1. finance
2. accounting and auditing

Star Rating
On the basis of Maximum marks from a chapter
On the basis of Questions included every year from a chapter
On the basis of Compulsory questions from a chapter
1
jjj
jj
jjj
Auditing and Assurance
Standards & Guidance Notes
This Chapter Includes : Statements on SAP; Guidance notes on — Accounting for
excise duty; Treatment of Revaluation Reserve; Treatment of Expenditure during
construction period; Audit of Abridged Financial statements.
Marks of Short Notes, Distinguish Between, Descriptive & Practical Questions
CA Final Gr. I
(New Course)
SHORT NOTES
2008 - Nov [7] Write short notes on the following :
(c)
Frauds through supplier ledger.
Q&A-3.1
Q&A-3.1
(4 marks)
Q&A-3.2
O
Solved Scanner CA Final Gr. I Paper - 3
Answer :
Frauds though suppliers ledger :
Fraud through supplies ledger could be made in any of the following ways, which the
auditor has to take care of:
1.
Adjusting fictitious as duplicate invoices as purchases in the accounts of
suppliers and subsequently misappropriating the money when payments
are made in respect of these invoices.
2.
Suppressing credit notes issued by suppliers and withdrawing the
corresponding amount not claimed by them.
3.
Withdrawing amounts which remain unclaimed for more than the normal
time limit for one reason or other by showing the same have been paid to
the parties.
4.
Accepting invoices at prices considerably highest than the market price
and collecting the excess claim from the suppliers directly.
2010 - Nov [7] Write short notes on :
(c)
Guidance note on Audit of Miscellaneous Expenditure (revised).(4 marks)
Answer :
This Guidance Note provides guidance on audit procedures to be applied while auditing
miscellaneous expenditure. ‘Miscellaneous expenditure’ shown in the balance sheet of
companies (or shown under this or some other appropriate heading in the balance
sheet of other enterprises) embraces within its fold a variety of items of expenditure
which are not entirely charged to income in the year in which they are incurred, but are
carried forward in the balance sheet to be written-off in subsequent periods. Unless
some benefit from the expenditure can reasonably be expected to be received in future
and unless the amount of such benefit is reasonably determinable, there is no
justification for carrying forward the expenditure for being written-off in subsequent
periods. Also, the amount of expenditure to be carried forward should not exceed the
expected future revenue/other benefits related to the expenditure.
The Guidance Note deals with the audit considerations related to the
following items that normally constitute 'miscellaneous expenditure':
(a)
Preliminary expenses;
(b)
Expenses including commission or brokerage on underwriting or
subscription of shares or debentures including discount allowed on the
issue of shares or debentures;
(c)
Research and development expenditure, etc. ‘
Since AS 26, applies to different entity from different dates, it may happen
that certain enterprises, till the date the standard becomes mandatory for them may
continue to defer the expenditure incurred on items that normally constitute
“miscellaneous expenditure”.
Once an entity applies AS 26 to account for intangible assets, the
expenditure incurred on items that normally constitute miscellaneous expenditure shall
be governed by the Standard, except in the case of already appearing miscellaneous
expenditure in the balance sheet which is to be accounted for using AS 26. As per
Guidance note on Audit of Miscellaneous Expenditure (Revised), the auditor should
examine whether the financial statements contain adequate disclosures as required by
AS 26. The auditor should also examine that the financial statements disclose the
accounting policy with regard to miscellaneous expenditure. On the first occasion when
AS 26 is applied by an enterprise for accounting for items of miscellaneous expenditure,
the financial statements should also disclose the change in accounting policy with
regard to miscellaneous expenditure in accordance with the requirements of Accounting
Standard (AS) 5, “Net Profit or Loss for the Period, Prior Period Items and Changes in
Accounting Policies”.
DESCRIPTIVE QUESTIONS
2009 - Nov [3] (a) Briefly explain :
(i) Audit procedures on subsequent events
(4 marks)
Answer :
Audit Procedures on Subsequent Events :
As per SA 560 “Subsequent Events”, events occurring between the dates of balance
sheet and audit report and the facts that become known to the auditor after the date of
the auditor’s report.
The Auditor should perform the following procedure to obtain sufficient appropriate
evidence to find out the adjustments or disclosures of those subsequent events:
(i) Review the procedures adopted by the management to identify subsequent
events.
(ii) Examine the minutes of the Board of Directors, Executive Committees and the
General Meetings of the shareholders.
(iii) Collect information from the other sources like budgets/estimates, cash flows,
forecasts, interim financial statements etc.
(iv) Make enquiries and hold discussions with the top management.
(v) Details from company’s lawyers for any litigation matter.
2010 - May [3] (c) What are the auditors responsibilities in respect of corresponding
figures ?
(4 marks)
Q&A-3.4
O
Solved Scanner CA Final Gr. I Paper - 3
Answer :
As per 710 “Comparatives”, in respect of corresponding figures,
(i) The auditor should obtain sufficient appropriate audit evidence that the
corresponding figures meet the requirements of the relevant financial reporting
framework. The extent of audit procedure performed on the corresponding
figures is significantly less than that for the audit of current period figures and is
ordinarily limited to ensuring that the corresponding figures have been correctly
reported and are appropriately classified. This involves the auditor assessing
whether:
(a) accounting policies used for corresponding figures are consistent with those
of the current period or whether appropriate adjustments and/or disclosures
have been made and
(b) corresponding figures agree with the amounts and other disclosures
presented in the prior period or whether appropriate adjustments and/or
disclosures have been made.
(ii) When the financial statements of the prior period have been audited by another
auditor, the incoming auditor should assess whether the corresponding figures
meet the conditions specified above.
(iii) When the financial statements of the prior period have not been audited, the
incoming auditor nonetheless should assess whether the corresponding figures
meet the conditions specified above.
(iv) If the auditor becomes aware of a possible material misstatement in the
corresponding figures when performing the current period audit, the auditor
should perform such additional procedures as are appropriate in the
circumstances.
2012 - May [4] (a) In the course of audit of Q Ltd, its statutory auditor wants to be sure
of the adequacy of related party disclosures ? Kindly guide the auditor in identifying the
possible source of related party information.
(8 marks)
Answer :
Please refer 2002 -Nov [3] (a) on page no.32
2012 - May [6] (c) In the course of audit of A Ltd you suspect the management has
indulged in fraudulent financial reporting ? State the possible source of such fraudulent
financial reporting.
(6 marks)
Answer :
1. Recording fictitious journal entries, particularly close to the end of an accounting
period, to manipulate operating results or achieve other objectives.
2. Inappropriately adjusting assumptions and changing judgements used to estimate
account balances.
3.
4.
5.
6.
7.
Omitting, advancing or delaying recognition in the financial statements of events
and transactions that have occurred during the reporting period.
Concealing, or not disclosing, facts that could affect the amounts recorded in the
financial statements.
Engaging in complex transactions that are structured to misrepresent the financial
position or financial performance of the entity.
Altering records and terms related to significant and unusual transactions.
Embezzling receipts (for example, misappropriating collections on accounts
receivable or diverting receipts in respect of written-off accounts to personal bank
accounts).
2012 - Nov [1] {C} As a statutory auditor of a company, comment on the following:
(b) While verifying the employee records in a company, it was found that a major
portion of the labour employed was child labour. On questioning the management,
the auditor was told that it was outside his scope of the financial audit to look into
the compliance with other laws.
(5 marks)
Answer :
Compliance with other laws:
According to SA 250 (Revised), Consideration of laws and regulation in an audit of
financial statement (w.e.f. 1st April 2009), the auditor shall obtain sufficient audit
evidence with regards to compliance with the provisions of those laws and regulation
which generally are recognised to have a direct effect on the determination of material
amounts and disclosures in the financial statement including tax and labour laws.
Even if non compliance does not have direct effect but if it results in fines, litigation or
other consequences, it may have to be considered for the purpose of financial
statements.
Present Case
While verifying the employee records in a company, it was found that a major portion
of the labour employed was child labour. On questioning the management, the auditor
was told that it was outside his scope of the financial audit to look into the compliance
with other laws.
The contention of management is not correct. This is so because the cost of fine,
litigation or other consequences may have material effect on the financial statement.
Auditor’s duty
•
The auditor should make sure the disclosure of above fact and provision for the
cost of fines, litigation for the organisation.
•
If the auditor is of the view that non compliance has a material effect on the
financial statement, he may express a qualified or adverse opinion on the financial
statement.
2012 - Nov [4] Answer the following:
Q&A-3.6
O
Solved Scanner CA Final Gr. I Paper - 3
(b) Under the applicable Standards on Auditing, in what circumstances does the report
of the statutory auditor require modifications? What are the types of modifications
possible to the said report?
(8 marks)
Answer :
According to SA 700, Forming an Opinion and Reporting on Financial Statements,
Under following situations auditor’s report may have to be modified
•
Matters that do not affect the auditor’s opinion (Emphasis of matter)
•
Matters that do affect the auditors opinions including qualified opinion, disclaimer
of opinion or adverse opinion.
Matters that do not affect the auditor’s opinion (Emphasis of matter)
(a) In respect of matters that do not affect the auditor’s opinion, the auditor should
modify the report by adding a paragraph to highlight a matter.
(b) The addition of such an emphasis of matter paragraph does not affect the auditor’s
opinion.
(c) The paragraph would preferably be included preceding the opinion paragraph.
For example: Some uncertainty, the resolution of which is dependent on future
events and which may significantly affect the financial statements and the same
has already been incorporated by management in financial statement.
(d) In such matters, the opinion paragraph would refer to the fact that auditor’s opinion
is not qualified in this respect.
Matters that do affect the auditor’s opinion: For such matters, he can provide any
of following as per stated criterion :
(a) A ‘qualified opinion’ should be expressed when the auditor concludes that an
unqualified opinion cannot be expressed but that the effect of any disagreement
with the management is not so material and pervasive as to require an adverse
opinion, or limitation on scope is not material and pervasive as to require a
disclaimer of opinion.
(b) A ‘disclaimer of opinion’ should be expressed when the possible effect of a
limitation on scope is so material and pervasive that the auditor is unable to obtain
sufficient appropriate audit evidence and is thus unable to express an opinion on
the financial statements.
(c) An ‘adverse opinion’ should be expressed when the disagreement with
management is so material and pervasive to the financial statements that the
auditor concludes that a qualification of the report is inadequate to disclose the
misleading or incomplete nature of the financial statements.
2012 - Nov [5] Answer the following:
(b) As an auditor how will you verify the existence of Related Parties?
(8 marks)
Answer :
Verification of Existence of Related Parties : As per SA 550 “Related Parties”, during
the audit, the auditor shall remain alert, when inspecting records or documents, for
arrangements or other information that may indicate the existence of related party
relationships or transactions that management has not previously identified or disclosed
to the auditor.
(i) Entity income tax returns.
(ii) Information supplied by the entity to regulatory authorities.
(iii) Shareholder registers to identify the entity’s principal shareholders.
(iv) Statements of conflicts of interest from management and those charged with
governance.
(v) Records of the entity’s investments and those of its pension plans.
(vi) Contracts and agreements with key management or those charged with
governance.
(vii) Significant contracts and agreements not in the entity’s ordinary course of
business.
(viii) Specific invoices and correspondence from the entity’s professional advisors.
(ix) Life insurance policies acquired by the entity.
(x) Significant contracts re-negotiated by the entity during the period.
(xi) Internal auditor’s reports.
(xii) Documents associated with the entity’s filings with a securities regulator (e.g,
prospectuses).
2013 - May [3] (c) The auditor of H Ltd. wanted to obtain confirmation from its creditors.
But the management made a request to the auditor not to seek confirmation from certain
creditors citing disputes. Can the auditor of H Ltd. accede to this request? (4 marks)
Answer :
As per SA - 505, ‘External Confirmation’, the auditor should employ external
confirmation procedures in consultation with the management. The auditor may come
across certain situations in which the management may request him not to seek
external confirmation from certain parties because of dispute as the request for
confirmation might aggravate the sensitive negotiations between the Company and
creditor.
In such cases, when an auditor agrees to management’s request not to seek
external confirmation regarding certain creditors, the auditor should consider validity of
grounds for such a request and assess management’s integrity and obtain evidence to
support the same.
In the present case, If the auditor of H Ltd. agrees to management’s request not to
seek external confirmation regarding a particular matter, the auditor should document
the reasons for acceding to management’s request and should apply alternative
procedures to obtain sufficient appropriate evidence regarding the matter. While
considering the validity of request, in case the auditor of H Ltd. reaches at a conclusion
that the same was not valid, he may appropriately modify the report.
PRACTICAL QUESTIONS
Q&A-3.8
O
Solved Scanner CA Final Gr. I Paper - 3
2009 - May [1] {C} Comment on the following :
(a) You are appointed to compile financial statements of Y & Co. for tax purposes.
During the course of work, you learn that the inventory is grossly understated. On
pointing the same, the partners of Y & Co. tell you that since you are not
conducting an audit, the said figures duly certified by the firm should be accepted.
(5 marks)
Answer :
According to AAS 31(SRS 4410) “Engagement to Compile Financial Information “if an
accountant becomes aware of material misstatements, the accountant should persuade
the management to carry out necessary amendments in the financial statements or
other compiled financial information. If such amendments are not made and the financial
statements are still considered to be misleading the accountant should withdraw from
the engagement. Hence, in this case, there is a clear violation of AAS 31(SRS 4410).
2009 - Nov [1] Comment on the following :
(c) Moon Limited replaced its statutory auditor for the Financial year 2008-09. During
the course of audit, the new auditor found a credit item of ` 5 lakhs. On enquiry,
the company explained him that it is a very old credit balance. The creditor had
neither approached for the payment nor he is traceable. Under the circumstances,
no confirmation of the credit balance is available.
(5 marks)
Answer :
This is a case of external confirmation, covered by SA 505 “External Confirmation”. The
identities of creditors are not traceable to confirm the credit balance as appearing in the
financial statement of the company. It is also not a case of pending litigation.
It might be a case that an income of ` 5 lakhs had been hidden in previous year/s.
The statutory auditor should examine the validity of the credit balance as appeared in
the company’s financial statements. He should obtain sufficient evidence in support of
the balance. He should apply alternative audit procedures to get documentary proof for
the transaction/s and should not rely entirely on the management representation.
Finally, he should include the matter by way of a qualification in his audit report to the
members.
2011 - May [1] {C} (a) In the course of the audit of R Ltd., the audit manager of ABC &
Co. observed that R Ltd. has outsourced certain activities to an outsourcing agency. As
the engagement partner guide the audit manager in the assessment of services
provided by the outsourcing agency in relation to the audit.
(4 marks)
(b) In the course of audit of T Ltd., the audit team is not sure of the possible source of
misstatements in the financial statements. As the audit manager identify the
sources of misstatements.
(4 marks)
(c) While auditing Z Ltd., you observe certain material financial statement assertions
have been based on estimates made by the management. As the auditor how do
you minimize the risk of material misstatements ?
(6 marks)
(d) The management of S Ltd. request you not to seek confirmation from its debtors.
As the auditor of S Ltd., what can be an appropriate response ?
(6 marks)
Answer :
(a) According to SA 402 “Audit Considerations relating to an Entity Using A
Service Organisation” the user auditor shall obtain an understanding of how a
user entity uses the services of a service organization. It shall include an
understanding of :
(i) The nature of services provided by the service organisation and the
significance of such services to the user entity, including its effect on the
internal control of user entity.
(ii) The nature and materiality of the transactions processed or accounts or
financial reporting processes affected by the service organisation.
(iii) The degree of interaction between the activities of the service organization
and those of user entity and
(iv) The nature of the relationship between the user entity and the service
organization including the relevant contractual terms for the activities
undertaken by the service organisation.
(b) According to SA 450 “Evaluation of Misstatements Identified during the
Audit”, misstatements may result from
(i) An inaccuracy in collecting or processing data by which the financial
statements are prepared.
(ii) An omission of an amount of which should have been disclosed.
(iii) An accounting estimate incorrect due to overlooking or clear misinterpretation
of facts.
(iv) Judgements of management concerning accounting estimates that the auditor
considers unreasonable.
(v) The selection and application of accounting policies that the auditor considers
inappropriate.
(c) According to SA 540 “Auditing Accounting Estimates, Including Fair Value
Accounting Estimates, and Related Disclosures”, The auditor should assess the
following with relation to identification and assessment of the risk of material
misstatement.
1. The requirements of the applicable financial reporting framework relevant to the
accounting estimates, including related disclosures.
Q&A-3.10
O
Solved Scanner CA Final Gr. I Paper - 3
2. How is the Management identifying those transactions, events and conditions
that might give rise to the need for, accounting estimates to be recognised or
disclosed , in the financial statement.
3. In obtaining this understanding, the auditor shall make inquiries of management
about changes in circumstances that may give rise to new, or the need to revise
existing, accounting estimates.
4. The estimation making process adopted by the management including
(i) The method, including where applicable the model, used in making the
accounting estimates
(ii) Relevant controls
(iii) Whether management has used an expert ?
(iv) The assumption underlying the accounting estimates
(v) Whether there has been or ought to have been a change from the prior
period in the methods for making the accounting estimates, and if so, why;
and
(vi) Whether and, if so, how the management has assessed the effect of
estimation uncertainty.
(d) SA 505 “External Confirmations”, establishes standards on the auditor’s use of
external confirmation as means of obtaining audit evidence. If the management
refuses to allow the auditor to send a confirmation request, the auditor shall
(i) Inquire as to Management’s reasons for the refusal, and seek audit evidence
as to their validity and reasonableness.
(ii) Evaluate the implications of management’s refusal on the auditor’s
assessment of the relevant risks of material misstatement, including the risk
of fraud, and on the nature, timing and extent of other audit procedures and
(iii) Perform alternative audit procedures designed to obtain relevant and reliable
audit evidence.
If the auditor concludes that management’s refusal to allow the auditor to send a
confirmation request is unreasonable or the auditor is unable to obtain relevant and
reliable audit evidence from alternative audit procedures, the auditor shall
communicate with those in charge of governance and also determine its implication
for the audit and his opinion.
2012 - May [1] {C} (b) R & Co. is the statutory auditor of S Ltd. For the financial year
ended on 31st March 2012, S Ltd. had disclosed in the notes (Note No. X) “The state
pollution control board had ordered the closure of the company’s only manufacturing
plant on the ground that it is environmentally damaging, which the company had
challenged in a law suit. Pending the outcome of the law suit the financial statements
are prepared on a going concern basis”. Further the financial statements prepared by
the management of S Ltd. include financial statements of certain branches which are
audited by other auditors. What are the reporting responsibilities of R & Co?
(10 marks)
Answer:
SA 570 on "Going Concern" requires the auditor to consider the appropriateness of the
going concern assumption underlying the preparation of the financial statements which
may no longer be appropriate. The following indications inter alia have to be taken into
consideration in determining the appropriateness of the going concern assumption:
(i) Financial indications such as negative net worth, adverse key financial ratios,
substantial operating losses, inability to pay creditors on due dates, etc.
(ii) Operating indications such as labour difficulties, loss of major market, etc.
(iii) Other indications include pending legal proceedings which may affect the
concern adversely, sickness of entity under statutory definition, etc..
As per SA - 620 i.e. Using the work of an Expert an Auditor during the course of an audit
may have to place reliance on the work of an expert. During the course of audit, an
auditor may seek to obtain, either independently or from client audit evidence by way
of reports, opinions, valuations and statements of experts.
The auditor should satisfy himself regarding the experts skill and competence and
consider the objectivity of the expert.
In the present situation management of S Ltd. had disclosed the above fact in the
financial statement. Further, use of the going concern assumption is appropriate but a
material uncertainty exists so assuming the assessment and disclosure of S Ltd. in
order, R & Co. should include an Emphasis of Matter paragraph in the auditor’s report.
As per Sec. 227 of the Companies Act, 1956, the auditor has to state that whether the
report on the accounts of any branch office audited under section 228 by a person other
than the company’s auditor has been forwarded to him and how he has dealt with the
same in preparing the auditor’s report.
Further, as per SA 600 Using the work of Another Auditor. 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, e.g., the number of divisions /
branches / subsidiaries or other components audited by other auditors.
2013 - Nov [1] {C} (b) G Ltd. is a mobile phone operating company. Barring the
marketing function it had outsourced the entire operations like maintenance of mobile
infrastructure, customer billing, payroll, accounting functions, etc. Assist the auditor of
G Ltd. as to how he can obtain an understanding of how G Ltd. uses the services of the
outsourced agency in its operations.
(5 marks)
2013 - Nov [2](c) C & Co., hired Mr. A, Chartered Accountant, to compile its financial
statements for the interim period ending on 31st December 2012. Kindly assist Mr. A
in drafting scope of engagement letter with specific focus on C & Co's responsibility.
(4 marks)
Q&A-3.12
O
Solved Scanner CA Final Gr. I Paper - 3
(d) Mr. X was appointed as the auditor of M/s Easygo Ltd. and intends to apply the
concept of materiality for the financial statements as a whole. Please guide him as
to the factors that may affect the identification of an appropriate benchmark for this
purpose.
(4 marks)
CA Final Gr. I
SHORT NOTES
1998 - Nov [8] Write short notes on the following :
(c) Revaluation Reserve and its uses.
(4 marks)
Answer :
Meaning : The term Revaluation Reserve refer to a reserve created on the revaluation
of assets or net assets of an enterprise represented by the surplus of the estimated
replacement cost or estimated market values over the book values thereof.
When created : Revaluation Reserve is created if there is an upward revision of value
of fixed assets over their book value to show their current replacement cost in the
balance sheet. It is not a realised gain. It is not available for distribution as dividends.
Use : It can be used for adjustment of additional depreciation on increased amount due
to revaluation from year to year or on the retirement of fixed assets. Amount credited to
Revaluation Reserve cannot be used for issue of both shares or for paying up
debentures or stock or calls on partly paid up shares. According to Schedule VI of the
Companies Act, 1956 every balance sheet subsequent to revaluation shall show the
increased figure with the date of increase in place of original cost for the first five years.
1999 - Nov [8] Write short notes on the following :
(d) Accounting for CDT.
(4 marks)
Answer :
Corporate Dividend Tax Accounting : CDT is chargeable on any amount declared,
distributed or paid by company by way of dividends (whether interim or otherwise) on
or after the 1st day of June, 1997. According to Generally Accepted Accounting
Principles, the provision for dividend is recognised in the financial statements of the
year to which the dividend relates. In view of this, CDT on dividend, being directly linked
to the amount of the dividend concerned, should also be reflected in the accounts of the
same financial year even though the actual tax liability in respect thereof may arise in
a different year. CDT liability should be recognised in the accounts of the same financial
year which the dividend concerned is recognised. CDT liability should be discussed
separately in the profit and loss account, ‘below the line. Provision for Corporate
Dividend Tax should be disclosed separately under the head ‘Provisions’ in the balance
sheet.
2001 - Nov [8] Write short notes on the following :
(b) Financial indications to be considered for evaluating the assumption of going
concern
(4 marks)
Answer :
SA 570 on "Going Concern", aims to establish standards on the auditor responsibilities
in the audit of financial statements regarding the appropriateness of the going concern
assumption as a basis for the preparation of the financial statements.
The following are the financial indications to be considered :
1. Negative net worth or negative working capital.
2. Fixed-term borrowings approaching maturity without realistic prospects or renewal
or repayment, or excessive reliance on short-term borrowings to finance long-term
assets.
3. Adverse key financial ratios.
4. Substantial operating losses.
5. Substantial negative cash flows from operations.
6. Arrears or discontinuance of dividends.
7. Inability to pay creditors on due dates.
8. Difficulty in complying with the terms of loan agreements.
9. Change from credit to cash-on-delivery transactions with suppliers.
10. Inability to obtain financing for essential new product development or other
essential investments.
11. Entering into a scheme of arrangement with creditors for reduction of liability.
Operating Indications :
1. Turnover and departure of key management personnel without replacement.
2. Loss of market, franchise, license or key supplier.
3. Labour difficulties or shortage of important supplies
Other indications :
1. Non-compliance with statutory requirements.
2. Legal cases with possibility of adverse judgement which could not be met.
3. Changes in legislations or government policy.
4. Sickness of the entity under any statutory definition.
2007 - May [8] Write short notes on the following :
(e) Eight situations of external confirmations.
Answer :
(i) Bank balance from bankers
(ii) Account receivable balances
(iii) Stocks held by third parties
(iv) Property title deeds held by third parties
(4 marks)
Q&A-3.14
(v)
(vi)
(vii)
(viii)
O
Solved Scanner CA Final Gr. I Paper - 3
Investments purchased but delivery not taken
Loan from lenders
Account payable balance
Long outstanding share application money.
2007 - Nov [8] Write short notes on the following:
(f) Situations where external confirmations can be used.
Answer :
Please refer 2007 - May [8] (e) on page no. 27
(4 marks)
DESCRIPTIVE QUESTIONS
1999 - Nov [1] {C} State your views on the following requests made by the
management of X Ltd.:
(e) Revaluation Reserve is available for issue of Bonus shares.
(4 marks)
Answer :
Please refer 1998 - Nov [8] (c) on page no. 26
2001 - May [2] {C} Answer the following :
(a) Briefly describe the auditor's responsibility regarding subsequent events.
(10 marks)
Answer :
SA 560 on "subsequent Events" establishes standards on the auditor’s responsibility
regarding subsequent events. SA 560 on "Subsequent Events" states that the
term"subsequent events" refers to significant events occurring between the balance
sheet date and the date of the auditor’s report. AS 4 on "Contingencies and Events
Occurring after the Balance Sheet Date" deals with all those significant events, both
favourable and unfavourable, that occur between the balance sheet date and the date
on which the financial statements are approved by the Board of Directors in the case
of a company and by the corresponding approving authority in the case of any other
entity. As per AS 4, events can be identified as adjustable events which provide further
evidence of conditions that existed at the balance sheet date; and, non-adjusting events
are those which are indicative of conditions that arose subsequent to the balance sheet
date. SA 560 lays down that the "auditor should consider the effect of subsequent
events on the financial statements and on the auditor’s report". When the time between
the close of the year-end and the adoption of accounts is about to take place,
examination of subsequent events gains more importance.
SA 560 on ‘Subsequent Events’ further requires that the auditor should perform
procedures designed to obtain sufficient appropriate audit evidence that all events up
to the date of auditor’s report that may require adjustment of, or disclosure in, the
financial statements have been identified. The procedures to identify events that may
require adjustment of, or disclosure in the financial statements would be performed as
near as practicable to the date of the auditor’s report and ordinarily include the
following:
(i) Reviewing procedures that the management has established to ensure that
subsequent events are identified.
(ii) Reading minutes of the meetings of shareholders, the Board of Directors and
audit and executive committees held after the balance sheet date and inquiring
about matters discussed at meetings for which minutes are not yet recorded.
(iii) Reading the entity’s latest available interim financial statements and, as
considered necessary and appropriate, budgets, cash flow forecasts and other
related management reports.
(iv) Inquiring, or extending previous oral or written inquiries, of the entity’s lawyers
concerning litigation and claims.
(v) Inquiring of management as to whether any subsequent events have occurred
after the balance sheet date which might affect the financial statements.
When the auditor becomes aware of events which materially affect the financial
statements, the auditor should consider whether such events are properly accounted
for in the financial statements. When the management does not account for such events
that the auditor believes should be accounted for, the auditor should express a qualified
opinion or an adverse opinion as may be appropriate.
2001 - May [4] Comment on the following :
(c) For Excise Duty on finished goods in stock as at the end of the year, there is an
option available to provide for the same or to show the same as a Contingent
liability.
(4 marks)
Answer :
Accounting Treatment of Excise Duty : The AS-2 (Revised) on, "Valuation of
Inventories" states that finished goods are to be valued by taking into account the costs
of purchase, costs of conversion and other costs incurred in bringing the inventories to
the present location and condition. The costs of conversion to be included would be all
direct factory overheads related to the said finished goods. Excise duty is a duty which
is payable on the manufacture of the finished goods inside a factory. Though the
collection of the same is deferred till the goods leave the factory, the liability for the
same arises when the manufacture takes place.
The Institute, before the enactment of the revised AS-2, in its Guidance Notes on
Accounting Treatment for Excise Duty gave an option to entities to provide the excise
duty payable on finished goods and add the same to the valuation of finished goods or
not to make any provision but only make a disclosure of the said liability. After the
revised AS-2 was issued effective from 1-4-1999, the ICAI revised its earlier guidance
Q&A-3.16
O
Solved Scanner CA Final Gr. I Paper - 3
note and removed the alternative of not providing for the excise duty. Thus it is now
mandatory for an entity to provide for liability for excise duty on finished goods lying in
stock at the end of the year and add the same to the value of closing stock. According
to Guidance Note on "Accounting Treatment of Excise Duty", excise duty should be
considered as a manufacturing expense and like other manufacturing expenses be
considered as an element of cost for inventory valuation. Where excise duty is paid on
excisable goods and such goods are subsequently utilised in the manufacturing
process, the duty paid on such goods, if the same is not recoverable from taxing
authorities, becomes a manufacturing cost and must be included in the valuation of
work-in-progress or finished goods arising from the subsequent processing of such
goods. Further, where the liability for excise duty has been incurred but its collection is
deferred, provision for the unpaid liability should be made. Excise duty cannot be
treated as a period cost, Accordingly excise duty now cannot be shown as a contingent
liability. Thus, it is now mandatory for an entity to provide for liability for excise duty on
finished goods lying in stock at the end of the year and add the same to the value of
closing stock. If the said provision is not made, the revised Guidance Note on
Accounting Treatment for Excise duty says that the auditor should qualify his report and,
if possible, also mention the quantum of the duty not so provided.
2001 - Nov [4] Answer the following :
(b) Briefly describe, how an auditor can use the work of an expert.
(8 marks)
Answer :
An expert (or a specialist) is a person, firm or other association of persons possessing
special skill knowledge and experience in a particular field other than accounting and
auditing.
When determining whether to use the work of an expert or not, the auditor should
consider:
(a) Materiality of the item being examined in relation to the financial information as a
whole.
(b) Nature and complexity of the item including the risk of error therein.
(c) Other audit evidence available with respect to the item.
Skill and Competence: When the auditor plans to use an external experts work as
audit evidence he should satisfy himself as to the experts skill and competence by
considering the experts.
C
professional qualifications, licence or membership in an appropriate professional
body,
C
experience and reputation in the field in which the evidence is sought.
Objectivity : The auditor should also consider the objectivity and independence of the
expert.
Evaluating the Expert Work : When the auditor intends to use the work of an Auditor’s
expert, he should examine evidence to gain knowledge regarding the terms of the
experts engagement and other matters such as :(a) Objectives and scope of the experts work
(b) A general outline as to the specific items in experts report.
(c) Confidentiality of expert work.
(d) The experts relationship with the client
2002 - May [3] (b) Explain what is meant by "Representations by Management" and
indicate to what extent an auditor can place reliance on such representations.
(6 marks)
Answer :
As per SA- 580 Representation by Management refers to written or oral confirmation
by them regarding the items presented in financial statements.
The auditor should obtain representations from management, where considered
appropriate. He should exercise his professional judgement in determining the matters
on which he wishes to obtain representations from management.
The auditor should obtain evidence that management acknowledges its
responsibility for the appropriate preparation of financial information and that
management has approved the financial information.
Audit Procedures: When representations relate to matters which are material to the
financial information, the auditor should:
(a) seek corroborative audit evidence from sources inside or outside the entity.
(b) evaluate whether the representations made by management appear reasonable
and consistent with other. Audit evidence obtained, including other representations,
and
(c) consider whether the individuals making the representations can be expected to
be well-informed on the matter.
Documentation : The auditor should document in his working papers evidence of
management’s representations.
Forms of Representation :A written representation is better audit evidence than an
oral representation and can take the form of.
(a) a representation letter from management
(e) confidentiality of the clients information used by the expert.
Appropriate Audit Evidence : The auditor should seek reasonable assurance that the
expert’s work constitutes appropriate audit evidence in support of financial information,
by considering,
C
the source data used
C
the assumptions and methods used
C
the results of the expert work in the light of the auditor’s overall knowledge of the
business.
C
the auditor should also satisfy himself that the substance of the expert’s findings
is properly reflected in financial information.
Q&A-3.18
O
Solved Scanner CA Final Gr. I Paper - 3
Data used by Expert : The auditor should consider whether the expert has used
appropriate source data, by employing procedures like (a) Inquiring the expert to
determine how he has satisfied himself that source data are sufficient. Relevant and
reliable and (b) conducting audit procedures on the data provided by client to expert to
obtain reasonable assurance that data are appropriate.
Assumptions adopted by Expert : The auditor should obtain an understanding of
those assumptions and methods to determine that they are reasonable based on the
auditor’s knowledge of the client’s business and on results of his audit procedures.
Qualified Report : If the auditor concludes that the work of the expert (a) is inconsistent
with the information in financial statement or (b) does not constitute sufficient
appropriate audit evidence he should express a qualified opinion, disclaimer of opinion
or adverse opinion as may be appropriate.
2002 - Nov [3] Answer the following in brief :
(a) How can an Auditor identify Related Parties?
(8 marks)
(b) How does an Auditor evaluate the work of an Expert?
(8 marks)
Answer :
(a) Identification of Related Parties : The duties of an auditor with regard to reporting
of transactions with related parties as required by Accounting Standard 18 are
given in SA - 550 on Related Parties. As per SA-550 on "Related Parties" the
auditor should review information provided by the management of the entity
identifying the names of all known related parties. Since it is the management
which is primarily responsible for identification of related parties, SA-550 requires
that to identify names of all known related parties, the auditor may carry out the
following procedures :
(i) review his working papers for previous years for names of known related
parties;
(ii) review the entity’s procedures for identification of related parties;
(iii) inquire as to affiliation of directors, key management personnel and offices
with other entities, etc;
(iv) review shareholder records to determine the names of principal shareholders
or, if appropriate, obtain a list of principal shareholders from the share
register;
(v) review memorandum and articles of association, minutes of the meetings of
shareholders and the board of directors and its committees and other relevant
statutory records such as the register of directors’ interests;
(vi) inquire of other auditors such as internal auditor, special auditors appointed
under any statute, cost auditors, and concurrent auditors of the entity as to
their knowledge of additional related parties and review the report of the
predecessor auditors.
(vii) review the entity’s income tax returns and other information supplied to
regulatory agencies; and
(viii) review the joint venture and other relevant agreements entered into by the
entity.
In addition, the auditor needs to be alert for transactions which appear
unusual in the circumstances and which may indicate the existence of
previously unidentified related parties. Examples include• Transactions which have abnormal terms of trade, such as, unusual
prices, interest rates, guarantees, and repayment terms.
• Transactions which lack an apparent logical business reason for their
occurrence.
• Transactions in which substance differs from form.
• Transactions processed in an unusual manner.
• High volume or significant transactions with certain customers or suppliers
as compared with others.
• Rendition of services without receipt or provision of management services
at no charge.
Finally, the auditor should also obtain a written representation from the
management concerning the completeness of information provided regarding
the identifications of related parties.
(b) Please refer 2001 - Nov [4] (b) on page no. 30
2004 - Nov [1] {C} What are your views on the following?
(c) An auditor of Sagar Ltd. was not able to get the confirmation about the existence
and value of certain machineries. However the management gave him a certificate
to prove the existence and value of the machinery as appearing in the books of
account. The auditor accepted the same without any further procedure and signed
the audit report. Is he right in his approach?
(5 marks)
(d) A firm of a father and a son is receiving `2 lakhs towards job work done for XYZ
Ltd. during the year ended on 31-03-04. The total job work charges paid by XYZ
Ltd. during the year are over Rs. 50 lakhs. The father is a Managing Director of
XYZ Ltd. having substantial holding. The Managing Director told the auditor that
since he is not involved in the activities of the firm and since the amount paid to it
is insignificant; there is no need to disclose the transaction. He further contended
that such a payment made in the last year was not disclosed. Is Managing Director
right in his approach?
(5 marks)
Answer :
(c) The physical verification of fixed assets is the primary responsibility of the
management. The auditor, however, is required to examine the verification
programme adopted by the management. He must satisfy himself about the
Q&A-3.20
O
Solved Scanner CA Final Gr. I Paper - 3
existence, ownership and valuation of fixed assets. In the case of Sagar Ltd., the
auditor has not been able to verify the existence and value of some machinery
despite the verification procedure followed in routine audit. He accepted the
certificate given to him by the management without making any further enquiry. AS
per SA 580, when representation relate to matters which are material to the
financial information, then the auditor should seek corroborative audit evidence for
other sources inside or outside the entity. He should evaluate whether such
representations are reasonable and consistent with other evidences and should
consider whether individuals making such representations can be expected to be
well informed on the matter. "Representation by Management" cannot be a
substitute for other audit evidence that the auditor could reasonably expect to be
available. If the auditor is unable to obtain sufficient appropriate audit evidence that
he believes would be available regarding a matter which has or may have a
material effect on the financial information, this will constitute a limitation on the
scope of his examination even if he has obtained a representation from
management on the matter. Therefore, the approach adopted by the auditor is not
right.
(d) Accounting Standard 18, "Related Party Disclosures" applies to the facts of the
case. AS 18 requires disclosure of party relationship and transactions between a
reporting enterprise and its related parties. The parties are considered to be related
if at any time during the reporting period, one party has the ability to control the
other party of exercise significant influence over the other party in making
decisions. As per the explanation given in AS 18, significant influence is said to
exist in case the investing party has 20% or more voting power in the enterprise.
In the instant case, the managing director of XYZ Ltd. is a partner in the firm with
his son which has been paid `2 lakhs as job work charges. The managing director
is having a substantial holding in the firm . The case is squarely covered by AS 18,
The approach of the managing director is not tenable under the law and
accordingly all disclosure requirements have to be complied. Accordingly, the
approach followed by the Managing Director is not right. Under the circumstances,
the auditor shall have to modify his report. Also it has to be seen whether section
299 regarding disclosure of interest by interested directors has been complied with.
If it is not complied with, the auditor needs to modify the report appropriately.
2004 - Nov [3] (a) What are ‘Initial Audit Engagements’?
(2 marks)
(b) In an initial audit engagement the auditor will have to satisfy about the sufficiency
and appropriateness of ‘Opening Balances’ to ensure that they are free from
misstatements, which may materially effect the current financial statements. Lay
down the audit procedure, you will follow in cases (i) when the financial statements
are audited for the preceding period by another auditor; and (ii) when financial
statements are audited for the first time.
(7 marks)
(c) If, after performing the procedure, you are not satisfied about the correctness of
‘Opening Balances’; what approach you will adopt in drafting your audit report in
two situations mentioned in (b) above?
(7 marks)
Answer :
(a) Initial Engagement-Opening Balances : As per SA-510 ‘Initial Engagements
Opening Balances’ initial audit engagements mean :
(i) When the auditor is engaged to carry out the audit of financial statements of
an entity for the first time; or.
(ii) When the financial statements of the entity for the preceding period were
audited by another auditor;
The situation mentioned in (ii) above arises whenever there is a change of
auditor. The situation mentioned in (i) above is obviously when the auditor is
appointed to take up the audit for the first time or no audit was carried out of the
financial statements of the entity for the immediately preceding period.
(b) (i) Financial Statements Audited by Another Auditor-Audit Procedure :
(a) Ordinarily the current auditor can place reliance on the closing balances
contained in the audited financial statements of the preceding period.
Sufficient audit evidence will be obtained for verifying opening balances,
which are closing balances of the earlier period by perusing the copies
of the audited financial statements.
(b) If during the performance of audit for the current period the possibility of
misstatements in opening balances is indicated, some indirect audit
evidence can be obtained as part of the audit procedures performed
during the current period. For example, the collections and payments of
opening balances in the accounts of debtors and creditors respectively
during the current period will provide evidence as to their existence,
correctness and valuation at the beginning of the period.
(ii) Audit of Financial Statements for the First Time-Audit Procedure :
When the audit of financial statements is being conducted for the first time,
the auditor has to perform auditing procedures to obtain sufficient appropriate
audit evidence. Since opening balances represent effect of transaction and
events of the preceding period and accounting policies applied in the
preceding period, the auditor need to obtain evidence having regard to nature
of opening balances, materiality of the opening balances and accounting
policies. Since it will not be possible for auditor to perform certain procedures,
e.g., observing physical verification of inventories, etc. the auditor may obtain
confirmation, etc. and perform suitable procedures in respect of fixed assets,
investments, etc. The auditor can also obtain management representation
with regards to the opening balances.
(c) Drafting Audit Report : If after performing the laid down procedure in SA 510,
"Initial Engagements -Opening Balances, the auditor is not satisfied in either of the
above situations, he should, as appropriate express a qualified opinion or
disclaimer of opinion. At times, it is also likely that the auditor opines that the profit
Q&A-3.22
O
Solved Scanner CA Final Gr. I Paper - 3
and loss account is qualified but balance sheet is found to be unqualified. If the
opening balances contain misstatements which materially affect the financial
statements for the current period and the effect of the same is not properly
accounted for and adequately disclosed, the auditor should express a qualified
opinion or an adverse opinion, as appropriate.
2004 - Nov [4] (a) Enumerate the ‘Basic Elements of Audit Report’ as enshrined in
AAS-28.
(8 marks)
(b) Bring out the significance of the following two illustrative paragraphs found in the
statutory auditors report in recent days.
(i) Opening Paragraph :
“We have audited the attached Balance Sheet of ........... as at 31st March,
2xxx and also the Profit and Loss Account for the year ended on that date
annexed thereto. These financial statements are the responsibility of the
company’s management. Our responsibility is to express an opinion on these
financial statements.”
(4 marks)
(ii) Scope Paragraph :
“We conducted our audit in accordance with the auditing standards generally
accepted in India. Those standards require that we plan and perform the audit
to obtain responsible assurance whether the financial statements are free of
material statement. An audit includes examing, on a test basis, evidence
supporting the amounts and disclosures in financial statements. An audit also
includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial
presentation. We believe that our audit provides a reasonable basis for our
opinion”.
(4 marks)
Answer :
(a) Basic Elements of Auditor’s Report : As per SA 700, "The Auditor’s Report on
Financial Statements, the auditor’s report includes the following basic elements :
1. Title : It is appropriate to use the term "Auditor’s Report" in the title so as to
distinguish the same from other reports, e.g., Board of Director’s Report, etc.
2. Addressee : Ordinarily, the auditor’s report is addressed to the authority
appointing the auditor.
3. Opening or Introductory Paragraph : The auditor’s report should identies
the financial statements of the enterprise that have been audited including the
date of and period covered by the financial statements. The introductory
paragraph must state that the preparation of financial statements is the
responsibility of the management and that the auditor responsibility is to
express an opinion based on audit.
4.
Scope Paragraph : The auditor’s report should describe the scope of the
audit stating that the audit was conducted in accordance with auditing
standards generally accepted in India. It must also lay down briefly the work
performed by the auditor and the constraints involved in discharged of his
attest function.
5. Opinion Paragraph : This paragraph is mainly devoted for expression of
opinion as to whether the financial statements give a true and fair view and
whether they comply with the statutory requirements.
6. Date of Report : The date of an auditor’s report on the financial statement is
the date on which the auditor signs the report expressing an opinion on the
financial statements. The date of report informs the reader that the auditor has
considered the effect on the financial statements and on the report of the
events and transactions of which the auditor became aware and that occurred
up to that date. Since the auditor’s responsibility is to report on the financial
statements as prepared and presented by management, the auditor should
not date the report earlier than the date on which the financial statements are
signed or approved by management.
7. Place of Signature : The report should name specific location, which is
ordinarily the city where the audit report is signed.
8. Auditor’s Signature : The report should be signed by the auditor in his
personal name. Where the firm is appointed as the auditor, the firm name
should also be mentioned. The proprietor or partner signing the report should
also mention his membership number.
(b) (i) Opening Paragraph : The opening or introductory paragraph identify the
financial statements of the entity that have been audited, including the date
of and period covered by the financial statements. Further, the significance of
‘opening paragraph’ is to bring to the notice of the users of financial
statements that preparation of the accounts is the responsibility of the
management of the enterprise, whereas the responsibility of the auditor is to
express an opinion on the said accounts based on audit carried out by him.
The preparation of such statements requires management to make significant
accounting estimates and judgements as well as to determine the appropriate
accounting principles and methods used in preparation of the said statements.
(ii) Scope Paragraph : The significance of ‘scope paragraph’ is to inform
statements being audited, further, the auditor should obtain sufficient
appropriate audit evidence that the corresponding figures meet the
requirements of the financial reporting framework.
When the comparatives are presented as corresponding figures, the auditor’s
report should not specifically identify comparatives because the auditors
opinion is on the current period financial statements as a whole, including the
corresponding figures.
Q&A-3.24
O
Solved Scanner CA Final Gr. I Paper - 3
When the auditor’s report on the prior period, as previously issued, included,
qualified opinion, disclaimer of opinion, or adverse opinion and the matter
which gave rise to the modification in the audit report is :
(a) unresolved and results in a modification of the auditor’s report regarding
the current period figures, the auditor’s report should also be modified
regarding the corresponding figures; or
(b) unresolved, but does not result in a modification of the auditor’s report
regarding the current period figures, the auditor’s report should be
modified regarding the corresponding figures.
In such circumstances, the auditor should examine that appropriate
disclosure have been made or if appropriate disclosures have not been made,
the auditor should issue a modification report on the current period financial
modified with respect to the corresponding figures included therein.
When the prior period financial statements are not audited, the incoming
auditor should state in the auditors report that the corresponding figures are
unaudited.
2005 - May [1] {C} As a Statutory Auditor, how would you deal with the following?
(b) P Pvt. Ltd. was amalgamated with PQR Ltd. with effect from 1st April, 2004. As per
the scheme of amalgamation approved by the High Court, the amalgamation
was to be accounted by the "Pooling of Interests method". The scheme further
provided that the balance in Revaluation Reserve of P Pvt. Ltd. as on 31st March,
2004 was to be treated as a General Reserve on amalgamation. During the
financial year 2004-05, PQR Ltd. issued bonus shares out of General Reserves
(which included the amount of revaluation reserve of P Pvt. Ltd.).
(5 marks)
Answer :
As per AS 14, "Accounting for Amalgamations" if the amalgamation is in the nature of
merger and the ‘Pooling of Interest Method’ is followed, the identity of the reserves is
preserved and it appears in the financial statements of the transferee company in the
same form in which they appeared in the financial statements of the transferor
company. In the instant case, P Pvt Ltd. is amalgamated with PQR Ltd. and the
amalgamation is in the nature of merger. Accordingly, Revaluation Reserves, of P Pvt.
Ltd. would have normally continued to remain so in PQR Ltd. However, since the
scheme mentions that Revaluation Reserve is to be treated as General Reserves, the
scheme will override AS 14. AS14, "Accounting for Amalgamations", also requires that
in case of any approved scheme of amalgamation if the treatment in accounting is not
as per the AS, a specific disclosure of the same will have to be made alongwith the
financial effect on the financial statements due to such deviation. The statutory auditor
will accordingly have to ensure that the company complies with the requirements
regarding treatment of reserves and other related disclosure requirements or he may
be required to modify his report.
2005 - May [3] {C} Answer the following :
(a) Enumerate, in brief, the important aspects to be evaluated by the external auditor
in determining the efficiency and extent of reliance to be placed on the work and
function of an Internal Auditor.
(6 marks)
(b) While compiling the financial statements of a concern, you observed that the input
information supplied by the concern is incomplete, incorrect and few of the
Accounting Standards have not been followed. Describe in brief, the procedure you
will follow in the above.
(5 marks)
Answer :
(a) Evaluation of Internal Audit Function : The external auditor should as a part of
his audit, carryout general evaluation of the internal audit function to determine the
extent to which he can place reliance upon the work of the internal auditor, As per
AAS 7 "Relying Upon the Work of an Internal Auditor", the important aspects to be
considered by external auditor are:
(i) Organisational Status : An important aspect is whether the audit is being
carried out by outside agency or by departmental team. Another related
aspect is level in the organisation to whom the report is addressed and
whether he is free to communicate with the external auditor are :
(ii) Scope of Function : Nature and depth of coverage of the internal audit and
to what extent the management considers and where appropriate, act upon
the recommendations of the internal auditor.
(iii) Technical competence : Internal audit work is performed by persons having
adequate technical training and proficiency. Professional qualification and
experience of the persons carrying out internal audit function also need to be
considered.
(iv) Due professional care : It should be ascertained that the internal audit
appears to be properly planned, supervised, reviewed and documented.
Existence of proper internal audit manual, programmes and working papers
will lead to the establishment of due professional care.
The external auditor should document his evaluation and conclusion of
all the above factors.
(b) Compilation of Financial Information : According to AAS 31 "Engagements to
Compile Financial Information", an accountant would normally have to rely upon
the management for information to compile the financial statements in a
compilation engagement, If in the course of compilation of financial statements, it
is observed that the information supplied by the entity is incorrect, incomplete or
otherwise unsatisfactory, the accountant should perform following procedures :
(i) Make any enquiries of management to assess the reliability and completeness
of the information provided;
(ii) Assess internal controls prevailing in the entity; and
(iii) Verify any matters or explanations.
Q&A-3.26
O
Solved Scanner CA Final Gr. I Paper - 3
If management refuses to provide additional information, the accountant
should withdraw from the engagement, informing the entity of the reasons for
such withdrawal.
If one or more accounting standards are not complied with, the same
should be brought to the notice of the management and if the same is not
rectified by the management, the accountant should include the same in notes
to the accounts and the compilation report to the management.
2005 - May [7] Comment on the following :
(a) A company has a branch office which recorded a turnover of `1,90,000 in the
financial year 2004-05. No audit of the branch has been carried out. The statutory
auditor of the company has made no reference of the above branch in his report.
The total turnover of the company is `10 crores for the year 2004-05. (6 marks)
(b) Obtaining Audit Evidence, in performing compliance and substantive procedures.
(10 marks)
Answer :
(a) Section 228 of the Companies Act, 1956 requires that the accounts of a branch
office of a company are required to be audited either by the company’s auditor or
by any other person qualified for appointment as auditor of the company. So,
normally speaking, the audit of branch office has to be carried out unless the
company has obtained exemption under the Companies (Branch Audit
Exemptions) Rules, 1961 formulated u/s 228(4), having regard to quantum of
activity. The Rules provide for the exemption of a branch office of a company
carrying on manufacturing, processing or trading activity from the provisions of
section 228, if the average quantum of activity of the branch does not exceed
rupees two lakh or two per cent of the average of the total turnover and the
earnings from other sources of the company as a whole, whichever is higher. Since
in the instance case, no such exemption has been obtained and accordingly, the
company is liable. The auditor is also required to mention this fact in the audit
report and deal appropriately.
(b) Obtaining Audit Evidence: In performing compliance and substantive procedures,
the auditor may obtain audit evidence by following methods:
(i) Inspection: It consists of examining various records, documents an tangible
assets. Examination of these records and assets provides evidence of varying
degree of reliability depending upon their nature, source and effectiveness of
internal control over their processing. Inspection of tangible assets provides
reliable evidence regarding their existence. Four major categories of
documentary evidence, which provide different degree of reliability are:
(a) documentary evidence originating from and held by third parties;
(b) documentary evidence originating from third party and held by entity;
(c) documentary evidence originating from the entity and held by third parties;
(d) documentary evidence originating from and held by the entity.
Inspection of tangible assets is one of the methods to obtain reliable evidence
with respect to their existence but not necessarily as to their ownership or
value.
(ii) Observation: In consists of witnessing a process or procedure being
performed by others. Observation of physical verification of inventories by the
auditor will help in gathering reliable evidence as to their existence, physical
condition and control.
(iii) Inquiry and confirmation: Inquiry consists of seeking appropriate
information from knowledgeable persons inside or outside the entity. Inquiries
may range from formal written inquiries addressed to third parties to informal
oral inquiries addressed to persons inside the entity. Responses to inquires
may provide the auditor with information which he did not previously possess
or may provide him with corroborative evidence.
Confirmation consists of the response to an inquiry to corroborate
information contained in the accounting records. For example, the auditor
requests confirmation of receivables by direct communication with debtors.
(iv) Computation: It consists of checking the arithmetical accuracy of source
documents and accounting records and doing calculation to arrive at facts and
figures.
2005 - Nov [3] Answer the following :
(a) Enumerate (in brief) the basic principles governing an audit.
(5 marks)
(c) While examining the going concern assumption of an entity, what important
indications should be evaluated and examined?
(6 marks)
Answer :
(a) SA 200 discusses the basic principles that govern an audit. Though the standard
has been developed in the context of independent audit of financial information, the
principles listed therein are also applicable to a large extent to other types of audit.
The standard lays down the following basic principles :
Note:- Other auditing and assurance standard discuss the principles laid down in
SA 200. in detail.
1. Integrity, objectivity and independence : The auditor should be
straightforward, honest and sincere in his approach to his professional work.
He must be fair and must not allow prejudice or bias to override his
objectivity. He should maintain an impartial attitude and both be and appear
to be free of any interest which might be regarded, whatever its actual effect,
as being incompatible with integrity and objectivity.
2. Confidentiality : The auditor should respect the confidentiality of information
acquired in the course of his work and should not disclose any such
information to a third party without specific authority or unless there is a legal
or profession duty to disclose.
3. Skills and competence :
Q&A-3.28
4.
5.
6.
O
Solved Scanner CA Final Gr. I Paper - 3
(a) The audit should be performed and the report prepared with due
professional care by persons who have adequate training, experience
and competence in auditing.
(b) The auditor requires specialised skills and competence which are
acquired through a combination of general education, technical
knowledge obtained through study and formal courses concluded by a
qualifying examination recognised for this purpose and practical
experience under proper supervision. In addition, the auditor requires a
continuing awareness of developments, including pronouncements of
ICAI on accounting and auditing matters, and relevant regulations and
statutory requirements.
Work performed by others :
(a) When the auditor delegates work to assistants or uses work performed
by other auditors and experts, he will continue to be responsible for
forming and expressing his opinion on the financial information. However,
he will be entitled to rely on work performed by others, provided he
exercises adequate skill and care and is not aware of any reason to
believe that he should not have so relied. In the case of any independent
statutory appointment to perform the work on which the auditor has to rely
in forming his opinion, such as in the case of the work of branch auditors
appointed under the Companies Act, 1956, the auditor’s report should
express state the fact of such reliance.
(b) The auditor should carefully direct, supervise and review work delegate
to assistants. The auditor should obtain reasonable assurance that work
performed by other auditors or experts is adequate for his purpose.
Documentation : The auditor should document matters which are important
providing evidence that the audit was carried out in accordance with the basis
principles.
Planning :
(a) The auditor should plan his work to enable him to conduct an effective
audit in an efficient and timely manner. Plans should be based on
knowledge of the client’s business.
(b) Plans should be made to cover, among other things :
(i) acquiring knowledge of the client’s accounting system, policies and
internal control procedures;
(ii) establishing the expected degree of reliance to be placed on internal
control;
(iii) determining and programming the nature, timing, and extent of the
audit procedures to be performed. and
(iv) Co-ordinating the work to be performed.
7.
8.
9.
(c) Plans should be further developed and revised as necessary during the
course of the audit.
Audit evidence :
(a) The auditor should obtain sufficient appropriate audit evidence through
the performance of compliance and substantive procedures to enable him
to draw reasonable conclusions therefrom on which to base his opinion
on the financial information.
(b) Compliance procedures are tests designed to obtain reasonable
assurance that those internal controls on which audit reliance is to be
placed are in effect.
(c) Substantive procedures are test designed to obtain evidence as to the
completeness, accuracy and validity of the data produced by the
accounting system.
They are of two types :
(i) tests of details of transactions and balances :
(ii) analysis of significant ratios and trends including the resulting
enquiry of unusual fluctuations and items.
Accounting system and internal control :
(a) Management is responsible for maintaining an adequate accounting
system incorporating various internal, controls to the extent appropriate
to the size and nature of the business. The auditor should reasonably
assure himself that the accounting system is adequate and that all the
accounting information which should be recorded has in fact been
recorded. Internal controls normally contribute to such assurance.
(b) The auditor should gain an understanding of the accounting system and
related internal controls and should study and evaluate the operation of
those internal controls upon which he wishes to rely in determining the
nature, timing and extent of other audit procedures.
(c) Where the auditor concludes that he can rely on certain internal controls
his substantive procedures would normally be less extensive than would
otherwise be required and may also differ as to their nature and timing.
Audit conclusion and reporting :
(a) The auditor should review and assess the conclusions drawn from the
audit evidence obtained and from his knowledge of the business of the
entity as the basis for the expression of his opinion on the financial entity
as the basis for the expression of his opinion on the financial information.
This review and assessment involves forming an overall conclusion as to
whether:
(i) the financial information has been prepared using acceptable
accounting policies, which have been consistently applied.
(ii) the financial information complies with relevant regulations and
statutory requirements.
Q&A-3.30
O
Solved Scanner CA Final Gr. I Paper - 3
(iii) there is adequate disclosure of all material matters relevant to the
proper presentation of the financial information, subject to statutory
requirements, where applicable.
(b) The audit report should contain a clear written expression of opinion on
the financial information and if the form or content of the report is laid
down in or prescribed under any agreement or statute or regulation, the
audit report should comply with such requirements. An unqualified
opinion indicates the auditor’s satisfaction in all material respects with the
matter dealt with in paragraph (a) above or as may be laid down or
prescribe under the relevant agreement or statue or regulation, as the
case may be.
(c) When a qualified opinion, adverse opinion or a disclaimer of opinion is to
be given, or reservation of opinion on any matter is to be made, the audit
report should state the reasons therefor.
(c) Please refer 2001 - Nov [8] (b) on page no. 27
2005 - Nov [4] (b) Illustrate, as a statutory auditor, would you give a report where all
qualifications are not quantifiable.
(4 marks)
Answer :
An illustrative Format of Audit Report : AAS 28 " The Auditor’s Report on Financial
Statements". states that there may be circumstances when it is not practicable to
quantify the effect of modification in the audit report accurately, the auditor may do so
on the basis of estimates made by the management after carrying out such audit tests
as are possible and clearly indicate the fact that the figures are based on management
estimates. Ordinarily, this information would be set out in a separate paragraph
preceding the opinion or disclaimer of opinion and may include a reference to a more
extensive discussion, if any, in a note to the financial statements.
The following illustration of a qualification where quantification was not possible will
explain the point.
"(2) No provision has been made in respect of product warranties outstanding at
the year end. The amount of provision required in this behalf could not be ascertained."
In the above situation, the overall paragraph would appear as follows.
"We further report that, without considering item mentioned in paragraph (2) above,
the effect of which could not be determined, had the observations made by us in
paragraph (1) (not reproduced) and (2) above been considered, the profit for the year
would have been ` 500.41 lacs (as against the reported figure of ` 596.07 lacs),
reserves and surplus would have been Rs. 685.43 lacs (as against the reported figure
of ` 781.09 lacs) and total fixed assets would have been ` 200.00 lacs (as against the
reported figure of ` 229.05 lacs)"
Subject to the above in our opinion ..................
2006 - May [7] Answer the following :
(a) Elaborate how the Statutory Auditor can verify the existence of related parties for
the purpose of reporting under Accounting Standard 18.
(8 marks)
Answer :
Please refer 2002 - Nov [3] (a) on page no. 32
2006 - Nov [5] (b) “The auditor should communicate audit matters of governance
interest arising from the audit of financial statements with those charged with the
governance of an entity.”
Briefly state the matters to be included in such Communication.
(8 marks)
Answer :
SA 260 deals with communications of audit matters with those charge with governance.
The following are the audit matters of governance interest which are to be
communicated.
(i) The general approach and overall scope of audit including expected limitations.
(ii) The selection of or change in significant accounting policies and practices that
have a material effect on the entity’s financial statements.
(iii) The potential effect on the financial statements of any significant risks and
exposures.
(iv) Adjustment to financial statements arising out of audit which have a significant
effect on the financial statement.
(v) Material uncertainties that may cast significant doubt on the entity’s ability
continue as a going concern.
(vi) Disagreement with management on matters which could have significant impact
to the financial statements and to audit report.
(vii) Expected modifications to the audit report.
(viii) Others matters like material weakness in internal control measures, questions
on management integrity and fraud involving management.
(ix) Other matters agreed in terms of audit engagement.
2006 - Nov [7] (a) (i) What are general matters to be considered by an auditor while
taking up a new engagement ?
(ii) What are the major sources of obtaining information about the client’s business?
(4 × 2 = 8 marks)
(b) State the reporting responsibility of an auditor in the context of non-compliance of
Law and Regulation in an audit of Financial Statement.
(8 marks)
Answer :
(a) (i) General matters to be considered while taking up a new engagement :
General Economic factors : General level of economic activity (for example,
recession, growth)
(i) The market and competition
Q&A-3.32
O
Solved Scanner CA Final Gr. I Paper - 3
(ii) Cyclical or seasonal activity
(iii) Government policies
The industry : important conditions affecting the client’s business
(i) The market and competitions
(ii) Cyclical or seasonal activity
(iii) Changes in product technology
(iv) Business risk
The entity:
(i) Management and ownership-important characteristics
(ii) Operating Management
(iii) The entity’s business - products markets, suppliers, expenses,
operations,
(a) Nature of business (es) (for example manufacturing whole seller,
financial services, import /exports)
(b) Location of production facilities warehouses, offices,
(c) Employment (for example, by location, supply, wage levels, union
contracts, pension commitments, Government regulation)
(d) Products or services and markets.
(iv) Financial performance-factors concerning the entity’s financial condition
and profitability.
(v) Reporting environment-external influences which affect management
in the preparation of the financial statements.
(vi) Legislation:
(a) Regulatory environment and requirements
(b) Taxation both direct and indirect.
(ii) Information about the client’s business : The auditor can obtain information
about client’s business from the following sources :
(i) The client’s annual Reports to shareholders;
(ii) Minutes of meetings of shareholders, board of directors and important
committees.
(iii) Internal financial management report for current and previous periods,
including budgets, if any;
(iv) The previous year’s audit working papers, and other relevant files,
(v) Firm personnel responsible for non audit services to the client who may
be able to provide information on matters that may affect the audit :
(vi) Discussions with the client;
(vii) The client’s policy and procedures manual;
(viii) Relevant publications of the Institute of Chartered Accountants of India
and other professional bodies, industry publication, trade Journals,
magazines, newspapers or text books;
(ix) Consideration of the state of the economy and its effects on the client’s
business;
(x) Visits to the client’s premises and plant facilities to the management.
(b) Reporting responsibility of an auditor in the context of non-compliance of
Law and Regulation : The auditor should as soon as practicable, either
communicate with the audit committee, the Board of Directors and senior
management or obtain evidence that they are appropriately informed regarding
non-compliance that comes to the auditors attention.
If in the auditor’s Judgment, the non compliance is believed to be intentional
and / or material, the auditor should communicate the findings without delay.
If the auditor suspects that members of senior management, including
members of the Board of Directors, are involved in non-compliance, the auditor
should communicate the matter to the next higher level of authority at the entity,
such as, the audit committee or Board of Directors, to the users of the auditors
report or financial statements.
If the auditors concludes that the non-compliance has a material effect on the
financial statements and has not been properly reflected in the financial statements
the auditor should express a qualified or an adverse opinion.
If the auditor is precluded by the entity from obtaining sufficient and
appropriate audit evidence to evaluate whether non-compliance is, or is likely to
have occurred that have or may have material impact on the financial statements,
the auditor should express a qualified opinion or a disclaimer of opinion on the
financial statements on the basis of a limitations on the scope of the audit.
It the auditor is unable to determine whether non compliance has occurred
because of limitations, imposed by the circumstances rather then by the entity, the
auditor should consider the effect on the auditor’s report.
The auditor’s duty of confidentiality would ordinarily preclude reporting non
compliance to third party. However, in certain circumstances, that duty of
confidentiality is overridden by statement, law or by courts of laws.
2007 - May [6] As a chartered accountants firm draft an engagement letter to the Board
of Directors for the compilation of financial statements of XYZ Ltd. as at 31.3.2007.
(16 marks)
Answer :
To
The Board Director
XYZ Ltd.
...............
Q&A-3.34
O
Solved Scanner CA Final Gr. I Paper - 3
You have vide your letter dated ............. requested that we compile the Balance
Sheet of XYZ. Ltd. as at 31.3.2007 and the related Profit and Loss account for the year
ended on that date.
We are pleased to confirm our acceptance and understanding of the engagement by
means of this letter. As no audit or review engagement procedures would be carried out,
no opinion on the financial statements will be expressed. Further, our engagement
cannot be relied upon to disclose whether frauds or defalcations, or illegal acts exit.
However, we will inform you of any such matters which come to our attention in the
course of the engagement.
As Management, you are responsible for :
(a) The accuracy and completeness of the information supplied to us, including
maintenance of adequate accounting records and internal control and selection
and application of appropriate accounting policies.
(b) Preparation and presentation of the financial statements of the entity, in
accordance with the applicable laws and regulations, if any.
(c) Safeguarding the assets of the entity and also establishing appropriate controls
designed to prevent and detect fraud and other irregularities.
(d) Ensuring that the activities to the entity are carried on in accordance with
applicable laws and regulations and that it institutes appropriate controls to prevent
and detect any non-compliance.
You will confirm that events and transactions are recorded in accordance with
the applicable accounting standard (s), issued by the Institute of Chartered
Accountants of India and other recognized accounting principles and practices and
inform us of any departures therefrom.
As part of our normal procedures, we may request you to provide written
confirmation of any information or explanations given to us orally during the course
of our work.
We understand that the intended use and distribution of the information we have
compiled is ............(specify) purpose)
We look forward to full co-operation with your staff and we trust that they will
make available to us whatever records, documents and other information
requested in connection with our engagement.
Our fees will be billed as the work progresses.
Please sign and return the attached copy of this letter to indicate that it is in
accordance with your understanding of the arrangements for our compilation of
your financial statements.
XYZ & Co.
Chartered Accountants
S/d
2007 - May [7] (a) A company wants to amend its accounts after the completion of the
audit and adoption of the Accounts by the Board, but before circulation to the
shareholders. It requires its statutory auditor to report on the amended accounts. State
the steps the statutory audit should adopt in such a situation.
(8 marks)
Answer :
Amendment of accounts after the completion of the audit and adoption of the
Accounts by the Board before circulation to the shareholders : This pertains to the
manner in which the statutory auditor should report upon amended accounts. The
Companies Act does not contemplate the revision of accounts and a further report by
the statutory auditor on the amended accounts. At the same time, it is entirely within the
competence of the Board of Directors to amend the accounts and resubmit the same
to statutory auditors for report before the accounts are placed before the annual General
Meeting. The report issued by the statutory auditor on such amended accounts will be
in substitution of the report issued before the amendment. Unless all copies of the
original accounts and reports are returned to the auditor, such substitution is not
possible.
The guidance on Auditor’s report on revised accounts of companies before
circulation to shareholders recommends that members, when called upon to issue a
report on amended accounts for the same period due to amendments to the accounts,
should ensure all copies of the original accounts and reports are returned to him,
adequate disclosure about the revision of accounts already reported, appears as a
specific note on the amended accounts. If the Statutory auditor is satisfied about the
adequacy of disclosure, there may not be any need for him to refer to the revision of
balance sheet and/or the profit and loss account in his report otherwise he has to refer
to the revision in his report.
PRACTICAL QUESTIONS
1998 - Nov [2] {C} (b) Little Ruck Ltd. was incorporated on 1.4.97. During the year
ended 31st March 1998 there was no manufacturing or trading activity except raising
of share capital, purchase of land, acquisition of plant and machinery and construction
of factory sheds. Therefore the Chief Accountant of the company contends that for the
relevant year there was no need to prepare a statement of profit or loss or any other
similar statement except a Balance Sheet as at 31st March, 1998.
Give your comments on the views of Chief Accountant.
(5 marks)
Answer :
The contention of Chief Accountant apparently appears to be partly right since Little
Ruck Ltd. did not carry any manufacturing or trading activity during the period despite
the fact that every company has to prepare its profit and loss account from the date of
incorporation in terms of Section 210(3) of the Companies Act, 1956. This is because,
as per the Guidance Note on Treatment of Expenditure During Construction Period,
preparation of profit and loss account during the period of construction might be
somewhat misleading as it may give an impression to the lay shareholder that the
Q&A-3.36
O
Solved Scanner CA Final Gr. I Paper - 3
company was engaged in revenue operation during the period but has suffered
substantial loss in these operations. However, the requirements of part-II of Schedule-VI
to Companies Act, 1956 relating to disclosure of specific items of expenditure have to
be complied with. These requirements can be suitably met if the relevant items of
expenditure requiring specific disclosure are given under the heading "Development
Account", "Expenditure during Construction Account" or some suitable description like
Statement of Incidental Expenditure During construction Period.
Therefore, Little Ruck Ltd. may prepare a separate statement or account of
expenditure during the construction period in accordance with the requirements of Part
II of Schedule VI to the Companies Act, 1956, provided the reason for not preparing the
profit and loss accounts are disclosed. The fact that a separate statement instead of
profit and loss account has been prepared shall be disclosed and such a statement
should form an annexure to the balance sheet.
1999 - May [1] {C} (d) The Chief Accountant of Stumps Ltd. is of the opinion that before
declaration of dividends it would not be necessary to set off the carried forward amount
of debit balance in the Profit and Loss Account against current revenue profits but the
same could be set off against existing revaluation reserve—Do you agree? (5 marks)
Answer :
Debit balance in the Profit and Loss Account is a fictitious asset. There is no mandatory
rule in accounting or any legal requirement that fictitious assets must be written of
before declaration of dividend. However, in arriving at divisible profits the provisions of
Section 205 2(b) of Companies Act, 1956 should be kept in view. The amount of loss
or depreciation (contained in the debit balance in Profit and Loss Account) whichever
is less should be set off against current revenue profits before declaration of dividends.
Mere revaluation of assets does not result in realised gain. The Guidance Note on
Treatment of Reserve created on Revaluation of Fixed Assets also recommends that
the accumulated losses should not be adjusted against revaluation reserve since this
would amount to setting of actual loss against unrealised gains. Therefore if the debit
balance in Profit and Loss Account is set off against revaluation reserve, and then
dividend is declared from out of revenue profits, it would amount to payment of dividend
out of capital without making good the amount of loss or depreciation whichever is less.
Such a declaration will be violation of the provisions of section 205 of the Companies
Act, 1956.
Hence the opinion of the Chief Accounting Stumps Ltd. is not correct.
2000 - May [3] Indicate the precise nature of Auditor's liability in the following situations
and support your views with authority, if any :
(a) (iii) Based upon the legal opinion of a leading advocate, X Ltd. made a provision of
` 5 crores towards Income Tax liability. The assessing authority has worked out
the liability at ` 15 crores. It is observed that the opinion of the advocate was
inconsistent with legal position with regard to certain revenue items.(4 marks)
Answer :
As per SA-620 i.e. Using the work of an Expert an Auditor during the course of an audit
may have to place reliance on the work of an expert. During the course of audit, an
auditor may seek to obtain, either independently or from client audit evidence by way
of reports, opinions, valuations and statements of experts.
The auditor should satisfy himself regarding the experts skill and competence and
consider the objectivity of the expert.
The question clearly states that the opinion of the advocate was inconsistent with
legal position with regard to certain items. It is auditor’s duty to seek reasonable
assurance that the expert’s work (advocate) constitutes appropriate audit evidence in
support of financial information. It is perhaps, quite possible that auditor did not seek
reasonable assurance as to appropriateness of source data, assumptions and methods
used by the expert properly. Infact SA-620 makes it incumbent upon the part of the
auditor to resolve the inconsistency by discussion with the management and the expert
in case the expert’s work did not support the related representation in the financial
information. If the auditor has gone through the work of legal expert, such inconsistency
could have been detected. This seems apparent having regard to wide differences in
the liability as determined by assessing authority.
Under such circumstances, the auditor should have rejected the opinion of expert
and insisted upon making proper provision. However, auditor is liable for negligence in
performing audit procedures and in expressing his opinion.
2000 - Nov [4] (b) On 30th September, 2000 a company’s issued and paid up capital
was ` 25 crores comprising of fully paid equity shares of ` 10 each. This included
` 50,00,000 capital issued for cash; ` 4,50,00,000 capital issued for purchase of a
business; ` 20 crores on issue of bonus shares from time to time by capitalising various
reserves including ` 5 crores by capitalising capital redemption reserve.
The company had fixed assets costing ` 2 crores on which depreciation provision
was ` 1.95 crores, which was equal to the full cost of depreciable assets. The balance
` 5 lakhs represented the cost of land. It has discontinued its operations for last many
years.
The company had made investments in various companies to the tune of ` 30
crores. Unfortunately all these investee companies have turned out to be BIFR cases.
Nothing is expected to be realised on such investments. The company has dues from
customers totalling to ` 4.95 crores of which ` 4.90 crores are due from businesses
which have become defunct. The balance ` 5 lakhs are due for over 3 years. The
accumulated losses are ` 10 crores. The amounts due to suppliers are ` 3 crores and
they are overdue. The balancing figure in the Balance Sheet refers to loan from
Financial Institutions.
Q&A-3.38
O
Solved Scanner CA Final Gr. I Paper - 3
Workers who had put in long years of service have lodged claims for termination
benefits of ` 10 crores, which have been decreed in their favour. No accounting entry
has been passed for the same since the decree on 1.1.1997. In the light of Statement
on Standard Auditing Practices (SAP) 16, relating to Going Concern, you are asked to
write appropriate paragraph of audit report.
Given reason for supporting your report.
(8 marks)
Answer :
SA 570 on "Going Concern" requires the auditor to consider the appropriateness of the
going concern assumption underlying the preparation of the financial statements which
may no longer be appropriate. The following indications inter alia have to be taken into
consideration in determining the appropriateness of the going concern assumption:
(i) Financial indications such as negative net worth, adverse key financial ratios,
substantial operating losses, inability to pay creditors on due dates, etc.
(ii) Operating indications such as labour difficulties, loss of major market, etc.
(iii) Other indications include pending legal proceedings which may affect the
concern adversely, sickness of entity under statutory definition, etc.
Having regard to aforesaid indicators and as per the facts of the case, the company is
not a going concern as on September 30,2000 on account of following reasons :
(i) the company has discontinued its operations for last many years. Its productive
fixed assets are fully depreciated. The only productive asset left is land worth of
` 5 lakhs.
(ii) The claim of workers for termination benefits amounting to ` 10 crores though
decreed on January 1, 1997 has not been provided for in the books of account.
(iii) The amounts recoverable from customers totaling ` 4.95 crores of which ` 4.90
crores are due from busineses which are totally defunct are doubtful of recovery
in its entirety. Even the balance amount is due for more than three years. Hence,
the entire amount is doubtful of recover.
(iv) The company has not been able to pay to its suppliers amounting to ` 3 crores
which are overdue.
(v) The company’s investment to the tune of ` 30 crores are not realisable and are
worthless in view of the fact that all investor companies have turned sick.
(vi) The balance figure for term loan from financial institutions works out to be ` 17
crores as per records even which the company is unable to pay.
Thus, in view of the aforesaid financial, operating and other indicators, the
assumption of going concern is not appropriate.
Paragraph in the Audit Report: "The company as at September 30,2000 has an
accumulated loss of ` 10 crores, has irrecoverable debts of ` 4.95 crores as at that date,
the diminution in value of its investments is of ` 30 crores as at that date and a nonprovision of decreed obligations in favour of employees of ` 10 crores. The company
has discontinued its operations for last many of years and has not been able to honour
its obligation to creditors and financial institutions for quite some time. Thus, total
accumulated losses are ` 54.9 crores (and not as ...... reported).
After taking into account the above factors we are of the opinion that the company
is not a going concern as at September 30,2000 and, thus, the usage of going concern
assumption in the preparation of financial statements is inappropriate.
In our opinion, subject to the information given in preceding paragraph, the financial
statements do not give a true and fair view of the financial position of the company at
September 30,2000 and to he results of its operations for the year then ended".
The Companies (Amendment) Act, 2000 also requires that the auditor’s report shall
also state in thick type or in italics the observation or comments of the auditors which
have any adverse effect on the functioning of the company.
2001 - May [7] As a statutory auditor of a Public Limited Company, how would you deal
with the following situations?
(c) As at the beginning of the year, the company has a capital of ` 2.50 crores, free
reserves of ` 0.50 crores and Revaluation Reserve of ` 4.50 crores. In the relevant
year under audit the company has incurred a loss of ` 4 crores. The company
proposes to adjust the loss with the Revaluation Reserve.
(6 marks)
Answer :
Adjustment to Loss against Revaluation Reserve : AS-10 on Account for Fixed
Assets" states that an increase in net book value of fixed assets is normally credited to
owner’s interest and under the heading Revaluation Reserves except that to the extent
that such increase is related to and not greater than a decrease arising on revaluation
previously recorded as a charge to the profit and loss statement may be credited to the
profit and loss statement. A decrease in net book value arising on revaluation of fixed
asset should be charged directly to the profit and loss statement except that to the
extent that such a decrease is related to an increase which previously recorded as,
credit to revaluation reserve and which has not be subsequently reversed or utilised, it
may be charged directly to that account. The Guidance Note on Treatment of Reserve
created on Revaluation of Fixed Assets states that where the value of fixed assets is
written up in the books of account of company, the corresponding credit appearing as
revaluation reserve does not repress a realised gain and is, therefore, not available for
distribution as dividend. Similar accumulated losses and the depreciation on the
acquisition cost (including arrears of depreciation) should not be adjusted against
revaluation reserve since this would amounts to setting off actual losses against
unrealised gains.
The auditor should explain to the management that accumulated losses cannot
adjusted against the revaluation reserve created on revaluation of the fixed assets.
Case the company in question does so, the balance sheet of the company will not
reflect a true and fair view of the state of affairs of the company keeping in view the
magnitude of the amounts involved, i.e., accumulated losses amount to ` 4 crores and
share capital and reserves amount to ` 3 crores (excluding revaluation reserve). If the
Q&A-3.40
O
Solved Scanner CA Final Gr. I Paper - 3
management does not agree with the opinion of auditor, the auditor may even issue an
adverse report.
2001 - Nov [7] (b) Y Ltd. has accumulated losses of ` 12 crores. The Reserves and
Surplus of the said company also include "Share Premium Account" of ` 15 crores. The
company intends to adjust the accumulated losses against the "Share Premium
Account". Is the company permitted to do so under the provisions of the Companies Act,
1956 ?
(6 marks)
Answer :
Section 78 of the Companies Act, 1956 deals with the application of premium received
on issue of securities. Sub-section (1) of the said section provides that where a
company issues shares at a premium, whether for cash or otherwise, the amount
received as premium on such shares shall be transferred to an account called
"Securities Premium Account" and the provisions of the Companies Act, 1956 relating
to reduction of the securities capital of a company except as provided in the section
shall apply as if the securities premium accounts were Paid up securities capital of the
company. Sub-section (2) of the said section provides that notwithstanding anything
contained in Sub-section (1), Securities Premium Account may be applied by the
company for:
(a) Issue of fully paid bonus securities.
(b) Writing off of the preliminary expenses of the company.
(c) Writing off of the expenses of the commission paid or the discount allowed on any
issue of securities or of any debentures of the company.
(d) Providing the premium payable on the redemption of any redeemable preference
securities or of any debentures of the company.
In view of the above provisions of companies Act, 1956, the company is not
permitted to adjust its accumulated loss against the Share Premium Accounts.
2002 - Nov [1] {C} As A Statutory Auditor for the year ended 31st March, 2002, how
would you deal with the following?
(b) As on 31/3/2001, the Equity Share Capital of Q Ltd. is 10 crores divided into shares
of ` 10 each. During the financial year 2001/02, it has issued bonus shares in the
ratio of 1: 1. The net profit after tax for the years 31/3/2001 and 31/3/2002 is ` 8.50
crores and ` 11.50 crores respectively. The Earnings per Share (EPS) disclosed
in the accounts for two years is ` 8.50 and ` 5.75 respectively.
(5 marks)
Answer :
Disclosure of Earnings Per Share : AS-20 on Earnings Per Share (EPS) prescribes
principles for the determination and presentation of earnings per share As per AS 20,
the earnings per share have to be disclosed as basic and dilute earnings per shares on
the face of the statement of profit and loss for each class equity shares that has a
different right to share in the net profit for the period.
In the instant case, both the basic as well as the diluted earnings per share would
the same since there are no delusive instruments that have been issued by the
company. As per the Standard, in the case of a bonus issue, equity shares are issued
existing shareholders for no additional consideration. Therefore, the number of equity
shares outstanding is increased without an increase in resources. The Standard further
requires that the number of equity shares outstanding before the event of bonus issue
have to be adjusted for the proportionate change in the number of equity shares
outstanding as if the event had occurred at the beginning of the earliest of the earliest
period reported. The standard also explains how the earnings per share is to be
calculate in the case of a bonus issue of shares.
In view of the above, the earnings per share for both the years will have to be
calculate taking the equity share capital after the bonus issue as the denominator. If the
same is done the earnings per share for 31/3/2001 will be ` 4.25 and that for 31/3/2002.
Will be ` 5.75. Since the above figures of earnings per share have not been disclosed,
the company has not complied with the provision of the AS-20. If the same is not
followed, the statutory auditor would then have to quality his report in terms of section
227 (3) (d) of the Companies Act, 1956.
2006 - Nov [1] {C} As a Statutory Auditor, how would you deal with the following ?
(d) You notice a misstatement resulting from fraud or suspected fraud during the audit
and conclude that it is not possible to continue the performance of audit.
(5 marks)
Answer :
Impossibility to continue the performance of audit : If an auditor concludes that it
is not possible to continue the performance of auditing because of misstatement
resulting from fraud or suspected fraud, he should take action in accordance with the
requirement of SA 240 "The Auditor’s Responsibility to consider Fraud and Error".
(i) He should consider the professional and legal responsibilities applicable in the
circumstances including whether there is a requirement for the auditor to report
to the person (s) who made the audit appointment.
(ii) he should consider whether he has to report to the regulatory authorities.
(iii) If the auditor withdraws he should discuss with the appropriate level of
management and those who charged with the governance about the reasons for
the withdrawal.
In view of the exceptional nature of circumstances and the need to consider the
legal requirement he may also seek legal advice for determining the appropriate
course of action.
2007 - Nov {C} [1] As a Statutory Auditor, how would you deal with the following?
(c) For the year ended 31st March, 2007, a company has paid Minimum Alternative tax
under section 115 JB of the Income Tax Act, 1961. The company wants to disclose
the same as an 'Asset' since the company is eligible to claim credit for the same.
(5 marks)
(d) X Ltd. is engaged in manufacture of Cement. In the Profit and Loss Account for the
year ended 31st March, 2007, it discloses its revenue from sales transactions
Q&A-3.42
O
Solved Scanner CA Final Gr. I Paper - 3
(turnover) net of excise duty. The excise duty collected and paid on sales
transactions and that related to difference between Closing stock and Opening
stock is, however, disclosed in the "Notes to Accounts".
(4 marks)
Answer :
(c) The concerned issue is discussed in the Guidance Note issued by ICAI on
“Accounting for Credit available in respect of MAT under the IT Act, 1961". As per
para 6 of the said Guidance Note Although MAT credit is not a deterred tax asset
under AS 22, yet it give rise to expected future economic benefit in the form of
adjustment of future income tax liability arising within the specified period.
The Framework for the Preparation and Preparation and Presentation of
Financial Statements, issued by the ICAI, defines the term ‘asset’ as follows:
“An asset is a resource controlled by the enterprise as a result of past events
from which future economic benefits are expected to flow to the enterprise”.
MAT paid in a year in respect of which the credit is allowed during the
specified period under the Income Tax Act is a resource controlled by the company
as a result of past event, namely the payment of MAT. MAT credit has expected
future economic benefits in the form of its adjustment against the discharge of the
normal tax liability if the same arises during the specified period. Accordingly, MAT
credit is an asset.
According to the framework, once an item meets the definition of the term
‘asset’, it has to meet the criteria for recognition of an asset so that it may be
recognized as such in the financial statements. Para 88 of the Framework provides
the following criteria for recognition of an asset: an asset is recognized in the
balance sheet when it is probable that the future economic benefits associated with
it will flow to the enterprise and the asset has a cost or value that can be measured
reliably.
Thus, if the auditor is satisfied that the probability of the company to claim the said
credit its high, it could recognize the same as an asset. In Balance sheet it should
be shown under the head “Loans & Advances” as “MAT credit entitlement.
(d) As per Accounting Standard Interpretation — ASI 14 ‘Disclosure of Revenue from
Sales Transactions’ (Revised) issued by ICAI in Aug 2006, turnover should be
disclosed as follows on the face of the statement of Profit & Loss:
Turnover (Gross)
XX
Less : Excise duty
XX
Turnover (Net)
XX
Further, the excise duty shown above should be the total duty except the
duty related to the difference between closing stock & opening stock which should
be recognized separately in the statement of profit and loss, with an explanatory
note in the notes to accounts to explain the nature of the two amounts of excise
duty.
Since the company, X Ltd has not followed the above ASI 14, the auditor
would have to qualify his report accordingly.
Table Showing Marks of Compulsory Questions
Year
09
M
09
N
10
M
10
N
11
M
11
N
12
M
Descriptive
12
N
13
M
13
N
5
Practical
5
20
10
Total
5
20
10
5
5
5