SA 315, Identifying and Assessing the Risks of Material Misstatement through understanding the entity and its environment deals with the auditor’s responsibility to identify and assess the risk of material misstatement in the financial statements, through understanding the entity and its environment.
A risk assessment procedure is performed for the identification and assessment of risks of material misstatement at the financial statement and assertion levels. SA 315 requires that:
• The auditor shall document the discussions among the engagement team and significant decisions reached.
• The engagement partner and other key engagement team members shall discuss the susceptibility of the entity’s financial statements to material misstatement, and the application of the applicable financial reporting framework to the entity’s facts and circumstances. The identified and assessed risks of material misstatement due to fraud at the financial statement level and at the assertion level.
Obtaining an understanding of the entity and its environment, including the entity’s internal control (referred to hereafter as an “understanding of the entity”), is a continuous, dynamic process of gathering, updating, and analyzing information throughout the audit. The understanding establishes a frame of reference within which the auditor plans the audit and exercises professional judgment throughout the audit, like, when:
• Assessing risks of material misstatement of the financial statements
• Determining materiality in accordance with SA 320
• Considering the appropriateness of the selection and application of accounting policies, and the adequacy of financial statement disclosures
• Identifying areas where special audit consideration may be necessary, for example, related party transactions, the appropriateness of management’s use of the going concern assumption, or considering the business purpose of transactions
• Developing expectations for use when performing analytical procedures
• Responding to the assessed risks of material misstatement, including designing and performing further audit procedures to obtain sufficient appropriate audit evidence.
The risks to be assessed include both those due to error and those due to fraud, and both are covered by this SA 315.
Para A127of SA 315 prescribes examples of conditions and events that may indicate the existence of risks of material misstatement:
• Going concern and liquidity issues including loss of significant customers.
• Constraints on the availability of capital and credit.
• Changes in the entity such as large acquisitions or reorganizations or other unusual events.
• Entities or business segments likely to be sold.
• The existence of complex alliances and joint ventures.
• Use of off-balance-sheet finance, special-purpose entities, and other complex financing arrangements.
• Significant transactions with related parties.
• Transactions that are recorded based on management’s intent, for example, debt refinancing, assets to be sold, and classification of marketable securities.
• Accounting measurements that involve complex processes.
• Events or transactions that involve significant measurement uncertainty, including accounting estimates.
• Pending litigation and contingent liabilities, for example, sales warranties, financial guarantees, and environmental remediation
When identifying and assessing the risks of material misstatement due to fraud, the auditor shall based on a presumption that there are risks of fraud in revenue recognition, evaluate the types of revenue, revenue transactions, or assertions that give rise to such risks.
The management has the ability to manipulate accounting records and prepare fraudulent financial statements by overriding controls that otherwise appear to be operating effectively. The auditor is required to treat those assessed risks of material misstatement due to fraud as significant risks and accordingly, to the extent not already done so, the auditor shall obtain an understanding of the entity’s related controls, including control activities, relevant to such risks.
Also, the Audit Firm shall:
• discuss the components of the entity’s financial statement and arrive at significant decisions regarding the susceptibility of the financial statements to material misstatement due to fraud.
• perform risk assessment procedures to identify and assess fraud risks, significant risks, and other risks at the financial statement level and assertion level.
• obtain an understanding of the entity and its environment, including the entity’s internal control, through which it establishes a frame of reference within which it plans the audit and exercises professional judgment throughout the audit.
• identify fraud risk based on a presumption that there are risks of fraud in revenue recognition and evaluate the types of revenue, revenue transactions, or assertions giving rise to such risks.
• obtain an understanding of the entity’s related controls, including control activities, relevant to such risks.
Para A30 of SA 240, The auditor’s responsibility related to fraud in an audit of financial statements, deals with risks of fraud in Revenue Recognition. It states that the presumption that there are risks of fraud in revenue recognition may be rebutted.
Para 47 of SA 240 also states that where the auditor concludes that the presumption that there is a risk of material misstatement due to fraud related to revenue recognition is not applicable in the circumstances of the engagement, the auditor shall document the reasons for that conclusion.
The auditor’s documentation of the responses to the assessed risks of material misstatement shall include:
• The overall responses to the assessed risks of material misstatement due to fraud at the financial statement level and the nature, timing, and extent of audit procedures, and the linkage of those procedures with the assessed risks of material misstatement due to fraud at the assertion level.
• The results of the audit procedures, including those designed to address the risk of management override of controls.
Hence, a blanket assertion that “based on the inquiries conducted and based on our understanding of the entity we did not come across any fraud risk within the entity,” and, being bereft of any supporting evidence, is a meaningless assertion. The assertion, without any supporting evidence, will not in any way help in devising the necessary and appropriate audit strategy and procedures to mitigate the risk of such ROMM due to fraud.
Therefore, working documents shall not merely appear to have been prepared as a paperwork formality, clearly evidencing a highly casual approach in the audit but an appropriate audit strategy may be devised and executed in the manner that it mitigates the risk of ROMM.
Presentation of Trade Receivables in the Financial Statements prepared in accordance with Ind AS
Presentation of Trade Receivables in the Financial Statements prepared in accordance with Ind AS
Ind AS Schedule III sets out the minimum requirements for disclosure on the face of the Financial Statements, i.e., Balance Sheet, Statement of Changes in Equity for the period, the Statement of Profit and Loss for the period.
In the notes to accounts related to Trade receivables that appear under the head “Non- current assets” and “Current assets” as a separate line item, the following guidelines need to be followed for their presentation and disclosures.
Trade Receivable is an amount that is due on account of goods sold or services rendered in the normal course of business and the company has an unconditional right on such amount of consideration.
Hence, amounts due under contractual rights, other than arising out of the sale of goods or rendering of services, cannot be considered as Trade Receivables.
A trade receivable will be treated as current if it is likely to be realized within twelve months from the date of the Balance Sheet or within the operating cycle of the business.
For example, dues in respect of insurance claims, Sale of Property, Plant and Equipment, contractually reimbursable expenses, etc cannot be classified as Trade Receivables. Such receivables should be classified as “other financial assets” and each such item should be disclosed nature-wise.
Ind AS Schedule III requires separate disclosure of the ageing schedule of “Trade Receivables outstanding” for both viz, the non-current and the current portion of trade receivables.
Non-current Trade Receivables/Current Trade Receivables shall be sub-classified as:
(i) (a) Considered good – Secured;
(b) Considered good – Unsecured;
(c) Trade Receivables which have a significant increase in credit risk
(d) Trade Receivables – credit impaired
(ii) Allowance for bad and doubtful debts shall be disclosed under the relevant heads separately.
(iii) Debts due by directors or other officers of the company or any of them either severally or jointly with any other person or debts due by firms or private companies respectively in which any director is a partner or a director or a member should be separately stated.
For trade receivables outstanding, the following ageing schedule shall be given:
# similar information shall be given where no due date of payment is specified in that case disclosure shall be from the date of the transaction.
Unbilled dues shall be disclosed separately.
Note:
This document is prepared as per the guidance note on Schedule III for Division II (applicable to companies following Ind AS) provided by ICAI