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TMI Blog2024 (5) TMI 140X X X X Extracts X X X X X X X X Extracts X X X X ..... s - Section 132 (4) of the Companies Act, 2013. HELD THAT:- The Auditors have made a series of serious departures from the Standards and the Law, in their conduct of the audit of CMIL for FY 2019-2020, 2020-21 and 2021-22. Based on the above discussion, it is proved that the auditors failed to report in their audit report, the misstatement in the financial statements of CMIL. The poor quality of audit as reflected in failures related to fundamental aspects of audit like setting materiality, evaluation of going concern, carrying out external confirmation together with the incomplete documentation, further compound the professional misconduct of the auditors. It is concluded that the Auditors have committed Professional Misconduct as defined under Section 132 (4) of the Companies Act, 2013 in terms of Section 22 of the Chartered Accountant Act 1949 (CA Act) as amended from time to time as follows: i. The auditors committed professional misconduct in terms of by Section 132 (4) of the Companies Act, read with Section 22 and clause 5 of Part I of the Second Schedule of the Chartered Accountants Act 1949 (as amended from time to time), which states that an auditor is guilty of professio ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... rs failed to conduct the audit in accordance with the SAs and applicable regulations as well as due to their failure to report the material misstatements and non-compliances of the Company in the financial statements. v. The auditors committed professional misconduct as defined by Section 132 (4) of the Companies Act, read with Section 22 and clause 9 of Part I of the Second Schedule of the Chartered Accountants Act 1949 (as amended from time to time), which states that an auditor is guilty of professional misconduct when he ''fails to invite attention to any material departure from the generally accepted procedure of audit applicable to the circumstances . This charge is proved since the auditors failed to conduct the audit in accordance with the SAs but falsely reported in their audit report that the audit was conducted as per SAs. The charges of professional misconduct enumerated in the SCN dated 04.12.2023 stand proved. Penalty and sanctions - HELD THAT:- Section 132(4) of the Companies Act, 2013 provides for penalties where professional misconduct is proved. The seriousness with which proved cases of professional misconduct are viewed, is evident from the fact that a m ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... mpanies Act 2013 ('CA-2013' or 'Act' hereafter) against the Auditors of CMIL for professional or other misconduct in relation to CMIL's statutory audit for FY 2019-2020, 2020-21 and 2021-22, pursuant to information received from Securities and Exchange Board of India (SEBI hereafter) indicating the failure of statutory auditors in the audit of inventory management. 5. This Order finds that the auditors failed to meet the relevant requirements of the Standards on Auditing ('SA' hereafter) in respect of several significant areas, reflecting gross negligence and lack of due diligence to perform audit of a Public Interest Entity (PIE). These include: a. The auditors failed to report the non-recognition as liabilities of the interest accrued on loans classified as Non-Performing Assets (NP As) which is a misstatement as per Para 13(i) of SA 200 and which had resulted in understatement of the interest cost, current liabilities, and the reported loss by the company. (Para C.1). b. The auditors failed to analyse the going concern assumption despite the fact that CMIL had continuous declining trend in the Revenue from 63 7.30 crores in FY 2018-19 to ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... espect of financial statements or internal audit of the functions and activities of any company or body corporate. B. Introduction Background 7. The National Financial Reporting Authority is a statutory authority set up under section 132 of the Companies Act 2013 to monitor implementation and enforce compliance of the auditing and accounting standards and to oversee the quality of service of the professions associated with ensuring compliance with such standards. 8. The statutory auditors, both individuals and firms, are appointed by the members of companies under Section 13 9 of the Companies Act. The statutory auditors, including the Engagement Partners (EP), the Engagement Team and Review Partners that conduct the audit are bound by the duties and responsibilities prescribed in the Act, the Rules made thereunder, the Standards on Auditing (SA), including the standards on quality control and the Code of Ethics, the violation of which constitutes professional misconduct, and is punishable with penalty prescribed under Section 132(4) of the Act. 9. CMI Limited, a public company incorporated on 22.06.1967, is engaged in designing and manufacturing of electrical Wires, Cables and Con ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... statement known to them to appear in a financial statement with which the CA is concerned in a professional capacity. c. Failure to exercise due diligence and being grossly negligent in the conduct of professional duties. d. Failure to obtain sufficient information which is necessary for expression of an opinion, or its exceptions are sufficiently material to negate the expression of an opinion. e. Failure to invite attention to material departure from the generally accepted procedures of audit applicable to the circumstances. 14. Vide email dated 20.12.2023, the auditors requested for an extension of time till 15.02.2024 for giving reply to the SCN. The auditors were granted extension of time till 31.01.2024. The auditors submitted the reply vide email dated 31.01.2024 and refuted all the charges, and also requested for a personal hearing. 15. Vide email dated 08.03.2024, the auditors were granted personal hearing to be held on 22.03.2024. Vide their e-mail dated 12.03.2024, the auditors requested for extending the personal hearing date to April 2024. An extension was granted, and the personal hearing held on 09.04.2024 wherein CA Krishna Kr Neeraj appeared on his own behalf as BP ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ity on Non-performing Assets, which was only referred to while qualifying the opinion on the basis of going concern. ii. Non-recognition of the liabilities towards banks/financial institutions even after they declared NPAs is not in conformity with Para 3.3.1 and Para 4.2.1 read with Para B5.4.1 of Ind AS 109. This is a ''Misstatement as per Para 13(i) of SA 200 resulting.in understatement of the interest cost, current liabilities, and the reported loss by the Company. The auditors were required to qualify the amount of mis-statement and duly modify the opinion in accordance with SA 705. Merely presenting the matter as EoM was in violation of SA 705. iii. Para 8 of SA 706 [SA 706: Emphasis of Matter Paragraphs and Other Matter Paragraphs in the Independent Auditor's Report] states that the auditor shall include an EoM paragraph in the auditor's report, provided the auditor would not be required to modify the opinion in accordance with SA 705 as a result of the matter. Therefore, inclusion in the EoM of a matter that would have required consideration for modifying the audit opinion was a violation of SA 706. 21. In light of the foregoing, we find the reply of the aud ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... ng documents, which were considered by the auditors to understand the reasonableness of the going concern assumption for preparation of financial statements by CMIL. The auditors also submitted that they had obtained and analysed evidence in support of the going concern approach and keeping in mind the industry scenarios during Covid-19 pandemic and the declining but positive PAT, they had accepted the contention of the management to prepare the financial statements of CMIL for FY 2020-21 under going concern approach. 26. We have considered the reply of the auditors and other relevant material on record and find that: a) The contention of the auditors that they had considered the replies and the supporting documents submitted by the management is unacceptable as there is no evidence of the auditor's communication with management, and the reply and the supporting documents submitted by the management in the Audit File. b) The documents submitted by the auditors in their reply to the SCN, though liable to be rejected as they are not part of Audit File, is a management letter justifying the use of going concern assumption based upon probable tenders and proposed restructuring of l ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... for failure to plan and perform audit with professional skepticism in accordance with the requirements of SA 200, failure to identify and assess the Risk of Material Misstatement ('ROMM' hereafter), due to fraud or otherwise in accordance with the requirements of SA 240 [Para 26 and Para 47 of SA 240: The Auditor's Responsibilities Relating to Fraud in an Audit of Financial Statement] and SA 315. 30. Para 26 of SA 240 specifically states that when identifying and assessing the ROMM due to fraud, the auditor, based on a presumption that there are risks of fraud in revenue recognition, shall evaluate which types of revenue, revenue transactions or assertions give rise to such risk''. Para 47 of SA 240 states that when the auditor has concluded that the presumption that there is a risk of material misstatement due to fraud related to revenue recognition is not applicable in the circumstances of the engagement, the auditor shall document the reasons for that conclusion. 31. In their written reply, the auditors stated that verification of revenue was done by verification of GST returns and reconciliation of turnover with books of accounts, by verification of sales i ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Financial Statements, thereby failing to fulfil their responsibility in accordance with SA 200, SA 240 and SA 315 and in obtaining sufficient appropriate audit evidence for verification of Revenue. Non-evaluation of revenue has been viewed seriously by International Regulators as well. For example, the PCAOB, the US Regulator, censured the respondents in the matter of Thomas Kober, CPA [PCAOB Release No. 105-2019-015] , for his failure inter alia to obtain sufficient appropriate audit evidence about whether the revenue was properly valued and recorded in the proper period. C.4 Failures relating to Audit Documentation 34. The auditors were charged with failure to prepare sufficient audit documentation in accordance with the requirements of SA 230 [SA 230: Audit Documemation] Para 8 of SA 230 requires an auditor to 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 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... Most of the Audit Work Papers submitted do not meet any of the basic requirements of Para 8 and 9 of SA 230. iv. The contention of the EP, in personal hearing is not acceptable and rejected as it is the duty of the auditors to duly compile and archive the audit file as per the requirements of SA 230 and SQC 1. 38. The documents submitted by the auditors as part of the reply to the SCN are liable to be rejected as they were not part of the Audit File. Vide affidavit dated I 0.08.2023 submitted to NFRA, the auditors had certified that the information submitted was true and complete (emphasis added) in all respects and nothing had been concealed. Furthermore, even if the documents submitted by the auditors as part of the reply to the SCN are considered by NFRA, they wouldn't make any material difference as most of the documents are vague, insufficient and do not meet the requirements of respective SAs. 39. It is the audit documentation that acts as a basis of the auditor's report and as evidence that the audit was planned and performed in accordance with SAs and applicable legal and regulatory requirements. In the absence of proper audit documentation, there is no way for us ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... d 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. 43. The Executive Counsel to the Financial Reporting Council (FRC), the UK Audit Regulator, in the matter pertaining to Deloitte LLP and John Charlton in the audit of Mitie Group plc. for the year ended 31 March 2016, imposed a financial sanction of Two Million Pounds, a published statement in the form of severe reprimand against Deloitte and a financial sanction of 65,000 Pounds and a published statement in the form of a severe reprimand against Charlton besides other things, for breach of ISA 230 as they failed to adequately document the audit work papers. 44. Jn light of the foregoing, we find the explanation of the auditors unacceptable and conclude that the auditors were grossly negligent in performing their duty in accordance with SA 230. C.5 Failures relating to audit evidence for Inventory 45. The auditors were charged with failure to perform any physical verification or any alternative audit procedure to determine the existence and condition of ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eriously by International Regulators as well. (a) The US audit regulator PCAOB has taken a serious view of the non-performance of audit procedures pertaining to inventory and obtaining sufficient audit evidence. In the matter of AMC Auditing, LLC, the PCAOB order [PCAOB Release No. 105-2020-021 dated December 3, 2020] states that because inventory observation procedures were not performed for most of the reported inventory, nor was sufficient evidence obtained or conclusions reached to evaluate Issuer B's representations about quantities and physical condition of inventory, Liu failed to obtain sufficient evidence for reported inventory during Issuer B's 2016 audit and suspended Mimi Liu, CPA for a period of one year. (b) The PCAOB [PCAOB Release No. 105-2017-028] in the matter of W.T. Uniack CPA, P.C. (firm) and William T. Uniack, CPA (respondent), revoked the firm's registration and barred the respondent from being an associated person of a registered public accounting firm for their failure inter alia to obtain sufficient appropriate audit evidence and exercise due professional care and professional skepticism in the audit of inventory. The PCAOB noted that An audito ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... f the auditors unacceptable, and find that they were grossly negligent in performing their duty in accordance with SA 700 [SA 700 Forming An Opinion and Reporting On Financial Statements] C.7 Lapses in fulfilling duties related to Engagement Quality Control (EQC) Reviewer 56. The auditors were charged with failure to comply with the requirement of Para 19 (a) of SA 220 [SA 220 Quality Control for an Audit of Financial Statements] which states that for the audits of Financial Statements of listed entities, the auditor shall determine that an EQC Reviewer has been appointed. 57. There is no evidence in the Audit File to show that the auditors determined that an EQC Reviewer had been appointed; nor there was evidence of any review work performed by EQC Reviewer despite the fact that the CMIL was a listed Company for the FY 2019- 2020, 2020-21 and 2021-22. 58. The auditors did not respond with respect to this charge in their reply to the SCN. 59. In the audit of Financial Statements of a listed entity, the role of an EQC Reviewer is important for ensuring quality, as the EQC Reviewer evaluates the significant judgments made by the ET, reviews the engagement tea m's evaluation of fi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... eplied that they select samples in such a way that a major portion of whole transactions is covered and all the transactions which are material are substantially vouched and verified. The auditor also submitted a copy of materiality statement in their reply. 64. The reply of the auditors is misleading and not acceptable. There is no evidence in the Audit File to show that the auditors set the materiality in accordance with the requirements of SA 320 and guidance [Implementation Guide to Materiality in Planning and Performing an Audit dated February 2012] on materiality issued by Institute of Chartered Accountants of India (ICAI). Further, the document submitted by the auditors, though liable to be rejected as it was not in the Audit File, is a general theoretical document which in no sense can be called as a document for setting materiality. Further, the said document does not bear any seal and signature of the EP thereby raising serious doubts about its genuineness and integrity. 65. According to Para 10 of SA 320, when establishing the overall audit strategy, the auditor hall determine the 'Materiality' for the Financial Statements as a whole. In addition, Para 11 of SA 3 ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... debtors/creditors with the rider that if the balance is not confirmed within 15 days of receipt of the letter, the balance shown in the letter shall be deemed to be confirmed. Copy of such letters or courier slips are enclosed for your references. Though most of the creditors replied with confirmation/statement of accounts. However, we didn't receive any confirmation/statement from debtors . Further, the auditors submitted that Since we or the auditee company never received confirmation from the debtors, we considered debtors balance as per books of auditee company to be correct. Besides, there were no circumstances which cast suspicion over the transactions entered into with the CMI limited and its debtors being PSUs. Moreover, negative confirmations are also a way to get confirmation of accounts. In this way, we did such exercise to obtain relevant confirmation of obtain and therefore complied with the requirement of SA 200, SA 500 and SA 505 71. We find that for the following reasons, the reply and explanation given by the auditors are misleading and are an afterthought: a. There is no evidence in the Audit File to show that the auditors applied the procedures required by SA ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... cated with the TCWG or performed any duty as required by SA 260 and SA 265. It is clear from the Audit File that the auditors failed to identify TCWG and understand its importance as a body that has the responsibility for overseeing the strategic direction of the entity and obligations related to the accountability of the entity, which includes overseeing the Financial Reporting process. 75. The auditors have not responded to this charge in reply to the SCN. 76. In light of above, we conclude that the auditors failed to exercise due diligence and were grossly negligent in not identifying and communicating with TCWG, overview of planned scope, timing of the audit and deficiencies in Internal Control etc. Consequently, the auditors failed to comply with the requirements of SA 260 and SA 265. 77. Failure to appropriately communicate with Audit Committee (which is a part of the TCWG) has been viewed seriously by international regulators too. For example, PCAOB, the US Regulator, charged the public accounting firm L.L. Bradford Company, LLC (Audit Firm) for its failure to communicate with the audit committee during the audit of WebXU lnc.'s ( WebXU ). It stated that the Firm also vi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... l systems, policies and procedures are the responsibility of the audit firm. As per Paragraph 6 of SA 220, the auditor (firm) has an obligation to establish and maintain a system of quality control to provide it with reasonable assurance that: a) The firm and its personnel comply with professional standards and regulatory and legal requirements; and b) The reports issued by the firm or engagement partners are appropriate in the circumstances. 85. Para 3 of SQC 1 [SQC I, Quality Control for Finns that Perform Audit and Reviews of Historical Financial Information, and other Assurance and Related Services Engagements] states that the firm should establish a system of quality control designed to provide it with reasonable assurance that the firm and its personnel comply with professional standards and regulatory and legal requirements, and that reports issued by the firm or engagement partner(s) are appropriate in the circumstances. Para 7 of SQC 1 states that the firm's system of quality control should include policies and procedures addressing (a) Leadership responsibilities for quality within the firm. (b) Ethical requirements (c) Acceptance and continuance of client relationshi ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... al Corporation and subsidiaries, imposed civil money penalties of $2,000,000 to the firm Ernst Young LLP, $50,000 to Jeffrey S. Anderson, the Partner with final responsibility of the subject matter audit engagement, $25,000 to Robert H. Thibault, the independent review partner, and $25,000 to Ronald Butler, the second partner, supervised by Anderson. The partners were also barred from being associated with a registered public accounting firm. In another case, the PCAOB [In the Matter KPMG Assurance and Consulting Services LLP and Sagar Pravin Lakhwani, PCAOB Release No. 105-2022-033 December 6, 2022] imposed civil money penalties of $1,000,000 on KPMG India and $75,000 on its partner Lakhani for lapses in audit documentation by the partner, who was an ET member. PCAOB also suspended Lakhani from being an associated person of a registered public accounting firm for a period of one year. 90. PCAOB [PCAOB Release No. 105-2021-014 ] in another matter of Deloitte LLP, censured the firm and imposed penalty of $350,000 on the firm for its failure to establish, implement and communicate appropriate quality control policies and procedures to provide the firm with reasonable assurance that t ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 1 7 to 21 above. ii. The auditors committed professional misconduct as defined by Section 132 (4) of the Companies Act, read with Section 22 and clause 6 of Part I of the Second Schedule of the Chartered Accountants Act 1949 (as amended from time to time), which states that an auditor is guilty of professional misconduct when he 'Jails to report a material misstatement known to him to appear in a financial statement with which he is concerned in a professional capacity . This charge is proved as the auditors failed to disclose in their audit report the material non-compliances by the Company in the area of recognition of the liabilities towards banks/financial institutions beyond the NP A dates as explained in para 17 to 21 above. iii. The auditors committed professional misconduct as defined by Section 132 (4) of the Companies Act, read with Section 22 and clause 7 of Part I of the Second Schedule of the Chartered Accountants Act 1949 (as amended from time to time), which states that an auditor is guilty of professional misconduct when he does not exercise due diligence and is grossly negligent in the conduct of his professional duties . This charge is proved as the auditors f ..... X X X X Extracts X X X X X X X X Extracts X X X X ..... 9-2020. 2020-21 and 2021-22 and other materials available on record. F. Penalty and Sanctions 95. Independent Auditors of Publicly Listed Companies are expected to demonstrate sufficiency and appropriateness of audit work in every aspect of the audit of Financial Statements of a PIE. Without a credible audit, Investors, Creditors and other users of Financial Statements would be handicapped. The entire corporate governance system would fail and result in a breakdown in trust and confidence of investors and the public at large if the auditors do not perform their job with professional skepticism and due diligence and do not adhere to the Standards. 96. As is set out in this Order, the manner in which the audit in question was conducted, failed to meet the requirements of the SAs, the Act and the Code of Ethics in a number of significant aspects which demonstrated gross negligence on the part of the auditor. As we have explained in this Order, substantial deficiencies in Audit including audit documentation and failure to report misstatements in the financial statements on the part of M/s Krishna Neeraj Associates (Audit Firm) and CA Krishna Kr Neeraj (EP) establish their professional ..... X X X X Extracts X X X X X X X X Extracts X X X X
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