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TMI Blog2023 (8) TMI 260X X X X Extracts X X X X X X X X Extracts X X X X ..... ct, 1949. The acceptance of an invalid appointment letter for the Statutory Audit of the branches, the conduct of the audit based on an invalid appointment, presenting convoluted logic and baseless reading of the law to justify the actions show the absence of professional skepticism and gross negligence on the EP's part. Therefore, the charges stands proven. Failure to comply with Standards on Auditing (SAs) - HELD THAT:- Since these branch audit reports are clearly referred to by Company's Statutory Auditor (CAS) in its report to the members of the Company, we examine here the extent of compliance with the applicable SAs by the Branch Auditor notwithstanding the violation of ethical standards, the Chartered Accountants Act, 1949 and of the Companies Act in accepting an invalid appointment of the Branch Auditor. The principles and procedures laid down in the SAs including professional skepticism, audit documentation, sufficiency and appropriateness of audit evidence, audit planning, materiality, engagement risk, nature, timing and extent of evidence-gathering procedures and reporting are all applicable in the branch audit as well, being an audit of historical financial ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... HAT:- SA 700 is applicable in this audit and as per the SA 700, the EP is required to evaluate the effect of the misstatements and decide to appropriately modify the opinion. Determination of materiality is therefore important in an audit - in the absence of materiality levels documented in the audit file, there is no justification for the final noting of EP that unadjusted misstatements, including disclosure misstatements, are immaterial, based on the materiality level . In the absence of documented conclusions, insufficient audit documentation, determination of materiality and assessment of the risk of misstatements and the test of controls we observe that the audit opinion issued by the EP does not comply with SA 700. Penalty and sanctions - HELD THAT:- Section 132(4) of the Companies Act, 2013 provides for penalties in a case where professional misconduct is proved. The law lays down a minimum punishment for such misconduct. Considering the fact that professional misconducts have been proved and considering the nature of violations and principles of proportionality and keeping in mind the deterrence, proportionality, signalling value of the sanctions and time req ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... on 132 (4) of the Companies Act, 2013 (the Act), including K. Varghese Co. (the Audit Firm), which was the Statutory Branch Auditor of 17 branches of DHFL for FY 2017-18, and CA Harish Kumar T K, who was the Engagement Partner (EP) for the audit of three of these 17 branches at Kottayam, Thrissur and Coimbatore. 2. NFRA's investigations revealed that the appointment of none of the 33 branch auditors was approved at the Annual General Meeting (AGM) of DHFL, as required by the Companies Act, 2013. The audit firm and CA Harish Kumar T K accepted the appointment, portrayed themselves as branch statutory auditor in all communications with the Company and CAS, and issued an Independent Branch Auditors' Report . By doing so CA Harish Kumar T K also violated the provisions of the Chartered Accountants Act 1949 (CAs Act), which requires ensuring a valid appointment as per the Act. 3. In addition, since the CAS had relied upon the Branch Statutory Audit performed by the EP, CA Harish Kumar T K, NFRA investigated his compliance with the applicable Standards on Auditing (SAs) and found that he had not complied with the principles and procedures laid down in the SAs, had ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rved relating to the appointment of Branch Auditors and the conduct of branch audits of DHFL which were relied upon by CAS. Accordingly, NFRA suo motu called for the audit files from EPs who had signed the Independent Brach Auditors' Report for nearly 250 branches, under Section 132(4) of the Act, including CA Barish Kumar T K, to whom this Order relates and who acted as the branch auditor for the three branches of DHFL at Kottayam, Thrissur and Coimbatore. 8. DHFL, a housing finance company listed on both National Stock Exchange (NSE) and the Bombay Stock Exchange (BSE), was required to prepare its Financial Statements for the Financial Year (FY) 2017-18 in accordance with Schedule III and other applicable provisions of the Companies Act 2013 and Accounting Standards (AS) notified under the Companies (Accounting Standards) Rules, 2006. 9. As part of NFRA's investigations, K Varghese Co was asked to provide the Audit File vide NFRA letter dated 10.08.2022, giving 15 days' time. The audit firm submitted the Audit File along with other information in respect of seventeen branches for FY 2017-18 on 25.08.2022. 10. The investigation by NFRA revealed prima facie ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... orization and without complying with ethical requirements; and issuing an audit report in violation of the Act 13. The EP was charged with acceptance of an audit engagement without complying with ethical requirements and issuing the audit report without a valid appointment as per the Act, as the appointment of the Audit Firm as Statutory Auditor for the branches of DHFL for FY 2017- 18 was not done by the competent authority i.e., the shareholders. 14. On examination of the Audit File, we observe that despite a specific requirement in the Chartered Accountants Act, 1949 (CAs Act) to do so, the EP has not verified if the appointment as Statutory Auditor for the branches of the Company was done in compliance with Section 139 of the Act. The EP not only accepted an invalid appointment letter issued by an Authorised Signatory without the approval of the Board and shareholders but also issued the audit report without ascertaining the actual objective and scope of the audit. The EP also violated the ethical requirements, as laid down in the Code of Ethics, 2009, which require the EP to ensure professional competence, due care, integrity and professional behaviour in dischar ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... atter between the company's auditor and the Board of Directors. d. A branch auditor is not a company's auditor. Appointment of auditor dealt within Section 139 is only about the company's auditor, and not about branch auditors. Appointment of branch auditors is not required to be done by the members of the company. e. The intent of the Clause (9) is that a Chartered Accountant, before accepting the appointment as an auditor, shall ensure that his predecessor was not eased out by the board of directors or shareholders without due process or that he was not met with injustice. However, such a situation would not arise in every case of appointment of auditors in companies ......when a new auditor is appointed in all those cases listed above, there is no applicability of Clause (9), because the requirement of complying with Section 225, would not arise in such cases. This point precisely establish that a newly appointed auditor was not required to ascertain the validity of appointment in all cases, but was only required to verify appointment related documents where there was application of Section 225, ie when an auditor in office eligible to be reappointe ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1, to be filed by the Company on the appointment of statutory auditors, does not cover the appointment of branch auditor and hence the law does not envisage appointment of branch auditors is baseless. The contents of a form prescribed under the Act have no impact on the substantive requirements of the Act, which unambiguously provides for the appointment of the branch auditor under Section 139 of the Act. Other contentions of the EP such as ... appointment of a branch auditor would depend on the decision of the company auditor. For this reason the tenure of appointment would depend on the inability of the company auditor to do audits of branches on his own lack any basis in the Act or in the professional standards and hence merits no examination. c. The EP has not provided any working paper evidencing compliance with Clause 9 of Schedule I of the Chartered Accountants Act, 1949 and the Code of Ethics issued by ICAI. Under Section 22 of the Chartered Accountants Act, 1949 read with Clause (9) of Part I of the First Schedule to the said Act (the meaning of which is conceived in Section 132(4) as professional misconduct) 3 a chartered accountant in practice shall be deemed t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Auditor's Report issued by the EP for the three branches of DHFL, including the report required under CARO 2006 described the engagement as Branch Statutory Audit. 17. Therefore, as explained above, we find that the absence of due diligence and display of gross negligence by the EP run afoul of the provisions of the Chartered Accountants Act, 1949 and resulted in professional misconduct as conceived under Section 22, Clause 9 of Schedule I of the Chartered Accountants Act, 1949. The acceptance of an invalid appointment letter for the Statutory Audit of the branches, the conduct of the audit based on an invalid appointment, presenting convoluted logic and baseless reading of the law to justify the actions show the absence of professional skepticism and gross negligence on the EP's part. Therefore, we find that the charges in paras 13 and 14 above stand proven. II. Failure to comply with Standards on Auditing (SAs) 18. Notwithstanding our finding in Part I above that the appointment of the Audit Firm was not as per the provisions of the Law, we now discuss the non-compliance by the EP with the SAs, since the audit work done by the EP has been relied upon in the A ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ing framework for the preparation of the financial statements; and ( e) reference to the expected form and content of any reports to be issued by the auditor and a statement that there may be circumstances in which a report may differ from its expected form and content. 20. Responding to the charges, the BP stated that The audit in question is a company's branch audit falling within the provisions of Section 143(8) of the companies Act 2013 ... .. the communication dated 12th Sep 2017 (which contained the letter of acceptance and the acknowledged set of appointment letters and scope of audit), was in compliance of Para 11 of SA 210. Citing para 11 of SA 210, the BP states that the regulation in SA 600 and in section 143(8) prescribe in sufficient detail that the terms of the audit engagement shall be as per the scope of audit given by company auditor, and acknowledging the appointment letter with the scope of audit is sufficient compliance of Para 11 of SA 210. Therefore the branch auditor was not required to record them in a written agreement. Details mentioned in SA 210-Para 10, quoted in [*] the SCN, are not required to be included in the communication when it is i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... A 210 resulted not only in accepting an illegal appointment and non-compliance with SA 210 but also in the absence of professional skepticism and professional judgment in understanding the objective and scope of the audit, thereby violating SA 200 also. Therefore, the charges in para 19 above stand proven. Non-Compliance with SA 230 Audit Documentation 24. The EP was charged with non-compliance with SA 230. EP's audit documentation does not give evidence of the nature, timing and extent of audit procedures performed, results of those audit procedures and conclusions reached during the audit as required by SA 230. In terms of SA 230, the objective of the auditor is to prepare documentation that provides a sufficient and appropriate record of the basis for the auditor's report; and evidence that the audit was planned and performed in accordance with SAs and applicable legal and regulatory requirements. In the absence of the required documentation, the audit report EP issued to CAS, the Company's Statutory Auditor, was without adequate basis and was in violation of SAs. 25. The EP submits that the observation in the SCN that the EP did not follow the applic ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... timely basis after the date of the auditor's report. c. SA 230 requires that the auditor shall prepare audit documentation that is sufficient to enable an experienced auditor, having no previous connection with the audit, to understand (a) The nature, timing, and extent of the audit procedures performed to comply with the SAs and applicable legal and regulatory requirements, (b) The results of the audit procedures performed, and the audit evidence obtained, and (c) Significant matters arising during the audit, the conclusions reached thereon, and significant professional judgments made in reaching those conclusions. d. SA 230 further requires that in documenting the nature, timing and extent of audit procedures performed, the auditor shall record (a) The identifying characteristics of the specific items or matters tested; (b) Who performed the audit work and the date such work was completed; and ( c) Who reviewed the audit work performed and the date and extent of such review. e. We find that SA 230, para 14, requires the assembly of the audit documentation in an audit file. SQC 1 9 prescribes a maximum time of 60 days for completion of assembly, beyond which no modif ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... while adaptations of SAs are permitted in certain cases, they should not be taken as a reason for deviating from the fundamental principles of audit documentation as detailed in the preceding paragraphs. 28. Keeping the above in mind, we have examined, in the interest of fairness, the additional documents added by the EP and have taken the evidence into consideration wherever it is supporting or corroborating the original audit documentation submitted to NFRA. However, we find that even the additional documentation submitted to NFRA was deficient in terms of the nature, timing and extent of the audit procedures performed, who prepared and reviewed the audit working papers (WPs) and the timing of the audit procedures. For example, the majority of the additional documents submitted (purportedly from the EP's previous year's audit file), only have the sign and stamp of the Audit Firm. It carries no indication of any audit procedure being performed in respect of the financial year in question i.e. 2017-18. Similarly, the working papers on verification of cash balances, submitted with additional documentation, did not contain the details such as (a) whether it pertained to a ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... enalties and sanctions for violations including insufficient documentation. The PCAOB Order states Audit documentation must contain sufficient information to enable an experienced auditor, having no previous connection with the engagement to (a) understand the nature, timing, extent, and results of the procedures performed, evidence obtained, and conclusions reached, and (b) determine who performed the work and the date such work was completed as well as the person who reviewed the work and the date of such review ...... the documentation for each of those audits was insufficient to demonstrate the nature, timing, extent, and results of the procedures performed, evidence obtained, and conclusions reached, including in those areas of the audits involving significant risks. For the FY 2016 and 2017 Issuer A audits, the documentation also failed to demonstrate who performed the work and the date such work was completed. Additionally, in each of the Issuer A and Issuer B audits, the audit documentation was insufficient to demonstrate which aspects of the audit and which audit documentation Bharat Parikh reviewed . 31. Thus, we conclude that the EP did not follow the requirements ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... branches of a company, the responsibility of auditor as provided in Section 143(1)-143(4) are on the company's auditor and not on the branch auditor is utterly misconceived and irrational reading of the law. The said rule, that states that For the purposes of sub-section (8) of section 143, the duties and powers of the company's auditor with reference to the audit of the branch and the branch auditor, if any, shall be as contained in subsections (1) to (4) of section 143 , only specifies that the company auditor and branch auditor (if there is one) must perform their duties and exercise their powers in accordance with sub-sections ( 1) to ( 4) of section 143, as outlined in the Act. It is perverse to interpret this provision to mean that the branch auditor has no responsibilities in certifying the branch accounts. 35. Accordingly, we hold that SA 700 is applicable in this audit and as per the SA 700, the EP is required to evaluate the effect of the misstatements and decide to appropriately modify the opinion. Determination of materiality is therefore important in an audit. We note from the audit file that in respect of loan files with loan code 1107 the EP noted in ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... in the Trial Balance attested by the Respondent it was not a case of unadjusted misstatement ... to give correct treatment in the Financial Statements of the company, the proper course for the Branch Auditor was to report ... Respondent had duly discharged this duty too . The reply of the EP cannot be accepted since it is apparent from the Trial Balance certified by the EP that the loans were primarily appearing in the branch's Trial Balance and then transferred to the head office through entries in the branch books. The EP's claim in the annexure that rectification entry was recognised in books in the next financial year (i.e. on 02.04.2018) is also not supported by any evidence in the audit file. Hence, in the absence of materiality levels documented in the audit file, there is no justification for the final noting of EP that unadjusted misstatements, including disclosure misstatements, are immaterial, based on the materiality level . 36. We also note that such lapses relating to the verification of documents during the audit are viewed seriously by audit regulators. For example, a Chartered Accountant, in the audit of a Bank branch, did not verify the securit ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... med to comply with the SAs. To evidence compliance with the requirements of the SAs, it is the fundamental stipulation of SA 23 0 that the auditor shall assemble the audit documentation in one audit file (and not multiple audit files of different years). b. Non-compliance with para 5, 6 11 of SA 315 16 and para 1, 5 6 of SA 330 17 as the audit file lacks any documentation regarding the performance of risk assessment procedures for material misstatements at the financial statement level and assertion level and response to such risks etc. The EP submitted that the risk of material misstatement, in the Trial Balance, was only with respect to expenses incurred, as no other line item qualified to be tested for risk of material misstatement because of the accounting model of the company for branches . In the absence of any documentation in the audit file, the contention is only an afterthought and hence not admitted. c. Non-compliance with para 10, 11 14 of SA 320 18 for determining materiality, performance materiality and documentation thereof. The EP submits that there is no noncompliance since the report of the EP to the company's auditor mentions that bench ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... udit procedures, such as an audit plan, the substantive procedures performed and the conclusions drawn. f. Non-compliance with para 6 of SA 520 21 relating to the design and performance of analytical procedures. The EP submits that SA 520 is not applicable since it is not a financial statement audit. The reply is not accepted since, as explained earlier in this order, the SAs are applicable for the branch statutory audit also. g. Non-compliance with para 4, 6, 7, 8 9 of SA 530 relating to the determination of sample design, sample size and required audit procedures. The EP states that the basis of selection of sample was defined in the appointment letter itself, and the skills of judgment and competence of the auditor were applied to draw the required sample data. The audit sampling in this case had provided a reasonable basis for the respondent auditor to draw conclusions about the population from which the sample was selected and hence the charges are denied. We find that the conditions in the appointment letter do not evidence basis for EP's work and conclusions. The SAs casts a responsibility 22 on the auditor to design and perform audit procedures to obtain s ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... material departure from the generally accepted procedures of audit applicable to the circumstances of the audited Company, because the EP certified in his report that the audit was done as per SAs mandated under section 143 of the Act and committed the lapses and omissions as explained and proved in part C2 above (As per Section 22 and Clause 9 of Part I of the Second Schedule to the CAs Act). Thus, we find that EP Harish Kumar T K committed professional misconduct, as defined in the respective clauses of the CAs Act, the meaning of which is conceived under Section 132 (4) of the Companies Act as amounting to professional misconduct. E. PENALTY AND SANCTIONS 40. Section 132(4) of the Companies Act, 2013 provides for penalties in a case where professional misconduct is proved. The law lays down a minimum punishment for such misconduct. 41. The financial statement includes material information from the Branches of the Company, where a substantive part of the lending activities is carried out. 42. A Branch Statutory Auditor is duty-bound to examine and ascertain the integrity of the underlying information forming Financial Statements of such entities 23 in the larger p ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... upon CA Harish Kumar T K; ii. CA Harish Kumar T K is debarred for one year 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. 47. This order will become effective after 30 days from the date of issue of this order. --------------- Foot Notes 1 As defined in para 6 of SA 230 2 The general meeting may authorise the Board of Directors to make the appointment in consultation with companies auditor. 3 As per Ministry of Corporate Affairs Circular No. 7/2014, dated O 1-04-2014, the equivalent sections of the Companies Act 2013 for the above sections of the Companies Act I 956 are sections 139 and 140. 4 SA 210, Agreeing the Terms of Audit Engagements. 5 Para 15 and 16 of SA 200, Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing. 6 Para 9,10 and 11 of SA 210 7 The sample engagement letter in appendix 1 of SA 210 may be referred. 8 SA 600 - Using the Work of Another Auditor 10 Para 10 to 12 of SA 700, Forming an ..... X X X X Extracts X X X X X X X X Extracts X X X X
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