TaxTMI 
TaxTMI 
2023 (12) TMI 487
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....t F. Sanctions and Penalties A. EXECUTIVE SUMMARY 1. In January 2019, some media reports brought to light the alleged siphoning by the directors of DHFL of around 01000 crore of public money. NFRA, pursuant to the duty cast upon it under Section 132 (2) (b) of the Companies Act, 2013 (the Act, hereafter) and Rule 8 of the NFRA Rules, 2018, took up the Audit Quality Review of the Statutory Audit of DHFL for the Financial Year 2017-18 carried out by C&S. Based on the extensive review of audit documentation, NFRA came to the prima facie view that the EP had not discharged his professional duties in accordance with the Act as well as the Standards on Auditing (SA, hereafter). Consequently, an SCN was issued to the EP asking him to show cause why action under Section 132 (4) of the Act should not be initiated against him for professional misconduct. 2. After examining his detailed written submissions, this Order concludes that the EP failed to meet the relevant requirements of the SAS and violated the Act in respect of several significant areas of audit. In the areas of the audit identified in this Order, the EP was found to be grossly negligent and failed to apply professional ske....
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....ted being a 100% subsidiary, DHFL did not consolidate the financial statements of the subsidiary. Had it been consolidated, the liabilities of DHFL would have been higher by <1901 crore with a corresponding reduction in net worth. The EP did not report this material misstatement in the Consolidated Financial Statements. 6. DHFL was regulated by the National Housing Bank (NHB) and hence was bound to follow the relevant NHB Guidelines. The NHB inspection reports for FY 2016-17 flagged certain potential significant violations by DHFL. In this regard, the EP failed to document any evidence in the Audit File to show that there was no material misstatement in the financial statements due to non-compliance with laws and regulations having a direct effect on the disclosures in the financial statements. 7. The EP failed to obtain sufficient appropriate audit evidence regarding the entity's ability to continue as a going concern. The EP ignored clear indications/events that should have raised concerns over the entity's ability to continue as a going concern The EP failed in the discharge of his professional duties by not challenging management's assessment of the going concern ....
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.... that the financial statements were prepared, in all material respects, in accordance with the applicable financial reporting framework. The Audit Opinion issued by the EP is therefore baseless. 13. Based on the investigation and proceedings under Section 132 (4) of the Act and after giving the EP adequate opportunity to present his case, we find the EP guilty of professional misconduct and impose through this Order, the following monetary penalties, and sanctions, which will take effect after 30 days from issuance of this Order. In light of the judgment of the Hon'ble National Company Law Appellate Tribunal (NCLAT) dated 01.12.2023, we have limited the monetary penalty to Lakh only since the violations relate to FY 2017-18. a. Monetary penalty of Rupees Five Lakh. b. In addition, CA Jignesh Mehta is debarred for 10 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. B. INTRODUCTION AND BACKGROUND 14. This Order is being passed pursuant to an investigation by the National Financial Reporting Authority (NFRA) into th....
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....tensive examination of the Audit File, we had reasons to believe prima facie that the violations by the EP may amount to professional misconduct as conceived in Section 132 (4) of the Act, and thus a Show Cause Notice dated 29th September 2021 (the SCN, hereafter) was issued to CA Jignesh Mehta, the EP. The EP was charged with professional misconduct of: a. failure to disclose material facts known to him, which is not disclosed in a financial statement, but disclosure of which is necessary in making such financial statement, where he is concerned with that financial statement in a professional capacity; b. failure to report material misstatements known to him to appear in a financial statement with which the EP 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 the expression of an opinion, or its exceptions are sufficiently material to negate the expressions of an opinion; and e. failure to invite attention to any material departure from the generally accepted procedures to audit applicable to the circumstances.....
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....pheld the decision of the Hon'ble Bombay High Court and dismissed the Special Leave Petition. 22. In compliance with the above order of the Hon'ble Bombay High Court, an oral hearing before the Executive Body (EB) of NFRA was scheduled on 11.07.2023 to decide the jurisdiction of NFRA. The EP availed of the opportunity along with his legal counsel and also submitted a written summary of submissions vide email dated 17.07.2023. We have examined these submissions in detail and found that NFRA has the required jurisdiction under Section 132(4)(c) of the Companies Act, 2013, as discussed in paragraphs 23 to 32 below. Jurisdiction of NFRA 23. Section 143 (9) of the Companies Act, 2013 mandates an Auditor to comply with the Auditing Standards. The proviso to Section 143 (10) states that until the Auditing Standards are notified by the Central Government, the Auditing Standards specified by the ICAI would be deemed to be the Standards on Auditing. The notification of NFRA with effect from 01-10-2018, as the body responsible inter alia for investigating professional misconduct and other misconduct, did not alter the Auditor's liability to fully comply with the Standards and t....
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....plicability can either be expressly provided for or can be inferred by necessary implications from the language employed. The Hon'ble Supreme Court in the case of Zile Singh v. State of Haryana, (2004) 8 SCC 1 at Para 15, held, "It is not necessary that an express provision be made to make a statute retrospective and the presumption against retrospectivity may be rebutted by necessary implication especially in a case where the new law is made to cure an acknowledged evil for the benefit of the community as a whole (ibid., p. 440). This can be achieved by express enactment or by necessary implication from the language employed. If it is a necessary implication from the language employed that the legislature intended a particular section to have a retrospective operation, the courts will give it such an operation. In the absence of a retrospective operation having been expressly given, the courts may be called upon to construe the provisions and answer the question whether the legislature had sufficiently expressed that intention giving the statute retrospectivity. Four factors are suggested as relevant: (1) general scope and purview of the statute; (ii) the remedy sought to be a....
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....tigation into misconduct committed in the past as well. Thus, the challenge to the jurisdiction of NFRA with respect to misconduct committed before 2018 does not stand. 32. Thus, NFRA has the requisite jurisdiction to monitor compliance with Accounting standards, monitor and enforce compliance with the SAS and to investigate matters of professional misconduct of Chartered Accountants in respect of the entities falling under the NFRA domain. D. MAJOR LAPSES IN THE AUDIT 33. Vide letter dated 28.07.2023, the EP was informed about NFRA's decision on the issue of jurisdiction, and he was requested to submit his reply to the SCN. The EP approached Hon'ble NCLAT vide Comp. App. (AT) No. 167 of 2023 wherein the EP raised the issue of non-supply of reasons for arriving at the issue of jurisdiction. The appeal was dismissed as withdrawn vide NCLAT order dated 05.09.2023. 34. The EP was required to submit his reply to the SCN on or before 1st November 2021. After availing multiple extensions of time, the EP submitted his reply to the SCN, vide letter dated 06.09.2023, and requested an opportunity for a personal hearing. The EP was granted an opportunity for a personal hearing alo....
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....udited under Section 143 (8) of the Act by branch auditors have been sent to us and have been properly dealt with by us in preparing this report". The audit report also states that the audited financial statements incorporate "the Returns for the year ended on that date audited by the branch auditors of the Company's branches/offices at 250 locations". The records in the Audit File also showed EP's reliance on the Branch Audit Reports issued by the illegally appointed Branch Auditors. In this background, the EP was charged with the following. a. There is no evidence in the Audit File to establish the existence of legal appointment of any branch auditor by the AGM of the Company as required under the Act. There was also no evidence that C&S, the legally appointed auditor for the branches, has carried out the audit of the entire company, including all its 250 branches. The EP failed to discharge his statutory duty of completing the branch audits, which was the key requirement in the completion of the audit of the Company's Financial Statements. In the absence of the audit of the branches, the Independent Auditor's opinion on the financial statements of 2017-18 is in....
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....P accepted the appointment as per his letter dated 25 July 2017 (Engagement acceptance letter), in August 2017, DHFL appointed a few other branch auditors for a "statutory audit" of its branches vide appointment letters signed by an unidentified authorised signatory of the Company. This appointment of the Branch statutory auditor for FY 2017-18 by the Company was not in accordance with sections 143 (8) and 139 of the Act. Hence, these branch auditors were not the statutory branch auditors appointed under Section 143(8) of the Act, since the appointment was not made by the shareholders in the AGM as required by section 139. Besides, the shareholders of the Company had already appointed C&S as the only Statutory Auditor. All the appointment letters issued to the branch auditors, describing them as "statutory" branch auditors, were issued in consultation with C&S and were also copied to the Audit Firm. The EP documented all these letters in the Audit File, despite knowing the admitted fact that C&S was the only statutory auditor for the Company and all its branches. d. The EP did not point out the illegality of the appointment of branch auditors to the Company. Instead, he received ....
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....arises only if the company has a separate Branch auditor appointed under section 143(8) read with 139. The EP reported in the Audit Report of both SFS and CFS that "As required by Section 143(3) of the Act, we report that: ... c) The reports on the accounts of the branch offices of the Company audited under Section 143 (8) of the Act by branch auditors have been sent to us and have been properly dealt with by us in preparing this report." (Emphasis added). The Proviso to section 143 (8) states "Provided that the branch auditor shall prepare a report on the accounts of the branch examined by him and send it to the auditor of the company who shall deal with it in his report in such manner as he considers necessary. (Emphasis added). This makes it clear that the requirement of 'dealing with' branch auditor reports arises only when the branch auditor and company auditor are different. vii. We examined the work of the so-called branch auditors in a separate proceeding under Section 132(4) of the Act. We issued SCNs to 33 engagement partners representing the illegally appointed branch auditors. In reply to our SCN, the engagement partners of 122 branches stated that they were t....
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....he branch auditors. The EP has taken the returns from branches not visited by him in forming his opinion on the financial statements. Despite this reporting, the EP in his reply to SCN denied any reliance on the works of the branch auditors and maintained that C&S carried out the Audit of the Company, including all its branches. The EP contends that his audit of branches was performed through the ERP system of the company. His stand was that the company had centralised controls, and all branches operated under the same control environment and the transactions in the branches were immaterial. The EP being aware of the provisions of the Act, has thus made false statements in his audit report about the involvement of branch auditors, and all the submissions regarding the pro per conduct of branch audits by the EP are afterthoughts only. This is evidenced by the following: a. None of these submissions are supported by evidence in the Audit File and are thus afterthoughts and rationalisations on his part to justify his conduct. b. Contrary to EP' s submissions, we note that the majority of the loans (which is a material item) are initiated at the branches, loan accounts are crea....
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.... the EP cannot be taken as appropriate. Reliance by the EP on the work of Illegally appointed Branch statutory auditors 41. The EP stated that he did not rely on the work of the branch auditors. This is contradictory to the facts recorded in the Audit File and the Audit Reports issued by the EP, as explained below. a. The Audit Reports on standalone and Consolidated Financial Statements (CFS) and under CARO 2016 unambiguously refer to the branch auditor's reports, as explained in the above paragraphs. The audit report nowhere indicates that the EP did not rely on these branch auditors. b. The WP "Audit Closure", documented in the Audit File, records that "The Company has appointed various Branch Auditors whose scope are pre-defined and on whose report the statutory auditor rely with respect to the areas covered in their respective scope" (emphasis added). This is an unequivocal statement by the engagement team evidencing reliance on the work of the illegally appointed branch statutory auditors. c. The EP stated before the Audit Committee on 30-04-2018 [The presentation made by EP, documented in WP 30302 Audit Committee presentation, slide 4 and 19] that "We have also co....
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....guments now advanced by the EP that he did not rely on the work of the Branch Auditors. These are afterthoughts not supported by evidence in the Audit File or Audit Report. The documentation in the audit file and the plain meaning of the wordings used in his audit reports clearly show EP's reliance on the work of the branch auditors as a basis for his opinion. Also as explained above, the language used by the EP in his audit report complies with the legal requirements when separate auditors of the Company and branches are legally appointed. However, the EP also admits that there is only one auditor, i.e., C&S, for the company and its branches. Due to these contradictions, the replies of the EP lack substance and hence are rejected. Audit of the Branches by EP 43. The EPs next contention is that C&S did the audit of all the branches in the manner required by the Act. We observe that these contentions are also not supported by evidence, as explained below. a. The EP enumerated a summary of the branch audit reports in a work paper [WP 29 Branch Audit\Branch Audit Gist FY 17-18.xls.] in the Audit File. The adverse observations noted by the branch auditors were listed against 39....
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....ers. Such cases are not included in the cases mentioned here] that none of the branch auditors followed SAS while conducting the audit. We also found that the opinions issued by these purported branch auditors did not conform to SA 700 and were baseless. 44. Thus, the evidence leads us to a situation where neither the illegally appointed branch auditors nor the legal statutory auditor C&S audited the branches as per SAS. This amply proves that the EP who was responsible for the Audit failed to conduct the branch audits as per the Act and SAS and made a false report to the shareholders. In the absence of the branch audit of 250 branches as required by the Act, the Audit Reports on the SFS and CFS of DHFL, dated 30-04-2018 issued by the EP in the capacity of the Statutory Auditor of DHFL are void ab initio. All the charges in Para 37 thus stand proved. D.2. Consolidated Financial Statements 45. On February 13, 2017, DHFL incorporated a wholly-owned subsidiary, DHFL Investments Limited (DIL), by investing around crore towards its equity share capital. On March 31, 2017, DHFL sold its entire stake in DHFL Pramerica Life Insurance Company Limited (DPLI) (representing 50% of the paid-u....
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....ion was that DHFL had to obtain the consent of WGC for the appointment or removal of directors in DIL. Such transfer of control of DIL comes within the meaning of the term 'subsequent disposal in near future'. Also, the accounting treatment reflected the substance of the transaction rather than the legal form. It was also supported by an expert opinion. Hence, according to EP, there was no violation of AS 21. 48. We have examined the replies, the Audit File and the Financial Statements. We observe that the contentions of the EP are not supported by evidence. The EP did not document sufficient appropriate audit evidence and conclusions that the exclusion of DIL from consolidation was in accordance with AS 21. The submissions of the EP echo the management's views and some afterthoughts. Without prejudice, we examined these submissions on merits and observe as follows. a. Paragraph 9 of AS 21 requires consolidation in the CFS of all subsidiaries of the parent. The contention of the EP, that DHFL does not control DIL, is not true to the facts. Because 100% of the share capital of the subsidiary DIL was held and controlled by DHFL [AS 21 - Para 5.2 "A subsidiary is an ent....
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....to liquidate investments in DIL, subject to the favorable market conditions.. .." The tripartite agreement dated 31 March 2017, referred to by the EP also does not evidence any intent on the part of DHFL for disposal of investment in DIL in the near future. d. The term "near future" cannot be interpreted to mean more than 12 months in the normal course, as explained ['Near Future' is considered as not more than twelve months from the acquisition of relevant investments unless a longer period can be justified on the basis of facts and circumstances of the case. (Explanation (b) to Paragraph 11 of AS 21)] in AS 21. In the present case, the subsidiary DIL could be disposed of only after 100 months, i.e. over 8 years, post-conversion of CCDs. The arrangements allowed dilution of the stake of DHFL in DIL only in the event of the conversion of CCDs being subscribed by WGC. Thus, at the time of investment, there was nothing to indicate the management's intention to dispose of the subsidiary in the near future. In fact, the terms indicate possible disposal after 8 years while the standard indicates the term 'near future' to be construed as a period of not more than 12....
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....n incomplete data [The Expert opinion dated 29-04-2017, issued by Bhavna Doshi Associates LLP talks about "nominal share capital of Rs 1,00,000" in DIL. But as on 31 March 2017, the shareholding of DHFL in DIL was around 2100 crore. The opinion did not consider that the CCDs were pledged by WGC for external borrowings. The Opinion also ignores the fact that DIL was a subsidiary of DHFL as well as WGC.] and echoes the same conclusion as that advanced by the EP in his replies to the SON. We observe that while referring to section 129(5) of the Act, the expert recommends that "adequate disclosure would, of course, be required of the departure from the standard [AS 21], the reasons for the departure and consequences of such departure". Section 129(5) is applicable only when the financial statements of a company do not comply with the accounting standards. Hence this comment indirectly acknowledges the departure from the standard and talks of adequate disclosures to be given. However, in the immediately preceding paragraph of the opinion, the expert recommends that "in accordance with the Accounting Standards [AS 21], the accounts of DIL should not be consolidated in the accounts of DHF....
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....s responsible for obtaining reasonable assurance that the financial statements, taken as a whole, are free from material misstatement, whether caused by fraud or error.[Para 5 of SA 250] The objective of the Auditor as given in para 10 of SA 250 is: i. to obtain sufficient appropriate audit evidence regarding compliance with those laws and regulations generally recognised to have a direct effect on the determination of material amounts and disclosures in the financial statements. ii. to perform specified audit procedures to help identify instances of noncompliance with other laws and regulations that may have a material effect on the financial statements; and iii. to respond appropriately to non-compliance or suspected non-compliance with laws and regulations identified during the audit. b. From the above provisions of the SAS the responsibilities of identifying the relevant laws, understanding the nature of those laws vis-å-vis the material amounts and disclosures in the financial statements and responding appropriately to suspected or identified non-compliance lies with the auditor, The EP lists some WPs where it is claimed that compliance with applicable laws is do....
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....hese projects got hit badly due to RERA and Demonetization which are beyond control of the borrowers and therefore, there was need to restructure and provide interest mortarium". Without performing any Audit procedures, the EP agreed and noted his conclusion that "Management clarifications seemed to be reasonable and therefore these loans were treated as standard assets and accordingly provisioning norms on standard assets as per direction [HFC(NHB) Directions 2010] have been applied for". No efforts were made to check compliance with the directions of the NHB on asset classification and provisioning of restructured loans [HFC NHB Directions 2010 Para 2 clause (zc) states that restructured loans are sub-standard assets]. g. The possible effect of short provisioning due to wrong asset classification of rescheduled/ restructured loans amounting to 093.07 crore could have been significant. The EP should have performed other appropriate audit procedures as prescribed in SA 250. Since the possible impact could be above the materiality threshold decided by the EP, it had a direct impact on the audit report in accordance with SA 705(Revised) read with Para 25 of SA 250. The casual appro....
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....cally, the EP himself concluded in the referred WP that the management's contentions are acceptable, and no provisioning is required as suspected by NHB. In the same breath, he states that provision is not made since NHB did not conclude the report. It is not documented on what basis the EP could presume that, NHB would not recommend provisioning in the final report. l. The EP stated that he checked the accounting for the items of the inspection report for which the DHFL had agreed to make provision. For those not agreed to by DHFL, the EP also agreed with DHFL. Thus, in both cases, the EP blindly agreed with the management without an independent examination of facts, which is unbecoming of an auditor. 52. Based on the above discussion and facts all the charges in para 50 stand proved. Apart from the above, the following charges in the SCN are also proved in the absence of proper explanations and evidence in the Audit File. a. In his report, as per the provisions of Housing Finance Companies - Auditor's Report (National Housing Bank) Directions 2016, the EP stated that "Based upon the audit procedures performed for the purpose of reporting the true and fair view of the....
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....rmation System (MIS). It is necessary to computerise the MIS and make use of specialised software for managing the assets and liabilities with respect to maturity mismatches and the various risks associated with such mismatches. ALM has to be supported by a management philosophy that clearly specifies the risk policies and tolerance limits. The EP did not examine the Company's IT system for generating automated MIS as part of internal control testing nor did he understand the risk policies and tolerance limits if any. The violations of the ALM guidelines are further explained in this Order in the subsequent section on "Going concern". c. The EP did not inquire with the management whether DHFL had any prudential limits approved by the Board in terms of Earnings at Risk (EaR) or Net Interest Margin (NIM) in place [As per para 14.5 of the Guidelines in footnote 27 above read with Note 38.14 wf SFS]. Even though the prudential liquidity gap limits for negative gaps up to one year as per NHB Guidelines was 15% of the cumulative cash outflows for that period, no steps were taken by DHFL to rectify the breach of limits as seen from the disclosure of maturity pattern of assets and li....
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....nquiries need not be documented. Such comments of the EP arise from a flawed understanding of the law, the Standards and the regulatory regime in place. It is needless to remind the EP that the SAS are mandatorily required to be followed as per Section 143 (9) of the Act. The requirements of the SAS denoted by the word "shall" are unconditionally mandatory and need to be documented invariably as per SA 230. b. As evident from the Audit File and replies of the EP, the management did not perform a preliminary assessment of the entity's ability to continue as a going concern. In such a scenario, the EP was required by Para 10(b) of SA 570 (Revised) to discuss with management the basis for the intended use of the going concern basis of accounting and inquire of management whether events or conditions exist that, individually or collectively, may cast significant doubt on the entity's ability to continue as a going concern. This procedure is part of risk assessment procedures as per SA 315. However, no such discussions are documented by the EP at the risk assessment stage or even thereafter. c. Section 134(5) of the Act requires the Board to state specifically in its report ....
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....ontractual maturity. The note shows a liquidity gap in one year. Total outflows are 02,309.68 Crore while inflows are only Crore indicating, a gap of Crore. Regarding the financing of the gap, the ALM guidelines stipulates that the negative gap (i.e. where outflows exceed inflows) up to 30/31 days time buckets should not exceed the prudential limit of 15 per cent of outflows of each time-bucket and the cumulative gap up to the period should not exceed of the cumulative cash outflows up to one year period. In case these limits are exceeded, the measures proposed for bringing the gaps within the limit should be shown by a footnote in the relative statement.. In DHFL's case, the cumulative gap was 37%, much above the regulatory limit. Thus, there was a regulatory breach which remained unchecked by the EP. As per para 10 read with para A3-A6 of SA 570 (Revised), non-compliance with capital or other statutory requirements is one of the indicators of events or conditions that may cast significant doubt on the entity's ability to continue as a going concern. The Audit File is silent on this aspect. iii. There was a 46% to 55% gap in three-time buckets fro....
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....d by the ALM Support group. viii. The Company, during 2017-18, indulged in aggressive lending as the housing and other property loans disbursed had doubled compared to previous years. The Company relied heavily on borrowed funds to carry out its lending activities. Coupled with the negative operating cash flows (increased by 50% compared to the previous year), such practices could hamper the operating capability of the Company. The EP failed to examine these indicators [AS 3 states, "The amount of cash flows arising from operating activities is a key indicator of the extent to which the operations of the enterprise have generated sufficient cash flows to maintain the operating capability of the enterprise"]. e. The basic analysis of going concern includes regulatory aspects and liquidity aspects[Para A3 of SA 570 (Revised)] The EP's purported examination of going concern does not even touch upon any such aspects. Thus, the EP ignored the documented information available to him when doing his perfunctory assessment of the going concern assumption. f. Paras 16 to 25 of SA 570 (Revised) become applicable only if the EP had complied with the basic requirements in Paras ....
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.... is indefensible. 63. On a harmonious reading of Paras 4 and 6 of SA 500, Audit Evidence, and Paras 5 and 8 of SA 230 it is clear that the Auditor is required to document all the audit procedures he designed and performed, all the audit evidence obtained and the results of all such audit procedures to demonstrate compliance with the SAS and sufficient and appropriate record of the basis for the auditor's report. Para 8 (c) of SA 230 requires documentation of significant matters arising during the audit, the conclusions reached thereon, and significant professional judgments made in reaching those conclusions, Moreover, SAS are mandatorily required to be followed as per Section 143 (9) of the Act. The requirements of the SAS denoted by the word "shall" are unconditionally mandatory and need to be documented invariably to evidence compliance with the requirements of the law. 64. SA 230 underlines the documentation requirement of all audit procedures and evidence obtained to support the opinion as further emphasised in other provisions of SA 230, such as the purposes served by the audit documentation, the requirement of timely preparation of Audit Documentation, mandatory requir....
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....es, and disclosures to be expected in the financial statements. This includes the entity's objectives and strategies, and those related business risks that may result in ROMM. However, the relevant WPs [Mainly, WP Audit Planning Memorandum.pdf, WP 'Understanding the Entity and its Environment', WP 'Overall Strategies Memorandum', WP 'SA 315.pdf?, WP Engagement Summary Memorandum.pdf, WP 'Fraud Risk.pdf"] in this regard nowhere identify the significant classes of transactions, account balances and disclosures that are related to the identified factors of the entity and its environment. In the case of business risks, the WP lists 4 risk factors (without any basis documented), but there is no documentation on how these business risks result in ROMM and which classes of transactions or account balances are affected. e. The documentation is silent about how the key factors such as understanding of the IT environment, key estimates, litigation and claims, regulatory communications, fraud risk factors and entity-level controls are factored into risk assessment. The documentation nowhere identifies any accounting assertions that are susceptible to ROMM. The risk classification, as re....
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.... no significant risk"! This recording in the audit file is in total contrast to the plea taken by the EP in response to this charge. g. The EP claims that WT 'SA 315. pdf "lists the assessed and identified ROMM at account and assertion level". The statement itself proves the fallacy of the whole contentions around ROMM. The WP lists "Area of audit", "Examples of Risks Assessed' and "Examples of steps taken to mitigate the" (sic). Listing 'examples' cannot be accepted as compliance with the requirements of SAS in practice. Admittedly, this document lists "40 audit risks in relation to 21 items of financial statements". However, the financial statements of DHFL contain more than 60 major account captions and several disclosures. The accounting assertions relating to these items are manifold. The basis for arriving at 21 captions, which include captions not available on the financial statements of DHFL, is nowhere documented. Evidently, a template containing "examples" copied from some unknown sources [The list contains "area of audit" not featured in the financial statements of DHFI. Ega "Secured Loan from FII" and "Insurance Control Accounts"]. cannot contain the a....
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....f SA 315 also deals with the requirement to inquire with management and others within the entity including other employees with different levels of authority to identify the ROMM. For instance, there were various deficiencies identified [As documented in the Audit Committee Presentations] by the internal auditor in almost all quarters of 2017-18 like inadequate security creation, non-adherence to product norms, sanction conditions, inadequate approvals, document execution etc. Therefore, a discussion with the internal auditor at the risk assessment stage makes more sense rather than just a formal exercise to comply with the SAS. Even though the glaring indicators of fraud risks were available to the EP, he failed to exercise professional skepticism since no evidence of enquiries at the relevant level is present in the Audit File. k. Thus, it can be seen from the above facts that the purported assessment of ROMM by the EP is an eyewash and served no purpose. 66. Before the conclusion of the audit, the EP was required [Para 25 of SA 330.] to evaluate whether the assessments of the risks of material misstatement at the assertion level remain appropriate. This is because information....
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....tation for each of those audits was in sufficient 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." D.6. Internal control relating to the appraisal of loans Controls on appraisal and sanction of loans 70. The EP was charged with failure to identify the deficiencies in internal control relating to the appraisal and sanction of loans at the head office level and branch level. Needless to say, this is the case of an NBFC where loans are its core function. The revenue, liquidity and asset quality are all dependent on the loan portfolio and hence the verification of this item was a significant matter and material to the financial statements. 71. The EP replied that he complied with all the requirement....
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....urther follow-up was done in this regard. Such instances indicate the absence of controls at branches, but the EP did not address these deficiencies appropriately. 75. Based on the above, the charges in para 70 regarding failure to examine controls over loan appraisal and sanction stand proved. Management override of controls 76. The EP was charged with failure to design and perform audit procedures to minimise the risk of material misstatement due to management override of controls [As required by Para 31 of SA 240] in the loan appraisal process of the Company. The EP was also charged with failure to verify the Internal Controls over ensuring end-use in accordance with the sanction terms. 77. Though the EP explained certain processes instituted by the management in this regard, in the absence of any evidence of testing on the part of EP the charges are established. Moreover, from the Audit File [WP, 'Housing Loan Policy DHFLCredit_Policy_Ver_1.3.pdf', 'Project Guidelines Project Finance July 2017.Pdf and 'SME_Operations_Manual.pdf] it is found that the end-use monitoring clause is present only in the case of housing loans granted to individuals. In other loan cases, specifical....
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....nts of the Guidance Note and SAS, the EP was expected to: i. Obtain an understanding of the overall risks to internal financial controls over financial reporting. ii. Identify significant entity-level controls as part of the Company's control environment and controls over management override. iii. Identify significant account balances and disclosure items and their relevant assertions. iv. Determine the flow of transactions relevant to these assertions, to show the initiation, authorization, process and recording of these transactions. v. Perform audit procedures, such as walkthroughs, on significant flow of transactions to identify areas where control is missing or not appropriately designed. b. However, we observe that the EP's work is grossly inadequate and does not comply with the above basic requirements of SAS and the Guidance Note referred to by the EP. In section D.5 we have proved that the EP failed to identify ROMM appropriately. In this regard, the EP has placed reliance on WP 'SA315.pdf', which lists down certain "examples". Its lack of evidentiary value is already explained in Section D.S. We also proved in the said section that the EP did n....
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....15 (Para 16) in this regard requires that if the entity has established a risk assessment process, the auditor shall obtain an understanding of it, and the results thereof. Where the auditor identifies risks of material misstatement that management failed to identify, the auditor shall evaluate whether there was an underlying risk of a kind that the auditor expects would have been identified by the entity's risk assessment process. However, there is no such examination done by the EP, neither documented in the Audit File nor claimed to have been done. The EP proceeded to his purported test of the controls on the basis of the data provided by the Company without examining it with professional skepticism. This is the reason why the risks noted therein do not have any connection to the EP's audit plan and risk assessment. f. The RCM provided by the management does not cover branch operations. It is also evident from the WP '6ACM 30APR 2018. pdf' that the development of the "Risk Control Matrix (RCM) basis the assurance framework" was "in Progress" during FY 17-18. As per this WP, a draft RCM was prepared for Regional, Branch and Service Center audits and RCM for othe....
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....s designed for the period under reporting. Testing the operating effectiveness requires drawing a representative sample and then testing the control procedures through various audit procedures. There is also no evidence of testing that the designed control operated as prescribed by persons possessing the necessary authority and competence to perform the control activity and can effectively prevent or detect errors or fraud. i. Apart from the above fundamental deficiencies, we observe the following further deviations from SAS or the Guidance Note that render the audit opinion on ICFR baseless. i. Entity Level Controls: Entity-level controls, as described in Para 90 of the Guidance Note, are controls that have a pervasive effect on a Company's internal control. The process of identifying relevant entity-level controls could begin with discussions between the auditor and appropriate management personnel to obtain a preliminary understanding of each component of internal financial controls. Other than relying on the policy documents provided by the management, the ET did not document any discussion with the management and/or the ET's conclusions on the operation of such con....
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....ware of how an audit procedure, such as a walkthrough, is to be conducted for control testing. If we go by the EP's example, it is observed that the control was not operating as designed. iv. The gross inadequacy of the testing is further evidenced by the reply of the EP to our observation in the SCN that there is no documentation of the management's assessment of the adequacy and effectiveness of internal controls. To evidence the management assessment, the EP cites a presentation documented in the Audit File, claiming to be made by the management in the audit committee meeting on 9th April 2018. The EP then claims in his reply that "Without carrying out a thorough assessment and evaluations, the management would not have designed the Risk Control Matrix, which had 266 controls, and also, subsequently, made a presentation before the audit committee". v. In this regard, we note that Section 134 (5) of the Act requires the directors' responsibility statement to state that the directors, in the case of a listed company, had laid down internal financial controls to be followed by the company and that such internal financial controls are adequate and operating effective....
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....ice and branches. Read with the above facts, we observe that the EP failed to obtain sufficient information which is necessary for the expression of an opinion on ICFR and issued a baseless audit report under Section 143(3)(i) of the Act. By ignoring even, the basics of the audit of ICFR, the EP demonstrated the absence of professional skepticism, professional competence, and due care as required by SA 200 [SA 200 Overall Objectives of the Independent Auditor and the Conduct of an Audit in Accordance with Standards on Auditing] In view of these facts, the charges in para 80 stand proved. 83. Lapses in the audit of ICFR are viewed seriously by audit regulators across the world. In the matter of James R. Waggoner, CPA [PCAOB Release No. 105-2012-003 May 22, 2012] the US audit regulator PCAOB barred the CPA for three years from being an associated person of a registered public accounting firm. The disciplinary order, inter alia, observed "Waggoner authorized BSP's issuance of an audit report containing an unqualified opinion on the effectiveness of North American Gaming's ICFR as of December 31, 2008, despite knowing that North American Gaming could not perform an impairment ....
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....normal course of businesses Response to Audit Risk ; Review of Related Patties based on declaration in MBP I by Directors. Review of Compliances of Provisions of Section 177 and 188 of Companies Act. b. The EP in his reply to SCN, stated that the ET reviewed declarations by directors in form MBP I , reviewed minutes of the audit committee and the Board, scrutinised ledger transactions and obtained written representations to ensure compliance with Sections 177 and 188 of the Act. However, we observe no procedures and evidence of review of related parties, other than written representations and verification of declarations by the directors documented in the Audit File. The verification of MBP-I can only evidence a part of the related parties, as declared by the Directors. In this regard, the EP was required [Para 11 of SA 550] to perform audit procedures and related activities set out in paragraphs 1217 of SA 550. c. We observe that the Audit File contains Form MBP 1 for 7 directors. Out of the 7 forms, the date of signature and date of declaration is not mentioned in 2 forms. Further in all the forms it is clearly mentioned that the declaration is applicable "For the financial....
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....tly, there is an excess investment beyond the approval of the Audit Committee.] evidence of approval of the audit committee for "investment for an amount not exceeding Rs. 50 Crore in Avanse Financial Services Limited '[WP -DHFL Gist of Secretarial Records 2017-18, notes the minutes of 78th meeting of audit committee held on 22nd January, 2018,] and a trademark fee transaction with another related party. Even, these two approvals are also partial since the amounts of the transactions are not clearly available in the approval. There is no other documentation evidencing the RPT details and the amounts approved by the Audit Committee. Given the fact that as per Sections 177 and 188 of the Act, all the RPTs require Audit Committee approval or recommendation, it was the duty of the EP to ensure compliance by ensuring proper controls over RPT approvals and through substantive procedures. The documentation of EP does not evidence such compliance by the Company. Out of RPTs with 21 parties mentioned in Note 36B of Standalone Financial Statements 2017-18, a partial approval is seen documented only for one party as explained above. iv. There is no proper verification of the arm's l....
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....d seriously by the International Regulators as well. For example, PCAOB, in the matter of Cheryl L. Gore, CPA and Stanley R. Langston, CPA (Respondents) [PCAOB Release No. 105-2021 -020], barred the respondents from being associated with a registered public accounting firm and imposed a monetary penalty of $30,000 collectively for their failure inter alia to obtain sufficient appropriate audit evidence with respect to related party transactions. 89. In another case, PCAOB, in the matter of Yichien Yeh, CPA (Firm) and Yichien Yeh (Respondent) [PCAOB Release No. 105-2021-011] , revoked the firm's registration and barred the respondents from being associated with a registered public accounting firm and imposed a monetary penalty of $10,000 collectively for their failure inter alia to obtain sufficient appropriate audit evidence with respect to related party transactions. E. Articles of Charges of Professional Misconduct 90, As discussed, the EP has made a series of serious departures from the Standards and the Law, in the conduct of the audit of DHFL for FY 2017-18. Based on the above discussion, it is proved that EP had issued an unmodified opinion on the Financial Statements ....
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....ligent in the conduct of his professional duties". This charge is proved as the EP, conducted the Audit of a Public Interest Entity in total disregard of his statutory duties, evidenced by multiple critical omissions and violations of the standards. The instances of failure to conduct the audit in accordance with the SAS and applicable regulations, and failure to report the material misstatements in the financial statements and non-compliances made by the Company are as explained in Paras D. 1 to D.8 above. d. CA Jignesh Mehta committed professional misconduct as defined by Section 132 (4) of the Companies Act, 2013, read with Section 22 and Clause 8 of Part I of the Second Schedule of the Chartered Accountants Act, 1949 (No. 38 of 1949) as amended from time to time, which states that a Chartered Accountant is guilty of professional misconduct when he "fails 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". This charge is proved as the EP failed to conduct the audit in accordance with the SAS and applicable regulations as well as due to his total failure to repo....
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....ofessional skepticism and due diligence and adhere to the standards. 95. The EP in the present case was required to ensure compliance with SAS to achieve the necessary audit quality and lend credibility to Financial Statements to facilitate its users. As detailed in this Order, substantial deficiencies in audit, abdication of responsibility and inappropriate conclusions on the part of CA Jignesh Mehta establish his professional misconduct. The replies of the EP showed his absolute disregard for challenging the management assertions, documenting the audit procedures, documenting evidence and conclusions, lack of understanding of the mandatory nature of SAS, lack of understanding of the basic audit procedures and absence of required professional skepticism. There was no proper audit of the 250 branches, where neither the EP nor the illegally appointed branch auditors followed SAS. C&S were the sole Statutory Auditors of the Company including all its branches. Therefore, the EP's report under section 143 of the Companies Act 2013 and the report under CARO 2016, both referring to and relying on the work of the illegally appointed branch statutory auditors, rendered invalid. 96. T....