2023 (10) TMI 1122 - NFRA - Companies Law

Professional Misconduct - Chartered Accountant (CA) - Lapses in evaluation of writing-back of liabilities - Failure in evaluation and attendance at physical verification of Inventory - Inappropriate reporting of matters through KAM - Forming inappropriate Audit Opinion - Non-evaluation of utilisation of IPO proceeds - Non-evaluation of Related Parties Transactions - Non-implementation of Quality Control Measures - Failure on the part of audit firm - Penalties and sanctions. Lapses in evaluation of writing-back of liabilities - HELD THAT - It is expected that the Auditors would show a high level of professional skepticism and be alert to the possibility of mis-statement if restrained by the management from obtaining external confirmations, which is an essential component of independent audit. The Auditors should not only have re-assessed the risks posed by this restraint on their audit and performed alternative audit procedures to mitigate such risk (Para 8 of SA 505) but also considered this informing their audit opinion. Instead, it is found that the auditors have given unmodified opinion ignoring the restraint imposed by the management on their independent audit. The procedures referred to by the Auditors neither meet the requirements of alternate audit procedures, nor were appropriate or documented. Therefore, the Auditors responsible for carrying out the audit without due diligence and in a perfunctory manner. Failure in evaluation and attendance at physical verification of Inventory - HELD THAT - There are no audit documentation regarding the physical count of the inventory. It is noted that SA 501 mandates an auditor to attend physical count of the inventory (para 4) and if it is impracticable to attend the physical count and not possible to apply alternative audit procedures, then the auditor is required to modify the audit opinion (para 7). In the case of LGIL, inventory constituted 49.85% of the current assets in FY 2017-18, 65.10% in FY 2018-19 and 65.53% in FY 2019-20, making it a significantly material item for the Auditors to attend its physical count, but they failed to do the same. As per section 143 (9) of the Act, it is the statutory duty of the auditor to comply With the SAS and Para 18 of SA 200 also requires the auditor to comply with all the SAS relevant to the audit. Failure to attend the physical count of the inventory was a serious non-compliance of SA 501 and the provisions of the Act - the charge that the Auditors did not comply with the provisions of SA 200, 230, 315 and 501 to obtain sufficient appropriate audit evidence for the audit of the inventory, is established. Inappropriate reporting of matters through KAM - HELD THAT - When enquired by NFRA with the company, replied vide email dated 14.09.2023 that there was a failure on the part of the company as there was error on printer side while composing the Annual Report for better presentation. LGIL said that the error was unintentional and regretted the same. However, it is observed that this does not appear to be a printing error, as there were differences not only in the number of the KAMs issued, but also there were differences in the subject matter of KAMs - Para 13 of SA 720 requires an auditor to determine through discussion with the management, the documents that comprise the annual report; the entity's planning and timing of the issuance of such documents; make appropriate arrangements with the management to obtain the final version of the documents comprising the annual report in a timely manner and, if possible, prior to the date of the auditor's report. Therefore, the reply of the Auditors attributing the errors to the company also shows ignorance of SA 720 and its eventual non-compliance. Forming inappropriate Audit Opinion - HELD THAT - It is observed earlier that the accounting policy regarding unilateral extinguishment of liabilities and valuation of finished goods was not in accordance with the FRF, and the Auditors were restrained from obtaining external confirmation in respect of extinguishment of liabilities. Therefore, the Auditors could not conclude that they had obtained sufficient appropriate audit evidence to state that the FS were free from material misstatements and to issue unmodified opinion, which they did. Non-evaluation of utilisation of IPO proceeds - HELD THAT - The audit procedures mentioned by the Auditors in their reply to the SCN is not evidenced from the Audit File. Mere obtaining a certified copy from the management regarding utilisation of the IPO proceeds, does not relieve the Auditors from the responsibility of performing the required audit procedures. There is no evidence in the Audit File that the auditors had performed risk analysis of potential misstatements before the issuance of IPO (over statement of revenue / assets or understatement of expenses / liabilities to present rosy picture to the investors) and after realization of the IPO proceeds (misappropriation of the proceeds for purposes other than the declared purpose). The Auditors did not show the skepticism expected from them while reporting under CARO 2016 about proper utilization of money raised from the IPO, especially in light of the observed instances of artificial inflation of profits and reduction of liabilities by unilateral write-back of outstanding payables, and significant payments (44.29% of the IPO proceeds) to the related party from the IPO proceeds - the Auditors responsible for not performing the due audit procedures, for failure to obtain sufficient appropriate audit evidence for reporting under CARO 2016 about proper utilisation of IPO proceeds, and for their failure to comply With SA 315. Non-evaluation of Related Parties Transactions - HELD THAT - There are no audit documentation by the Auditors in respect of verification of the RPTs, except for obtaining the list of Related Parties and their transactions. It is also observed that the Auditors are frequently mentioning of keeping the data in the digital files, which could easily be made part of the audit files, but the same was not done. The Auditors while replying to the SCN submitted minutes of meeting of the Audit Committee for three FYs and price comparison statement of purchase of coal from the related party with the price from the other parties etc. as a token of their performance in accordance with SA 550. This is not evidenced from the audit files, and therefore is deemed an afterthought, as Para S and 1 4 of SA 230 requires the assembling of such documents in the audit file within 60 days after the date of the auditor's report, which the Auditors failed to do. Non-implementation of Quality Control Measures - HELD THAT - There are no audit documentation establishing that CA Ashok Holani was appointed as EQCR. Name of CA Ashok Holani has been referred at only one of the workpapers named 'Activity Log' at page no. 3.1 of the audit files, however it does not establish his appointment as EQCR. The EQCR is duty bound to document his work as per Para 25 of SA 220, however we did not find any working of EQCR in the audit files, establishing performance of his work during the audit. Therefore, the Auditors' failure in implementation of quality control measures and ensuring of independence is established. Failure on the part of audit firm - HELD THAT - M/S Ashok Holani Co. was the statutory auditor of LGIL for the FYs 2017-18 to 2019-20 and, the Audit Firm and the EP have made departures from the SAS and the Companies Act, 2013 and have been grossly negligent in performing the audit of LGIL, by placing blind reliance on the assertions of the management in accounting of unilateral extinguishment of liabilities, valuation of inventory, verification of the utilisation of IPO proceeds and RPTs etc. The contention that they are a small audit firm, cannot be accepted as auditors are duty bound to comply with the requirements of the statutes to safeguard the interest of public. Therefore, in addition to the EP, we hold the Audit Firm also responsible for the lapses discussed. Penalties and sanctions - HELD THAT - Considering the fact that professional misconducts have been proved and considering the nature of violations and principles of proportionality, in exercise of powers under Section 132(4)(c) of the Companies Act, 2013, it is ordered i. Imposition of a monetary penalty of Rupees Ten Lakhs upon the Audit Firm M/S Ashok Holani Co., the appointed Statutory Auditor ii. Imposition of a monetary penalty of Rupees Five Lakhs upon CA Rahul Jangir, the Engagement Partner. In addition, CA Rahul Jangir is debarred for three 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. Lapses in the audit.
2. Lapses by the Audit Firm.
3. Articles of Charges of Professional Misconduct by the Auditors.
4. Additional Articles of Charges of Professional Misconduct specific to the Audit Firm.
5. Penalty & Sanctions.

Summary:

1. Lapses in the Audit:
The National Financial Reporting Authority (NFRA) found significant lapses in the audit conducted by M/S Ashok Holani & Co. and CA Rahul Jangir for Lexus Granito India Limited (LGIL) for FYs 2017-18 to 2019-20. The auditors failed to meet the Standards on Auditing (SA) requirements, showing gross negligence and lack of professional skepticism. Key issues included:
- Unilateral Write-Back of Liabilities: LGIL wrote back substantial liabilities as 'Other Income,' inflating profits and understating losses. The auditors did not apply appropriate audit procedures to test these transactions.
- Inventory Valuation: LGIL adopted a flawed accounting policy for inventory valuation, not complying with AS 2. The auditors failed to attend physical inventory counts and did not modify their opinion despite material misstatements.
- Related Party Transactions: The auditors did not obtain sufficient appropriate audit evidence for related party transactions, including significant payments from IPO proceeds to a related party.
- Inappropriate Reporting through KAM: The auditors reported matters through Key Audit Matters (KAM) without sufficient audit evidence or prior communication with Those Charged with Governance (TCWG).
- Forming Inappropriate Audit Opinion: Despite material misstatements, the auditors issued unmodified opinions for the FYs 2017-18 to 2019-20.

2. Lapses by the Audit Firm:
The audit firm, M/S Ashok Holani & Co., failed to establish and maintain a system of quality control, ensuring compliance with professional standards and regulatory requirements. The firm did not document compliance with independence requirements or appoint an Engagement Quality Control Reviewer (EQCR) for the statutory audit of a listed company.

3. Articles of Charges of Professional Misconduct by the Auditors:
The NFRA concluded that the auditors committed professional misconduct under Section 22 of the Chartered Accountants Act 1949 and Section 132 (4) of the Companies Act 2013. The charges included:
- Failure to disclose material facts and report material misstatements.
- Gross negligence and lack of due diligence in conducting the audit.
- Failure to obtain sufficient information necessary for expressing an opinion.
- Failure to invite attention to material departures from generally accepted auditing procedures.

4. Additional Articles of Charges of Professional Misconduct specific to the Audit Firm:
The audit firm was additionally charged with professional misconduct for failing to exercise due diligence and being grossly negligent in the conduct of professional duties, violating the Standards on Auditing and SQC 1.

5. Penalty & Sanctions:
Based on the findings, NFRA imposed the following penalties and sanctions:
- A monetary penalty of Rupees Ten Lakhs on M/S Ashok Holani & Co.
- A monetary penalty of Rupees Five Lakhs on CA Rahul Jangir, along with a three-year debarment from being appointed as an auditor or internal auditor or from undertaking any audit in respect of financial statements or internal audit of any company or body corporate.

The order will become effective 30 days from its issue.