CA Inter FM + SM

The following are the answers to the statements (any 8 may be selected):

(i) INCORRECT – An Emphasis of Matter (EoM) paragraph is not a substitute for Disclaimer of Opinion. An EoM paragraph is used to draw attention to matters appropriately presented in the financial statements and fundamental to users' understanding, while the auditor still expresses an unqualified opinion. A Disclaimer of Opinion, conversely, is issued when the auditor cannot obtain sufficient audit evidence with pervasive effects. These are distinct reporting mechanisms serving different purposes.

(ii) INCORRECT – The primary objective of an audit is NOT to detect fraud and errors. The primary objective is to obtain reasonable assurance that the financial statements as a whole are free from material misstatement, whether due to fraud or error. Fraud and error detection is incidental to achieving this objective, not the primary purpose.

(iii) INCORRECT – The Statutory Auditor is not required to physically verify inventory. This responsibility lies with the management/Board of Directors under the Companies Act, 2013. The auditor verifies whether management's inventory verification procedures are adequate and obtains sufficient audit evidence regarding inventory accuracy, existence, and valuation.

(iv) INCORRECT – It is the responsibility of MANAGEMENT to ensure financial statements comply with Accounting Standards. The auditor's role is to audit the financial statements and report on such compliance. The auditor evaluates compliance; management is responsible for ensuring it.

(v) INCORRECT – An external expert engaged by the auditor IS subjected to the audit firm's quality control policies and procedures. The audit firm remains responsible for the quality of work performed by any external expert. Compliance with quality control is mandatory.

(vi) CORRECT – Extracts and copies of important legal documents, agreements, minutes of board and committee meetings, and relevant correspondence form part of the current audit file. These constitute essential audit evidence and working paper documentation necessary to support audit conclusions.

(vii) INCORRECT – The auditor shall NOT express an unqualified opinion if unable to obtain sufficient audit evidence regarding opening balances. Such a scope limitation requires a qualified opinion or disclaimer of opinion, depending on materiality and pervasiveness. Unqualified opinion demands complete audit evidence for all material assertions.

(viii) INCORRECT – The first auditor is appointed by the BOARD OF DIRECTORS, not the General Meeting. Section 139(6) of the Companies Act, 2013 specifically provides for board appointment of the first auditor. Subsequent auditors are appointed by shareholders at the General Meeting.

(ix) CORRECT – Surprise checks are indeed part of internal check/control. Unannounced verification procedures (surprise checks) are conducted without prior notice to staff. They are an effective internal control technique to prevent fraud, detect manipulation, and test control effectiveness.

(x) INCORRECT – An auditor is NOT bound to provide copies of working papers to the CEO. Working papers are the auditor's property, prepared for the auditor's own use and reference. Although the auditor may provide extracts or relevant copies at discretion, there is no obligation to share complete working papers with company management.

VOUCHING AND VERIFICATION PROCEDURES

Vouching involves verifying entries in the books and accounts with supporting original documents and evidence. Verification involves physical examination and confirmation of the existence and condition of assets.

(a) Assets Acquired on Lease (4 marks)

Vouching Procedures:
Obtain and examine the lease agreement signed between lessor and lessee noting critical terms including lease period, commencement date, monthly/annual lease payments, and renewal options. Verify that the lease is correctly classified as a finance lease or operating lease based on Ind AS 116 criteria. Check lease payment schedule against lease deed and verify entries in books of account for consistency with scheduled amounts. Examine bank statements and cheque counterfoils to verify lease payments made. Review the journal entry for initial recognition of lease, ensuring right-of-use asset and lease liability are appropriately recorded. Verify depreciation calculation on right-of-use asset and interest expense on lease liability. Check if any lease modification occurred and its accounting treatment.

Verification Procedures:
Physically inspect the leased assets to confirm their existence, condition, and continued operation. Verify that assets are recorded in the fixed asset register with complete descriptions. Check maintenance records to confirm that maintenance obligations are being met as per lease terms. Verify insurance coverage of leased assets. Obtain confirmation directly from the lessor regarding outstanding lease obligations and any defaults. Review contingent liability disclosures for any lease-related commitments. Ensure proper disclosure of lease information in notes to accounts including maturity schedule of lease payments and contingent rentals, if any.

(b) Investment in Shares and Debentures of Subsidiary (4 marks)

Vouching Procedures:
Obtain and examine the Board resolution authorizing the purchase of shares/debentures. Verify investment by examining the broker's confirmation note or purchase invoice showing quantity, type, rate, and total cost. Check bank statements and payment records to confirm cash outflow and verify that investment was made at the correct price. Examine share certificates or debenture documents to verify the number of shares/debentures acquired and their denomination. Verify the shareholding percentage to confirm subsidiary status. Review dividend/interest income received and reconcile with expected yields. Check the share register or subsidiary records for confirmation of investment details.

Verification Procedures:
Obtain written confirmation directly from the subsidiary regarding shares/debentures held by parent company and their outstanding amounts. Verify that investments are recorded at cost and check for any impairment by comparing book value with fair value or net asset value of subsidiary. Review the financial statements of subsidiary to assess value of investment and confirm subsidiary's financial health. If quoted investments, verify current market price and assess for any permanent diminution. Examine dividend/interest received during the year against expected amounts. Ensure proper consolidation adjustments are made if parent and subsidiary accounts are consolidated. Verify disclosure requirements under Ind AS 27 regarding separate financial statements and subsidiary information.

(c) Provision for Income Tax (4 marks)

Vouching Procedures:
Obtain the income tax return filed by the company and verify the tax liability computed therein. Review assessment orders and demand notices from tax authorities to confirm tax assessed and any outstanding liabilities. Verify opening balance of income tax provision with prior year closing balance and audited accounts. Examine journal entries for provision created during the current year with supporting calculations. Cross-check tax paid during the year with bank statements, cheque records, and income tax receipts/challan copies. Review correspondence with tax authorities to identify any additional assessments, appeals, or reassessments pending.

Verification Procedures:
Verify that provision for income tax is adequate by analyzing the company's tax position, including any pending assessments, disputes with authorities, and likelihood of outflow of resources. Review tax computation for potential areas of dispute (depreciation, disallowances, deductions claimed). Check if any contingent liability relating to income tax should be disclosed (e.g., pending appeals, notice of proposed assessment). Confirm whether provision should be classified as current or non-current liability. Verify compliance with Ind AS 37 (Provisions) regarding uncertain tax positions. Obtain confirmation from tax advisor/legal counsel regarding adequacy of provision and contingent liabilities. Ensure appropriate disclosure in notes regarding tax matters, pending assessments, and tax provisions.

(d) Retirement Gratuity to Employees (4 marks)

Vouching Procedures:
Obtain and examine the company's gratuity policy or scheme document to understand eligibility criteria, calculation method, and payment terms. Review the gratuity register listing all employees, their joining dates, retirement dates, and gratuity amounts payable. Verify that gratuity calculation follows the Payment of Gratuity Act, 1972 (minimum 5 years' service required for statutory gratuity) or the company's own more favorable scheme. Examine journal entries for provision created or enhanced during the year. Verify opening balance of gratuity provision with prior year audited accounts.

Verification Procedures:
Obtain an actuarial valuation report from an independent actuary to confirm the adequacy of gratuity provision using accepted actuarial assumptions. Select a sample of employees and recalculate gratuity amounts to verify accuracy. Verify gratuity payments made during the year by checking settlement letters and bank statements. Examine final settlement documents of employees who retired to confirm gratuity paid. Verify that only eligible employees (with minimum 5 years' service) are included in the register. Reconcile the gratuity register with the payroll records and employee master file. Check if gratuity is provided as part of the final settlement package. Verify disclosure requirements in notes regarding gratuity provision, actuarial assumptions used, and reconciliation of opening and closing balances. Ensure compliance with Ind AS 19 (Employee Benefits) for accounting and disclosure of gratuity obligations.

Part (a): Degree of Reliance on Work of Internal Auditor — SA 610

SA 610 (Revised), "Using the Work of Internal Auditors", governs the external (statutory) auditor's responsibilities when the entity has an internal audit function. The cardinal principle under SA 610 is that the statutory auditor bears sole and undivided responsibility for the audit opinion expressed; this responsibility cannot be reduced merely because reliance is placed on the internal auditor's work.

The statement that the degree of reliance is a matter of individual judgement is accurate and finds explicit support in SA 610. The statutory auditor must exercise professional judgement by evaluating the following key factors:

1. Organisational Status: The statutory auditor must consider the position of the internal audit function within the organisation. If the internal auditor reports directly to those charged with governance (e.g., Audit Committee) and not to management, the independence and objectivity are higher, permitting greater reliance. Conversely, if management controls or restricts the internal auditor's scope, reliance must be limited.

2. Scope of the Internal Audit Function: The statutory auditor evaluates the nature and scope of work assigned to the internal auditor. If the internal audit function covers areas directly relevant to the statutory audit — such as internal controls, risk assessment, or specific account balances — higher reliance may be placed. If the scope is narrow or focused on operational matters unrelated to financial reporting, reliance will be lower.

3. Technical Competence: The internal auditors must possess adequate technical competence, qualifications, and experience relevant to the work performed. The statutory auditor considers whether the internal audit team comprises members with professional qualifications and whether they receive continuous training.

4. Due Professional Care: The statutory auditor assesses whether the internal audit function plans its work, properly documents findings, appropriately supervises work, and reviews conclusions. Absence of systematic working paper documentation or review processes reduces reliance.

Evaluation of Specific Work: Even after assessing the overall internal audit function as adequate, the statutory auditor must evaluate the specific work of the internal auditor proposed to be relied upon. This involves:
- Reviewing whether the work was adequately planned, performed, supervised, and reviewed;
- Verifying that sufficient appropriate evidence was obtained;
- Confirming that conclusions reached are appropriate;
- Reviewing working papers to assess accuracy and completeness.

Prohibition on Sole Reliance for High-Judgement Areas: SA 610 explicitly states that the statutory auditor must not use internal auditors to perform procedures that require the exercise of significant judgement in the audit — for example, assessing the risk of material misstatement, evaluating the appropriateness of accounting policies, or forming a conclusion on the adequacy of going concern disclosures. In such areas, no reliance on internal audit is permissible.

Conclusion: Since the above factors vary from entity to entity, and even from audit area to audit area within the same entity, the extent of reliance is inherently a matter of the statutory auditor's individual professional judgement applied after a thorough evaluation. Greater confidence in the internal audit function and its specific deliverables permits reduced substantive procedures; lesser confidence demands more extensive independent work by the statutory auditor.

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Part (b): Audit Procedures When Principal Auditor Uses Work of Another Auditor — SA 600

SA 600, "Using the Work of Another Auditor", applies when a principal auditor (the auditor who reports on the overall financial statements of an entity) uses the audit work performed by another auditor on a component — a subsidiary, branch, division, or associated entity whose financial information is included in the overall statements.

The principal auditor retains full responsibility for the overall audit opinion. The following procedures must be undertaken:

Step 1 — Determine Significance of Component: The principal auditor must assess the materiality of the component audited by the other auditor. If the component is material to the overall financial statements, the principal auditor must perform more rigorous procedures regarding the other auditor's work.

Step 2 — Assessment of the Other Auditor's Competence: The principal auditor should satisfy themselves regarding the professional competence, independence, and qualifications of the other auditor. Where the other auditor is not a member of a recognised professional body, the principal auditor must apply additional procedures.

Step 3 — Communication and Coordination: The principal auditor must:
- Advise the other auditor of the overall audit scope, applicable financial reporting framework, significant accounting policies, and areas requiring special consideration;
- Communicate deadlines, reporting requirements, and the format of information needed;
- Inform the other auditor that their findings will be relied upon for the consolidated/overall opinion.

Step 4 — Written Representation from Other Auditor: The principal auditor should obtain a representation from the other auditor confirming: (i) compliance with ethical requirements including independence; (ii) awareness of the applicable financial reporting framework; and (iii) confirmation of the work performed and the conclusions reached.

Step 5 — Review of the Other Auditor's Work: The principal auditor should:
- Review the audit programme or significant portions of the working papers of the other auditor;
- Hold detailed discussions with the other auditor about audit findings, material weaknesses in internal control, and significant accounting issues;
- Consider whether to visit the component and participate in the audit where the component is highly significant.

Step 6 — Significant Findings and Adjustments: Where the other auditor's report contains a modified opinion, or where the principal auditor discovers issues during review, the principal auditor must consider the impact on the overall opinion. Unresolved issues must be independently investigated.

Step 7 — Documentation: The principal auditor must document: the components audited by other auditors, the significance of those components, the conclusions drawn about the other auditor's competence and independence, and the procedures performed to review their work.

Effect on the Audit Report: If the principal auditor is unable to obtain sufficient appropriate evidence regarding a material component, a scope limitation may arise, potentially resulting in a qualified or disclaimer of opinion. SA 600 allows the principal auditor to refer to the other auditor in the report, but only if it is deemed relevant to the user's understanding of the audit.