PNG

CAP-III, Advanced Audit & Assurance, June 2012

Suggested Answer

Roll No……………. Maximum Marks - 100

Total No. of Questions - 6 Total No. of Printed Pages - 3

Time Allowed - 3 Hours

Marks
Attempt all questions.

1. Comment and give your views as auditor with reasons in the light of Nepal
Accounting Standards, Nepal Standards on Auditing and Code of Ethics on each of
the following case: (4×5=20)
a) Raghabdhoj & Co. and SansarBhakta & Co. are the joint auditors of Winchester
Bank Limited. The bank had been able to cleverly conceal certain transactions
that could not be detected by both the auditors, in these circumstances, what
would be their professional responsibilities?
b) The annual general meeting of Sundarijal Company Limited on Poush 11, 2068
failed to appoint the auditor for the financial year 2068/69 due to time constraint
and delegated the power to appoint the auditor to the Board under the terms
recommended by the Audit Committee. The Board meeting held on Poush 25,
2068 appointed M/s Bhandary & Co., a Chartered Accountants firm as auditor
remaining within the terms and conditions recommended by the Audit
Committee. Do you think the appointment of M/s Bhandary & Co. is valid?
c) Mr. Relax was appointed as the auditor of M/s XYZ Co. Ltd. However during the
course of the audit, Mr. Q, his senior audit manager led the audit team and
supervised all the audit works of the Co. Mr. Relax was out of town at time of
signing the report, and Mr. Q is Mr. Relax’s most reliable staff and assisting him
for so many years in this profession. Hence, Mr. Relax is of the opinion that Mr.
Q should sign the audit report on behalf of him. Is Mr. Relax correct in his
decision?
d) Mr. Jamun is a chartered accountant who has been recently retired from ABC
National Bank Limited after serving for 25 years as chief finance officer of the
Bank. Of late, he has taken the certificate of practice and owns his own audit firm
since his retirement (i.e. from last 2 year 5 months). He now approached the
senior management of the bank for the statutory audit of the bank and they are
agreed to appoint him the next statutory auditor of the bank. Advise Mr. Jamun
and the senior management of the Bank about his validity as the statutory auditor.
Answer No. 1
a) The Auditing and Assurance (AAS 12) ‘Responsibilities of Joint Auditors’ deals with
the professional responsibilities which the auditors undertake while accepting the joint
audits. The joint auditors should by mutual discussion, divide the audit work among
themselves. The division of work among them as well as areas of work to be covered by
all of them should be adequately documented and preferably communicated to the client.
While dividing their work, it has to be taken care of that they have not left any area
unattended and exercised reasonable care and skill while performing their audit. Each of
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the joint auditors should communicate with each other about any matter which is relevant
to the areas of responsibility of other joint auditors and which deserve their attention. The
communication should be in writing by the submission of a report or note prior to the
finalization of the audit. In the case of joint audit, each joint auditor is responsible only
for the work allocated to him, whether or not he has prepared separate report on the work
performed by him. Each joint auditor is entitled to assume that the other joint auditor has
carried out their part of the audit work in accordance with the generally accepted audit
practice.
In the given case also, if it can be ensured that the joint auditors, Raghab dhoj & co. and
Sansar Bhakta @ co. have exercised reasonable care and skill in auditing the books of
accounts of Winchester Bank Limited, and still the bank has been able to conceal certain
transactions, both the auditors cannot be held responsible for professional negligence.
However, the auditors would be responsible for professional negligence if such
concealment could have been traced out by the exercise of reasonable care and skill.

b) According to Section 110 the Companies Act, 2063 every company shall appoint an
auditor under the Act to have its accounts audited. As per Section 111 of the same Act,
the general meeting shall appoint the auditor of a company from amongst the auditors
licensed to carry out audit under the prevailing law subject to Chapter 18 of the Act, in
the case of a public limited Company. The Act also provides that the board of directors
may appoint the auditor prior to the holding of the first annual general meeting. Nowhere
in the Act, there is any provision of delegation of authority to anyone for appointment of
an auditor. In the case of a public limited company, the annual general meeting has
authority to appoint auditor under the terms and conditions as recommended by the Audit
Committee as per Section 165 of the same Act.

As per Section 113 of the Act, in case of failure to appoint an auditor in the annual
general meeting of the company for any reason or where the annual general meeting itself
cannot be held, the auditor is appointed by the company Registrar’s office at the request
of the board of directors of the Company.

Hence, the Companies Act does not have any provision of delegating power of the
appointment of the auditor and no one can appoint auditor except the annual general
meeting and Company Registrar’s Office in case of failure to appoint the auditor by the
AGM.

In the above context, the appointment of M/S Bhandary & Co, a chartered accountants
firm by the Board of Sundarijal Company Limited at the recommendation of the Audit
Committee as per the authority delegated by the annual general meeting held on Poush
11, 2068 is not valid. The Company Registrar’s Office can only appoint auditor in such
case at the request of the Board of the Company.

c) As per Section 116 of the Companies Act 2063, an audit report prepared by the auditor
appointed by any company under this Act shall be signed and dated by the auditor
himself. Also it provides that where any company has appointed any accounting
institution licensed under the prevailing law to carry out audit, the member who has been
authorized by a decision of the partners of such institution shall sign and date the audit

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report. Also NSA 700 requires that the auditor’s signature either in the name of the audit
firm, the personal name of the auditor or both.

In the given case of M/S XYZ Co. Ltd. where Mr. Relax is the auditor and Mr. Q is only
his audit manager and not his partner of his firm, only Mr. A is authorized to sign the
audit report and not his manager by virtue of the above provisions. However he can use
Mr. Q for conducting the audit work of M/S XYZ Co., Mr. Relax by signing the report
himself takes the responsibility of the report and ensures that he has through convince on
the report issued by him.

d) As per Section 34(12) of the Chartered Accountants Act, 1997, one shall not perform
audit of accounts of any organization where he has served until the elapse of at least three
years of his leaving the service.

Here in the case of Mr. Jamun, who has served ABC National Bank Limited for twenty
five years as Chief Finance Officer and has retired from the service. Now, by virtue of the
above clause of the Act, he is restricted from taking up the statutory auditor’s assignment
for at least three years after his retirement. He has just completed two years and five
months and hence he should not take up the assignment or the management of the bank
should not appoint him as statutory auditor of the bank.

2. Answer the following questions:

a) What are the underneath concepts of corporate governance? 10
b) Describe in brief the effects of computers on auditing. 6
Answer No. 2
a) The basic concepts of corporate governance are explained hereunder:

1. Fairness:
The systems and values within the company must be balanced in taking into account
all those that have an interest in the company and its future. There should be equality
and even-handedness within directors’ deliberations with the ability to reach an
equitable judgment in a given ethical situation. The rights of various stakeholders
have to be acknowledged and respected. For example: minority shareholders' interests
must receive equal consideration to those of the dominant shareowner(s).
2. Openness/ transparency:
The openness and transparency in the meaningful analysis of the company’s actions,
its economic fundamentals and the non-financial aspects pertinent to that business is
also the underneath concept of the good corporate governance. A measure of how
good management is at making necessary information available in a candid, accurate
and timely manner – not only the statutory and listing disclosures required within
financial statements, but also general reports (e.g. to financial institutions), press
releases, sustainability reports, general corporate social responsibility (CSR) reporting
and other voluntary information. Strong controls and systems have to be in place to

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be able to capture, analyze and present reliable information on a timely basis to
facilitate the appropriate level of openness and transparency.

3. Independence:
The extent to which mechanisms have been put in place to minimize or avoid
potential conflict of interest that may exist also determines the level of corporate
governance prevailing in the company like separation of the roles of chief Executive
and chairman of the board or presence of an independent non-executive (NED) to
represent the interest of the shareholders and other stakeholders, use of internal and
external auditors reporting to audit committees etc. Independent NEDs balance on
appointment and remuneration committees to counter potential abuse by Executive
Directors. The decisions made and internal processes established should be objective
and not allow for undue influences or overt personnel motivation to prevail. That is,
the company should be run for the benefit of all stakeholders (Shareholders being a
primary grouping).
4. Probity and honesty:
This is fundamental to corporate governance systems (regardless of their origin)
involving integrity, honor, virtue and fair dealing. It implies not misleading
stakeholders (e.g. shareholders, the market, employees). At a higher level, the chief
executive provides all appropriate information to fellow executive directors & NEDs.
5. Responsibility:
Responsibility pertains to behavior that allows for corrective action and for penalizing
mismanagement. It is a willingness by management to accept liability for the outcome
of governance decisions. Responsible management would, when necessary, put in
place what it would take to set the company on the right path no matter how painful
this may be (e.g. dismissing an underperforming chief executive) or against their own
interests (e.g. the chief executive realizing that it is time for them to go). Whilst the
board is ultimately accountable to the company shareholders, recent corporate
governance development means that it must act responsively to, and with
responsibility towards, all stakeholders of the company. With regard to shareholders,
it is argued that they have responsibilities as owners. That is to use the available
mechanisms (e.g. annual general meetings and voting) to query and assess the actions
of management.
6. Accountability:
Individuals or groups in a company, who make decisions and take actions on specific
issues, need to be accountable for their decisions and actions. Mechanisms must exist
and be effective to allow for accountability. These provide investors with the means
to query and assess the actions of the board and its committees. But accountability is
a two way process-directors must provide the necessary information (e.g. through
annual financial statements) and opportunities to shareholders (e.g. annual general
meeting or specific meetings with institutional investors) to be able to hold the
directors accountable for their actions. As discussed above, shareholders have
responsibilities as owners. Current developments in corporate governance imply that
management are not just accountable to shareholders but to all stakeholders. This is
reflected in the development of CSR, sustainability reporting and research into the
content of financial statements showing that additional costs (e.g. social &
environmental costs) other than pure economic production costs should be accounted
for.
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7. Judgment:
Entities operate within a complex and diverse range of events, activities and
environments. Achieving objectives requires a series of decisions to be made based
on a solid and sound judgment of the relevant information and environments the
entity operates in. An entity’s management must be able to consider numerous issues
and interrelationships, give each due consideration, reach meaningful conclusions
(that will enhance the prosperity of the entity) and communicate/enact such
conclusions. This implies managers have a thorough understanding of the entity, its
operations, business environment and risks /opportunities as well as the necessary and
appropriate skills to maximize benefits and minimize risks.
8. Integrity:
Integrity is required in all professional, business, personal and financial relationships.
It implies honesty, fair dealing and truthfulness. The concept of integrity is
fundamental for strong corporate governance and is required at the level of the entity
(e.g. corporate body), in the actions taken by the management and employees of the
entity and in the external and internal reports and information published by the entity.
9. Reputation:
Although reputation has a personal and entity aspect, an entity’s reputation depends
heavily on the reputation of its managers and employees-an entity’s reputation is
effectively the cumulative result of all of the other underpinning concepts of good
corporate governance. Reputation risk is a business risk that many entities now
consider to be the greatest risk to their market standing. Evidence suggests that
reputation carries an appropriate market capitalization premium (good reputation) or
discount (bad or declining reputation) for listed companies.
The South African King Report on Corporate Governance (2002) also considered the
characteristics of corporate governance. In addition to transparency, independence,
accountability, responsibility and fairness, King also noted discipline and social
responsibility as the basic characteristics.
10. Discipline:
Corporate discipline is a commitment by a company’s senior management to adhere
to behavior that is universally recognized and accepted to be correct and proper. This
encompasses a company’s awareness of, and commitment to, the underlying
principles of good governance, particularly at senior management level.
11. Social responsibility:
A well managed company will be aware of, and respond to, social issues, placing a
high priority on ethical standards. A good corporate citizen is increasingly seen as one
that is nondiscriminatory, non-exploitative, and responsible with regard to
environmental and human rights issues. A company is likely to experience indirect
economic benefits such as improved productivity and corporate reputation by taking
those factors into consideration.

b) The objective of auditing does not undergo a sea change in a CIS environment. Auditor
must provide a competent and independent opinion as to whether the financial statements
present a true and fair view of the state of affair of the entity. However the effect of
computer systems in collecting and evaluating evidence has been discussed below:

a. Changes to evidence collection- Collecting evidence on the reliability of a computer

system is more complex than collecting evidence on the reliability of a manual system.

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Auditor have to face a diverse and complex range of internal control technology that did
not exist in a manual system such as:
i) accurate and complete operations of a disk drive may require a set of hardware controls
not required in manual system,
ii) System development control includes procedures for testing programs that again are not
necessary in manual control.

The continuing and rapid development of control technology also makes it more difficult for
auditors to collect evidence on the reliability of controls. Even collection of audit evidence
through manual means is not possible. Hence the auditors have to run through computer system
themselves if they are to collect necessary evidence. Often auditors are force to compromise in
some way when performing the evidence collection.

b. Changes to Evidence evaluation- With increasing complexity of computer systems and control
technology, it is becoming more and more difficult for the auditors to evaluate the consequences
of strength and weaknesses of control mechanism for placing overall reliability on the system.
Auditors need to understand :
i) whether a control is functioning reliably or multi functioning,
ii) traceability of control strength and weakness through the system.

Thus, internal controls that ensure high quality computer systems should be designed,
implemented and operated upon. The auditors must ensure that these controls are sufficient to
maintain assets safeguarding, data integrity, system effectiveness and system efficiency and that
are in position and functioning.

3. (4×4=16)

a) M/s Syntax & Co. engaged in manufacturing computer parts and accessories has
invested in shares of M/s Microlord Ltd. The company, after balance sheet date,
finds that the share value is declining and thus, seeking your opinion regarding
recording the losses in financial statement to comply the Nepal Accounting
Standard 5, "Event after the Balance Sheet Date". What would be your suggestion
in this regard?
b) Mr. Jack Banerjee, a professional accountant and member of ICAN performs his
auditing services in a country other than Nepal also. He published his
advertisement in one of the country other than Nepal explaining about his
competency and skill to perform auditing, management and consultancy services
at very reasonable fee. He argued that it was permitted by the local ethical
requirement of that country. How would you analyze this issue if you were a
member of disciplinary committee of ICAN and the issue had been lodged before
the committee?
c) You are auditor of Elina Garments Limited which exports Readymade garments
to M/s. Warnoff Inc., of USA for the financial Year 2067-68. The Company’s
around 75% sale constitutes export to Warnoff Inc. and there is outstanding
balance of Rs. 17 Crore in Sundry Debtors which covers around 85% of the total
debtors as at 32 Ashad, 2068. Due to global recession, the Warnoff Inc. has filed
bankruptcy in USA on 15 Ashwin, 2068 which came to your notice during the
audit. Give your opinion as an auditor.
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d) Mr. Gopal, a practicing Chartered Accountant, appeared on a talk show of one of
the leading TV channel. During the course of the programme the Anchor
introduced, on the basis of the bio-data furnished by Mr. Gopal, as the senior most
partner of M/s Gopal and Associates, a worldwide leading firm of chartered
accountants and also the services provided by the firm. Comment.

Answer No. 3
a) Nepal Accounting Standard – 5, "Events after the Balance sheet Date" requires an entity
to adjust the amounts recognized in its financial statements to reflect adjusting events
after the balance sheet date. However, Para 10 of the said NAS states that an entity shall
not adjust the amounts recognized in its financial statements to reflect non-adjusting
events after the balance sheet date. In the given case, the decline in market value of the
shares of M/s Microlord Ltd does not normally relate to the condition of the investments
at the balance sheet date, but reflects circumstances that have arisen subsequently.

Therefore, M/s Syntax & Co. should not adjust the amounts recognized in its financial
statements for the investments. Similarly, the company should not update the amounts
disclosed for the investments as at the balance sheet date, although it may need to give
additional disclosure under paragraph 21 if non-adjusting events after the balance sheet
date are material, nondisclosure could influence the economic decisions of users taken on
the basis of the financial statements. Accordingly, an entity shall disclose for each
material category of non-adjusting event after the balance sheet date:
(a) the nature of the event; and
(b) an estimate of its financial effect, or a statement that such an estimate cannot be made.

b) The issue mentioned in the question above should be analyzed as per section 6 of the
Code of Ethics issued by the ICAN to its members which states that a professional
accountant qualifying in Nepal may reside in another country or may be temporarily
visiting that country to perform professional services. In all circumstances, the
professional accountant should carry out professional services in accordance with the
relevant technical standards and ethical requirements. When a professional accountant
performs services in a country other than Nepal and differences on specific matters exist
between ethical requirements of the two countries the following provisions should be
applied:
(a) When the ethical requirements of the country in which the services are being
performed are less strict than the ICAN Code of Ethics, then the ICAN Code of Ethics
should be applied.
(b) When the ethical requirements of the country in which services are being performed
are stricter than the ICAN Code of Ethics, then the ethical requirements in the country
where services are being performed should be applied.
(c) When the ethical requirements of Nepal are mandatory for services performed outside
that country and are stricter than set out in (a) and (b) above, then the ethical
requirements of Nepal should be applied.
Hence, in the given context, Mr Jack Banerjee will be held liable for disciplinary action
under the Codes of Ethics of ICAN.

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c) The filing of bankruptcy of the company during the course of audit but after the balance
sheet date is subsequent event or events occurring after balance sheet date. It is seen that
the debtor covers the major portion of debtors, the debtors shown in the balance sheet
may no longer be appropriate and hence adequate provision should be made. Since, the
party is major customer and covers major portion of the debtor, the going concern
assumption of the company may no longer be appropriate if receivable amount from
Warnoff Inc. is more than total amount of equity of the company. In such circumstances,
the auditor should ask the management for necessary adjustment/provisioning in the
financial statement regarding the debtor balances and necessary disclosure thereof.
Further, the auditor should also:
(a) Review management's plans for future actions based on its going concern assessment;
(b) gather sufficient appropriate audit evidence to confirm or dispel whether or not a
material uncertainty exists through carrying out procedures considered necessary,
including considering the effect of any plans of management and other mitigating factors;
and
(c) Seek written representations from management regarding its plans for future action.

Based upon further assessment and actions of management, the auditor shall issue his
opinion.

d) Clause 14(1) of the Code of Ethics issued by ICAN provides:

Publicity by individual professional accountants in public practice is acceptable provided
it avoids frequent repetition of, and any undue prominence being given to the name of the
professional accountant in public practice.

Further Clause 14(2) provides that, what professional accountants write or say, however,
should not be promotional of themselves or their firm but should be an objective
professional view of the topic under consideration. Professional accountants are
responsible for using their best endeavors to ensure that what ultimately goes before the
public complies with these requirements.

Even if during the course of interview, if the interviewer asks to mention the services
provided by his firm, he should refrain from mentioning the same and tell that divulging
the same on a public forum is not permitted by the code of ethics.
Even though if some matters are inadvertently advertised which are contrary to the code
of ethics, he should take reasonable steps to inform the TV channel about the same.

But in the instant case, Mr Gopal deliberately provides his bio data containing the name
of the firm and services provided by the firm and advertises his firm. Thus he is guilty of
undue publicity.

4.
a) State the points the auditor should keep in mind in using CAAT’s (Computer-
Assisted Audit Techniques) for audit in small business computer environments. 5
b) Do you think that a contingent loss or a contingent gain needs to be provided in
the accounts? 5

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c) “The reliability of audit evidence is influenced by its source and by its nature and
is dependent on the individual circumstances under which it is obtained”. Explain. 5
d) M/s Rely More Cooperative Limited with a paid up share capital of Rs. 20,00,000
has earned surplus after tax in the financial year 2067/68 to the tune of
Rs.7,50,000. The management of the Cooperative Limited wants to distribute the
profit to various funds as follows:
i) General Reserve Rs. 1,00,000
ii) Dividend to members Rs. 5,00,000
iii) Appropriation in various funds Rs. 1,50,000
The above appropriation of surplus to various funds has also been approved by
the Board of Directors of the Cooperative. You are required to verify, as an
auditor, the validity of above appropriations in the light of the Cooperatives Act,
2048. 5
Answer No. 4
a) The general principle in the application of CAAT’s does not change with small business
computer environments but some limitations have to be faced. However, the following
points should be kept in mind and given special consideration in these environments by the
auditor:
(a) The level of general ED controls may be such that it will be difficult to place adequate
reliance on the system of internal control. This will result in:
Greater emphasis on tests of details of transactions and balances and analytical review
procedures, which may increase the effectiveness of certain CAAT’s particularly audit
software.
The application of audit procedures is to ensure the proper functioning of the CAAT and
validity of the entity’s data.
(b) In case where smaller volumes of data are processed, manual methods may be more cost
effective and economic.
(c) Adequate technical assistance may not be available from the entity, thus making the use
of CAATs impracticable.
(d) Certain audit package programs may not operate on small computers, thus restricting the
choice of CAATs. However, the entity’s data files may be copied and processed on
another suitable computer.

b) NAS 5 on “Events after Balance Sheet Date” provides that a contingent loss should be
provided for by a charge in the income statement if:

i. It is probable that at the date of the financial statement events subsequent thereto will
confirm that an asset has been impaired or a liability has been incurred as at that date; and
ii. A reasonable estimate of the amount of the resulting loss can be made.
It may be noted that the provision by the way of charge in the accounts should be made if
both of the above conditions are satisfied. If either of the clauses is not satisfied then a
disclosure of the contingent loss should be made, unless the possibility of a loss is remote.
Contingent gains should not be accounted for in financial statements.

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c) Nepal Standard on Auditing 505 “External Confirmations” deals with the above statement.
The following generalization about the reliability of audit evidence may be useful:

i) Audit evidence is more reliable when it is obtained from independent sources outside
the entity.
ii) Audit evidence obtained directly by the auditor is more reliable that audit evidence
obtained indirectly or by inference.
iii) Audit evidence is more reliable when it exists in documentary form.
iv) Audit evidence provided by original documents is more reliable than audit evidence
provided by photocopies or facsimiles.

Accordingly, audit evidence in the form of original written responses to confirmation

requests received directly by the auditor from the third parties who are not related to the
entity being audited, when considered individually or cumulatively with audit evidence from
other audit procedures, may assist in reducing the risk of material misstatement for the
related assertions to an acceptably low level.

d) As per Section 27(1) of the Cooperatives Act, 2048, from the surplus made by a Cooperative
in any financial year, the funds as prescribed may be apportioned after allocating into the
reserve fund at least one fourth of the net saving. Sub Section 2 of the same Act mentions
that a dividend to the extent mentioned in the By-law may be distributed from the funds,
other than the reserve fund in consonance with the purpose of such funds. Provided that, the
amount of share dividend for a year, shall not exceed fifteen percent of the share capital.

In the given case, M/S Rely More Cooperative Limited which has a share capital of Rs.
20,00,000, apportioned Rs. 100,000 to the reserve fund. As per Section 27(1), the minimum
appropriation to general reserve required is one fourth ie, Rs. 187,500. So, the proposed
appropriation is inadequate and hence the Cooperative is required to make appropriation of at
least one fourth of the net surplus.

Similarly approved dividend of Rs. 500,000 is 25% of the share capital of Rely More
Cooperative Limited. Section 27 (2) of the Act specifies that the Cooperative can distribute
dividend to the maximum 15% of its share capital ie, Rs. 300,000. Hence, the board has to
rectify earlier decision and make appropriation of net surplus as per provision of
Cooperatives Act and Bylaws of the Rely More Cooperative Limited.

Remaining surplus after the above apportionment may be apportioned in various other funds
as specified in its By-law of the Cooperative.

5. Distinguish between the followings: (4×4=16)

a) Compliance procedures and substantive procedure
b) Adjusting events and non-adjusting events
c) Reasonable assurance engagements and limited assurance engagements
d) Disclaimer of opinion and adverse opinion
Answer No. 5
a) Compliance procedures and substantive procedure
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Compliance procedures are those tests designed to obtain reasonable assurance that those
internal controls on which audit reliance is to be placed are in effect. In obtaining audit
evidence from compliance procedures, the auditor is concerned with assertions that the
control exists, the control is operating effectively and the control has so operated throughout
the period of intended reliance. Substantive procedures are tests designed to obtain evidence
as to the completeness, accuracy and validity of the data produced by accounting system.
They are of two types: tests of details of transactions and balances and analysis of significant
ratios and trends.

b) Adjusting events and non-adjusting events.

As per NAS 5 on Events after Balance Sheet date, events which occur between the balance
sheet date and the date on which the financial statements are approved, may indicate the need
for adjustments to assets and liabilities as at the balance sheet date or may require disclosure
only. Adjusting events are those events that are occurred after the balance sheet date that
provide evidence of conditions that existed at the balance sheet date. Similarly, non-adjusting
events are those that are indicative of conditions that arose after the balance sheet date.

Adjustments to assets and liabilities are required for events occurring after the balance sheet
date that provide additional information materially affecting the determination of the
amounts relating to conditions existing at the balance sheet date. For example, an adjustment
may be made for a loss on sundry debtors’ account which is confirmed by the insolvency of a
customer which occurs after the balance sheet date.

On the contrary, adjustments of the assets and liabilities are not required for events occurred
after balance sheet date, if such events do not relate to conditions existing at the balance
sheet date. For example, the decline in the market value of investments between the balance
sheet date and the date on which the financial statements are approved. Ordinary fluctuations
in market value do not normally relate to the condition of the investments at the balance sheet
date, but reflect circumstances which have occurred in the subsequent period.

Hence, an enterprise should adjust the amounts recognized in its financial statements to
reflect adjusting events after the balance sheet date and similarly, it should not adjust the
amounts recognized in its financial statements to reflect non-adjusting events after the
balance sheet date.

c) The major differences between a reasonable assurance engagement and a limited assurance
engagement can be outlined as follows:
i) Objective: A reduction in assurance engagement risk to an acceptably low level in the
circumstances of the engagement as the basis for a positive form of expression of the
practitioner’s conclusion, whereas objective of a limited assurance engagement
includes a reduction in assurance engagement risk to a level that is acceptable in the
circumstances of the engagement but where that risk is greater than for a reasonable
assurance engagement, as the basis for a negative form of expression of the
practitioner’s conclusion .
ii) Evidence gathering procedure: Sufficient appropriate evidence is obtained as part of a
systematic engagement process that includes obtaining an understanding of the
engagement circumstances, assessing risks, performing further procedures using a
combination of inspection, observation, confirmation, recalculation, reperformance,
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analytical procedures and enquiry. In a limited assurance engagement, sufficient
appropriate evidence is obtained as a part of a systematic engagement process that
includes obtaining an understanding of the subject matter and other engagement
circumstances, but procedures are deliberately limited relative to a reasonable
assurance engagement.
iii) Reporting: Description of the engagement circumstances and a positive form of
expression of the conclusion in reasonable assurance engagement whereas in a
limited assurance engagement, description of the engagement circumstances and a
negative form of expression of the conclusion.

d) A disclaimer of opinion is expressed when the possible effect of a limitation on scope is so

material and pervasive that the auditor has not been able to obtain sufficient appropriate audit
evidence and accordingly is unable to express an opinion on the financial statements.
When there is limitation on the scope of the auditor’s work that requires expression of a
disclaimer of opinion, the auditor’s report should describe the limitation and indicate the
possible adjustments to the financial statements that might have been determined to be
necessary had the limitation not existed.

An adverse opinion is expressed when the effect of a disagreement is so material and

pervasive to the financial statement that the auditor concludes that a qualification of the
report is not adequate to disclose the misleading or incomplete nature of the financial
statements.

6. Write short notes on the following: (4×3=12)

a) Management Representation
b) Nepal Standard on Quality Control (NSQC)
c) Intangible Assets
d) Deferred Taxation

Answer No. 6

a) It is a representation made by management to the auditor during the course of an audit, either
unsolicited or in response to specific enquiries. It acknowledges its responsibility for the
implementation and operation of accounting and internal control system that are designed to
prevent and detect fraud and error. Nepal Standard on Auditing – 11, Management
Representation states that the auditor should obtain appropriate representation from
management evidencing that the management acknowledges its responsibility for the fair
presentation of the financial statements in accordance with the relevant financial reporting
framework. The auditor can obtain evidence of management’s acknowledgment of such
responsibility and approval from relevant minutes of meetings of the board of directors or
similar body or by obtaining a written representation from management or a signed copy of
the financial statements. The auditor should obtain written representations from management
on matters material to the financial statements when other sufficient appropriate audit
evidence cannot reasonably be expected to exist. The possibility of misunderstandings
between the auditor and management is reduced when oral representations are confirmed by
management in writing. If a representation by management is contradicted by other audit
evidence, the auditor should investigate the circumstances and, when necessary, reconsider
the reliability of other representations made by management.

GEU P.T.O.
 (13)

b) NSQC refers to Nepal Standard on Quality Control and applies to all firms. The firm’s
system of quality control should include policies and procedures addressing each of the
following elements:

i) Leadership responsibilities for quality within the firm.

ii) Ethical requirements.
iii) Acceptance and continuance of client relationships and specific engagements.
iv) Human resources.
v) Engagement performance.
vi) Monitoring.

The quality control policies and procedures should be documented and communicated to the
firm’s personnel.

c) An intangible asset is an identifiable non-monetary asset without physical substance. It is

dealt in Nepal Accounting Standard 27. Entities frequently expend resources or incur
liabilities on acquisition, development, maintenance or enhancement of intangible resources
such as scientific or technical knowledge, design and implementation of new processes or
systems, licenses, intellectual property, market knowledge and trademarks. Common
examples of items are computer software, patents, copyrights, motion picture films, costumer
lists, mortgage servicing rights, franchises etc.
d) Income tax is usually a liability item but it may be assets or liabilities depending on Income
tax payable for the current fiscal year and Income tax payable or receivable in subsequent
fiscal year due to timing difference of assets and liabilities. Customarily tax is provided I the
accounts based o the tax payable for the relevant year. But the amounts of tax provided and
actually payable are never the same owing to two main differences: Permanent difference
and timing difference.

Permanent difference arises when certain incomes are tax free. E.g. tax holiday for new
hydro companies and also certain expenses are disallowed. Timing difference arises when the
period in which some incomes and expenses are considered for taxation is not the same as the
period in which these are recognized in accounts. To illustrate, such timing difference clearly
arises when the company follows straight line method of depreciation for it’s account and
written down value method of depreciation for tax purposes. In short, it can be stated that
deferred taxation refers to that part of tax liability which arises because of the aforesaid
nature of difference.

GEU P.T.O.