9911796707
TMI Blog2023 (8) TMI 62X X X X Extracts X X X X X X X X Extracts X X X X ..... arges of Professional Misconduct by Auditor F. Penalty & Sanctions A. Executive Summary 3. The National Financial Reporting Authority (NFRA) is India's independent regulator in respect of matters relating to accounting and auditing of prescribed classes of entities which can be broadly described as 'Public Interest Entities' or PIEs. 4. NFRA initiated action under Section 132(4) of the Companies Act, 2013 (the Act hereafter) for investigating into professional misconduct by the Engagement Partner, CA Hemant Khator, partner of M/s GSV & Co, consequent on information received from the Office of Registrar of Companies, Mumbai, regarding investigation carried out by office of Regional Director, Mumbai into the affairs of WNLL, listed on SME segment of Bombay Stock Exchange (BSE) with 59.94 % of shares held by public. 5. WNLL was engaged in manufacturing and trading lingerie, intimate wear and select exclusive wear. It had an inventory of Rs 20.60 crore and outstanding trade receivable of Rs 14.93 crore & trade payables of Rs 13.78 crore as per financial statements of FY 2016-17. 6. NFRA's investigation into the alleged failures of the EP, carried out under section 132(4) of the ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... (ROC), Mumbai, a letter dated 25.11.2020 forwarding findings of an investigation carried out by the office of Regional Director, Mumbai into the affairs of WNLL under section 210(1)(a) & 210(1) (c) of the Act. The investigation revealed that the company's books of accounts had been falsified and revenues inflated; that the Auditor had not performed their duties as an "independent watchdog", had not verified the assets and inventories and had not qualified their report. 10. As per its Annual Report for FY 2016-17, WNLL is engaged in the business of manufacturing and trading of lingerie, intimate wear and select exclusive wear. WNLL was listed on the SME segment of BSE during FY 2016-17. Table 1 depicts certain key features of WNLL, its shareholding pattern showing substantial public interest, Revenue, Inventory, Trade Receivables & Trade Payables and PBT for the FY 2016-17. M/s GSV & Co. (Audit Firm) was the Statutory Auditor of WNLL for the FY 2016-17 and CA Hemant Khator was the EP for this statutory audit. The matter was taken up by NFRA for investigation under section 132(4) of the Act to assess whether any professional misconduct was committed by the EP, CA Hemant Khator, p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... e SA 5011. The inventory of WNLL was Rs 20.60 crore as on 31.03.2017 and constituted a material item as it amounted to more than 54 % of the balance sheet size of Rs 37.50 crore. 15. The EP in his reply to SCN reiterated that since his firm was appointed as the auditors after the year end, i.e., on 18.04.2017, they were not able to do the physical verification of stock on 31.03.2017; that the inventory holding level was in line with the past inventory holding trends and hence, he found nothing unusual in it; that during the audit process, they cross verified the stock records maintained & provided by the company in respect of selected items and reconciled them with the entries of receipt & issue in the books of accounts and also reported in para (ii) of the Annexure-"A" to the Independent Auditor's Report that physical verification of Stocks was conducted by the management at reasonable intervals; and that the same is also evidenced by para no. 1 of the Management Representation Letter dated 28.05.2017 related to Stock verification done by the Management. The EP had made similar statements by letter dated 14.11.2019 submitted to Assistant Director/Inspector, office of Regional Dir ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ures to test the existence of inventory held at other locations and in transit, which represented approximately 58 percent of the issuer's inventory at year-end". C.2 Failure to identify the related party and related party transactions 18. The EP was charged with failure to identify the Related Parties and the transactions entered into with them. It was noted from the investigation of ROC that almost 100% of Net Sales was to M/s Shiv Apparel, a Related Party of WNLL, though not identified as such in the annual report for FY 2016-17 but identified as an associate concern under the Related Party disclosure in FY 2013-14. The EP failed to identify the M/s Shiv Apparels as a Related Party and transactions entered into with them as Related Party transactions in the Independent Auditors' Report. 19. The EP in his reply to the SCN stated that he tried to ascertain from the management as well as from the previous financial statements about the associate concerns/Related Parties of the Company and observed that there was no associate concern or Related Party from which the Company was either buying or selling goods. Having no associate or Related Party can also be evidenced from Para 10 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... onfirmations of balances from debtors and creditors, and with failure to perform any alternative procedure in the absence of confirmation from debtors and creditors in accordance with Para 12 read with A18 and A19 of SA 5055. 24. The EP in his reply to SCN submitted that "The Company's management had denied the contact details of the parties due to the fear of losing the business information and they did not want to share such sensitive business information with anyone. Further, we observed that all the debtors and creditors were outstanding for less than 6 months. Due to above reasons and facts, we could not get the external confirmation from the parties." 25. The importance.of external confirmation can be best evidenced by referring to the Satyam case6 in which the Audit Firm Price Waterhouse's failure during audit to obtain external confirmation of bank balances was highlighted. It was stated in the PCAOB order passed in the case that "auditing standards include specific requirements relating to an auditor's use of "confirmation," which is "the process of obtaining and evaluating a direct communication from a third party in response to a request for information about a pa ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... lure to plan the audit of Financial Statements of WNLL as per para 3 & 8 of SA 300; failure to document (a) the overall audit strategy (b) the audit plan; and (c) any significant changes made during the audit engagement to the overall audit strategy or the audit plan, and the reasons for such changes required as per para 11 of SA 300.While planning the audit, the EP was also required as per para 11 of SA 3158 "to understand the nature of the business of WNLL by gaining an understanding of relevant industry, applicable regulatory structure etc. at macro level and gaining understanding of nature of the entity, its operations, its ownership, its governance & capital structure and applicable financial reporting framework etc. at the entity level." 28. The EP in his reply did not refer to any document evidencing the audit planning as required by the SAs. Instead, he stated that: "Immediately after getting the appointment letter, we had a meeting with the top management and key officers of the company to understand the nature and business model of the entity. We also visited its registered office and godown situated at 101-105, Indian complex, Bldg no. 28, 1st Floor, Dapode Village, Bhi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ther issuer audits. In the order passed in this case the PCAOB revoked the registration of Seale and Beers CPAs, LLC and imposed monetary penalty of $20,000. D.2 Failure to identify the TCWG and failure to communicate with TCWG 31. The EP was charged with failure to identify the TCWG as per Para 11 of SA 260 and also failure to communicate with the TCWG, as required under Para 14, 15, 16 & 17 of SA 26010 32. The EP in his reply has stated that "Our firm was appointed as the Auditor of the Company for a very short period; i.e., appointed w.ef. 18.04.2017 and resigned w.e.f. 30.11.2017. The Company was neither intimating about its committee meetings including Audit Committee meetings nor inviting the auditors in such meetings. Hence, we have not attended the audit committee meeting of the Company during the above referred period. We had verbally informed the Managing Director about such irregularities but within short time we also had resigned from the post of the Auditor of the Company." 33. We note that the EP in his reply has not commented on the charges. Though the auditor has stated that he had verbally informed the managing director about the irregularities, it is not supp ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... non-compliance with laws & regulations stands proven. D.4 Failure to determine the materiality and performance materiality 39. The EP was charged with the failure to determine the materiality, as required under Para 10 of SA 32012, for the financial statements as a whole; and performance materiality for purposes of assessing the risks of material misstatement and determining the nature, timing, and extent of further audit procedures as required under para 11 of SA 320. 40. The EP in his reply has nowhere commented on the observation on materiality. In absence of any proper reply or evidence submitted by the EP, we conclude that the charge relating to his failure to determine the materiality and performance materiality stands proven. D.5 Failure to document the sampling methodology adopted for substantive testing 41. The EP was charged with failure to obtain sufficient appropriate audit evidence to support his opinion and audit report as required under paraA1 of SA 50013. The Audit File has no documentation regarding extent of verification of the transactions carried out, and whether the entire population was verified, or any sampling methodology was applied for the verificat ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... onal Misconduct by Auditor 48. Given the actions and omissions of the EP discussed in the foregoing paragraphs, it is established that the EP, CA Hemant Khator, did not comply with the stipulations in the Chartered Accountants Act, 1949 (CAs Act) and showed gross negligence and lack of due diligence in performing the statutory audit of WNLL. In addition, the EP, CA Hemant Khator has not ensured audit quality and was grossly negligent in his professional duties by not adhering to the requirements laid down by the relevant SAs. This has led to the issuance of an audit report that is not backed by valid audit evidence and is lacking quality in the audit work. Specifically, the following failures on the part of EP, CA Hemant Khator as contained under the Articles of Charges in the SCN are established: a. Failure to exercise due diligence and being grossly negligent in the conduct of professional duties, because of the lapses and omissions as explained and proved in parts C & D above (as per Section 22 and Clause 7 of the Second Schedule to the CAs Act), b. Failure to obtain sufficient information which is necessary for the expression of an opinion, or its exceptions are sufficient ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... professional or other misconduct is proved, have the power to make order for- A. Imposition of Penalty of (I) not less than one lakh rupees, but which may extend to five times of the fees received, in case of individuals; and (II) not less than ten lakh rupees, but which may extend to ten times of the fees received, in case of firms; B. Debarring the member or the firm from-(I) being appointed as an auditor or internal auditor or undertaking any audit in respect of financial statements or internal audit of the functions and activities of any company or body corporate; or (II) performing any valuation as provided under section 247, for a minimum period of six months or such higher period not exceeding ten years as may be determined by the National Financial Reporting Authority. 53. As per the information provided by EP, vide email dated 21.04.2023, the statutory audit fees of WNLL for FY 2016-17 received by M/s GSV & Co was Rs........ (received in FY 2017-18). 54. Considering that professional misconducts have been proved and considering the nature of violations and principles of proportionality, we, in exercise of powers under Section 132(4)(c) of the Companies Act, 2013, or ..... X X X X Extracts X X X X X X X X Extracts X X X X
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