SEBI Proposes Technology-Driven Audit Process For Stock Brokers

The market regulator, SEBI, has come out with a fresh set of proposals for the audit process for stock brokers. The proposed framework is going to be technology driven and will identify several deficiencies in the existing audit system.

The Securities and Exchange Board of India has invited public comments on these proposals until Dec. 26, 2024.

The suggestions require stock exchanges to develop an online portal for supervising audits. This system will allow exchanges to track the audit process in real time, including verifying that auditors physically visit brokers’ premises. Auditors will be required to log into the portal from the broker's location using a secure OTP mechanism, and their geolocation will be recorded to ensure compliance. 

The portal will also allow the collection and submission of audit evidence, allowing exchanges to monitor the quality of audit findings throughout the process.

The paper also mentions the reasons for the need for such suggestions, which include the lack of mandatory physical visits by auditors to brokers’ premises, inadequate sampling, reliance on insufficient audit evidence, and the involvement of non-qualified auditors. 

Additionally, SEBI mentioned the absence of an independent mechanism to oversee the audit process, from pre-audit to post-audit stages, affecting the entire process negatively.

As per the new proposals, only authorised auditors meeting strict qualification criteria will be permitted to conduct audits. SEBI has placed reliance on the need for stock exchanges to empanel auditors based on their individual qualifications and experience, rather than merely assessing the credentials of the audit firm. Furthermore, the empanelment process will include additional criteria for audits of qualified stock brokers (QSBs), who handle larger client bases and complex trading systems.

The scope of audits will also include a detailed review of brokers' IT infrastructure, capacity planning, disaster recovery systems, and measures to address past technical glitches. Auditors will be tasked with assessing critical technology areas, such as order management systems and cloud-based services, and ensuring compliance with prescribed standards for software testing and system logging.

SEBI has proposed that audit reports follow a standard template to ensure uniformity. Reports will need to detail the systems reviewed, sample sizes used, and evidence collected. Additionally, brokers classified as QSBs will be required to obtain board-level approval for their audit reports and action-taken reports before submission to exchanges.

To further safeguard the audit process, SEBI has suggested measures to prevent conflicts of interest. Exchanges will impose limits on the reappointment of auditors and enforce a mandatory cooling-off period of two years after three consecutive audits. Surprise inspections by exchanges may also be introduced to verify on-site compliance by auditors.

The proposed framework aims to come into effect for the financial year 2025-26, with stock exchanges expected to develop the necessary online infrastructure within six months of the circular’s issuance.