Worked Solution
✓ VerifiedAnswer: The following analysis addresses each statement:
Statement (a): CORRECT. Internal control cannot eliminate risk of material misstatements; it can only reduce them to an acceptable level. Per SA 315 (Understanding the Entity and Its Environment), internal controls have inherent limitations including: (i) human judgment in decision-making; (ii) possibility of collusion between management and others; (iii) cost-benefit considerations; (iv) override by management. Therefore, some residual risk always remains. An auditor must design audit procedures considering these limitations.
Statement (b): INCORRECT. When Profit Before Tax from continuing operations is non-volatile, it itself becomes the primary and most appropriate benchmark for materiality, not a secondary consideration. Per SA 320 (Materiality to an Audit), when one benchmark is stable and available, auditors use it; other benchmarks serve only as alternatives when the principal benchmark is volatile or unavailable. The statement's implication that other benchmarks are appropriate when PBT is non-volatile reverses the principle.
Statement (c): INCORRECT. Written representation from management is insufficient for inventory held by third parties when material. Per SA 501 (Audit Evidence—Specific Considerations for Selected Items), the auditor must: (i) obtain direct written confirmation from the third party; (ii) perform physical inspection or observation where practicable; (iii) apply alternative procedures if direct confirmation is not reliable. Management representation alone cannot provide sufficient appropriate evidence for existence and condition.
Statement (d): INCORRECT. Watching the inventory counting process is Observation, not Inspection. Per SA 500 (Audit Evidence), Observation involves watching a process or procedure being performed; Inspection involves examining records or physical items. The auditor observing the counting process is distinct from physically inspecting inventory items. The audit procedure used here is Observation.
Statement (e): INCORRECT. Audit planning, though scientific and objective, cannot be appropriate under all circumstances without professional judgment. Per SA 300 (Planning an Audit), audit procedures must be tailored to: (i) specific entity characteristics; (ii) business complexity and risk profile; (iii) engagement team experience; (iv) prior year findings. No standardized approach applies universally; auditors must exercise professional skepticism and judgment in all situations.
Statement (f): INCORRECT. The period for appointment of the subsequent auditor in a government company is 90 days, not 60 days, from the commencement of the financial year. Per Section 139(5) and (6) of the Companies Act, 2013, while general appointment timelines apply, specific modifications for government companies extend the period. The statutory provision specifies 90 days for government companies.
Statement (g): INCORRECT. The auditor does not separately disclose litigation impacts in the audit report. Per SA 540 (Related Party Disclosures) and AS 4 (Contingencies and Events Occurring After the Balance Sheet Date), the auditee (company) must properly disclose pending litigations in the financial statements themselves. The auditor's responsibility is to verify such disclosure adequacy and express a Modified Opinion if disclosure is inadequate. Litigation disclosure is a financial statement matter, not an audit report matter.
Statement (h): CORRECT. Per Section 143(12) of the Companies Act, 2013 and Rule 13 of the Auditor's Report (Matters to be reported to Audit Committee) Rules, 2016, when fraud involving amounts exceeding the prescribed threshold (₹150 Lakhs exceeds the applicable limit of ₹1 crore in many contexts, or is material) comes to the auditor's knowledge, reporting to the Board/Audit Committee must occur within three days along with communication of remedial measures. The timing and threshold are statutorily prescribed.
Write it like this
1The skeleton
- Write CORRECT/INCORRECT in ALL CAPS at the start of every sub-part — examiners tick this word first before reading your reason; if it's buried or missing, the reasoning mark is at risk too.
- Name the SA or Section in the very next phrase — e.g., 'Per SA 315…' or 'As per Section 139(5) of the Companies Act, 2013…'; this signals you know the source, not just the conclusion.
- For INCORRECT answers, explicitly state the correct position — don't just say 'the statement is wrong'; say what the right rule actually is (e.g., 'the correct period is 90 days, not 60 days') because that's where the reasoning mark actually lives.
- Keep each reason to 2-3 lines — one sentence for the rule, one sentence for why the statement violates it; avoid listing 4 sub-points for a 1.75-mark sub-part, it wastes time and reads like padding.
- For CORRECT statements, still give a reason with the SA/section — most students skip the reasoning for 'correct' ones thinking it's obvious; examiners still need to see the legal basis to award marks.
2Examiner-rewarded phrases
3Common trap
The biggest trap here is confusing Observation and Inspection (statement d) — almost everyone writes 'Inspection' for watching inventory counts because physically seeing stock feels like inspecting it, but SA 500 is clear that watching a process is Observation. Lock this in: Observation = watching someone else do something; Inspection = you yourself examine a record or physical item.