2023 (8) TMI 203 - NFRA - Companies Law

Professional Misconduct - Acceptance of audit engagement disregarding Independence requirements - Tampering of Audit File and related lapses (SA 230, Audit Documentation) - Failure to understand the audited entity, to perform risk assessment procedure to identify, assess respond to Risk of Material Misstatement due to fraud, and to prepare Audit Plan - Lapses in audit of fraudulent loan transactions with MACEL, fraudulent understatement of loans and evergreening of loans through structured circulation of funds - Lapses in audit of fraudulent recognition of Interest income - Lapses in audit of fraudulent diversion of funds to Giri Vidhyuth (India) Limited (GVIL) - Lapses in audit of fraudulent loan transactions with Tanglin Retail Reality Developments Pvt Ltd (TRRDPL) - Lapses in audit of suspected fraudulent diversion of amount given as land advances to related parties - Penalties and sanctions. Acceptance of audit engagement disregarding Independence requirements - HELD THAT - In this case, the Auditors failed to perform appropriate audit procedures to evaluate and maintain their independence from TDL. In spite of the Auditors having an independence threat, they accepted the audit engagement as statutory auditor of TDL from FY 2018-19 by disregarding and grossly violating the principles of lndependence mentioned in the Standards on Auditing and the Code of Ethics. In view of this, the charge stands proved that the Auditors have violated SQC 1, SA 200 and SA 220. Tampering of Audit File and related lapses (SA 230, Audit Documentation) - HELD THAT - It is clear that even the ICAI had also advised to document the timing of performing audit procedures in the Audit File. Therefore, the reply of the Auditors is misconceived. We cannot also give credence to the claim that the dates of conducting the audit by article assistants are available in time sheet maintained separately, because these records have not been maintained as part of the Audit File as required under SA 230 - The clear evidence of the Auditors tampering with the Audit File without valid reasons displays unprofessional behavior unbecoming of a professional auditor. We have already seen in the cases decided by PCAOB that internationally any attempt to tamper with the audit file is taken very seriously by the auditing regulators and entails significant regulatory sanctions - the charge that the Auditors have violated SQC 1, SA 200, SA 220 and SA 230 is proved. Failure to understand the audited entity, to perform risk assessment procedure to identify, assess respond to Risk of Material Misstatement due to fraud, and to prepare Audit Plan - HELD THAT - As per SA 300, an auditor is required to establish an audit strategy including nature, timing and extent of planned risk assessment procedure. As per SA 315, an auditor is required to perform risk assessment procedures to provide a basis for identification and assessment of RoMM at the financial statement and assertion level. As per SA 330, an auditor is required to respond to the assessed RoMM. These are mandatory logical sequential audit procedures required for effective performance of an audit engagement. which the Auditors failed to perform. They failed to even understand TDL so as to perform an effective audit - It is found that the Auditors failed to perform these basic audit procedures in this case, and thus violated SA 300, SA 315 and SA 330. Lapses in audit of fraudulent loan transactions with MACEL (Rs 2614.35 crores), fraudulent understatement of loans (Rs 474 crores) and evergreening of loans through structured circulation of funds - HELD THAT - The disclosure of related party transactions in the Financial Statements and its routing through banking channel does not provide immunity to such transactions from PMLA. The fact is that Rs 474 crores was diverted to promoter owned company-MACEL and attempts were made to conceal this diversion by fraudulently understating this balance in the financial statements. Total fraudulent transactions with MACEL during the year were Rs 2614.35 crores. There was large scale evergreening of loans through structured circulation of funds involving many group companies. All this was done without proper authorization by the Board of Directors, without entering into any agreement and without obtaining any security. Money has ultimately moved to promoter owned company-MACEL. These are ample proof of cheating and dishonesty. Therefore, this is a clear case of money laundering as per PMLA, which Auditors failed to report in the Independent Audit Report. The Auditors' contention that section 143(1) of the Act provides certain rights to auditor and does not cast any duty on the auditor is not acceptable as the auditor is required by section 14 3 (1)(b) to inquire whether the transactions of the company which are represented merely by book entries are prejudicial to the interest of the company. Obviously, the Auditors have failed to comply with these provisions in this case - the charge that the Auditors have violated section 143(1)(b), 143(12) of the Act, CARO, SA 200, SA 240, SA 250, SA 315, SA 330 and failed to report violation of section 179(3) of the Act by TDL, is proved. Lapses in audit of fraudulent recognition of Interest income of Rs 75.58 crores - HELD THAT - The importance of revenue recognition can be understood from the fact that SA 240, which deals with the auditor's responsibilities relating to fraud in an audit of financial statements, made it mandatory for auditors to presume fraud in recognition of revenue. The risk of material misstatement due to fraud is a significant risk and the auditor is required to obtain an understanding of the entity's related controls including control activities. The risk of fraud in revenue recognition is greater in listed companies where performance in measured in terms of year-over-year revenue growth or profit. TDL is a subsidiary company of a listed company, CDEL. Fraudulent recognition of interest income of Rs 75.58 crores has resulted in overstatement of revenue and profit of TDL and in tum profit of the listed company CDEL. This has materially impacted the financial performance of TDL and CDEL. We note that the Auditors had shown their gross negligence by not obtaining sufficient appropriate audit evidence in this important matter - the Auditors violated section 143(12) of the Act, SA 200, SA 240, SA 315 and SA 330, hence this charge stands proved. Lapses in audit of fraudulent diversion of funds of Rs 507.05 crores to Giri Vidhyuth (India) Limited (GVIL) - HELD THAT - It is already detailed how the loans were not actually recovered from MACEL but fraudulently understated by Rs 474 crores through receipt of cheques from MACEL. Further, evergreening of loans through structured circulation of funds among group companies including MACEL, GVIL TRRDPL to clear cheques has also been proved. The financial positions of these companies clearly shows that MACEL had negligible business and GVIL did not have any business. MACEL GVIL had negative net worth and were used by the promoters as conduits for diversion of funds. There were enough evidences that MACEL and GVIL did not have financial strength to repay loans. Accordingly, recognition of impairment loss allowance and writing off of non-recoverable portion of loans was required to be made, which was not done by TDL. The Auditors have failed to report non-compliance with Ind AS 109. The financial jugglery adopted by the TDL and GVIL was known to them as they were the Auditor for both TDL and GVIL - the charge that the Auditors have violated section 143(3)(e), 143 (12) of the Act, the CARO, SA 200, SA 240, SA 315 and SA 330, is proved. Lapses in audit of fraudulent loan transactions of Rs 1743.42 crores with Tanglin Retail Reality Developments Pvt Ltd (TRRDPL) - HELD THAT - The fact of TRRDPL becoming the nodal intermediary for sale of Mindtree shares is not documented in the Audit File. The Auditors have tried to give rationale to cover part of transactions of Rs. 1,743.42 crores with TRRDPL. Out of Rs 992.66 crores loan taken from TRRDPL, reply is given for Rs 775 crores only and similarly, out of Rs 750.76 crores loan given to TRRDPL, reply is given for Rs 500 crores only. Further, this part amount is not supported by any audit evidence available in the Audit File. These loan transactions were required to be evaluated by the Auditor at the time of performing audit procedures, which is not evident from the Audit File. Therefore, the Auditors have given this reply as an afterthought with intention to shield their deficiencies in audit. The bank statements and bank reconciliation statements of TDL and other group companies, given in Chapter C-4 of this Order, all points to the fact that TRRDPL was used by the TDL for evergreening of loans and understatement of loans given to MACEL. This shows that the Financial Statements of TDL and TRRDPL were manipulated to hide diversion of funds to promoter controlled entity-MACEL. It was the Auditors' duty to exercise due diligence while conducting Audit of transactions with TRRDPL. Failure to do so shows their gross negligence in discharging the statutory duty cast upon them by the Auditing Standards and the Act - tthe charge that the Auditors have violated the CARO, SA 200, SA 240, SA 315, SA 330 and failed to report violation of section 179(3) of the Act by TDL is proved. Lapses in audit of suspected fraudulent diversion of Rs 415 crores given as land advances to related parties - HELD THAT - Release of huge amount to related parties on the pretext of land advance, title disputes of land for which money is advanced and return of advance on the flimsy explanation of non-suitability of land, were required to be evaluated by the Auditors with professional skepticism. But this was not done indicating that the Auditors had performed the audit in a perfunctory manner - the charge that the Auditors have violated section 143(12) of the Act, SA 240, 315 and SA 3 3 0 is proved. Penalties and sanctions - HELD THAT - Section 132(4) of the Companies Act, 2013 provides for penalties in a case where professional misconduct is proved. The seriousness with which proved cases of professional misconduct are viewed is evident from the fact that a minimum punishment is laid down by the law. In the instant case, the Auditors, chose to preserve their professional relationship with the promoters of the auditee company, instead of discharging their statutory duty to protect public interest by exercising professional skepticism and questioning the promoters dubious activities and transactions leading to diversion of shareholders and stakeholders money on a large scale. Had they performed the required audit procedures with due professional skepticism, many of the dubious transactions would have been perhaps detected. But by failing to do so, they foreclosed this possibility causing immense harm to shareholders and stakeholders - Auditors were required to ensure compliance with Standards on Auditing, Laws and Regulations to achieve the necessary audit quality and lend credibility to Financial Statements to facilitate their users. As detailed in this Order, substantial deficiencies in Audit, abdication of responsibility and inappropriate conclusions on the part of the Auditors establish their professional misconduct and lack of due diligence. Despite being qualified professionals, the Auditors have not adhered to the Standards and have thus not discharged the duty cast upon them. Considering the proved professional misconduct and keeping in mind the nature of violations, principles of proportionality and deterrence against future professional misconduct, it is ordered as below (i) Imposition of a monetary penalty of Rs One crore upon M/s Sundaresha Associates. In addition, M/s Sundaresha Associates is debarred for a period of two years from being appointed as an auditor or internal auditor or from undertaking any audit in respect of financial statements or internal audit of the functions and activities of any company or body corporate. (ii) Imposition of a monetary penalty of Rs Five Lakhs upon CA C. Ramesh. In addition, CA C. Ramesh is debarred for a period of five years from being appointed as an auditor or internal auditor or from undertaking any audit in respect of financial statements or internal audit of the functions and activities of any company or body corporate.

Summary

Issues Involved:
1. Professional Misconduct by Auditors
2. Independence Requirements
3. Tampering of Audit File
4. Risk Assessment Procedures
5. Fraudulent Loan Transactions
6. Interest Income Recognition
7. Diversion of Funds
8. Internal Financial Control
9. Compliance with Laws and Regulations

Summary:

1. Professional Misconduct by Auditors:
The National Financial Reporting Authority (NFRA) found the auditors, M/s Sundaresha & Associates and CA C. Ramesh, guilty of professional misconduct under Section 132(4) of the Companies Act 2013 for the statutory audit of Tanglin Developments Limited (TDL) for FY 2018-19. The auditors failed to meet the Standards on Auditing (SA) requirements, lacked competence, and demonstrated a serious lack of professional skepticism and judgment.

2. Independence Requirements:
The auditors failed to maintain independence from TDL by having audit and non-audit relationships with multiple Coffee Day Group entities and the promoters' family members. The auditors did not comply with the ethical requirements of SQC 1, SA 200, and SA 220, and failed to evaluate their independence before accepting the audit engagement.

3. Tampering of Audit File:
The auditors tampered with the Audit File to deceive NFRA by modifying and adding documents after NFRA requested the Audit File. This act violated SA 230 and displayed unprofessional behavior. The auditors' explanations were deemed evasive and unacceptable.

4. Risk Assessment Procedures:
The auditors did not perform adequate risk assessment procedures to identify and respond to the Risk of Material Misstatement (RoMM) due to fraud. They failed to understand TDL, did not prepare an audit plan, and did not perform risk assessment procedures as required by SA 300, SA 315, and SA 330.

5. Fraudulent Loan Transactions:
The auditors failed to report fraudulent loan transactions of Rs 2614.35 crores with MACEL, fraudulent understatement of loans of Rs 474 crores, and evergreening of loans through structured circulation of funds. They did not comply with SA 200, SA 240, SA 250, SA 315, SA 330, Section 143(1), 143(12) & 179(3) of the Act, and CARO.

6. Interest Income Recognition:
The auditors failed to exercise professional skepticism and judgment while auditing interest income of Rs 75.58 crores from MACEL, which was not recognized in MACEL's financial statements. This resulted in overstatement of revenue and profit, violating SA 200, SA 240, SA 315, SA 330, and Section 143(12) of the Act.

7. Diversion of Funds:
The auditors failed to report the fraudulent diversion of funds of Rs 507.05 crores to GVIL and Rs 1743.42 crores to TRRDPL. They did not perform adequate audit procedures and failed to report non-compliance with Ind AS 109, Section 143(3)(e), 143(12) of the Act, and CARO.

8. Internal Financial Control:
The auditors falsely reported that TDL had adequate Internal Financial Controls (IFC) despite the complete absence of the same. They did not perform any test of control with reference to the use of cheques leaves, management override of control, and authorization of transactions, violating Section 143(1)(i) of the Act.

9. Compliance with Laws and Regulations:
The auditors failed to ensure compliance with Section 134(1) of the Act, SA 260, SA 265, SA 500, SA 505, SA 550, and SA 700. They did not obtain sufficient appropriate audit evidence, failed to communicate with Those Charged With Governance (TCWG), and did not report material misstatements and non-compliances.

Penalty & Sanctions:
NFRA imposed a monetary penalty of Rs One crore on M/s Sundaresha & Associates and debarred them for two years from being appointed as auditors. CA C. Ramesh was fined Rs Five Lakhs and debarred for five years from undertaking any audit in respect of financial statements or internal audit of any company or body corporate. This order will become effective after 30 days from issuance.