“Advanced Auditing & Professional Ethi Solution May 2017 Exam CA Final Paper 3 - Advanced Auditing & Professional Ethics May 2017 Exam - Suggested Answers 1. | (@) | M/s. ABC & Co. is an audit firm having partners Mr. A, Mr.B and Mr. C, whose tenure as statutory | 5 r in R Ltd. a listed entity, has expired as per the Companies Act, 2013. M/s XV is another audit firm which is appointed as the statutory auditor of R Ltd. for the subsequent year. Mr. A Joins M/s. XY as partner, 3 months after it was appointed as the statutory auditor of R Ltd. Comment. ‘Answer: Applicability of Rotation provisions: ‘Sec, 139(2) of Companies Act, 2013 provides that no listed company or other prescribed companies, shall appoint or re-appoint an audit firm as auditor for more than two terms. of five consecutive years ‘© An audit firm which has completed its term, shall not be eligible for re-appointment as auditor in the same company for five years from the completion of Ny + It is also provided that as on the date of appointment no roe ‘a.common ‘a company juditor of the same Partner or partners to the other audit firm, whose tenur immediately preceding the financial year, shall be appoiptes company for a period of five years. ‘Inthe present case, on completion of tenure of M/s ABE &Co, retiring auditor, company has appointed M/s XY as their auditor. After th s\9f appointment of XY Ltd as auditor, Mr.A, joins M/X XY as partner. As per, f Sec, 139(2), incoming auditor shall not be eligible for appointment in case af cagttnon partner as on date of appointment. Butin thiscase, there were no comm 13 on date of appointment. Mr. A joinsafter 3months of appointment. Conclusion: Applying the provisions af See. 739(2), no issue arises as there were nocommon partners as on date of appoin Note; Interpretation of ths provision appears to be against the intention of law, which tends for the cooling off period ofitetiring auditor for a period of § years in case of sted and other prescyibedcompanies. (b) | C Ltd. is holding 55% shares of D Ltd. M/s. AB & Associates are statutory auditors of C Ltd. | 5 Whereas for D Ltd. there is another firm appointed as statutory auditors. What are the reporting statements? na RON tes ‘of auditor of Holding Company if auditor of subsidiz 3: cor . (es fent’s auditor is not the auditor of the components included in the consolidated i auditor of the consolidated F.S. should also consider the requirement of SA 600, ‘+ Iftheparent's auditor decides that he will make reference to the audit of the other auditors. in the report, he should disclose clearly the portion of the F.S. audited by the other auditor(s). This may be done by stating the amount or %age of total assets and total revenue of subsidiary(s) included in consolidated F.S, not audited by him. + Itis tobe noted that reference in the report of the auditor of consolidated FS. to the fact that part of the audit of the group was made by other auiditor(s) is not to be construed as @ qualification of the opinion but rather as an indication of the divided responsibility between the auditors of the parent and its subsidiaries, Requirements of SA 600: ‘+ When the principal auditor concludes, based on his procedures, that the work of the other auditor cannot be used and the principal auditor has not been able to perform sufficient additional procedures regarding the financial information of the component audited by the other auditor, the principal auditor should express a qualified opinion or disclaimer cof opinion because there is a limitation on the scope of audit. Compiled by: Pankaj Garg Page 1CA Final “Advanced Auditing & Professional Ethi Solution May 2017 Exam ‘When the principal auditor has to base his opinion on the financial information of the entity as.a whole relying upon the statements and reports of the other auditors, his report should state clearly the division of responsibility for the financial information of the entity by indicating the extent to which the financial information of components audited by the other auditors have been included in the financial information of the entity, eg, the number of divisions/branches/subsidiaries or other components audited by other auditors. (© | Moon Ltd. acquired 65% shares of Sun Ltd. on 28% October 2016, On 25" April 2017 they sold| 5 25% shares of Sun Ltd. While preparing consolidated financial statements for the year ended 31% March, 2017, accountant of Moon Ltd. did not consider financial statements of Sun Ltd. for “Answer: Auditor's duties in case of exclusion of subsidiaries / associates in consolidation. + Sec. 129(3) of Companies Act 2013 requires from a company having one or more subsidiaries, to prepare a consolidated financial statement of the company and of all the subsidiaries inthe same form and manner as that ofits own, + As per Rule 6 of Companies (Accounts) Rules, 2014, the consol statements of the company shall be ade in accordance withthe pro to the Act and the applicable AS. However, a company whichis ey consolidated financial statements under the Accounting Stabdarg3vt'shall be sufficient if the company complies with provisions on consolidated fi ements provided in Schedule 111 of the Act. ‘+ There could be two reasons for exclusion of a Ry sociate or jointly controlled entity 1. The relationship seagate ciate or jointly controlled entity is i idétion of financial ‘Schedule II] ulred to prepare intended to be temporary, or 2. The subsidiary, associate or join vahture operates under several long-term restrictions which significantlyimpaiP'ts ability to transfer funds to the parent. The auditor should satisfy eee stetonmaty ernest win these two categories. + Inthe given case, Moor. td. fas) acghired 65% shares of Sun Ltd. during the year ending u 31.03.2017 and gol ares on 251" April 2017. Moon Ltd. did not consolidate the financial staterhents: td, for the year ending 31.03.2017. Conclusion: The inteqt! ‘of Moon Ltd. is quite clear that the control in Sun Ltd. is temporary as the former, disposed off the acquired shares in the next year of its purchase. However, f ipliance of provisions related to consolidation of financial statements givepan jon 129(3) of the Companies Act, 2013 Parent Ltd. is required to comply with ake Consolidated Financial Statements provided in schedule II1 of the Act (@) | While commencing the statutory audit of ABC Company Ltd,, the auditor undertook the risk | 5 assessment and found that the detection risk relating to certain class of transactions cannot be reduced to acceptance level. Expl ‘Answer: Assessment of Risk and Acceptable Level: * SA 315 “Identifying and Assessing the Risk of Material Misstatement Through Understanding the Entity and its Environment" and SA 330 "The Auditor's Responses to Assessed Risks” establishes standards on the procedures to be followed to obtain an understanding of the accounting and internal control systems and on audit risk and its components, * SA315 and SA 330 require that the auditor should use professional judgement to assess risk of material misstatement and to design audit procedures to ensure that itis reduced toan acceptably low level. + Risk of Material Misstatements comprises of Inherent risk and Control Risk. “Detection risk" is the risk that an auditor's substantive procedures will not detect a misstatement that exists in an account balance or class of transactions that could be material. Compiled by: Pankaj Garg Page 2CA Final “Advanced Auditing & Professional Ethi Solution May 2017 Exam «The higher the risk of mater obtain from the performance of substantive procedures. When both inherent and control risks are assessed as high, the auditor needs to consider whether substantive procedures can provide sufficient appropriate audit evidence to reduce detection risk, and therefore audit risk to an acceptably low level. + Theauditor should use his professional judgement to assess audit risk and to design audit procedures to ensure that it is reduced to an acceptably low level. If it cannot be reduced to an acceptable level, the auditor should express a qualified opinion or a disclaimer of opinion as may be appropriate. 2. | (@) | ABC Co, Ltd. a company having trans-national operations, conducts its entire operations ina | 6 Computerised Information Systems (CIS) environment. As the audit partner of M/s. XYZ & Co, draw out the audit plan evaluating the reliability of controls. “Answer: Audit Plan for Evaluating the reliability of controls: Inevaluating the effects ofa control, the auditor needs to assess the reliability by considering the various attributes of a control. Accordingly, audit plan should cover the followings: 11, Whether the control s in place and is functioning as desired 2. Generality versus specificity of the control with respect to the en errors and irregularities that might occur. 1 misstatement, the more audit evidence the auditor should 3. Whether the control acts to prevent, detect or correct errors Thealdlitor focuses here on. a. Preventive controls: Controls which stop errors oF irredularities from occurring, b. Detective controls: Controls which identify errorsard irregularities after they occur. ©. Corrective controls: Controls which remot of errors and irregularities after they have been identified, ‘The number of components used to execute th «i Malti-component controls are more complex and more error prone but they ay ly used to handle complex errors and irregularities. | (6) | Secure Bank Ltd. is working as a depo: “y with their normal banking activities. The | 5 Securities and Exchange Board of India (SEBI) wants to appoint Mr.'W’ as an inspector to inspect books of accounts and records of the depository. Explain the purpose for which SEBI can appoint person to inspect these books of accounts and records. ‘Answer: Centar a inspecting officer: As per ca (Depositories and Participants) Regulations, 1996, SEB! may appoint inspecting a investigate or inspect the affairs of a depository for any of the following pur @ “ei ens ao e books of account are being maintained by the depository, participant, NN inthe manner specified in these regulations; (b) (to nS into the complaints received from the depositories, participants, issuers, issuers! ents, beneficial owners or any other person; (©) toaScertain whether the provisions of the Act, the Depositories, the bye-laws, agreements and these regulations are being complied with by the depository, participant, beneficial ‘owners, issuer or its agent; (d) to ascertain whether the systems, procedures and safeguards being followed by a depository, participant, beneficial owners, issuer or its agent are adequate; (@)_ tosuomotuensure that the affairs of a depository, participant, beneficial owner, issuer or its agent, are being conducted in a manner which are in the interest of the investors or the securities market. (© | The auditor should select sample items in such a way that the sample can be expected tobe | 5 representative of the population. Comment. ‘Answer: Principal Methods of Selection of Samples: The auditor should select sample items in such a way that the sample can be expected to be representative of the population. As per SA 530 "Audit Sampling’ sample selection can be done Using below mentioned methods of selection of samples: Compiled by: Pankaj Garg Page3Solution May 2017 Exam 1. Random selection: This method of sampling ensures that all items within a population stand an equal chance of selection by the use of random number tables or random number generators. The sampling units could be physical items, suchas sales invoices or monetary units. 2. Systematic selection: The number of sampling units in the population is divided by the sample size to give a sampling interval, for example 50, and having determined a starting point within the first 50, each 50 sampling unit thereafter is selected. 3, Monetary Unit Sampling: It is a type of value-weighted selection in which sample size, selection and evaluation results in a conclusion in monetary amounts 4, Haphazard selection: Samples are selected without following a structured technique. Although no structured technique is used, the auditor would nonetheless avoid any conscious bias or predictability. Haphazard selection is not appropriate when using statistical sampling. 5. Block selection: It involves selection of a block(s) of contiguous items from within the population, Block selection cannot ordinarily be used in audit sampling because most populations are structured such that items in a sequence can be expected to have similar characteristics to each other, but different characteristics from at here in the population. A 3. | (@) | Describe the principal method of design of the samples and its evaluation. 4 “Answer: Principal Method of Design of Samples: . A SA.530 "Audit Sampling” deals with the auditors use of staysteal and non-statistical sampling When designing and selecting the ait sample, pert 9f controls and tests of details, and evaluating the results from the sample. Among bo of designing (Statistical and non-statistical), principal method of design of sa tistical sampling Statistical sampling involves random se e sample items and use of probability theory to evaluate sample results, mk Nirement of sampling risk. This method is more scientific as it involves use of laws'of probability, This method has reasonably wide application where a populatio ee large numberof similar items. While applying statistical sampling, 2bgitor may also apply stratification, ie the process of dividing a population into “ey each of whichis a group of sampling units which ten monetary value) “Advanced Auditing & Professional Ethit Evaluation of Samp © SA530 “Audit " requires the auditor to evaluate the results of the sample and determine the use of audit sampling has provided reasonable basis for conclusi the population that has been tested. 9F mi8Statement identified, auditor shall investigate its nature and cause, and heir possible effect on the purpose of the audit procedure and on other areas of ‘In affalysing the deviations and misstatements identified, the auditor would also need to Consider the qualitative aspects of the misstatements identified by him. (b) | ir, Ram, a Chartered Accountant has appeared before the Income Tax Authorities as the | 4 authorized representative of his client and delivers to the income tax author declaration. What are the liabilities of Mr. Ram under Income Tax Act, 19617 under Income Tax Act, 1961: 1. Section 288 of Inocme Tax Act, 1961 (Disability as to represent the assessee): ‘+ Apperson who has been convicted of any offence connected with any Income Tax proceeding or on whom a penalty hasbeen imposed under the said Act (except Section 271(1)(i) is disqualified from representing an assesses. The CCIT/CIT has been given powers to determine the period of such disqualification of a person. ‘+ AChartered Accountant found guilty of professional misconduct in his professional capacity by the Council of the ICAI, cannot actas an authorised representative for such time that the order of the Council disqualifies him from practising Compiled by: Pankaj Garg Page 4cA “advanced Auditing & Professional Ethi Solution May 2017 Exam 2. Section 278 of Income Tax Act, 1961 ity for submission of false information) ‘Any person who acts or induces, in any manner another person to make and deliver to the Income Tax Authorities a false account, statement, or declaration, relating to any income chargeable to tax which he knows to be false or does not believe to be true is punishable with imprisonment from 3 months to 7 years and fine 3. Rule 12A of Income Tax Rules, 1962: ‘+ AChartered Accountant whos an authorised representative has prepared the return filed by the assessee, has tofurnish to the Assessing Officer, the particulars of accounts, statements and other documents supplied to him by the assessee for the preparation of the return. ‘+ Where the Chartered Accountant has conducted an examination of such records, he has also to submit a report on the scope and results of such examination. Ifthis report contains any information which is false and which the Chartered Accountant either knows or believes to be false or untrue, he would be liable to rigorous imprisonment which may extend to seven years and to fine. © How does an auditor report on the description, design and operating effectiveness of controls at aservice organization? ‘Answer: Auditor Report on description, design and operating eff ine ok ros ata service organisation: SAE 3402 "Assurance Reports on Controls at a Service OPganizationt deals with assurance engagements undertaken by a member of ICAI to pr ort onshe controls ata service organization for use by user entities and their audit y. the report on description, design and operating effectiveness of controls (Co .as Type 2 Report) includes the following elements: (2) Atitle that clearly indicates the ee dependent service auditor's assurance report. (b) Anaddressee. * (©). Identification of servi igg’s description ofits system. (A) Identification of the cpter party specifying the control objectives. (@)Astatement that the report ls intended only for user entities and their auditors, ( Astatement thgt tt < organization is responsible for preparing the description of its syste, incltging thé completeness, accuracy and method of presentation of that description. (@) A sstatemedt thatthe service auditor's responsibility is to express an opinion on the service or Genlzation’s description, design and operating effectiveness of those controls (h) As thatthe engagement was performed in accordance with SAE 3402 ala ae of the service auditor's procedures to obtain reasonable assurance and a tatament of the service auditor's belief that the evidence obtained is sufficient and appropriate to provide a basis for the service auditor's opinion. ()_Astatement of the limitations of controls, (K)_ The service auditor's opinion, expressed in the positive form, on whether, in all material respects, based on suitable criteria’ (a) The description fairly presents the service organization's system that had been designed and implemented throughout the specified period; (b)_ The controls related to the control objectives stated in the service organization's description of its system were suitably designed throughout the specified period; and (©) The controls tested, which were those necessary to provide reasonable assurance that the control objectives stated in the description were achieved, operated effectively throughout the specified period, (D)_ The date of the service auditor's assurance report. (m) Practitioner's Signature. (n)_The place of signature. Compiled by: Pankaj Garg Page 5CA Final “Advanced Auditing & Professional Ethi Solution May 2017 Exam (@) | What are the specific matters to be included in auditor's report in an audit of Non-Banl 4 Financial Company ((NBFC) not accepting public deposits? ‘Answer: Matters to be included in auditor's report in an audit of NBFC not accepting public deposits: As per NBFC Auditor's Report (Reserve Bank) Directions, 2016, the auditor shall include a statement on the following matters, namely: - (i) Whether the Board of Directors has passed a resolution for non: acceptance of any public doposits; (ii) Whether the company has accepted any public deposits during the relevant period/year. (iil) Whether the company has complied with the prudential norms relating to income recognition, accounting standards, asset classification and provisioning for bad and doubtful debts as applicable to it; (iv) Inrespect of Systemically Important Non-deposit taking NBFCs: (a) Whether the capital adequacy ratio as disclosed in the return submitted to the Bank, hhas been correctly arrived at and whether such ratio is in compliance with the ‘minimum CRAR prescribed by the Bank; (©) Whether the company has furnished to the Bank the annual rate of capital funds, risk assets/exposures and risk asset ratio within the stipblatethperiod, (©) Whether the NBFC has been correctly classified as NBEG Mi fd Institutions (VED). A 4. | (@) | Explain briefly the duties and responsibilities of an auditor in case of material misstatement | 6 resulting from management fraud. ‘Answer: Auditor's duties in case of material misstatemer from management fraud: (@) SA 240 “Auditor's Responsibilities relating to fraldd.in%n atdit of financial statements” ‘requires that the auditor is responsible oe reasonable assurance that the FS. taken asa whole are free from materi jetnent, whether caused by fraud or error. (b) Management is in a unique position fate fraud because of management's ability to manipulate accounting recorgs and)prepare fraudulent financial statements by overriding controls : (©) When obtaining reasqnable/agsirance, the auditor is responsible for maintaining an attitude of professionalskeptigi3m throughout the audit @ ize the possibility that a material misstatement due to fraud i his past experience of the honesty and integrity of the entity's, /charged with governance © he auditor to believe that a document may not be authentic or that fent have been modified, the auditor shall investigate further, 0 inquiries of management or TCWG are inconsistent, the auditor shall investigate the inconsistencies. (@) Section 143(12) of Companies Act 2013 requires that if an auditor of a company in the CCoUPSé of the performance of his duties as auditor, has reason to believe that an offence of fraud involving such amount or amounts as may be prescribed, is being or has been committed in the company by its officers or employees, the auditor shall report the matter tothe Central Government within such time and in such manner as may be prescribed. For this purpose, Rule 13 of CAAR, 2014 prescribes the amount of Rs. 1 Cr. or more. (h) Para 3(%) of CARO, 2016 also requires the company auditor to report whether any fraud by the company or any fraud on the company by its officers or employees has been noticed or reported during the year: If yes, the nature and the amount involved is to be indicated. (b) | What is included in an Auditors’ Responsibility paragraph? 5 ‘Answer: Auditor’s Responsibility Paragraph: ‘As per SA 700 "Forming an Opinion and Reporting on Financial Statements’, the auditor's responsibility paragraph shall state the following (@)_Statethat the objectives of the auditor are to obtain reasonable assurance about whether. the F.S. asa whole are free from material misstatement, whether due to fraud or error and issue an auditor's report that includes the auditor’s opinion. Compiled by: Pankaj Garg Page 6