Special Audit Assignments

CA Final Paper 3: Advanced Auditing & Professional Ethics Chapter 17

CA Arijit Chakraborty

Agenda for discussion - Special Audit assignments

Capital market, stockbrokers , DP Audit

Energy & Environmental audit

Due Diligence / NCE audit

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Special Audit Assignments

Audit of Members of Stock Exchanges

Audit of Mutual Funds

Audit of depositories

Energy Audit

Environmental Audit

Audit of Non-corporate entities

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Learning Objectives

1. Understand the concept and types of special audit assignments (SAA)

2. Learn Audit steps and strategies for each type of special audit

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Audit of Members of Stock Exchanges

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Special audit assignments

Introduction to Stock Exchange

A market in which securities are bought and sold:

The initial offering of stocks and bonds to investors is by definition done in the primary market and subsequent trading is done in the secondary market.

A stock exchange is often the most important component of a stock market.

Supply and demand in stock markets are driven by various factors that, as in all free markets, affect the price of stocks.

Role of Stock Exchange • Raising capital for business:- common forms of raising

capital-

• Mobilizing savings for investments. • Creating investment opportunities for small

companies. • Government capital rising for development projects. • Facilitates company growth.

Going to public

Limited partnership Venture

capital

Corporate companies

Economy & Stock Exchange ECONOMY STOCK EXCHANGE

US & EUROPE NYSE

US & EUROPE (NORTH) NASDAQ JAPAN TOKYO STOCK EXCHANGE

UNITED KINGDOM LONDON STOCK EXCHANGE

EUROPE EURONEXT

CHINA SHANGHAI STOCK EXCHANGE

HONG KONG HONGKONG STOCK EXCHANGE CANADA TORONTO STOCK EXCHANGE

BRAZIL BM&F BOVESPA

Economy & Stock Exchange ECONOMY STOCK EXCHANGE AUSTRALIA AUSTRALIAN SECURITIES EXCHANGE

GERMANY DEUTSCHE BORSE

SWITZERLAND SIX SWISS EXCHANGE

CHINA SHENZHEN STOCK EXCHANGE

SPAIN BME SPANISH EXCHANGES

INDIA BOMBAY STOCK EXCHANGE

SOUTH KOREA KOREA EXCHANGE

INDIA NATIONAL STOCK EXCHNGE

RUSSIA MICEX – RTS SOUTH AFRICA JSE LIMITED

Some Indian Stock Exchanges

EXCHANGE BOMBAY STOCK EXCHANGE

NATIONAL STOCK EXCHANGE

JAIPUR STOCK EXCHANGE

UP STOCK EXCHANGE ASSOCIATION

MADRAS STOCK EXCHANGE

COCHIN STOCK EXCHANGE

BANGLORE STOCK EXCHANGE

GAUHATI STOCK EXCHANGE

LUDHIANA STOCK EXCHANGE

CALCUTTA STOCK EXCHANGE

LOCATION

MUMBAI

MUMBAI

JAIPUR

KANPUR

CHENNAI

COCHIN

BENGULURU

GAUHATHI

LUDHIANA

KOLKATA

NSE AND BSE ARE THE MAJOR STOCK EXCHANGES IN INDIA.

History Of Stock Market (Pre Independence)

YEARS EVENTS 1874 rapidly developing share trading business 1875 "The Native Share and Stock Brokers' Association" (also known as "The

Bombay Stock Exchange") was established in Bombay 1894 Establishment of "The Ahmadabad Share and Stock Brokers'

Association" 1908 "The Calcutta Stock Exchange Association" was formed 1936 Merger of the Lahore Stock Exchange with the Punjab Stock Exchange

1937 Re-organisation and set up of the Madras Stock Exchange Limited (Pvt.)

1947 "Delhi Stock and Share Brokers' Association Limited" and "The Delhi Stocks and Shares Exchange Limited" were established and later on merged into "The Delhi Stock Exchange Association Limited"

Post Independence

In the 1950s, Century Textiles, Tata Steel, Bombay Dyeing, National Rayon, and Kohinoor Mills were the favorite scrips of speculators.

The 1980s witnessed an explosive growth of the securities market in India.

The decade of the 1980s was characterized by an increase in the number of stock exchanges, listed companies, paid up-capital, and market capitalization.

The Capital Issues (Control) Act, 1947 was repealed in May 1992.

Major capital market scams took place in the 1990s.

Trading of futures commenced from June 2000, and Internet trading was permitted in February 2000.

Existing structure of the stock exchanges in India

STOCK MARKET

BSE

NSE

OTHERS

Innovations of Stock Market (NSE) Set up the first clearing corporation "National Securities Clearing Corporation Ltd”.

Depository- securities are held in electronic form

CDSL & NSDL

Setting up of S&P CNX Nifty.

commencement of Internet Trading in February 2000

Contd……

first and the only exchange to trade GOLD ETFs (exchange traded funds) in India

BOLT & NEAT

Financial Innovation bringing new instruments: Equity swaps, stock index etc.

Role of SEBI

Power to make rule for controlling stock Exchange

To provide license to dealers and brokers

To Stop fraud in Capital Market

To Control the Merge, Acquisition and Takeover the companies

To audit the performance of stock market

To make new rules on carry - forward transactions

To Require report of Portfolio Management Activities

To educate the investors

Importance of Stock Market

Provides a source of funding for organisations.

An investment avenue.

A source of income for investors.

A source of revenue for government in the form of taxes.

A source of employment opportunities.

Meeting place for investors and organisations.

Bombay Stock Exchange

Established in 1875

It became the first stock exchange to be recognized by the Indian Government under the Securities Contracts Regulation Act.1956.

Equity market capitalisation of the companies listed on the BSE was US$ 1.28 trillion.

Bombay Stock Exchange

BSE Limited formerly known as Bombay Stock Exchange (BSE) , is the oldest stock exchange in Asia.

It is a stock exchange located on Dalal Street, Mumbai.

It the 6th largest stock exchange in Asia and the 14th largest in the world.

The BSE has the largest number of listed companies in the world.

Bombay Stock Exchange

As of March 2012, there are over 5,133 listed Indian companies and over 8,196 scrips on the stock exchange, the Bombay Stock Exchange has a significant trading volume.

The BSE SENSEX, also called "BSE 30", is a widely used market index in India and Asia.

Though many other exchanges exist, BSE and the National Stock Exchange of India account for the majority of the equity trading in India.

While both have similar total market capitalization (about USD 1.6 trillion), share volume in NSE is typically two times that of BSE.

BSE BUILDING; BSE DISPLAYS SENSEX ; TRADING AT THE BOMBAY STOCK EXCHANGE

National Stock Exchange

Established In 1992

It Is The Largest Stock Exchange In India & 3rd Largest In The World In Terms Of Volume Of Transactions.

Its Key Index Is The S & P Nifty, Known As The Nifty, An Index Of Fifty Major Stocks Weighted By Market Capitalisation.

National Stock Exchange

The National Stock Exchange (NSE) is stock exchange located at Mumbai, India.

It is the 16th largest stock exchange in the world by market capitalization and largest in India by daily turnover and number of trades, for both equities and derivative trading.

NSE has a market capitalization of around USD 985 billion and over 1,646 listings as of December 2011.

NSE and BSE are the two most significant stock exchanges in India, and between them are responsible for the vast majority of share transactions.

National Stock Exchange The NSE's key index is the S&P CNX Nifty, known as the NSE NIFTY (National Stock Exchange Fifty), an index of fifty major stocks weighted by market capitalisation.

NSE is mutually owned by a set of leading financial institutions, banks, insurance companies and other financial intermediaries in India

There are at least 2 foreign investors NYSE Euro next and Goldman Sachs who have taken a stake in the NSE.

In 2011, NSE was the 3rd largest stock exchange in the world in terms of the number of contracts (1221 million) traded in equity derivatives.

It is the second fastest growing stock exchange in the world with a recorded growth of 16.6%.

National Stock Exchange , Mumbai.

Stock trading

Stock trading is not just buying and selling stocks at the stock market, there are so many other factors that need to be taken care of for successful stock trading.

Anyone who invests in the stock market wishes to make profit from the investments. To ensure that one get s significant return from investment , one has to pick up the right stocks at the right time.

Stock brokers

An agent that charges a fee or commission for executing buy and sell orders submitted by an investor. (OR)

The firm that acts as an agent for a customer, charging the customer a commission for its services.

You can either opt for a conventional broker or you can choose to trade online.

If you are trading online you can get the broking service from the banking or non banking organisations offering online trading facilities who will provide you with the DP account and act as your broker.

Dp or Demat account

A demat account is opened on the same lines as that of a Bank Account.

Prescribed Account opening forms are available with the DP, needs to be filled in.

Standard Agreements are to be signed by the Client and the DP.

In case of Corporate clients, additional attachments required are - true copy of the resolution for Demat a/c opening along with signatories to operate the account and true copy of the Memorandum and Articles of Association is to be attached

SECURITIES MANAGEMENT AND COMPLIANCES

SCRA SEBI Depositories Act Other Laws

Issue Management

Foreign Issue Management

Indian Issue Management

Compliances of Rules and

Regulations

Inspection and Investigation

Securities Appellate

Tribunal (SAT)

Demat Procedures

Corporate Action

Securities Reconciliation

Certificate

Companies Act FEMA Stamp Act Information

Technology Act Income-Tax Act Competition Act

Compliance of issuer Company in relation to Securities Related Laws and Capital Market

SECURITIES MANAGEMENT AND COMPLIANCES

Issue Management Listing

Public Issue

Private Placement

Preferential Allotment

Insider Trading Bonus Issue Unfair Trade Practices

Buy Back of Securities

Corporate Governance EDIFAR

Due Diligence

Eligibility Norms

Bankers to an Issue

Pricing of Securities

Depositories and

Participants

Appointment of Intermediaries

Registrar to an Issue and

Contents of Prospectus

Share Transfer Agents

Post Issue Obligations

Debenture Trustees

Compliance of various Rules

and Regulations Custodian

Compliance of Listing

Agreement

Equity offload

By Company By Intermediaries

Delisting Right Issue

Other Clauses

INDIAN ISSUE MANAGEMENT

FOREIGN ISSUE MANAGEMENT

Issue Management (ADR/GDR)

Listing in Foreign Stock

Exchanges Due Diligence

Approvals Required

Principal Documentation

By Companies By Inter- mediaries

Appointment of Agencies

Pre & Post Launch Additional Key

Action

Procedure and Management

Compliances of Basic Conditions

of Listing

Disclosure Requirements and Continuing

Obligations

Compliance of issuer Company in relation to issue of Securities in Foreign Countries

Foreign Issue Management

Compliance of Rules and Regulations

Inspection and Investigation

Securities Appellate Tribunal

Prohibition of Unfair Trade

Practices

Insider Trading

Takeover Code

ESOPs and ESOS

Buy-back of Securities

Buy-back through open

market

Buy-back through Book

Building

Buy-back through Tender

Offer

Model Code of Conduct

Continuing Disclosures

Maintenance of records and documents

Efficacy and Adequacy of

Security of Files and documents

COMPLIANCES UNDER SEBI ACT, RULES AND REGULATIONS

Open Offer Exemption

Compliances

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Definitions- Derivatives

A Derivative is:

an instrument whose value is derived from the value of one or more underlying assets like commodities, currency, securities, index, etc.

a financial product which is derived from another financial product or commodity.

a term having its origin in mathematics, which refers to a variable which has been derived from another variable.

Instruments & Players

Financial Instruments • Index Futures & Options • Stock Futures & Options

Market Players • Speculators-Day and Position Players • Hedgers • Arbitrageurs

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Legal Framework • History and Need

• SCRA

• Dr. L. C. Gupta Comm.-Regulatory Framework

• J. R. Varma Committee-Containment of Risk

• SEBI, BSE and NSE • Futures-An improvement over Forwards • Options

• Option & advance • Call & Put • American & European

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Trading Mechanism • Trading commenced in June 2000 • SEBI authorized Exchanges • Clearing House-Counter party • Derivative segment • Clearing and Trading Member • Financial guarantee • Deposit and Margins • Index and Stocks-Options & Futures

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Exchange Operations • S & P CNX NIFTY and BSE SENSEX • Standardized Contracts • Trading Units & Minimum value • Screen based trading • Three months cycle • Settlement Date-Last Thursday • Initial margin-Determination-Cash equivalent • Mark to Market-Daily Margins • Cash settlement only • Range of Strike Price determination • Transaction Costs

Introduction of New Products

Interest Rate Swaps (IRS) / Forward Rate

Agreements (FRA) June 1, 1999

Equity Derivatives June 9, 2000

Index Options June, 2001

Options on Individual Securities July, 2001 Futures on Individual Securities

November, 2001

Exchange Traded Funds

January 2002

Retail Debt Market January, 2003 Interest Rate

Futures June, 2003

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VaR Model for Margin Calculation - July, 2001

Highlights- Capital Market

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2008 • Launch of Securities Lending & Borrowing Scheme • Recognition to MCX-SX – Approval for Currency Futures only • Launch of Currency Futures • Algo Trading allowed by SEBI

2009 • Re-Launch of Interest Rate Futures • Launch of Mutual Fund trading platform

2010

• Recognition to United Stock Exchange (USE) – Approval for Currency Futures & Options only

• Launch of Currency Options • Mobile Based Trading • Introduction of Smart Order Routing (SOR) • Introduction of Volatility Index • Introduction of SIP

Acts, Rules and Regulations Bombay Securities Contracts Control Act – 1925

The Capital Issues (Control) Act – 1947 • Repealed on May 29, 1992

Securities Contract (Regulation) Bill – 1954

Securities Contract (Regulations) Act – 1956 • Bombay Securities Contracts Control Act, 1925 repealed

Securities Contract (Regulations) Rule – 1957

SEBI Act – May 1, 1992

Corporatisation & Demutualization Scheme – 2005

Manner of Increasing and Maintaining Public Shareholding (MIMPS) in recognised stock exchanges, Regulations – 2006 4

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Types of Margin & market Marked to market

volatility

Gross exposure

Normal market

Spot market

Odd lot market

Auction market

Recent developments

Market wide circuit breakers

Rolling settlement ( T+2)

Active Derivative market

Electronic documents

Audit requirements and documentation

performed independently by Practicing Chartered Accountant ( PCA)

Audit review areas ( illustrative list)

Books of accounts to be maintained by stock brokers – as per SCRA 1957, SEBI Rules 1992

Sauda book Client ledger GL Journal Cash book Bank pass book Document register Margin deposit books Sub-broker book Client contracts Copy of settlements Contract notes Tax payments Clearing house contracts Demat securities

Audit Report

Audit report format as per Government letter dated May 31, 1984. • Internal audit for stock

brokers, clearing members, trading members introduced by SEBI vide circular dated 21.10.2008 on half yearly basis by CA / CS/ CMA

Audit of Mutual Funds

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Special audit Assignments

What is a Mutual Fund?

A Mutual Fund is a trust that pools the savings of a number of investors who share a common financial goal. Anybody with an investible surplus of as little as a few thousand rupees can invest in Mutual Funds.

These investors buy units of a particular Mutual Fund scheme that has a defined investment objective and strategy.

The money collected is invested by the fund manager in different types of securities. These could range from shares to debentures to money market instruments, depending upon the scheme’s stated objectives.

The income earned through these investments and the capital appreciation realized by the scheme are shared by its unit holders in proportion to the number of units owned by them.

Mutual Fund Flow Chart

GROWTH - ASSETS UNDER MANAGEMENT(AUM)1965 to 2008

Organization Structure

Regulations

Governed by SEBI (Mutual Fund) Regulation 1996

• All MFs registered with it, constituted as trusts ( under Indian Trusts Act, 1882)

Bank operated MFs supervised by RBI too

AMC registered as Companies registered under Companies Act, 1956

SEBI- Very detailed guidelines for disclosures in offer document, offer period, investment guidelines etc.

• NAV to be declared everyday for open-ended, every week for closed ended • Disclose on website, AMFI, newspapers • Half-yearly results, annual reports

Terminologies

Asset Allocation • Diversifying investments in different assets such as stocks, bonds, real estate,

cash in order to optimize risk.

Fund Manager • The individual responsible for making portfolio decision for a mutual fund, in line

with fund’s objective.

Fund Offer Document • Document with investment objectives, risk factors, expenses summary, how to

invest etc.

Dividend • Profits given to the investor from time to time.

Growth • Profits ploughed back into scheme. This causes the NAV to rise.

Terminologies Contd… • NAV

• Market value of assets of scheme minus its liabilities.

• Per unit NAV = Net Asset Value No. of Units Outstanding on Valuation date

• Sale Price/ Offer Price

• Price you pay to invest in a scheme. May include a sales load. (In this case, sale price is higher than NAV)

• Re-Purchase Price/ Bid Price • Price at which close-ended scheme repurchases its units

Type of Mutual Fund

Schemes

Structure

Open Ended Funds

Close Ended Funds

Interval Funds

Investment Objective

Growth Funds

Income Funds

Balanced Funds

Money Market Funds

Special Schemes

Industry Specific

Schemes

Index Schemes

Sectoral Schemes

Types of Mutual Funds

Special Schemes-example

Funds based on Size of the investee Companies

Large cap funds: Funds that invest in companies whose total market cap is above Rs40bn Mid cap funds: Funds that invest in companies whose market cap is between Rs20-40bn Small cap funds: Funds that invest in companies whose market cap is below Rs20bn

Risks

Historical analysis

Risk = Potential for Harm

Market Risk

Non-Market Risk

Credit Rate Risk

MF Risk = Volatility (fluctuation of NAV) • Standard Deviation

Investment strategies

Systematic Investment Plan (SIP) • Invest a fixed sum every month. (6 months to 10 years-

through post-dated cheques or Direct Debit facilities)

Systematic Transfer Plan (STP) • Invest in debt oriented fund and give instructions to transfer

a fixed sum, at a fixed interval, to an equity scheme of the same mutual fund.

Systematic Withdrawal Plan (SWP)

SEBI- MF Regulations, 1996

Proper books of accounts

• Audit report format

Inspection & audit • Notice before inspection & investigation and related

obligations

Some Accounting Policies & Standards - MF

Mark to market and carry investments at market value

Income to accrue on daily basis as it is earned in case of interest-bearing investments

Average cost method to be followed for holding cost of investments

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Audit of Depositories

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Special audit Assignments

What is depository system

A system in which securities of an investor are held by depository on behalf, and at the request, of an investor in an Electronic Form.

This system is also know as Scrip Less Trading system.

Depository facilitates holding of securities in the electronic form and enables securities transactions to be processed by book entry by a Depository Participant (DP), who as an agent of the depository, offers depository services to investors

Depository Structure

Issuer / Registrar

Clearing Members

DP

B e n e f i c i a l O w n e r s

DP DP DP DP DP DP DP

Clearing Corporation Depository

Constituents of depository system There are basically four

participant: • The Depository • The Depository Participant • The Issuing Company • The Investor

Features of Depository system

In the depository system, securities are held in depository accounts, which is more or less similar to holding funds in bank accounts.

Transfer of ownership of securities is done through simple account transfers. This method does away with all the risks and hassles normally associated with paperwork. Consequently, the cost of transacting in a depository environment is considerably lower as compared to transacting in certificates.

Features of depository system in India

1 In the depository system, the apex body is the Depository..

2 A depository can be compared with a bank

3 Depository services through depository participants

4 Fungibility

5 Registered Owner/ Beneficial Owner (two types of owner)

Depositories - advantages are:

A depository is a system which holds shares in the form of electronic accounts. Shares cannot be lost or stolen Investor does not need to doubt the genuineness of shares. Share transfer etc can be effected immediately

Transaction costs are lower than physical transfers No risk of bad delivery Bonus / rights share can be immediately credited

Who can be a depository: • Depository Act, 1996 provides that • Depository means: • A company formed and registered

under the companies Act, 1956, and • Which has got a Certificate of

Registration from the SEBI.

Who can be a depository:

Legal framework The Depositories Act, 1996 Investor has the option to hold securities in Paper mode or Electronic mode Depository will be the “Registered Owner” of the securities Rights, Liabilities and Benefits are with Shareholders ( who will be the beneficial owners of the securities )

Grievance redressal

Investor Information Centres in recognized stock exchange addresses complaints. In addition, investors can approach:

Consumer disputed redressal forums Court of law

Legal Framework - Depositories

Depository to have net worth of Rs. 1 bn.

Mandatory indemnification against negligence

Investor holdings in the depository cannot be attached except for orders from competent authorities

Legal Framework

SEBI (Depository & Participant) Regulations • Criteria for setting up of a Depository and for

becoming a Depository Participant

Depository’s Bye-Laws

• Every depository to frame detailed Bye-Laws and procedures for its operations

• All participants will enter into agreement to follow the rules and regulations

Type of DPs

Public Financial Institution

Bank under RBI act.

Foreign Bank with RBI approval

State Financial Corporation

Custodian

Clearing Corporation or Clearing House of Stock Exchange

Stock Broker (CM)

Securities admitted

Equity shares

Preference shares

Debentures and bonds

Commercial papers

Certificates of deposits

Government securities

Exchange traded funds

Type of Accounts • Individual • Clearing Member • Corporate • FII • Bank • Mutual Fund

• A Depository Participant (DP) is an agent of the depository through which it interfaces with an investor.

• A DP can offer depository services only after it gets proper registration from SEBI.

• A DP is just like a Branch of a Bank.

Evolution of NSDL ,CDSL

The enactment of Depositories Act in August 1996 paved the way establishing the National Securities Depositories Ltd. (NSDL), the first depository in India.

This depository established a national infrastructure of international standard that handles most of the trading and settlement in dematerialized form in Indian capital market.

Later, a second depository was introduced, the Central Depository Services Ltd. (CDSL), which maintains equally high standards of safety and efficiency • Registration in depository and the unique account

number is proof of ownership for the shareholders.

Documentation & Records for Depository

Details of demat & remat securities

Names of parties, dates of transfer

Register & index of owners

Details of participants

Details of securities held At year- end

Records of instructions

Bank-Depository Analogy Bank Depository

1. Holds funds in an account on behalf of a customer

1. Holds securities in an account on behalf of an investor.

2. Transfer funds between accounts on the instruction of the account holder.

2. Transfer securities between accounts on the instruction of the account holder.

3. Physical handling of funds is avoided.

3. Physical handling of securities is avoided.

4. Provides safe custody of fund 5. Provides safe custody of securities.

Risk Containment & Mitigation - NSDL Strict Entry Norms

Strict KYC norms for account holders

Periodic Transaction Statement by DP

Statement from NSDL (Random)

Same day SMS Alert for transactions

Regular inspection by NSDL Staff

Third Party independent Audit

Insurance coverage

Comprehensive BCP

Depository Audit

Auditor may issue suitable qualifications, as deemd fit.

Audit format pronounced by ICAI

Certification pursuant to Companies ( Acceptance of Deposit Rules) 1975

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Energy Audit

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Special audit Assignments

Introduction of Energy Audit ( EA)

“energy audit “ means the verification , monitoring and analysis of use of energy including submission of technical report containing recommendations for

improving energy efficiency with cost benefit analysis and an action plan to reduce energy consumption

Need for Energy Audit:

Energy Crisis that the world face.

Depletion of Conventional Fuels

Minimize Energy Consumption

Maximize productivity, Achieve Energy efficiency

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Illustrative list of energy intensive industries • Aluminium • Fertilizers • Iron and Steel • Cement • Pulp & Paper • Chlor Alkali • Sugar • Textile • Chemicals • Railways • Port Trust • Transport Sector (industries and Services) • Petrochemical, Gas Crackers, Naphtha

Crackers and Petroleum Refineries • Thermal Power stations, hydel power stations,

electricity transmission companies and distribution companies

• Commercial buildings or establishments

Types of Energy Audit

Walk-Through Audit

Utility Cost Analysis

Standard Energy Audit

Detailed Energy Audit

Walk-Through Audit

• Short onsite visits for inspection.

• Inexpensive and simple actions.

• Immediate energy savings considered.

• Operating & Maintenance procedure.

Energy Auditing Instruments. • Electrical Instruments

• Measures Electrical Parameters. • Instant measurements can be taken. • Hand held devices.

• Combustion Analyzer.

• Has Built in Chemical Cells • Measures gases like O2,CO

• Fuel Efficiency Monitor. • Amount of O2 in exhaust • Measures temperature of flue gases

• Contact Thermometer

• I.R. Thermometer

• Non Contact Type • Directed to heat source. • Direct Temperature Read outs.

Environmental Audit

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Special audit Assignments

Environmental auditing - Introduction Environmental auditing is an

attempt to provide information on the environmental performance of a company, and thus include environmental issues in the decision making process. An environmental audit assesses the nature and extent of harm to the environment caused by the activities, wastes or noise from a particular company.

Objectives of Environmental audit

determine and document compliance status improve overall safety, health, and environmental performance at operating facilities

assist facility management increase the overall level of safety, health, and environmental awareness

protect the company from potential legal responsibilities develop a basis for optimizing safety, health, and environmental resources

Audit Scope and Focus

Organizational boundaries address which of the company's operations (manufacturing, R&D, distribution) are included in the audit program.

Geographical boundaries address how far or wide the program applies (state, province, regional, national, or international).

Locational boundaries address what "territory" is included in a specific audit. In many cases, the audit focus is mostly on the activities within the facility boundary, although some companies audit beyond this boundary.

Audit Coverage

air and water pollution control, solid and hazardous waste management, employee safety, industrial hygiene, occupational medicine, fire and loss prevention, process safety, and product safety. energy use; recycling; environmental education; habitat conservation and creation; green purchasing;

EMS Audit

Layout and design Management of resources Pollution control system Emergent safety arrangement Medical and healthcare facilities Industrial hygiene occupational health Information assimilation & reporting system Regulatory compliance Concern for society

Environmental auditing Areas of environmental auditing-1

• Material management, savings and alternatives;

• Energy management and savings; • Water management and economy of

use; • Waste generation, management and

disposal; • Noise reduction, evaluation and

control (internal and external);

Areas of environmental auditing- 2

Air emissions and indoor air quality;

Transportation and travelling practices;

Staff awareness, participation and training in environmental issues;

Environmental information publicity;

EMS Audit

Qualities needed in an EMS auditor:

• Independence • Impartiality • Inquisitiveness • Integrity

EMS audit process

initiating the audit

preparing the audit

executing the audit

audit reports and records

EMS Audit Components

Objectives and scope

Objectivity, independence and scope

Due profession care

Systematic procedures

Audit criteria, evidence and findings

Reliability of audit findings and conclusions

Audit report

Users

Environmental audit report - contents Name, address of owner of plant, industry, process.

Date of last audit

Water & raw material consumption.

Air & water pollution generated

Generation of solid waste Generation of hazardous waste

Disposal practices Additional investment proposal

Advantages of Environmental audit 1- ensuring compliance, with laws, regulations and standards, also with company policies and the requirements of an Environmental Management System (EMS) standard;

2- enabling environmental problems and risks to be anticipated and responses planned;

3- to demonstrate that an organization is aware of its impact upon the environment through providing feedback;

4- increased awareness amongst stakeholders; and

5- more efficient resource use and financial savings.

6 - Improved environmental practices and environment friendly technology often save money in the long run.

Audit of Non-Corporate Entities ( Bank Borrowers)

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Special audit assignments

Audit of Non-Corporate Entities

RBI Circular dated 12th April 1985 as amended – NCE with WC Limit beyond Rs 25 lacs to undergo audit from practising CA,

audit report to be furnished within 6 months from end of FY, report to focus on true & fair view of FS

CC, OD, TL, BG, BD, PC – All ST credit lines to be added to compute threshold limit under audit.

Due Diligence

DUE DILIGENCE • ASSIDUOUS

• - METICULOUS • - CONSCIOUSNESS • - THOROUGHNESS • - ATTENTIVENESS • - CAREFULNESS

AREAS OF CONCERN • OPERATIONAL

• -FINANCIAL • -TECHNICAL

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Audit report– vital points

T&F view, materiality, internal control review

Compliance of Sec 227, CA Act, Code of Ethics by auditor, previous years figures to be appended Focus on due diligence and overall comfort on FS of borrower

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Auditor points

Audit – focus areas

True and Fair

Assurance on Internal Controls

RBI / HO / CO Norms Compliance

Assets Impairment

Revenue and Expense

Assurance and

Recognition

Promoter evaluation

Track record of promoters

- Net worth/Availability of funds

Management

- Experience of Management

- Ownership Pattern

Check RBI Defaulters List

Check CIBIL Records

Viability of the Business

SWOT Analysis • Strengths & Weaknesses – Internal • Opportunities & Threats - External

Strengths and weaknesses

Strengths (Areas to Look for)

• 1. Competent Management • 2. Distinctive competitive • edge in terms of cost, • product differentiation, • R&D, skills etc • 3. Good Brand Image – • Strong & growing • customer base. • 4. Industrial relations – low • attrition rate. • 5. Sufficient Financial • Resources.

Weaknesses

(Areas to Look for) • 1. Lack of Management • Depth/ Talent • 2. Deteriorating • competitive position • 3. Newcomer with • unproven track record. • 4. Short on Financial • Resources • 5. Technology • Obsolescence.

Opportunuties and Threats

Opportunities (Areas to Look for)

Industrial Scenario Faster market growth Enter new market/

customer segments. Expand product line/

Move up in the value chain to meet the growing aspirations of customers

Vertical Integration.

Threats (Areas to Look for)

Growing competitive

pressures. Growing bargaining power

of customers/ suppliers Changing buyers needs/

tastes – Rising sale of substitute products

Adverse Govt Policies. Vulnerability to recession/

business cycle.

Business Financials to be reviewed Manufacturing efficiency

Operating efficiency

Is the unit turning over the assets efficiently.

Cash Flow pattern.

Liquidity to meet day to day operations

What is the quality of current assets

Can the unit sustain in difficult times

Can it service our interest and repayments

Key Financial Ratios • It shows prosperity Growth in sales

• It indicates cost efficacy RM Content in sales

• It indicates mfg. efficacy Gross profit/sales

• It indicates operating efficacy PBDIT/sales

• Ultimate earnings Cash accruals/Sales

• Will it meet commitments Current ratio

• Resilience in difficult times TOL/TNW

• Asset turn around capacity Sales/TTA

• Overall efficacy ROCE

Special Audit report of Non-Corporate Entities

Special Audit report ( quarterly) in addition to annual audit report, in special circumstances

Actual production, capacity utilisation, sales, COGS, GP, Interest , contingent liabilities

RM & WIP Inventory ageing, valuation, loans given and taken, Capex, outstanding statutory liabilities, tax assessed and paid, key operating ratios

Illustrative Audit Report – Consortium Finance by banks • To, • The Manager, • [Name of the Bank] • [Address of the Branch Office] • I/We have examined the registers, records, books and papers of [Name

of the Company] (the Company) as required to be maintained under the Companies Act, 1956 (the Act) and the rules made thereunder, the provisions of various statutes, wherever applicable, the provisions contained in the Memorandum and Articles of Association of the Company. In my/our opinion and to the best of my/our information and according to the examination carried out by me/us and explanations furnished to me/us by the Company, its officers and agents. I/We report that in respect of the period from [period]:

• 1. The management of the Company is carried out by the Board of Directors comprising the following persons as provided in Annexure I:

Illustrative Audit Report – Consortium Finance by banks Continued

• 2. During the period under review no changes took place relating to the shareholding pattern of the company.

• 3. During the period under review the Company has not made any alteration in the provisions of the Memorandum of Association and Article of Associations of the Company.

• 4. The company has during the period under review, entered into the transactions with business entities in which directors are interested. (Attached and marked as Annexure II)

• 5. The company has during the period under review, advanced loans, given guarantees and provided securities amounting to Rs._________ to its subsidiary company and not advanced loans, given guarantees and

Illustrative Audit Report – Consortium Finance by banks Continued • 7. The amount borrowed by the Company from directors,

members, public, financial institutions, banks and others during the period under review are within the borrowing limits of the Company. The break up of the company's borrowings are being attached herewith and marked asAnnexure III.

• 8. The Company has during the period under review, not defaulted in the repayment of any public deposits or unsecured loans and the Company or its Directors are not under the Defaulter's list of Reserve Bank of India or in the Specific Approval List of ECGC.

• 9. The Company has during the period under review, created, modified or satisfied charges on the assets of the company, the details of the same is being attached herewith and marked as Annexure IV.

• 10. The Company has no Forex exposure and Overseas Borrowings during the period under review.

Illustrative Audit Report – Consortium Finance by banks Continued • 11. The Company has not issued, offered and allotted any securities

to the persons entitled thereto and has also issued letters, coupons, warrants and certificates thereof to the concerned persons and also the Company never redeemed any of its preference shares/debentures and bought back its shares, during the period under review.

• 12. The Company has insured all its secured assets. • 13. The Company has complied with the terms and conditions, set

forth by the lending institution at the time of availing the facility and also during the currency of the loan and has utilized the funds for the purposes for which these were borrowed.

• 14. The Company has not declared any dividends to its shareholders. • 15. The Company has insured fully all its assets. • 16. The Company / Directors are not in the willful defaulters' list of

RBI.

Illustrative Audit Report – Consortium Finance by banks Continued • 17. The Company / Directors are not in the Specific Approval List of ECGC. • 18. The Company has paid all its statutory dues and that there are no arrears. • 19. The Company being the private limited Company and as such the provisions

stipulated in Section 372 A of the Companies Act in respect of its Inter Corporate loans and Investments are not applicable to the Company.

• 20. The Company has complied with the applicable and mandatory Accounting Standards issued by the Institute of Chartered Accountants of India.

• 21. There is no amount lying with the Company which required be crediting or paying to the Investor Education and Protection Fund.

• 22. A list of prosecutions initiated against or show cause notices received by the Company for alleged offences under the Act and also the fines and penalties or any other punishment imposed on the Company in such cases is attached and marked as Annexure V and Annexure VI.

• 23. As the Company is an unlisted private limited Company, the various clauses of the Listing Agreement, is not applicable to the Company.

• 24. The Company has deposited both Employees' and Employer's contribution to Provident Fund with the prescribed authorities.

Note : The qualification, reservation or adverse remarks, if any, may be stated at the relevant place(s).

Lesson Summary

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3. We had discussed the regulatory implications of these special audit assignments

2. We had also seen the types of special audit assignments and discussed the techniques

1. We have learnt the meaning and purpose of special audit assignments

Testing time

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Special audit Assignments Multiple Choice Questions

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Multiple Choice Questions

Q.1 The auditor’s permanent working paper file should not normally, include

a) extracts from client’s bank statements

b) past year’s financial statements

c) attorney’s letters

d) debt agreements

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Ans. a) extracts from client’s bank statements.

Q.2 Which of the following information should a successor auditor obtain during the inquiry of the predecessor auditor before accepting engagement? Information about integrity of management

Disagreement with management concerning auditing procedures

Review of internal control system.

Organisation structure

a) (i) and (ii)

b) (ii) and (iii)

c) (i) , (ii) and (iii)

d) i) and (iii)

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Answer. a) i) and ii)

Q.3 The audit engagement letter in case of Energy audit, generally, should include a reference to each of the following except

a) limitations of auditing

b) responsibilities of management with respect to audit work

c) expectation of receiving a written management representation letter.

d) a description of the auditor’s method of sample selection.

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Answer. d) a description of the auditor’s method of sample selection.

Q.4 When is evidential matter, generally, considered sufficient in case of stock exchange member audit?

a) When it constitutes entire population

b) When it is enough to provide a basis for giving reasonable assurance regarding truthfulness

c) When it is objective and relevant

d) When auditor collects and evaluates it independently

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Answer. b) When it is enough to provide a basis for giving reasonable assurance regarding truthfulness.

Q.5 During an inventory observation an auditor may detect obsolete items by all of following except

a) Observing unusual amounts of rust or dust.

b) Observing items with prior year inventory tags.

c) Computing gross profit ratios.

d) Inquiry of plants personnel.

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Answer: c

Reason ;The gross profit ratio will not detect obsolete goods in inventory although other ratios such as inventory turnover will.

Q.6 Which of the following is not a corroborative evidence in audit of bank borrowers?

a) Minutes of meetings

b) Confirmations from debtors

c) Information gathered by auditor through observation

d) Worksheet supporting consolidated financial statements

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Ans. d) Worksheet supporting consolidated

financial statements.

Q.7 . In which of the following types of inventories would an auditor of a bank borrower be least likely to need the assistance of a specialist to determine existence?

a)Baked goods

b) Coal Pile

c) Precious gems

d) Art work

Solution a

Reason • The auditor could evaluate baked goods, but would

need a surveyor for the coal pile and appraisers for the gems and art work.

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a) Section 226 (1) and section 226(2)

b) Section 224 (1) and section 224 (2)

c) Section 226 (3) and section 226(4)

d) Section 224(3) & Sec.224(4)

Q. 8 Which of the following sections deal with qualifications of the auditor ?

Answer. a) Section 226 (1) and section

226(2).

Q.9. Who among the following can be appointed as special auditor by the Central Government?

a) The statutory auditor

b) chartered accountant in practice

c) Any chartered accounted who is not in practice

d) Both (a) and (b)

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Answer. b) chartered

accountant in practice.

Q.10 The scope of the audit of Depositories including reference to the pronouncements of the ICAI, which the auditor adheres to, generally is communicated to the client in the _

i) auditor’s report

ii) engagement letter

iii) representation letter

a) i) only

b) Both (i) and (ii)

c) Both (i) and (iii)

d) All the above

Ans. b) Both (i) and (ii).

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If any director is disqualified from being appointed under section 274(1) (g), the special auditor should mention this fact in his audit report. For this purpose, how does he determine their eligibility :

a) He obtains a representation from each director

b) He obtains a management representation

c) He enquiries from Registrar of Companies

d) Any one of the above

Answer. a) He obtains a representation from each director.

Q.11

Q.12. The date on auditor’s report should not be__

a) the date of AGM

b) later than the date on which the accounts are approved in board’s meeting

c) earlier than the date on which the accounts are approved by the management

d) Both (a) and (b)

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Answer. c) earlier than the date on which the accounts are approved by the management.

Question 13

Which of the following report not result in qualification of the auditor’s opinion due to a scope limitation, in case of audit of bank borrower ?

a) Restrictions the client imposed

b) Reliance on the report of other auditor

c) Inability to obtain sufficient appropriate evidential matter

d) Inadequacy of accounting records

Answer. b) Reliance on the report of other auditor.

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Question 14 Which of the following is the most appropriate potential reaction of the auditor to his assessment that the risk of material misstatement due to fraud is high in relation to existence of inventory?

a) Visit location on surprise basis to observe test counts

b) Request inventory count at a date close to yearend

c) Vouch goods sent on approval very carefully

d) Perform analytical procedures.

Answer. a) Visit location on surprise basis to observe test counts

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Question 15

Which of the following statements is correct concerning the required documentation in working papers of fraud risk assessment undertaken by the auditor?

a) All risk factors as mentioned in SA 240, should be considered and documented along with response to them.

b) Document the identification of fraud risk factors along with response to them.

c) Document material fraud, risk factors and response to them.

d) No documentation in required.

Answer. b) Document the identification of fraud risk factors along with response to them.

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CA Final question & solution • Short notes on Circuit breakers / filters ( Nov 2008,

2010)- 4 marks • Solution outline • 10 % fluctuation on scrip price • SEBI directions applicable • Resist price manipulation • Investor protection

• Short note – MTM margin , May 2010 – 4 marks Solution outline • Notional loss • MTM margin to be paid by member • Calculation process of MTM

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CA Final question & solution • Short note on Environment statement format ( May 2009) - 4 marks Solution outline • Layout and design • Management of resources • Pollution control system • Emergent safety arrangement • Medical and healthcare facilities • Industrial hygiene • occupational health • Information assimilation & reporting system • Regulatory compliance • Concern for society • Name, address of auditee, last audit date • Hazardous, & solid waste generation • Effluent treatment / disposal practices • Pollution generation • Consumption of air, water & natural resources

Thank You

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