in the Commercial Code. The Commercial Code has no requirement for compliance with any defined accounting standards. Banks and insurance companies are public interest entities which should be subjected to high standards of financial reporting.

5.Auditors for banks are required to be approved by the National Bank of Ethiopia.On an annual basis, banks are required to send selected auditor’sname to the National Bank ofEthiopia for the approval of the appointment of bank auditor. This is a legal requirement underProclamation for Licensing and Supervision of Banking Business No. 84/1994. When approvingauditors, the National Bank of Ethiopia ensures that only those auditors licensed by OFAG areapproved.6. Auditors for insurance companies are not subjected to any additional requirementsother than the provisions of the Commercial Code. The Proclamation for Licensing andSupervision of Insurance Businesses No.86/1994 states that the auditors for insurance companiesshall have powers, functions, and duties; and be subject to liabilities and penalties under theCommercial Code. There are no other regulations for auditors of insurance companies.

7.The number of professional accountants and auditors in Ethiopia is rather low in relation to the size of the economy. There are an estimated 200 professional accountants in the country. In comparison, Uganda and Ghana, with economies less than Ethiopia, each have more than 1,000 professional accountants. Kenya, whose economy is roughly 1.5 times that of Ethiopia, had 3,000 professional accountants in 2001. Having a shortage of professional auditors means that there are positions in the private and public sector that are filled by persons with lower qualifications resulting in low audit quality.

25

26

8.The Ethiopian Professional Association of Accountants and Auditors (EPAAA), hasno legal backing and is not a member of International Federation of Accountants (IFAC).The EPAAA was founded in 1972. From 1974 until 1992, EPAAA stayeddormant because ofan unfavorable political environment.14 Following a change of government in 1991, EPAAAwas revived. Now growing, it has increased its membership from only 10 members in publicpractice in 1992 to 100 members (30 in public practice) as of September 2007. It hasmembership in Eastern, Central, and South African Federation of Accountants (ECSAFA).EPAAA’s purpose is to further professional accounting and auditing in Ethiopia. However,EPAAA is still far from being a strong association. It is not a professional certification regulatory responsibilities. Second, EPAAA does not have IFAC membership. IFAC sets standards for member professional bodies through its Statements of Membership Obligations.Through these obligations, member organizations use their best endeavors at promoting, incorporating, and implementing accounting and auditing standards, which are comparable togood international practice, as well as monitoring of their members through quality assuranceand investigation and disciplinary programs.

9.Ethiopia does not have a quality assurance program for auditors. A quality assurance program checks the auditors’ work at both partner and firm level, and ensures that auditors conducttheir duties with outmost professional diligence. The program also identifies areas that become a source of designing training programs to improve the capacity of auditors.Establishing a country-level quality assurance program is an international good practice. Underthis program, the professional accountancy body develops quality control standards and relevant

26

27

guidance, requiring audit firms to establish the quality control policies and procedures necessaryto provide reasonable assurance of conforming to professional standards in performing services.To ensure that audit firms have effective quality control arrangements, a mechanism of independent review must be in place. Such a review mechanism doesnot exist in Ethiopia at thepresent time.

10.No legal requirement exists for auditors to have professional indemnity insurance.Professional indemnity insurance is the means by which assurance is provided that auditorswould be able to meet liabilities in the event there are valid claims regarding their professionalconduct. Usually, the regulation will make it a condition for granting a license and for licenserenewal every year. At present, there is no requirement for auditors to have the insurance inorder to get a practicing license. This is also an important areato be considered in strengtheningthe country’s financial reporting infrastructure.

11.The big-four international audit firm networks are not presentin the country. Mostof the major international audit firm networks had presence in Ethiopia prior to 1974. When in1974 the Government changed to a Socialist system, all the international audit firms closed theiroffices in Ethiopia. Those audit firms have not yet returned to the country although there is nolaw or regulation which hinders them to operate in Ethiopia. Withthis situation, the auditingprofession in the country may be losing exposure to internationalexpertise.

12.The country has not yet experienced litigation on financial reporting. There are no

27

28

records of litigation dealing with financial reporting. However the study team understands thatthe country has recorded minor litigation on governance issues; specifically a case to do withdirector’s remuneration was cited by stakeholders in the legal field. As sophistication of theeconomy increases, increased litigation would be more likely; hence the need for good financialreporting infrastructure as well as overall good corporate governance infrastructure.

13.Locally, there is neither professional accountancy qualifications nor trainingavailable for professional accountancy. All professional accountants hold foreign professionalqualifications. The leading professional qualification is Association of Chartered CertifiedAccountants (ACCA). It is estimated that about 95 percent of the professional accountants in the country hold the ACCA qualification. The ACCA has a branch in Addis Ababa. As for training, there is no institution that provides professional accountancy training. Professional accountants get their qualification through distance learning. However, the ACCA fees are considered too expensive by the majority of Ethiopians.14.The available accounting degrees and diplomas are said to meetthe currentdemands of the business community; however, the curriculum as well as text books maynot prepare graduates well for enhanced financial reporting requirements. Stakeholdersindicate general satisfaction with current requirements toward the accounting degrees anddiplomas available. However, there are areas that will have to beupdated in order to preparegraduates for enhanced requirements in accounting and auditing. The curriculum does notinclude international components in accounting (IFRS) and auditing (ISA). Professional values

28

29

and ethics are not taught as a separate subject (as required by IFAC standards on education)although a subject in the curriculum (Civics) covers general ethics. The textbooks in use are notup to date with recent trends in financial reporting.

15.Higher educational institutions are losing well-qualified instructors because of lowpay. Most of the higher educational institutions in Addis Ababa indicate that they are losingwell-qualified and experienced instructors because of more competitive pay from the privatesector, NGOs, and other countries. The situation is much worse outside Addis Ababa. Braindrain in universities has the long-term effect of eroding the quality in the education, training, andresearch capabilities of the country on auditing and financial reporting in general.

16. There is no locally controlled practical training for accountants and Auditors. The absence of a local professional qualification and a strong professional body has contributed to the absence of a local mechanism for monitoring practical training requirements for professional accountants and auditors.Controlled practical training is an essential part of professional qualification that feeds into the quality in professional accounting and auditing. In order to improve on the quality of professional accountants and auditors, a domestic mechanism of ensuring quality control for the profession must be considered, planned, and established.17,There is no domestic institution, which monitors and enforces continuous professional development (CPD). The lack of a strong professional body leaves no domestic mechanisms for monitoring and enforcing continuous professional development. The CPD programs are the means through which professional accountants keep up to date with the local and international developments in accounting and auditing. IFAC requires its member bodies attain CPD hours compulsory for all professional accountants. Continuousprofessional development feeds into sustaining the quality of

29

30

professional accounting. The local Ethiopian office of ACCA in conjunction with local institutions, the Federal Inland Revenue Authority, and other accountancy associations regularly organizesseminars covering tax, governance, financial reporting, and auditing issues. The ACCA courses are the main source of CPD for accountants in the country.18,Except for implication in provisions of the legal mandate of OFAG and ECSC, thereis no institution with a specific mandate for setting accounting and auditing standards. Inthe case of OFAG, the relevant provisions state its objectives (“make efforts in cooperation withconcerned organs to promote and strengthen accounting and auditing professions”) and itspowers and duties (“issue directives, in cooperation with other offices concerned, regardingaccounts and property auditing procedures and standards”). In thecase of ECSC, the relevantprovisions state one of the objectives (“to formulate standards and certify professionals”) andone of its powers and duties (“to formulate standards and based on such standards conferprofessional certification in auditing and accountancy”).

19. There is no accounting and auditing standards set in Ethiopia. For accountingStandards, there is no law or regulation that has set or requiresaccounting standards inPreparation of financial statements. Some laws require GAAP to beapplied. However, in allcases, GAAP is not defined. For auditing standards, in the year 2003, OFAG directed allauditors to conduct audits in compliance with ISA. However, the directive met resistance fromauditors. One of the arguments for resistance by the auditors wasthat it is impossible to applyISA in the absence of accounting standards. The directive was subsequently withdrawn.

30

31

20. Every auditor determines their own standards. In the absence of practical authoritative guidelines, auditors use their knowledge and best endeavors in conducting audits. Some apply ISA, while others apply generally accepted auditing standards.21.The Commercial Code provides for punishment of auditors for failing to delivertheir obligations. The Commercial Code states that an auditor shall be punished for knowinglyconfirming an untrue report concerning the position of the company; and for failing to inform thepublic prosecutor of an offense that is known to have been committed. The punishment for theseoffences is provided in the Penal Code. For the first offense, the punishment is a fine notexceeding Br 20,000 and rigorous imprisonment not exceeding 10 years. For the second offense,the punishment is a fine of Br 500 or 3-month imprisonment.

14. There are no set penalties for noncompliance with the requirements on accounting and financial reporting which affects auditing. In the CommercialCode, there are no penalties for noncompliance with provisions for keeping accounting records, preparing financial statements, or fi ling and publicationof the financial statements. Likewise the laws and regulations for banks, insurance companies, state-owned enterprises, and NGOs have no penalties for noncompliance with accounting and other annual financial reporting requirements.

15. There is no mechanism providing assurance on the quality of work being conducted by auditors . With absence of a program for quality review of auditors, there is no mechanism for ensuring that auditors conduct their work diligently.

16.Appointment of auditors is usually through bidding process with hardly any regardto technical expertise. Most auditors complained that the audit fees in the country are very low,

31

32

mainly caused by a practice where most appointments for auditors are done through a biddingprocess, with little or no regard of professional expertise. Thisis indicative of little appreciationof high quality audit services.

17.Banks do not rely on financial statements for lending. The lending culture is largelybased on collateral security. If anything, financial statements play a small secondary role.

To sum up there are six pillars that make up a strong financial reporting infrastructure: statutory framework, profession and ethics, education and training, enforcement mechanisms, accounting standards, and auditing standards. However these pillars are not developed or implemented in Ethiopia resulting in week auditing system or status at all.

32