AUDIT Year Wise RTP Compilation 2015 Dec To 2021 Dec

Paper 3: Advanced Audit & Assurance [CAP III]
Attempt Wise Compilation of Revision Test Paper from Dec 2015 to Dec 2021
Table of Contents
0. RTP 2015 Dec 2
1. RTP 2016 June 18
2. RTP 2016 Dec 37
3. RTP 2017 June 93
4. RTP 2017 Dec 122
5. RTP 2018 June 140
6. RTP 2018 Dec 154
7. RTP 2019 June 174
8. RTP 2019 Dec 207
9. RTP 2020 June 241
10. RTP 2020 Dec 266
11. RTP 2021 Jun 293
12. RTP 2021 Dec 317
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Paper 3: Advanced Audit & Assurance [RTP 2015 December]
Question No. 1
Bijuli Electricals Pvt. Ltd. (Bijuli) manufactures electrical equipment, and its year end is
Asadh 31, 2072. You are the audit manager of MAS Associates, Chartered Accountants
and are developing the audit program for the statutory audit of the year ended Asadh 31,
2072. The company‘s property management department has explained their systems
regarding capital expenditures and the related controls as under:
– The company has a capital expenditure committee and all purchase orders for capital
items are required to be authorized by this committee.
– On receipt, each asset is assigned a unique serial number and this is recorded on the
asset and in the non-current assets register.
– When the asset arrives, a goods received note (GRN) is completed which details the
nature of the expenditure (i.e. whether it is capital or revenue), and the GRN
classification is reviewed and initialed by a responsible official. Copies of the GRNs
relating to capital expenditure are then submitted to the finance department for updating
of the non-current assets register.
– Periodically, internal audit undertakes a review of assets in the register and compares
them to assets on site, using the serial number to confirm existence of the asset.
– Access to the non-current assets register is restricted through passwords to a small
number of staff in the finance department.
Required:
Describe a test of control which you as an audit manager should perform to assess
whether or not each of the non-current asset controls listed above is operating effectively.
Question No. 2
Himal Garment Industries manufactures readymade garments for exports to Europe and
Americas. The company purchases its raw materials from a wide range of suppliers.
Below is a description of the company‘s purchasing system.
When production supervisors require raw materials, they complete a requisition form and
this is submitted to the purchase ordering department. Requisition forms do not require
authorization and no reference is made to the current inventory levels of the materials
being requested. Staff in the purchase ordering department uses the requisitions to raise
sequentially numbered purchase orders based on the approved suppliers list, which was
last updated 24 months ago. The purchasing director authorizes the orders prior to these
being sent to the suppliers.
When the goods are received, the warehouse department verifies the quantity to the
suppliers dispatch note and checks that the quality of the goods received are satisfactory.
They complete a sequentially numbered goods received note (GRN) and send a copy of
the GRN to the finance department.
Purchase invoices are sent directly to the purchase ledger clerk, who stores them in a
manual file until the end of each week. He then inputs them into the purchase ledger
using batch controls and gives each invoice a unique number based on the supplier code.
The invoices are reviewed and authorized for payment by the finance director, but the
actual payment is only made 60 days after the invoice is input into the system.
Required:
In respect of the purchasing system of the company, do you think the system has some
deficiencies? If yes, then identify and explain the deficiencies along with the
recommendation of control measures to address each of the deficiencies.
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Question No. 3
A high-quality audit features the exercise of professional judgment by the auditor, and
importantly, a mind-set which includes professional skepticism throughout the planning
and performance of the audit.
Required:
Explain the meaning of the term professional skepticism, and discuss its importance in
planning and performing an audit.
Question No. 4
Having completed the file review, you have concluded that the use of the going concern
assumption is appropriate, but that there is significant doubt over ABC Co‘s ability to
continue as a going concern. You have advised the company‘s audit committee that a
note is required in the financial statements to describe the significant doubt over going
concern. The audit committee is reluctant to include a detailed note to the financial
statements due to fears that the note will highlight the company‘s problems and cause
further financial difficulties, but have agreed that a brief note will be included.
Required:
In respect of the note on going concern to be included in ABC Co‘s financial statements,
discuss the implications for the audit report and outline any further actions to be taken by
the auditor.
Question No. 5
What do you understand by Committee of Sponsoring Organization (COSO) Framework?
Question No. 6
What do you understand by the Concept of Hot Review and Cold Review?
Question No. 7
Highlight the elements to be present in the system of quality control in an audit firm.
Question No. 8
Write short notes on the following:
A. Kiting
B. True and Fair view
C. Audit versus Assurance
Question No. 9
Almost all organizations now a day have electronic and live transaction processing
systems. Under such circumstances, the way the audit is conducted has been modified to
adjust the requirements of the change.
Required:
Do you agree with the above statement? If yes, what are the characteristics of on-line
computer system and what are their effects of on-line computer system on Audit
Procedure?
Question No. 10
What is the responsibility of an auditor when he relies on the work performed by another
expert, for forming and expressing his opinion on the financial statement? How should he
evaluate the work of an expert?
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Question No. 11
"The auditor can always exercise lien on books and documents of his client for non-
payment of fees due to him."
Question No. 12
Discuss the advantages and disadvantages of using standardized audit programs.
Question No. 13
Carry out discussion on the resolution of ethical conduct in the ICAN Code of Ethics?
Suggested Answer/Hints
Answer to Question No. 1
As an audit manager, the Tests of controls that I would perform to assess whether the
internal controls of the company are operating effectively or not are as follows:
Capital expenditure committee
– Select a sample of capital additions during the year and confirm through a review of the
capital expenditure committee minutes that this purchase was authorized.
– Review a sample of capital expenditure purchase orders for evidence of authorization
by the capital expenditure committee.
Serial numbers
– Select a sample of non-current assets on site, agree that a serial number is recorded on
the asset and confirm it is included in the non-current assets register.
– Inspect the non-current assets register and verify that there are no duplicated serial
numbers.
Goods received note (GRN)
– Select a sample of GRNs, review to see if there is documentation of whether the item is
of a capital or revenue nature, and confirm whether the GRN is initialed as reviewed by a
responsible official. If the GRN is of a capital nature, agree it is included in the non-
current assets register.
Review of assets
– Discuss with internal audit their program of inspections; if there are any due to be
carried out between now and the year end, a member of Poplar & Co should attend this
review to observe the controls in operation.
– Review internal audit reports and working papers for inspections undertaken earlier in
the year for evidence the control operated.
Access to non-current asset register
– Attempt to access the non-current register using the password of a non-authorized
individual.
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Yes, the company‘s purchasing system has some material deficiencies as listed below:
Deficiencies Controls
1 Requisition forms are completed by production Requisition forms should be authorized by the
supervisors but are not authorized. This increases the production manager or director prior to being
risk of fraudulent purchases, or of goods being ordered sent to the purchase ordering department. This
which are not required, leading to unnecessary cash department should not process any
outflows. unauthorized requisitions.
2 Orders are being placed for goods without the The inventory system should be updated to
inventory levels being checked first. This could result record minimum/maximum required levels of
in goods being ordered which are not required, leading raw materials. When completing the purchase
to unnecessary cash outflows. In addition, as the order, the ordering clerk should check the
company does not currently monitor inventory levels, it current level of inventory on the system and
could experience stock-outs resulting in the company only order if the quantity is within the set
being unable to meet customer orders. parameters. The company should set
minimum authorized reorder levels for
inventory items.
3 The purchase ordering department maintains an The approved supplier list should be reviewed
approved supplier list; however, this has not been and updated as necessary. Going forward, it
updated for 24 months. should be updated regularly, at least on an
As this list has not been recently updated, the suppliers annual basis.
being used may not be ideal with regards to price,
quality and delivery times. This could result in the
company paying increased costs for raw materials or
receiving poorer quality goods.
4 Goods are being received without any checks being A copy of the authorized order form should be
made against purchase orders. This could result in the sent to the warehouse department. This should
company receiving and subsequently paying for goods then be checked to the goods when received.
it did not order. Once checked, the order should be sent to the
In addition, if no check is made against the purchase purchase ordering department and logged as
order, then the company may have significant purchase completed. On a regular basis, an ordering
orders which are outstanding, leading to loss of sales. clerk should review the order file for any
outstanding items.
5 Purchase invoices are manually filed by the purchase The purchase ledger clerk should record the
ledger clerk and only updated to the ledger on a weekly invoices in the ledger on a daily rather than
basis. Until the invoices are input into the system, there weekly basis.
is a risk that they may be misplaced and not entered. If this is not practical, then upon receipt of the
This would result in an understatement of trade invoices, each should be attributed a
payables and the company failing to make payment to sequential number and filed. When these are
the suppliers on time. logged into the ledger, the clerk should check
that there are no breaks in the sequence.
6 Purchase invoices are not being agreed to the relevant All purchase invoices should be matched to
goods received notes (GRNs) prior to authorization and the related GRN; the details should be agreed
payment by the finance director. This could result in prior to the invoice being logged in the
invoices being paid for goods which were not received. purchase ledger.
7 Purchase invoices are not sequentially numbered. All purchase invoices should be sequentially
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Failing to sequentially number them means that The numbered and on a regular basis a sequence
company‘s finance department is unable to monitor if check of unrecorded invoices should be
all invoices have been completely recorded; this could performed.
result in a failure to make payment to a supplier on
time.
If the invoices are sequentially numbered, then a
sequence check can be performed for any unrecorded
invoices.
8 Invoices are authorized by the finance director, but The policy of making payment after 60 days
payment is only made 60 days after the invoice is input. should be reviewed.
There is the risk that the company is missing out on Consideration should be given to earlier
early settlement discounts. payment if the settlement discounts are
sufficient. If not, invoices should be paid in
Also, failing to pay in accordance with the supplier‘s accordance with the supplier‘s payment terms.
payment terms can lead to a loss of supplier goodwill
as well as the risk that suppliers may refuse to supply
goods to The company.

Professional skepticism is defined in NSA 200 Overall Objectives of the Independent
Auditor and the Conduct of an Audit in Accordance with International Standards on
Auditing as an attitude that includes a questioning mind, being alert to conditions which
may indicate possible misstatement due to error or fraud and a critical assessment of audit
evidence.
NSA 200 requires the auditor to plan and perform an audit with professional skepticism,
recognizing that circumstances may exist which cause the financial statements to be
materially misstated. It is important to use professional skepticism at all stages of the
audit. Professional skepticism includes being alert to the existence of contradictory audit
evidence and being able to assess assumptions and judgments critically and without bias,
and being ready to challenge management where necessary. It is also important that the
auditor considers the reliability of information provided by management during the audit.
NSA 240 The Auditor‘s Responsibilities Relating to Fraud in an Audit of Financial
Statements also refers specifically to professional skepticism, stating that the auditor shall
maintain professional skepticism throughout the audit, recognizing the possibility that a
material misstatement due to fraud could exist. The auditor is therefore expected to be
alert to indicators of potential fraud.
Recently, regulatory bodies such as the IAASB have stressed the importance of the
auditor‘s use of professional skepticism. The increased use of principles-based financial
reporting frameworks such as IFRS, and the prevalence of fair value accounting which
introduces subjectivity and judgment into financial reporting are examples of the reasons
why the use of professional skepticism by auditors is increasingly important. It is
imperative that professional skepticism is applied to areas of financial reporting which
are complex or highly judgmental.
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Going concern assessments and related party transactions are also examples of areas
where management must exercise judgment in determining the appropriate accounting
treatment, and where the potential for management bias is high. Therefore these areas
need to approached with professional skepticism.
The application of professional skepticism is closely aligned with maintaining
objectivity, and it is difficult to remain sufficiently skeptical when certain threats to
objectivity are present. Ultimately, the exercise of professional skepticism should work to
reduce audit risk by ensuring that the auditor has sufficient and appropriate evidence to
support the audit opinion, and that all evidence obtained, especially in relation to areas of
high risk of material misstatement, has been critically evaluated and is based on reliable
information.

Going concern impact on audit report
The note on going concern should be reviewed by the auditors to ensure that the
disclosure regarding going concern is sufficiently detailed, and that it includes all
relevant matters and is understandable.
In evaluating the adequacy of the disclosure in the note, the auditor should consider
whether the disclosure explicitly draws the reader‘s attention to the possibility that the
entity may not be able to continue as a going concern in the foreseeable future. The note
should include a description of conditions giving rise to the significant doubt, and the
directors‘ plans to deal with the conditions. This is a requirement of NAS 1 Presentation
of Financial Statements.
Note adequately describes going concern issues

If the note contains adequate information on going concern issues, then there is no
breach of financial reporting standards, and therefore no material misstatement has
occurred. The audit opinion should not be modified and should state that the financial
statements show a true and fair view, or are fairly presented.
However, in accordance with NSA 570 Going Concern, the auditors should modify the
auditor‘s report by adding an Emphasis of Matter paragraph to highlight the existence of
the material uncertainties over the Co‘s going concern status, and to draw users‘ attention
to the note to the financial statements where the uncertainties are disclosed. The
Emphasis of Matter paragraph should contain a brief description of the uncertainties, and
also refer explicitly to the note to the financial statements where the situation has been
fully described.
NSA 706 Emphasis of Matter Paragraphs and Other Matter Paragraphs in the
Independent Auditor‘s Report states that the Emphasis of Matter paragraph should be
placed immediately below the auditor‘s opinion, and it should re-iterate that the audit
opinion is not qualified.
NSA 570 requires that going concern matters, including the adequacy of related notes to
the financial statements, should be discussed with those charged with governance. NSA
706 also requires that those charged with governance should be informed by the auditor
of the expected inclusion of an Emphasis of Matter paragraph in the auditor‘s report, and
the proposed wording of the paragraph.
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Note does not contain adequate information on going concern
It could be the case that a note has been given in the financial statements, but that the
details are inadequate and do not fully explain the significant uncertainties affecting the
going concern status of the company. In this situation the auditors should express a
qualified opinion, as the disclosure requirements of NAS 1 have not been followed,
leading to material misstatement. The auditor would need to use judgment to decide
whether a qualified or an adverse opinion should be given.
NSA 570 requires that in this case the auditor shall state in the auditor‘s report that there
is a material uncertainty which may cast significant doubt about the entity‘s ability to
continue as a going concern.
NSA 705 Modifications to the Opinion in the Independent Auditor‘s Report provides
guidance on the presentation of the audit report in the case of a modification of the audit
opinion. The audit report should include a paragraph entitled ‗Basis for Qualified
Opinion‘ or ‗Basis for Adverse Opinion‘, which contains specific reference to the matter
giving rise to material or pervasive misstatement. The paragraph should include a clear
description of the uncertainties and should be presented immediately before the opinion
paragraph.
The situation must be discussed with those charged with governance, who should be
given opportunity to amend the financial statements by amending the note. NSA 705
states that when the auditor expects to modify the opinion in the auditor‘s report, the
auditor shall communicate with those charged with governance the circumstances which
led to the expected modification and the proposed wording of the modification.

The Committee of Sponsoring Organizations of the Treadway Commission (COSO) is a
joint initiative of five private sector organizations, established in the United States,
dedicated to providing thought leadership to executive management and governance
entities on critical aspects of organizational governance, business ethics, internal
control, enterprise risk management, fraud, and financial reporting. COSO has
established a common internal control model against which companies and organizations
may assess their control systems. COSO is supported by five supporting organizations,
including the Institute of Management Accountants (IMA), the American Accounting
Association (AAA), the American Institute of Certified Public Accountants (AICPA),
the Institute of Internal Auditors (IIA), and Financial Executives International (FEI).
Key concepts of the COSO framework

The COSO framework involves several key concepts:
· Internal control is a process. It is a means to an end, not an end in itself.
· Internal control is affected by people. It's not merely policy, manuals, and forms, but
people at every level of an organization.
· Internal control can be expected to provide only reasonable assurance, not absolute
assurance, to an entity's management and board.
· Internal control is geared to the achievement of objectives in one or more separate but
overlapping categories.
Five framework components[edit]

The COSO internal control framework consists of five interrelated components derived
from the way management runs a business. According to COSO, these components
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provide an effective framework for describing and analyzing the internal control system
implemented in an organization as required by financial regulations
The five components are the following:

Control environment: The control environment sets the tone of an organization,
influencing the control consciousness of its people. It is the foundation for all other
components of internal control, providing discipline and structure. Control environment
factors include the integrity, ethical values, management's operating style, delegation of
authority systems, as well as the processes for managing and developing people in the
organization.
Risk assessment: Every entity faces a variety of risks from external and internal sources
that must be assessed. A precondition to risk assessment is establishment of objectives
and thus risk assessment is the identification and analysis of relevant risks to the
achievement of assigned objectives. Risk assessment is a prerequisite for determining
how the risks should be managed.
Control activities: Control activities are the policies and procedures that help ensure
management directives are carried out. They help ensure that necessary actions are taken
to address the risks that may hinder the achievement of the entity's objectives. Control
activities occur throughout the organization, at all levels and in all functions. They
include a range of activities as diverse as approvals, authorizations, verifications,
reconciliations, reviews of operating performance, security of assets and segregation of
duties.
Information and communication: Information systems play a key role in internal

control systems as they produce reports, including operational, financial and compliance-
related information, that make it possible to run and control the business. In a broader
sense, effective communication must ensure information flows down, across and up the
organization. For example, formalized procedures exist for people to report suspected
fraud. Effective communication should also be ensured with external parties, such as
customers, suppliers, regulators and shareholders about related policy positions.
Monitoring: Internal control systems need to be monitored—a process that assesses the
quality of the system's performance over time. This is accomplished through ongoing
monitoring activities or separate evaluations. Internal control deficiencies detected
through these monitoring activities should be reported upstream and corrective actions
should be taken to ensure continuous improvement of the system.
Hot file review: Hot file review or hot review is usually conducted during the audit
and/or audit work is completed but before the auditor‘s report is issued. This in nature is
a detailed review that is conducted with an aim to find out if there is any weakness in
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application of audit procedures or if the results have been misinterpreted. Hot reviews are
usually carried out usually by the senior the audit team or someone with the same
authority who is not connected with the engagement. Such reviews mostly include
meetings with audit team personnel and their individual work so that both work and the
skills of members are improved by pointing out discrepancies and providing
recommendations.
Cold file review: Cold file review or cold review is an objective evaluation on the date of
auditor‘s report and is performed by the auditor i.e. partner himself when all the audit
work has been concluded and the required sufficient appropriate audit evidence has been
obtained and conclusions drawn and reported. This review usually takes place when the
auditor‘s report is signed off. The purpose of this review is to ensure compliance with
relevant auditing standards and to analyze weaknesses in the way whole audit work is
conducted and how it can be improved for next similar assignments by updating firm‘s
quality control standards, training the staff etc.

System of quality control in an audit firm refers to all the policies and procedures
designed by the firm to achieve the objective of delivering the reasonable assurance that
the firm and its personnel comply with professional standards and regulatory and legal
requirements, and that the reports issued are appropriate in the circumstances. The ICAN
has issued NSQC 1 to provide guidance regarding firm‘s responsibility towards its
system of quality control for audits and reviews of historical financial information, and
other assurance related services engagement. The elements to be present in the system of
quality control are:
 Leadership responsibilities
The firm should establish policies and procedures designed to promote an internal
culture based on the recognition that quality is essential in performing engagements.
Here, the firm's CEO or managing board or partner should assume ultimate
responsibility to quality control.
 Ethical requirements
The firm should be able to reasonably assure that the firm and its personnel comply
with relevant ethical requirement and pronouncement of regulatory body. The ethical
requirement includes integrity, objectivity, professional competence and due care,
confidentiality, and professional behavior.
 Acceptance and continuance of client relationships and specific engagements
The firm should establish policies and procedures for the acceptance and continuance
of client relationships and specific engagements to consider client integrity,
competency to carry out engagement and comply with ethical requirements.
 Human resources
The firm's policy and procedures should be able to provide it with reasonable
assurance that it has sufficient personnel with the capabilities, competence, and
commitment to ethical principles necessary to perform engagement.
 Engagement performance
The firm's policy should enable to perform the engagement with professional
standards and regulatory requirements.
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 Monitoring
The firm should have the mechanism of monitoring and supervision that the adequate
and relevant system of quality control is maintained.

a. Kiting is a way of concealing cash shortages caused by a defalcation, such as
misappropriating cash receipts that were perpetrated previously. It involves the
careful and deliberate use of the ―float‖ (the time necessary for a cheque to clear
the bank it was drawn on). Drawing a cheque on one bank, depositing it in
another bank just before year-end, so that deposit appears on the bank statement
and the recording of the transfer in the receipts is not done until after year-end
amounts to kiting. The float period will cause the cheque not to clear the bank it
was drawn on until after year-end, and the amount transferred is included in the
balances of both bank accounts. Since the transfer is not recorded as a receipt or a
disbursement until the following year, it will not appear as an outstanding cheque
or a deposit in transit on the reconciliation of either bank account. The effect is to
increase receipts per the bank statement; if the misappropriation of cash receipts
and the kiting take place in the same period, receipts per the bank statement will
agree with receipt per the cash receipts journal at the date of the bank
reconciliation. (If the misappropriation of cash receipts takes place in the period
before the kiting, a proof of cash may also reveal the kiting). Kiting requires that
the transfer process be repeated continually until the misappropriated funds have
been restored. Kiting could have a wider meaning to encompass writing cheques
against inadequate funds with the intent of depositing sufficient funds later, but
before the cheques clear the book.
b. True and fair view is an opinion expressed by an auditor on the state of the
financial statements of an organization. It implies that the financial statements are
presented fairly in all materials respect the position, performance, cash flows and
changes in equity of the organization. The auditor expresses such opinion upon
assessment of the internal control system of the organization and test checking the
financial transactions carried out during the fiscal year. The auditors act is guided
by the provisions set forth in the Nepal Standards on Auditing together with the
Code of Ethics applicable to the professional accountants.
As per NSA 200 ―Overall Objective of the Independent Auditor and the conduct
of an Audit in Accordance with Nepal Standards on Auditing‖, the auditor‘s
expression of true and fair view is supposed to be received as only the
―Reasonable Assurance and not the Absolute Assurance‖ of the state of the
financial statements. This implies that the users are not supposed to absolutely
rely on auditor‘s judgment for making their financial decisions relating to the
organization. This is because the auditor is not expected to, and cannot, reduce
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audit risk to zero and cannot therefore obtain absolute assurance that the financial
statements are free from material misstatement due to fraud or error. This is
because there are inherent limitations of an audit, which result in most of the audit
evidence on which the auditor draws conclusions and bases the auditor‘s opinion
being persuasive rather than conclusive.
Broadly speaking, the financial statements are considered as presenting to true

and fair if:
1. The information contained in them are not materially misstated;
2. There is an appropriate application of Nepal Accounting Standards, with
additional disclosure in the case of companies registered under Companies Act
2063. In the case of other entities there is an appropriate application of generally
accepted accounting principles as is applicable; and
3. They comply with the provisions of applicable laws and regulations of the
country.
c. Audit Versus Assurance
Audit
A reasonable assurance engagement in which an opinion is expressed on true and fair
view of the financial statements in accordance with the standards on auditing.
Assurance
An engagement in which a professional accountant in public practice expresses a
conclusion designed to enhance the degree of confidence of the intended users other
than the responsible party about the outcome of the evaluation or measurement of a
subject matter against criteria.

Yes I fully agree that the online transaction processing system has a significant impact on
the audit process.
Characteristics of on-line computer systems
i. The characteristics of on-line computer systems may apply to a number of the types
of on-line systems. The most significant characteristics related to on-line data entry
and validation, on-line access to the system by users, possible lack of visible
transaction trail and potential programmer access to the system. The particular
characteristics of a specific on-line system will depend on the design of that system.
ii. When are entered online, they are usually subject to immediate validation checks.
Data failing this validation would not be accepted and a message may be displayed on
the terminal screen, providing the user with the ability to correct the data and re-enter
the valid data immediately. For example, if the user enters an invalid inventory part
number, an error message will be displayed enabling the user to re-enter a valid part
number.
iii. Users may have on-line access to the system that enables them to perform various
functions, eg to enter transactions and to read, change or delete programs and data
files through the terminal devices. Unlimited access to all of these functions in a
particular application is undesirable because it provides the user with the potential
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ability to make unauthorized changes to the data and programs. The extent of this
access will depend upon such things as the design of the particular application and
implementation of software designed to control access to the system.
iv. An online computer system may be designed in a way that does not provide
supporting documents for all transactions entered into the system. However, the
system may provide details of the transactions on request or through the use of
transaction logs or other means. Illustrations of these type of systems include orders
received by a telephone operator who enters them online without written purchase
orders, and cash withdrawals through the use of automated teller machines.
v. Programmers may have online access to the system that enables them to develop new
programs & modify existing programs. Unrestricted access provides the programmer
with the potential to make unauthorized changes to programs and obtain unauthorized
access to other parts of the system. The extent of this access depends on the
requirements of the system. For example, in some systems, programmers may have
access only to programs maintained in a separate program development and
maintenance library, whereas, in emergency situations which require changes to the
programs that are maintained online, programmers may be authorized to change the
operational programs. In such cases, formal control procedures would be followed
subsequent to the emergency situation to ensure appropriate authorization and
documentation of the changes.
Effects of on-line computer system on Audit Procedure
i. The following matters are particular importance to the auditor in an online computer
system:
(a) Authorization, completeness and accuracy of online transaction.
(b) Integrity of records and processing, due to online access to the system by many
users and programmers.
(c) Changes in the performances of audit procedures including the use of CAAT‘s
due to matters such as:
 The need for auditors with technical skills in on computer systems
 The effect of the online computer system on the timing of auditing
procedures.
 The lack of visible transaction trails.
 Procedures carried out during the audit planning stage.
 Audit procedures performed concurrently with online processing ; &
 Procedures performed after processing has taken place.
ii. Procedures carried out during the planning stage may include:
(a) The participation on the audit team of individuals with technical proficiency in
online computer systems and related controls.
(b) Preliminary determination during the risk assessment process impact of the
system on the audit procedures. A well designed and controlled online system will
affect the auditor‘s assessment of control risk and influence the nature, timing and
extent of audit procedures.
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iii. Audit procedures performed concurrently with online processing include compliance
testing of the control over the online applications. For example, this may be by means
of entering test transactions through the online terminal services or by the use of audit
software. These tests may be used by the auditor either to confirm his understanding
of the system or to test controls such as passwords and other access controls. The
auditor would be advised to review such tests with appropriate client personnel and to
obtain approval prior to conducting the tests in order to avoid inadvertent corruption
of client records.
iv. Procedures performed after processing has taken place may include:
(a) Compliance testing of controls over transactions logged by the online system for
authorization, completeness & accuracy.
(b) Substantive tests of transactions and of processing results rather than tests of
controls where the former may be more cost effective or where the system is not
well designed or controlled.
(c) Re-processing transactions as either a compliance or substantive procedure.
v. The characteristics of online computer systems may make it more effective for the
auditor to perform a pre-implementation review of new online accounting
applications than to review the applications after installation. This pre-
implementation review may provide the auditor with an opportunity to request
additional functions, such as detailed transaction listings, or controls within the
application design. It may also provide the auditor with sufficient time to develop and
test audit procedures in advance of their use.

Responsibility of the Auditor: The auditor‘s education and experience enable him to be
knowledgeable about business matters in general but he is not expected to have the
expertise of a person trained for or qualified to engage in the practice of another
profession or occupation such as an actuary or engineer.
When the auditor uses work performed by experts he continues to be responsible for
forming and expressing his opinion on the financial information.
Evaluating the work of an expert: The auditor should obtain reasonable assurance that
work performed by expert is adequate. He should satisfy himself as to the expert‘s skill
and competence.
The auditor should seek reasonable assurance that the expert‘s work constitutes
appropriate audit evidence in support of the financial information, by considering:
i. The source data used.
ii. The assumptions and methods used and if appropriate, their consistency with the prior
period; &
iii. The results of the expert‘s work in the light of the auditor‘s overall knowledge of the
business and of the results of his audit procedures.
The auditor should consider whether the expert has used source data which are
appropriate in the circumstances. The procedures to be applied by the auditor should
include:
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i. Making inquiries of the expert to determine how he has satisfied himself that the
source data are sufficient, relevant and reliable; &
ii. Conducting audit procedures on the data provided by the client to the expert to obtain
reasonable assurance that the data are appropriate.
The appropriateness and reasonableness of assumptions and methods used and their
applications are the responsibility of the expert. The auditor does not have the same
expertise and therefore, cannot always challenge the expert‘s assumptions and methods.
However, the auditor should obtain an understanding of those assumptions and methods
to determine that they are reasonable based on the auditor‘s knowledge of the client‘s
business and on the result of his audit procedures.
Normally, completion of the above procedures will provide the auditor with reasonable
assurance that he has obtained appropriate audit evidence in support of the financial
information. If the work of an expert does not support the related representations in the
financial information, the auditor should attempt to resolve the inconsistency by
discussions with the client and experts. Applying additional procedures, including
possibly engaging another expert, may also assist the auditor in resolving the
inconsistency.
If, after performing these procedures, the auditor concludes that the work of the expert is
inconsistent with the information in the financial statements, or that the work of the
expert does not constitute sufficient appropriate audit evidence, he should express a
qualified opinion, a disclaimer of opinion or an adverse opinion, as appropriate.

As per general law any person having lawful possession of property of same other person
may retain the property for non-payment of fees due to him on account of the work done
by him on such property.
The Institute of Chartered Accountants of England and Wales has upheld the auditor's
right of lien on books and documents if the following conditions are fulfilled:
 Documents retained must belong to the client;
 The documents must have come to the possession of the auditor and the authority
of the client;
 The auditor has done some work on such documents for a fee but such fee was not
paid to him; and
 Only such of the documents on which work was done or in connection with which
work was done can be retained for non-payment of fees.
However, in the case of Nepal no specific legal provision is issued to address such
matter.

Advantages
 Their use can lead to more efficient planning in identifying the audit objectives and
adopting an approach based on these objectives. Greater assurance as to the
completeness of the audit approach is obtained than if it were started from scratch.
Planning can be undertaken by less senior staff.
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 Standardised programmes facilitate delegation to junior staff and help to instruct in

basic audit techniques. They help to ensure that all assignments are planned and
conducted to a consistent quality.
 A standardised approach makes the review of audit working papers easier.
Programmes may include sections to be completed, thereby reducing the need for
separate supporting working papers.
Disadvantages
 Standardisation may lead to an overly mechanical approach. This may stifle initiative
because an alternative, more efficient approach may not be considered.
 No account is taken of the particular circumstances of the individual enterprise. This
decrease in the use of professional judgement for a particular assignment might result
in over-auditing low risk or immaterial areas.
 There is a risk that sufficient, relevant and reliable audit evidence may not be
obtained. For example, standard programs may not include tests on certain unusual or
specialised clients. Alternatively, some standard tests may be marked as ―not
applicable‖ without considering a suitable alternative test.
Conclusion
 Standard audit programmes may be useful on certain assignments to improve audit
efficiency but they cannot replace the need for professional judgement.

Ethical Conflict Resolution has been discussed under paragraph 100.17 to 100.22 of the
ICAN-Code of Ethics. According to the said paragraph:
100.17 A professional accountant may be required to resolve a conflict in complying

with the fundamental principles.
100.18 When initiating either a formal or informal conflict resolution process, the
following factors, either individually or together with other factors, may be
relevant to the resolution process:
(a) Relevant facts;
(b) Ethical issues involved;
(c) Fundamental principles related to the matter in question;
(d) Established internal procedures; and
(e) Alternative courses of action.
Having considered the relevant factors, a professional accountant shall

determine the appropriate course of action, weighing the consequences of each
possible course of action. If the matter remains unresolved, the professional
accountant may wish to consult with other appropriate persons within the firm
or employing organization for help in obtaining resolution.
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100.19 Where a matter involves a conflict with, or within, an organization, a

professional accountant shall determine whether to consult with those charged
with governance of the organization, such as the board of directors or the audit
committee.
100.20 It may be in the best interests of the professional accountant to document the
substance of the issue, the details of any discussions held, and the decisions
made concerning that issue.
100.21 If a significant conflict cannot be resolved, a professional accountant may

consider obtaining professional advice from the relevant professional body or
from legal advisors. The professional accountant generally can obtain guidance
on ethical issues without breaching the fundamental principle of confidentiality
if the matter is discussed with the relevant professional body on an anonymous
basis or with a legal advisor under the protection of legal privilege. Instances in
which the professional accountant may consider obtaining legal advice vary. For
example, a professional accountant may have encountered a fraud, the reporting
of which could breach the professional accountant‘s responsibility to respect
confidentiality. The professional accountant may consider obtaining legal
advice in that instance to determine whether there is a requirement to report.
100.22 If, after exhausting all relevant possibilities, the ethical conflict remains
unresolved, a professional accountant shall, where possible, refuse to remain
associated with the matter creating the conflict. The professional accountant
shall determine whether, in the circumstances, it is appropriate to withdraw
from the engagement team or specific assignment, or to resign altogether from
the engagement, the firm or the employing organization.
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Paper 3: Advanced Audit & Assurance [RTP 2016 June]
Q. No. 1 One your audit assistants are confused with the use of word “Audit” and “Assurance”.
The assistant thinks that both the terminologies are same and can be used interchangeably. Do
you agree with his thought?
Answer
In few words, all audit engagements are assurance engagements but not all assurance
engagements are audit engagements. Audit engagement is one type of assurance engagement that
provides reasonable assurance. Assurance engagements can be reasonable assurance
engagements, limited assurance engagements or other assurance engagements.
Other assurance engagements are such assurance engagements that are other than audit and
review engagements. Assurance related standards setting body IAASB has issued separate
standards for each of the three sub classifications assurance engagement. Examples of other
assurance engagement include expressing opinion on prospective financial statements or internal
control system of the entity.
Any engagement that fulfills the following criteria is an assurance engagement:
• Existence of three party relationship
• Subject matter
• Criteria
• Gathering of sufficient appropriate evidence
• Expression of opinion
However, for an assurance engagement to be an audit engagement one additional requirement is

that level of assurance provided by such engagement needs to be of reasonable level.
Another important factor that differentiates audit engagement from other assurance engagements
is in audit the expression of opinion is positive as auditor has conducted extensive examination
and thus as a result of reasonable assurance obtained his opinion will leave no grey areas.
However, in other assurance engagements like in review engagement the expression of opinion is
negative as auditor has conducted limited examination.
Other differences include:
• Audit engagement is for whole financial statements whereas certain assurance
engagements can be for single financial statement out full set or specific element of
financial statements or component or activities of the business.
• The terms of engagement in case of audit are in line with International auditing standards
whereas in case of assurance engagement they terms may restrict the practitioner only to
specific area.
• Rights and liabilities of the auditor in audit engagement higher than any other form of
assurance engagement.
• In case of audit engagement the audience includes generally all stakeholders whereas in
assurance engagements other than audit audience may be restricted to just one type of
stakeholder for example management.
• The time and resources required for audit engagement are higher than any other form of
assurance engagement
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Q.No. 2 What are the components of COSO Framework?
The COSO internal control framework consists of five interrelated components derived from the
way management runs a business. According to COSO, these components provide an effective
framework for describing and analyzing the internal control system implemented in an
organization as required by financial regulations
The five components are the following:

Control environment: The control environment sets the tone of an organization, influencing the
control consciousness of its people. It is the foundation for all other components of internal
control, providing discipline and structure. Control environment factors include the integrity,
ethical values, management's operating style, delegation of authority systems, as well as the
processes for managing and developing people in the organization.
Risk assessment: Every entity faces a variety of risks from external and internal sources that
must be assessed. A precondition to risk assessment is establishment of objectives and thus risk
assessment is the identification and analysis of relevant risks to the achievement of assigned
objectives. Risk assessment is a prerequisite for determining how the risks should be managed.
Control activities: Control activities are the policies and procedures that help ensure
management directives are carried out. They help ensure that necessary actions are taken to
address the risks that may hinder the achievement of the entity's objectives. Control activities
occur throughout the organization, at all levels and in all functions. They include a range of
activities as diverse as approvals, authorizations, verifications, reconciliations, reviews of
operating performance, security of assets and segregation of duties.
Information and communication: Information systems play a key role in internal control
systems as they produce reports, including operational, financial and compliance-related
information, that make it possible to run and control the business. In a broader sense, effective
communication must ensure information flows down, across and up the organization. For
example, formalized procedures exist for people to report suspected fraud. Effective
communication should also be ensured with external parties, such as customers, suppliers,
regulators and shareholders about related policy positions.
Monitoring: Internal control systems need to be monitored—a process that assesses the quality
of the system's performance over time. This is accomplished through ongoing monitoring
activities or separate evaluations. Internal control deficiencies detected through these monitoring
activities should be reported upstream and corrective actions should be taken to ensure
continuous improvement of the system.
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Q.No. 3 "Code of Ethics is designed to uphold the conduct of the professional accountants". Do
you agree on the statement?

Code of ethics is the set of detailed rules, guidelines, standards of conduct on which the ethical
requirements for professional accountants in Nepal is founded. It is issued by the “The Institute
of Chartered Accountants of Nepal” and is mandatory for all its members to observe in respect of
the performance of professional services in Nepal after January 15, 2004 (Magh 1, 2060). ICAN
has since then published different version of the Code of Ethics and the recent one that is
applicable to the professional accountants is ICAN Code of Ethics 2015 edition that is based on
IFAC Code of Ethics 2014.
The Code of ethics recognizes that the objectives of the accountancy profession are to work to
the highest standards of professionalism, to attain the highest levels of performance and
generally to meet the public interest requirement. While the conducts of professionals are within
the framework of applicable professional standards, laws, regulations, these however, do not
govern all types of behavioral issues of the members. As thus, the ethics requires the members to
comply with a number of prerequisites in order to achieve the objectives of the profession. Such
prerequisites include the compliance with the fundamental principles of integrity, objectivity,
independence, confidentiality, professional behavior, professional competence and due care and
technical standards. The code also prescribes specific issues and illustrative cases upon which the
professional accountants should act so as to remain within the boundary of their fundamental
principle. For instance, there are directives that suggests various provisions regarding publicity
and advertisements by the members; Soliciting Business, Accepting New Engagement, Fees and
Commission. Similarly there are many different provisions that are there for compliance by the
professional accountants and that has an objective to guide towards maintenance of higher
professional values and ethics.
Hence, because of all the above reasons it can be said that the Code of Ethics is designed to
uphold the conduct of the professional accountants.
Q.No. 4
Basanta and Rohit are recently qualified Chartered Accountants. They have registered a CA firm
Basanta & RohitAssociates and have hired six employees as seniors and trainees. Basanta
recently called you requesting you to present a paper on Quality Control guidelines that they
should follow in their new practice. You are required the four major aspects to be covered in
designing quality control system in an audit firm, highlighting the concept of hot review and cold
review.
Answer
Audit firms need to have policies and procedures to ensure that quality of their work is
satisfactory. Failure to do so may result in:
a) Audit failures in the short term affecting the firm's market image and possible
disciplinary action against the partners and financial claims (in certain countries,
excluding Nepal)
b) In the long term, the public confidence in the audit profession will be diminished.
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Quality Control ensures that audit and assurance engagements are completed to an appropriate
standard and that the risk to a firm is reduced to an acceptable level. There are two standards that
set out the responsibilities of auditors regarding quality control:
a) Nepal Standards on Quality Control (NSQC)1: Quality control for firm's that perform
audits and review of historical Financial Information and other. Assurance and related
Service Engagement
b) NSA 220- Quality Control for an Audit of Financial Statements
Basanta & Rohit Associates should consider these standards while designing their quality control
system. NSQC 1 identifies six building blocks of a firm's system of quality control.
• Leadership; Client Relationships; Engagement Performance; Human Resources; Monitoring;
Ethics
a) Leadership
The firm's management should assume ultimate responsibility for the system of quality control.
They should establish:
• Policy and procedures to address performance evaluation, compensation and promotion to
demonstrate commitment to quality
• Provision for resources sufficient for the development, documentation and support of quality
control procedures
• Assignment of management responsibility so that commercial consideration does no override
quality
• Assignment of operational responsibility to those with sufficient and appropriate experience,
ability, and authority to implement those quality control procedures.
b) Human Resource
NSQC 1 sets out a principle based guideline to the HR function. It stresses that is a firm wants
quality of work through its staffs, it needs to hire the best human resource, work on developing
their competency and capabilities by continuous training and development, professional
education, coaching, etc and also reward them for their quality.
c) Engagement Performance
NSQC 1 requires firms to establish policies and procedures designed to provide it with
reasonable assurance that engagements are performed in accordance with professional standards
and applicable legal frameworks, and that the reports issued are appropriate in the circumstances.
The three areas are:
• Matters relevant to promoting consistency in the quality of engagements
• Supervision responsibilities and
• Review responsibilities
d) Monitoring
Quality control policies alone do not ensure good quality work. They must be implemented
effectively and therefore there should be systems to evaluate the compliance with professional
standards and regulatory requirements, and effectiveness of overall system.
Monitoring is never effective without Hot Review and Cold Review.

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Hot Review
Hot review is referred to as Independent Quality Control Reviewer (ICQR) in NSQC 1.
appointed for all large assignments that the firm undertakes. Hot review is mandatory for all
listed clients and for other risky, public interest engagements, as appropriate. Hot review is
conducted:
a. Before the audit report is issued/finalized
b.By an independent partner or consultant
c. Looking after processes underpinning judgement made about materiality, independence, audit
opinion, significant risks, matters requiring consultation and overall compliance with
professional standards.
An engagement quality control review includes an objective evaluation of:

• The significant judgments made by the engagement team; and
• The conclusions reached in formulating the auditor’s report.
The engagement partner should:

• Discuss significant matters arising during the audit engagement, including those identified
during the engagement quality control review, with the engagement quality control reviewer;
and
• Not issue the auditor’s report until the completion of the engagement quality control review.
Cold Review
Cold Review is conducted after the engagement has been completed to ensure that quality
control procedures are adequate and relevant, are operating effectively and are complied with. It
is conducted for selected engagements conducted by the firms and involves wholesale review of
all working papers on an audit file, normally by a dedicated compliance or quality
department/team or a qualified external consultant or an independent partner. An annual report is
provided to partners for areas that require corrective action.
Question No. 5
Surya & Co’s audit partner, Mr. Gourav Chaulagain, leaves a note on your desk: ‘I have just had
a conversation with Mr. Pradhananga concerning the TG Group. He would like the audit
engagement partner to attend the TG Group’s board meetings on a monthly basis so that our firm
can be made aware of any issues relating to the audit as soon as possible. Also, Gourav asked if
one of our audit managers could be seconded to Baroon TG Group in temporary replacement of
its finance director who recently left, and asked for our help in recruiting a permanent
replacement. Please provide me with a response to Mr. Pradhananga which evaluates the ethical
implications of his requests.’ Required: Respond to the note from the partner.
Answer
Firstly, there is nothing to prohibit an auditor attending the board meetings of an audit client.
Indeed it is common practice for this to occur, and there may be times when the auditor should
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attend in order to raise issues with management and/or those charged with governance pertaining
to the audit.
However, the auditor attending the client’s board meeting must be careful that they take no part
in any management decisions made at the meeting. If matters not relevant to the audit are
debated on which the auditor’s opinion is sought, the auditor could be deemed to be involved
with management decisions, or to be providing an additional service to the client which
potentially creates a threat to objectivity.
IFAC’s Code of Ethics for Professional Accountants advise that if an auditor serves as a director
or officer of an audit client, the self-review and self-interest threats created would be so
significant that no safeguards could reduce the threats to an acceptable level. Accordingly, no
partner or employee shall serve as a director or officer of an audit client. In summary, it is
acceptable for the audit engagement partner to attend the board meetings, as long as he is not
involved with making management decisions, and if he is not appointed to the board.
The second matter relates to an audit manager being seconded to TG Group in a role as finance
director. IFAC’s Code refers to this situation as a temporary staff assignment, and states that the
lending of staff by a firm to an audit client may create a self-review threat. Such assistance may
be given, but only for a short period of time and the firm’s personnel shall not be involved in
providing non-assurance services or assuming management responsibilities.
It seems that in this case, the temporary staff assignment should not go ahead, as clearly the audit
manager would be making management decisions involving the preparation of TG Group’s
individual financial statements, and providing information for the consolidated financial
statements. It is not likely that any safeguard could reduce the self-review threat created to an
acceptable level.
Finally, our firm has been asked to help in the recruitment of a new finance director to TG
Group. IFAC’s Code states that providing recruitment services to an audit client may create self-
interest, familiarity or intimidation threats. The existence and significance of any threat will
depend on factors such as the nature of the requested assistance, and the role of the person to be
recruited.
The significance of any threat created shall be evaluated and safeguards applied when necessary
to eliminate the threat or reduce it to an acceptable level. In all cases, the firm shall not assume
management responsibilities, including acting as a negotiator on the client’s behalf, and the
hiring decision shall be left to the client.
The firm may generally provide such services as reviewing the professional qualifications of a
number of applicants and providing advice on their suitability for the post. In addition, the firm
may interview candidates and advise on a candidate’s competence for financial accounting,
administrative or control positions Therefore Surya & Co may provide some assistance in the
recruitment of the new finance director, but may wish to put safeguards in place such as
obtaining written acknowledgement from the client that the ultimate decision will be made by
them.
Question No. 6
Smriti wants to join MAS Associates, a partnership firm as 25% sharing partner. Advice, what
important steps she should take while conducting Investigation as an Incoming Partner?
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Answer to Q. no. 6 Paper 3: Advanced Audit & Assurance [RTP 2016 June]
Steps involved while conducting investigation as an incoming partner:
The general approach of the investigating accountant in this type of investigation would be more
or less similar, irrespective of the nature of business of the firm-manufacturing, trading or
rendering a service. Primarily, an incoming partner would be interested to know whether the
terms offered to him are reasonable having regard to the nature of the business, profit records,
capital distribution, personal capability of existing partners, socio-economic setting, etc. and
whether he would be capable for services to be rendered, which can be justified by the overall
economic conditions prevailing and other considerations considering his own personality and
achievements. In addition, he would be interested to ascertain whether the capital to be
contributed by him would be safe and applied usefully. Broadly, the steps should be taken by
Smriti are as under:
a) Ascertaining the history of the firm MAS Associates since inception and growth of the firm.
b) Studies of the provisions of the Deed of Partnership, particularly for composition of partners,
their capital contribution, drawing rights, retirement benefits, job allocation, etc.
c) Scrutiny of the record of profitability of the MAS Associates’s business over a suitable
number of years, with usual adjustments that are necessary in ascertaining the true record of
business profits. Particular attention should, however, be paid to the nature and profitability
of the business, qualification and expertise of the partners and such others as may be
relevant.
d) Examination of the asset and liability position to determine the tangible asset, partners,
investment, appraisal of the value of intangibles like goodwill, know-how, patents, etc
impending liabilities including contingent liabilities and those for pending tax assessment.
e) Assess position of order at hand and the range and quality of clientele should be thoroughly
examined under which the MAS Associates. is presently operating.
f) Scrutinise terms of loan finance to assess its usefulness and the implication for the overall
financial position.
g) Study important contractual and legal obligations should be ascertained and their nature
studied. It may be the case that the firm MAS Associates. has standing agreement with the
employees as regards salary and wages, bonus, gratuity and other incidental benefits. Full
import of such standing agreements would be gauged before a final decision is reached.
h) Study the composition and quality of key personnel employed by the MAS Associates and
any likelihood of their leaning the organisation.
i) Ascertain reasons for the offer of admission to a new partner and it should be determined
whether the same synchronizes with the retirement of any senior partner whose association
may have had considerable impact having on the MAS Associates’s successes.
j) Appraisal of the record of capital employed and the rate of returns. It is necessary to have a
comparison with alternative business avenues for investments and evaluation of possible
results on a changed capital and organisation structure.
k) Ascertain manner of computation of goodwill on admission as also on retirement, if any.
l) Examine whether any special clause exist in the Deed of Partnership to allow admission in
future a new partner.
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Question No. 7
You are working as an articled trainee in Push & Associates. Your principal CA. Pragya had to
make a presentation on “Financial Indications and Going Concern” in one of the important
seminars of professional accountants. As such she has asked you to give her some quick notes
about the topic with reference to Nepal Standards on Auditing.
Answer to Q. No. 7
NSA 570 on “Going Concern” aims to establish standards on the auditor’s responsibilities in the
audit of financial statements regarding the appropriateness of the going concern assumption as a
basis for the preparation of the financial statements. The following are the financial indications
to be considered:
• Net liability or net current liability position.
• Fixed-term borrowings approaching maturity without realistic prospects of renewal or
repayment; or excessive reliance on short-term borrowings to finance long-term assets.
• Indications of withdrawal of financial support by creditors.

• Negative operating cash flows indicated by historical or prospective financial statements.
• Adverse key financial ratios.
• Substantial operating losses or significant deterioration in the value of assets used to
generate cash flows.
• Arrears or discontinuance of dividends.
• Inability to pay creditors on due dates.
• Inability to comply with the terms of loan agreements.
• Change from credit to cash-on-delivery transactions with suppliers.
• Inability to obtain financing for essential new product development or other essential
investments.
Question No. 8
You are the auditor of ALCOA Limited, which manufactures plastic closures from plastic sheets.
The process generates scrap plastic which is placed daily by the work force into a bin kept for
that purpose in the yard. Every Friday a lorry arrives from a small local scrap merchant. The bin
is loaded on to the lorry and replaced by an empty bin. The weight is obtained by the gatekeeper
using the company weighbridge. He notes the weight in a book kept for that purpose in the gate
office. Each month a cheque is received through the post from the scrap merchant accompanied
by a remittance advice stating the weight of scrap collected, the price and the amount of the
cheque. The cheque is banked by the cashier and the remittance advice is filed. There are no
other procedures in this area:
You are required to:

(a) Suggest major improvements to be made in the internal control in this area.
(b) Suggest key audit procedures under these circumstances to mitigate audit risk.
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Answer to Q. No. 8
(a) Improvements to be made in the internal control in this area:

a) Ensure that all scrap is put into the bin by the work force. This can be achieved by
documenting the scrap generated in every production lot/shift/day.
b) Check should be available that the merchant is paying the best prices for the scrap. This
can be achieved by getting a quote periodically from few dealers or getting market price
and validation.
c) Ensure that quantity collected is paid for this can be achieved by company quantity lifted
with the amount paid/quantity for which payment is received.
d) An independent official should attend the weighing and the enter in the book.
Key audit procedures under these circumstances to mitigate audit risk:

a. Budget figures should be prepared for waste and compared to actual waste and variance
being investigated.
b. Compare remittance advices/related quantity and reconcile with the quantity in gate
keeper’s book.
c. Ensure all entries in the weight book is paid for.
d. Ensure all remittance matching entries in the cash book.
e. Review the reasonableness of total scarp sold during the period by comparing with
manufacturing records of plastic used in processing.
Question No. 9
4 Chahat Ltd. (Chahat) manufactures custom made furniture and its year end is 30 Asadh. The
company purchases its raw materials from a wide range of suppliers. Below is a description of
Chahat’s purchasing system.
When production supervisors require raw materials, they complete a requisition form and this is
submitted to the purchase ordering department. Requisition forms do not require authorisation
and no reference is made to the current inventory levels of the materials being requested. Staff in
the purchase ordering department use the requisitions to
raise sequentially numbered purchase orders based on the approved suppliers list, which was last
updated 24 months ago. The purchasing director authorises the orders prior to these being sent to
the suppliers.
When the goods are received, the warehouse department verifies the quantity to the suppliers
despatch note and checks that the quality of the goods received are satisfactory. They complete a
sequentially numbered goods received note (GRN) and send a copy of the GRN to the finance
department.
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Purchase invoices are sent directly to the purchase ledger clerk, who stores them in a manual file
until the end of each week. He then inputs them into the purchase ledger using batch controls and
gives each invoice a unique number based on the supplier code. The invoices are reviewed and
authorised for payment by the finance director, but the actual payment is only made 60 days after
the invoice is input into the system.
Required:
In respect of the purchasing system of Chahat Blossom Co:
(i) Identify and explain FIVE deficiencies; and
(ii) Recommend a control to address each of these deficiencies.
Answer
Chahat ‘s purchasing system deficiencies and controls
Requisition forms are completed by production Requisition forms should be authorised by the
supervisors but are not authorised. This increases production manager or director prior to being
the risk of fraudulent purchases, or of goods being sent to the purchase ordering department. This
ordered which are not required, department should not process any
leading to unnecessary cash outflows. unauthorised requisitions.
Orders are being placed for goods without the The inventory system should be updated to
inventory levels being checked first. This could record minimum/maximum required levels of
result in goods being ordered which are not raw materials. When completing the purchase
required, leading to unnecessary cash outflows. order, the ordering clerk should check the
In addition, as the company does not currently current level of inventory on the system and
monitor inventory levels, it could experience stock- only order if the quantity is within the set
outs resulting in the company being unable to meet parameters.
customer orders.
The company should set minimum authorised The approved supplier list should be reviewed
reorder levels for inventory items. The purchase and updated as necessary. Going forward, it
ordering department maintains an approved should be updated regularly, at least on an
supplier list; however, this has not been updated for annual basis.
24 months.
As this list has not been recently updated, the
suppliers being used may not be ideal with regards
to price, quality and delivery times. This could
result in Chahat paying increased costs for raw
materials or receiving poorer quality goods.
Goods are being received without any checks being A copy of the authorised order form should be
made against purchase orders. This could result in sent to the warehouse department. This should
Chahat receiving and subsequently paying for then be checked to the goods when received.
goods it did not order. Once checked, the order should be sent to the
In addition, if no check is made against the purchase ordering department and logged as
purchase order, then the company may have completed. On a regular basis, an ordering
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significant purchase orders which are outstanding, clerk should review the order file for any
leading to loss of sales outstanding items.
Purchase invoices are manually filed by the The purchase ledger clerk should record the
purchase ledger clerk and only updated to the invoices in the ledger on a daily rather than
ledger on a weekly basis. Until the invoices are weekly basis.
input into the system, there is a risk that they If this is not practical, then upon receipt of the
may be misplaced and not entered. This would invoices, each should be attributed a sequential
result in an understatement of trade payables and number and filed. When these are logged into
Chahat failing to make payment to the suppliers on the ledger, the clerk should check that there are
time. no breaks in the sequence.
Purchase invoices are not being agreed to the All purchase invoices should be matched to the
relevant goods received notes (GRNs) prior to related GRN; the details should be agreed prior
authorisation and payment by the finance director. to the invoice being logged in the purchase
This could result in invoices being paid for goods ledger.
which were not received.
Purchase invoices are not sequentially numbered. All purchase invoices should be sequentially
Failing to sequentially number them means that numbered and on a regular basis a sequence
Chahat’s finance department are unable to monitor check of unrecorded invoices should be
if all invoices have been performed.
completely recorded; this could result in a failure to
make payment to a supplier on time.
If the invoices are sequentially numbered, then a
sequence check can be performed for any
unrecorded invoices.
Invoices are authorised by the finance director, but The policy of making payment after 60 days
payment is only made 60 days after the invoice is should be reviewed. Consideration should be
input. There is the risk that Chahat is missing out given to earlier payment if the settlement
on early settlement discounts. discounts are sufficient. If not, invoices should
Also, failing to pay in accordance with the be paid in accordance with the supplier’s
supplier’s payment terms can lead to a loss of payment term
supplier goodwill as well as the risk that suppliers
may refuse to supply goods to Chahat.
Question No. 10.

Identify and explain Five financial statement assertions relevant to classes of transactions and events for
the year under audit; and for each identified assertion, describe a substantive procedure relevant to the
audit of Revenue.
Answer to Q. No. 10
1. Occurrence
The transactions and events that have been recorded have actually occurred and pertain to the
entity.
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Substantive procedures
• Select a sample of sales transactions recorded in the sales day book; agree the details
back to a goods dispatch note (GDN) and customer order.
• Review the monthly breakdown of sales per key product, compare to the prior year and
budget and investigate any significant differences.
2. Completeness
All transactions and events that should have been recorded have been recorded.
• Select a sample of GDNs raised during the year; agree to the sales invoice and that they
are recorded in the sales day book.
• Review the total amount of sales, compare to the prior year and budget and investigate
any significant differences.
3. Accuracy
The amounts and other data relating to recorded transactions and events have been recorded
appropriately.
• Select a sample of sales invoices and recalculate that the totals and calculation of sales
tax are correct.
• For a sample of sales invoices, confirm the sales price stated agrees to the authorised
price list.
4. Cut-off
Transactions and events have been recorded in the correct accounting period.
• Select a sample of pre and post year-end GDNs and agree that the sale is recorded in the
correct period’s sales day books.
• Review the post year-end sales returns and agree if they relate to pre year-end sales that
the revenue has been correctly removed from the sales day book.
5. Classification
Transactions and events have been recorded in the proper accounts.
• Agree for a sample of sales invoices that they have been correctly recorded within
revenue nominal account codes and included within revenue in the financial statements.
Question no. 11.

You are the audit manager of PWC and are reviewing the key issues identified in the files of two
audit clients.
Shree Ram Industries Co (Shree Ram)

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Shree Ram’s year end was 31 Asadh 2073 and the draft financial statements show revenue of
Rs.28·2 million, receivables of Rs.5·6 million and profit before tax of Rs.4·8 million. The
fieldwork stage for this audit has been completed.
A customer of Shree Ram owed an amount of Rs.350,000 at the year end. Testing of receivables
in April highlighted that no amounts had been paid to Shree Ram from this customer as they
were disputing the quality of certain goods received from Shree Ram. The finance director is
confident the issue will be resolved and no allowance for receivables was made with regards to
this balance.
Singh Trading Co (Singh)

Singh is a new client of PWC, its year end is also 31 Asadh 2073 and the firm was only
appointed auditors in Srawan 2073, as the previous auditors were suddenly unable to undertake
the audit. The fieldwork stage for this audit is currently ongoing.
The inventory count at Singh’s warehouse was undertaken on 31 Asadh 2073 and was overseen
by the company’s internal audit department. Neither PWC nor the previous auditors attended the
count. Detailed inventory records were maintained but it was not possible to undertake another
full inventory count subsequent to the year end.
The draft financial statements show a profit before tax of Rs.2·4 million, revenue of Rs.10·1
million and inventory of Rs.510,000.
Required:
For each of the two issues:
(i) Discuss the issue, including an assessment of whether it is material;
(ii) Recommend ONE procedure the audit team should undertake to try to resolve the issue; and
(iii) Describe the impact on the audit report if the issue remains unresolved.

3 Audit reports
Shree Ram Industries Co (Shree Ram)
(i) A customer of Shree Ram’s owing Rs.350,000 at the year end has not made any post year-end
payments as they are disputing the quality of goods received. No allowance for receivables has
been made against this balance. As the balance is being disputed, there is a risk of incorrect
valuation as some or all of the receivable balance is overstated, as it may not be paid.
This Rs.350,000 receivables balance represents 1·2% (0·35/28·2m) of revenue, 6·3%
(0·35/5·6m) of receivables and 7·3% (0·35/4·8m) of profit before tax; hence this is a material
issue.
(ii) A procedure to adopt includes:

– Review whether any payments have subsequently been made by this customer since the audit
fieldwork was completed.
– Discuss with management whether the issue of quality of goods sold to the customer has been
resolved, or whether it is still in dispute.
– Review the latest customer correspondence with regards to an assessment of the likelihood of
the customer making payment.
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(iii) If management refuses to provide against this receivable, the audit report will need to be
modified. As receivables are overstated and the error is material but not pervasive a qualified
opinion would be necessary.
A basis for qualified opinion paragraph would be needed and would include an explanation of
the material misstatement in relation to the valuation of receivables and the effect on the
financial statements. The opinion paragraph would be qualified ‘except for’.
Singh Trading Co (Singh)

(i) PWC was only appointed as auditors subsequent to Singh’s year end and hence did not attend
the year-end inventory count. Therefore, they have not been able to gather sufficient and
appropriate audit evidence with regards to the completeness
and existence of inventory.
Inventory is a material amount as it represents 21·3% (0·51/2·4m) of profit before tax and 5%
(0·51/10·1m) of revenue; hence this is a material issue.
(ii) A procedure to adopt includes:

– Review the internal audit reports of the inventory count to identify the level of adjustments to
the records to assess the reasonableness of relying on the inventory records.
– Undertake a sample check of inventory in the warehouse and compare to the inventory records
and then from inventory records to the warehouse, to assess the reasonableness of the inventory
records maintained by Singh.
(iii) The auditors will need to modify the audit report as they are unable to obtain sufficient
appropriate evidence in relation to inventory which is a material but not pervasive balance.
Therefore a qualified opinion will be required.
A basis for qualified opinion paragraph will be required to explain the limitation in relation to the
lack of evidence over inventory. The opinion paragraph will be qualified ‘except for’.
Question No. 12
NSA 210 Agreeing the Terms of Audit Engagements requires auditors to agree the terms of an
engagement with those charged with governance and formalize these in an engagement letter.
Required:
(a) Identify and explain TWO factors which would indicate that an engagement letter for
an existing audit client should be revised.
(b) List SIX matters which should be included within an audit engagement letter.
Answer to Q. NO. 12
(a) Engagement letters

Engagement letters for recurring/existing clients should be revised if any of the following factors
are present:
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– Any indication that the entity misunderstands the objective and scope of the audit, as this
misunderstanding would need to be clarified.
– Any revised or special terms of the audit engagement, as these would require inclusion in the
engagement letter.
– A recent change of senior management or significant change in ownership. The letter is signed
by a director on behalf of those charged with governance; if there have been significant changes
in management they need to be made aware of what the audit engagement letter includes.
– A significant change in nature or size of the entity’s business. The approach taken by the
auditor may need to change to reflect the change in the entity and this should be clarified in the
engagement letter.
– A change in legal or regulatory requirements. The engagement letter is a contract; hence if
legal or regulatory changes occur, then the contract could be out of date.
– A change in the financial reporting framework adopted in the preparation of the financial
statements. The engagement letter clarifies the role of auditors and those charged with
governance, it identifies the reporting framework of the financial statements and if this changes,
then the letter requires updating.
– A change in other reporting requirements. Other reporting requirements may be stipulated in
the engagement letter; hence if these change, the letter should be updated.
(b) Matters to be included in an audit engagement letter

– The objective and scope of the audit;
– The responsibilities of the auditor;
– The responsibilities of management;
– Identification of the financial reporting framework for the preparation of the financial
statements;
– Expected form and content of any reports to be issued;
– Elaboration of the scope of the audit with reference to legislation;
– The form of any other communication of results of the audit engagement;
– The fact that some material misstatements may not be detected;
– Arrangements regarding the planning and performance of the audit, including the composition
of the audit team;
– The expectation that management will provide written representations;
– The basis on which fees are computed and any billing arrangements;
– A request for management to acknowledge receipt of the audit engagement letter and to agree
to the terms of the engagement;
– Arrangements concerning the involvement of internal auditors and other staff of the entity;
– Any obligations to provide audit working papers to other parties;
– Any restriction on the auditor’s liability;
– Arrangements to make available draft financial statements and any other information;
– Arrangements to inform the auditor of facts which might affect the financial statements, of
which management may become aware during the period from the date of the auditor’s report to
the date the financial statements are issued.
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Question No. 13
Your audit firm has just won a new audit client, Smart Technologies Co (Smart), and you have
been asked by the audit engagement partner to gain an understanding about the new client as part
of the planning process.
Required:
Identify the potential sources of information relevant to gaining an understanding of Smart
Technologies Co and describe how this information will be used by the auditor.
Answer to Q. No. 13
Understanding an entity
1. Prior year financial statements: Provides information in relation to the size of Smart
Technologies Co (Smart) as well as the key accounting policies, disclosure notes and
whether the audit opinion was modified or not.
2. Discussions with the previous auditors/access to their files: Provides information on key
issues identified during the prior year audit as well as the audit approach adopted.
3. Prior year report to management: If this can be obtained from the previous auditors or
from management, it can provide information on the internal control deficiencies noted
last year. If these have not been rectified by management, then they could arise in the
current year audit as well and may impact the audit approach.
4. Smart’s accounting systems notes/procedural manuals: Provides information on how each

of the key accounting systems operates and this will be used to identify areas of potential
control risk and help determine the audit approach.
5. Discussions with management: Provides information in relation to the business, any

important issues which have arisen or changes to accounting policies from the prior year.
6. Review of board minutes: Provides an overview of key issues which have arisen during
the year and how those charged with governance have addressed them.
7. Current year budgets and management accounts: Provides relevant financial information
for the year to date. It will help the auditor during the planning stage for preliminary
analytical review and risk identification.
8. Smart’s website: Recent press releases from the company may provide background on the
business during the year as this will help in identifying the key audit risks.
9. Financial statements of competitors: This will provide information about Smart’s

competitors, in relation to their financial results and their accounting policies. This will
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be important in assessing Smart’s performance in the year and also when undertaking the
going concern review.
Question No. 14
Explain FOUR factors which influence the reliability of audit evidence.
Answer to Q. No. 14
The following factors can be made when assessing the reliability of audit evidence:
– The reliability of audit evidence is increased when it is obtained from independent sources
outside the entity.
– The reliability of audit evidence which is generated internally is increased when the related
controls imposed by the entity, including those over its preparation and maintenance, are
effective.
– Audit evidence obtained directly by the auditor is more reliable than audit evidence obtained
indirectly or by inference.
– Audit evidence in documentary form, whether paper, electronic or other medium, is more
reliable than evidence obtained orally.
– Audit evidence provided by original documents is more reliable than audit evidence provided
by photocopies or facsimiles, the reliability of which may depend on the controls over their
preparation and maintenance.
Question No. 15
One of your clients is a manufacturer of Plastic Home Appliances and is recently being queried
by the environmental regulators regarding its status of environmental impact from its production.
As such it has asked for you suggestion to deal with the matter.
Required:
What shall the client do to tackle the issue?
Answer to Q. No. 15
The client can carry out environmental audit of its industry to find out the environmental impact
from its operation. Upon environmental audit, it can analyze whether or not its industry has a
negative impact on the environment and henceforth carry out necessary negotiation with the
regulators on the environmental matters.
Environmental audit will basically cover areas in respect of industrial units:
(i) Layout and Design: To examine whether pollution control devices are installed and pollution
control measures are taken to meet the requirement of regulations framed by the
Government.
(ii) Management of Resources: To examine whether all the resources such as Air, Water, land,
Energy, Raw Material and Human Resources are best used with minimum wastage.
(iii) Pollution Control System: To examine that an effective system of pollution control exists and
all possible measures of control are taken.
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(iv) Emergent Safety Arrangement: To examine whether the safety arrangement against sudden
possible accidents due to chemical, gas or other explosives have been taken and also required
safety amenities have been kept ready and staff awareness created.
(v) Medical and health Care Facilities: To ensure proper medical services have been maintained
and regular health check up of workers have been done.
(vi) Industrial Hygiene: To ensure proper system is maintained to eliminate unhygienic State.
(vii) Occupational health: To ensure proper measures are taken for safe guarding health of
workers against occupational health hazards.
(viii) Information Assimilation and reporting: To ensure proper information is generated and
reported by proper distribution of authority, responsibility and delegation and compliance of
statutory environmental laws.
(ix) Environment Impact Assessment: To ensure EIA has been conducted to start industry, proper
system and up gradation whenever necessary.
(x) Compliance of Regulatory Measure: To ensure there is regular training and imparting of
knowledge of latest development for persons working on system for acquaintance with latest
developments.
Question No. 16
Differentiate between
a. Depreciation and Amortization
Answer
- Depreciation is for tangible assets whereas amortization is for intangible assets.
- Depreciation methods are many for instance; straight line, WDV etc whereas
amortization is done under straight line method only.
- In depreciation residual value is considered whereas in amortization residual value is
generally not considered.
b. Black Box Approach and White Box Approach of Auditing

Answer
In the Black box approach or auditing around the computer, the auditor concentrates on input and
output and ignores the specifics of how computer processes the data or transactions. If input
matches the output, the auditor assumes that the processing of transaction/data must have been
correct. The comparison of inputs and outputs may be done manually with the assistance of the
computer. The computer assisted approach has the advantage of permitting the auditor to make
more comparisons than would be possible, if done manually.
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In the White box approach, the processes and controls surrounding the subject are not only
subject to audit but also the processing controls operating over this process are investigated. In
order to help the auditor to gain access to these processes, auditing software may be used. To
follow this approach, the auditor needs to have sufficient knowledge of computers to plan,
direct, supervise and review the work performed. The auditor will also need to be satisfied
that there are adequate controls over the prevention of unauthorized access to the computer
and the computerized database. The auditors task will also involve consideration of the
separation of functions between staff involved in the transaction processing and the
computerized system and ensuring that adequate supervision of personnel is administered.
Question No. 17
Write short notes (With reference to Glossary of Terms in the Nepal Standards on Auditing)
a. Corresponding figures
Answer
Comparative information where amounts and other disclosures for the prior period are
included as an integral part of the current period financial statements and are intended to be
read only in relation to the amounts and other disclosures relating to the current period
(referred to as “current period figures”). The level of detail presented in the corresponding
amounts and disclosures is dictated primarily by its relevance to the current period figures.
b. Environmental risk
Answer
“ In certain circumstances, factors relevant to the assessment of inherent risk for the
development of the overall audit plan may include the risk of material misstatement of the
financial statements due to environmental matters.”
c. Subject matter information

Answer
The outcome of the evaluation or measurement of a subject matter. It is the subject matter
information about which the practitioner gathers sufficient appropriate evidence to provide a
reasonable basis for expressing a conclusion in an assurance report.
d. Walk though test

Answer
It involves tracing a few transactions through the financial reporting system.
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1. You are an audit manager in Dhakal & Co, Chartered Accountants responsible for the audit of listed
pharmaceutical company- ―Nagarik Pharmaceuticals Ltd‖. You are planning the audit of the financial
statements for the year ending 31 Ashad 31 2073, and the audit partner, Sunil Joshi, has sent you this
email:
To: Audit manager

From: Sunil Joshi, Audit partner
Subject: Audit planning – Nagarik Pharmaceuticals Ltd.
Hello
I would like you to start planning the audit of Nagarik Pharmaceuticals. The company‘s finance director,
Hareram, has sent to me this morning some key financial information discussed at the latest board
meeting. I have also provided you with minutes of a meeting I had with Hareram last week and some
background information about the company. Using this information I would like you to prepare briefing
notes for my use in which you:
a) Evaluate the business risks faced by Nagarik Pharmaceuticals;

b) Identify and explain FOUR risks of material misstatement to be considered in planning the audit;
c) Recommend the principal audit procedures to be performed in respect of the acquired ‗Cold
Comforts‘ brand name; and
d) Discuss the ethical issues relevant to the audit firm, and recommend appropriate actions to be taken.
Thank you.
Background information
Nagarik Pharmaceuticals is a company, developing drugs to be licensed for use around the world.
Products include medicines such as tablets and medical gels and creams. Some drugs are sold over the
counter at pharmacy stores, while others can only be prescribed for use by a doctor. Products are heavily
advertised to support the company‘s brand names. In some countries television advertising is not allowed
for prescription drugs.
The market is very competitive, encouraging rapid product innovation. New products are continually in
development and improvements are made to existing formulations. Four new drugs are in the research and
development phase. Drugs have to meet very stringent regulatory requirements prior to being licensed for
production and sale. Research and development involves human clinical trials, the results of which are
scrutinised by the licensing authorities.
It is common in the industry for patents to be acquired for new drugs and patent rights are
rigorously defended, sometimes resulting in legal action against potential infringement.
Minutes from Sunil’s meeting with Hareram

Nagarik Pharmaceuticals has approached its bank to extend its borrowing facilities. An extension of NRs.
10 million is being sought to its existing loan to support the on-going development of new drugs. Our
firm has been asked by the bank to provide a guarantee in respect of this loan extension.
In addition, the company has asked the bank to make cash of NRs. 3 million available in the event that an
existing court case against the company is successful. The court case is being brought by an individual
who suffered severe and debilitating side effects when participating in a clinical trial in 2071-72.
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In Shrawan 2072, Nagarik Pharmaceuticals began to sell into a new market – that of animal health. This
has been very successful, and the sales of veterinary pharmaceuticals and grooming products for livestock
and pets amount to approximately 15% of total revenue for 2072-73.
Another success during the year 2072-73 was the acquisition of the ‗Cold Comforts‘ brand from a rival
company. Products to alleviate the symptoms of coughs and colds are sold under this brand. The brand
cost NRs. 5 million and is being amortised over an estimated useful life of 15 years.
Nagarik Pharmaceutical‘s accounting and management information systems are out of date. This is not
considered to create any significant control deficiencies, but the company would like to develop
and implement new systems next year. Management has asked our firm to give advice on the new
systems as they have little specialist in-house knowledge in this area.
Key financial information

NRs.‘000
2072-73 2071-72
(unaudited) (Audited)
Revenue 40,000 38,000
Operating profit 8,100 9,085
Operating margin 20% 24%
Earnings per share 25c 29c
Net cash flow (1,200) 6,000
Research and development cash outflow in the year (3,000) (2,800)
Total development intangible asset recognised at the year end 50,000 48,000
Total assets 200,000 195,000
Gearing ratio (debt/equity) 0.8 0.9
Required:
Respond to the email from the audit partner.
2. You are a manager in the audit department of Sharma & Co, Chartered Accountants and you are
reviewing the audit working papers in relation to the Explore Group (the Group), whose financial
year ended on 31 Ashad 2073. Your firm audits all components of the Group, which consists of a
parent company and three subsidiaries – Ishara Co, Tishara Co and Basera Co.
The Group manufactures engines which are then supplied to the car industry. The draft
consolidated financial statements recognise profit for the year to 31 Ashad 2073 of NRs.23 million (2071-
72 – NRs.33 million) and total assets of NRs.450 million (2071-72 – NRs.455 million).
Information in respect of three issues has been highlighted for your attention during the file review.
a) An 80% equity shareholding in Basera Co was acquired on Magh 1, 2072. Goodwill on the
acquisition of NRs. 27 million was calculated at that date and remains recognised as an intangible
asset at that value at the year end. The goodwill calculation performed by the Group‘s management
is shown below:
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NRs.‘000
Purchase consideration 75000
Fair value of 20% non-controlling interest 13000
88000
Less: Fair value of Basera Co‘s identifiable net assets at acquisition 61000)
Goodwill 27000
In determining the fair value of identifiable net assets at acquisition, an upwards fair value
adjustment of NRs. 300,000 was made to the book value of a property recognised in Basera Co‘s
financial statements at a carrying value of NRs. 600,000.
A loan of NRs. 60 million was taken out on Magh 1, 2072 to help finance the acquisition. The loan
carries an annual interest rate of 6%, with interest payments made annually in arrears. The loan will
be repaid in 20 years at a premium of NRs.5 million.
b) In Falgun 2072, a natural disaster caused severe damage to the property complex housing the
Group‘s head office and main manufacturing site. For health and safety reasons, a decision was
made to demolish the property complex. The demolition took place three weeks after the damage
was caused. The property had a carrying value of NRs. 16 million at 31 Ashad 2073.
A contingent asset of NRs. 18 million has been recognised as a current asset and as deferred income
in the Group statement of financial position at 31 Ashad 2073, representing the amount claimed
under the Group‘s insurance policy in respect of the disaster.
c) Ishara Co supplies some of the components used by Tishara Co in its manufacturing process. At the
year end, an intercompany receivable of NRs. 20 million is recognised in Ishara Co‘s financial
statements. Tishara Co‘s financial statements include a corresponding intercompany payables
balance of NRs. 20 million and inventory supplied from Ishara Co valued at NRs. 50 million.
Required:
Comment on the matters to be considered, and explain the audit evidence you should expect to find
during your review of the audit working papers in respect of each of the issues described above.
3. Soma Air Pvt. Ltd. is a new audit client of Joshi & Co. You are responsible for the audit of the financial
statements for the year ended 31 Ashad 2073. The draft financial statements recognise revenue of NRs.
150 million and total assets of NRs. 250 million.
During the year, the Co purchased several large plots of land located near major airports at a cost of NRs.
12.5 million. The land is currently rented out and is classified as investment property, which is recognised
in the draft financial statements at a fair value of NRs. 14.5 million.
Required:
In respect of the land recognised as investment property, explain the additional information which you
require to plan the audit of the land
4. Soma Air Pvt. Ltd. is a new audit client of Joshi & Co. You are responsible for the audit of the financial
statements for the year ended 31 Ashad 2073. The draft financial statements recognise revenue of
NRs.150 million and total assets of NRs. 250 million. During the year, the Co purchased several large
plots of land located near major airports at a cost of NRs. 12.5 million. The land is currently rented out
and is classified as investment property, which is recognised in the draft financial statements at a fair
value of NRs. 14.5 million. The audit partner has suggested the use of an auditor‘s expert to obtain
evidence in respect of the fair value of the land.
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Explain the matters to be considered in assessing the reliance which can be placed on the work of an
auditor‘s expert.
5. Promote Pokhara Pvt. Ltd. is a long-standing audit client of your firm. Aashis Pokharel has acted as audit
engagement partner for seven years and understands that a new audit partner needs to be appointed to take
his place. Aashis is hoping to stay in contact with the client and act as the engagement quality control
reviewer in forthcoming audits of Promote Pokhara.
Required:
Explain the ethical threats raised by the long association of senior audit personnel with an audit client and
the relevant safeguards to be applied.
6. The audit of Ambu Steel Co.‘s financial statements for the year ended 31 Ashad 2073 is nearly complete,
and the audit report is due to be issued next week. Ambu Steel Co. operates steel processing plants at 5
locations and sells its output to manufacturers and engineering companies. You are performing an
engagement quality control review on the audit of Ambu Steel Co, as it is a significant new client of your
firm. The financial statements recognise revenue of NRs. 2.5 million, and total assets of NRs. 35 million.
The audit senior who has been working on the audit of Ambu Steel Co made the following comment
when discussing the completion of the audit with you:
‗We received the final version of the financial statements and the chairman‘s statement to be published
with the financial statements yesterday. I have quickly looked at the financial statements but the audit
manager said I need not perform a detailed review on the financial statements as the audit was relatively
low risk. The manager also said that he had discussed the chairman‘s statement with the finance director
so no further work on it is needed.‘
Required:
Explain the quality control and other professional issues raised by the audit senior‘s comment in relation
to the completion of the audit.
7. The audit of Ambu Steel Co.‘s financial statements for the year ended 31 August 2014 is nearly complete,
and the audit report is due to be issued next week. The financial statements recognise revenue of NRs. 2.5
million, and total assets of NRs. 35 million.
The schedule of proposed adjustments to uncorrected misstatements included in Ambu Steel Co‘s
audit working papers is shown below, including notes to explain each matter included in the schedule.
The audit partner is holding a meeting with management tomorrow, at which the uncorrected
misstatements will be discussed.
NRs.
Statement of Profit or Statement of Financial
Proposed adjustments to Loss Position
uncorrected misstatements
Debit Credit Debit Credit
Share based payment scheme 300,000 300,000

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Restructuring provision 50,000 50,000
Additional allowance required

10,000 10,000
for slow-moving inventory
Total 10,000 50,000 50,000 10,000
A share-based payment scheme was established in January 2014. Management has not recognised any
amount in the financial statements in relation to the scheme, arguing that due to the decline in Ambu Steel
Co‘s share price, the share options granted are unlikely to be exercised. The audit conclusion is that an
expense and related equity figure should be included in the financial statements.
A provision has been recognised in respect of a restructuring involving the closure of one of the
steel processing plants. Management approved the closure at a board meeting in August 2014, but
announced the closure to employees in September 2014. The audit conclusion is that the provision should
not be recognised.
The estimate relates to slow-moving inventory in respect of a particular type of steel alloy for which
demand has fallen. Management has already recognised a provision of NRs. 35,000, which is considered
insufficient by the auditor.
Required:
(i) Explain the matters which should be discussed with management in relation to each of the
uncorrected misstatements; and
(ii) Assuming that management does not adjust the misstatements, justify an appropriate audit
opinion and explain the impact on the auditor‘s report.
8. Discuss two problems that may be faced in implementing quality control procedures in a small firm of
Chartered Accountants, and recommend how these problems may be overcome.
9. Define
a. Forensic accounting
b. Forensic Investigation
c. Forensic Auditing
10. Following statement is made by the internal auditor to the board of directors of Woodland Furniture Pvt.
Ltd.
‗I think that someone is taking items from the warehouse. A physical inventory count is performed every
three months, and it has become apparent that about 200 boxes of flat-packed chairs and tables are
disappearing from the warehouse every month. We should get someone to investigate what has happened
and quantify the value of the loss.‘
Explain the relevance of forensic accounting to the statement made by the internal auditor.
11. Discuss the statement - Financial statements often contain material balances recognised at fair value. For
auditors, this leads to additional audit risk.
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12. Compare and contrast the responsibilities of management, and of auditors, in relation to the assessment of
going concern. You should include a description of the procedures used in this assessment where relevant.
13. Discuss why the identification of related parties, and material related party transactions, can be difficult
for auditors.
14. You are the manager responsible for the audit of Axis Management Co., a listed company, for the year
ended 31 March 2008. Your firm was appointed as auditors of Axis Management Co. in September 2007.
The audit work has been completed, and you are reviewing the working papers in order to draft a report to
those charged with governance. The statement of financial position (balance sheet) shows total assets of
NRs. 78 million (2007 – NRs. 66 million). The main business activity of Axis Management Co. is the
manufacture of farm machinery.
During the audit of property, plant and equipment it was discovered that controls over capital expenditure
transactions had deteriorated during the year. Authorisation had not been gained for the purchase of office
equipment with a cost of NRs. 225,000. No material errors in the financial statements were revealed by
audit procedures performed on property, plant and equipment.
An internally generated brand name has been included in the statement of financial position (balance
sheet) at a fair value of NRs. 10 million. Audit working papers show that the matter was discussed with
the financial controller, who stated that the NRs. 10 million represents the present value of future cash
flows estimated to be generated by the brand name. The member of the audit team who completed the
work programme on intangible assets has noted that this treatment appears to be in breach of IAS 38
Intangible Assets, and that the management refuses to derecognise the asset.
Problems were experienced in the audit of inventories. Due to an oversight by the internal auditors of
Axis Management Co., the external audit team did not receive a copy of inventory counting procedures
prior to attending the count. This caused a delay at the beginning of the inventory count, when the audit
team had to quickly familiarise themselves with the procedures. In addition, on the final audit, when the
audit senior requested documentation to support the final inventory valuation, it took two weeks for the
information to be received because the accountant who had prepared the schedules had mislaid them.
a) Identify the main purpose of including ‗findings from the audit‘ (management letter points) in a
report to those charged with governance.
b) From the information provided above, recommend the matters which should be included as ‗findings
from the audit‘ in your report to those charged with governance, and explain the reason for their
inclusion.
15. Explain and differentiate between the terms ‗overall audit strategy‘ and ‗audit plan‘.
16. Explain the auditor‘s responsibility in relation to subsequent events.
17. You are the manager responsible for the audit of Lychee Co, a manufacturing company with a year ended
30 September 2009. The audit work has been completed and reviewed and you are due to issue the audit
report in three days. The draft audit opinion is unmodified. The financial statements show revenue for the
year ended 30 September 2009 of NRs. 15 million, net profit of NRs. 3 million, and total assets at the
year-end are NRs. 80 million.
The finance director of Lychee Co telephoned you this morning to tell you about the announcement
yesterday, of a significant restructuring of Lychee Co, which will take place over the next six months. The
restructuring will involve the closure of a factory, and its relocation to another part of the country. There
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will be some redundancies and the estimated cost of closure is NRs. 250,000. The financial statements
have not been amended in respect of this matter.
Required:
In respect of the announcement of the restructuring:
(i) Comment on the financial reporting implications, and advise the further audit procedures to be
performed; and
(ii) Recommend the actions to be taken by the auditor if the financial statements are not amended.
18. M/s Rely More Cooperative Limited with a paid up share capital of NRs. 20,00,000 has earned surplus
after tax in the financial year 2067/68 to the tune of NRs. 7,50,000. The management of the
Cooperative Limited wants to distribute the profit to various funds as follows:
i) General Reserve NRs. 100,000
ii) Dividend to members NRs. 500,000
iii) Appropriation in various funds NRs. 150,000
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.
19. You are a manager of a four partner firm. The directors of Surya Group., a listed company, wish to
dismiss their auditors. The directors of Surya Group have approached your firm to act as auditors and
have stated that they are prepared to pay NRs. 100,000 as an audit fee, plus a bonus of 1% of the profit
after taxation.
The directors of the company have a poor reputation as regards employee welfare and there is a high
turnover of employees. The company‘s business practices have previously been investigated by the
authorities but no action was taken against the directors or the company.
Required
Comment on the ethical and other professional issues you would take into account before deciding
whether or not your firm should indicate its willingness to accept nomination as auditors of Surya Group.
20. Difference between hot review & cold review
21. Described below are situations which have arisen in two unrelated audits and which are considered
material
a) Although you are satisfied that closing inventories this year are fairly stated, the audit report on the
previous year‘s financial statements was modified due to a restriction on the scope of the audit work
in respect of the closing inventory figure. This led to a qualified opinion.
b) The financial statements disclose the fact that a provision may be required to reduce inventories to
their net realisable value if a contract with a major customer, representing 60% of the company‘s
revenue, is not renewed. A decision on this by the customer is not expected until after the accounts
are due to be signed.
Required
a) State what is meant by, and explain the relationship between, the concepts of materiality and true &
fair.
b) State, with reasons, the effect on the audit reports of the situations described above.
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22. Malika construction is a company engaged in demolition, construction & removals. In the year ended 31
Ashad 2073 the company made a trading profit of NRs. 5,000,000. You are the manager in charge of the
audit. The following issues have been arisen:
i) A customer is suing the company for NRs. 1,500,000 for damage caused to antique furniture. The
company is defending the claim and believes that the furniture was reproduction as opposed to
antique and therefore worth only NRs. 650,000.
ii) The company has recently invested in three new heavy vehicles and is currently carrying out
extensive refurbishment of its premises. As a result of this expenditure the company has reached its
overdraft limit of NRs. 3,500,000.
Required
For each of the above issues
a) State with reasons the audit work that you would expect to find in undertaking your review of the
audit working papers for the year ended 31 Ashad 2073.
b) Draft the relevant sections dealing with these issues of the management representation letter you
would wish the directors to sign.
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1. Solution
Briefing notes
To: Audit partner

From: Audit manager
Subject: Audit planning for Nagarik Pharmaceuticals, year ending 31 Ashad 2073
Introduction
These briefing notes are prepared to assist in planning the audit of Nagarik Pharmaceuticals, our client
operating in the pharmaceutical industry. Specifically, the briefing notes will evaluate the business
risks facing our client, identify and explain four risks of material misstatement, recommend audit
procedures in relation to a new brand acquired during the year, and finally explain ethical threats to our
firm.
a) Business risks
Licensing of products
A significant regulatory risk relates to the highly regulated nature of the industry in which the
company operates. If any of Nagarik Pharmaceuticals‘s products fail to be licensed for
development and sale, it would mean that costs already incurred are wasted. Research and
development costs are significant. For example, in 2072-73 the cash outflow in relation to
research and development amounted to 7.5% of revenue, and the failure to obtain the necessary
licences is a major threat to the company‘s business objectives.
Patent infringements
In developing new products and improving existing products, Nagarik Pharmaceuticals must be
careful not to breach any competitor‘s existing patent. In the event of this occurring, significant
legal costs could be incurred in defending the company‘s legal position. Time and effort must
be spent monitoring product developments to ensure legal compliance with existing patents.
Similarly, while patents serve to protect Nagarik Pharmaceuticals‘s products, if a competitor were
found to be in breach of one of the company‘s patents, costs of bringing legal action against that
company could be substantial.
Advertising regulations
The company risks running inappropriate advertising campaigns, and failing to comply with
local variations in regulatory requirements. For example, if television campaigns to promote
products occurred in countries where this is not allowed, the company could face fines and
reputational damage, with consequences for cash flow and revenue streams.
Skilled personnel
The nature of Nagarik Pharmaceuticals‘s operations demands a skilled workforce with the
necessary scientific knowledge to be able to develop new drugs. Loss of personnel, especially to
competitors in the industry, would be a drain on the remaining resources and in the worst case
scenario it could delay the development and launch of new products. It may be difficult to attract
and retain skilled staff given the pending court case and potential reputational damage to the
company.
Diversification and rapid growth

During the year Nagarik Pharmaceuticals has acquired a new brand name and range of products,
and has also diversified into a new market, that of animal health products. While diversification
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has commercial and strategic advantages, it can bring risks. Management may struggle to deal with
the increased number of operations which they need to monitor and control, or they may focus so
much on ensuring the success of the new business segments that existing activities are neglected.
There may also be additional costs associated with the diversification which puts pressure on cash
and on the margins of the enlarged business. This may be the reason for the fall in operating profit
of 10.8% and for the decline in operating margin from 24% to 20%.
Cash flow and liquidity issues

Nagarik Pharmaceuticals seems to be struggling to maintain its cash position, as this year its
cash flow is negative by NRs. 1.2 million. Contributing factors to this will include the costs of
acquiring the ‗Cold Comforts‘ brand name, expenditure to launch the new animal-related product
line, and the cash outflow in relation to on-going research and development, which has increased by
7.1% in the year. The first two of these are one-off issues and may not create a cause for
concern over long-term cash management issues, but the company must be careful to maintain a
positive cash inflow from its operating activities to provide a sound foundation for future activities.
Companies operating in this industry must be careful to manage cash flows due to the nature of the
product lifecycle, meaning that large amounts have to be expended long before any revenue is
generated, in some cases the time lag may be many years before any cash inflow is derived from
expenditure on research activities.
The fact that the company has approached its bank to make cash available in the event of damages
of NRs. 3 million having to be paid out indicates that the company is not very liquid, and is relying
to some degree on external finance. If the bank refuses to extend existing borrowing facilities,
the company may have to find finance from other sources, for example, from an alternative
external provider of funds or from an issue of equity shares, which may be difficult to achieve and
expensive. The company has relatively high gearing, which may deter potential providers of finance
or discourage potential equity investors. If finance is refused, the company may not be able to pay
liabilities as they fall due, and other operational problems may arise, for example, an inability to
continue to fund in-progress research and development projects. Ultimately this would result in a
going concern problem, though much more information is needed to assess if this is a risk at this
yearend.
Court case and bad publicity

The court case against the company will create reputational damage, and publicity over people
suffering side effects while participating in clinical trials will undoubtedly lead to bad
publicity, affecting market share especially if competitors take advantage of the situation. It is
also likely that the bad publicity will lead to increased scrutiny of the company‘s activities making
it more vulnerable should further problems arise.
Risk of overtrading
The fall in operating margin and earnings per share is a worrying sign for shareholders, though for
the reasons explained above this may not be the start of a long-term trend as several events in this
year have put one-off pressure on margins.
However, there could be a risk of overtrading, as the company‘s revenue has increased by 5.2%.
b) Risks of material misstatement

Inherent risk of management bias
Nagarik Pharmaceuticals‘s management is attempting to raise finance, and the bank will use its
financial statements as part of their lending decision. There is therefore pressure on management to
present a favourable position. This may lead to bias in how balances and transactions are measured
and presented. For example, there is a risk that earnings management techniques are used to
overstate revenue and understate expenses in order to maximise the profit recognised. Estimates
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included in the financial statements are also subject to higher risk. ISA 540 Auditing Accounting
Estimates, Including Fair Value Accounting Estimates, and Related Disclosures states that auditors
shall review the judgements and decisions made by management in the making of accounting
estimates to identify whether there are indicators of management bias.
Research and development costs – recognition

There is a significant risk that the requirements of IAS 38 Intangible Assets have not been followed.
Research costs must be expensed and strict criteria must be applied to development expenditure to
determine whether it should be capitalised and recognised as an intangible asset. Development costs
are capitalised only after technical and commercial feasibility of the asset for sale or use have been
established, and Nagarik Pharmaceuticals must demonstrate an intention and ability to complete
the development and that it will generate future economic benefits. The risk is that research costs
have been inappropriately classified as development costs and then capitalised, overstating assets
and understating expenses.
A specific risk relates to the drug which was being developed but in relation to which there have
been side effects during the clinical trials. It is unlikely that the costs in relation to this product
development continue to meet the criteria for capitalisation, so there is a risk that they have not
been written off, overstating assets and profit.
Development costs – amortisation

When an intangible asset has a finite useful life, it should be amortised systematically over that life.
For a development asset, the amortisation should correspond with the pattern of economic benefits
generated from the sale of associated goods. The risk is that the amortisation period has not been
appropriately assessed. For example, if a competitor introduces a successful rival product which
reduces the period over which Nagarik Pharmaceuticals‘s product will generate economic
benefit, this should be reflected in a reduction in the period over which that product is amortised,
resulting in an increased amortisation charge. The risk if this does not happen is that assets are
overstated and expenses are understated.
Patents – recognition and amortisation

The cost of acquiring patents for products should be capitalised and recognised as an intangible
asset as the patent provides protection over the economic benefit to be derived. If patent costs have
been expensed rather than capitalised, this would understate assets and overstate expenses. Once
recognised, patents should be amortised over the period of their duration, and non-amortisation will
overstate assets and understate expenses.
Court case – provisions and contingent liabilities

The court case which has been brought against Nagarik Pharmaceuticals may give rise to a present
obligation as a result of a past event, and if there is a probable outflow of economic benefit which
can be measured reliably, then a provision should be recognised.
The clinical trial took place in 2071-72, so the obligating event has occurred. Depending on the
assessment of probability of the case going against Nagarik Pharmaceuticals, it may be that instead
of a provision, a contingent liability exists. This would be the case if there is a possible, rather than
probable, outflow of economic benefit. The risk is that either a necessary provision is not
recognised, understating liabilities and expenses, or that a contingent liability is not appropriately
disclosed in the notes to the financial statements, in accordance with IAS 37 Provisions, Contingent
Liabilities and Contingent Assets.
Legal fees relating to the court case should also be accrued if they have been incurred before the
year end, and failure to do so will understate current liabilities and understate expenses.
Segmental reporting
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The diversification into the new product area relating to animal health may warrant separate
disclosure according to IFRS 8 Operating Segments. This requires listed companies to disclose in a
note to the financial statements the performance of the company disaggregated over its operating or
geographical segments, as the information is viewed by management. As the new product area has
been successful and contributes 15% to revenue, it could be seen as a significant operating segment,
and disclosure of its revenue, profit and other figures may be required. The risk is non-disclosure or
incomplete disclosure of the necessary information.
c) Recommended audit procedures

 Review board minutes for evidence of discussion of the purchase of the acquired brand, and for
its approval.
 Agree the cost of NRs. 5 million to the company‘s cash book and bank statement.
 Obtain the purchase agreement and confirm the rights of Nagarik Pharmaceuticals in respect of
the brand.
 Discuss with management the estimated useful life of the brand of 15 years and obtain
an understanding of how 15 years has been determined as appropriate.
 If the 15-year useful life is a period stipulated in the purchase document, confirm to the terms
of the agreement.
 If the 15-year useful life is based on the life expectancy of the product, obtain an understanding
of the basis for this, for example, by reviewing a cash flow forecast of sales of the product.
 Obtain any market research or customer satisfaction surveys to confirm the existence of a
revenue stream.
 Consider whether there are any indicators of potential impairment at the yearend by
obtaining pre year-end sales information and reviewing terms of contracts to supply the
products to pharmacies.
 Recalculate the amortisation expense for the year and agree the charge to the financial
statements, and confirm adequacy of disclosure in the notes to the financial statements.
d) Ethical threats
There are two ethical threats relevant to the audit firm.
First, the bank has asked our firm to provide a guarantee in respect of the bank loan which may be
advanced to our client. The provision of such a guarantee represents a financial interest in an audit
client, and creates a self-interest threat because the audit firm has an interest in the financial
position of the client, causing loss of objectivity when auditing the financial statements.
According to Code of Ethics for Professional Accountants (the Code), if an audit firm guarantees a
loan to an audit client, the self-interest threat created would be so significant that no safeguards
could reduce the threat to an acceptable level unless the loan or guarantee is immaterial to both the
audit firm and the client. In this case the loan would be material as it represents 5% of Nagarik
Pharmaceuticals‘s total assets, and would also be considered material in nature because of the
company‘s need for the additional finance.
The second threat relates to Nagarik Pharmaceuticals‘s request for our firm to provide advice on
the new accounting and management information systems to be implemented next year. If the
advice were given, it would constitute the provision of a non-assurance service to an audit
client. The Code has detailed guidance in this area and specific requirements in the case of a public
interest entity such as Nagarik Pharmaceuticals which is a listed entity.
The Code states that services related to IT systems including the design or implementation of
hardware or software systems may create a self-review threat. This is because when auditing the
financial statements the auditor would assess the systems which they had recommended, and an
objective assessment would be difficult to achieve. There is also a risk of assuming the
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responsibility of management, especially as Nagarik Pharmaceuticals has little experience in this
area, so would rely on the auditor‘s suggestions and be less inclined to make their own decision.
In the case of an audit client which is a public interest entity, the Code states that an audit firm shall
not provide services involving the design or implementation of IT systems which form a
significant part of the internal control over financial reporting or which generate information
which is significant to the client‘s accounting records or financial statements on which the firm will
express an opinion.
Therefore the audit firm should not provide a service to give advice on the accounting systems.
With further clarification on the nature of the management information systems and the update
required to them, it may be possible for the audit firm to provide a service to Nagarik
Pharmaceuticals, as long as those systems are outside of the financial reporting system. However, it
may be prudent for the audit firm to decline offering any advice on systems to the client.
These ethical issues should be discussed with those charged with governance of Nagarik
Pharmaceuticals, with an explanation provided as to why the audit firm cannot guarantee the loan
or provide the non-audit service to the company.
Conclusion
Nagarik Pharmaceuticals faces a variety of business risks, some of which are generic to the industry
in which it operates, while others are more entity-specific. A number of risks of material
misstatement have been discussed, and the audit planning must ensure that appropriate responses
are designed for each of them. The purchase of a new brand will necessitate detailed audit testing.
Two ethical issues have been raised by requests from the client for our firm to provide a loan
guarantee and to provide advice on systems, both of which create significant threats to
independence and objectivity, and the matters must be discussed with the client before advising that
we are unable to provide the guarantee or to provide the systems advice.
2. Solution
a) Measurement of goodwill on acquisition

The goodwill arising on the acquisition of Basera Co is material to the Group financial statements,
representing 6% of total assets.
The goodwill should be recognised as an intangible asset and measured according to IAS 38 Intangible
Assets and IFRS 3 Business Combinations. The purchase consideration should reflect the fair value of
total consideration paid and payable, and there is a risk that the amount shown in the calculation is
not complete, for example, if any deferred or contingent consideration has not been included.
The non-controlling interest has been measured at fair value. This is permitted by IFRS 3, and the
decision to measure at fair value can be made on an investment by investment basis. The important issue
is the basis for measurement of fair value. If Basera Co is a listed company, then the market value of its
shares at the date of acquisition can be used and this is a reliable measurement. If Basera Co is not listed,
then management should have used estimation techniques according to the fair value hierarchy of inputs
contained in IFRS 13 Fair Value Measurement. This would introduce subjectivity into the measurement
of non-controlling interest and goodwill and the method of determining fair value must be clearly
understood by the auditor.
The net assets acquired should be all identifiable assets and liabilities at the date of acquisition.
For such a significant acquisition some form of due diligence investigation should have been performed,
and one of the objectives of this would be to determine the existence of assets and liabilities, even those
not recognised in Basera Co‘s individual financial statements. There is a risk that not all acquired
assets and liabilities have been identified, or that they have not been appropriately measured at
fair value, which would lead to over or understatement of goodwill and incomplete recording of
assets and liabilities in the consolidated financial statements.
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The fair value adjustment of NRs. 300,000 made in relation to Basera Co‘s property is not material
to the Group accounts, representing less than 1% of total assets. However, the auditor should confirm
that additional depreciation is being charged at Group level in respect of the fair value uplift. Though the
value of the depreciation would not be material to the consolidated financial statements, for completeness
and accuracy the adjustment should be made.
The auditor should also consider if any further adjustments need to be made to Basera Co‘s net assets to
ensure that Group accounting policies have been applied. IFRS 3 requires consistency in accounting
policies across Group members, so if the necessary adjustments have not been made, the assets and
liabilities will be over or understated on consolidation.
Impairment
IAS 38 requires that goodwill is tested annually for impairment regardless of whether indicators of
potential impairment exist. The goodwill in relation to Basera Co is recognised at the same amount at the
year-end as it was at acquisition, indicating that no impairment has been recognised. It could be that
management has performed an impairment review and has concluded that there is no impairment, or
that no impairment review has been performed at all.
However, Group profit has declined by 30·3% over the year, which in itself is an indicator of potential
impairment of the Group‘s assets, so it is unlikely that no impairment exists unless the fall in revenue
relates to parts of the Group‘s activities which are unrelated to Basera Co. There is a risk that Group
assets are overstated and profit overstated if any necessary impairment has not been recognised.
Loan
The loan is material, representing 13.3% of the Group‘s total assets.
The loan taken out to finance the acquisition should be accounted for under IFRS 9 Financial Instruments.
It should be initially measured at fair value, and classified according to whether it is subsequently
measured at amortised cost or at fair value. As the loan is not held for trading, it should be measured at
amortised cost unless Group management decides to use the fair value option.
Assuming subsequent measurement is based on amortised cost, an effective interest rate should be
calculated to allocate the premium to be paid on maturity over the 20-year life of the loan, meaning that
the annual finance charge will be more than just the actual interest paid. There is a risk that the finance
charge does not include an element relating to the premium, in which case both the finance charge and the
liability are understated.
Evidence:
 Agreement of the purchase consideration to the legal documentation pertaining to the acquisition, and
a review of the documents to ensure that the figures included in the goodwill calculation are
complete.
 Agreement of the NRs. 75 million to the bank statement and cash book of the acquiring company
(presumably the parent company of the Group).
 Review of board minutes for discussions relating to the acquisition, and for the relevant minute of
board approval.
 A review of the purchase documentation and a register of significant shareholders of Basera Co to
confirm the 20% non-controlling interest.
 If Basera Co‘s shares are not listed, a discussion with management as to how the fair value of the
non-controlling interest has been determined and evaluation of the appropriateness of the method
used.
 If Basera Co‘s shares are listed, confirmation that the fair value of the non-controlling interest has
been calculated based on an externally available share price at the date of acquisition.
 A copy of any due diligence report relevant to the acquisition, reviewed for confirmation of acquired
assets and liabilities and their fair values.
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 An evaluation of the methods used to determine the fair value of acquired assets, including the
property, and liabilities to confirm compliance with IFRS 3 and IFRS 13.
 Review of depreciation calculations, and recalculation, to confirm that additional depreciation is
being charged on the fair value uplift.
 A review of the calculation of net assets acquired to confirm that Group accounting policies have
been applied.
 Discussion with management regarding the potential impairment of Group assets and confirmation as
to whether an impairment review has been performed.
 A copy of any impairment review performed by management, with scrutiny of the assumptions used,
and re-performance of calculations.
 Re-performance of management‘s calculation of the finance charge in relation to the loan, to
ensure that the loan premium has been correctly accrued.
 Agreement of the loan receipt and interest payment to bank statement and cash book.
 Review of board minutes for approval of the loan to be taken out.
 A copy of the loan agreement, reviewed to confirm terms including the maturity date, premium to be
paid on maturity and annual interest payments.
 A copy of the note to the financial statements which discusses the loan to ensure all requirements of
IFRSs 7 and 13 have been met.
b) Property complex
The carrying value of the property complex is material to the Group financial statements, representing
3.6% of total assets.
The natural disaster is a subsequent event, and its accounting treatment should be in accordance with IAS
10 Events after the Reporting Period. IAS 10 distinguishes between adjusting and non-adjusting events,
the classification being dependent on whether the event provides additional information about conditions
already existing at the year end. The natural disaster is a non-adjusting event as it indicates a condition
which arose after the year end.
Disclosure is necessary in a note to the financial statements to describe the impact of the natural disaster,
and quantify the effect which it will have on next year‘s financial statements.
The demolition of the property complex should be explained in the note to the financial statements and
reference made to the monetary amounts involved. Consideration should be made of any other costs
which will be incurred, e.g. if there is inventory to be written off, and the costs of the demolition itself.
The contingent asset of NRs.18 million should not have been recognised. Even if the amount were
virtually certain to be received, the fact that it relates to the non-adjusting event after the reporting period
means that it cannot be recognised as an asset and deferred income at the year end.
The financial statements should be adjusted to remove the contingent asset and the deferred income. The
amount is material at 4% of total assets. There would be no profit impact of this adjustment as the NRs.
18 million has not been recognised in the statement of profit or loss.
Evidence:
 A copy of any press release made by the Group after the natural disaster, and relevant media reports
of the natural disaster, in particular focusing on its impact on the property complex.
 Photographic evidence of the site after the natural disaster, and of the demolished site.
 A copy of the note to the financial statements describing the event, reviewed for completeness and
accuracy.
 A schedule of the costs of the demolition, with a sample agreed to supporting documentation, e.g.
invoices for work performed and confirmation that this is included in the costs described in the note
to the financial statements.
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 A schedule showing the value of inventories and items such as fixtures and fittings at the time
of the disaster, and confirmation that this is included in the costs described in the note to the financial
statements.
 A copy of the insurance claim and correspondence with the Group‘s insurers to confirm that the
property is insured.
 Confirmation that an adjustment has been made to reverse out the contingent asset and deferred
income which has been recognised.
c) Intercompany trading
The intercompany receivables and payables represent 4.4% of Group assets and are material to the
consolidated statement of financial position. The inventory is also material, at 11% of Group assets.
On consolidation, the intercompany receivables and payables balances should be eliminated, leaving only
balances between the Group and external parties recognised at Group level. There is a risk that during the
consolidation process the elimination has not happened, overstating Group assets and liabilities by the
same amount.
If the intercompany transaction included a profit element, then the inventory needs to be reduced in value
by an adjustment for unrealised profit. This means that the profit made by Ishara Co on the sale of any
inventory still remaining in the Group at the year-end is eliminated. If the adjustment has not been made,
then inventory and Group profit will be overstated.
Evidence:
 Review of consolidation working papers to confirm that the intercompany balances have been
eliminated.
 A copy of the terms of sale between Ishara Co and Tishara Co, scrutinised to find out if a profit
margin or mark-up is part of the sales price.
 A reconciliation of the intercompany balances between Tishara Co and Ishara Co to confirm that
there are no other reconciling items to be adjusted, e.g. cash in transit or goods in transit.
 Copies of inventory movement reports for the goods sold from Ishara Co to Tishara Co, to determine
the quantity of goods transferred.
 Details of the inventory count held at Tishara Co at the year end, reviewed to confirm that no other
intercompany goods are held at the year end.
3. Solution
Additional information needed to plan the audit of land includes the following:
 Details of the reason for the purchase, to understand the business rationale, e.g. is the land
held for capital appreciation?
 Does management have any specific plans for how Faster Jets Co may make use of the land in the
future, e.g. are there plans to construct buildings and if so what will be their purpose?
 The date of purchase to ascertain how long it has taken for the land to increase in value by NRs. 2
million and whether this seems reasonable.
 Whether the land was purchased for cash or if finance was taken out to raise the NRs. 12.5 million
paid.
 Who is renting the land? This could establish whether the arrangement is with a related party.
 The type of rental arrangement and whether it constitutes a finance or operating lease.
 What is the land being used for? As the legal owner, Faster Jets Co should be aware of its use and any
associated risks, e.g. activities close to airports may convey security risks, e.g. terrorism.
 The location of the purchased land – this is necessary to plan the logistics of the audit.
 Does the company hold any other investment property, and if so, is that also held at fair value? The
accounting treatment should be consistent for all investment property.
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 What is management‘s rationale for the accounting policy choice to measure the land at fair value? It
will result in profit for the year including the NRs.2 million fair value increase.
 Establish who holds the title deeds to the land as this may need to be inspected.
4. Solution
Matters to consider before placing reliance on the work of the auditor’s expert
ISA 620 Using the Work of an Auditor‘s Expert contains requirements relating to the objectivity and
capabilities of the auditor‘s expert, the scope and objectives of their work, and assessing their work.
Objectivity
According to ISA 620, the auditor shall evaluate whether the auditor‘s expert has the necessary
objectivity and that this should include inquiry regarding interests and relationships which may create a
threat to the expert‘s objectivity. The audit firm will need to ensure that the expert has no connection to
Soma Air, for example, that they are not a related party of the company or any person in a position of
influence over the financial statements. If the expert‘s objectivity is threatened, less reliance can be placed
on their work.
Competence
ISA 620 also requires the competence of the expert to be considered; this should include
considering the expert‘s membership of appropriate professional bodies. Any doubts over the
competence of the expert will reduce the reliability of audit evidence obtained. The expert should in this
case have experience in valuing land, and be familiar with the framework for measuring fair value in
accordance with IAS 40 Investment Property and IFRS 13 Fair Value Measurement.
Scope of work
ISA 620 requires the auditor to agree the scope of work with the expert. This may include agreement of
the objectives of the work, how the expert‘s work will be used by the auditor and the methodology and
key assumptions to be used.
In assessing the work performed by the expert, the auditor should confirm that the scope of the work is as
agreed at the start of the engagement. If the expert has deviated from the agreed scope of work, it is
likely to be less relevant and reliable.
Relevance of conclusions
ISA 620 states that the auditor shall evaluate the relevance and adequacy of the expert‘s findings or
conclusions. This will involve consideration of the source data which was used, the appropriateness of
assumptions and the reasons for any changes in methodology or assumptions. The conclusion should be
consistent with other relevant audit findings and with the auditor‘s general understanding of the business.
Any inconsistencies should be investigated as they may indicate evidence which is not reliable.
5. Solution
Ethical threats created by long association of senior audit personnel and relevant safeguards
When a senior auditor acts for an audit client for a long period, several ethical problems can arise. First,
the professional scepticism of the auditor can be diminished. This happens because the auditor becomes
too accepting of the client‘s methods and explanations, so stops approaching the audit with a questioning
mind.
Familiarity and self-interest threats are created by using the same senior personnel on an audit
engagement over a long period of time. The familiarity threat is linked to the issues relating to the
loss of professional scepticism discussed above, and is due to the senior auditor forming a close
relationship with the client‘s personnel over a long period of time.
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As with any ethical threat, the significance of the threat should be evaluated and safeguards which reduce
the threat to an acceptable level put in place. Matters which should be considered in evaluating the
significance of the ethical threat could include the seniority of the auditor involved, the length of time
they have acted for the client, the nature, frequency and extent of the individual‘s interactions with the
client‘s management or those charged with governance and whether the client‘s management team
has changed.
Examples of safeguards which can be used include:

 Rotating the senior personnel off the audit team;
 Having a professional accountant who was not a member of the audit team review the work of the
senior personnel; or
 Regular independent internal or external quality control reviews of the engagement.
6. Solution
Quality control, ethical and other issues raised

It is a requirement of ISA 520 Analytical Procedures that analytical procedures are performed at the
overall review stage of the audit. An objective of ISA 520 is that the auditor should design and perform
analytical procedures near the end of the audit which assist the auditor when forming their opinion as
to whether the financial statements are consistent with the auditor‘s understanding of the entity.
It is unlikely that the audit senior‘s ‗quick look‘ at Ambu Steel Co‘s financial statements is adequate to
meet the requirements of ISA 520 and audit documentation would seem to be inadequate. Therefore if the
audit senior, or another auditor, does not perform a detailed analytical review on Ambu Steel Co.‘s
financial statements as part of the completion of the audit, there is a breach of ISA 520. Failing to perform
the final analytical review could mean that further errors are not found, and the auditor will not be able to
check that the presentation of the financial statements conforms to the requirements of the applicable
financial reporting framework. It is also doubtful whether a full check on the presentation and disclosure
in the financial statements has been made. The firm should evidence this through the use of a disclosure
checklist.
The lack of final analytical review increases audit risk. Because Ambu Steel Co. is a new audit client, it is
particularly important that the analytical review is performed as detection risk is higher than for
longer-standing audit engagements where the auditor has developed a cumulative knowledge of the
audit client.
The fact that the audit manager suggested that a detailed review was not necessary shows a lack
of knowledge and understanding of ISA requirements. An audit client being assessed as low risk does
not negate the need for analytical review to be performed, which the audit manager should know.
Alternatively, the audit manager may have known that analytical review should have been performed, but
regardless of this still instructed the audit senior not to perform the review, maybe due to time pressure.
The audit manager should be asked about the reason for his instruction and given further training if
necessary.
The manager is not providing proper direction and supervision of the audit senior, which goes
against the principles of ISA 220 Quality Control for an Audit of Financial Statements, and ISQC1
Quality Control for Firms that Perform Audits and Reviews of Financial Statements and other
Assurance and Related Services Engagements. Both of these discuss the importance of the audit team
having proper direction and supervision as part of ensuring a good quality of audit engagement
performance.
The second issue relates to the chairman‘s statement. ISA 720 The Auditor‘s Responsibilities Relating to
Other Information in Documents Containing Audited Financial Statements requires that the auditor shall
read the other information to identify material inconsistencies, if any, with the audited financial
statements.
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The audit manager has discussed the chairman‘s statement but this does not necessarily mean that the
manager had read it for the purpose of identifying potential misstatements, and it might not have been
read at all. Even if the manager has read the chairman‘s statement, there may not be any audit
documentation to show that this has been done or the conclusion of the work. The manager needs to be
asked exactly what work has been done, and what documentation exists. As the work performed does not
comply with the ISA 720 requirements, then the necessary procedures must be performed before the audit
report is issued.
Again, the situation could indicate the audit manager‘s lack of knowledge of ISA requirements, or that a
short-cut is being taken. In either case the quality of the audit is in jeopardy.
7. Solution
i. Evaluation of Uncorrected Misstatements

During the completion stage of the audit, the effect of uncorrected misstatements must be evaluated by
the auditor, as required by ISA 450 Evaluation of Misstatements Identified during the Audit. In the event
that management refuses to correct some or all of the misstatements communicated by the auditor, ISA
450 requires that the auditor shall obtain an understanding of management‘s reasons for not making the
corrections and shall take that understanding into account when evaluating whether the financial
statements as a whole are free from material misstatement. Therefore a discussion with management
is essential in helping the auditor to form an audit opinion.
ISA 450 also requires that the auditor shall communicate with those charged with governance
about uncorrected misstatements and the effect that they, individually or in aggregate, may have on the
opinion in the auditor‘s report.
Each of the matters included in the schedule of uncorrected misstatements will be discussed below and
the impact on the audit report considered individually and in aggregate.
Share-based payment scheme

The adjustment in relation to the share-based payment scheme is material individually to profit,
representing 12% of revenue. It represents less than 1% of total assets and is not material to the statement
of financial position.
IFRS 2 Share-based Payment requires an expense and a corresponding entry to equity to be recognised
over the vesting period of a share-based payment scheme, with the amount recognised based on the fair
value of equity instruments granted. Management‘s argument that no expense should be recognised
because the options are unlikely to be exercised is not correct. IFRS 2 would classify the fall in Ambu
Steel Co.‘s share price as a market condition, and these are not relevant to determining whether an
expense is recognised or the amount of it.
Therefore management should be requested to make the necessary adjustment to recognise the expense
and entry to equity of NRs. 300,000. If this is not recognised, the financial statements will contain
a material misstatement, with consequences for the auditor‘s opinion.
Restructuring provision
The adjustment in relation to the provision is material to profit, representing 2% of revenue. It represents
less than 1% of total assets so is not material to the statement of financial position.
The provision appears to have been recognised too early. IAS 37 Provisions, Contingent Liabilities and
Contingent Assets requires that for a restructuring provision to be recognised, there must be a present
obligation as a result of a past event, and that is only when a detailed formal plan is in place and the entity
has started to implement the plan, or announced its main features to those affected. A board decision is
insufficient to create a present obligation as a result of a past event. The provision should be recognised in
September 2014 when the announcement to employees was made.
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Management should be asked to explain why they have included the provision in the financial statements,
for example, there may have been an earlier announcement before 31 August 2014 of which the auditor is
unaware.
In the absence of any such further information, management should be informed that the accounting
treatment of the provision is a material misstatement, which if it remains unadjusted will have
implications for the auditor‘s opinion.
Inventory provision
The additional slow-moving inventory provision which the auditor considers necessary is not material on
an individual basis to either profit or to the statement of profit or loss or the statement of financial
position, as it represents only 0.4% of revenue and less than 1% of total assets.
Despite the amount being immaterial, it should not be disregarded, as the auditor should consider the
aggregate effect of misstatements on the financial statements. ISA 450 does state that the auditor need not
accumulate balances which are ‗clearly trivial‘, by which it means that the accumulation of such amounts
clearly would not have a material effect on the financial statements. However, at 0·4% of revenue the
additional provision is not trivial, so should be discussed with management.
This misstatement is a judgemental misstatement as it arises from the judgements of management
concerning an accounting estimate over which the auditor has reached a different conclusion. This is not
a breach of financial reporting standards, but a difference in how management and the auditor have
estimated an uncertain amount. Management should be asked to confirm the basis on which their estimate
was made, and whether they have any reason why the provision should not be increased by the amount
recommended by the auditor.
If this amount remains unadjusted by management, it will not on an individual basis impact the auditor‘s
report.
ii. Impact on auditor’s report

Aggregate materiality position
In aggregate, the misstatements have a net effect of NRs. 260,000 (NRs. 310,000 – NRs. 50,000),
meaning that if left unadjusted, profit will be overstated by NRs. 260,000 and the statement of financial
position overstated by the same amount. This is material to profit, at 10.4% of revenue, but is not material
to the statement of financial position at less than 1% of total assets.
Impact on auditor’s report

The statement of profit or loss is materially misstated if the adjustments are not made by management.
According to ISA 705 Modifications to the Opinion in the Independent Auditor‘s Report, the auditor shall
modify the opinion in the auditor‘s report when the auditor concludes that, based on the audit evidence
obtained, the financial statements as a whole are not free from material misstatement.
The type of modification depends on the significance of the material misstatement. In this case, the
misstatements in aggregate are material to the financial statements, but are unlikely to be considered
pervasive even though they relate to a number of balances in the financial statements as they do not
represent a substantial proportion of the financial statements, and do not make them misleading when
viewed as a whole. If that were the case, the opinion would be adverse in nature.
Therefore a qualified opinion should be expressed, with the auditor stating in the opinion that except for
the effects of the matters described in the basis for qualified opinion paragraph, the financial statements
show a true and fair view.
The basis for qualified opinion paragraph should be placed immediately before the opinion
paragraph, and should contain a description of the matters giving rise to the qualification. This should
include a description and quantification of the financial effects of the misstatement.
8. Solution
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Consultation
It may not be possible to hold extensive consultations on specialist issues within a small firm, due to a
lack of specialist professionals. There may be a lack of suitably experienced peers to discuss issues
arising on client engagements. Arrangements with other practices for consultation may be necessary.
Where special skills are needed within an engagement; the skills may be bought in, for example, by
seconding staff from another practice. Alternatively if work is too specialised for the firm, the work could
be sub-contracted to another practice.
Review procedures
It may not be possible to hold an independent review of an engagement within the firm due to the small
number of senior and experienced auditors. In this case an external review service may be purchased.
The firm may lack resources to establish an in-house set of audit manuals or standard working papers. In
this case documentation can be provided by external firms or professional bodies.
9. Solution
Forensic accounting utilises accounting, auditing, and investigative skills to conduct an examination into
a company‘s financial statements. The aim of forensic accounting is to provide an accounting analysis
that is potentially suitable for use in court. Forensic accounting is an umbrella term encompassing both
forensic investigations and forensic audits. It includes the audit of financial information to prove or
disprove a fraud, the interview process used during an investigation, and the act of serving as an expert
witness.
Specifically it is the process of gathering, analysing and reporting on data for the purpose of finding facts
and/or evidence in the context of financial/legal disputes and/or irregularities. The forensic accountant
will also give preventative advice based on evidence gathered. This advice is based usually on
recommendations to improve the internal control systems to prevent and detect fraud.
Forensic investigation is a process whereby a forensic accountant carries out procedures to gather
evidence, which could ultimately be used in legal proceedings or to settle disputes. This could include, for
example, an investigation into money laundering. A forensic investigation involves many stages (similar
to an audit), including planning, evidence gathering, quality control reviews, and finally results in the
production of a report.
Forensic auditing is the specific use of audit procedures within a forensic investigation to find facts and
gather evidence, usually focused on the quantification of a financial loss. This could include, for example,
the use of analytical procedures, and substantive procedures to determine the amount of an insurance
claim.
10. Solution
The relevance here is that the Woodland Furniture is likely to hire a consultant to provide a forensic
accounting service. The investigation will consider two issues – firstly whether the fraud actually
happened, and secondly, if a fraud has taken place, the financial value of the fraud. The investigation
should determine who has perpetrated the fraud, and collect evidence to help prosecute those involved in
the deception.
In this case the suspicion that inventory is being stolen should be investigated, as there could be other
reasons for the discrepancy found in the inventory records. For example, the discrepancy could be caused
by:
 Obsolete or damaged inventory thrown away but not eliminated from the inventory records
 Despatches from the warehouse not recorded in the inventory management system
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 Incoming inventory being recorded incorrectly (e.g. recorded twice in the inventory management
system)
 Inventory being held at a separate location and therefore not included in the count.
If it is found that thefts have taken place, then the forensic accountant should gather evidence to:
 Prove the identity of the persons involved
 Quantify the value of inventory taken.
The evidence gathered could be used to start criminal proceedings against those found to have been
involved in the fraud.
11. Solution
Balances held at fair value are frequently recognised as material items in the statement of financial
position. Sometimes it is required by the financial reporting framework that the measurement of an asset
or liability is at fair value, e.g. certain categories of financial instruments, whereas it is sometimes the
entity‘s choice to measure an item using a fair value model rather than a cost model, e.g. properties. It is
certainly the case that many of these balances will be material, meaning that the auditor must obtain
sufficient appropriate evidence that the fair value measurement is in accordance with the requirements of
financial reporting standards. ISA 540 Auditing Accounting Estimates Including Fair Value Accounting
Estimates and Related Disclosures and ISA 545 Auditing Fair Value Measurements and Disclosures
contain guidance in this area.
As part of the understanding of the entity and its environment, the auditor should gain an insight into
balances that are stated at fair value, and then assess the impact of this on the audit strategy. This will
include an evaluation of the risk associated with the balance(s) recognised at fair value.
Audit risk comprises three elements; each is discussed below in the context of whether material balances
shown at fair value will lead to increased risk for the auditor.
Inherent risk
Many measurements based on estimates, including fair value measurements, are inherently imprecise and
subjective in nature. The fair value assessment is likely to involve significant judgments, e.g. regarding
market conditions, the timing of cash flows, or the future intentions of the entity. In addition, there may
be a deliberate attempt by management to manipulate the fair value to achieve a desired aim within the
financial statements, in other words to attempt some kind of window dressing.
Many fair value estimation models are complicated, e.g. discounted cash flow techniques, or the actuarial
calculations used to determine the value of a gratuity fund etc. In addition to the complexities, some fair
value measurement techniques will contain significant assumptions, e.g. the most appropriate discount
factor to use, or judgments over the future use of an asset. Management may not always have sufficient
experience and knowledge in making these judgments.
Thus the auditor should approach some balances recognised at fair value as having a relatively high
inherent risk, as their subjective and complex nature means that the balance is prone to contain an error.
However, the auditor should not just assume that all fair value items contain high inherent risk. Each
balance recognised at fair value should be assessed for its individual level of risk.
Control risk
The risk that the entity‘s internal monitoring system fails to prevent and detect valuation errors needs to
be assessed as part of overall audit risk assessment. One problem is that the fair value assessment is likely
to be performed once a year, outside the normal accounting and management systems, especially where
the valuation is performed by an external specialist. Therefore, as a non-routine event, the assessment of
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fair value is likely not to have the same level of monitoring or controls as a day-to-day business
transaction.
However, due to the material impact of fair values on the statement of financial position, and in some
circumstances on profit, management may have made great effort to ensure that the assessment is highly
monitored and controlled. It therefore could be the case that there is extremely low control risk associated
with the recognition of fair values.
Detection risk
The auditor should minimise detection risk via thorough planning and execution of audit procedures. The
audit team may lack experience in dealing with the fair value in question, and so would be unlikely to
detect errors in the valuation techniques used. Over-reliance on an external specialist could also lead to
errors not being found.
Conclusion
It is true that the increasing recognition of items measured at fair value will in many cases cause the
auditor to assess the audit risk associated with the balance as high. However, it should not be assumed
that every fair value item will be likely to contain a material misstatement. The auditor must be careful to
identify and respond to the level of risk for fair value items on an individual basis to ensure that sufficient
and appropriate evidence is gathered, thus reducing the audit risk to an acceptable level.
12. Solution
ISA 570 Going Concern provides a clear framework for the assessment of the going concern status of an
entity, and differentiates between the responsibilities of management and of auditors. Management should
assess going concern in order to decide on the most appropriate basis for the preparation of the financial
statements. IAS 1 Presentation of Financial Statements (revised) requires that where there is significant
doubt over an entity‘s ability to continue as a going concern, the uncertainties should be disclosed in a
note to the financial statements. Where the directors intend to cease trading, or have no realistic
alternative but to do so, the financial statements should be prepared on a ‗break up‘ basis. Thus the main
focus of the management‘s assessment of going concern is to ensure that relevant disclosures are made
where necessary, and that the correct basis of preparation is used.
The auditor‘s responsibility is to consider the appropriateness of the management‘s use of the going
concern assumption in the preparation of the financial statements and to consider whether there are
material uncertainties about the entity‘s ability to continue as a going concern that need to be disclosed in
a note. The auditor should also consider the length of the time period that management have looked at in
their assessment of going concern. The auditor will therefore need to come to an opinion as to the going
concern status of an entity but the focus of the auditor‘s evaluation of going concern is to see whether
they agree with the assessment made by the management. Therefore whether they agree with the basis of
preparation of the financial statements, or the inclusion in a note to the financial statements, as required
by IAS 1, of any material uncertainty.
Evaluation techniques
In carrying out the going concern assessment, management will evaluate a wide variety of indicators,
including operational and financial. An entity employing good principles of corporate governance should
be carrying out such an assessment as part of the on-going management of the business.
Auditors will use a similar assessment technique in order to come to their own opinion as to the going
concern status of an entity. They will carry out an operational review of the business in order to confirm
business understanding, and will conduct a financial review as part of analytical procedures. Thus both
management and auditors will use similar business risk assessment techniques to discover any threats to
the going concern status of the business.
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However, one difference is that when going concern problems are discovered, the auditor is required by
IAS 570 to carry out additional procedures. Examples of such procedures would include:
 Analysing and discussing cash flow, profit and other relevant forecasts with management
 Analysing and discussing the entity‘s latest available interim financial statements
 Reviewing events after the period end to identify those that either mitigate or otherwise affect the
entity‘s ability to continue as a going concern, and
 Reading minutes of meetings of shareholders, those charged with governance and relevant
committees for reference to financing difficulties.
Management are not explicitly required to gather specific evidence about going concern, but as part of
good governance would be likely to investigate and react to problems discovered.
13. Solution
Identification of related parties
Related parties and associated transactions are often difficult to identify, as it can be hard to establish
exactly who, or what, are the related parties of an entity. IAS 24 Related Party Disclosures contains
definitions which in theory serve to provide a framework for identifying related parties, but deciding
whether a definition is met can be complex and subjective. For example, related party status can be
obtained via significant interest, but in reality it can be difficult to establish the extent of influence that
potential related parties can actually exert over a company.
The directors may be reluctant to disclose to the auditors the existence of related parties or transactions.
This is an area of the financial statements where knowledge is largely confined to management, and the
auditors often have little choice but to rely on full disclosure by management in order to identify related
parties. This is especially the case for a close family member of those in control or having influence over
the entity, whose identity can only be revealed by management.
Identification of material related party transactions

Related party transactions may not be easy to identify from the accounting systems. Where accounting
systems are not capable of separately identifying related party transactions, management need to carry out
additional analysis, which if not done makes the transactions extremely difficult for auditors to find. For
example sales made to a related party will not necessarily be differentiated from ‗normal‘ sales in the
accounting systems.
Related party transactions may be concealed in whole, or in part, from auditors for fraudulent purposes. A
transaction may not be motivated by normal business considerations, for example, a transaction may be
recognised in order to improve the appearance of the financial statements by ‗window dressing‘. Clearly
if the management is deliberately concealing the true nature of these items it will be extremely difficult
for the auditor to discover the rationale behind the transaction and to consider the impact on the financial
statements.
Finally, materiality is a difficult concept to apply to related party transactions. Once a transaction has
been identified, the auditor must consider whether it is material. However, materiality has a particular
application in this situation. ISA 550 Related Parties states that the auditor should consider the effect of a
related party transaction on the financial statements. The problem is that a transaction could occur at an
abnormally small, even nil, value. Determining materiality based on monetary value is therefore
irrelevant, and the auditor should instead be alert to the unusual nature of the transaction making it
material.
14. Solution
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A report to those charged with governance is produced to communicate matters relating to the external
audit to those who are ultimately responsible for the financial statements. ISA 260 Communication of
Audit Matters With Those Charged With Governance requires the auditor to communicate many matters,
including independence and other ethical issues, the audit approach and scope, the details of management
representations, and the findings of the audit. The findings of the audit are commonly referred to as
management letter points. By communicating these matters, the auditor is confident that there is written
documentation outlining all significant matters raised during the audit process, and that such matters have
been formally notified to the highest level of management of the client. For the management, the report
should ensure that they fully understand the scope and results of the audit service which has been
provided, and is likely to provide constructive comments to help them to fulfil their duties in relation to
the financial statements and accounting systems and controls more effectively. The report should also
include, where relevant, any actions that management has indicated they will take in relation to
recommendations made by the auditors.
Control weakness
ISA 260 contains guidance on the type of issues that should be communicated. One of the matters
identified is a control weakness in the capital expenditure transaction cycle. The assets for which no
authorisation was obtained amount to 0.3% of total assets (225,000/78 million x 100%), which is clearly
immaterial. However, regardless of materiality, the auditor should ensure that the weakness is brought to
the attention of the management, with a clear indication of the implication of the weakness, and
recommendations as to how the control weakness should be eliminated.
The auditor is providing information to help those charged with governance improve the internal systems
and controls and ultimately reduce business risk. In this case there is a high risk of fraud, as the lack of
authorisation for purchase of office equipment could allow expenditure on assets not used for bona fide
business purposes.
Disagreement with accounting treatment of brand
Audit procedures have revealed a breach of IAS 38 Intangible Assets, in which internally generated brand
names are specifically prohibited from being recognised. Axis Management Co. has recognised an
internally generated brand name which is material to the statement of financial position (balance sheet) as
it represents 12.8% of total assets (10/78 x 100%).
The statement of financial position (balance sheet) therefore contains a material misstatement.
The report to those charged with governance should clearly explain the rules on recognition of internally
generated brand names, to ensure that the management has all relevant technical facts available. In the
report the auditors should request that the financial statements be corrected, and clarify that if the brand is
not derecognised, then the audit opinion will be qualified on the grounds of a material disagreement – an
‗except for‘ opinion would be provided. Once the breach of IAS 38 is made clear to the management in
the report, they then have the opportunity to discuss the matter and decide whether to amend the financial
statements, thereby avoiding a qualified audit opinion.
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Audit inefficiencies
Documentation relating to inventories was not always made readily available to the auditors. This seems
to be due to poor administration by the client rather than a deliberate attempt to conceal information. The
report should contain a brief description of the problems encountered by the audit team. The management
should be made aware that significant delay to the receipt of necessary paperwork can cause inefficiencies
in the audit process. This may seem a relatively insignificant issue, but it could lead to an increase in audit
fee. Management should react to these comments by ensuring as far as possible that all requested
documentation is made available to the auditors in a timely fashion.
15. Solution
The definitions of ‗overall audit strategy‘ and ‗audit plan‘ are found in ISA 300 Planning an Audit of
Financial Statements.
The overall audit strategy sets the scope, timing and direction of the audit. Scope involves determining the
characteristics of the audit client, such as its locations, and the relevant financial reporting framework, as
these factors will help to establish the scale of the assignment. Timing refers to establishing deadlines for
completion of work and key dates for expected communications. Establishing the overall audit strategy
also includes the consideration of preliminary materiality, and initial identification of high risk areas
within the financial statements. All of these matters contribute to the assessment of the nature, timing and
extent of resources necessary to perform the engagement.
The overall audit strategy should then lead to the development of the audit plan.
The audit plan is more detailed than the audit strategy and includes a description of the risk assessment
procedures, and the further planned audit procedures necessary at the assertion level for gathering
evidence on the material transactions and balances in the financial statements. The general purpose of
developing the audit plan is to design audit procedures which will reduce audit risk to an acceptably low
level.
The difference between the audit strategy and the audit plan is therefore that the strategy is the initial
planning to ensure there will be adequate resources allocated to the audit assignment in response to an
initial evaluation of the entity‘s characteristics, whereas the audit plan is a detailed programme of audit
procedures.
The strategy will therefore usually be developed before the plan; however, the two activities should be
seen as inter-related, as changes in one may result in changes to the other. Both the strategy and the plan
should be fully documented as this represents the record of proper planning of the audit assignment.
16. Solution
Subsequent events are defined as those events occurring between the date of the financial statements and
the date of the auditor‘s report, and also facts discovered after the date of the auditor‘s report.
ISA 560 Subsequent Events differentiates the auditor‘s responsibilities in relation to subsequent events
depending on when the subsequent event occurs.
Events occurring up to the date of the auditor’s report
The auditor has an active duty to perform audit procedures designed to identify, and to obtain sufficient
appropriate evidence of all events up to the date of the auditor‘s report that may require adjustment of, or
disclosure in, the financial statements. These procedures should be performed as close as possible to the
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date of the auditor‘s report, and in addition, representations would be sought on the date that the report
was signed.
Procedures would include reviewing management procedures for ensuring that subsequent events are
identified, reading minutes of meetings of shareholders and management, reviewing the latest interim
financial statements, and making appropriate enquiries of management.
Where a material subsequent event is discovered, the auditor should consider whether management have
properly accounted for and disclosed the event in the financial statements in accordance with IAS 10
Events after the Reporting Period.
Facts discovered after the date of the auditor’s report but before the date the financial statements
are issued
The auditor does not have any responsibility to perform audit procedures or make any enquiry regarding
the financial statements or subsequent events after the date of the auditor‘s report. In this period, it is the
responsibility of management to inform the auditor of facts which may affect the financial statements.
When the auditor becomes aware of a fact which may materially affect the financial statements, the
matter should be discussed with management. If the financial statements are appropriately amended then
a new audit report should be issued, and procedures relating to subsequent events should be extended to
the date of the new audit report. If management do not amend the financial statements to reflect the
subsequent event, in circumstances where the auditor believes they should be amended, a qualified or
adverse opinion of disagreement should be issued.
Facts discovered after the financial statements have been issued

After the financial statements have been issued, the auditor has no obligation to make any enquiry
regarding the financial statements. However, the auditor may become aware of a fact which existed at the
date of the audit report, which if known at the date may have caused a modification to the auditor‘s
report. In this case, the matter should be discussed with management. This could result in the revision of
the financial statements, in which case the auditor should issue a new audit report on the revised financial
statements. This report should include an emphasis of matter paragraph referring to a note to the financial
statements in which the reason for the revision is fully discussed. If management do not revise the
financial statements, the auditor should take legal advice with the objective of trying to prevent further
reliance on the auditor‘s report.
17. Solution
i. The announcement of a restructuring after the reporting date is a non-adjusting event after the reporting
date, according to IAS 10 Events after the Reporting Period. This is because the event does not provide
evidence in relation to a condition that existed at the year end.
Materiality calculations in respect of the potential cost of closure are as follows:

Based on revenue: NRs. 250,000/15 million = 1·67%
Based on profit: NRs. 250,000/3 million = 8·3%
Based on assets: NRs. 250,000/80 million = <1%
Therefore this amount is material to the statement of comprehensive income.
As per IAS 10, a note should be provided to the financial statements, which describes the nature of the
event, and provides an estimate of the financial effect.
Audit procedures could include:
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 Review any potential note to financial statements which should disclose the non-adjusting event,
providing a brief description of the event, and an estimate of the financial effect.
 Discuss the reason for the restructuring with a member of key management personnel, and read
minutes of board meetings where the plan was discussed, in order to gain an understanding about the
reason for the restructuring.
 Verify the approval of the plan itself, and the approval of the announcement of the plan, which can be
performed through a review of board minutes.
 Confirm the date on which the plan was approved, and also the date of the announcement, using
supporting documentation such as press release, letters sent to employees, internal meetings held with
employees, etc.
 Obtain a copy of the announcement and review for details, particularly a description of the exact
nature of the restructuring, including the number of employees to be affected.
 Agree the NRs. 250,000 potential cost of closure to supporting documentation, including a schedule
showing the number and grade of staff to be made redundant, which should be supported by
payroll/contract details.
 Using the results of the discussion with management, assess the planned restructuring in the context
of the auditor‘s knowledge of the business, considering whether any further costs are likely to be
incurred.
ii. Actions to be taken by the auditor

If no note is provided to the financial statements, then there is a breach of IAS 10. In this case there is
insufficient disclosure provided in the notes to the financial statements regarding a material non-adjusting
event after the reporting date.
According to ISA 701 Modifications to the Independent Auditor‘s Report, in cases where the auditor is in
disagreement with management regarding the application of a financial reporting standard and where the
disagreement is material to the financial statements, the auditor should express a qualified or an adverse
opinion. Here, the matter is material (as discussed in (b) (i) above) but is not pervasive to the financial
statements, so a qualified ‗except for‘ opinion should be given.
The audit report should contain a paragraph which explains the reason for the qualification, specifying the
breach of accounting standards, and stating the relevant financial amount. It would also be best practice
for the auditor to clarify that the profit for the year is not affected by the breach of accounting standards,
and that the disagreement is solely due to inadequate disclosure in the notes to the financial statements.
The auditors should ensure that the matter, and the potential consequence for the audit report, has been
made known to those charged with governance. This will allow the highest level of management
(including executive and non-executive directors) the opportunity to discuss the matter, having reference
to all relevant facts of the disagreement and implications thereof.
Finally, the auditors could choose to raise this issue at the annual general meeting, where the matter
leading to the qualified audit opinion should be explained to the shareholders of the company.
18. Solution
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 NRs.
2,000,000, apportioned NRs. 100,000 to the reserve fund. As per Section 27(1), the minimum
appropriation to general reserve required is one fourth i.e., NRs. 187,500. So, the proposed appropriation
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is inadequate and hence the Cooperative is required to make appropriation of at least one fourth of the net
surplus.
Similarly approved dividend of NRs. 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 i.e., NRs. 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.
19. Solution
The reason for the proposed change in auditor should be ascertained via discussion with the directors. It is
possible that the reason may prevent acceptance of the nomination (e.g. the existing auditors intend to
qualify their opinion and your firm agrees with their view).
The permission of Surya Group must be sought in order to communicate with the existing auditors to
assess any reasons for not accepting the nomination. If permission is not granted, the nomination should
be declined.
The response of the existing auditors should be carefully considered, especially in the light of the reason
given by the directors. If the reasons differ, this will reflect upon the directors‘ integrity and, again, the
nomination should be declined.
Surya Group‘s reputation (employee relations, investigation by the authorities and any other adverse
opinions) will also impact on the assessment of the directors‘ integrity.
Auditor independence should not be in any doubt. For example, there should be no family or personal
relationships with key staffs at Surya Group, or beneficial shareholdings in Surya Group held by audit
staff.
If the existing audit clients have any relationships with Surya Group (e.g. competitor, supplier, customer)
a conflict of interest could arise. As a small firm (only four partners) appropriate safeguards may not be
feasible. The firm must also be careful not to become unduly dependent on the client. Furthermore, an
audit fee based on a percentage of profits would seem to detract from objectivity as it would be in the
auditors‘ interest to allow profits to be overstated. Even if the auditors would not allow this to happen, the
acceptance of an appointment with such a bonus would detract from the appearance of the objectivity.
Sufficient staff at the right time of year will be required to undertake the audit. Audit staff must be
sufficiently competent to deal with a listed company manufacturer and retailer. If the firm‘s expertise lies
in other market sectors this may not be the case.
If a flat fee is to be accepted, it should be fair & reasonable with regards to the level of staff needed on the
audit and times spent by them. If the fee is likely to be insufficient to cover such cost then this may give
the appearance to the outside world that a poor quality audit is being performed. The flat fee should also
leave the directors in no doubt as to the range of services being offered (i.e. statutory audit only).
Regardless of the integrity of the directors, Surya Group‘s poor reputation may affect the auditors‘
reputation and they might therefore not wish to be associated with such a company, as existing and
potential clients might be influenced by such adverse publicity.
20. Solution
A hot review is a review of working papers that is performed by a more senior member of staff during the
course of the audit, and is usually performed soon after the work is completed. The reviewer will indicate
that he has performed the review by dating and initialling the piece of work. The review should ensure
that the work has been performed in line with the audit programme and that the conclusions are consistent
with the results obtained.
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A cold review is one that is performed at the end of the audit- usually by the audit manager or partner.
This will be done before the audit report is signed off and will comprise a review of the whole file
together with the financial statements. The purpose of this review is to ensure that the audit work has been
fully completed and that the results conclusions for the entire audit are consistent.
21. Solution
a) Meaning of and relationship between

Materiality
Materiality is an expression of the relative significance or importance of a particular matter in the context
of financial statements as a whole. A matter is material if its omission or misstatement could influence the
economic decisions of users taken on the basis of the financial statements.
Materiality may also be considered in the context of any individual statements within the financial
statements or of individual items included in them (performance materiality)
Materiality is not capable of general mathematical definition as it has both qualitative & quantitative
aspects
True & Fair

The term ‗a true & fair view is not defined in a statute and it has therefore fallen to the auditing profession
to reach a reasoned and consistent interpretation of the term. Accounts should be true & fair if prepared in
accordance with recommended accounting policies.
Truth relates to factual accuracy and correctness of the financial statements. For example, the statement of
financial position should be an ‗accurate‘ reflection (within acceptable limits) of the company‘s assets and
liabilities at the year end.
Fairness relates to the presentation of information and the view conveyed to the reader. It is important that
information in the financial statements is presented in a manner that is free from bias and does not lead
the reader to any view that is not a reasonable reflection of the company‘s financial situation.
Relationship between materiality and true & fair
‗True & Fair‘ is a matter of professional judgement. Materiality is just one of the factors considered in
making such a judgement.
For example, if a company‘s actual revenue for a year of NRs. 2,200,000 was inaccurately stated (e.g. at
NRs. 2,200,000) the financial statements could still be judged ‗true & fair‘ as knowledge of the error
would not cause a reader of the financial statements to change his opinion of them (i.e. the misstatement
is not material).
Conversely, if a misstatement is judged to be material, the true and fair view is impaired.
Accounting standards are intended to give a true & fair view and need not be applied to immaterial items.
Where material, compliance with accounting standards will normally be necessary for financial
statements to give a true and fair view.
Effect on audit report
The audit opinion on the current year income statement/ statement of comprehensive income and
comparative income statement/statement of comprehensive income (closing inventories) and statement of
financial position (inventories) will be qualified (except for).
The qualification arises because of the auditor‘s inability to obtain sufficient appropriate evidence
(limitation on scope). It will not be a disclaimer of opinion as the item is not likely to be pervasive as well
as material.
The report will refer to how the scope of work has been limited.
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The opinion paragraph will state that except for adjustments that might be necessary to opening
inventories and/ or closing inventory comparatives; the financial statements show a true and fair view and
have been properly prepared.
Reasons
Comparatives are part of the audited financial statements.
In addition, last year‘s closing inventories become the current year‘s opening inventories and this affects
current year profits.
b) Effect on audit report

If the auditor assess that the contract is unlikely to be renewed and that, as a result, the company will no
longer be a going concern, a modified opinion is likely on the grounds of a material misstatement
(disagreement with the application of going concern concept). A qualified or adverse opinion would be
given.
If the auditor assesses that the going concern assumption is appropriate but a material uncertainty exists
and the directors have adequately disclosed the situation, an unmodified opinion would be given but an
emphasis of matter paragraph should be used to highlight the uncertainty and the note in the financial
statements disclosing it.
If the auditor assess that disclosures are inadequate for a true and fair view, an except for qualification
would be required on the grounds of a material misstatement (disagreement with disclosure).
If the auditors believe that the directors have not provided sufficient information and explanations on the
matter a qualified opinion (limitation on scope) may be required.
Reasons
Inventories may not be stated at lower of cost or NRV, as required by IAS 2.
There is some uncertainty as to whether the contract is a going concern, given the potential loss of over
half of their trade.
22. Solution
a)
Audit work Reasons
Damage Claim
Ask the directors how they propose to treat the The matter is potentially material even a claim
claim in the financial statements (and on what of just NRs. 650,000 represents 13% of trading
grounds) profit.
Inspect the invoice/ contract with the customer The customer‘s claim may be invalid if they
to ascertain the terms and conditions and were responsible for insurance or if high value
whether the antiques collection is identified items should have been specified.
Review correspondence with the customer and

In order to obtain consistent third party evidence
with solicitors and the accident report/damage
to support internal evidence.
record.
Examine company‘s own insurance policy The company may have its own insurance
documents. policy to cover such claims from customers.
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Enquire whether the damage was an isolated To ascertain whether there may be other similar
incident. claims for which provision is needed.
Overdraft Limit
If it is not possible to determine that the going

Ask the directors why they consider the
concern presumption is appropriate then there
company to be a going concern
will be an impact on the audit report.
The going concern presumption may not be

Review the current refurbishment program and appropriate if finance is not forthcoming to
related finance arrangement complete the refurbishment project (e.g. if the
company is unable to operate).
Review correspondence with the bank and The company should take steps to increase its
prospective lenders seeking additional borrowing facilities as long term investment
borrowing facilities cannot be sustained on an overdraft facility.
If the recent investment in new vehicles was for

Discuss with directors any alternative courses of
outright purchase, sale & leaseback may be
action to alleviate the cash flow problem
arranged to raise funds.
b) Letter of Representation Extracts

i) No provision is considered necessary in respect of a legal claim by the customer (Mr. X) for damage
to reproduction furniture. No amounts are expected to be paid, and no similar claims have been
received or are expected to be received.
ii) We confirm our considered view that the company has adequate resources to continue operations for
the foreseeable future (i.e. is a going concern). This conclusion has been reached based on forecast
expenditure and current & future borrowing arrangements.
23. Solution
Briefing notes
To: Audit partner

From: Audit manager
Subject: Audit planning for Nagarik Pharmaceuticals, year ending 31 Ashad 2073
Introduction
These briefing notes are prepared to assist in planning the audit of Nagarik Pharmaceuticals, our client
operating in the pharmaceutical industry. Specifically, the briefing notes will evaluate the business
risks facing our client, identify and explain four risks of material misstatement, recommend audit
procedures in relation to a new brand acquired during the year, and finally explain ethical threats to our
firm.
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e) Business risks
Licensing of products
A significant regulatory risk relates to the highly regulated nature of the industry in which the
company operates. If any of Nagarik Pharmaceuticals‘s products fail to be licensed for
development and sale, it would mean that costs already incurred are wasted. Research and
development costs are significant. For example, in 2072-73 the cash outflow in relation to
research and development amounted to 7.5% of revenue, and the failure to obtain the necessary
licences is a major threat to the company‘s business objectives.
Patent infringements
In developing new products and improving existing products, Nagarik Pharmaceuticals must be
careful not to breach any competitor‘s existing patent. In the event of this occurring, significant
legal costs could be incurred in defending the company‘s legal position. Time and effort must
be spent monitoring product developments to ensure legal compliance with existing patents.
Similarly, while patents serve to protect Nagarik Pharmaceuticals‘s products, if a competitor were
found to be in breach of one of the company‘s patents, costs of bringing legal action against that
company could be substantial.
Advertising regulations
The company risks running inappropriate advertising campaigns, and failing to comply with
local variations in regulatory requirements. For example, if television campaigns to promote
products occurred in countries where this is not allowed, the company could face fines and
reputational damage, with consequences for cash flow and revenue streams.
Skilled personnel
The nature of Nagarik Pharmaceuticals‘s operations demands a skilled workforce with the
necessary scientific knowledge to be able to develop new drugs. Loss of personnel, especially to
competitors in the industry, would be a drain on the remaining resources and in the worst case
scenario it could delay the development and launch of new products. It may be difficult to attract
and retain skilled staff given the pending court case and potential reputational damage to the
company.
Diversification and rapid growth

During the year Nagarik Pharmaceuticals has acquired a new brand name and range of products,
and has also diversified into a new market, that of animal health products. While diversification
has commercial and strategic advantages, it can bring risks. Management may struggle to deal with
the increased number of operations which they need to monitor and control, or they may focus so
much on ensuring the success of the new business segments that existing activities are neglected.
There may also be additional costs associated with the diversification which puts pressure on cash
and on the margins of the enlarged business. This may be the reason for the fall in operating profit
of 10.8% and for the decline in operating margin from 24% to 20%.
Cash flow and liquidity issues

Nagarik Pharmaceuticals seems to be struggling to maintain its cash position, as this year its
cash flow is negative by NRs. 1.2 million. Contributing factors to this will include the costs of
acquiring the ‗Cold Comforts‘ brand name, expenditure to launch the new animal-related product
line, and the cash outflow in relation to on-going research and development, which has increased by
7.1% in the year. The first two of these are one-off issues and may not create a cause for
concern over long-term cash management issues, but the company must be careful to maintain a
positive cash inflow from its operating activities to provide a sound foundation for future activities.
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Companies operating in this industry must be careful to manage cash flows due to the nature of the
product lifecycle, meaning that large amounts have to be expended long before any revenue is
generated, in some cases the time lag may be many years before any cash inflow is derived from
expenditure on research activities.
The fact that the company has approached its bank to make cash available in the event of damages
of NRs. 3 million having to be paid out indicates that the company is not very liquid, and is relying
to some degree on external finance. If the bank refuses to extend existing borrowing facilities,
the company may have to find finance from other sources, for example, from an alternative
external provider of funds or from an issue of equity shares, which may be difficult to achieve and
expensive. The company has relatively high gearing, which may deter potential providers of finance
or discourage potential equity investors. If finance is refused, the company may not be able to pay
liabilities as they fall due, and other operational problems may arise, for example, an inability to
continue to fund in-progress research and development projects. Ultimately this would result in a
going concern problem, though much more information is needed to assess if this is a risk at this
yearend.
Court case and bad publicity

The court case against the company will create reputational damage, and publicity over people
suffering side effects while participating in clinical trials will undoubtedly lead to bad
publicity, affecting market share especially if competitors take advantage of the situation. It is
also likely that the bad publicity will lead to increased scrutiny of the company‘s activities making
it more vulnerable should further problems arise.
Risk of overtrading
The fall in operating margin and earnings per share is a worrying sign for shareholders, though for
the reasons explained above this may not be the start of a long-term trend as several events in this
year have put one-off pressure on margins.
However, there could be a risk of overtrading, as the company‘s revenue has increased by 5.2%.
f) Risks of material misstatement

Inherent risk of management bias
Nagarik Pharmaceuticals‘s management is attempting to raise finance, and the bank will use its
financial statements as part of their lending decision. There is therefore pressure on management to
present a favourable position. This may lead to bias in how balances and transactions are measured
and presented. For example, there is a risk that earnings management techniques are used to
overstate revenue and understate expenses in order to maximise the profit recognised. Estimates
included in the financial statements are also subject to higher risk. ISA 540 Auditing Accounting
Estimates, Including Fair Value Accounting Estimates, and Related Disclosures states that auditors
shall review the judgements and decisions made by management in the making of accounting
estimates to identify whether there are indicators of management bias.
Research and development costs – recognition

There is a significant risk that the requirements of IAS 38 Intangible Assets have not been followed.
Research costs must be expensed and strict criteria must be applied to development expenditure to
determine whether it should be capitalised and recognised as an intangible asset. Development costs
are capitalised only after technical and commercial feasibility of the asset for sale or use have been
established, and Nagarik Pharmaceuticals must demonstrate an intention and ability to complete
the development and that it will generate future economic benefits. The risk is that research costs
have been inappropriately classified as development costs and then capitalised, overstating assets
and understating expenses.
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A specific risk relates to the drug which was being developed but in relation to which there have
been side effects during the clinical trials. It is unlikely that the costs in relation to this product
development continue to meet the criteria for capitalisation, so there is a risk that they have not
been written off, overstating assets and profit.
Development costs – amortisation

When an intangible asset has a finite useful life, it should be amortised systematically over that life.
For a development asset, the amortisation should correspond with the pattern of economic benefits
generated from the sale of associated goods. The risk is that the amortisation period has not been
appropriately assessed. For example, if a competitor introduces a successful rival product which
reduces the period over which Nagarik Pharmaceuticals‘s product will generate economic
benefit, this should be reflected in a reduction in the period over which that product is amortised,
resulting in an increased amortisation charge. The risk if this does not happen is that assets are
overstated and expenses are understated.
Patents – recognition and amortisation

The cost of acquiring patents for products should be capitalised and recognised as an intangible
asset as the patent provides protection over the economic benefit to be derived. If patent costs have
been expensed rather than capitalised, this would understate assets and overstate expenses. Once
recognised, patents should be amortised over the period of their duration, and non-amortisation will
overstate assets and understate expenses.
Court case – provisions and contingent liabilities

The court case which has been brought against Nagarik Pharmaceuticals may give rise to a present
obligation as a result of a past event, and if there is a probable outflow of economic benefit which
can be measured reliably, then a provision should be recognised.
The clinical trial took place in 2071-72, so the obligating event has occurred. Depending on the
assessment of probability of the case going against Nagarik Pharmaceuticals, it may be that instead
of a provision, a contingent liability exists. This would be the case if there is a possible, rather than
probable, outflow of economic benefit. The risk is that either a necessary provision is not
recognised, understating liabilities and expenses, or that a contingent liability is not appropriately
disclosed in the notes to the financial statements, in accordance with IAS 37 Provisions, Contingent
Liabilities and Contingent Assets.
Legal fees relating to the court case should also be accrued if they have been incurred before the
year end, and failure to do so will understate current liabilities and understate expenses.
Segmental reporting
The diversification into the new product area relating to animal health may warrant separate
disclosure according to IFRS 8 Operating Segments. This requires listed companies to disclose in a
note to the financial statements the performance of the company disaggregated over its operating or
geographical segments, as the information is viewed by management. As the new product area has
been successful and contributes 15% to revenue, it could be seen as a significant operating segment,
and disclosure of its revenue, profit and other figures may be required. The risk is non-disclosure or
incomplete disclosure of the necessary information.
g) Recommended audit procedures

 Review board minutes for evidence of discussion of the purchase of the acquired brand, and for
its approval.
 Agree the cost of NRs. 5 million to the company‘s cash book and bank statement.
 Obtain the purchase agreement and confirm the rights of Nagarik Pharmaceuticals in respect of
the brand.
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 Discuss with management the estimated useful life of the brand of 15 years and obtain
an understanding of how 15 years has been determined as appropriate.
 If the 15-year useful life is a period stipulated in the purchase document, confirm to the terms
of the agreement.
 If the 15-year useful life is based on the life expectancy of the product, obtain an understanding
of the basis for this, for example, by reviewing a cash flow forecast of sales of the product.
 Obtain any market research or customer satisfaction surveys to confirm the existence of a
revenue stream.
 Consider whether there are any indicators of potential impairment at the yearend by
obtaining pre year-end sales information and reviewing terms of contracts to supply the
products to pharmacies.
 Recalculate the amortisation expense for the year and agree the charge to the financial
statements, and confirm adequacy of disclosure in the notes to the financial statements.
h) Ethical threats
There are two ethical threats relevant to the audit firm.
First, the bank has asked our firm to provide a guarantee in respect of the bank loan which may be
advanced to our client. The provision of such a guarantee represents a financial interest in an audit
client, and creates a self-interest threat because the audit firm has an interest in the financial
position of the client, causing loss of objectivity when auditing the financial statements.
According to Code of Ethics for Professional Accountants (the Code), if an audit firm guarantees a
loan to an audit client, the self-interest threat created would be so significant that no safeguards
could reduce the threat to an acceptable level unless the loan or guarantee is immaterial to both the
audit firm and the client. In this case the loan would be material as it represents 5% of Nagarik
Pharmaceuticals‘s total assets, and would also be considered material in nature because of the
company‘s need for the additional finance.
The second threat relates to Nagarik Pharmaceuticals‘s request for our firm to provide advice on
the new accounting and management information systems to be implemented next year. If the
advice were given, it would constitute the provision of a non-assurance service to an audit
client. The Code has detailed guidance in this area and specific requirements in the case of a public
interest entity such as Nagarik Pharmaceuticals which is a listed entity.
The Code states that services related to IT systems including the design or implementation of
hardware or software systems may create a self-review threat. This is because when auditing the
financial statements the auditor would assess the systems which they had recommended, and an
objective assessment would be difficult to achieve. There is also a risk of assuming the
responsibility of management, especially as Nagarik Pharmaceuticals has little experience in this
area, so would rely on the auditor‘s suggestions and be less inclined to make their own decision.
In the case of an audit client which is a public interest entity, the Code states that an audit firm shall
not provide services involving the design or implementation of IT systems which form a
significant part of the internal control over financial reporting or which generate information
which is significant to the client‘s accounting records or financial statements on which the firm will
express an opinion.
Therefore the audit firm should not provide a service to give advice on the accounting systems.
With further clarification on the nature of the management information systems and the update
required to them, it may be possible for the audit firm to provide a service to Nagarik
Pharmaceuticals, as long as those systems are outside of the financial reporting system. However, it
may be prudent for the audit firm to decline offering any advice on systems to the client.
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These ethical issues should be discussed with those charged with governance of Nagarik
Pharmaceuticals, with an explanation provided as to why the audit firm cannot guarantee the loan
or provide the non-audit service to the company.
Conclusion
Nagarik Pharmaceuticals faces a variety of business risks, some of which are generic to the industry
in which it operates, while others are more entity-specific. A number of risks of material
misstatement have been discussed, and the audit planning must ensure that appropriate responses
are designed for each of them. The purchase of a new brand will necessitate detailed audit testing.
Two ethical issues have been raised by requests from the client for our firm to provide a loan
guarantee and to provide advice on systems, both of which create significant threats to
independence and objectivity, and the matters must be discussed with the client before advising that
we are unable to provide the guarantee or to provide the systems advice.
24. Solution
d) Measurement of goodwill on acquisition

The goodwill arising on the acquisition of Basera Co is material to the Group financial statements,
representing 6% of total assets.
The goodwill should be recognised as an intangible asset and measured according to IAS 38 Intangible
Assets and IFRS 3 Business Combinations. The purchase consideration should reflect the fair value of
total consideration paid and payable, and there is a risk that the amount shown in the calculation is
not complete, for example, if any deferred or contingent consideration has not been included.
The non-controlling interest has been measured at fair value. This is permitted by IFRS 3, and the
decision to measure at fair value can be made on an investment by investment basis. The important issue
is the basis for measurement of fair value. If Basera Co is a listed company, then the market value of its
shares at the date of acquisition can be used and this is a reliable measurement. If Basera Co is not listed,
then management should have used estimation techniques according to the fair value hierarchy of inputs
contained in IFRS 13 Fair Value Measurement. This would introduce subjectivity into the measurement
of non-controlling interest and goodwill and the method of determining fair value must be clearly
understood by the auditor.
The net assets acquired should be all identifiable assets and liabilities at the date of acquisition.
For such a significant acquisition some form of due diligence investigation should have been performed,
and one of the objectives of this would be to determine the existence of assets and liabilities, even those
not recognised in Basera Co‘s individual financial statements. There is a risk that not all acquired
assets and liabilities have been identified, or that they have not been appropriately measured at
fair value, which would lead to over or understatement of goodwill and incomplete recording of
assets and liabilities in the consolidated financial statements.
The fair value adjustment of NRs. 300,000 made in relation to Basera Co‘s property is not material
to the Group accounts, representing less than 1% of total assets. However, the auditor should confirm
that additional depreciation is being charged at Group level in respect of the fair value uplift. Though the
value of the depreciation would not be material to the consolidated financial statements, for completeness
and accuracy the adjustment should be made.
The auditor should also consider if any further adjustments need to be made to Basera Co‘s net assets to
ensure that Group accounting policies have been applied. IFRS 3 requires consistency in accounting
policies across Group members, so if the necessary adjustments have not been made, the assets and
liabilities will be over or understated on consolidation.
Impairment
IAS 38 requires that goodwill is tested annually for impairment regardless of whether indicators of
potential impairment exist. The goodwill in relation to Basera Co is recognised at the same amount at the
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year-end as it was at acquisition, indicating that no impairment has been recognised. It could be that
management has performed an impairment review and has concluded that there is no impairment, or
that no impairment review has been performed at all.
However, Group profit has declined by 30·3% over the year, which in itself is an indicator of potential
impairment of the Group‘s assets, so it is unlikely that no impairment exists unless the fall in revenue
relates to parts of the Group‘s activities which are unrelated to Basera Co. There is a risk that Group
assets are overstated and profit overstated if any necessary impairment has not been recognised.
Loan
The loan is material, representing 13.3% of the Group‘s total assets.
The loan taken out to finance the acquisition should be accounted for under IFRS 9 Financial Instruments.
It should be initially measured at fair value, and classified according to whether it is subsequently
measured at amortised cost or at fair value. As the loan is not held for trading, it should be measured at
amortised cost unless Group management decides to use the fair value option.
Assuming subsequent measurement is based on amortised cost, an effective interest rate should be
calculated to allocate the premium to be paid on maturity over the 20-year life of the loan, meaning that
the annual finance charge will be more than just the actual interest paid. There is a risk that the finance
charge does not include an element relating to the premium, in which case both the finance charge and the
liability are understated.
Evidence:
 Agreement of the purchase consideration to the legal documentation pertaining to the acquisition, and
a review of the documents to ensure that the figures included in the goodwill calculation are
complete.
 Agreement of the NRs. 75 million to the bank statement and cash book of the acquiring company
(presumably the parent company of the Group).
 Review of board minutes for discussions relating to the acquisition, and for the relevant minute of
board approval.
 A review of the purchase documentation and a register of significant shareholders of Basera Co to
confirm the 20% non-controlling interest.
 If Basera Co‘s shares are not listed, a discussion with management as to how the fair value of the
non-controlling interest has been determined and evaluation of the appropriateness of the method
used.
 If Basera Co‘s shares are listed, confirmation that the fair value of the non-controlling interest has
been calculated based on an externally available share price at the date of acquisition.
 A copy of any due diligence report relevant to the acquisition, reviewed for confirmation of acquired
assets and liabilities and their fair values.
 An evaluation of the methods used to determine the fair value of acquired assets, including the
property, and liabilities to confirm compliance with IFRS 3 and IFRS 13.
 Review of depreciation calculations, and recalculation, to confirm that additional depreciation is
being charged on the fair value uplift.
 A review of the calculation of net assets acquired to confirm that Group accounting policies have
been applied.
 Discussion with management regarding the potential impairment of Group assets and confirmation as
to whether an impairment review has been performed.
 A copy of any impairment review performed by management, with scrutiny of the assumptions used,
and re-performance of calculations.
 Re-performance of management‘s calculation of the finance charge in relation to the loan, to
ensure that the loan premium has been correctly accrued.
 Agreement of the loan receipt and interest payment to bank statement and cash book.
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 Review of board minutes for approval of the loan to be taken out.
 A copy of the loan agreement, reviewed to confirm terms including the maturity date, premium to be
paid on maturity and annual interest payments.
 A copy of the note to the financial statements which discusses the loan to ensure all requirements of
IFRSs 7 and 13 have been met.
e) Property complex
The carrying value of the property complex is material to the Group financial statements, representing
3.6% of total assets.
The natural disaster is a subsequent event, and its accounting treatment should be in accordance with IAS
10 Events after the Reporting Period. IAS 10 distinguishes between adjusting and non-adjusting events,
the classification being dependent on whether the event provides additional information about conditions
already existing at the year end. The natural disaster is a non-adjusting event as it indicates a condition
which arose after the year end.
Disclosure is necessary in a note to the financial statements to describe the impact of the natural disaster,
and quantify the effect which it will have on next year‘s financial statements.
The demolition of the property complex should be explained in the note to the financial statements and
reference made to the monetary amounts involved. Consideration should be made of any other costs
which will be incurred, e.g. if there is inventory to be written off, and the costs of the demolition itself.
The contingent asset of NRs.18 million should not have been recognised. Even if the amount were
virtually certain to be received, the fact that it relates to the non-adjusting event after the reporting period
means that it cannot be recognised as an asset and deferred income at the year end.
The financial statements should be adjusted to remove the contingent asset and the deferred income. The
amount is material at 4% of total assets. There would be no profit impact of this adjustment as the NRs.
18 million has not been recognised in the statement of profit or loss.
Evidence:
 A copy of any press release made by the Group after the natural disaster, and relevant media reports
of the natural disaster, in particular focusing on its impact on the property complex.
 Photographic evidence of the site after the natural disaster, and of the demolished site.
 A copy of the note to the financial statements describing the event, reviewed for completeness and
accuracy.
 A schedule of the costs of the demolition, with a sample agreed to supporting documentation, e.g.
invoices for work performed and confirmation that this is included in the costs described in the note
to the financial statements.
 A schedule showing the value of inventories and items such as fixtures and fittings at the time
of the disaster, and confirmation that this is included in the costs described in the note to the financial
statements.
 A copy of the insurance claim and correspondence with the Group‘s insurers to confirm that the
property is insured.
 Confirmation that an adjustment has been made to reverse out the contingent asset and deferred
income which has been recognised.
f) Intercompany trading
The intercompany receivables and payables represent 4.4% of Group assets and are material to the
consolidated statement of financial position. The inventory is also material, at 11% of Group assets.
On consolidation, the intercompany receivables and payables balances should be eliminated, leaving only
balances between the Group and external parties recognised at Group level. There is a risk that during the
consolidation process the elimination has not happened, overstating Group assets and liabilities by the
same amount.
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If the intercompany transaction included a profit element, then the inventory needs to be reduced in value
by an adjustment for unrealised profit. This means that the profit made by Ishara Co on the sale of any
inventory still remaining in the Group at the year-end is eliminated. If the adjustment has not been made,
then inventory and Group profit will be overstated.
Evidence:
 Review of consolidation working papers to confirm that the intercompany balances have been
eliminated.
 A copy of the terms of sale between Ishara Co and Tishara Co, scrutinised to find out if a profit
margin or mark-up is part of the sales price.
 A reconciliation of the intercompany balances between Tishara Co and Ishara Co to confirm that
there are no other reconciling items to be adjusted, e.g. cash in transit or goods in transit.
 Copies of inventory movement reports for the goods sold from Ishara Co to Tishara Co, to determine
the quantity of goods transferred.
 Details of the inventory count held at Tishara Co at the year end, reviewed to confirm that no other
intercompany goods are held at the year end.
25. Solution
Additional information needed to plan the audit of land includes the following:
 Details of the reason for the purchase, to understand the business rationale, e.g. is the land
held for capital appreciation?
 Does management have any specific plans for how Faster Jets Co may make use of the land in the
future, e.g. are there plans to construct buildings and if so what will be their purpose?
 The date of purchase to ascertain how long it has taken for the land to increase in value by NRs. 2
million and whether this seems reasonable.
 Whether the land was purchased for cash or if finance was taken out to raise the NRs. 12.5 million
paid.
 Who is renting the land? This could establish whether the arrangement is with a related party.
 The type of rental arrangement and whether it constitutes a finance or operating lease.
 What is the land being used for? As the legal owner, Faster Jets Co should be aware of its use and any
associated risks, e.g. activities close to airports may convey security risks, e.g. terrorism.
 The location of the purchased land – this is necessary to plan the logistics of the audit.
 Does the company hold any other investment property, and if so, is that also held at fair value? The
accounting treatment should be consistent for all investment property.
 What is management‘s rationale for the accounting policy choice to measure the land at fair value? It
will result in profit for the year including the NRs.2 million fair value increase.
 Establish who holds the title deeds to the land as this may need to be inspected.
26. Solution
Matters to consider before placing reliance on the work of the auditor’s expert
ISA 620 Using the Work of an Auditor‘s Expert contains requirements relating to the objectivity and
capabilities of the auditor‘s expert, the scope and objectives of their work, and assessing their work.
Objectivity
According to ISA 620, the auditor shall evaluate whether the auditor‘s expert has the necessary
objectivity and that this should include inquiry regarding interests and relationships which may create a
threat to the expert‘s objectivity. The audit firm will need to ensure that the expert has no connection to
Soma Air, for example, that they are not a related party of the company or any person in a position of
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influence over the financial statements. If the expert‘s objectivity is threatened, less reliance can be placed
on their work.
Competence
ISA 620 also requires the competence of the expert to be considered; this should include
considering the expert‘s membership of appropriate professional bodies. Any doubts over the
competence of the expert will reduce the reliability of audit evidence obtained. The expert should in this
case have experience in valuing land, and be familiar with the framework for measuring fair value in
accordance with IAS 40 Investment Property and IFRS 13 Fair Value Measurement.
Scope of work
ISA 620 requires the auditor to agree the scope of work with the expert. This may include agreement of
the objectives of the work, how the expert‘s work will be used by the auditor and the methodology and
key assumptions to be used.
In assessing the work performed by the expert, the auditor should confirm that the scope of the work is as
agreed at the start of the engagement. If the expert has deviated from the agreed scope of work, it is
likely to be less relevant and reliable.
Relevance of conclusions
ISA 620 states that the auditor shall evaluate the relevance and adequacy of the expert‘s findings or
conclusions. This will involve consideration of the source data which was used, the appropriateness of
assumptions and the reasons for any changes in methodology or assumptions. The conclusion should be
consistent with other relevant audit findings and with the auditor‘s general understanding of the business.
Any inconsistencies should be investigated as they may indicate evidence which is not reliable.
27. Solution
Ethical threats created by long association of senior audit personnel and relevant safeguards
When a senior auditor acts for an audit client for a long period, several ethical problems can arise. First,
the professional scepticism of the auditor can be diminished. This happens because the auditor becomes
too accepting of the client‘s methods and explanations, so stops approaching the audit with a questioning
mind.
Familiarity and self-interest threats are created by using the same senior personnel on an audit
engagement over a long period of time. The familiarity threat is linked to the issues relating to the
loss of professional scepticism discussed above, and is due to the senior auditor forming a close
relationship with the client‘s personnel over a long period of time.
As with any ethical threat, the significance of the threat should be evaluated and safeguards which reduce
the threat to an acceptable level put in place. Matters which should be considered in evaluating the
significance of the ethical threat could include the seniority of the auditor involved, the length of time
they have acted for the client, the nature, frequency and extent of the individual‘s interactions with the
client‘s management or those charged with governance and whether the client‘s management team
has changed.
Examples of safeguards which can be used include:

 Rotating the senior personnel off the audit team;
 Having a professional accountant who was not a member of the audit team review the work of the
senior personnel; or
 Regular independent internal or external quality control reviews of the engagement.
28. Solution
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Quality control, ethical and other issues raised

It is a requirement of ISA 520 Analytical Procedures that analytical procedures are performed at the
overall review stage of the audit. An objective of ISA 520 is that the auditor should design and perform
analytical procedures near the end of the audit which assist the auditor when forming their opinion as
to whether the financial statements are consistent with the auditor‘s understanding of the entity.
It is unlikely that the audit senior‘s ‗quick look‘ at Ambu Steel Co‘s financial statements is adequate to
meet the requirements of ISA 520 and audit documentation would seem to be inadequate. Therefore if the
audit senior, or another auditor, does not perform a detailed analytical review on Ambu Steel Co.‘s
financial statements as part of the completion of the audit, there is a breach of ISA 520. Failing to perform
the final analytical review could mean that further errors are not found, and the auditor will not be able to
check that the presentation of the financial statements conforms to the requirements of the applicable
financial reporting framework. It is also doubtful whether a full check on the presentation and disclosure
in the financial statements has been made. The firm should evidence this through the use of a disclosure
checklist.
The lack of final analytical review increases audit risk. Because Ambu Steel Co. is a new audit client, it is
particularly important that the analytical review is performed as detection risk is higher than for
longer-standing audit engagements where the auditor has developed a cumulative knowledge of the
audit client.
The fact that the audit manager suggested that a detailed review was not necessary shows a lack
of knowledge and understanding of ISA requirements. An audit client being assessed as low risk does
not negate the need for analytical review to be performed, which the audit manager should know.
Alternatively, the audit manager may have known that analytical review should have been performed, but
regardless of this still instructed the audit senior not to perform the review, maybe due to time pressure.
The audit manager should be asked about the reason for his instruction and given further training if
necessary.
The manager is not providing proper direction and supervision of the audit senior, which goes
against the principles of ISA 220 Quality Control for an Audit of Financial Statements, and ISQC1
Quality Control for Firms that Perform Audits and Reviews of Financial Statements and other
Assurance and Related Services Engagements. Both of these discuss the importance of the audit team
having proper direction and supervision as part of ensuring a good quality of audit engagement
performance.
The second issue relates to the chairman‘s statement. ISA 720 The Auditor‘s Responsibilities Relating to
Other Information in Documents Containing Audited Financial Statements requires that the auditor shall
read the other information to identify material inconsistencies, if any, with the audited financial
statements.
The audit manager has discussed the chairman‘s statement but this does not necessarily mean that the
manager had read it for the purpose of identifying potential misstatements, and it might not have been
read at all. Even if the manager has read the chairman‘s statement, there may not be any audit
documentation to show that this has been done or the conclusion of the work. The manager needs to be
asked exactly what work has been done, and what documentation exists. As the work performed does not
comply with the ISA 720 requirements, then the necessary procedures must be performed before the audit
report is issued.
Again, the situation could indicate the audit manager‘s lack of knowledge of ISA requirements, or that a
short-cut is being taken. In either case the quality of the audit is in jeopardy.
29. Solution
iii. Evaluation of Uncorrected Misstatements

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During the completion stage of the audit, the effect of uncorrected misstatements must be evaluated by
the auditor, as required by ISA 450 Evaluation of Misstatements Identified during the Audit. In the event
that management refuses to correct some or all of the misstatements communicated by the auditor, ISA
450 requires that the auditor shall obtain an understanding of management‘s reasons for not making the
corrections and shall take that understanding into account when evaluating whether the financial
statements as a whole are free from material misstatement. Therefore a discussion with management
is essential in helping the auditor to form an audit opinion.
ISA 450 also requires that the auditor shall communicate with those charged with governance
about uncorrected misstatements and the effect that they, individually or in aggregate, may have on the
opinion in the auditor‘s report.
Each of the matters included in the schedule of uncorrected misstatements will be discussed below and
the impact on the audit report considered individually and in aggregate.
Share-based payment scheme

The adjustment in relation to the share-based payment scheme is material individually to profit,
representing 12% of revenue. It represents less than 1% of total assets and is not material to the statement
of financial position.
IFRS 2 Share-based Payment requires an expense and a corresponding entry to equity to be recognised
over the vesting period of a share-based payment scheme, with the amount recognised based on the fair
value of equity instruments granted. Management‘s argument that no expense should be recognised
because the options are unlikely to be exercised is not correct. IFRS 2 would classify the fall in Ambu
Steel Co.‘s share price as a market condition, and these are not relevant to determining whether an
expense is recognised or the amount of it.
Therefore management should be requested to make the necessary adjustment to recognise the expense
and entry to equity of NRs. 300,000. If this is not recognised, the financial statements will contain
a material misstatement, with consequences for the auditor‘s opinion.
Restructuring provision
The adjustment in relation to the provision is material to profit, representing 2% of revenue. It represents
less than 1% of total assets so is not material to the statement of financial position.
The provision appears to have been recognised too early. IAS 37 Provisions, Contingent Liabilities and
Contingent Assets requires that for a restructuring provision to be recognised, there must be a present
obligation as a result of a past event, and that is only when a detailed formal plan is in place and the entity
has started to implement the plan, or announced its main features to those affected. A board decision is
insufficient to create a present obligation as a result of a past event. The provision should be recognised in
September 2014 when the announcement to employees was made.
Management should be asked to explain why they have included the provision in the financial statements,
for example, there may have been an earlier announcement before 31 August 2014 of which the auditor is
unaware.
In the absence of any such further information, management should be informed that the accounting
treatment of the provision is a material misstatement, which if it remains unadjusted will have
implications for the auditor‘s opinion.
Inventory provision
The additional slow-moving inventory provision which the auditor considers necessary is not material on
an individual basis to either profit or to the statement of profit or loss or the statement of financial
position, as it represents only 0.4% of revenue and less than 1% of total assets.
Despite the amount being immaterial, it should not be disregarded, as the auditor should consider the
aggregate effect of misstatements on the financial statements. ISA 450 does state that the auditor need not
accumulate balances which are ‗clearly trivial‘, by which it means that the accumulation of such amounts
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clearly would not have a material effect on the financial statements. However, at 0·4% of revenue the
additional provision is not trivial, so should be discussed with management.
This misstatement is a judgemental misstatement as it arises from the judgements of management
concerning an accounting estimate over which the auditor has reached a different conclusion. This is not
a breach of financial reporting standards, but a difference in how management and the auditor have
estimated an uncertain amount. Management should be asked to confirm the basis on which their estimate
was made, and whether they have any reason why the provision should not be increased by the amount
recommended by the auditor.
If this amount remains unadjusted by management, it will not on an individual basis impact the auditor‘s
report.
iv. Impact on auditor’s report

Aggregate materiality position
In aggregate, the misstatements have a net effect of NRs. 260,000 (NRs. 310,000 – NRs. 50,000),
meaning that if left unadjusted, profit will be overstated by NRs. 260,000 and the statement of financial
position overstated by the same amount. This is material to profit, at 10.4% of revenue, but is not material
to the statement of financial position at less than 1% of total assets.
Impact on auditor’s report

The statement of profit or loss is materially misstated if the adjustments are not made by management.
According to ISA 705 Modifications to the Opinion in the Independent Auditor‘s Report, the auditor shall
modify the opinion in the auditor‘s report when the auditor concludes that, based on the audit evidence
obtained, the financial statements as a whole are not free from material misstatement.
The type of modification depends on the significance of the material misstatement. In this case, the
misstatements in aggregate are material to the financial statements, but are unlikely to be considered
pervasive even though they relate to a number of balances in the financial statements as they do not
represent a substantial proportion of the financial statements, and do not make them misleading when
viewed as a whole. If that were the case, the opinion would be adverse in nature.
Therefore a qualified opinion should be expressed, with the auditor stating in the opinion that except for
the effects of the matters described in the basis for qualified opinion paragraph, the financial statements
show a true and fair view.
The basis for qualified opinion paragraph should be placed immediately before the opinion
paragraph, and should contain a description of the matters giving rise to the qualification. This should
include a description and quantification of the financial effects of the misstatement.
30. Solution
Consultation
It may not be possible to hold extensive consultations on specialist issues within a small firm, due to a
lack of specialist professionals. There may be a lack of suitably experienced peers to discuss issues
arising on client engagements. Arrangements with other practices for consultation may be necessary.
Where special skills are needed within an engagement; the skills may be bought in, for example, by
seconding staff from another practice. Alternatively if work is too specialised for the firm, the work could
be sub-contracted to another practice.
Review procedures
It may not be possible to hold an independent review of an engagement within the firm due to the small
number of senior and experienced auditors. In this case an external review service may be purchased.
The firm may lack resources to establish an in-house set of audit manuals or standard working papers. In
this case documentation can be provided by external firms or professional bodies.
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31. Solution
Forensic accounting utilises accounting, auditing, and investigative skills to conduct an examination into
a company‘s financial statements. The aim of forensic accounting is to provide an accounting analysis
that is potentially suitable for use in court. Forensic accounting is an umbrella term encompassing both
forensic investigations and forensic audits. It includes the audit of financial information to prove or
disprove a fraud, the interview process used during an investigation, and the act of serving as an expert
witness.
Specifically it is the process of gathering, analysing and reporting on data for the purpose of finding facts
and/or evidence in the context of financial/legal disputes and/or irregularities. The forensic accountant
will also give preventative advice based on evidence gathered. This advice is based usually on
recommendations to improve the internal control systems to prevent and detect fraud.
Forensic investigation is a process whereby a forensic accountant carries out procedures to gather
evidence, which could ultimately be used in legal proceedings or to settle disputes. This could include, for
example, an investigation into money laundering. A forensic investigation involves many stages (similar
to an audit), including planning, evidence gathering, quality control reviews, and finally results in the
production of a report.
Forensic auditing is the specific use of audit procedures within a forensic investigation to find facts and
gather evidence, usually focused on the quantification of a financial loss. This could include, for example,
the use of analytical procedures, and substantive procedures to determine the amount of an insurance
claim.
32. Solution
The relevance here is that the Woodland Furniture is likely to hire a consultant to provide a forensic
accounting service. The investigation will consider two issues – firstly whether the fraud actually
happened, and secondly, if a fraud has taken place, the financial value of the fraud. The investigation
should determine who has perpetrated the fraud, and collect evidence to help prosecute those involved in
the deception.
In this case the suspicion that inventory is being stolen should be investigated, as there could be other
reasons for the discrepancy found in the inventory records. For example, the discrepancy could be caused
by:
 Obsolete or damaged inventory thrown away but not eliminated from the inventory records
 Despatches from the warehouse not recorded in the inventory management system
 Incoming inventory being recorded incorrectly (e.g. recorded twice in the inventory management
system)
 Inventory being held at a separate location and therefore not included in the count.
If it is found that thefts have taken place, then the forensic accountant should gather evidence to:
 Prove the identity of the persons involved
 Quantify the value of inventory taken.
The evidence gathered could be used to start criminal proceedings against those found to have been
involved in the fraud.
33. Solution
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Balances held at fair value are frequently recognised as material items in the statement of financial
position. Sometimes it is required by the financial reporting framework that the measurement of an asset
or liability is at fair value, e.g. certain categories of financial instruments, whereas it is sometimes the
entity‘s choice to measure an item using a fair value model rather than a cost model, e.g. properties. It is
certainly the case that many of these balances will be material, meaning that the auditor must obtain
sufficient appropriate evidence that the fair value measurement is in accordance with the requirements of
financial reporting standards. ISA 540 Auditing Accounting Estimates Including Fair Value Accounting
Estimates and Related Disclosures and ISA 545 Auditing Fair Value Measurements and Disclosures
contain guidance in this area.
As part of the understanding of the entity and its environment, the auditor should gain an insight into
balances that are stated at fair value, and then assess the impact of this on the audit strategy. This will
include an evaluation of the risk associated with the balance(s) recognised at fair value.
Audit risk comprises three elements; each is discussed below in the context of whether material balances
shown at fair value will lead to increased risk for the auditor.
Inherent risk
Many measurements based on estimates, including fair value measurements, are inherently imprecise and
subjective in nature. The fair value assessment is likely to involve significant judgments, e.g. regarding
market conditions, the timing of cash flows, or the future intentions of the entity. In addition, there may
be a deliberate attempt by management to manipulate the fair value to achieve a desired aim within the
financial statements, in other words to attempt some kind of window dressing.
Many fair value estimation models are complicated, e.g. discounted cash flow techniques, or the actuarial
calculations used to determine the value of a gratuity fund etc. In addition to the complexities, some fair
value measurement techniques will contain significant assumptions, e.g. the most appropriate discount
factor to use, or judgments over the future use of an asset. Management may not always have sufficient
experience and knowledge in making these judgments.
Thus the auditor should approach some balances recognised at fair value as having a relatively high
inherent risk, as their subjective and complex nature means that the balance is prone to contain an error.
However, the auditor should not just assume that all fair value items contain high inherent risk. Each
balance recognised at fair value should be assessed for its individual level of risk.
Control risk
The risk that the entity‘s internal monitoring system fails to prevent and detect valuation errors needs to
be assessed as part of overall audit risk assessment. One problem is that the fair value assessment is likely
to be performed once a year, outside the normal accounting and management systems, especially where
the valuation is performed by an external specialist. Therefore, as a non-routine event, the assessment of
fair value is likely not to have the same level of monitoring or controls as a day-to-day business
transaction.
However, due to the material impact of fair values on the statement of financial position, and in some
circumstances on profit, management may have made great effort to ensure that the assessment is highly
monitored and controlled. It therefore could be the case that there is extremely low control risk associated
with the recognition of fair values.
Detection risk
The auditor should minimise detection risk via thorough planning and execution of audit procedures. The
audit team may lack experience in dealing with the fair value in question, and so would be unlikely to
detect errors in the valuation techniques used. Over-reliance on an external specialist could also lead to
errors not being found.
Conclusion
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It is true that the increasing recognition of items measured at fair value will in many cases cause the
auditor to assess the audit risk associated with the balance as high. However, it should not be assumed
that every fair value item will be likely to contain a material misstatement. The auditor must be careful to
identify and respond to the level of risk for fair value items on an individual basis to ensure that sufficient
and appropriate evidence is gathered, thus reducing the audit risk to an acceptable level.
34. Solution
ISA 570 Going Concern provides a clear framework for the assessment of the going concern status of an
entity, and differentiates between the responsibilities of management and of auditors. Management should
assess going concern in order to decide on the most appropriate basis for the preparation of the financial
statements. IAS 1 Presentation of Financial Statements (revised) requires that where there is significant
doubt over an entity‘s ability to continue as a going concern, the uncertainties should be disclosed in a
note to the financial statements. Where the directors intend to cease trading, or have no realistic
alternative but to do so, the financial statements should be prepared on a ‗break up‘ basis. Thus the main
focus of the management‘s assessment of going concern is to ensure that relevant disclosures are made
where necessary, and that the correct basis of preparation is used.
The auditor‘s responsibility is to consider the appropriateness of the management‘s use of the going
concern assumption in the preparation of the financial statements and to consider whether there are
material uncertainties about the entity‘s ability to continue as a going concern that need to be disclosed in
a note. The auditor should also consider the length of the time period that management have looked at in
their assessment of going concern. The auditor will therefore need to come to an opinion as to the going
concern status of an entity but the focus of the auditor‘s evaluation of going concern is to see whether
they agree with the assessment made by the management. Therefore whether they agree with the basis of
preparation of the financial statements, or the inclusion in a note to the financial statements, as required
by IAS 1, of any material uncertainty.
Evaluation techniques
In carrying out the going concern assessment, management will evaluate a wide variety of indicators,
including operational and financial. An entity employing good principles of corporate governance should
be carrying out such an assessment as part of the on-going management of the business.
Auditors will use a similar assessment technique in order to come to their own opinion as to the going
concern status of an entity. They will carry out an operational review of the business in order to confirm
business understanding, and will conduct a financial review as part of analytical procedures. Thus both
management and auditors will use similar business risk assessment techniques to discover any threats to
the going concern status of the business.
However, one difference is that when going concern problems are discovered, the auditor is required by
IAS 570 to carry out additional procedures. Examples of such procedures would include:
 Analysing and discussing cash flow, profit and other relevant forecasts with management
 Analysing and discussing the entity‘s latest available interim financial statements
 Reviewing events after the period end to identify those that either mitigate or otherwise affect the
entity‘s ability to continue as a going concern, and
 Reading minutes of meetings of shareholders, those charged with governance and relevant
committees for reference to financing difficulties.
Management are not explicitly required to gather specific evidence about going concern, but as part of
good governance would be likely to investigate and react to problems discovered.
35. Solution
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Identification of related parties
Related parties and associated transactions are often difficult to identify, as it can be hard to establish
exactly who, or what, are the related parties of an entity. IAS 24 Related Party Disclosures contains
definitions which in theory serve to provide a framework for identifying related parties, but deciding
whether a definition is met can be complex and subjective. For example, related party status can be
obtained via significant interest, but in reality it can be difficult to establish the extent of influence that
potential related parties can actually exert over a company.
The directors may be reluctant to disclose to the auditors the existence of related parties or transactions.
This is an area of the financial statements where knowledge is largely confined to management, and the
auditors often have little choice but to rely on full disclosure by management in order to identify related
parties. This is especially the case for a close family member of those in control or having influence over
the entity, whose identity can only be revealed by management.
Identification of material related party transactions

Related party transactions may not be easy to identify from the accounting systems. Where accounting
systems are not capable of separately identifying related party transactions, management need to carry out
additional analysis, which if not done makes the transactions extremely difficult for auditors to find. For
example sales made to a related party will not necessarily be differentiated from ‗normal‘ sales in the
accounting systems.
Related party transactions may be concealed in whole, or in part, from auditors for fraudulent purposes. A
transaction may not be motivated by normal business considerations, for example, a transaction may be
recognised in order to improve the appearance of the financial statements by ‗window dressing‘. Clearly
if the management is deliberately concealing the true nature of these items it will be extremely difficult
for the auditor to discover the rationale behind the transaction and to consider the impact on the financial
statements.
Finally, materiality is a difficult concept to apply to related party transactions. Once a transaction has
been identified, the auditor must consider whether it is material. However, materiality has a particular
application in this situation. ISA 550 Related Parties states that the auditor should consider the effect of a
related party transaction on the financial statements. The problem is that a transaction could occur at an
abnormally small, even nil, value. Determining materiality based on monetary value is therefore
irrelevant, and the auditor should instead be alert to the unusual nature of the transaction making it
material.
36. Solution
A report to those charged with governance is produced to communicate matters relating to the external
audit to those who are ultimately responsible for the financial statements. ISA 260 Communication of
Audit Matters With Those Charged With Governance requires the auditor to communicate many matters,
including independence and other ethical issues, the audit approach and scope, the details of management
representations, and the findings of the audit. The findings of the audit are commonly referred to as
management letter points. By communicating these matters, the auditor is confident that there is written
documentation outlining all significant matters raised during the audit process, and that such matters have
been formally notified to the highest level of management of the client. For the management, the report
should ensure that they fully understand the scope and results of the audit service which has been
provided, and is likely to provide constructive comments to help them to fulfil their duties in relation to
the financial statements and accounting systems and controls more effectively. The report should also
include, where relevant, any actions that management has indicated they will take in relation to
recommendations made by the auditors.
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Control weakness
ISA 260 contains guidance on the type of issues that should be communicated. One of the matters
identified is a control weakness in the capital expenditure transaction cycle. The assets for which no
authorisation was obtained amount to 0.3% of total assets (225,000/78 million x 100%), which is clearly
immaterial. However, regardless of materiality, the auditor should ensure that the weakness is brought to
the attention of the management, with a clear indication of the implication of the weakness, and
recommendations as to how the control weakness should be eliminated.
The auditor is providing information to help those charged with governance improve the internal systems
and controls and ultimately reduce business risk. In this case there is a high risk of fraud, as the lack of
authorisation for purchase of office equipment could allow expenditure on assets not used for bona fide
business purposes.
Disagreement with accounting treatment of brand
Audit procedures have revealed a breach of IAS 38 Intangible Assets, in which internally generated brand
names are specifically prohibited from being recognised. Axis Management Co. has recognised an
internally generated brand name which is material to the statement of financial position (balance sheet) as
it represents 12.8% of total assets (10/78 x 100%).
The statement of financial position (balance sheet) therefore contains a material misstatement.
The report to those charged with governance should clearly explain the rules on recognition of internally
generated brand names, to ensure that the management has all relevant technical facts available. In the
report the auditors should request that the financial statements be corrected, and clarify that if the brand is
not derecognised, then the audit opinion will be qualified on the grounds of a material disagreement – an
‗except for‘ opinion would be provided. Once the breach of IAS 38 is made clear to the management in
the report, they then have the opportunity to discuss the matter and decide whether to amend the financial
statements, thereby avoiding a qualified audit opinion.
Audit inefficiencies
Documentation relating to inventories was not always made readily available to the auditors. This seems
to be due to poor administration by the client rather than a deliberate attempt to conceal information. The
report should contain a brief description of the problems encountered by the audit team. The management
should be made aware that significant delay to the receipt of necessary paperwork can cause inefficiencies
in the audit process. This may seem a relatively insignificant issue, but it could lead to an increase in audit
fee. Management should react to these comments by ensuring as far as possible that all requested
documentation is made available to the auditors in a timely fashion.
37. Solution
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The definitions of ‗overall audit strategy‘ and ‗audit plan‘ are found in ISA 300 Planning an Audit of
Financial Statements.
The overall audit strategy sets the scope, timing and direction of the audit. Scope involves determining the
characteristics of the audit client, such as its locations, and the relevant financial reporting framework, as
these factors will help to establish the scale of the assignment. Timing refers to establishing deadlines for
completion of work and key dates for expected communications. Establishing the overall audit strategy
also includes the consideration of preliminary materiality, and initial identification of high risk areas
within the financial statements. All of these matters contribute to the assessment of the nature, timing and
extent of resources necessary to perform the engagement.
The overall audit strategy should then lead to the development of the audit plan.
The audit plan is more detailed than the audit strategy and includes a description of the risk assessment
procedures, and the further planned audit procedures necessary at the assertion level for gathering
evidence on the material transactions and balances in the financial statements. The general purpose of
developing the audit plan is to design audit procedures which will reduce audit risk to an acceptably low
level.
The difference between the audit strategy and the audit plan is therefore that the strategy is the initial
planning to ensure there will be adequate resources allocated to the audit assignment in response to an
initial evaluation of the entity‘s characteristics, whereas the audit plan is a detailed programme of audit
procedures.
The strategy will therefore usually be developed before the plan; however, the two activities should be
seen as inter-related, as changes in one may result in changes to the other. Both the strategy and the plan
should be fully documented as this represents the record of proper planning of the audit assignment.
38. Solution
Subsequent events are defined as those events occurring between the date of the financial statements and
the date of the auditor‘s report, and also facts discovered after the date of the auditor‘s report.
ISA 560 Subsequent Events differentiates the auditor‘s responsibilities in relation to subsequent events
depending on when the subsequent event occurs.
Events occurring up to the date of the auditor’s report
The auditor has an active duty to perform audit procedures designed to identify, and to obtain sufficient
appropriate evidence of all events up to the date of the auditor‘s report that may require adjustment of, or
disclosure in, the financial statements. These procedures should be performed as close as possible to the
date of the auditor‘s report, and in addition, representations would be sought on the date that the report
was signed.
Procedures would include reviewing management procedures for ensuring that subsequent events are
identified, reading minutes of meetings of shareholders and management, reviewing the latest interim
financial statements, and making appropriate enquiries of management.
Where a material subsequent event is discovered, the auditor should consider whether management have
properly accounted for and disclosed the event in the financial statements in accordance with IAS 10
Events after the Reporting Period.
Facts discovered after the date of the auditor’s report but before the date the financial statements
are issued
The auditor does not have any responsibility to perform audit procedures or make any enquiry regarding
the financial statements or subsequent events after the date of the auditor‘s report. In this period, it is the
responsibility of management to inform the auditor of facts which may affect the financial statements.
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When the auditor becomes aware of a fact which may materially affect the financial statements, the
matter should be discussed with management. If the financial statements are appropriately amended then
a new audit report should be issued, and procedures relating to subsequent events should be extended to
the date of the new audit report. If management do not amend the financial statements to reflect the
subsequent event, in circumstances where the auditor believes they should be amended, a qualified or
adverse opinion of disagreement should be issued.
Facts discovered after the financial statements have been issued

After the financial statements have been issued, the auditor has no obligation to make any enquiry
regarding the financial statements. However, the auditor may become aware of a fact which existed at the
date of the audit report, which if known at the date may have caused a modification to the auditor‘s
report. In this case, the matter should be discussed with management. This could result in the revision of
the financial statements, in which case the auditor should issue a new audit report on the revised financial
statements. This report should include an emphasis of matter paragraph referring to a note to the financial
statements in which the reason for the revision is fully discussed. If management do not revise the
financial statements, the auditor should take legal advice with the objective of trying to prevent further
reliance on the auditor‘s report.
39. Solution
iii. The announcement of a restructuring after the reporting date is a non-adjusting event after the reporting
date, according to IAS 10 Events after the Reporting Period. This is because the event does not provide
evidence in relation to a condition that existed at the year end.
Materiality calculations in respect of the potential cost of closure are as follows:

Based on revenue: NRs. 250,000/15 million = 1·67%
Based on profit: NRs. 250,000/3 million = 8·3%
Based on assets: NRs. 250,000/80 million = <1%
Therefore this amount is material to the statement of comprehensive income.
As per IAS 10, a note should be provided to the financial statements, which describes the nature of the
event, and provides an estimate of the financial effect.
Audit procedures could include:
 Review any potential note to financial statements which should disclose the non-adjusting event,
providing a brief description of the event, and an estimate of the financial effect.
 Discuss the reason for the restructuring with a member of key management personnel, and read
minutes of board meetings where the plan was discussed, in order to gain an understanding about the
reason for the restructuring.
 Verify the approval of the plan itself, and the approval of the announcement of the plan, which can be
performed through a review of board minutes.
 Confirm the date on which the plan was approved, and also the date of the announcement, using
supporting documentation such as press release, letters sent to employees, internal meetings held with
employees, etc.
 Obtain a copy of the announcement and review for details, particularly a description of the exact
nature of the restructuring, including the number of employees to be affected.
 Agree the NRs. 250,000 potential cost of closure to supporting documentation, including a schedule
showing the number and grade of staff to be made redundant, which should be supported by
payroll/contract details.
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 Using the results of the discussion with management, assess the planned restructuring in the context
of the auditor‘s knowledge of the business, considering whether any further costs are likely to be
incurred.
iv. Actions to be taken by the auditor

If no note is provided to the financial statements, then there is a breach of IAS 10. In this case there is
insufficient disclosure provided in the notes to the financial statements regarding a material non-adjusting
event after the reporting date.
According to ISA 701 Modifications to the Independent Auditor‘s Report, in cases where the auditor is in
disagreement with management regarding the application of a financial reporting standard and where the
disagreement is material to the financial statements, the auditor should express a qualified or an adverse
opinion. Here, the matter is material (as discussed in (b) (i) above) but is not pervasive to the financial
statements, so a qualified ‗except for‘ opinion should be given.
The audit report should contain a paragraph which explains the reason for the qualification, specifying the
breach of accounting standards, and stating the relevant financial amount. It would also be best practice
for the auditor to clarify that the profit for the year is not affected by the breach of accounting standards,
and that the disagreement is solely due to inadequate disclosure in the notes to the financial statements.
The auditors should ensure that the matter, and the potential consequence for the audit report, has been
made known to those charged with governance. This will allow the highest level of management
(including executive and non-executive directors) the opportunity to discuss the matter, having reference
to all relevant facts of the disagreement and implications thereof.
Finally, the auditors could choose to raise this issue at the annual general meeting, where the matter
leading to the qualified audit opinion should be explained to the shareholders of the company.
40. Solution
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 NRs.
2,000,000, apportioned NRs. 100,000 to the reserve fund. As per Section 27(1), the minimum
appropriation to general reserve required is one fourth i.e., NRs. 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 NRs. 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 i.e., NRs. 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.
41. Solution
The reason for the proposed change in auditor should be ascertained via discussion with the directors. It is
possible that the reason may prevent acceptance of the nomination (e.g. the existing auditors intend to
qualify their opinion and your firm agrees with their view).
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The permission of Surya Group must be sought in order to communicate with the existing auditors to
assess any reasons for not accepting the nomination. If permission is not granted, the nomination should
be declined.
The response of the existing auditors should be carefully considered, especially in the light of the reason
given by the directors. If the reasons differ, this will reflect upon the directors‘ integrity and, again, the
nomination should be declined.
Surya Group‘s reputation (employee relations, investigation by the authorities and any other adverse
opinions) will also impact on the assessment of the directors‘ integrity.
Auditor independence should not be in any doubt. For example, there should be no family or personal
relationships with key staffs at Surya Group, or beneficial shareholdings in Surya Group held by audit
staff.
If the existing audit clients have any relationships with Surya Group (e.g. competitor, supplier, customer)
a conflict of interest could arise. As a small firm (only four partners) appropriate safeguards may not be
feasible. The firm must also be careful not to become unduly dependent on the client. Furthermore, an
audit fee based on a percentage of profits would seem to detract from objectivity as it would be in the
auditors‘ interest to allow profits to be overstated. Even if the auditors would not allow this to happen, the
acceptance of an appointment with such a bonus would detract from the appearance of the objectivity.
Sufficient staff at the right time of year will be required to undertake the audit. Audit staff must be
sufficiently competent to deal with a listed company manufacturer and retailer. If the firm‘s expertise lies
in other market sectors this may not be the case.
If a flat fee is to be accepted, it should be fair & reasonable with regards to the level of staff needed on the
audit and times spent by them. If the fee is likely to be insufficient to cover such cost then this may give
the appearance to the outside world that a poor quality audit is being performed. The flat fee should also
leave the directors in no doubt as to the range of services being offered (i.e. statutory audit only).
Regardless of the integrity of the directors, Surya Group‘s poor reputation may affect the auditors‘
reputation and they might therefore not wish to be associated with such a company, as existing and
potential clients might be influenced by such adverse publicity.
42. Solution
A hot review is a review of working papers that is performed by a more senior member of staff during the
course of the audit, and is usually performed soon after the work is completed. The reviewer will indicate
that he has performed the review by dating and initialling the piece of work. The review should ensure
that the work has been performed in line with the audit programme and that the conclusions are consistent
with the results obtained.
A cold review is one that is performed at the end of the audit- usually by the audit manager or partner.
This will be done before the audit report is signed off and will comprise a review of the whole file
together with the financial statements. The purpose of this review is to ensure that the audit work has been
fully completed and that the results conclusions for the entire audit are consistent.
43. Solution
c) Meaning of and relationship between

Materiality
Materiality is an expression of the relative significance or importance of a particular matter in the context
of financial statements as a whole. A matter is material if its omission or misstatement could influence the
economic decisions of users taken on the basis of the financial statements.
Materiality may also be considered in the context of any individual statements within the financial
statements or of individual items included in them (performance materiality)
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Materiality is not capable of general mathematical definition as it has both qualitative & quantitative
aspects
True & Fair

The term ‗a true & fair view is not defined in a statute and it has therefore fallen to the auditing profession
to reach a reasoned and consistent interpretation of the term. Accounts should be true & fair if prepared in
accordance with recommended accounting policies.
Truth relates to factual accuracy and correctness of the financial statements. For example, the statement of
financial position should be an ‗accurate‘ reflection (within acceptable limits) of the company‘s assets and
liabilities at the year end.
Fairness relates to the presentation of information and the view conveyed to the reader. It is important that
information in the financial statements is presented in a manner that is free from bias and does not lead
the reader to any view that is not a reasonable reflection of the company‘s financial situation.
Relationship between materiality and true & fair
‗True & Fair‘ is a matter of professional judgement. Materiality is just one of the factors considered in
making such a judgement.
For example, if a company‘s actual revenue for a year of NRs. 2,200,000 was inaccurately stated (e.g. at
NRs. 2,200,000) the financial statements could still be judged ‗true & fair‘ as knowledge of the error
would not cause a reader of the financial statements to change his opinion of them (i.e. the misstatement
is not material).
Conversely, if a misstatement is judged to be material, the true and fair view is impaired.
Accounting standards are intended to give a true & fair view and need not be applied to immaterial items.
Where material, compliance with accounting standards will normally be necessary for financial
statements to give a true and fair view.
Effect on audit report
The audit opinion on the current year income statement/ statement of comprehensive income and
comparative income statement/statement of comprehensive income (closing inventories) and statement of
financial position (inventories) will be qualified (except for).
The qualification arises because of the auditor‘s inability to obtain sufficient appropriate evidence
(limitation on scope). It will not be a disclaimer of opinion as the item is not likely to be pervasive as well
as material.
The report will refer to how the scope of work has been limited.
The opinion paragraph will state that except for adjustments that might be necessary to opening
inventories and/ or closing inventory comparatives; the financial statements show a true and fair view and
have been properly prepared.
Reasons
Comparatives are part of the audited financial statements.
In addition, last year‘s closing inventories become the current year‘s opening inventories and this affects
current year profits.
d) Effect on audit report

If the auditor assess that the contract is unlikely to be renewed and that, as a result, the company will no
longer be a going concern, a modified opinion is likely on the grounds of a material misstatement
(disagreement with the application of going concern concept). A qualified or adverse opinion would be
given.
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If the auditor assesses that the going concern assumption is appropriate but a material uncertainty exists
and the directors have adequately disclosed the situation, an unmodified opinion would be given but an
emphasis of matter paragraph should be used to highlight the uncertainty and the note in the financial
statements disclosing it.
If the auditor assess that disclosures are inadequate for a true and fair view, an except for qualification
would be required on the grounds of a material misstatement (disagreement with disclosure).
If the auditors believe that the directors have not provided sufficient information and explanations on the
matter a qualified opinion (limitation on scope) may be required.
Reasons
Inventories may not be stated at lower of cost or NRV, as required by IAS 2.
There is some uncertainty as to whether the contract is a going concern, given the potential loss of over
half of their trade.
44. Solution
c)
Audit work Reasons
Damage Claim
Ask the directors how they propose to treat the The matter is potentially material even a claim
claim in the financial statements (and on what of just NRs. 650,000 represents 13% of trading
grounds) profit.
Inspect the invoice/ contract with the customer The customer‘s claim may be invalid if they
to ascertain the terms and conditions and were responsible for insurance or if high value
whether the antiques collection is identified items should have been specified.
Review correspondence with the customer and

In order to obtain consistent third party evidence
with solicitors and the accident report/damage
to support internal evidence.
record.
Examine company‘s own insurance policy The company may have its own insurance
documents. policy to cover such claims from customers.
Enquire whether the damage was an isolated To ascertain whether there may be other similar
incident. claims for which provision is needed.
Overdraft Limit
If it is not possible to determine that the going

Ask the directors why they consider the
concern presumption is appropriate then there
company to be a going concern
will be an impact on the audit report.
Review the current refurbishment program and The going concern presumption may not be
related finance arrangement appropriate if finance is not forthcoming to
complete the refurbishment project (e.g. if the
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company is unable to operate).
Review correspondence with the bank and The company should take steps to increase its
prospective lenders seeking additional borrowing facilities as long term investment
borrowing facilities cannot be sustained on an overdraft facility.
If the recent investment in new vehicles was for

Discuss with directors any alternative courses of
outright purchase, sale & leaseback may be
action to alleviate the cash flow problem
arranged to raise funds.
d) Letter of Representation Extracts

iii) No provision is considered necessary in respect of a legal claim by the customer (Mr. X) for damage
to reproduction furniture. No amounts are expected to be paid, and no similar claims have been
received or are expected to be received.
iv) We confirm our considered view that the company has adequate resources to continue operations for
the foreseeable future (i.e. is a going concern). This conclusion has been reached based on forecast
expenditure and current & future borrowing arrangements.
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Code of ethics
Question No. 1
―Ethical safeguard protects professionalism‖. Do you agree?
Answer
Yes, I fully agree that ethical safeguard is a key to uphold professionalism. During professional
practice several ethical threats are encountered by the professionals. Such threats are prone to
reduce the effectiveness of a professional person and his/her ability to act as per intended
objective. As such an ethical safeguard is a constraint or control placed upon a professional
person to prevent the occurrence of any of the ethical threats namely self-interest, self-review,
advocacy, familiarity and intimidation threats. The primary benefit of any ethical safeguard is to
protect professionals from the effects of an ethical threat. Ethical threats, unchecked by effective
ethical safeguards, undermine the professional reputation and introduce unhelpful factors which
make it difficult for accountants to operate normally.
Question No. 2
Quantum ltd. would like to use your expertise on one of the proposals that it is going to submit to
ABC Ltd. However, you are caught in a dilemma as you are a statutory auditor of ABC Ltd.
Under such circumstances what matters should you consider in deciding whether to provide
advice to Quantum Ltd.?
Answer
A potential conflict between the interests arises from offering any advice in such case. A conflict
of interest may create potential threats to objectivity, confidentiality or other threats to
compliance with the fundamental principles of the ICAN Code of Ethics for Professional
Accountants.
In such scenario, there may also be problems to do with confidentiality of information, as the
confidential information of audit client may be exposed to the other client.
In dealing with conflicts of interest, the code requires the significance of any threats to be
evaluated, and safeguards to be applied when necessary to eliminate the threats or reduce them to
an acceptable level. The most important safeguard is disclosure to both parties of the potential
conflict of interest and obtain their consent to act.
Other possible safeguards could include:

– The use of separate engagement teams;
– Procedures to prevent access to information (for example, strict physical separation of such
teams, confidential and secure data filing);
– Clear guidelines for members of the engagement team on issues of security and confidentiality;
– The use of confidentiality agreements signed by employees and partners of the firm; and
– Regular review of the application of safeguards by a senior individual not involved with
relevant client engagements.
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Accordingly I may decide, having evaluated the threats and available safeguards, that the threats
cannot be reduced to an acceptable level, in which case I shall decline from giving advice to
Quantum Ltd.
Question No. 3
Many professional accountants are conservative enough to avoid assignments where there is a
possibility of ethical conflict without weighing the courses available to resolve the same. Under
such circumstances, what measures would you like to suggest the professional accountants for
the resolution of ethical conflict that is envisaged in the ICAN code of ethics 2015, so that they
don‘t bluntly move away from taking the assignments..
Answer
A professional accountant may be required to resolve a conflict in complying with the
fundamental principles. When initiating either a formal or informal conflict resolution process,
the following factors, either individually or together with other factors, may be relevant to the
resolution process:
(a) Relevant facts;
(b) Ethical issues involved;
(c) Fundamental principles related to the matter in question;
(d) Established internal procedures; and
(e) Alternative courses of action.
Having considered the relevant factors, a professional accountant shall determine the appropriate
course of action, weighing the consequences of each possible course of action. If the matter
remains unresolved, the professional accountant may wish to consult with other appropriate
persons within the firm or employing organization for help in obtaining resolution.
Where a matter involves a conflict with, or within, an organization, a professional accountant

shall determine whether to consult with those charged with governance of the organization, such
as the board of directors or the audit committee.
It may be in the best interests of the professional accountant to document the substance of the
issue, the details of any discussions held, and the decisions made concerning that issue.
If a significant conflict cannot be resolved, a professional accountant may consider obtaining

professional advice from the relevant professional body or from legal advisors. The professional
accountant generally can obtain guidance on ethical issues without breaching the fundamental
principle of confidentiality if the matter is discussed with the relevant professional body on an
anonymous basis or with a legal advisor under the protection of legal privilege. Instances in
which the professional accountant may consider obtaining legal advice vary. For example, a
professional accountant may have encountered a fraud, the reporting of which could breach the
professional accountant‘s responsibility to respect confidentiality. The professional accountant
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may consider obtaining legal advice in that instance to determine whether there is a requirement
to report.
If, after exhausting all relevant possibilities, the ethical conflict remains unresolved, a
professional accountant shall, where possible, refuse to remain associated with the matter
creating the conflict. The professional accountant shall determine whether, in the circumstances,
it is appropriate to withdraw from the engagement team or specific assignment, or to resign
altogether from the engagement, the firm or the employing organization.
Corporate Governance and Best Practices
Question No. 4
How can an audit function within an entity improve the corporate governance structure of a
company?
Answer
Corporate Governance is the process and structure used to direct and manage the business and
affairs of the corporations with the objective of enhancing shareholder value, which includes
ensuring the financial viability of the business. The process and structure define the division of
power and establish mechanisms for achieving accountability among shareholders, the board and
management. These requirements are well complimented by the audit functions within a
company.
There are two types of audit functions within a company. One is audit committee overlooking the
internal audit and other control functions and the other one being statutory audit. The audit
committee composed of independent nonexecutives with clear terms of reference act as a watch
dog in monitoring the compliance with the applicable laws and regulations. It acts as a
mechanism to promote transparency, accountability and control within an organization. On the
other hand the statutory auditor plays a central role in good corporate governance by virtue of:
o audit financial statements and other (financial) reporting;
o attest internal control statements, where applicable; and
o review or attest corporate governance statements where applicable.
Accordingly, the audit functions support the best practice of good corporate governance by
ensuring:
o Ensuring best management practices;
o Appropriate delegation of authority and responsibility;
o Compliance with the applicable laws and regulations;
o Adherence to the management policies and procedures;
o Review of internal control structures including financial, operational and compliance
controls;
o Safeguard of assets; and
o Overall transparency and accountability within an organization; and
o Timely and accurate financial reporting to the stakeholders.
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Nepal Standards on Auditing
Question No. 5
In the developing countries like Nepal, the general public as well as the regulators often expects
the auditors to attest the financial statement as absolutely free from any kinds of frauds,
irregularities or non-compliances. With this very notion, whenever there is some fraud within the
organization, the first person to be convicted is always the auditor. The recent tax law of the
country also introduced similar provisions of charging the auditors for any sort of misstatements
in the financial statements.
Under such circumstances, don‘t you think that the time has come that the auditors should be
more descriptive in expressing their opinion quoting all the inherent limitations and scope of the
audit in a more simplistic manner rather than just stating ―True and Fair View‖ which in many
case is vague and highly technical for the general stakeholders and the regulators?
Answer
It is a point that the use of the term ―True and Fair View‖ as well as the format of the audit report
is somewhat technical. However, just because some group of stakeholders or the regulators have
difficulty in understanding the audit report does not make sense in making the language of the
audit report simpler. Even though, the language made simpler does not necessarily help
everybody to understand the wholesome spirit of the audit and its scope and limitations because
for somebody to understand all the technical details have to have a fair knowledge of Nepal
Standards on Auditing, which in itself is highly technical for their liking.
Therefore the best way to convey the message about the objective, scope and the limitations of
the audit to the stakeholders is to educate them on a broader scale about the basics of the
profession. Seminars, training, tutorials and ad campaigning has to be done to educate the society
about the whole phenomenon of audit. That way only the mindset of the people could be
changed and the profession could flourish rather than changing the audit report to make it
simpler and expressive.
Question No. 6
How would you explain the term ―True and Fair View‖ in a simple manner to an investor
without sound knowledge of auditing?
Answer
True and fair view is an opinion expressed by an auditor on the state of the financial statements
of an organization. It implies that the financial statements are presented fairly in all materials
respect the position, performance, cash flows and changes in equity of the organization. The
auditor expresses such opinion upon assessment of the internal control system of the
organization and test checking the financial transactions carried out during the fiscal year. The
auditors act is guided by the provisions set forth in the Nepal Standards on Auditing together
with the Code of Ethics applicable to the professional accountants.
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As per NSA 200 ―Objectives and General Principles Governing an Audit of Financial
Statements‖, the auditor‘s expression of true and fair view is supposed to be received as only the
―Reasonable Assurance and not the Absolute Assurance‖ of the state of the financial statements.
This implies that the users are not supposed to absolutely rely on auditor‘s judgment for making
their financial decisions relating to the organization. This is because the auditor is not expected
to, and cannot, reduce audit risk to zero and cannot therefore obtain absolute assurance that the
financial statements are free from material misstatement due to fraud or error. This is because
there are inherent limitations of an audit, which result in most of the audit evidence on which the
auditor draws conclusions and bases the auditor‘s opinion being persuasive rather than
conclusive.
Broadly speaking, the financial statements are considered as presenting to true and fair if:
 The information contained in them are not materially misstated;
 There is an appropriate application of Nepal Accounting Standards, with additional
disclosure in the case of companies registered under Companies Act 2063. In the case of
other entities there is an appropriate application of generally accepted accounting
principles as is applicable; and
 They comply with the provisions of applicable laws and regulations of the country.
Question No. 7
You are an audit senior of Hessonite & Co and are in the process of reviewing the inventory
system documentation for your audit client, Lemon Quartz Co (Quartz) which manufactures
computer equipment. The company‘s factory and warehouse are based on one large site, and
their year end is 30 June 2016. Quartz is planning to undertake a full inventory count at the year
end of its raw materials, work in progress and finished goods and you will be attending this
count. In preparation you have been reviewing the inventory count instructions for finished
goods provided by Quartz.
The count will be undertaken by 15 teams of two counters from the warehouse department with
Quartz‘s financial controller providing overall supervision. Each team of two is allocated a
number of bays within the warehouse to count and they are provided with sequentially numbered
inventory sheets which contain product codes and quantities extracted from the inventory
records. The counters move through each allocated bay counting the inventory and confirming
that it agrees with the inventory sheets. Where a discrepancy is found, they note this on the sheet.
The warehouse is large and approximately 10% of the bays have been rented out to third parties
with similar operations; these are scattered throughout the warehouse. For completeness, the
counters have been asked to count the inventory for all bays noting the third party inventories on
separate blank inventory sheets, and the finance department will make any necessary
adjustments.
Some of Quartz‘s finished goods are high in value and are stored in a locked area of the
warehouse and all the counting teams will be given the code to access this area. There will be no
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despatches of inventory during the count and it is not anticipated that there will be any deliveries
from suppliers.
Each area is counted once by the allocated team; the sheets are completed in ink, signed by the
team and returned after each bay is counted. As no two teams are allocated the same bays, there
will be no need to flag that an area has been counted. On completion of the count, the financial
controller will confirm with each team that they have returned their inventory sheets.
Required:
In respect of the inventory count procedures for Lemon Quartz Co:
(i) Identify and explain FIVE deficiencies;
(ii) Recommend a control to address each of these deficiencies; and
(iii) Describe a TEST OF CONTROL the external auditors would perform to assess if each of
these controls, if implemented, is operating effectively.
(Source: Question adopted from March/June 2016 – Sample Questions of ACCA Exams)
Answer
Deficiencies Controls Test of controls
The count will be undertaken The counting teams should be Attend the year-end count and
by teams of warehouse staff. independent of the warehouse; enquire of the counting teams
hence members of alternative which department they
There should be a segregation departments should undertake normally work in. Inspect the
of roles between those who the counting rather than the updated inventory count
have day-to-day responsibility warehouse staff. instructions to verify that they
for inventory and those who have been communicated to
are checking it. If the same members of staff outside the
team are responsible for warehouse department.
maintaining and checking
inventory, then errors and
fraud could be hidden.
The inventory sheets contain The count sheets should be Inspect a sample of the
quantities as per the inventory sequentially numbered and counting sheets being used by
records. There is a risk that the contain product codes and the counting teams to verify
counting teams may simply descriptions but no quantities. that only the inventory product
agree with the pre-printed codes and description are pre-
quantities rather than counting printed on them.
the balances correctly,
resulting in significant errors
in inventory.
There are 15 teams of Each team should be informed Observe the counting teams to
counters, each team having that both members are assess if they are counting
two members of staff. required to count their together or if one counts and
However, there is no clear assigned inventory separately. the other then double checks
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division of responsibilities Therefore, one member counts the quantities counted. Review
within the team. Therefore, and the second member also the records of the sample
both members of staff could undertakes a count and then checks undertaken by the
count together rather than records the inventory on the supervisor of the inventory
checking each other‘s count; count sheets correctly. In count.
and errors in their count may addition, the financial
not be identified. controller supervising the
count should undertake some
sample checks of inventory
counted by each team
Inventory owned by third All inventories belonging to Enquire of the count
parties is also being counted third parties should be moved supervisor where the third
by the teams with adjustments to one location. This area party inventory is to be stored,
being made by the finance should be clearly marked and confirm through inspection of
team to split these goods out excluded from the counting the counting sheets that these
later. There does not appear to process. bays are not included on any
be a method for counters to pre-printed forms.
identify which items are third
party inventory.
There is a risk that these goods
may not be correctly removed
from the inventory count
sheets, resulting in inventory
being overstated.
High value inventory which is The high value inventory Attempt to access the area
normally stored in a secure should be kept in the locked where the high value
location will be accessible by area of the warehouse. Senior inventory is stored; this should
all team members as they will members of the team should not be possible without the
be given the access code. This be allocated to count these access code. At the year-end
significantly increases the risk goods, and they should be visit attempt to access with the
of theft as any member of the given the access code to enter code which was supplied
counting team could the area. Upon completion of during the inventory count.
subsequently access these the count the access code
goods. should be changed.
Each bay of the warehouse is Once all inventories have been Observe the counting team
counted once only. If counted once, each area undertake second counts of all
inventory is only checked should be recounted by a areas; confirm that different
once, then counting errors different team. Any teams undertake this process.
may arise resulting in under or differences on the first count
overstated inventory should be promptly notified to
the count supervisor and a
third count undertaken if
necessary.
If a full second count would
be too time-consuming for the
company, then sample checks
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on the inventory counted
should be undertaken by a
different counting team.
Once areas are counted, the All bays should be flagged as Physically confirm that the
teams are not marking the completed, once the inventory completed bays of the
bays as completed. Therefore has been counted. In addition, warehouse have been flagged
there is the risk that some the count supervisor should to indicate that the goods have
areas of the warehouse could check at the end of the count been counted. At the end of
be double counted or missed that all of the bays with the count, review any bays
out. Quartz‘s inventory have been containing Quartz‘s goods
flagged as completed. which have not been flagged.
The inventory sheets are After the counting has Review the sequence of the
sequentially numbered and at finished, each team should inventory sheets for any gaps
the end of the count they are return all of their sequentially in the sequence and obtain an
given to the count supervisor numbered sheets and the explanation from the count
who confirms with each team supervisor should check the supervisor.
that they have returned all sequence of all sheets at the
sheets. However, no sequence end of the count.
check of the sheets is
performed. If sheets are
missing, then the inventory
records could be understated.
Question No. 8
You are an audit supervisor of Amethyst & Co and are currently planning the audit of your
client, Aquamarine Co (Aquamarine) which manufactures elevators. Its year end is 31 July 2016
and the forecast profit before tax is $15·2 million.
The company undertakes continuous production in its factory, therefore at the year end it is
anticipated that work in progress will be approximately $950,000. In order to improve the
manufacturing process, Aquamarine placed an order in April for $720,000 of new plant and
machinery; one third of this order was received in May with the remainder expected to be
delivered by the supplier in late July or early August.
At the beginning of the year, Aquamarine purchased a patent for $1·3 million which gives them
the exclusive right to manufacture specialised elevator equipment for five years. In order to
finance this purchase, Aquamarine borrowed $1·2 million from the bank which is repayable over
five years.
In January 2016 Aquamarine outsourced its payroll processing to an external service
organisation, Coral Payrolls Co (Coral). Coral handles all elements of the payroll cycle and sends
monthly reports to Aquamarine detailing the payroll costs. Aquamarine ran its own payroll until
31 December 2015, at which point the records were transferred over to Coral.
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The company has a policy of revaluing land and buildings and the finance director has
announced that all land and buildings will be revalued at the year end. During a review of the
management accounts for the month of May 2016, you have noticed that receivables have
increased significantly on the previous year end and against May 2015.
The finance director has informed you that the company is planning to make approximately 65
employees redundant after the year end. No decision has been made as to when this will be
announced, but it is likely to be prior to the year end.
Required:
(a) Describe SIX audit risks, and explain the auditor‘s response to each risk, in planning the audit
of Aquamarine Co.
(b) Explain the additional factors Amethyst & Co should consider during the audit in relation to
Aquamarine Co‘s use of the payroll service organisation.
(Source: Question adopted from March/June 2016 – Sample Questions of ACCA Exams)
Answer
a.
Audit risks Auditors‘ responses
Aquamarine Co (Aquamarine) undertakes The auditor should discuss with management
continuous production and the work in the process they will undertake to assess the
progress balance at the year end is likely to be cut-off point for work in progress at the year
material. As production will not cease, the end. This process should be reviewed by the
exact cut-off of the work in progress will need auditor while attending the year-end inventory
to be assessed. If the cut-off is not correctly count. In addition, consideration should be
calculated, the inventory valuation may be given as to whether an independent expert is
under or over stated. required to value the work in progress. If so,
this will need to be arranged with consent from
management and in time for the year-end
count.
Aquamarine has ordered $720,000 of plant and Discuss with management as to whether the
machinery, two-thirds of which may not have remaining plant and machinery ordered have
been received by the year end. arrived; if so, physically verify a sample of
Only assets which physically exist at the year these assets to ensure existence and ensure
end should be included in property, plant and only appropriate assets are recorded in the non-
equipment. If items not yet delivered have been current asset register at the year end.
capitalised, PPE will be overstated. Determine if the asset received is in use at the
Consideration will also need to be given to year end by physical observation and if so, if
depreciation and when this should commence. depreciation has commenced at an appropriate
If depreciation is not appropriately charged point.
when the asset is available for use, this may
result in assets and profit being over or
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understated.
A patent has been purchased for $1·3 million, The audit team will need to agree the purchase
and this enables Aquamarine to manufacture price to supporting documentation and to
specialised elevator equipment for the next five confirm the useful life is five years.
years. In accordance with IAS 38 Intangible The amortisation charge should be recalculated
Assets, this should be included as an intangible in order to ensure the accuracy of the charge
asset and amortised over its five-year life. and that the intangible is correctly valued at the
If management has not correctly accounted for year end.
the patent, intangible assets and profits could
be overstated.
The company has borrowed $1·2 million from During the audit, the team would need to
the bank via a five-year loan. This loan needs confirm that the $1·2 million loan finance was
to be correctly split between current and non- received. In addition, the split between current
current liabilities in order to ensure correct and non-current liabilities and the disclosures
disclosure. for this loan should be reviewed in detail to
ensure compliance with relevant accounting
standards. Details of security should be agreed
to the bank confirmation letter.
Also, as the level of debt has increased, there The finance costs should be recalculated and
should be additional finance costs. There is a any increase agreed to the loan documentation
risk that this has been omitted from the for confirmation of interest rates. Interest
statement of profit or loss leading to payments should be agreed to the cash book
understated finance costs and overstated profit. and bank statements to confirm the amount
was paid and is not therefore a year-end
payable.
During the year Aquamarine outsourced its Discuss with management the extent of records
payroll processing to an external service maintained at Aquamarine and any monitoring
organisation. A detection risk arises as to of controls undertaken by management over
whether sufficient and appropriate evidence is the payroll charge. Consideration should be
available at Aquamarine to confirm the given to contacting the service organisation‘s
completeness and accuracy of controls over auditor to confirm the level of controls in
payroll. If not, another auditor may be required place.
to undertake testing at the service organisation.
The payroll processing transferred to Coral Discuss with management the transfer process
Payrolls Co from 1 January. If any errors undertaken and any controls put in place to
occurred during the transfer process, these ensure the completeness and accuracy of the
could result in the payroll charge and related data.
employment tax liabilities beingWhere possible, undertake tests of controls to
under/overstated. confirm the effectiveness of the transfer
controls. In addition, perform substantive
testing on the transfer of information from the
old to the new system.
The land and buildings are to be revalued at the Discuss with management the process adopted
year end; it is likely that the revaluation for undertaking the valuation, including
surplus/deficit will be material. whether the whole class of assets was revalued
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The revaluation needs to be carried out and and if the valuation was undertaken by an
recorded in accordance with IAS 16 Property, expert. This process should be reviewed for
Plant and Equipment, otherwise non-current compliance with IAS 16.
assets may be incorrectly valued.
Receivables for the year to date are Discuss with management the reasons for the
considerably higher than the prior year. If this increase in receivables and management‘s
continues to the year end, there is a risk that process for identifying potential irrecoverable
some receivables may be overvalued as they debt. Test controls surrounding management‘s
are not recoverable. credit control processes.
Extended post year-end cash receipts testing
and a review of the aged receivables ledger to
be performed to assess valuation. Also
consider the adequacy of any allowance for
receivables.
Aquamarine is planning to make Discuss with management the status of the
approximately 65 employees redundant after redundancy announcement; if before the year
the year end. The timing of this announcement end, review supporting documentation to
has not been confirmed; if it is announced to confirm the timing. In addition, review the
the staff before the year end, then under IAS 37 basis of and recalculate the redundancy
Provisions, Contingent Liabilities and provision.
Contingent Assets a redundancy provision will
be required at the year end. Failure to provide
will result in an understatement of provisions
and expenses.
b) Payroll service organisations Additional factors Amethyst & Co should consider in relation to
Aquamarine‘s use of the service organisation, Coral Payrolls Co (Coral) include:
– The audit team should gain an understanding of the services being provided by Coral,
including the materiality of payroll and the basis of the outsourcing contract.
– They will need to assess the design and implementation of internal controls over
Aquamarine‘s payroll at Coral.
– The team may wish to visit Coral and undertake tests of controls to confirm the operating
effectiveness of the controls.
– If this is not possible, Amethyst & Co should contact Coral‘s auditors to request either a type 1
(report on description and design of controls) or type 2 report (on description, design and
operating effectiveness of controls).
– Amethyst & Co is responsible for obtaining sufficient and appropriate evidence, therefore no
reference may be made in the audit report regarding the use of information from Coral‘s auditors.
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Question No. 9
Discuss the detailed procedures that may be performed by you under an engagement to review
financial statements of a company.
Answer
NSRE 2400 ―Engagements to Review Financial Statements‖, procedures for the review of
financial statements will ordinarily include:
(i) Discuss terms and scope of the engagement with the client and the engagement team.
(ii) Prepare an engagement letter setting forth the terms and scope of the engagement.
(iii) Obtain an understanding of the entity‘s business activities and the system for recording
financial information and preparing financial statements.
(iv) Inquire whether all financial information is recorded:
(a) Completely;
(b) Promptly; and
(c) After receiving necessary authorization.
(v) Obtain the trial balance and determine whether it agrees with the general ledger and the
financial statements.
(vi) Consider the results of previous audits and review engagements, including accounting
adjustments required.
(vii) Inquire whether there have been any significant changes in the entity from the previous year
(e.g., changes in ownership or changes in capital structure).
(viii) Inquire about the accounting policies and consider whether:
(a) They comply with the applicable accounting standards;
(b) They have been applied appropriately; and
(c) They have been applied consistently and, if not, consider whether disclosure has
been made of any changes in the accounting policies.
(ix) Read the minutes of meetings of shareholders, the board of directors and other appropriate
committees in order to identify matters that could be important to the review.
(x) Inquire if actions taken at shareholder, board of directors or comparable meetings that affect
the financial statements have been appropriately reflected therein.
(xi) Inquire about the existence of transactions with related parties, how such transactions have
been accounted for and whether related parties have been properly disclosed.
(xii) Inquire about contingencies and commitments.
(xiii) Inquire about plans to dispose of major assets or business segments.
(xiv) Obtain the financial statements and discuss them with management.
(xv) Consider the adequacy of disclosure in the financial statements and their suitability as to
classification and presentation.
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(xvi) Compare the results shown in the current period financial statements with those shown in
financial statements for comparable prior periods and, if available, with budgets and
forecasts.
(xvii) Obtain explanations from management for any unusual fluctuations or inconsistencies in
the financial statements.
(xviii) Consider the effect of any unadjusted errors – individually and in aggregate. Bring the
errors to the attention of management and determine how the unadjusted errors will
influence the report on the review.
(xix) Consider obtaining a representation letter from management.
Question No. 10
How would you verify the existence of related party transactions during an audit? Explain with
reference to NSA 550 ―Related Parties‖.
Answer
NSA 550 ―Related Parties‖, During the audit, the auditor shall remain alert, when inspecting
records or documents, for arrangements or other information that may indicate the existence of
related party relationships or transactions that management has not previously identified or
disclosed to the auditor.
• Entity income tax returns.
• Information supplied by the entity to regulatory authorities.
• Shareholder registers to identify the entity‘s principal shareholders.
• Statements of conflicts of interest from management and those charged with
governance.
• Records of the entity‘s investments and those of its pension plans.
• Contracts and agreements with key management or those charged with governance.
• Significant contracts and agreements not in the entity‘s ordinary course of business.
• Specific invoices and correspondence from the entity‘s professional advisors.
• Life insurance policies acquired by the entity.
• Significant contracts re-negotiated by the entity during the period.
• Internal auditors‘ reports.
• Documents associated with the entity‘s filings with a securities regulator (e.g,
prospectuses).
Arrangements that may indicate the existence of previously unidentified or undisclosed
related party relationships or transactions
In particular, the auditor shall inspect the following for indications of the existence of
related party relationships or transactions that management has not previously identified or
disclosed to the auditor:
(a) Bank, legal and third party confirmations obtained as part of the auditor‘s procedures;
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(b) Minutes of meetings of shareholders and of those charged with governance; and
(c) Such other records or documents as the auditor considers necessary in the circumstances
of the entity.
Cases on corporate laws

Question No. 11
Syabun Ltd. is a listed hydro power company. 15% of its equity shares are owned by the
Government of Nepal. The company declared and distributed interim dividend of 15% on its
paid up capital of Rs. 1 billion. The interim dividend was distributed as from 10% of the profit of
the previous year and 5% from the profit of the current year.
As an auditor of the said company, what would be your comment on the action of the company
with reference to the legal provision prescribed by the Companies Act, 2063.
Answer:
To comment on the above case we have to look into following provisions contained in the
Companies Act 2006:
 Under sec 182 (7), the board of directors of the company can distribute interim dividend
from the profits of the previous year provided such provisions are mentioned in its AOA
and that its previous year‘s financial statements are certified by the auditors and approved
by the board of directors; and
 Under sec 182 (2), companies owned by Government of Nepal fully or partly can distribute
dividend only after prior approval of Government of Nepal. In this regard Government of
Nepal may issue necessary directive for the distribution of dividend by such company.
In the above case, out of the total interim dividend of 15%, the interim dividend distributed from
10% of the profit of the previous year seems complying with the act assuming that:
 Government of Nepal fully or partly has granted prior approval for the distribution; and
 Provision for interim dividend is mentioned in the AOA of the company and that its
previous year‘s financial statements are certified by the auditors and approved by the board
of directors.
However, the interim dividend of 5% from the profit of the current year is a violation of Section
182 of the Companies Act 2006 that states that the Board of directors of the Bhote Koshi Hydro
power company can only propose the dividend, which will become final only after approval by
shareholders at the AGM as well as prior approval of the Government of Nepal.
Question No. 12
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The General Manager of the Food Corporation Ltd. (Corporation wholly owned by the
Government of Nepal) is of the opinion that its financial statements can be audited by the
practicing chartered accountants. Comment upon the opinion of the GM.
Answer:
No, the financial statements of the Food Corporation Ltd. cannot be audited by the practicing
chartered accountants.
As per Section 6 (1) of the Audit Act, 2048, notwithstanding anything contained in the existing
laws, the audit of the corporate bodies wholly owned by the government of Nepal shall be
audited by the Auditor General pursuant to the said Act. However, under section 6 (2) of the act
the Auditor General may appoint may appoint professional auditors as assistants owing to
constraint of time and resource to audit the corporate bodies wholly owned by the government of
Nepal.
Question No. 13
The promoters of the regional level development banks from four different districts of Nepal
would like to merge as one owing to the increment in capital base required by the Nepal Rastra
Bank. As such, they have come to you for a professional advice on legal provisions and
procedures of the merger.
Required:
As a professional, you are required to give them advice considering all the applicable laws,
regulations and directives issued by the regulators.
Answer:
Section 69 of BAFIA, 2063 has laid down provisions regarding the mergers. As per this section
following action should be taken by these banks:
1. If any licensed institution wishes to be merged with or merging another licensed institution,
both the merged licensed institutions shall adopt a special resolution to that effect in their
respective general meetings and make a joint application, setting out the following matters,
Nepal Rastra Bank for approval:
(a) Audit report of the last fiscal year of the merging licensed institution, along with its
balance sheet, profit and loss account, cash flow statement and other financial
statements;
(b)A copy of the written consent of the creditors of both the merging and merged licensed
institutions to merge or to be merged;
(c) Valuation of the movable and immovable properties of, and actual details of assets and
liabilities of, the merging licensed institution;
(d) A copy of the decision as to the employees of the merging licensed institution;
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(e) Such other necessary matters as prescribed by Nepal Rastra Bank in relation to the
merger of the licensed institutions.
2. If an application is made for approval pursuant to sub-section (1), Nepal Rastra Bank shall
examine the documents and returns attached with the application and decide whether or not to
grant approval for the merger of the licensed institutions with each other and give information
thereof to the concerned licensed institutions within forty five days, and within a period of
additional days if Nepal Rastra Bank has demanded any returns or document in the course of
making decision.
3. Notwithstanding anything contained elsewhere in this Act, Nepal Rastra Bank shall not grant
approval for the merger of any two more than two licensed institutions if it sees that the
merger of such licensed institutions is likely to create an environment of unhealthy
competition or to give rise to the monopoly or controlled practices of any licensed institution
in the financial sector.
4. On receipt of an approval from Nepal Rastra Bank for merger pursuant to Sub-section (2), all
the assets and liabilities of the merging licensed institution shall be transferred to the merged
licensed institution.
5. Nepal Rastra Bank shall maintain records of the merged licensed institutions.
6. Nepal Rastra Bank may issue necessary directives in relation to other procedures relating to
the merger of licensed institutions.
7. Nepal Rastra Bank shall publish in a newspaper of national circulation at least once within
thirty days after the date of decision a notice containing the particulars of the decision made
by it in relation to the merger of any licensed institution for the information of the general
public.
Nepal financial reporting standards/Nepal accounting standards

Question No. 14
ABC Garments Ltd. is facing difficulty in getting demand for one of its Toddler products.
Accordinlgy it would like to assess impairment of one of its manufacturing units producing
Toddlers Nappies that is considered as a seperate Cash Generating Unit. The detail regarding the
unit is as under:
Carrying amount
Assets (Rs.) Fair value(Rs.) Value in use (Rs.)
Factory shed 40 50 -
Patent 20 - -
Equipment 80 60 70
Machineries 50 30
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35
Furniture 25 20 0
Inventories 30 - -
Cash 10 - -
Receivables 60 -
Required:
a) Work out impairment loss if any in the above case, if the recoverable amount of the CGU
is calculated as Rs. 180.
b) Calculate the carrying amount of the asset after adjusting impairment loss.
Answer
a. First we have to calculate the calculate the carrying amount of CGU
Carrying amount
Assets (Rs.)
Factory shed 40
Patent 20
Equipment 80
Machineries 50
Furniture 25
Total 215
The we have to calculate the impairment loss of the CGU considering the recoverable amount of
CGU that is given as Rs. 180. Accordingly the impairment loss comes to Rs. 35 calculated as
under:
Particulars (Rs.)
Carrying amount of CGU 215
Recoverable amount of CGU 180
Impairment loss 35
b. For the calculation of carrying amount after adjusting impairment loss, we have to
allocate the impairment loss on a prorate basis as under:
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Carrying Remarks
amount
Carrying amount of Impairment loss after loss
Assets CGU (Rs.) allocation allocation
Asset not impaired as its
fair value is higher than
Factory shed 40 40 carrying amount
Equipment 80 10 70 Loss allocation to the
Machineries 50 15 35 extent recoverable
Furniture 25 5 20 amount*.
Patent 20 5 15 Balance allocation
Carrying amount of CGU after impairment adjustment 180
* Recoverable amount is the higher of the fair value or the value in use.
Question No. 15
You were newly appointed as an accounting consultant for one of the leading departmental store
of the city. Upon discussion with the management you came to know that the store has a program
called ―customer loyalty program‖ under which it awards points for every purchases to the
customer. Such points could then be redeemed by the customers on their subsequent purchase at
the stores. However, you were surprised to know that the management has never accounted for
such award of points and rather they were dealing the matter on a cash basis, i.e. whenever
customer comes to the store and claim for the redemption, such redemption would be treated as
discount to the customer.
Upon further analysis you came up with the following information:

 The departmental store has a policy of awarding 10 points for every purchase of Rs.500
which can be discounted by the customer during further shopping;
 Unutilized points would lapse on expiry of two years from the date of award;
 Value of each point is Rs.0.50.
 During accounting period 2016, the entity awarded 10 million points to various
customers of which 1.8 million points remained outstanding; and
 The management expected that only 80% will be discounted in future of which normally
60-70% are redeemed during the following year.
Now, as a consultant the management is seeking your advice on raising journal entries for the
following transactions:
a. How should the merchant recognize sale of goods worth Rs.1,000,000 on a particular day?
b. How should the redemption transaction be recorded? First show total sale of goods account,
then present the redemption transaction. The total sales of the entity Rs.5,00 million.
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c. How much of the deferred revenue should be recognized as the year end 31st December 2016
because of the estimation that only 80% of the outstanding points will be redeemed?
d. In the next year (2017) another 60% of the outstanding points were discounted and the
balance remained outstanding. How much of the deferred revenue should the merchant
recognize?
e. In 2018, 20% of the outstanding points of 2017 are discounted by the customers and
remaining points are lapsed. How much of the deferred revenue should the merchant
recognize?
Answer
a. Accounting for sale of goods
Bank A/c Dr. 1,000,000
To Sales A/c 990,000
To Liability under customer loyalty program 10,000
(Segregation of fair value of revenue into sale of goods and customer loyalty program.
Rs.1,000,000 sales = 20,000 point and fair value of 20,000 points = Rs.10,000)
b. Recording redemption transactions

(10,000,000 – 1,800,000 = 8,200,000 points)
Entry for aggregated sale of goods
Bank/ Debtors A/c Dr. 500,000,000

To Sales A/c 495,000,000
To Liability under customer loyalty program 5,000,000
(Liability for 10,000,000 points)
Entry for sale of goods exclusively for rewards on redemption of points

Liability under customer loyalty program Dr. 4,100,000
To Sales A/c 4,100,000
(8,200,000 points equivalent to Rs. 4,100,000)
c. During 2016, balance of liability under customer loyalty programme stands at Rs.900,000.
During the current year deferral of revenue is to the extent of fair value of outstanding
awards, Rs.720,000 (900,000 × 80% ).
Balance amount of Rs. 180,000 (i.e. 900,000 – 720,000) should be recognized as revenue.
Liability under customer loyalty program Dr. 180,000
(Writing back deferred revenue under customer loyalty program which has been revalued at
the year end, based on the past experience).
d. At the year end of 2017, the entity should reassess the obligation under customer loyalty
program against outstanding points of 2016 for which liability of Rs.720,000 was created
deferring revenue.
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60% of the deferred revenue were redeemed during 2017 and the balance points remained
outstanding. So no further revenue recognition other than that linked to redemption of
outstanding points should be recognized.
31st December 2017
Entries for sale of goods exclusively for reward on redemption of points
(60% of Rs. 720,000)
Redemption balance out of 2016 award points valued at Rs.288,000 will appear in the
balance sheet of 2017 under the head liability under customer loyalty program.
e. At the year end of 2018, the entity should reassess the obligation under customer loyalty
program against outstanding points of 2017.
20% of outstanding points of 2017 were redeemed for which:

To Sales A/c 57,600
(20% of 288,000)
Balance points were lapsed for which:

To Income Statement 230,400
Question No. 16
Explain auditors Auditor‘s liability in case of unlawful acts or defaults by clients.
(Question source : ICAN Final Exam : June 2009)
Answer
The auditor's basic responsibility is to report whether in his opinion the accounts show a true and
fair view and in discharging his responsibility he has to see as to how the particular situations
affected his position. The general thinking with regard to unlawful acts or defaults by clients
appears to be that the auditor should not 'aid or abet' but he is apparently not under any legal
obligation to disclose the offence. A professional accountant would himself be guilty of a
criminal offence if he advises his client to commit any criminal offence or helps or encourages in
planning or execution of the same or conceals or destroys evidence to obstruct the course of
public justice or positively assists his client in evading prosecution. A professional accountant in
his capacity as auditor, accountant, or tax representative has access to a variety of information
concerning his clients. On some occasions, he may acquire knowledge that his client has been
guilty of some unlawful act, default, fraud, or other criminal offence. The duty of the
professional accountant in such a case would depend upon the actual circumstances of the
situation. Due consideration should be given to the exact nature of services that a professional
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accountant is rendering to his client, i.e. is he representing the client in income-tax proceedings
or is he acting in the capacity of an auditor or an accountant or a consultant.
The Institute of Chartered Accountants has considered the role of chartered accountants in
relation to taxation frauds by an assessee and has made the following major recommendations:
i) If the fraud relates to past years when the accountant did not represent the client, the client
should be advised to make a disclosure. The accountant should also be careful that the past
fraud does not in any way affect the current tax matters.
ii) In case of fraud relating to accounts examined and reported upon by the professional
accountant himself, he should advise the client to make a complete disclosure. In case the
client refuses to do so, the accountant should inform him that he is entitled to dissociate
himself from the case and that he would make a report to the authorities that the accounts
prepared or examined by him are unreliable on account of certain information obtained later.
In making such a report, the contents of the information as such should not be communicated
unless the client consents in writing.
iii) In case of suppression in current accounts, the client should be asked to make a full
disclosure. If he refuses to do so, the accountant should make a complete reservation in his
report and should not associate himself with the return. However, it can be argued that the
auditor has a professional obligation to ensure that the client is fully aware of the seriousness
of the offence and to seriously consider full disclosure of the matter. It has been clearly
established in various case laws that the auditor is expected to know the contents of
documents and records and ascertain whether the affairs of the client are being conducted in
an unlawful manner. It is in the course of the work, he comes across any unlawful acts, it is
his duty to bring it to the notice of the client as also to make a disclosure in his report in
appropriate cases. In this regard, one has to bear in mind the consequence of the act in
relation to the professional code to which an auditor is subjected. Under the code, an auditor
cannot disclose confidential information unless permitted by the client or unless required by
law. Each case has to be judged on its circumstances. However, in every case he has to assess
the implications of the unlawful act or default on the true and fair character of the accounting
statements. The question of liability of an auditor for unlawful acts or defaults by clients
should be considered in the light of the broad parameters given above. However, it appears
that if an auditor was aware of any unlawful act having been committed by client in respect
of accounts audited by him and the unlawfulness was not rectified by proper disclosure or
any other appropriate means, the auditor owes a duty to make a suitable report. If he does
not, he may be held liable, if the true and fair character of the accounts has been vitiated.
Audit under computerized environment

Question No. 17
Push Ltd. transformed its accounting processes from manual to customised accounting software.
Therein, all the transactions are recorded, processed and the final accounts generated from the
system. The management tells you that in view of the voluminous nature of transactions, there is
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no need to take printouts and that audit can be conducted on the computer itself. The
management further assures you that any 'query based reports' as required can be generated and
printed.
As a statutory auditor of the company, enumerate the procedures you would adopt to conduct the
audit in such environment.
Answer
A key feature of the accounting software package used by the company definitely involves the
absence of a clear audit trail. In other words, transactions cannot be easily traced or co-related
from the individual supporting documents of those transactions. Moreover, the management does
not wish to print the transactions in view of the voluminous nature since it may involve extensive
costs. This has naturally led to extensive dependence by management upon the "exception
reporting" principle.
From the auditor's point of view, it must also be conceded that the exception reports in the form
of 'query-based reports' which isolate the above data will provide the very material information
that the auditor requires for most of the verification work. The only problem which it raises, and
it is a serious one, is that the auditor cannot simply assume that the programmes which produce
the exception reports are reliable in respect of the following factors:
(i) operating accurately;
(ii) printing out all the exceptions which exist; and
(iii) bound by programmed control parameters which meet the company's genuine
internal control requirements.
In view of the above, the auditor is required to test the invisible processes which purport to
embody the controls, and produce the output such as it is. These tests, which invariably involve
the use by the auditor of the computer itself, are known as tests through the computer. In that
approach, the auditor starts by proving the accuracy of the input data, and then thoroughly
examines (by applying tests) the processing procedures with a view to establishing the following
that:
(i) all input is actually entered into the computer.
(ii) neither the computer nor the operators can cause undetected irregularities in the
final reports.
(iii) the programmes appear, on the evidence of rejection and exception routines, to
be functioning correctly.
(iv) all operator intervention during processing is logged and scrutinised by the DP
manager.
The auditor in such circumstances will have to first evaluate the existing controls. For the
same, he has to do the following:
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(i) Evaluate the internal control system especially the controls and checks existing for
recording the transactions, i.e., he has to verify at what level transactions can be entered into
the system and what checks are available to prevent any unauthorised data entry and for
rectifying errors/omissions in the transactions entered.
(ii) Evaluate at what level there is authority given for modification of transactions already
entered. Is there any authority given only to a senior employee to carry out modifications?
Or is it that once transactions are entered and validated no further modifications are possible
thereto.
(iii) Whether there is a provision in the software for carrying out an online audit of transactions,
i.e. whether there a separate module in the package, where a separate password given to the
auditor and once he has seen and approved a particular transaction/set of transactions, the
same would be locked and no modifications would be possible by anyone (including the
senior most employee) in the company.
(iv) Whether there are proper procedures for backup of data on a regular basis and whether the
said procedures are being strictly followed.
(v) In case of any loss of data whether there is a clear defined recovery procedure to minimize
the loss of data due to power failures or any human errors.
(vi) The auditor may introduce some dummy data into the system and see the results obtained.
After the auditor has evaluated the above procedures, he has to prepare an audit plan depending
on the results obtained from his earlier evaluation. Since the transactions are not being printed,
the plan can contain procedures wherein data is verified directly on the computer from the
vouchers/invoices, etc. The audit plan will also require a lot of analytical procedures to be
performed. Depending on the importance of various expense heads and other important account
heads, the auditor will also obtain various reports from the system depending on various queries
that he would have to identify. Some illustrative reports can be:
(i) To check whether proper classification is done for revenue/capital - a report can be obtained
of all purchases (not being raw materials or other routine purchases) exceeding ` one lakh.
(ii) To check whether all freight outward bills are accounted for a report containing a month-
wise co-relation between goods dispatched and freight amount paid. The same can be
further co-related with the freight rates obtained from the bills.
Once the auditor has performed the above procedures, he would be able to form an opinion
whether reliance can be placed on the accounting systems and the data recorded. If the auditor
finds that reliance cannot be placed on the systems he can inform the management about the fact
and also that the transactions will need to printed to allow him to conduct the audit. The
finalization procedures to be followed even under this system would remain more or less similar
to other accounting systems.
Contemporary issues
Question No. 18
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"Corporate accountability and civil and criminal penalties for white collar crimes." Comment on
the major provisions of Sarbanes Oxley Act.
Answer
The Sarbanes Oxley Act of 2002 established corporate accountability and civil and criminal
penalties for white – collar crimes. This Act also known as the Public Company Accounting
Reform and Investor Protection Act of 2002 and commonly called SOX or Sarbox; is a United
States federal law passed in response to a number of major corporate and accounting scandals
including those affecting Enron, Tyco International, and WorldCom. These scandals resulted in a
decline of public trust in accounting and reporting practices.
This Act provides regulatory bodies and courts to take various actions – civil and criminal
proceedings in connection of misstatements amounting to accounting scandals and fraudulent
financial reports, other frauds on securities matters, obstruction of justice and retaliating against
corporate whistleblowers. The Act also enforce tougher civil and criminal penalties for fraud and
accounting scandals, securities fraud and certain other forms of obstruction of justice. The Act
further protect employer against corporate whistle blowers (person who provide evidence of
fraud in the company).
Some of the major provisions of Sarbanes-Oxley Act of 2002 are:
(i) Creation of the Public Company Accounting Oversight Board (PCAOB);

(ii) A requirement that public companies evaluate and disclose the effectiveness of their internal
controls as they relate to financial reporting, and that independent auditors for such
companies "attest" (i.e., agree, or qualify) to such disclosure;
(iii) Certification of financial reports by chief executive officers and chief financial officers;
(iv) Auditor independence, including outright bans on certain types of work for audit clients and
pre-certification by the company's Audit Committee of all other non-audit work;
(v) Ban on most personal loans to any executive officer or director;
(vi) Accelerated reporting of insider trading;
(vii) Prohibition on insider trades during pension fund blackout periods;
(viii) Enhanced criminal and civil penalties for violations of securities law;
(ix) A requirement that companies listed on stock exchanges have fully independent audit
committees that oversee the relationship between the company and its auditor;
(x) Additional disclosure;
(xi) Significantly longer maximum jail sentences and larger fines for corporate executives who
knowingly and willfully misstate financial statements, although maximum sentences are
largely irrelevant because judges generally follow the Federal Sentencing Guidelines in
setting actual sentences;
(xii) Employee protections allowing those corporate fraud whistleblowers who file complaints
with OSHA within 90 days to win reinstatement, back pay and benefits, compensatory
damages, and congressional page abatement orders, and reasonable attorney fees and costs.
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Question No. 19
(Source: environmentalauditors.com.au)
a. What is an environmental audit and what are its types and benefits?
Answer
Environmental audits are tools which can quantify an organizational environmental performance
and position. There are three main types of audits which are environmental compliance audits,
environmental management audits to verify whether an organisation meets its stated objectives,
and, functional environmental audits such as for water and electricity.
Benefits of an environmental audit vary depending on the objectives and scope of the
audit. However, common benefits of environmental auditing include:
 Organizations understand how to meet their legal requirements;

 Meeting specific statutory reporting requirements;
 Organizations can demonstrate they are environmentally responsible;
 Organizations can demonstrate their environmental policy is implemented;
 Understanding environmental interactions of products, services & activities
 Knowing their environmental risks are managed appropriately;
 Understanding how to develop and implement an ISO 14001 EMS; and
 Improving environmental performance and saving money.
b. Who should complete an environmental audit?

Answer
ISO 19011:2012 Guidelines for auditing management systems provides information regarding
the choice of Environmental Auditor. Environmental Auditors should have personal attributes,
such as ethics, open-mindedness, perceptiveness and tact. They should understand audit
principles, procedures and techniques, as well as having gained experience through conducting
audits. They should know the subject matter they are auditing against and how this applies to
different organisations.
Audit Team Leaders should be able to plan and resource effectively, have good communication
and leadership skills. Preferably Environmental Auditors should complete training and have
attained an appropriate level of education. A good Auditor should have adequate skills and
experience.
When seeking an external Auditor consideration could be given to the skills outlined above.
Exemplar Global Environmental Auditors have completed training (5 days) and have met a
minimum certification standard. Depending on the auditing requirements consideration could be
given to determining whether the Auditor needs to be certified by additional organizations (e.g.
EPA appointed Environmental Auditors).
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Question No. 20
Carry out discussion on the audit of public sector enterprises published by the Office of the
Auditor General of Nepal.
Answer
Thefollowing is a direct extract of the ―Guideline for the Audit of Public Sector Enterprises‖
published by the Office of the Auditor General of Nepal.
1. Fundamental Principles
1.1. The purpose for this guide is to establish Auditing Standards and provide guidance on the
objective and general principles governing the audit of financial statements of public sector
undertakings including statutory organizations in Nepal. The audit will be carried out in
accordance with International Organization of Supreme Audit Institutions (INTOSAI) Auditing
Standard read in conjunction with this guide as well as applicable Nepal Standards on Auditing
(NSA) in all matters that are defined material.
1.2. The auditor should comply with ethical principles governing professional responsibilities as
outlined in NSA 01 in the following areas:
Professional Competence and Due Care
Confidentiality
Professional Behaviors:
Integrity, Objectivity and Independence
Technical Standards
2. Objectives of the Audit
The objectives of the regularity audit are:

a) Express an opinion on whether the financial statements of the audited organization as a whole
present fairly, in all material respects the financial position of the organization at year end, the
results of its operations for the year then ended, etc., in conformity with applicable accounting
principles;
b) Audit of financial systems and transactions including an evaluation of compliance with
applicable statutes and regulations;
c) Generally, management is responsible for establishing an effective system of internal controls
to ensure compliance with laws and regulations. Auditor should examine the appropriateness, the
relevance through the control and evaluation of the:
1. Internal organization (structures, functions, tasks, authority, responsibilities, methods,
procedures, etc.)
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2. Existence, respect and application of laws, regulations and instructions
3. Protection of resources and assets
4. Prevention of errors and fraud
5. Quality and viability of the information system and the reporting.
d) Competent, relevant and reasonable evidence should be obtained to support the auditor‘s
judgments and conclusions regarding the organization, program, activity or function under audit.
e) Analyze the financial statements to establish whether acceptable accounting standards for
financial reporting and disclosures are complied with.
f) Reporting of any other matters arising from or relating to the audit that Office of the Auditor
General (OAG) considers should be disclosed.
g) Examination of the consideration of remarks stemming from previous audit reports.
3. Scope of Audit
3.1 The audit should be organized to cover adequately all aspects of the enterprise as far as these
are relevant to the financial statements being audited and should be reasonably satisfied that:
a) The information contained in the underlying accounting records and other source data
is reliable and sufficient; and
b) Whether the relevant information is properly disclosed in the financial statements
subject to statutory requirements, where applicable.
3.2 Assess the reliability and sufficiency of the information by:
a) Studying and evaluating accounting systems and internal controls to determine the
nature, extent and timing of other auditing procedures; and
b) Carrying out such other tests, enquiries and other verification procedures of accounting
transactions and account balances as considered appropriate in the circumstances.
3.3 Determine whether the relevant information is properly disclosed in the financial statements
by:
a) Comparing the financial statements with the underlying accounting records and other
source data; and
b) Considering the judgment that management has made in preparing the financial
statements, accordingly, assess the selection and consistent application of accounting
policies, the manner in which the information has been classified, and the adequacy of
disclosure.
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3.4 Because of the test nature and other inherent limitations of an audit, together with the
inherent limitations of any system of internal control, there is an unavoidable risk that some
material misstatement may remain undiscovered. The auditor should design audit steps and
procedures to provide reasonable assurance of detecting errors, irregularities and illegal acts that
could have a direct and material effect on the financial statement amounts or the results of
regularity audits. The audit cannot, therefore, be relied upon to ensure discovery of all frauds or
errors but where the auditor has any indication that some fraud or error may have occurred,
which could result into material misstatement it should extend its procedures to confirm or dispel
its suspicions.
3.5 the auditor should consider items which either individually or as a group are material:
a) In general terms, a matter may be judged material if knowledge of it would be likely to
influence the user of the financial statements or the audit report.
b) Materiality is often considered in terms of value but the inherent nature or
characteristics of an item or group of item may also render a matter material for example,
where law or regulation requires if to be disclosed separately regardless of the amount
involved.
3.6 Verification that expenditures correspond to the budgets as approved by the authorities.
Briefly analyse the deviations between budgeted and effective expenses.
3.7 Verification of the respect of purchasing procedures and also that goods purchased are
utilized within the foreseen objectives and are still available or have been ceded/sold in
conformity with the methods defined in audited entity‘s rules and regulations.
3.8 Verification of the transactions under the following aspects:
a) Conformity of expenditure authorizations and validity of the supporting documents;
b) Arithmetic accuracy of accounts, supporting documents and financial statements;
c) Accuracy of the bookkeeping entries;
d) Allocation of expenditures in conformity with budgets;
e) Verification that contracts are in conformity with prevailing laws and regulation;
f) Verification that receipts are exhaustively and regularly accounted for;
g) Control of advances, accrued or in abeyance, justification for amounts overdue or
outstanding for long.
3.9 Verification that the accounting systems in use responds to the needs of managements,
particularly as concerns cost analysis.
3.10 Verification that all corrections required from previous audit have been carried out.
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3. Responsibility for Financial Statements
The financial statements are management‘s responsibility. The auditor‘s responsibility is to

express an opinion on the financial statements. Management is responsible for sound accounting
policies and for establishing and maintaining an internal control structure that will among other
things, record, process, summarize and report financial data that is consistent with managements
assertions embodied in the financial statements.
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Questions
Question No 1:
Auditor General desires to appoint a license holder auditor to audit the financial statements of Civil
Aviation Authority of Nepal (CAAN). Is this possible under the law of Nepal? If yes, under what
conditions?
Question No 2:
ABC Ltd has paid up capital of 25 million Rupees. 25% of the company‘s share is owned by
Government of Nepal. The directors of the company are in dilemma regarding the formation of audit
committee in its organization. Chief executive desires his son to be the member of the committee as
he is a chartered accountant by profession and has experience in the accounting field. As an expert,
provide your opinion to the company regarding whether Audit committee is actually required or not
and also highlighting the qualification criteria to be its member along with the functions to be
performed by the committee.
Question No 3
What are the control systems that could be placed in a computerized environment?
Question No 4.
What is audit planning? What are the merits of adequate audit planning?
Question No 5.
Distinguish between Audit Certificate and Audit Report.
Question No 6
Write short note on Forensic audit.
Question No 7.
Differentiate between Audit and Investigation.
Question No 8.
Write short note on ―Assembly of Final Audit File‖.
Question No 9.
What do you know about Sarbenes Oxley Act? Why was it enacted?
Question No 10.
What are the major elements of SOX Act?
Question No 11.
Xyz and Co is a new firm in the market. The Managing Partner of the firm wants to publicize the
services offered by the firm in order to attract new customers and gain the market share. Suggest the
partner with reference to the application of code of ethics for Professional Accountants.
Question No 12.
What are written representations? What should an auditor do in case of any doubt regarding the
reliability of the written representation or in case management hesitates to provide the same?
Question No 13.
How do you determine the suitability of particular Analytical Procedures for given assertion?
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Question No 14.
How do misstatements in financial statements arise? The auditor of ABC Pvt. Ltd. during the course
of audit identified certain issues that reveal the potentialities of fraud in the organization. In this
circumstances, what steps the auditor need to follow?
Question No 15.
Write short note on Hot and Cold Review.
Question No 16.
Write short note on agreed upon procedure.
Question No 17.
JKL Ltd has requested you, auditor of the company, to make a slight change in the terms of audit
engagement. Elaborate how you would deal with the situation.
Question No 18.
Discuss ―Audit through the computer‖.
Question No 19.
The board of directors of a trading company who have been availing loan from a commercial bank
throughout the year have decided to provide a donation of NPR 120,000 to the flood victims of Terai
region without any consent of the shareholders. As an auditor you came across the issue and the
management claims that the decision is correct on the humanitarian ground. Comment.
Question No 20.
How will the fact that the client‘s systems are completely computer-based affect the audit approach?
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Answers
Answer No 1:
Section 6 of Audit Act 2048 of Nepal states the provisions relating to the audit of corporate body
fully owned by government of Nepal. As per the section:
a) The audit of the corporate bodies wholly owned by Government of Nepal shall be audited by the
Auditor General.
b) If the Auditor General is constrained by time and resources to audit the corporate bodies wholly
owned by Government of Nepal pursuant to Sub-section (1) he/she may appoint license holder
auditors under the prevailing laws an assistant. While appointing auditor as such, he/she shall give
priority to the Nepali citizen.
c) The auditor appointed pursuant to Sub-section (2) shall act under the direction, supervision and
control of the Auditor General.
d) The powers, functions, duties and responsibilities of the auditors appointed pursuant to Sub-section
(2) and the procedures to be followed by them in course audit and provisions relating to their report
shall be as prescribed by the Auditor General.
e) The remuneration to be paid by the concerned organization to the auditors appointed pursuant to
Sub-section (2) shall be fixed by the Auditor General keeping in view the volume of financial
transactions, status of accounts, number of branches and sub-branches, work load and work progress
of the concerned organization.
As Civil Aviation Authority of Nepal (CAAN) is an entity under the full ownership of Government of
Nepal, if the provisions mentioned above are complied with, the auditor may be appointed by the
Auditor General for his assistance who shall act under the direction, supervision and control of the
Auditor General.
Answer No 2:
Section 164 of Chapter 18 of Company Act 2064 mentions about the formation of Audit Committee.
As per the section, a listed company with paid up capital of thirty million rupees or more or a
company which is fully or partly owned by the Government of Nepal shall form an audit committee
under the Chairpersonship of a director who is not involved in the day-to –day operations of the
company and consisting of a least three members.
Any person who is a close relative of the chief executive of a company shall not be eligible to be a
member of the audit committee formed pursuant to Sub-section (1).
At least one member of the audit committee shall be an experienced person having obtained
professional certificate on accounting or a person having gained experience in accounting and
financial field after having obtained at least bachelor‘s degree in accounts, commerce, management,
finance or economics.
Functions, duties and powers of audit committee:
The functions, duties and powers of the audit committee formed pursuant to Subsection (1) of Section
164 shall be as follows:
(a) To review the accounts and financial statements of the company and ascertain the truth of the facts
mentioned in such statements;
(b) To review the internal financial control system and the risk management system of the company;
(c) To supervise and review the internal auditing activity or the company;
(d) To recommend the names of potential auditors for the appointment of the auditor of the company,
fix the remuneration and terms and conditions of appointment of the auditor and present the same in
the general meeting for the ratification thereof;
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(e) To review and supervise as to whether the auditor of the company has observed such conduct,
standards and directives determined by the competent body pursuant to the prevailing law as required
to be observed in the course of doing auditing work;
(f) Based on the conduct, standard and directives determined by the competent body pursuant to the
prevailing law, to formulate the polices required to be observed by the company in respect of the
appointment and selection of the auditor;
(g) To prepare the accounts related policy of the company and enforce, or cause to be enforced, the
same; Where any regulatory body has provided for the long term audit report to be set out in the audit
report of the company, to comply with the terms required to prepare such report;
(i) To perform such other terms as prescribed by the board of directors in respect of the accounts,
financial management and audit of the company.
ABC Ltd fulfills the criteria for the formation of the audit committee (partly owned by Government of
Nepal) as mandated by the above provision of the act. Further, the son of the Chief executive cannot
be appointed as the member of the committee as prescribed by Subsection 2 of Section 164.
Answer No 3:
The use of IT affects the way that control activities are implemented. From the auditor‘s perspective,
controls over IT systems are effective when they maintain the integrity of information and the security
of the data such systems process, and include effective application controls and general IT controls.
1. Application controls (NSA 315)

These are manual or automated procedures that typically operate at a business process level and apply
to the processing of transactions by individual applications. Application controls can be preventive or
detective in nature and are designed to ensure the integrity of the accounting records.
Accordingly, application controls relate to procedures used to initiate, record, process and report
transactions or other financial data. These controls help ensure that transactions occurred, are
authorized and are completely and accurately recorded and processed.
Examples include edit checks of input data, and numerical sequence checks with manual follow-up of
exception reports or correction at the point of data entry.
Application controls apply to data processing tasks such as sales, purchases and wages procedures and
are normally divided into the following categories :
(i) Input controls

Examples of Input Control include batch control totals and document counts, as well as manual
scrutiny of documents to ensure they have been authorized. An example of the operation of batch
controls using accounting software would be the checking of a manually produced figure for the total
gross value of purchase invoices against that produced on screen when the batch-processing option is
used to input the invoices. This total could also be printed out to confirm the totals agree.
The most common example of programmed controls over the accuracy and completeness of input are
edit (data validation) checks when the software checks that data fields included on transactions by
performing:
 reasonableness check, (example: net wage to gross wage)

 existence check (example: that a supplier account exists)
 character check, (example: that there are no alphabetical characters in a sales invoice number
field)
 range check, (example: no employee‘s weekly wage is more than NPR 2,000)
 check digit, (example: an extra character added to the account reference field on a purchase
invoice to detect mistakes such as transposition errors during input)
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When data is input via a keyboard, the software will often display a screen message if any of the
above checks reveal an anomaly, (example: ‗Supplier account number does not exist‘.)
(ii) Processing controls

An example of a programmed control over processing is a run-to-run control. The totals from one
processing run, plus the input totals from the second processing, should equal the result from the
second processing run. For instance, the beginning balances on the receivables ledger plus the sales
invoices (processing run 1) less the cheques received (processing run 2) should equal the closing
balances on the receivable ledger.
(iii)Output controls
Batch processing matches input to output, and is therefore also a control over processing and output.
Other examples of output controls include the controlled resubmission of rejected transactions, or the
review of exception reports (example: the wages exception report showing employees being paid
more than NPR 1,000).
(iv)Master files and standing data controls

Examples include one-for-one checking of changes to master files, example: customer price changes
are checked to an authorized list. A regular printout of master files such as the wages master file could
be forwarded monthly to the personnel department to ensure employees listed have personnel records.
2. General controls
These are policies and procedures that relate to many applications and support the effective
functioning of application controls. They apply to mainframe, mini-frame and end-user environments.
Examples of general IT controls are program change controls, controls that restrict access to programs
or data, controls over the implementation of new releases of packaged software applications, and
controls over system software that restrict access to or monitor the use of system utilities that could
change financial data or records without leaving an audit trail.
As per NSA 315, general IT controls that maintain the integrity of information and security of data
commonly include controls over the following:
 data center and network operations

 system software acquisition, change and maintenance
 program change
 access security
 application system acquisition, development, and maintenance
Answer No 4:
Planning an audit involves establishing the overall audit strategy for the engagement and developing
an audit plan. As per NAS 300, the auditor shall develop an audit plan that shall include a description
of:
(a) The nature, timing and extent of planned risk assessment procedures, as determined under NSA
315.
(b) The nature, timing and extent of planned further audit procedures at the assertion level, as
determined under NSA 330
(c) Other planned audit procedures that are required to be carried out so that the engagement complies
with NSAs. The nature and extent of planning activities will vary according to the size and
complexity of the entity, the key engagement team members‘ previous experience with the entity, and
changes in circumstances that occur during the audit engagement.
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Planning is not a discrete phase of an audit, but rather a continual and iterative process that often
begins shortly after (or in connection with) the completion of the previous audit and continues until
the completion of the current audit engagement. Planning, however, includes consideration of the
timing of certain activities and audit procedures that need to be completed prior to the performance of
further audit procedures. For example, planning includes the need to consider, prior to the auditor‘s
identification and assessment of the risks of material misstatement, such matters as:
• The analytical procedures to be applied as risk assessment procedures.
• Obtaining a general understanding of the legal and regulatory framework applicable to the entity and
how the entity is complying with that framework.
• The determination of materiality.
• The involvement of experts.
• The performance of other risk assessment procedures.
Adequate planning benefits the audit of financial statements in several ways, including the following:
• Helping the auditor to devote appropriate attention to important areas of the audit.
• Helping the auditor identify and resolve potential problems on a timely basis.
• Helping the auditor properly organize and manage the audit engagement so that it is performed in an
effective and efficient manner.
• Assisting in the selection of engagement team members with appropriate levels of capabilities and
competence to respond to anticipated risks, and the proper assignment of work to them.
• Facilitating the direction and supervision of engagement team members and the review of their
work.
• Assisting, where applicable, in coordination of work done by auditors of components and experts.
Answer No 5:
A certificate is a written confirmation of the accuracy of the facts stated therein and does not involve
any estimate or opinion. The term ‗certificate‘ is, therefore, used where the auditor verifies the
accuracy of facts. An auditor may thus, certify the circulation figures of a newspaper or the value of
imports or exports of a company. An auditor‘s certificate represents that he has verified certain figures
and is in a position to vouchsafe their accuracy as per his examination of documents and books of
accounts.
A report, on the other hand, is a formal statement usually made after an enquiry, examination or
reviews of specified matters under report and includes the reporting auditor‘s opinion thereon.
Thus, when a reporting auditor issues a certificate, he is responsible for the factual accuracy of what is
stated therein. On the other hand, when a reporting auditor gives a report, he is responsible for
ensuring that the report is based on factual data, that his opinion is in due accordance with facts, and
that it is arrived at by the application of due care and skill.
The ‗report‘ involves expression of opinion which may differ from one professional to another. There
is no question of exactitude in case of a report since the information contained therein is based on
estimates and involves judgment element.
Answer No 6:
A forensic audit is an examination and evaluation of a firm's or individual's financial information for
use as evidence in court. A forensic audit can be conducted in order to prosecute a party for fraud,
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embezzlement or other financial claims. In addition, an audit may be conducted to determine
negligence.
Forensic auditing is a specialization within the field of accounting, and forensic auditors often provide
expert testimony during trial proceedings. Most large accounting firms have a forensic auditing
department as well.
The audit covers a wide range of investigative activities performed by accountants. The process may
also include serving as an expert witness in a fraud trial. A forensic audit could also cover situations
that do not involve fraud or embezzlement, such as disputes related to a bankruptcy, business
closures, and divorces.
Answer No 7:
Auditing is a process of identifying whether the results of accounting information are accurate and
according to the specified norms or not. Unlike investigation is a severe examination of specific
records so as to highlight a fact. The key difference between conventional auditing and investigation
could be enlisted as:
Auditing Investigation
The process of inspecting the books of accounts of An inquiry conducted, for establishing a
an entity and reporting on it, is known as Auditing. specific fact or truth is known as Investigation.
The nature of auditing is general examination. There is critical and in depth examination in
case of investigation.
The evidences are persuasive in nature. The evidences are unquestionable, therefore, its
nature is decisive.
Audit is carried on annual basis. Investigation is carried as per requirement.
Chartered Accountant performs audit. Experts perform investigation.
Auditing is reported to all with general purpose The report of the investigation is generally kept
reporting. confidential.
Audit is obligatory. Investigation is not obligatory in nature.
An auditor is appointed by the shareholders of the The management or shareholders or one-third
company. party can appoint investigator.
Audit seeks to form an opinion on financial Investigation seeks to answer the questions that
statement. are asked in the engagement letter.
Answer No 8:
NSQC 1 requires firms to establish policies and procedures for the timely completion of the assembly
of audit files.
NSA 230 on ―Audit Documentation‖ mentions that an appropriate time limit within which to
complete the assembly of the final audit file is ordinarily not more than 60 days after the date of the
auditor‘s report.
The completion of the assembly of the final audit file after the date of the auditor‘s report is an
administrative process that does not involve the performance of new audit procedures or the drawing
of new conclusions. Changes may, however, be made to the audit documentation during the final
assembly process if they are administrative in nature. Examples of such changes include:
• Deleting or discarding superseded documentation.
• Sorting, collating and cross-referencing working papers.
• Signing off on completion checklists relating to the file assembly process.
• Documenting audit evidence that the auditor has obtained, discussed and agreed with the relevant
members of the engagement team before the date of the auditor‘s report.
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NSQC 1 requires firms to establish policies and procedures for the retention of engagement
documentation.
Retention period for audit engagements ordinarily is no shorter than five years from the date of the
auditor‘s report, or, if later, the date of the group auditor‘s report.
An example of a circumstance in which the auditor may find it necessary to modify existing audit
documentation or add new audit documentation after file assembly has been completed is the need to
clarify existing audit documentation arising from comments received during monitoring inspections
performed by internal or external parties.
Answer No 9:
A variety of complex factors created the conditions and culture in which a series of large corporate
frauds occurred between2000 to 2002. The spectacular, highly publicized frauds at Enron,
WorldCom, and Tyco exposed significant problems with conflicts of interest and incentive
compensation practices for senior management and accounting firm.
Thus to protect investors, and really all stakeholders in a business firm, by improving the accuracy
and reliability of corporate disclosures, such as earnings reports, pursuant to securities laws and
regulations, Sarbanes–Oxley Act of 2002, also known as the "Public Company Accounting Reform
and Investor Protection Act" or "Corporate and Auditing Accountability and Responsibility Act" and
more commonly called as Sarbanes–Oxley, Sarbox or SOX was formulated. SOX is a United States
federal law that set new or expanded requirements for all U.S. public company boards, management
and public accounting firms.
The SOX Act holds company CEO's and CFO's responsible for the information presented by their
company in financial statements. It created new standards of accountability for corporations as well as
penalties of those standards of accountability are not met. SOX established new financial reporting
standards.
All companies, according to SOX, must provide a yearend report about the internal controls they have
in place and the effectiveness of those internal controls.
Reasons For Sox

Auditor conflicts of interest: Prior to SOX, auditing firms, the primary financial "watchdogs"
for investors, were self-regulated. They also performed significant non-audit or consulting work
for the companies they audited. Many of these consulting agreements were far more lucrative
than the auditing engagement. This presented at least the appearance of a conflict of interest. For
example, challenging the company's accounting approach might damage a client relationship,
conceivably placing a significant consulting arrangement at risk, damaging the auditing firm's
bottom line.
Boardroom failures: Boards of Directors, specifically Audit Committees, are charged with
establishing oversight mechanisms for financial reporting in U.S. corporations on the behalf of
investors. These scandals identified Board members who either did not exercise their
responsibilities or did not have the expertise to understand the complexities of the businesses. In
many cases, Audit Committee members were not truly independent of management.
: The roles of securities analysts, who make buy and

sell recommendations on company stocks and bonds, and investment bankers, who help provide
companies loans or handle mergers and acquisitions, provide opportunities for conflicts. Similar
to the auditor conflict, issuing a buy or sell recommendation on a stock while providing lucrative
investment banking services creates at least the appearance of a conflict of interest.
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Banking practices: Lending to a firm sends signals to investors regarding the firm's risk. In
the case of Enron, several major banks provided large loans to the company without
understanding, or while ignoring, the risks of the company. Investors of these banks and their
clients were hurt by such bad loans, resulting in large settlement payments by the banks. Others
interpreted the willingness of banks to lend money to the company as an indication of its health
and integrity, and were led to invest in Enron as a result. These investors were hurt as well.
Answer No 10:
SOX is a United States federal law that set new or expanded requirements for all U.S. public
company boards, management and public accounting firms.
The act contains eleven titles, or sections, ranging from additional corporate board
responsibilities to criminal penalties, and requires the Securities and Exchange Commission
(SEC) to implement rulings on requirements to comply with the law
1. Public Company Accounting Oversight Board (PCAOB)
Title I consists of nine sections and establishes the Public Company Accounting Oversight Board,
to provide independent oversight of public accounting firms providing audit services ("auditors").
It also creates a central oversight board tasked with registering auditors, defining the specific
processes and procedures for compliance audits, inspecting and policing conduct and quality
control, and enforcing compliance with the specific mandates of SOX.
2. Auditor Independence
Title II consists of nine sections and establishes standards for external auditor independence, to
limit conflicts of interest. It also addresses new auditor approval requirements, audit partner
rotation, and auditor reporting requirements. It restricts auditing companies from providing non-
audit services (e.g., consulting) for the same clients.
3. Corporate Responsibility
Title III consists of eight sections and mandates that senior executives take individual
responsibility for the accuracy and completeness of corporate financial reports. It defines the
interaction of external auditors and corporate audit committees, and specifies the responsibility of
corporate officers for the accuracy and validity of corporate financial reports. It enumerates
specific limits on the behaviors of corporate officers and describes specific forfeitures of benefits
and civil penalties for non-compliance. For example, Section 302 requires that the company's
"principal officers" (typically the Chief Executive Officer and Chief Financial Officer) certify
and approve the integrity of their company financial reports quarterly.
4. Enhanced Financial Disclosures
Title IV consists of nine sections. It describes enhanced reporting requirements for financial
transactions, including off-balance-sheet transactions, pro-forma figures and stock transactions of
corporate officers. It requires internal controls for assuring the accuracy of financial reports and
disclosures, and mandates both audits and reports on those controls. It also requires timely
reporting of material changes in financial condition and specific enhanced reviews by the SEC or
its agents of corporate reports.
5. Analyst Conflicts of Interest
Title V consists of only one section, which includes measures designed to help restore investor
confidence in the reporting of securities analysts. It defines the codes of conduct for securities
analysts and requires disclosure of knowable conflicts of interest.
6. Commission Resources and Authority
Title VI consists of four sections and defines practices to restore investor confidence in securities
analysts. It also defines the SEC's authority to censure or bar securities professionals from
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practice and defines conditions under which a person can be barred from practicing as a broker,
advisor, or dealer.
7. Studies and Reports
Title VII consists of five sections and requires the Comptroller General and the SEC to perform
various studies and report their findings. Studies and reports include the effects of consolidation
of public accounting firms, the role of credit rating agencies in the operation of securities
markets, securities violations, and enforcement actions, and whether investment banks assisted
Enron, Global Crossing, and others to manipulate earnings and obfuscate true financial
conditions.
8. Corporate and Criminal Fraud Accountability
Title VIII consists of seven sections and is also referred to as the "Corporate and Criminal Fraud
Accountability Act of 2002". It describes specific criminal penalties for manipulation, destruction
or alteration of financial records or other interference with investigations, while providing certain
protections for whistle-blowers.
9. White Collar Crime Penalty Enhancement
Title IX consists of six sections. This section is also called the "White Collar Crime Penalty
Enhancement Act of 2002." This section increases the criminal penalties associated with white-
collar crimes and conspiracies. It recommends stronger sentencing guidelines and specifically
adds failure to certify corporate financial reports as a criminal offense.
10. Corporate Tax Returns
Title X consists of one section. Section 1001 states that the Chief Executive Officer should sign
the company tax return.
11. Corporate Fraud Accountability
Title XI consists of seven sections. Section 1101 recommends a name for this title as "Corporate
Fraud Accountability Act of 2002". It identifies corporate fraud and records tampering as
criminal offenses and joins those offenses to specific penalties. It also revises sentencing
guidelines and strengthens their penalties. This enables the SEC to resort to temporarily freezing
transactions or payments that have been deemed "large" or "unusual".
Answer No 11:
Section 250 of Code of Ethics, 2015 issued by ICAN mentions about Marketing Professional
Services. According to the Section, when a professional accountant in public practice solicits new
work through advertising or other forms of marketing, there may be a threat to compliance with the
fundamental principles. For example, a self-interest threat to compliance with the principle of
professional behavior is created if services, achievements, or products are marketed in a way that is
inconsistent with that principle.
A professional accountant in public practice shall not bring the profession into disrepute when
marketing professional services. The professional accountant in public practice shall be honest and
truthful, and not:
(a) Make exaggerated claims for services offered, qualifications possessed, or experience gained; or
(b) Make disparaging references or unsubstantiated comparisons to the work of another. If the
professional accountant in public practice is in doubt about whether a proposed form of advertising or
marketing is appropriate, the professional accountant in public practice shall consider consulting with
the relevant professional body.
Notwithstanding anything mentioned hereinbefore, no professional accountant in public practice shall
solicit clients through any manner such as advertisement, designing web site etc. except in accordance
with the ―GUIDELINES ON ETHICAL MARKETING & PUBLICITY PRACTICES BY
PROFESSIONAL ACCOUNTANTS‖ issued by the ICAN.
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Answer No 12:
As per NSA 580, Written Representation is a written statement by management provided to
the auditor to confirm certain matters or to support other audit evidence. Written
representations in this context do not include financial statements, the assertions therein, or
supporting books and records.
Written representations are an important source of audit evidence. If management modifies or
does not provide the requested written representations, it may alert the auditor to the
possibility that one or more significant issues may exist. Further, a request for written, rather
than oral, representations in many cases may prompt management to consider such matters
more rigorously, thereby enhancing the quality of the representations.
The written representations shall be in the form of a representation letter addressed to the
auditor. If law or regulation requires management to make written public statements about its
responsibilities, and the auditor determines that such statements provide some or all of the
representations required, the relevant matters covered by such statements need not be
included in the representation letter.
Because the auditor is concerned with events occurring up to the date of the auditor‘s report
that may require adjustment to or disclosure in the financial statements, the written
representations are dated as near as practicable to, but not after, the date of the auditor‘s
report on the financial statements.
Doubt as to the Reliability of Written Representations
If the auditor has concerns about the competence, integrity, ethical values or diligence of
management, or about its commitment to or enforcement of these, the auditor shall determine
the effect that such concerns may have on the reliability of representations (oral or written)
and audit evidence in general.
In particular, if written representations are inconsistent with other audit evidence, the auditor
shall perform audit procedures to attempt to resolve the matter. If the matter remains
unresolved, the auditor shall reconsider the assessment of the competence, integrity, ethical
values or diligence of management, or of its commitment to or enforcement of these, and
shall determine the effect that this may have on the reliability of representations (oral or
written) and audit evidence in general.
If the auditor concludes that the written representations are not reliable, the auditor shall take
appropriate actions, including determining the possible effect on the opinion in the auditor‘s
report in accordance with NSA 705,4 having regard to the requirement in paragraph 20 of this
NSA.
Further, if management does not provide one or more of the requested written
representations, the auditor shall:
(a) Discuss the matter with management;
(b) Reevaluate the integrity of management and evaluate the effect that this may have on the
reliability of representations (oral or written) and audit evidence in general; and
(c) Take appropriate actions, including determining the possible effect on the opinion in the
auditor‘s report in accordance with NSA 705, having regard to the requirement in paragraph
20 of this NSA.
In addition to the written representation, the auditor may consider it necessary to request
other written representations about the financial statements. Such written representations may
supplement, but do not form part of, the written representation required by paragraph 10.
They may include representations about the following:
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• Whether the selection and application of accounting policies are appropriate; and
• Whether matters such as the following, where relevant under the applicable financial
reporting framework, have been recognized, measured, presented or disclosed in accordance
with that framework:
i. Plans or intentions that may affect the carrying value or classification of assets
and liabilities;
ii. Liabilities, both actual and contingent;
iii. Title to, or control over, assets, the liens or encumbrances on assets, and assets
pledged as collateral; and
iv. Aspects of laws, regulations and contractual agreements that may affect the
financial statements, including non-compliance.
Answer No 13:
Substantive analytical procedures are generally more applicable to large volumes of

transactions that tend to be predictable over time. The application of planned analytical
procedures, as per NSA 520, on ―Analytical Procedure‖, is based on the expectation that
relationships among data exist and continue in the absence of known conditions to the
contrary. However, the suitability of a particular analytical procedure will depend upon the
auditor‘s assessment of how effective it will be in detecting a misstatement that, individually
or when aggregated with other misstatements, may cause the financial statements to be
materially misstated.
In some cases, even an unsophisticated predictive model may be effective as an analytical
procedure. For example, where an entity has a known number of employees at fixed rates of
pay throughout the period, it may be possible for the auditor to use this data to estimate the
total payroll costs for the period with a high degree of accuracy, thereby providing audit
evidence for a significant item in the financial statements and reducing the need to perform
tests of details on the payroll. The use of widely recognized trade ratios (such as profit
margins for different types of retail entities) can often be used effectively in substantive
analytical procedures to provide evidence to support the reasonableness of recorded amounts.
Different types of analytical procedures provide different levels of assurance. Analytical
procedures involving, for example, the prediction of total rental income on a building divided
into apartments, taking the rental rates, the number of apartments and vacancy rates into
consideration, can provide persuasive evidence and may eliminate the need for further
verification by means of tests of details, provided the elements are appropriately verified. In
contrast, calculation and comparison of gross margin percentages as a means of confirming a
revenue figure may provide less persuasive evidence, but may provide useful corroboration if
used in combination with other audit procedures.
The determination of the suitability of particular substantive analytical procedures is
influenced by the nature of the assertion and the auditor‘s assessment of the risk of material
misstatement. For example, if controls over sales order processing are deficient, the auditor
may place more reliance on tests of details rather than on substantive analytical procedures
for assertions related to receivables.
Particular substantive analytical procedures may also be considered suitable when tests of
details are performed on the same assertion. For example, when obtaining audit evidence
regarding the valuation assertion for accounts receivable balances, the auditor may apply
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analytical procedures to an aging of customers‘ accounts in addition to performing tests of
details on subsequent cash receipts to determine the collectability of the receivables.
Answer No 14:
NSA 240 specifies that misstatements in the financial statements can arise from either fraud
or error. The distinguishing factor between fraud and error is whether the underlying action
that results in the misstatement of the financial statements is intentional or unintentional.
The primary responsibility for the prevention and detection of fraud rests with both those
charged with governance of the entity and management. Fraud is an intentional act by one or
more individuals among management, those charged with governance, employees, or third
parties, involving the use of deception to obtain an unjust or illegal advantage.
Responsibilities of the Auditor

An auditor conducting an audit in accordance with NSAs is responsible for obtaining
reasonable assurance that the financial statements taken as a whole are free from material
misstatement, whether caused by fraud or error. Owing to the inherent limitations of an audit,
there is an unavoidable risk that some material misstatements of the financial statements may
not be detected, even though the audit is properly planned and performed in accordance with
the NSAs.
Unless the auditor has reason to believe the contrary, the auditor may accept records and
documents as genuine. If conditions identified during the audit cause the auditor to believe
that a document may not be authentic or that terms in a document have been modified but not
disclosed to the auditor, the auditor shall investigate further Where responses to inquiries of
management or those charged with governance are inconsistent, the auditor shall investigate
the inconsistencies.
If the auditor identifies a misstatement, the auditor shall evaluate whether such a
misstatement is indicative of fraud. If there is such an indication, the auditor shall evaluate
the implications of the misstatement in relation to other aspects of the audit, particularly the
reliability of management representations, recognizing that an instance of fraud is unlikely to
be an isolated occurrence If the auditor identifies a misstatement, whether material or not, and
the auditor has reason to believe that it is or may be the result of fraud and that management
(in particular, senior management) is involved, the auditor shall reevaluate the assessment of
the risks of material misstatement due to fraud and its resulting impact on the nature, timing
and extent of audit procedures to respond to the assessed risks. The auditor shall also consider
whether circumstances or conditions indicate possible collusion involving employees,
management or third parties when reconsidering the reliability of evidence previously
obtained. If the auditor confirms that, or is unable to conclude whether, the financial
statements are materially misstated as a result of fraud the auditor shall evaluate the
implications for the audit.
Auditor Unable to Continue the Engagement

If, as a result of a misstatement resulting from fraud or suspected fraud, the auditor
encounters exceptional circumstances that bring into question the auditor‘s ability to continue
performing the audit, the auditor shall:
(a) Determine the professional and legal responsibilities applicable in the circumstances,
including whether there is a requirement for the auditor to report to the person or persons who
made the audit appointment or, in some cases, to regulatory authorities;
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(b) Consider whether it is appropriate to withdraw from the engagement, where withdrawal is
possible under applicable law or regulation; and
(c) If the auditor withdraws:
(i). Discuss with the appropriate level of management and those charged with governance
the auditor‘s withdrawal from the engagement and the reasons for the withdrawal; and
(ii). Determine whether there is a professional or legal requirement to report to the person
or persons who made the audit appointment or, in some cases, to regulatory authorities,
the auditor‘s withdrawal from the engagement and the reasons for the withdrawal.
Answer No 15:
NSQC 1 provides that the objective of the firm is to establish and maintain a system of quality control
to provide it with reasonable assurance that:
(a) The firm and its personnel comply with professional standards and applicable legal and regulatory
requirements; and
(b) Reports issued by the firm or engagement partners are appropriate in the circumstances.
To ensure whether objectives of the audit have been achieved or not there is a techniques called hot
file review (also known as hot review) and cold file review (also known as cold review).
Hot File Review:
Hot file review or hot review is conducted usually conducted during the audit and/or audit work is
completed but before the auditor‗s report is issued. This in nature is a detailed review that is
conducted with an aim to find out if there is any weakness in application of audit procedures or if the
results have been misinterpreted. Hot reviews are usually carried out usually by the senior the audit
team or someone with the same authority who is not connected with the engagement. Such reviews
mostly include meetings with audit team personnel and their individual work so that both work and
the skills of members are improved by pointing out discrepancies and providing recommendations.
The purpose of a hot review is to identify any key areas that need to be addressed prior to signing the
report. The categories for review which may be undertaken can be described as follows:
i. Comfort reviews: Number of firms, for their largest clients (not necessarily high risk
clients), feel a little exposed and want someone else to review the work before the job is
complete.
ii. High risk reviews: One off reviews may be required on files in circumstances where, for
example, the company is being sold and the firm feels that having a review undertaken by
an independent party will help to decrease their risk.
iii. Training reviews: Where key audit staff have left, a manager-style review on files may
be undertaken in order to train a new manager or partner.
iv. Independence reviews: Some sole practitioners require an outside review to ensure that
it is reasonable for them to maintain an audit assignment when independence might be
called into question. This is particularly the case where individuals have been an audit
partner for more than seven years.
v. NSQC reviews: The NSQC1: Quality control for firms that perform audits and reviews
of historical financial information, and other assurance and related services engagements,
requires an independent hot review for all listed work and certain other high profile or
high risk work.
To summarize, hot review is conducted during the audit work is conducted but before the auditor‗s
report is issued with a prime objective to ensure compliance with relevant auditing standards and
achieving engagement‗s objectives
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Cold file review: Paper 3: Advanced Audit & Assurance [RTP 2017 December]
Cold file review or cold review is an objective evaluation on the date of auditor‗s report and is
performed by the auditor i.e. partner himself when all the audit work has been concluded and the
required sufficient appropriate audit evidence has been obtained and conclusions drawn and reported.
This review usually takes place when the auditor‗s report is signed off. The purpose of this review is
to ensure compliance with relevant auditing standards and to analyze weaknesses in the way whole
audit work is conducted and how it can be improved for next similar assignments by updating firm‗s
quality control standards, training the staff etc.
Normally the cold file review would aim to:
i. Identify whether the disclosure requirements had been properly met - incorrect
disclosures are the largest subject of complaints to the Institute.
ii. Identify whether the Auditing Standards and Regulations have been properly complied
with - each audit would be "scored" using a comprehensive file review checklist.
iii. Assess the effectiveness of any independent manager review and the partner review,
looking for any points that should have been picked up by a manager but had not been,
and likewise with the partner.
To summarize, cold review is conducted with a view to check for the weaknesses in the firm‗s quality
control procedures and system, proficiency of audit team members and how they can be improved to
make later audit assignment more effective and efficient.
Answer No 16:
An engagement to perform agreed-upon procedures may involve the auditor in performing certain
procedures concerning individual items of financial data (for example, accounts payable, accounts
receivable, purchases from related parties and sales and profits of a segment of an entity), a financial
statement (for example, a balance sheet) or even a complete set of financial statements.
The objective of an agreed-upon procedures engagement is for the auditor to carry out procedures of
an audit nature to which the auditor and the entity and any appropriate third parties have agreed and to
report on factual findings.
As the auditor simply provides a report of the factual findings of agreed-upon procedures, no
assurance is expressed. Instead, users of the report assess for themselves the procedures and findings
reported by the auditor and draw their own conclusions from the auditor‘s work.
The report is restricted to those parties that have agreed to the procedures to be performed since
others, unaware of the reasons for the procedures, may misinterpret the results. The auditor should
ensure with representatives of the entity and, ordinarily, other specified parties who will receive
copies of the report of factual findings, that there is a clear understanding regarding the agreed
procedures and the conditions of the engagement.
Matters to be agreed include the following:

i. Nature of the engagement including the fact that the procedures performed will not
constitute an audit or a review and that accordingly no assurance will be expressed.
ii. Stated purpose for the engagement.
iii. Identification of the financial information to which the agreed-upon procedures will be
applied.
iv. Nature, timing and extent of the specific procedures to be applied.
v. Anticipated form of the report of factual findings.
vi. Limitations on distribution of the report of factual findings. When such limitation would
be in conflict with the legal requirements, if any, the auditor would not accept the
engagement.
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Answer No 17: Paper 3: Advanced Audit & Assurance [RTP 2017 December]
NSA 210 on ―Agreeing the terms of audit engagements‖ states that the auditor shall not agree to a
change in the terms of the audit engagement where there is no reasonable justification for doing so.
However if, prior to completing the audit engagement, the auditor is requested to change the audit
engagement to an engagement that conveys a lower level of assurance, the auditor shall determine
whether there is reasonable justification for doing so.
Further if the terms of the audit engagement are changed, the auditor and management shall agree on
and record the new terms of the engagement in an engagement letter or other suitable form of written
agreement.
If the auditor is unable to agree to a change of the terms of the audit engagement and is not permitted
by management to continue the original audit engagement, the auditor shall:
(a) Withdraw from the audit engagement where possible under applicable law or regulation; and
(b) Determine whether there is any obligation, either contractual or otherwise, to report the
circumstances to other parties, such as those charged with governance, owners or regulators.
In the given case of JKL ltd, the reason and the area of the change would be considered and the
reasonableness of the same would be ascertained at first. Accordingly, the decision to accept or reject
the same would be taken complying with the provisions stated above.
Answer No18:
Audit through the Computer is the audit, with the help of computer technology in the audit of
accounts processed in a computerized environment. Audit through the computer requires that the
auditor submits data to the computer for processing. The results are then analyzed for the processing
reliability and accuracy of the computer program. Technical and other developments that necessitated
this approach include the following;
i. On line data entry
ii. Elimination or reduction of print outs
iii. Real time files up dating
The auditor can use the computer to test:
i. The logic and controls existing within the system, and
ii. The records produced by the system
Depending upon the complexity of the application system being audited, the approach may be fairly
simple or require extensive technical competence on the part of the auditor. There are several
circumstances where auditing through the computer must be used:
a. The application system processes large volumes of input and produces large volumes of output that
make extensive direct examination of the validity of input and output difficult.
b. Significant parts of the internal control system are embodied in the computer system. For example,
in on line banking system a computer program may batch transactions for individual tellers to provide
control totals for reconciliation at the end of the day‗s processing.
c. The logic of the system is complex and there are large portions that facilitate use of the system for
efficient processing.
d. There are substantial gaps in the visible audit trail.
The primary advantage of this approach is that the auditor has increased power to effectively test the
computer system. The range and capability of tests that can be performed increases and the auditor
acquires greater confidence that data processing is correct. By examining the system‗s processing, the
auditor also can assess the system‗s ability to cope with environment change.
The primary disadvantages of the approach are generally high costs and the need for extensive
technical expertise when systems are complex. However, these disadvantages are really not that
important if auditing through the computer is the only viable method of carrying out the audit.
Auditing through computer may be conducted through test data, computer program, etc.
Answer No 19:
Section 105 of Companies Act, 2063 of Nepal mentions about restrictions on authority of directors:
According to the section:
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The board of directors of a public company, or of a private company receiving loans from any bank or
financial institution, shall not, except with a special resolution being adopted by the general meeting
of shareholders, do or cause to be done the following act:
(a) selling, donating, gifting, leasing or otherwise disposing of more than seventy per cent of one or
more undertakings being operated by it;
(b) borrowing moneys, where the moneys to be borrowed will exceed the aggregate of the paid up
capital of the company and its free reserves, apart from any loans and faculties with a term of less
than six months obtained by it from a bank or financial institution in the ordinary course of business
transaction;
(c) Making a contribution, donation or gift in a sum exceeding 100,000 rupees in one financial year or
a sum exceeding one per cent of the average net profits of the company during the last three financial
years, whichever is the lesser, except the contribution, donation, gift etc. made for the welfare of its
employees or for the promotion of its business.
Provided, however, that:

Nothing contained in Clause (a) shall affect the title of a buyer who buys any property or undertaking
of a company on payment of the prevailing market price from a company which is solely engaged in
the business of buying and selling of movable and immovable properties.
Further, the provision of Clause (b) shall not be applicable to the acceptance by a company carrying
on banking or financial transaction or insurance business of deposits or insurance premium from the
general public in the ordinary course of its business transaction.
In the given case, the company is allowed to donate the amount only when the decision has been
passed by special resolution in the general meeting of the company.
However if the donation has been provided for the welfare of its employees who have been affected
by the flood or the donation involves some sort of promotion campaign of it business, then the act is
permissible under the Act of Nepal.
Answer No 20:
The fact that systems are computer-based does not alter the key stages of the audit process. The
references to the audit of computer-based systems have been incorporated in NSAs 300, 315 and 330.
(i) Planning
The Appendix to NSA 300 states ‗the effect of information technology on the audit procedures,
including the availability of data and the expected use of computer - assisted audit techniques‘ as one
of the characteristics of the audit that needs to be considered in developing the overall audit strategy.
(ii) Risk assessment

As per NSA 315, the auditor shall obtain an understanding of the internal control relevant to the
audit.
The application notes to NSA 315 identify the information system as one of the five components of
internal control. It requires the auditor to obtain an understanding of the information system, including
the procedures within both IT and manual systems. In other words, if the auditor relies on internal
control in assessing risk at an assertion level, s/he needs to understand and test the controls, whether
they are manual or automated. Auditors often use internal control evaluation (ICE) questions to
identify strengths and weaknesses in internal control. These questions remain the same – but in
answering them, the auditor considers both manual and automated controls.
For instance, when answering the ICE question, ‗Can liabilities be incurred but not recorded?‘, the
auditor needs to consider manual controls, such as matching goods received notes to purchase
invoices – but will also consider application controls, such as programmed sequence checks on
purchase invoices. The operation of batch control totals, whether programmed or performed manually,
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would also be relevant to this question.
(iii) Testing
NSA 330 states that the auditor shall design and perform further audit procedures whose nature,
timing and extent are based on and are responsive to the assessed risks of material misstatement at the
assertion level.
This statement holds true irrespective of the accounting system, and the auditor will design
compliance and substantive tests that reflect the strengths and weaknesses of the system. When testing
a computer information system, the auditor is likely to use a mix of manual and computer-assisted
audit tests.
The approaches that could be used as an approach to testing could be:
i. Round the computer and
ii. Through the computer.
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Questions
1. What is audit sampling? What kind of errors may sampling risk result? What are the Items to be
considered while designing sample size and items for testing .What audit procedures can an auditor
apply for audit sampling.
2. What are the auditor‘s responsibilities regarding the opening balances? Also mention the
considerations specific to the Public Sector entities, if any, provided by the concerned standard.
3. Write Short Note on Audit Note Book
4. ABC Associates is a new firm in the market. What are the quality control measures to be taken by the
firm as prescribed by NSQC 1? What are the issues clarified regarding the assembly of final
engagement files by this standard?
5. Mr. Alex, a Chartered Accountant was invited in a conference addressing the problems faced by
banking industries in Nepal recently. During the course of his presentation, he shared some of the
vital information of his client‘s business under the impression that it will help the Industry to cope
with present problems faced by the industry. Critically analyze the situation.
6. XYZ & Associates is an auditor of Sky Water Ltd. for the financial year 2073/74. Audit team has
completed the audit procedures and the engagement manager is clear in respect of providing clean
audit report on the financial statements of the company but he is confused about the manner in which
to draw user‘s attention about a pending lawsuit against Alpha Beta for which the company has made
appropriate presentation and disclosure in Note 10 of the financial statement. Advise the manager as
per relevant NSA guidance.
7. Write short note on Professional Behavior.
8. Mr. Writer is a professional accountant in public practice. Recently he has been offered referral fee by
his client for referring third party to his client for certain business purpose. Mr. Writer is in dilemma
whether he can accept the same or not. How would you clarify his dilemma? Is there any such
provision in ICAN code of ethics governing the referral fee?
9. ABC Pvt. Ltd appointed an auditor without arranging for AGM. In what cases the appointed auditor
may be disqualified?
10. Differentiate:
Reasonable and limited assurance
11. Miss Shila is dissatisfied with a Chartered Accountant and is willing to file complain against the
ICAN Member. She is asking you whether there is any provision to do the same. What would be your
advice to her? How is the case taken by ICAN and if found guilty, what punishments might the
member be imposed?
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12. What are the roles of Internal Audit in Corporate Governance?
13. Ram, a Chartered Accountant was engaged by Everest Company Pvt. Ltd. for auditing their accounts.
He sent his letter of engagement to the Board of Directors, which was accepted by the company. In
the course of audit of the company, the auditor was unable to obtain appropriate sufficient audit
evidence regarding inventories. The client requested for a change in the terms of engagement. Is this
possible?
14. Audit through the computer
15. Pure Bank Limited provided a long term loan amounting to Rs. 250 Million to Relax Hotel Pvt.
Limited for hotel operation. The hotel is unable to repay installment (principal & interest) as per
repayment schedule. Accordingly you are appointed by the Bank for special review of the income of
the hotel to ensure whether income procedures are duly complied with and the amount has been fully
accounted for. As a special reviewer how would you plan your review work?
16. When is a forensic audit necessary?
17. What do you mean by concurrent audit? Is there any provision in Nepal to perform concurrent audit
of banks and FIs?
18. Mention the provisions guiding the partnership firm applicable to the members of ICAN.
19. Differentiate:
Audit Plan and Audit Programme
20. What are the required understanding of an entity and its environment, including the entity‘s internal
control that the auditor needs to consider?
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Answers
1. Answer:
NSA 530 on Audit sampling defines sampling as the application of audit procedures to less than
100% of items within a population of audit relevance such that all sampling units have a chance of
selection in order to provide the auditor with a reasonable basis on which to draw conclusions about
the entire population.
The same standard defines Sampling risk as the risk that the auditor‘s conclusion based on a sample
may be different from the conclusion if the entire population were subjected to the same audit
procedure.
Sampling risk can lead to two types of erroneous conclusions:

(i) In the case of a test of controls, that controls are more effective than they actually are, or in the
case of a test of details, that a material misstatement does not exist when in fact it does. The auditor is
primarily concerned with this type of erroneous conclusion because it affects audit effectiveness and
is more likely to lead to an inappropriate audit opinion.
(ii) In the case of a test of controls, that controls are less effective than they actually are, or in the case
of a test of details, that a material misstatement exists when in fact it does not. This type of erroneous
conclusion affects audit efficiency as it would usually lead to additional work to establish that initial
conclusions were incorrect.
When designing an audit sample, the auditor shall consider the purpose of the audit procedure and
the characteristics of the population from which the sample will be drawn.
The auditor shall determine a sample size sufficient to reduce sampling risk to an acceptably low
level.
The auditor shall select items for the sample in such a way that each sampling unit in the population
has a chance of selection.
Performing Audit Procedures

The auditor shall perform audit procedures, appropriate to the purpose, on each item selected. If the
audit procedure is not applicable to the selected item, the auditor shall perform the procedure on a
replacement item. If the auditor is unable to apply the designed audit procedures, or suitable
alternative procedures, to a selected item, the auditor shall treat that item as a deviation from the
prescribed control, in the case of tests of controls, or a misstatement, in the case of tests of details.
2. Answer:
NSA 510 clarifies that, in conducting an initial audit engagement, the objective of the auditor with
respect to opening balances is to obtain sufficient appropriate audit evidence about whether:
(a) Opening balances contain misstatements that materially affect the current period‘s financial
statements; and
(b) Appropriate accounting policies reflected in the opening balances have been consistently applied
in the current period‘s financial statements, or changes thereto are appropriately accounted for and
adequately presented and disclosed in accordance with the applicable financial reporting framework.
The auditor shall obtain sufficient appropriate audit evidence about whether the opening balances
contain misstatements that materially affect the current period‘s financial statements by:
(a) Determining whether the prior period‘s closing balances have been correctly brought
forward to the current period or, when appropriate, have been restated;
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(b) Determining whether the opening balances reflect the application of appropriate
accounting policies; and
(c) Performing one or more of the following:
(i)Where the prior year financial statements were audited, reviewing the predecessor
auditor‘s working papers to obtain evidence regarding the opening balances;
(ii) Evaluating whether audit procedures performed in the current period provide
evidence relevant to the opening balances; or
(iii) Performing specific audit procedures to obtain evidence regarding the opening
balances.
If the auditor obtains audit evidence that the opening balances contain misstatements that could
materially affect the current period‘s financial statements, the auditor shall perform such additional
audit procedures as are appropriate in the circumstances to determine the effect on the current
period‘s financial statements. If the auditor concludes that such misstatements exist in the current
period‘s financial statements, the auditor shall communicate the misstatements with the appropriate
level of management and those charged with governance in accordance with NSA 450.
The auditor shall obtain sufficient appropriate audit evidence about whether the accounting policies
reflected in the opening balances have been consistently applied in the current period‘s financial
statements, and whether changes in the accounting policies have been appropriately accounted for and
adequately presented and disclosed in accordance with the applicable financial reporting framework.
Further, if the prior period‘s financial statements were audited by a predecessor auditor and there was
a modification to the opinion, the auditor shall evaluate the effect of the matter giving rise to the
modification in assessing the risks of material misstatement in the current period‘s financial
statements in accordance with NSA 315.
Considerations Specific to Public Sector Entities:

In the public sector, there may be legal or regulatory limitations on the information that the current
auditor can obtain from a predecessor auditor. For example, if a public sector entity that has
previously been audited by a statutorily appointed auditor (for example, an Auditor General, or other
suitably qualified person appointed on behalf of the Auditor General) is privatized, the amount of
access to working papers or other information that the statutorily appointed auditor can provide a
newly-appointed auditor that is in the private sector may be constrained by privacy or secrecy laws or
regulations. In situations where such communications are constrained, audit evidence may need to be
obtained through other means and, if sufficient appropriate audit evidence cannot be obtained,
consideration given to the effect on the auditor‘s opinion.
If the statutorily appointed auditor outsources an audit of a public sector entity to a private sector
audit firm, and the statutorily appointed auditor appoints an audit firm other than the firm that audited
the financial statements of the public sector entity in the prior period, this is not usually regarded as a
change in auditors for the statutorily appointed auditor. Depending on the nature of the outsourcing
arrangement, however, the audit engagement may be considered an initial audit engagement from the
perspective of the private sector auditor in fulfilling the auditor‘s responsibilities, and therefore this
NSA applies.
3. Answer:
An audit note book is usually a bound book in which a large variety of matters observed during the
course of audit are recorded. Audit note books form part of audit working papers and for each year a
fresh audit note book is maintained. In case an auditor classifies his working paper into permanent
and current, then audit note book shall form part of the current file. It is in any case a part of the
permanent record of the auditor available for reference later on, if required.
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The audit note book also provides a valuable help to the auditor in picking up the links of work when
the concerned assistant is away or the work is stopped temporarily. It is also used for recording the
various queries raised in the course of the work and their state of disposal. In respect of disposed
queries, explanation obtained and evidence seen would is used be recorded in the said book, while
queries remaining undisposed of would be noted for follow up.
4. Answer:
NSQC 1 states that the firm shall establish and maintain a system of quality control that includes
policies and procedures that address each of the following elements:
(a) Leadership responsibilities for quality within the firm.
(b) Relevant ethical requirements.
(c) Acceptance and continuance of client relationships and specific engagements.
(d) Human resources.
(e) Engagement performance.
(f) Monitoring.
The firm shall document its policies and procedures and communicate them to the firm‘s personnel.
However, NSQC 1 has also specified considerations specific to Smaller Firms as:
This NSQC does not call for compliance with requirements that are not relevant, for example, in the
circumstances of a sole practitioner with no staff. Requirements in this NSQC such as those for
policies and procedures for the assignment of appropriate personnel to the engagement team, for
review responsibilities, and for the annual communication of the results of monitoring to engagement
partners within the firm are not relevant in the absence of staff. Documentation and communication of
policies and procedures for smaller firms may be less formal and extensive than for larger firms.
Hence, depending upon the size of ABC Associates, the firm need to comply with the mandatory
requirement of NSQC 1 accordingly.
Completion of the Assembly of Final Engagement Files:

Law or regulation may prescribe the time limits by which the assembly of final engagement files for
specific types of engagement is to be completed. Where no such time limits are prescribed in law or
regulation, NSQC 1 requires the firm to establish time limits that reflect the need to complete the
assembly of final engagement files on a timely basis. In the case of an audit, for example, such a time
limit would ordinarily not be more than 60 days after the date of the auditor‘s report. Where two or
more different reports are issued in respect of the same subject matter information of an entity, the
firm‘s policies and procedures relating to time limits for the assembly of final engagement files
address each report as if it were for a separate engagement. This may, for example, be the case when
the firm issues an auditor‘s report on a component‘s financial information for group consolidation
purposes and, at a subsequent date, an auditor‘s report on the same financial information for statutory
purposes. Retention of Engagement Documentation.
The needs of the firm for retention of engagement documentation, and the period of such retention,
will vary with the nature of the engagement and the firm‘s circumstances, for example, whether the
engagement documentation is needed to provide a record of matters of continuing significance to
future engagements. The retention period may also depend on other factors, such as whether local law
or regulation prescribes specific retention periods for certain types of engagements, or whether there
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are generally accepted retention periods in the jurisdiction in the absence of specific legal or
regulatory requirements.
In the specific case of audit engagements, the retention period would ordinarily be no shorter than
five years from the date of the auditor‘s report, or, if later, the date of the group auditor‘s report.
5. Answer:
As per Section 140 of Part A of the Code of Ethics, the principle of confidentiality imposes an
obligation on all professional accountants to maintain confidentiality of information acquired as a
result of professional or business relationship unless there is legal or professional right or duty to
disclose. As per this section, the exceptions where confidential information can be disclosed are:
• Disclosure is permitted by law and is authorized by the client or the employer,
• There is a professional duty or right to disclose, when not prohibited by law,
 To comply with the quality review of a member body or professional body,
 To respond to an enquiry or investigation by a member body or regulatory body,
 To protect the professional interests of a professional accountant in legal proceedings, or
 To comply with technical standards and ethics requirements.
The Code of Ethics further clarifies that such a duty continues even after completion of the
assignment.
In the given case, Mr. Alex has disclosed vital information of his client‘s business without the consent
of the client under the impression that it will help the industry. Thus it is a professional misconduct.
6. Answer:
NSA 706: ―Emphasis of Matter Paragraph and Other Matter Paragraph in the Independent Auditor‘s
Report‖ provides guidance to the auditor for dealing with additional communication in the auditor‘s
report when the auditor considers it necessary to draw user‘s attention to a matter or matters presented
or disclosed in the financial statements that are of such importance that they are fundamental to user‘s
understanding of the financial statements.
Since the engagement manager considers it necessary to draw users‘ attention to the lawsuit presented
or disclosed in Note 10 of financial statements that, the manager should include an Emphasis of
Matter paragraph in the auditor‘s report provided the audit team has obtained sufficient appropriate
audit evidence that the matter is not materially misstated in the financial statements. Such a paragraph
shall refer only to information presented or disclosed in the financial statements. While including an
Emphasis of Matter paragraph in the auditor‘s report, the auditor shall:
(a) Include it immediately after the Opinion paragraph in the auditor‘s report;
(b) Use the heading ―Emphasis of Matter,‖ or other appropriate heading;
(c) Include in the paragraph a clear reference to the matter being emphasized and to where
relevant disclosures that fully describe the matter can be found in the financial statements;
and
(d) Indicate that the auditor‘s opinion is not modified in respect of the matter emphasized.
The difference in the opinion and the emphasis of matter paragraph could be clarified with the
following example:
Opinion
In our opinion, the financial statements present fairly, in all material respects (or give a true and fair
view of) the financial position of Sky Water Limited as at 31 Ashad 2074 and (of) its financial
performance and its cash flows for the year then ended in accordance with Nepal Financial Reporting
Standards.
Emphasis of Matter
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We draw attention to Note 10 to the financial statements which describes the uncertainty related to
the outcome of the lawsuit filed against the company by XYZ Company. Our opinion is not qualified
in respect of this matter.
7. Answer:
SECTION 150 of ICAN code of ethics 2015 mentions that:
The principle of professional behavior imposes an obligation on all professional accountants to
comply with relevant laws and regulations and avoid any action that the professional accountant
knows or should know may discredit the profession. This includes actions that a reasonable and
informed third party, weighing all the specific facts and circumstances available to the professional
accountant at that time, would be likely to conclude adversely affects the good reputation of the
profession.
In marketing and promoting themselves and their work, professional accountants shall not bring the
profession into disrepute. Professional accountants shall be honest and truthful and not:
(a) Make exaggerated claims for the services they are able to offer, the qualifications they
possess, or experience they have gained
(b) Make disparaging references or unsubstantiated comparisons to the work of others
8. Answer:
Section 240 on ICAN Code of ethics mentions that in certain circumstances, a professional
accountant in public practice may receive a referral fee or commission relating to a client. For
example, where the professional accountant in public practice does not provide the specific service
required, a fee may be received for referring a continuing client to another professional accountant in
public practice or other expert. A professional accountant in public practice may receive a
commission from a third party (for example, a software vendor) in connection with the sale of goods
or services to a client. Accepting such a referral fee or commission creates a self-interest threat to
objectivity and professional competence and due care.
A professional accountant in public practice may also pay a referral fee to obtain a client, for
example, where the client continues as a client of another professional accountant in public practice
but requires specialist services not offered by the existing accountant. The payment of such a referral
fee also creates a self-interest threat to objectivity and professional competence and due care.
The significance of the threat shall be evaluated and safeguards applied when necessary to eliminate
the threat or reduce it to an acceptable level.
Examples of such safeguards include:
• Disclosing to the client any arrangements to pay a referral fee to another professional accountant for
the work referred;
• Disclosing to the client any arrangements to receive a referral fee for referring the client to another
professional accountant in public practice; or
• Obtaining advance agreement from the client for commission arrangements in connection with the
sale by a third party of goods or services to the client.
Accordingly, Mr. Writer should consider the complexity of the situation and the safeguard measure to
be considered accordingly.
9. Answer:
Section 111 of the Company Act, 2063 has provided provision regarding the appointment of auditor,
which mentions that:
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The auditor of accompany shall be appointed, from amongst the auditors licensed to carry out audit
under the prevailing law, by the general meeting, subject to Chapter-18 ,in the case of a public
company, and, in accordance with the provision as contained in the memorandum of association,
articles of association or consensus agreement, any failing such provision, by the general
meeting, in the case of a private company; and his/her name shall be forwarded to the Office within
fifteen days from the date of such appointment. Provided, however, that the board of directors may
appoint the auditor prior to the holding of the first annual general meeting,
The auditor appointed pursuant to Sub-section (1) shall hold office only until the next annual general
meeting.
Further, Section 112 on disqualifications of auditor reads:

(1) None of the following persons or the firms or companies in which such persons are partners shall
be qualified for appointment as auditor and shall, despite appointment as auditor, continue to hold
office:
(a) A director, advisor appointed with entitlement to regular remuneration or cash benefit, a person or
employee or worker involved in the management of the company or a partner of any of them or and
employee of any of such partners or a close relative of a director or partner, out of them, or and
employee of such relative;
(b) A debtor who has borrowed moneys from the company in any manner, or a person who has failed
to pay any dues payable to the company within the time limit and is in such arrears or close relative of
such person;
(c) A person who has been sentenced to punishment for an offense pertaining to audit and a period of
five years has not elapsed thereafter;
(d) A person who has been declared insolvent;
(e) A substantial shareholder of the company or a shareholder holding one percent or more of the
paid-up capital of the company or his close relative;
(f) A person who has been sentenced to punishment for an offense of corruption, fraud or a criminal
offense involving moral turpitude and a period of five years has not elapsed thereafter;
(g) A person referred to in Sub-section (3) of Section 111;
(h) In the case of a public company, any person who works, whether full time or part time , for any
governmental body or any body owned fully or partly by the Government of Nepal or any other
company or a partner of such person or a person who is working as an employee of such partner or a
person who is authorized to sign any documents or reports to be prepared by the management of the
company;
(i) A company or corporate body with limited liability;
(j) A person having interest in any transaction with the company or his/her close relative or a director,
officer or substantial shareholder of another company having any interest in any transaction with the
company.
In the case of ABC Pvt. Ltd, the company being a private company, the appointment would be valid if
the appointment is in accordance with provision as contained in the memorandum of association,
articles of association or consensus agreement and provided the appointed auditor is not disqualified
under Section 112 of the Act.
10. Answer:
Reasonable assurance engagement—the objective of a reasonable assurance engagement is 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. It is also
called as Positive Assurance. Positive assurance is where a lot of detail work has been carried out on a
subject matter and therefore the assurance provider can conclude confidently, in their opinion, that the
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subject matter has been either properly prepared or not. Positive assurance is a high level of assurance
and therefore a high level of reliance can be placed upon it. Positive assurance does not mean that the
subject matter has been prepared well it just means that we the auditors can positively say that we did
sufficient work and found that the subject matter is either good or bad.
Limited assurance engagement—the objective of a limited assurance engagement is 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. It is also called as Negative Assurance. Negative
assurance is where a smaller amount of work has been carried out on a subject matter and no errors
were discovered, they maybe errors or inaccuracies but none were discovered with the level of work.
This is a much lower level of assurance and therefore less reliance should be placed on negative
assurance.
11. Answer:
Section 34 of ICAN Act 1997 mentions that Members of ICAN should observe the code of Conduct.
The concerned person may lodge complaint to the Institute of Chartered Accountants of Nepal against
any member or member holding Certificate of Practice for not upholding the conduct mentioned in
this Act or the Regulations framed under this Act or for violation of this Act or Regulations framed
under this Act. The person can give application showing all the available evidence and paying a fee of
Rs. 100. However, no fee is required if the complainant is from any Government agencies or other
entity where council has waived such fee. The Executive Director shall, if he finds convincing
information that proves any member or member holding Certificate of Practice is not observing the
conduct, submit the proposal along with the related facts to the Council for further action against such
member or member holding Certificate of Practice.
The council if finds the complaints convincing, the complaint is placed in the disciplinary committee
for further discoveries and recommendation.
Pursuant to section 14 of ICAN Act, a Disciplinary Committee, comprising of following members,
shall be constituted to recommend the Council to take necessary actions after investigation upon
complaints lodged against any action, contrary to the Chartered Accountants Act or Regulations or
code of conduct framed under this Act, rendered by any member, or the Institute receives any
information of such kind.
 A FCA member designated by council from amongst elected CA council members -
Chairman
 Three persons nominated by the Council from amongst the Council members - Member
 Two persons nominated by the Council amongst the members - Member
 One person nominated by the Auditor General - Member
The Disciplinary committee shall have the authority, similar to a judicial court, in respect of
summoning concerned person and investigating evidences and witnesses.
The Disciplinary committee shall recommend to the Council, along with its opinion and finding, for
necessary action against a member, if found guilty, and the council may, considering such a
recommendation, impose any of the following punishment according to the degree of offence:
a. Reprimanding,
b. Removing from the membership for a period up to five years,
c. Prohibiting from carrying on the accounting profession for any particular period,
d. Cancellation of the Certificate of Practice (COP) or membership.
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However, before imposing any punishment, the Council shall provide reasonable opportunity to the
concerned members to submit their clarification. The concerned member may, if he is not satisfied
with the decision file an appeal in the Appellate Court
12. Answer:
Internal auditing activity as it relates to corporate governance has in the past been generally informal,
accomplished primarily through participation in meetings and discussions with members of the Board
of Directors. Corporate governance is the policies, processes and structures used by the organization‗s
leadership to direct activities, achieve objectives, and protect the interests of diverse stakeholder
groups in a manner consistent with ethical standards. The internal auditor is often considered one of
the "four pillars" of corporate governance, the other pillars being the Board of Directors,
management, and the external auditor.
A primary focus area of internal auditing as it relates to corporate governance is helping the Audit
Committee of the Board of Directors (or equivalent) perform its responsibilities effectively. This may
include reporting critical management control issues, suggesting questions or topics for the Audit
Committee's meeting agendas, and coordinating with the external auditor and management to ensure
the Committee receives effective information. In recent years, the advocacy for assigning internal
auditor for formal evaluation of corporate governance, particularly in the areas of board oversight of
enterprise risk, corporate ethics, and fraud.
For managing inherent operational risk of bank and financial institution, NRB has made mandatory
provision for internal auditor to comment on the policies and operational procedure adopted by bank
and financial institution. [Unified NRB directive 5]
13. Answer:
Nepal Standard on Auditing -210 states about the Terms of Audit Engagements. The standard
prescribed that auditor should consider following matters:
i. An auditor who is required to change the engagement which requires lower level of assurance
before the completion of engagement should consider the appropriateness of doing so.
ii. But when the terms of engagement are changed, both the auditor and the client should agree on the
new terms.
iii. However, the auditor should not agree to a change in terms where there is no reasonable
justification for doing so.
In the instant case, the auditor was unable to obtain sufficient evidence regarding inventories.
The client requested him for a change in the terms of the agreement to avoid qualified/adverse
opinion. Hence there is no reasonable justification for change in the terms of engagement.
Thus the auditor should not agree for change in the terms of engagement letter.
14. Answer:
Computerization of accounts does not affect the basic objectives of auditing. However, the auditor
would need to modify his audit procedures, approach and technical capabilities so as to be able to
form an opinion on the accounts processed in a computerized environment.
Audit through the Computer is the audit, with the help of computer technology in the audit of
accounts processed in a computerized environment. Audit through the computer requires that the
auditor submits data to the computer for processing. The results are then analyzed for the processing
reliability and accuracy of the computer program.
Technical and other developments that necessitated this approach include the following;
i. On line data entry
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ii. Elimination or reduction of print outs
iii. Real time files up dating
The auditor can use the computer to test:

i. The logic and controls existing within the system, and
ii. The records produced by the system
Depending upon the complexity of the application system being audited, the approach may be fairly
simple or require extensive technical competence on the part of the auditor.
There are several circumstances where auditing through the computer must be used:
a. The application system processes large volumes of input and produces large volumes of output
that make extensive direct examination of the validity of input and output difficult.
b. Significant parts of the internal control system are embodied in the computer system. For
example, in on line banking system a computer programme may batch transactions for individual
tellers to provide control totals for reconciliation at the end of the day‗s processing.
c. The logic of the system is complex and there are large portions that facilitate use of the system
for efficient processing.
d. There are substantial gaps in the visible audit trail.
The primary advantage of this approach is that the auditor has increased power to effectively test the
computer system. The range and capability of tests that can be performed increases and the auditor
acquires greater confidence that data processing is correct. By examining the system‗s processing, the
auditor also can assess the system‗s ability to cope with environment change.
The primary disadvantages of the approach are generally high costs and the need for extensive
technical expertise when systems are complex. However, these disadvantages are really not that
important if auditing through the computer is the only viable method of carrying out the audit.
Auditing through computer may be conducted through test data, computer programme, etc.
15. Answer:
An efficient and effective review can only be performed if this has been thoroughly and properly
planned. The planning stage of the review should be used to establish an overall strategy for the
review.
Adequate planning will ensure that appropriate attention is given to crucial areas of the review and
that potential problems are identified on a timely basis. At the planning stage the engagement partner
should assign the necessary staffs who possess the skills and ability required in order to ensure the
review is carried out efficiently and in accordance with the Nepal Standards on Auditing.
Planning Activities
At the planning stage the overall audit strategy is developed. The audit strategy sets the scope, timing
and direction of the review. At this stage the reviewer will develop the detailed review plan which
will help identify problem areas and important review areas.
Once the strategy has been established, then the reviewer is able to develop the more detailed review
plan to address the matters identified in the overall strategy.
Contents of the Plan
The review plan should document the nature, timing and extent of the procedures to be adopted which
should be sufficient and effective enough to be able to assess the risks associated with review
engagements.
The detailed plan should also contain a description of the nature, timing and extent of planned further
audit procedures at the assertion level for each material class of transactions, account balances and
disclosures.
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Finally, the review plan should also contain details of other procedures to be adopted so that the
review can be carried out effectively.
Typical contents of the detailed plan are:
• Nature of the business and what it does
• Risk and problematic areas (both business risk and financial statement risk)
• Details of any complexities associated with the assignment
• Specific accounting and auditing standards relevant to the assignment
• Budgets
• Planned review procedures
• Details of sampling techniques
• Key personnel employed at the clients
For the purpose of this review of the income of the hotel and purpose of assignment an audit program
with detailed procedures should also be developed to conduct the review work efficiently and
effectively. Audit procedures inter alia includes amongst the following:
i. Whether rack rates has been maintained for different types of rooms (Suit/Deluxe/Superior etc),
banquette rates are formalized with recipe and other rates are formalized & approved by competent
authority.
ii. Whether there are formal discount rates. If discount rate is in excess of formal rate, whether this is
approved by the competent authority.
Whether rate agreements has been entered with regular official & individual parties and duly signed
of both parties. If yes agreed rates have been applied or otherwise to ensure how the rate is formalized
in such cases.
iv. Whether complimentary service provided to guests are within the power of approving authority.
v. Whether the billing are made on timely basis and accounted accordingly on departure of guest with
evidence of acceptance by guests. If bill is to be forwarded to customer through mail, is it forwarded
on timely basis?
vi. Whether there is clear cut credit policy and credit facility provided only to eligible guest backing
with deposition of advance.
vii. Whether revenue as per income of auditor`s report, accounting system and VAT return has been
matched. In case of difference, is proper reconciliation has been made.
viii. Whether rates have been reviewed as per formal policy of hotel and approved by the competent
authority.
ix. Whether record of revenue charged has been reflected in the concerned ledger folios of the guest.
x. Whether accounting system (Software/Manual) for revenue is commensurable with volume of
transactions of the hotel.
xi. Check the closing procedures of the hotel during physical presence on sample night audits.
xii. Make the surprise check on different point of sales and observed if any evidences of concealing
the income (by not issuing bill, by providing huge discounts, by undervaluing the bill etc.)
xiii. Check the recovery rate from debtors and utilization of cash.
16. Answer:
Forensic in laymen terms means relating to court of law or something which can be held as an
evidence in a court of law. Accordingly, forensic audit is necessary when any fraud is alleged and
such allegation is to be proved/disproved in court of law.
Mainly, Frauds are divided into following categories which require a Forensic Audit:
 Financial Statement Fraud
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 Asset Misappropriation regarding:
-Cash Receipts
- Fraudulent Disbursements
-Inventory and Other Assets
 Bribery and Corruption
 Theft of data and intellectual property
 Financial Institution Fraud
 Payment Fraud
 Insurance Fraud
 Health Care Fraud
 Consumer Fraud
 Computer & Internet Fraud
 Contract & Procurement Fraud
 Insolvency Fraud
 Securities Fraud
 Money Laundering Fraud
 Tax Fraud
Now, a Forensic Auditor in any of the above mentioned cases have to gather evidence and give
conclusion on that whether any fraud has happened or not and the same can be challenged in a court
of law so that the auditor may also have to act as an expert witness in some of the cases. Forensic
Auditors could be acting on behalf of either the management or Government Authorities.
17. Answer:
Concurrent audit is an audit or verification of transactions or activities of an organization
concurrently as the transaction/activity takes place. It is not a pre-audit. The concept in this audit is to
verify the authenticity of the transaction/activity within the shortest possible time after the same takes
place. In view of the complexities of economic activities it is now well recognized that there must be
a system of someone, other than the person involved in the operations, verifying the authenticity of
the transaction/activity on a regular basis so that any deviation from the laid down procedures can be
noticed in the shortest possible time and remedial action can be taken.
The concept of concurrent audit in the public as well as the private sector banks has gained
acceptance in recent years. However in Nepal the concept of concurrent audit is yet to be introduced
in banks. As such there is no provision in Nepalese banks and Financial Institutions to perform
concurrent audit.
18. Answer:
ICAN Rules 2061 has provided following special provisions guiding the Partnership arrangements
between the members:
 Every partner of the firm must hold COP.
 One firm can have a maximum 20 partners.
 A member having his own proprietorship firm can be a partner in not more than two
accounting firms at a time. But he has to get approval of every partner to run his
proprietorship firm.
-Partnership of foreign accounting firm is not counted for this purpose.
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-Remaining partner must inform ICAN if there is any change in the composition of the
partner, within 35 days of such change.
 The member can use the word partner if he is one of the partners of the firm
19. Answer:
The Distinction between Audit Plan and Audit Program are outlined as follows:
Audit plan is described as developing a general strategy and a detailed approach for the expected
nature, timing and extent of the audit. The auditor plans to perform the audit in efficient and timely
manner whereas audit program is the step and guidance and works as a tool for
performing/implementing audit at the execution level. The distinctions of those two are:
 Audit plan is prepared before preparing audit program.
 Audit plan is border scope than audit program.
 Audit plan assists acquiring knowledge of clients business and concentrating on risk areas
which will help for preparing effective audit program.
 Audit plan is generally prepared by senior auditors and program may be prepared by juniors
based on plan and duly approved by seniors.
 Audit plan focuses on broader area where as programme breaks them into small area or in
form of audit questions, checklists or time frames etc.
20. Answer:
NSA 315 on ―Identifying and assessing the risks of Material Misstatement through understanding the
entity and its environment‖ provides that the auditor shall obtain an understanding of the following:
(a) Relevant industry, regulatory, and other external factors including the applicable financial
reporting framework.
(b) The nature of the entity, including:
(i) its operations;
(ii) its ownership and governance structures;
(iii) the types of investments that the entity is making and plans to make, including
investments in special-purpose entities; and
(iv) the way that the entity is structured and how it is financed, to enable the auditor to
understand the classes of transactions, account balances, and disclosures to be expected in the
(c) The entity‘s selection and application of accounting policies, including the reasons for changes
thereto. The auditor shall evaluate whether the entity‘s accounting policies are appropriate for its
business and consistent with the applicable financial reporting framework and accounting policies
used in the relevant industry.
(d) The entity‘s objectives and strategies, and those related business risks that may result in risks of
material misstatement.
(e) The measurement and review of the entity‘s financial performance.
The standard further states that the auditor shall obtain an understanding of internal control relevant to
the audit. Although most controls relevant to the audit are likely to relate to financial reporting, not all
controls that relate to financial reporting are relevant to the audit. It is a matter of the auditor‘s
professional judgment whether a control, individually or in combination with others, is relevant to the
audit.
When obtaining an understanding of controls that are relevant to the audit, the auditor shall evaluate
the design of those controls and determine whether they have been implemented, by performing
procedures in addition to inquiry of the entity‘s personnel.
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Revision Questions
Question No 1:
Explain the meaning of the term ―Professional Skepticism‖ and discuss its importance in
planning and performing an audit.
Question No 2:
How has ICAN code of ethics addressed the conceptual framework regarding the safeguards
against threats to compliance of fundamental principles?
Question No 3:
ABC & Associates had been appointed as external auditor of XYZ Ltd. During the audit, the
auditor relied upon the procedures followed by the internal audit function of the entity and
expressed true and fair view on the financial statements. However, later on some misstatements
in the financial statements were revealed. The auditor is seeking relief stating that the internal
audit function of the entity was liable for the negligence. Express your opinion regarding the
situation.
Question No 4:
What do you mean by fraud? Elaborate with reference to the concerned standard.
Question No 5:
What types of reviews are conducted during and after the audit? Explain.
Question No 6
XYZ and Co, the statutory auditor of ABC Pvt. Ltd has been requested by the management to
issue the financial statement in the letter head of the former. The management is of the view that
this would enhance the reliability of the stakeholders in the financial statement of the company.
Being the partner of the Co., examine the request of the client.
Question No 7:
What are the responsibilities of a professional accountant regarding the tax issues of the client?
The Institute of Chartered Accountants of Nepal

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Question No 8:
What is CAAT? What are its increasing uses in the modern days?
Question No 9:
What type of organization requires the formation of audit committee? How should the board
address the issues raised by the committee in the organization?
Question No 10
―Revenue recognition should always be approached as a high risk area of the audit‖. Discuss
Question No 11:
Blue Ocean Company was established in the fiscal year 2074.75. The company is confused
regarding the appointment of auditors for the audit of its financial statement for the year. Being
its initial year of operation, suggest the company with regards to the provisions relating the
appointment and disqualification criteria for the auditors to be appointed.
Question No 12
Differentiate between:
a. Audit Report and Audit Certificate
b. Audit Planning and Audit Program.
Question No 13
Khusi Pvt. Ltd is a small organization with turnover of around 50 lakhs. You are appointed as
statutory auditor of the organization. What considerations would you ensure for the purpose of
audit documentation while conducting the audit? Further, what are the purpose of audit
documentation?
Question No 14
What are the procedures for the review engagements of financial statements?
Question No 15
Write Short note on:
a. Compilation engagement
b. Independence of Professional Accountants

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Question No 16 Paper 3: Advanced Audit & Assurance [RTP 2018 December]
While verifying the employees‘ records in a company, it was found that a major portion of the
labour employed was child labour. On questioning the management, the statutory auditor was
told that it was outside his scope of the financial audit to look into the compliance with other
laws.
Question No 17
What type of risks may be associated with the banking industry?
Question No 18:
Terai Co. Ltd. appointed Rita and Sita as their joint auditors in the Annual General Meeting. The
AGM authorized the Board for filling up the vacancy on their own in the event of both or either
of auditors declined to accept the assignment. The Board passed a resolution to appoint Gita if
any of the auditors declined to accept the assignment. Later on Sita declined to accept the
assignment and Board of Directors appointed Gita in place of Sita as per its resolution.
Comment.

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Suggested Answers Hint

Answer No 1:
As defined in NSA 200 ―Overall Objectives of the Independent Auditor and the Conduct of an
Audit in Accordance with Nepal Standards on Auditing‖, professional skepticism is an attitude
that includes a questioning mind, being alert to conditions which may indicate possible
misstatement due to error or fraud and a critical assessment of audit evidence.
NSA 200 requires the auditor to plan and perform an audit with professional skepticism,
recognizing that circumstances may exist which causes the financial statements to be materially
misstated. It is important to use professional skepticism at all stages of the audit. Professional
skepticism includes being alert to the existence of contradictory audit evidence and being able to
assess assumptions and judgments critically and without bias, and being ready to challenge
management where necessary. It is also important that the auditor considers the reliability of
information provided by management during the audit.
NSA 240 on ―The Auditor‗s Responsibilities Relating to Fraud in an Audit of Financial

Statements‖ also refers specifically to professional skepticism, stating that the auditor shall
maintain professional skepticism throughout the audit, recognizing the possibility that a material
misstatement due to fraud could exist. The auditor is therefore expected to be alert to indicators
of potential fraud.
Recently, regulatory bodies such as the IAASB have stressed the importance of the auditor‗s use
of professional skepticism. The increased use of principles-based financial reporting frameworks
such as IFRS, and the prevalence of fair value accounting which introduces subjectivity and
judgment into financial reporting are examples of the reasons why the use of professional
skepticism by auditors is increasingly important. It is imperative that professional skepticism is
applied to areas of financial reporting which are complex or highly judgmental. Going concern
assessments and related party transactions are also examples of areas where management must
exercise judgment in determining the appropriate accounting treatment, and where the potential
for management bias is high. Therefore these areas need to be approached with professional
skepticism.
The application of professional skepticism is closely aligned with maintaining objectivity, and it
is difficult to remain sufficiently skeptical when certain threats to objectivity are present.
Ultimately, the exercise of professional skepticism should work to reduce audit risk by ensuring
that the auditor has sufficient and appropriate evidence to support the audit opinion, and that all
evidence obtained, especially in relation to areas of high risk of material misstatement, has been
critically evaluated and is based on reliable information.

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Answer No 2:
The circumstances in which professional accountants operate may create specific threats to
compliance with the fundamental principles. It is impossible to define every situation that creates
threats to compliance fundamental principles and specify the appropriate action. In addition, the
nature of engagements and work assignments may differ and, consequently, different threats may
be created, requiring the application of different safeguards.
Therefore, ICAN Code of Ethics establishes a conceptual framework that requires a professional
accountant to identify, evaluate, and address threats to compliance with the fundamental
principles. The conceptual framework approach assists professional accountants in complying
with the ethical requirements of the Code and meeting their responsibility to act in the public
interest. It accommodates many variations in circumstances that create threats to compliance
with the fundamental principles and can deter a professional accountant from concluding that a
situation is permitted if it is not specifically prohibited.
The code further mentions that when a professional accountant identifies threats to compliance
with the fundamental principles and, based on an evaluation of those threats, determines that they
are not at an acceptable level, the professional accountant shall determine whether appropriate
safe guards are available and can be applied to eliminate the threats or reduce them to acceptable
level. In making that determination, the professional accountant shall exercise professional
judgment and take into account whether a reasonable and informed third party, weighing all the
specific facts and circumstances available to the professional accountant at the time, would be
likely to conclude that the threats would be eliminated or reduced to an acceptable level by the
application of the safeguards, such that compliance with the fundamental principles is not
compromised.
Answer No 3:
NSA 610, ―Using the work of internal auditors‖ clearly mentions that the external auditor has
sole responsibility for the audit opinion expressed, and that responsibility is not reduced by the
external auditor‘s use of the work of the internal audit function on the engagement. Although the
function may perform audit procedures similar to those performed by the external auditor,
neither the internal audit function nor the internal auditors are independent of the entity as is
required of the external auditor in an audit of financial statements in accordance with NSA 200.
While determining whether, in which areas, and to what extent the work of the Internal Audit
Function can be used, the auditor need to evaluate the internal audit function:
Evaluating the Internal Audit Function:

Objectivity and Competence

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The external auditor exercises professional judgment in determining whether the work of the
internal audit function can be used for purposes of the audit, and the nature and extent to which
the work of the internal audit function can be used in the circumstances.
Application of a Systematic and Disciplined Approach
The application of a systematic and disciplined approach to planning, performing, supervising,

reviewing and documenting its activities distinguishes the activities of the internal audit function
from other monitoring control activities that may be performed within the entity.
Factors that may affect the external auditor‘s determination of whether the internal audit function
applies a systematic and disciplined approach include the following:
• The existence, adequacy and use of documented internal audit procedures or guidance covering
such areas as risk assessments, work programs, documentation and reporting, the nature and
extent of which is commensurate with the size and circumstances of an entity.
• Whether the internal audit function has appropriate quality control policies and procedures, for
example, such as those policies and procedures in NSQC 112 that would be applicable to an
internal audit function (such as those relating to leadership, human resources and engagement
performance) or quality control requirements in standards set by the relevant professional bodies
for internal auditors. Such bodies may also establish other appropriate requirements such as
conducting periodic external quality assessments.
Hence, in the above case, ABC and associates were required to evaluate the internal audit
function based on above criteria during the audit. However, with regards to the opinion
expressed, the full responsibility vests upon the auditor.
Answer No 4:
―NSA 240: THE AUDITOR‘S RESPONSIBILITIES RELATING TO FRAUD IN AN AUDIT
OF FINANCIAL STATEMENTS‖ clearly mentions that, fraud, whether fraudulent financial
reporting or NSA appropriation of assets, involves incentive or pressure to commit fraud, a
perceived opportunity to do so and some rationalization of the act.
Fraudulent financial reporting involves intentional misstatements including omissions of
amounts or disclosures in financial statements to deceive financial statement users. It can be
caused by the efforts of management to manage earnings in order to deceive financial statement
users by influencing their perceptions as to the entity‘s performance and profitability. Such
earnings management may start out with small actions or inappropriate adjustment of
assumptions and changes in judgments by management.
Pressures and incentives may lead these actions to increase to the extent that they result in
fraudulent financial reporting. Such a situation could occur when, due to pressures to meet
market expectations or a desire to maximize compensation based on performance, management
intentionally takes positions that lead to fraudulent financial reporting by materially misstating
the financial statements. In some entities, management may be motivated to reduce earnings by a
material amount to minimize tax or to inflate earnings to secure bank financing.

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Fraudulent financial reporting may be accomplished by the following:
• Manipulation, falsification (including forgery), or alteration of accounting records or

supporting documentation from which the financial statements are prepared.
• Misrepresentation in, or intentional omission from, the financial statements of events,

transactions or other significant information.
• Intentional misapplication of accounting principles relating to amounts, classification, manner

of presentation, or disclosure.
Fraudulent financial reporting often involves management override of controls that otherwise
may appear to be operating effectively. Fraud can be committed by management overriding
controls using such techniques as:
• Recording fictitious journal entries, particularly close to the end of an accounting period, to
manipulate operating results or achieve other objectives.
• Inappropriately adjusting assumptions and changing judgments used to estimate account

balances.
• Omitting, advancing or delaying recognition in the financial statements of events and

transactions that have occurred during the reporting period.
• Concealing, or not disclosing, facts that could affect the amounts recorded in the
• Engaging in complex transactions that are structured to misrepresent the financial

position or financial performance of the entity.
• Altering records and terms related to significant and unusual transactions.
Misappropriation of assets involves the theft of an entity‘s assets and is often perpetrated by
employees in relatively small and immaterial amounts. However, it can also involve management
who are usually more able to disguise or conceal misappropriations in ways that are difficult to
detect. Misappropriation of assets can be accomplished in a variety of ways including:
 Embezzling receipts (for example, misappropriating collections on accounts receivable or

diverting receipts in respect of written-off accounts to personal bank accounts).
 Stealing physical assets or intellectual property (for example, stealing inventory for personal
use or for sale, stealing scrap for resale, colluding with a competitor by disclosing
technological data in return for payment).

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 Causing an entity to pay for goods and services not received (for example, payments to
fictitious vendors, kickbacks paid by vendors to the entity‘s purchasing agents in return for
inflating prices, payments to fictitious employees).
 Using an entity‘s assets for personal use (for example, using the entity‘s assets as collateral
for a personal loan or a loan to a related party).
 Misappropriation of assets is often accompanied by false or misleading records or
documents in order to conceal the fact that the assets are missing or have been pledged
without proper authorization.
Answer No 5:
Hot file review or hot review is usually conducted during the audit and/or audit work is
completed but before the auditor‘s report is issued. This in nature is a detailed review that is
conducted with an aim to find out if there is any weakness in application of audit procedures or if
the results have been misinterpreted. Hot reviews are usually carried out usually by the senior the
audit team or someone with the same authority who is not connected with the engagement. Such
reviews mostly include meetings with audit team personnel and their individual work so that
both work and the skills of members are improved by pointing out discrepancies and providing
recommendations.
The purpose of a hot review is to identify any key areas that need to be addressed prior to signing
the report. The categories for review which may be undertaken can be described as follows:
 Comfort reviews: Number of firms, for their largest clients (not necessarily high risk
clients), feel a little exposed and want someone else to review the work before the job
is complete.
 High risk reviews: One off reviews may be required on files in circumstances where,
for example, the company is being sold and the firm feels that having a review
undertaken by an independent party will help to decrease their risk.
 Training reviews: Where key audit staff have left, a manager-style review on files
may be undertaken in order to train a new manager or partner.
 Independence reviews: Some sole practitioners require an outside review to ensure
that it is reasonable for them to maintain an audit assignment when independence
might be called into question. This is particularly the case where individuals have
been an audit partner for more than seven years.
 NSQC reviews: The ISQC1: ―Quality control for firms that perform audits and
reviews of historical financial information, and other assurance and related services
engagements‖, requires an independent hot review for all listed work and certain other
high profile or high risk work.
Cold file review or cold review is an objective evaluation on the date of auditor‘s report and is
performed by the auditor i.e. partner himself when all the audit work has been concluded and the
required sufficient appropriate audit evidence has been obtained and conclusions drawn and
reported. This review usually take place when the auditor‘s report is signed off. The purpose of

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this review is to ensure compliance with relevant auditing standards and to analyze weaknesses
in the way whole audit work is conducted and how it can be improved for next similar
assignments by updating firm‘s quality control standards, training the staff etc.
Normally the cold file review would aim to:
 Identify whether the disclosure requirements had been properly met - incorrect
disclosures are the largest subject of complaints to the Institute.
 Identify whether the Auditing Standards and Regulations have been properly
complied with each audit would be "scored" using a comprehensive file review
checklist.
 Assess the effectiveness of any independent manager review and the partner review,
looking for any points that should have been picked up by a manager but had not
been, and likewise with the partner.
Answer No 6:
Guidance Note on ―Preparation of Financial Statements on Letter –Heads and Stationery of

Auditors (GN202)‖ issued by ICAN mentions that:
Auditing Standards Board's has drawn its attention to the fact that financial statements of some
enterprises are prepared on letter-heads and stationery of their auditor carrying the latter's names
and addresses. For such activities Auditing Standard Board clarifies that such practice is liable to
be misinterpreted and, as such should be avoided.
The management of an enterprise has the primary responsibility for the preparation and
presentation of the financial statements of the enterprise that is the board of directors and/or
other governing body of an enterprise is responsible for the preparation and presentation of its
financial statements. Therefore, the management shall prepare the financial statements on letter -
heads and stationery of the enterprise.
In no case the financial statements of the enterprise shall be prepared on letter - heads and
stationery of the auditor.
Hence, being the partner of XYZ and Co, the request of the client would not be acceptable for
me and the client would be explained accordingly.
Answer No 7:
When a professional accountant learns of a material error or omission in a tax return of a prior
year (with which the professional accountant may or may not have been associated), or of the
failure to file a required tax return, the professional accountant has a responsibility to:

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Promptly advise the client or employer of the error or omission and recommend that disclosure
be made to the revenue authorities. The professional accountant is not obligated to inform the
revenue authorities.
If the client or the employer does not correct the error the professional accountant:
 Should inform the client or the employer that it is not possible to act for them in connection
with that return or other related information submitted to the authorities; and,
 Should consider whether continued association with the client or employer in any capacity is
consistent with professional responsibilities.
- If the professional accountant concludes that a professional relationship with the client or
employer can be continued, all reasonable steps should be taken to ensure that the error is not
repeated in subsequent tax returns.
Answer No 8:
Computer-assisted audit techniques (CAATs) or computer-assisted audit tools and techniques
(CAATTs) is a growing field within the IT audit profession. CAATs is the practice of using
computers to automate the IT audit processes. CAATs normally includes using basic office
productivity software such as , word processors and text editing programs and more advanced
software packages involving use statistical analysis and business intelligence tools. But also
more dedicated specialized software are available.
Another advantage of CAATTs is that it allows auditors to test for specific risks. For example, an
insurance company may want to ensure that it doesn't pay any claims after a policy is terminated.
Using traditional audit techniques this risk would be very difficult to test. The auditor would
"randomly select" a "statistically valid" sample of claims (usually) if any of those claims were
processed after a policy was terminated. Since the insurance company might process millions of
claims the odds that any of those 30–50 "randomly selected" claims occurred after the policy was
terminated is extremely unlikely.
For example, using CAATTs the auditor can select every claim that had a date of service after
the policy termination date. The auditor then can determine if any claims were inappropriately
paid. If they were, the auditor can then figure out why the controls to prevent this failed. Using
CAATTs the auditor would be able to identify every claim that was paid and the exact amount
incorrectly paid by the insurance company. In manual auditing this situation would be like
"Audit reviewed 50 transactions and noted one transaction that was processed incorrectly", while
through use of CAAT, it would be "Audit used CAATTs and tested every transaction over the
past year. We noted XXX exceptions where in the company paid YYY Rupees on terminated
policies."
However, the CAATTs driven review is limited only to the data saved on files in accordance
with a systematic pattern. Much data is never documented this way. In addition saved data often
contains deficiencies, is poorly classified, is not easy to get, and it might be hard to become
convinced about its integrity. So, for the present CAATTs is complement to an auditor's tools

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and techniques. In certain audits CAATTs can't be used at all. But there are also audits which
simply can't be made with due care and efficiently without CAATTs.
Other uses of CAATs
In addition to using data analysis software, the auditor uses CAATs throughout the audit for the
following activities while performing data analysis:
Creation of electronic work papers

Keeping electronic work papers on a centralized audit file or database will allow the auditor to
navigate through current and archived working papers with ease. The database will make it
easier for auditors to coordinate current audits and ensure they consider findings from prior or
related projects. Additionally, the auditor will be able to electronically standardize audit forms
and formats, which can improve both the quality and consistency of the audit working papers.
Fraud detection
CAATs provides auditors with tools that can identify unexpected or unexplained patterns in data
that may indicate fraud. Whether the CAATs is simple or complex, data analysis provides many
benefits in the prevention and detection of fraud.
Answer No 9:
Section 164 of the Company Act, 2063 mentions provisions regarding the audit committee as:
(1) A listed company with paid up capital of thirty million rupees or more or a company which is
fully or partly owned by the Government of Nepal shall form an audit committee under the
Chairpersonship of a director who is not involved in the day-to –day operations of the company
and consisting of a least three members.
(2) However, any person who is a close relative of the chief executive of a company shall not be
eligible to be a member of the audit committee formed pursuant to Sub-section (1).
(3) At least one member of the audit committee shall be an experienced person having obtained
professional certificate on accounting or a person having gained experience in accounting and
financial field after having obtained at least bachelor‘s degree in accounts, commerce,
management, finance or economics.
The report of board of directors required to be prepared by a company shall set out a short
description of the activities of the audit committee, working policies adopted by the board of
directors to implement the suggestions, if any, given by the audit committee, the allowances or
facilities, if any, received by the members or the audit committee and the names of the members
of audit committee.

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Further, the audit committee may, for inquiring into any matter, notify the managing director
of the company, chief executive or the company or other director, auditor, internal auditor and
accounts chief involved in the day-to-day operations of the company to attend its meeting; and
it shall be their duty to be present in the meeting of that committee if they are so notified.
The board of directors shall implement the suggestions given by the audit committee in
respect of the accounts and financial management the company; and where any suggestion
cannot be implemented, the board of directors shall also mention the reasons for the same in
its report.
Answer No 10
A high risk area of the audit is one where a risk of material misstatement is considered likely to
occur. A factor giving rise to a risk of material misstatement is subjectivity, and in many
companies revenue recognition is a subjective matter. For example, a company which provides
services to customers over a long period of time will need to gauge the proportion of a service
that has been provided during the financial year in order to determine the amount of revenue that
may be recognized, possibly on a percentage basis. This determination involves judgment,
therefore increasing the risk of material misstatement.
Revenue recognition can also be a complex issue. For example, companies that engage in
multiple-element sales transactions need to carefully consider when revenue can be recognized,
for instance if selling a tangible item such as a computer, and selling as part of the transaction a
two-year warranty, the company needs to separate the sale of the goods and the sale of the
services and recognize the revenue on each element of the transaction separately.
Answer No 11:
Section 111 of the Company Act on ―Appointment of auditor‖ mentions that the auditor of a
company shall be appointed, from amongst the auditors licensed to carry out audit under the
prevailing law, by the general meeting, subject to Chapter-18 ,in the case of a public company,
and, in accordance with the provision as contained in the memorandum of association, articles of
association or consensus agreement, any failing such provision, by the general meeting, in the
case of a private company; and his/her name shall be forwarded to the Office within fifteen days
from the date of such appointment. Provided, however, that the board of directors may appoint
the auditor prior to the holding of the first annual general meeting. However, the auditor
appointed pursuant to Sub-section (1) shall hold office only until the next annual general
meeting.
The Section further states that no auditor or his/her partner or ex-partner or employee or ex-
employee shall be appointed as auditor for more than three consecutive terms to perform the
audit of a public company. Provided, however, that this restriction shall not apply to any partner
who ended partnership or any employee who left the service of such auditor three years before.

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Section 112 of the act further mentions:
None of the following persons or the firms or companies in which such persons are partners shall
be qualified for appointment as auditor and shall, despite appointment as auditor, continue to
hold office:
(a) A director, advisor appointed with entitlement to regular remuneration or cash benefit, a
person or employee or worker involved in the management of the company or a partner of any of
them or and employee of any of such partners or a close relative of a director or partner, out of
them, or and employee of such relative;
(b) A debtor who has borrowed moneys from the company in any manner, or a person who has
failed to pay any dues payable to the company within the time limit and is in such arrears or
close relative of such person;
(c) A person who has been sentenced to punishment for an offense pertaining to audit and a
period of five years has not elapsed thereafter;
(d) A person who has been declared insolvent;
(e) A substantial shareholder of the company or a shareholder holding one percent or more of the
paid up capital of the company or his close relative;
(f) A person who has been sentenced to punishment for an offense of corruption, fraud or a
criminal offense involving moral turpitude and a period of five years has not elapsed thereafter;
(g) A person referred to in Sub-section (3) of Section 111;
(h) In the case of a public company, any person who works, whether full time or part time, for
any governmental body or anybody owned fully or partly by the Government of Nepal or any
other company or a partner of such person or a person who is working as an employee of such
partner or a person who is authorized to sign any documents or reports to be prepared by the
management of the company;
(i) A company or corporate body with limited liability;
(j) A person having interest in any transaction with the company or his/her close relative or a
director, officer or substantial shareholder of another company having any interest in any
transaction with the company.
Answer No 12:
a. Audit Report and Audit Certificate
Particulars Audit report Audit certificate

1. Nature It is an expression of opinion about the It is a confirmation of

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account. correctness and accuracy about

some matters.
2. Basis of The report is based on assumptions Certificate is based on actual
audit and estimations. figures and facts.
3. Criticism There may be criticism about the There is no scope of criticism
report. about certificate.
4. Scope The scope of report is large. Its scope is limited.
5. Scope of In the scope there is a scope of giving No scope of constructive advice
constructive advice in company. exists in case of certificate.
6. Time of After the end of each accounting year Certificate is not mandatory in
issue report is mandatory. every year.
7. Liability As a report is merely an opinion, if it In case of wrong certificate, the
of auditor is not correct, the auditor may not be auditor will be held responsible.
held responsible.
b. Audit Planning and Audit Program.
Audit planning is one of the basic principles of auditing. The auditor plans his work to enable
him to conduct an effective audit in an efficient and timely manner. Plan should be based on
knowledge of the clients business. Audit planning is a continuous process throughout the audit
engagement and covers developing an overall plan for the expected scope and conduct of the
audit and developing an audit program showing the nature, timing and extent of audit
procedures.
Audit program is nothing but a list of examination and verification steps to be applied set out in
such a way that the interrelationship of one step to another in clearly shown and designed,
keeping in view the assertions discernible in the statements of account produced for audit or on
the basis of an appraisal of the accounting records of the client. In other words, an audit program
is a detail plan of applying the audit procedures in the given circumstances with instructions for
the appropriate techniques to be adopted for accomplishing the audit objectives.
Answer No 13
NSA 230 on Audit Documentation states that:
The audit documentation for the audit of a smaller entity is generally less extensive than that for
the audit of a larger entity. Further, in the case of an audit where the engagement partner
performs all the audit work, the documentation will not include matters that might have to be
documented solely to inform or instruct members of an engagement team, or to provide evidence
of review by other members of the team (for example, there will be no matters to document
relating to team discussions or supervision). Nevertheless, the engagement partner complies with
the overriding requirement in paragraph 8 to prepare audit documentation that can be understood
by an experienced auditor, as the audit documentation may be subject to review by external
parties for regulatory or other purposes.

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When preparing audit documentation, the auditor of a smaller entity may also find it helpful and
efficient to record various aspects of the audit together in a single document, with cross-
references to supporting working papers as appropriate. Examples of matters that may be
documented together in the audit of a smaller entity include the understanding of the entity and
its internal control, the overall audit strategy and audit plan, materiality determined in
accordance with NSA.
Nature and Purposes of Audit Documentation

Audit documentation that meets the requirements of this NSA and the specific documentation
requirements of other relevant NSAs provides:
a) Evidence of the auditor‘s basis for a conclusion about the achievement of the overall
objectives of the auditor; and
b) Evidence that the audit was planned and performed in accordance with NSAs and
applicable legal and regulatory requirements.
c) Audit documentation serves a number of additional purposes, including the following:
• Assisting the engagement team to plan and perform the audit.
• Assisting members of the engagement team responsible for supervision to direct and
supervise the audit work, and to discharge their review responsibilities in accordance with NSA
220.
• Enabling the engagement team to be accountable for its work.
• Retaining a record of matters of continuing significance to future audits.
• Enabling the conduct of quality control reviews and inspections in accordance with
NSQC 13 or national requirements that are at least as demanding.
• Enabling the conduct of external inspections in accordance with applicable legal, regulatory or
other requirements.
Answer No 14:
Review Engagement 2400: Engagement to review financial statements mentions that procedures
for the review of financial statements will ordinarily include the following:
 Obtaining an understanding of the entity‘s business and the industry in which it operates.
 Inquiries concerning the entity‘s accounting principles and practices.
 Inquiries concerning the entity‘s procedures for recording, classifying and summarizing
transactions, accumulating information for disclosure in the financial statements and
preparing financial statements.
 Inquiries concerning all material assertions in the financial statements.
 Analytical procedures designed to identify relationships and individual items that appear
unusual.
Such procedures would include:
1. Comparison of the financial statements with statements for prior periods.
2. Comparison of the financial statements with anticipated results and financial position.

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3. Study of the relationships of the elements of the financial statements that would be
expected to conform to a predictable pattern based on the entity‘s experience or industry
norm.
 Inquiries concerning actions taken at meetings of shareholders, the board of directors,
committees of the board of directors and other meetings that may affect the financial
statements.
 Reading the financial statements to consider, on the basis of information coming to the
practitioner‘s attention, whether the financial statements appear to conform with the basis of
accounting indicated.
 Obtaining reports from other practitioners, if any and if considered necessary, who have been
engaged to audit or review the financial statements of components of the entity.
 Inquiries of persons having responsibility for financial and accounting matters concerning,
for example:
1. Whether all transactions have been recorded.
2. Whether the financial statements have been prepared in accordance with the basis of
accounting indicated.
3. Changes in the entity‘s business activities and accounting principles and practices.
4. Matters as to which questions have arisen in the course of applying the foregoing
procedures.
5. Obtaining written representations from management when considered appropriate.
Answer No 15
a. Compilation engagement
Nepal Standard on Related Services 4410 on Compilation Engagement deals with the
practitioner‘s responsibilities when engaged to assist management with the preparation and
presentation of historical financial information without obtaining any assurance on that
information, and to report on the engagement in accordance with this NSRS.
This NSRS applies to compilation engagements for historical financial information. The NSRS
may be applied, adapted as necessary, to compilation engagements for financial information
other than historical financial information, and to compilation engagements for non-financial
information.
When the practitioner is requested to assist management with the preparation and presentation of
financial information, appropriate consideration may need to be given to whether the
engagement should be undertaken in accordance with this NSRS. Factors that indicate that it
may be appropriate to apply this NSRS, including reporting under this NSRS, include whether:
o The financial information is required under provisions of applicable law or regulation,

and whether it is required to be publicly filed.
o External parties other than the intended users of the compiled financial information are
likely to associate the practitioner with the financial information, and there is a risk that

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the level of the practitioner‘s involvement with the information may be misunderstood,
for example:
 If the financial information is intended for use by parties other than management or those
charged with governance, or may be provided to, or obtained by, parties who are not the
intended users of the information; and
 If the practitioner‘s name is identified with the financial information.
Since a compilation engagement is not an assurance engagement, a compilation engagement
does not require the practitioner to verify the accuracy or completeness of the information
provided by management for the compilation, or otherwise to gather evidence to express an audit
opinion or a review conclusion on the preparation of the financial information.
b. Independence of Professional Accountants
The Code of Ethics for Professional Accountants, issued by International Federation of

Accountants (IFAC) defines the term 'independence' as follows:
"Independence‖ is:
a. Independence of mind – the state of mind that permits the provision of an opinion without
being affected by influences that compromise professional judgement, allowing an individual to
act with integrity, and exercise objectivity and professional skepticism; and
b. Independence in appearance – the avoidance of facts and circumstances that are so significant
that a reasonable and informed third party, having knowledge of all relevant information,
including any safeguards applied, would reasonably conclude a firm's, or a member of the
assurance team's integrity, objectivity or professional skepticism had been compromised of."
Independence of the Professional Accountant has not only to exist in fact, but also appear to so
exist to all reasonable persons. The relationship between the Professional Accountant and his
client should be such that firstly, he is himself satisfied about his independence and secondly, no
unbiased person would be forced to the conclusion that, on an objective assessment of the
circumstances, there is likely to be an abridgement of the Professional Accountants'
independence.
The idea of independence is enshrined in the minds of Professional Accountants in the

performance of their duties. It has to be applied in their day – to – day work and their success is
dependent entirely upon their integrity, competence and independence of approach.
Dependent as it is on the state of mind and character of a person, independence, is a very

subjective matter. One person might be independent in a particular set of circumstances, while
another person might feel he is not independent in similar circumstances. It is therefore the duty
of every Professional Accountant to determine for him whether or not he can act independently
in the given circumstances of a case and quite apart from legal rules, in no case to place himself
in a position which would compromise his independence.

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The Professional Accountant should be straightforward, honest and sincere in his approach to his
professional work. He must be fair and must not allow prejudice or bias to override his
objectivity. He should maintain an impartial attitude and both be and appear to be free of any
interest which might be regarded, whatever its actual effect, as being incompatible with integrity
and objectivity.
Answer No 16
As per NSA 250 ―Consideration of Laws and Regulation in an Audit of financial statements‖, the
auditor is required to obtain sufficient appropriate audit evidence regarding the compliance with
the provisions of those laws and regulations generally recognized to have a direct impact on the
determination of material amounts and disclosures in the financial statements including tax and
labour law.
For the other laws, the auditor‘s responsibility is limited to undertake specified audit procedures
to help identify non-compliance with those laws and regulations that may have a material effect
on the financial statements.
Non-compliance with other laws and regulations may result in fines, litigation or other
consequences for the entity, the cost of which may need to be provided for.
In the instant case, major portion of the labour employed was child labour. Auditor should ensure
the disclosure of above fact and provision of the cost of fines, litigation or other consequences. In
case auditor concludes that non-compliance may have a material effect on financial statements,
he should modify his opinion accordingly
Answer No 17
The risks associated with banking activities may broadly be categorized as:
Credit risk
The risk that a customer or counterparty will not settle an obligation for full value, either when
due or at any time thereafter. Credit risk, particularly from commercial lending, may be
considered the most important risk in banking operations. Credit risk arises from lending to
individuals, companies, banks and governments. It also exists in assets other than loans, such as
investments, balances due from other banks and in off-balance sheet commitments. Credit risk
also includes country risk, transfer risk, replacement risk and settlement risk.
Currency risk
The risk of loss arising from future movements in the exchange rates applicable to foreign
currency assets, liabilities, rights and obligations.

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Interest rate risk
The risk that a movement in interest rates would have an adverse effect on the value of assets and
liabilities or would affect interest cash flows.
Legal and documentary risk
The risk that contracts are documented incorrectly or are not legally enforceable in the relevant
jurisdiction in which the contracts are to be enforced or where the counterparties operate. This
can include the risk that assets will turn out to be worth less or liabilities will turn out to be
greater than expected because of inadequate or incorrect legal advice or documentation. In
addition, existing laws may fail to resolve legal issues involving a bank; a court case involving a
particular bank may have wider implications for the banking business and involve costs to it and
many or all other banks; and laws affecting banks or other commercial enterprises may change.
Banks are particularly susceptible to legal risks when entering into new types of transactions and
when the legal right of counterparty to enter into a transaction is not established.
Liquidity risk
The risk of loss arising from the changes in the bank‗s ability to sell or dispose of an asset.
Operational risk
The risk of direct or indirect loss resulting from inadequate or failed internal processes, people
and systems or from external events
Regulatory risk
The risk of loss arising from failure to comply with regulatory or legal requirements in the
relevant jurisdiction in which the bank operates. It also includes any loss that could arise from
changes in regulatory requirements
Reputational risk
The risk of losing business because of negative public opinion and consequential damage to the
bank‗s reputation arising from failure to properly manage some of the above risks, or from
involvement in improper or illegal activities by the bank or its senior management, such as
money laundering or attempts to cover up losses.
Banks may be subject to risks arising from the nature of their ownership. For example, a bank‗s
owner or a group of owners might try to influence the allocation of credit. In a closely held bank,
the owners may have significant influence on the bank‗s management affecting their
independence and judgment. The auditor should consider such risks as well.

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Answer no 18:
In the present case Sita is one of the joint auditors who was appointed in Annual General
Meeting, but declined to accept the appointment. The Board of Directors as per their resolution,
appointed Gita as a joint auditor in her place. In this case, the vacancy created by Sita is neither
caused by resignation of Sita nor is it a casual vacancy because Sita‗s appointment had not
become effective. Hence, appointment of Gita as joint auditor by the Board is not valid. Gita can
only be appointed as joint auditor by shareholders in the General Meeting.

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REVISION QUESTIONS
1. Describe the Equitable Treatment of Shareholders as per OECD principles on corporate

governance.
2. Compliance with the fundamental principles of IFAC code of conduct may potentially be
threatened by a broad range of circumstances. What are the categories of such threats? Give
some examples of the circumstances that may lead to such threats.
3. Describe the roles and responsibilities of audit committee in a company as per the
Companies Act.
4. Write a short note on Data Analytics in relation to Audit.
5. Write the general steps in conduct of Risk Based Audit
6. (a) While auditing Z Ltd., you observe certain material financial statement assertions have
been based on estimates made by the management. As the auditor how do you minimize the
risk of material misstatements?
(b) ABC Ltd., at its annual general meeting, appointed Mr. X, Mr. Y and Mr. Z as joint auditors to
conduct auditing for the financial year 2017-18. For the valuation of gratuity scheme of the
company, Mr. X, Mr. Y and Mr. Z wanted to refer their own known Actuaries. Due to
difference of opinion, all the joint auditors consulted their respective Actuaries.
Subsequently, major difference was found in the actuary reports. However, Mr. X agreed to
Mr. Y’s actuary report, though, Mr. Z did not. Mr. X contends that Mr. Y’s actuary report shall
be considered in audit report due to majority of votes. Now, Mr. Z is in dilemma. Explain the
responsibility of auditors, in case, report made by Mr. Y’s actuary, later on, found faulty.
7. When a sub-service organization performs services for a service organization, there are two
alternative methods of presenting the description of controls. The service organization
determines which method will be used. As a user auditor what information would you obtain
about controls at a sub-service organization?
8. (a)Under the applicable Standards on Auditing, in what circumstances does the report of the
statutory auditor require modifications? What are the types of modifications possible to the
said report?
(b)Write a short note on “Emphasis of Matter”
9. J Ltd. is interested in acquiring S Ltd. The valuation of S Ltd. Is dependent on future

maintainable sales. As the person entrusted to value S Ltd. What factors would you consider
in assessing the future maintainable turnover?
10. State with reasons (in short) whether the following statement is correct or incorrect:
a. As per the Standard on Auditing (SA) 520 “Analytical Procedures” ‘the term “analytical
procedures” means evaluations of financial information through analysis of plausible
relationships among financial data only.
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b. Auditor can depend on routine checks to disclose all the mistakes or manipulation that may
exist in accounts.
c. Only purpose of analytical procedures is to obtain relevant and reliable audit evidence when
using substantive analytical procedures.
d. Analytical Procedures are required in the planning phase only.
e. Substantive analytical procedures are generally less applicable to large volumes of

transactions that tend to be predictable over time
11. Write a short note on

 Confidence Level
 Tolerable misstatement
12. You are an audit manager in SMC Associates which offers a range of audit and other
assurance services to its clients. One of your audit clients is Grace Ltd, which operates a
commercial haulage company. Grace Ltd has been an audit client for the last five years. The
company is Nepal-based but is currently planning a significant expansion of its operations
into India. In order to finance the planned expansion, Grace Ltd needs funds to purchase
additional heavy goods vehicles, expand its warehousing facilities and recruit more drivers.
The company is also planning a major advertising and marketing campaign targeted at
potential customers in India.
Grace Ltd’s finance director, Sunil Bhandari, has approached you to ask if your firm will
provide a report on the prospective financial information which has been prepared in
support of a loan application. The application is for a new long-term loan of Rs 22 million
from the company’s current lender which it intends to use exclusively to finance the planned
expansion. The company currently has an existing long-term loan of Rs 31 million from the
same bank which is redeemable in five years’ time.
Sunil Bhandari has provided you with the following extract from the prospective financial
information which will form part of the company’s loan application:
Forecasts statements of profit and loss account

Year Year Year
ended ended ended
15th July 15th July 16th July
Notes 2016 2017 2018
Unaudite
d Forecast Forecast
138,861.0 174,965.0 225,705.0

Revenue 1 0 0 0
(104,861. (124,786. (157,230.
Cost of sales 2 00) 00) 00)
Administrative (22,396.0 (21,984.0
20,730.00
expenses 3 0) 0)
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Operating profit 11,063.00 28,195.00 47,732.00

(1,450.00 (1,638.00 (1,597.00
Finance Costs 4 ) ) )
Profit before tax 9,613.00 26,557.00 46,135.00
Notes:
1. Revenue represents the amounts derived from the provision of haulage services to
commercial customers operating principally in the retail sector. Grace Ltd’s board of
directors believes that trade in both its existing and new markets will experience
significant growth over the next two years.
2. Cost of sales comprises the costs of warehousing and distribution including relevant staff
costs, maintenance and repair of vehicles and depreciation of property, equipment and
vehicles.
3. Administrative expenses are mainly the costs of running Grace Ltd’s central head office
facility.
4. Finance costs represent the cost of servicing long-term finance from Grace Ltd’s bankers.
Required:
(i) Explain the matters which should be considered by SMC Associates before
accepting the engagement to review and report on Grace Ltd’s prospective
financial information.
(ii) Assuming SMC Associates accepts the engagement, recommend the examination
procedures to be performed in respect of Grace Ltd’s forecast statements of profit
or loss.
13. The audit of Davis Ltd’s financial statements for the year ended 15th July 2018 is nearing
completion and the auditor’s report is due to be signed next week. Davis Ltd manufactures
parts and components for the aviation industry. You are conducting an engagement quality
control review on the audit of Davis Ltd which is a listed entity and a significant new client of
your firm. The draft financial statements recognize revenue of Rs 8·7 million, assets of Rs
15·2 million and profit before tax of Rs 1·8 million.
You have identified the following issues as a result of your review:
(i) The planned audit approach to trade payables was to place reliance on purchasing
controls and keep substantive tests to a minimum. During controls testing on trade
payables, from a random statistical sample, the audit team identified three purchase
orders which had not been authorized by the procurement manager. On review of the
supporting documentation, the audit team concluded that the items were legitimate
business purchases and therefore concluded that no additional procedures were
required.
(ii) Following a review of petty cash transactions, the audit assistant identified that the
petty cashier paid for taxi fares for personal, non-business journeys with a total value
of Rs. 175. Following discussions with the audit assistant, you have ascertained that he
did not report the matter further as the amount is immaterial. The audit assistant also
commented that the petty cashier is his brother and that he did not want to get him
into trouble.
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Required:
Evaluate the quality control issues and the implications for the completion of the audit
including any further actions which should be taken by your audit firm. Your answer
should include the matters to be communicated to management and to those charged
with governance in relation to the audit of Davis Ltd.
14. You are a manager in one of the assurance departments of Leopard & Co, a large firm of
Chartered Accountants. You are currently assigned to a due diligence engagement for one of
your firm’s audit clients, Cheetah Ltd, a manufacturer of bespoke furniture. The audit of
Cheetah Ltd is conducted by a team from a different department; you have never been
involved in the audit of this client.
The engagement is to conduct a financial and operational due diligence review of Zebra Ltd, a
company which has been identified as a potential acquisition target by Cheetah Ltd, due to
the synergies offered and the potential to expand the existing production facilities. As part of
the due diligence review, you have been asked to provide a valuation of Zebra Ltd’s assets and
liabilities and an analysis of the company’s operating profit forecasts. This will assist Cheetah
Ltd in determining an appropriate purchase price for Zebra Ltd.
During the engagement fieldwork your team identified two matters, which require your
further consideration, as follows:
(a). While reviewing correspondence with customers in relation to outstanding

receivables, one of the team found a letter from a large retailer, for which Zebra Ltd
produces a number of unique products, providing advanced notice that they are not
renewing their purchasing agreement when the current one expires. The customer
advised that they are switching to a new entrant to the market who is substantially
cheaper than Zebra Ltd. A brief analysis identified that the customer provides, on average,
almost 5% of Zebra Ltd’s annual revenues.
(b). Zebra Ltd owns a piece of land which was given to it as a gift by the local authorities
ten years ago. The land surrounds the entrance to the main production premises and is
designated as a nature reserve. Restrictions were imposed on the usage of the land which
also limits who the owner is able to sell the land to in the future. The land has zero
carrying value in the financial statements.
No additional matters have arisen for your consideration. You are also aware that the
financial statements for the last ten years have been audited and no modifications have
been made to the auditor’s opinion during this period.
Required:
In respect of the two matters identified above:
Explain why each matter requires further investigation as part of the due diligence review,
and recommend the investigation procedures to be performed.
15. (a) Discuss the three types of misstatement identified in NSA 450 Evaluation of
Misstatements Identified during the Audit and comment on why it is important for the
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auditor to consider the type of misstatement when evaluating their effect on the financial
statements and determining the further actions to be taken.
(b) You are responsible for the audit of Basking Ltd, a large, listed package delivery company.
The audit of the financial statements for the year ended 15th July 2018 is nearly complete
and you are reviewing the audit working papers. The financial statements recognize revenue
of Rs 56,360 million (2017 – Rs 56,245 million), profit for the year of Rs 2,550 million (2017 –
Rs 2,630 million) and total assets of Rs 37,546 million (2017 – Rs 38,765 million).
The uncorrected misstatements identified during the audit of Basking Lts are described
below. The audit engagement partner is holding a meeting with the management team of
Basking Ltd next week, at which the uncorrected misstatements will be discussed.
(1) The accuracy of the depreciation charge was investigated for a sample of motor
vehicles with a carrying value of Rs 4·5 million. The investigation revealed that the
accounting system had failed to correctly depreciate vehicles acquired during the year.
Consequently, depreciation in the sample had been understated, and the carrying value of
the vehicles overstated, by Rs 350,000. The total value of all motor vehicles at the year
end was Rs 125 million (2017 – Rs 131 million).
(2) During the year Basking Ltd reduced the value of their provision for customer refunds
which is recognized in the financial statements. For the past five years the value of the
provision has been calculated based on 7% of one month’s sales, using an average
monthly sales value. Management argued that due to improved internal processing
systems, such a high rate of provision was no longer necessary and reduced it to 4%. Audit
procedures found that refund levels were similar to previous years and there was
insufficient evidence at this early stage to confirm whether the new system was more
effective or not.
Required:
For each of the matters described above:
Explain the matters which should be discussed with management in relation to each of the
uncorrected misstatements, and assuming that management does not adjust the misstatements
identified; evaluate the effect of each on the audit opinion.
16. You are the manager responsible for the audit of Osier Ltd, a jewellery manufacturer and
retailer. The final audit for the year ended 16 July 2018 is nearing completion and you are
reviewing the audit working papers. The draft financial statements recognize total assets of Rs
1,919 million (2017 – Rs 1,889 million), revenue of Rs 1,052 million (2017 – Rs 997 million) and
profit before tax of Rs 107 million (2017 – Rs 110 million). Three issues from the audit working
papers are summarized below:
Cost of inventory
Inventory costs include all purchase costs and the costs of conversion of raw materials into
finished goods. Conversion costs include direct labour costs and an allocation of production
overheads. Direct labour costs are calculated based on the average production time per unit
of inventory, which is estimated by the production manager, multiplied by the estimated
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labour cost per hour, which is calculated using the forecast annual wages of production staff
divided by the annual scheduled hours of production. Production overheads are all fixed and
are allocated based upon the forecast annual units of production. At the year end inventory
was valued at Rs 21 million (2017 – £20 million).
Impairment
At the year end management performed an impairment review on its retail outlets, which are
a cash generating unit for the purpose of conducting an impairment review. While internet
sales grew rapidly during the year, sales from retail outlets declined, prompting the review. At
16 July 2018, the carrying amount of the assets directly attributable to the retail outlets
totalled Rs 137 million, this includes both tangible assets and good will.
During the year, management received a number of offers from parties interested in
purchasing the retail outlets for an average of Rs 125 million. They also estimated the disposal
costs to be Rs 1·5 million, based upon their experience of corporate acquisitions and disposals.
Management estimated the value in use to be Rs 128 million. This was based upon the historic
cash flows attributable to retail outlets inflated at a general rate of 1% per annum. This, they
argued, reflects the poor performance of the retail outlets.
Consequently, the retail outlets were impaired by Rs 9 million to restate them to their
estimated recoverable amount of Rs 128 million. The impairment was allocated against the
tangible assets of the outlets on a pro rata basis, based upon the original carrying amount of
each asset in the unit.
Warranty provision
Each year management makes a provision for jewellery returned under warranty. It is based
upon an estimate of returns levels for each product type (rings, bracelets, necklaces, watches,
earrings, etc) and is calculated on an annual basis by the sales director. The breakdown for the
current provision, as extracted from the notes to the financial statements, is as follows:
Rs in million
At 15 July 2017 11.50
Provisions charged during the year 0.50
Provision utilized during the year (1.90)
Unutilized provisions reversed (3.10)
At 16 July 2018 7.00
Required:
Comment on the matters to be considered, and explain the audit evidence you should
expect to find during your file review in respect of each of the issues described above.
Note: You are not required to discuss any potential impacts on the auditor’s report.
17. MNO Associates, Chartered Accountants was appointed to review the financial projection of
Sampannna Bank Limited prepared for the purpose of issuance of debentures on the basis of
assumptions obtained from 5 years strategic plan and annual budget Draft an unmodified
report giving reference to appropriate Nepal Standard Audit Engagement.
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18. (a)As a bank auditor, what aspects will be considered while reporting on
– AML/CFT
– Loan classification and loan loss provisioning
In LFAR
(b)You are an external auditor of a bank. How will you audit safe deposit locker operation?
19. The respondent, a Registered Auditor issued audit report of a company for financial year 74-
75. But he failed to comment on the compliance/noncompliance of the applicable Nepal
Accounting Standards. Also the Auditor could not show his working papers and supporting
documents sufficient to prove that he had carried out the audit in accordance with Nepal
Standards on Auditing. Can he be held guilty of professional misconduct?
20. Write a short note on Insolvency Practitioners.

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SUGGESTED ANSWERS HINT

Answer No. 1
The corporate governance framework should ensure the equitable treatment of all shareholders,
including minority and foreign shareholders. All shareholders should have the opportunity to
obtain effective redress for violation of their rights. The principle of equitable treatment of
shareholders is explained in detail below:
a. All shareholders of the same series of a class should be treated equally. Within any series
of a class, all shares should carry the same rights. All investors should be able to obtain
information about the rights attached to all series and classes of shares before they
purchase. Any changes in voting rights should be subject to approval by those classes of
shares which are negatively affected. Minority shareholders should be protected from
abusive actions by, or in the interest of, controlling shareholders acting either directly or
indirectly, and should have effective means of redress. Votes should be cast by custodians
or nominees in a manner agreed upon with the beneficial owner of the shares.
Impediments to cross border voting should be eliminated. Processes and procedures for
general shareholder meetings should allow for equitable treatment of all shareholders.
Company procedures should not make it unduly difficult or expensive to cast votes.
b. Insider trading and abusive self-dealing should be prohibited.
c. Members of the board and key executives should be required to disclose to the board
whether they, directly, indirectly or on behalf of third parties, have a material interest in
any transaction or matter directly affecting the corporation.
Answer No. 2
Many threats fall into the following categories:
a. Self-interest;
b. Self-review;
c. Advocacy;
d. Familiarity; and
e. Intimidation.
The nature and significance of the threats may differ depending on whether they arise in relation
to the provision of services to a financial statement audit client, a non-financial statement audit
assurance client or a non-assurance client.
Examples of circumstances that may create self-interest threats for a professional accountant in
public practice include, but are not limited to:
– A financial interest in a client or jointly holding a financial interest with a client.
– Undue dependence on total fees from a client
– Having a close business relationship with a client.
– Concern about the possibility of losing a client.
– Potential employment with a client.
– Contingent fees* relating to an assurance engagement.
– A loan to or from an assurance client or any of its directors or officers.
Examples of circumstances that may create self-review threats include, but are not limited to:
– The discovery of a significant error during a re-evaluation of the work of the
professional accountant in public practice.
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– Reporting on the operation of financial systems after being involved in their
design or implementation.
– Having prepared the original data used to generate records that are the subject
matter of the engagement.
– A member of the assurance team∗ being, or having recently been, a director or
officer* of that client.
– A member of the assurance team being, or having recently been, employed by the
client in a position to exert direct and significant influence over the subject matter
of the engagement.
– Performing a service for a client that directly affects the subject matter of the
Examples of circumstances that may create advocacy threats include, but are not limited to:
– Promoting shares in a listed entity when that entity is a financial statement audit
client.
– Acting as an advocate on behalf of an assurance client in litigation or disputes with
third parties.
Examples of circumstances that may create familiarity threats include, but are not limited to:
– A member of the engagement team having a close or immediate family
relationship with a director or officer of the client.
– A member of the engagement team having a close or immediate family
relationship with an employee of the client who is in a position to exert direct and
significant influence over the subject matter of the engagement.
– A former partner of the firm being a director or officer of the client or an
employee in a position to exert direct and significant influence over the subject
matter of the engagement.
– Accepting gifts or preferential treatment from a client, unless the value is clearly
insignificant.
– Long association of senior personnel with the assurance client.
Examples of circumstances that may create intimidation threats include, but are not limited to:
– Being threatened with dismissal or replacement in relation to a client
engagement.
– Being threatened with litigation.
– Being pressured to reduce inappropriately the extent of work performed in order
to reduce fees.
Answer No. 3
Functions, duties and powers of audit committee: The functions, duties and powers of the audit
committee formed pursuant to Subsection (1) of Section 164 of the Companies Act shall be as
follows:
a. To review the accounts and financial statements of the company and ascertain the
truth of the facts mentioned in such statements;
b. To review the internal financial control system and the risk management system of
the company;
c. To supervise and review the internal auditing activity or the company;
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d. To recommend the names of potential auditors for the appointment of the auditor of
the company, fix the remuneration and terms and conditions of appointment of the
auditor and present the same in the general meeting for the ratification thereof;
e. To review and supervise as to whether the auditor of the company has observed such
conduct, standards and directives determined by the competent body pursuant to
the prevailing law as required to be observed in the course of doing auditing work;
f. Based on the conduct, standard and directives determined by the competent body
pursuant to the prevailing law, to formulate the polices required to be observed by
the company in respect of the appointment and selection of the auditor;
g. To prepare the accounts related policy of the company and enforce, or cause to be
enforced, the
h. Where any regulator body has provided for the long term audit report to be set out
in the audit report of the company, to comply with the terms required to prepare
such report;
i. To perform such other terms as prescribed by the board of directors in respect of the
accounts, financial management and audit of the company.
Answer No. 4
Data Analytics:
Generating and preparing meaningful information from raw system data using processes, tools,
and techniques is known as Data Analytics. The data analytics methods used in an audit are known
as Computer Assisted Auditing Techniques or CAAT s. When auditing in an automated
environment, auditors can apply the concepts of data analytics for several aspects of an audit
including the following:
– preliminary analytics;
– risk assessment;
– control testing;
– non-standard journal analysis;
– evaluation of deficiencies;
Answer No. 5
Risk Based Audit consists of four main phases starting with the identification and prioritization of
risks, to the determination of residual risk, reduction of residual risk to acceptable level and the
reporting to auditee of audit results. These are achieved through the following:
Step 1- Understanding the entity risk

Understanding auditee operations involves processes for reviewing and understanding the
audited organization’s risk management processes for its strategies, framework of operations,
operational performance and information process framework, in order to identify and prioritize
the error and fraud risks that impact the audit of financial statements. The environment in which
the auditee operates, the information required to monitor changes in the environment, and the
process or activities integral to the audited entity’s success in meeting its objectives are the key
factors to an understanding of agency risks. Likewise, a performance review of the audited entity’s
delivery of service by comparing expectations against actual results may also aid in understanding
agency operations.
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Step 2- Identifying and assessing the risk
Assessment of management risk strategies and controls is the determination as to how controls
within the auditee are designed. The role of internal audit in promoting a sound accounting
system and internal control is recognized, thus the SAI should evaluate the effectiveness of
internal audit to determine the extent to which reliance can be placed upon it in the conduct of
substantive tests.
Step 3- Responding to identified risk and conducting the audit

Management of residual risk requires the design and execution of a risk reduction approach that is
efficient and effective to bring down residual audit risk to an acceptable level. This includes the
design and execution of necessary audit procedures and substantive testing to obtain evidence in
support of transactions and balances. More resources should be allocated to areas of high audit
risks, which were earlier known through the analytical procedures undertaken.
Step 4- Communication the results to the auditee

The results of audit shall be communicated by the auditor to the audited entity. The auditor must
immediately communicate to the auditee reportable conditions that have been observed even
before completion of the audit, such as weaknesses in the internal control system, deficiencies in
the design and operation of internal controls that affect the organization’s ability to record,
process, summarize and report financial data.
Answer No. 6
(a) As per NSA 540 “Auditing Accounting Estimates, Including Fair Value Accounting Estimates,
and Related Disclosures”, the auditor shall obtain an understanding of the following in
order to provide a basis for the identification and assessment of the risks of material
misstatements for accounting estimates:
i. The requirements of the applicable financial reporting framework relevant to the

accounting estimates, including related disclosures.
ii. How Management identifies those transactions, events and conditions that may
give rise to the need for accounting estimates to be recognized or disclosed, in the
financial statements. In obtaining this understanding, the auditor shall make
inquiries of management about changes in circumstances that may give rise to
new, or the need to revise existing, accounting estimates.
iii. The estimation making process adopted by the management including-
– The method, including where applicable the model, used in making the accounting
estimates.
– Relevant controls.
– Whether management has used an expert?
– The assumption underlying the accounting estimates.
– Whether there has been or ought to have been a change from the prior period in
the methods for making the accounting estimates, and if so, why; and
– Whether and, if so, how the management has assessed the effect of estimation
uncertainty.
(b) Using the work of an Auditor’s Expert:

As per NSA 620 “Using the Work of an Auditor’s Expert”, the expertise of an expert may be
required in the actuarial calculation of liabilities associated with insurance contracts or employee
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benefit plans etc., however, the auditor has sole responsibility for the audit opinion expressed,
and that responsibility is not reduced by the auditor’s use of the work of an auditor’s expert.
The auditor shall evaluate the adequacy of the auditor’s expert’s work for the auditor’s purposes,
including the relevance and reasonableness of that expert’s findings or conclusions, and their
consistency with other audit evidence as per NSA 500.
Further, in view of NSA 620, if the expert’s work involves use of significant assumptions and
methods, then the relevance and reasonableness of those assumptions and methods must be
ensured by the auditor and if the expert’s work involves the use of source data that is significant
to that expert’s work, the relevance, completeness, and accuracy of that source data in the
circumstances must be verified by the auditor.
In the instant case, Mr. X, Mr. Y and Mr. Z, jointly appointed as an auditor of ABC Ltd., referred
their own known Actuaries for valuation of gratuity scheme. Actuaries are an auditor’s expert as
per NSA 620. Mr. Y’s referred actuary has provided the gratuity valuation report, which later on
found faulty. Further, Mr. Z is not agreed with this report therefore he submitted a separate audit
report specifically for such gratuity valuation.
In such situation, it was duty of Mr. X, Mr. Y and Mr. Z, before using the gratuity valuation report
of Actuary, to ensure the relevance and reasonableness of assumptions and methods used. They
were also required to examine the relevance, completeness and accuracy of source data used for
such report before expressing their opinion.
Mr. X and Mr. Y will be held responsible for grossly negligence and using such faulty report
without examining the adequacy of expert actuary’s work whereas Mr. Z will not be held liable for
the same due to separate opinion expressed by him.
Answer No. 7
Controls at a Sub-Service organization:
In accordance with NSA 402 “Audit Considerations relating to an Entity Using a Service
organization ”,a user entity may use a service organization that in turn uses a sub-service
organization to provide some of the services provided to a user entity that are part of the user
entity’s information system relevant to financial reporting. The sub-service organization may be a
separate entity from the service organization or may be related to the service organization.
A user auditor may need to consider controls at the sub-service organization. In situations where
one or more sub-service organizations are used, the interaction between the activities of the user
entity and those of the service organization is expanded to include the interaction between the
user entity, the service organization and the sub-service organizations. The degree of this
interaction, as well as the nature and materiality of the transactions processed by the service
organization and the sub-service organizations are the most important factors for the user auditor
to consider in determining the significance of the service organization’s and sub-service
organization’s controls to the user entity’s controls.
Further, the user auditor shall determine whether a sufficient understanding of the nature and
significance of the services provided by the service organization and their effect on the user
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entity's internal control relevant to the audit has been obtained to provide a basis for the
identification and assessment of risks of material misstatement.
If the user auditor is unable to obtain a sufficient understanding from the user entity, the user
auditor shall obtain that understanding by application of the following two methods of presenting
description of internal controls i.e. (i) Type 1 report; or (ii) Type 2 report. If a service organization
uses a subservice organization, the service auditor's report may either include or exclude the
subservice organization's relevant control objectives and related controls in the service
organization's description of its system and in the scope of service auditor's engagement. These
two methods of reporting are known as the inclusive method and the carve-out method
respectively.
In either method, the service organization includes in its description of controls a description of
the functions and nature of the processing performed by the sub-service organization.
If the Type 1 or Type 2 report excludes the control at a subservice organization and the services
provided by the subservice organization are relevant to the audit of the user entity’s financial
statements, the user auditor is required to apply the requirements of the SA 402 in respect of the
subservice organization.
The nature and extent of work to be performed by the user auditor regarding the services
provided by a subservice organization depend on the nature and significance of those services to
the user entity and relevance of those services to the audit.
Answer No. 8
(a)As per NSA 705, The auditor shall modify the opinion in the auditor’s report when:
– The auditor is unable to obtain sufficient appropriate audit evidence to conclude
that the financial statements as a whole are free from material misstatement or
– The auditor concludes that, based on the audit evidence obtained, the financial
statements as a whole are not free from material misstatement; or
Qualified Opinion: The auditor shall express a qualified opinion when:

– The auditor, having obtained sufficient appropriate audit evidence, concludes that
misstatements, individually or in the aggregate, are material, but not pervasive, to
the financial statements; or
– The auditor is unable to obtain sufficient appropriate audit evidence on which to

base the opinion, but the auditor concludes that the possible effects on the
financial statements of undetected misstatements, if any, could be material but
not pervasive
Adverse Opinion: The auditor shall express an adverse opinion when the auditor, having obtained
sufficient appropriate audit evidence, concludes that misstatements, individually or in the
aggregate, are both material and pervasive to the financial statements
Disclaimer of Opinion: The auditor shall disclaim an opinion when the auditor is unable to obtain
sufficient appropriate audit evidence on which to base the opinion, and the auditor concludes that
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the possible effects on the financial statements of undetected misstatements, if any, could be
both material and pervasive. The auditor shall disclaim an opinion when, in extremely rare
circumstances involving multiple uncertainties, the auditor concludes that, notwithstanding
having obtained sufficient appropriate audit evidence regarding each of the individual
uncertainties, it is not possible to form an opinion on the financial statements due to the potential
interaction of the uncertainties and their possible cumulative effect on the financial statements.
(b) NSA 706 Emphasis of Matter

A paragraph included in the auditor’s report that refers to a matter appropriately presented or
disclosed in the financial statements that, in the auditor’s judgment, is of such importance that it
is fundamental to users’ understanding of the financial statements. When the auditor includes an
Emphasis of Matter paragraph in the auditor’s report, the auditor shall:
i. Include the paragraph within a separate section of the auditor’s report with an
appropriate heading that includes the term “Emphasis of Matter”;
ii. Include in the paragraph a clear reference to the matter being emphasized and to
where relevant disclosures that fully describe the matter can be found in the
financial statements. The paragraph shall refer only to information presented or
disclosed in the financial statements; and
iii. Indicate that the auditor’s opinion is not modified in respect of the matter
emphasized.
Circumstances where the auditor may consider it necessary to include an Emphasis of Matter
paragraph are:
i. An uncertainty relating to the future outcome of exceptional litigation or
regulatory action.
ii. A significant subsequent event that occurs between the date of the financial
statements and the date of the auditor’s report.
iii. Early application (where permitted) of a new accounting standard that has a
material effect on the financial statements.
iv. A major catastrophe that has had, or continues to have, a significant effect on the
entity’s financial position.
Answer No. 9
In assessing the turnover which the business would be able to maintain in the future, the following
factors should be taken into account:
i. Trend:
Whether in the past, sales have been increasing consistently or they have been
fluctuating. A proper study of this phenomenon should be made.
ii. Marketability:
Is it possible to extend the sales into new markets or that these have been fully exploited?
Product wise estimation should be made.
iii. Political and economic considerations:

Are the policies pursued by the Government likely to promote the extension of the market
for goods to other countries? Whether the sales in the home market are likely to increase
or decrease as a result of various emerging economic trends?
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iv. Competition:
What is the likely effect on the business if other manufacturers enter the same field or if
products which would sell in competition are placed on the market at cheaper price? Is
the demand for competing products increasing? Is the company’s share in the total trade
constant or has it been fluctuating?
Answer No. 10
a. Incorrect.
As per the Nepal Standard on Auditing “(NSA) 520 “Analytical Procedures” ‘the term
“analytical procedures” means evaluations of financial information through analysis of
plausible relationships among both financial and non-financial data.
b. Incorrect.
Routine checks cannot be depended upon to disclose all the mistakes or
manipulations that may exist in accounts, certain other procedures also have to be
applied like trend and ratio analysis in addition to reasonable tests.
c. Incorrect.
Analytical procedures use comparisons and relationships to assess whether account
balances or other data appear reasonable. Analytical procedures are used for the
following purposes:
(i) To obtain relevant and reliable audit evidence when using substantive analytical
procedures; and
(ii) To design and perform analytical procedures near the end of the audit that assist
the auditor when forming an overall conclusion as to whether the financial
statements are consistent with the auditor’s understanding of the entity.
d. Incorrect.
Analytical Procedures are required in the planning phase and it is often done during
the testing phase. In addition these are also required during the completion phase.
e. Incorrect.
Substantive analytical procedures are generally more applicable to large volumes of
transactions that tend to be predictable over time.
Answer No. 11
Confidence level
The reliability referred to is usually termed the confidence level. More precisely, in an auditing
context, it is the mathematical probability that the mis-statement rate in the sample will not differ
from the error rate in the population by more than a stated amount. Confidence level is
conveniently expressed as a percentage. Thus, when we speak of a confidence level of 90%, we
mean that there are 90 chances that the item would fall within the confidence intervals of about
90 to 100, against 10 chances, i.e. the risk we take, that it will not (once again, at a specified level
of precision). The confidence level is therefore seen to be complementary to risk.
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Tolerable misstatement
A monetary amount set by the auditor in respect of which the auditor seeks to obtain an
appropriate level of assurance that the monetary amount set by the auditor is not exceeded by
the actual misstatement in order to address the risk the aggregate of individually immaterial
misstatements may cause the financial statements to be materially misstated and provide a
margin for possible undetected misstatements. Tolerable misstatement is the application of
performance materiality, as defined in NSA 320, to a particular sampling procedure. Tolerable
misstatement may be same amount or an amount lower than performance materiality.
Answer No. 12
Grace Ltd
(i) Matters to be considered before acceptance of engagement

When considering acceptance of the engagement to review Grace Ltd’s prospective financial
information (PFI), SMC Associates must consider whether it is ethically acceptable to perform the
review. The review of the PFI represents a non-assurance service and providing this service in
addition to the audit may create an advocacy threat. An advocacy threat arises when the auditor
is asked to promote or represent their client in some way. In this situation there is a risk of the
auditor being seen to promote the interests of the client with a third party such as a bank. As a
result, there is a danger that the auditor will be biased in favor of the client and therefore cannot
be fully objective. Accepting the assignment may also create a self-interest threat as a result of the
auditor being perceived to have an interest in the outcome of negotiations with a third party and
which may motivate the auditor to behave in order to protect that interest. A self-review threat
may also arise because the negotiations may result in facts and amounts which will form part of
the audited financial statements. As a result, the auditor will be auditing financial statements
which in part at least represent work which they themselves have performed. It follows that there
is a risk that the auditor will not be sufficiently objective in performing the audit and may fail to
identify any shortcomings in their own work.
In the case of Grace Ltd, the advocacy threat appears to be particularly significant as the audit firm
could be seen to be promoting the interests of the audit client to the bank. The auditor should
therefore only accept the engagement if adequate safeguards can be put in place to manage the
threat to independence to an acceptable level. Potential safeguards might include the following:
– The use of separate teams of suitably experienced staff for the audit and the
review of the PFI;
– Independent senior review of the PFI working papers;
– Discussion of the potential ethical issues and threats to auditor independence
with those charged with governance at Grace Ltd.
It should be noted, however, that it would not be possible to manage a significant advocacy threat
through such safeguards and in such a case the appointment should not be accepted.
SMC Associates should also consider the following matters in making their acceptance decision:
– The intended use of the information – for example, whether it will be used solely
for the purpose of the proposed loan finance;
– Whether the information will be for general or limited distribution – the auditor
needs to consider who will receive the report and potentially rely upon it;
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– The nature of the assumptions, that is, whether they are best-estimate or
hypothetical assumptions – in this case it seems likely that they will be best
estimate assumptions as Grace Ltd expects to obtain finance in order to fund its
planned expansion;
– The elements to be included in the information – SMC Associates needs to clarify
the exact content of the PFI which they are being asked to report on, for example,
whether it only includes the forecast statements of profit or loss or whether it also
includes forecast statements of financial position and forecast cash flow
statements; and
– The period covered by the information – shorter term forecasts are likely to be
more reliable than projections over a longer period.
SMC Associates must also consider whether the firm has sufficient staff available with the
appropriate skills and experience to perform the review engagement in line with the client’s
required reporting deadlines.
Overall, the auditor must assess the risks associated with the review engagement and should not
accept an engagement when the assumptions are clearly unrealistic or when the auditor believes
that the prospective financial information will be inappropriate for its intended use.
(ii) Examination procedures to be performed

The examination procedures which should be performed in respect of Grace Ltd’s forecast
statements of profit or loss include the following:
– The arithmetic accuracy of the forecast statements of profit or loss should be
confirmed;
– Confirmation that the accounting policies used in the forecast statements are
consistent with those used in the audited financial statements and that they
comply with NFRS;
– Discuss the key assumptions which have been made by the client in the
preparation of the forecast statements with management assessing their
reasonableness and consistency with the audit firm’s cumulative knowledge and
understanding of the client;
– Review of market research documentation in Grace Ltd’ s existing markets and the
new market and discuss it with management to assess whether the growth
patterns being forecast represent reasonable and realistic expectations;
– Obtain copies of any new customer contracts for existing and new markets to
confirm the reasonableness of the projected growth in revenue;
– Obtain a written representation from management confirming the reasonableness
and completeness of the assumptions they have made in preparing the forecasts;
– The competence and experience of the client staff who have prepared the
forecasts should be assessed; the assessment should include the accuracy of PFI
which has been prepared in previous periods and the reasons for any significant
variances compared to actual outcomes;
– Recalculation of depreciation to ensure the correct inclusion of depreciation on
the new HGVs and warehousing facilities within the forecast statements;
– Obtain and review a breakdown of operating expenses in order to ensure that all
items have been appropriately included, for example: advertising and marketing
costs; additional staff costs for the new drivers including recruitment expenses;
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any trading tariffs relevant to operating in the new market and any foreign
currency and exchange implications;
– Recent utility bills should be inspected and an assessment of the reasonableness
of forecast utility overheads should be performed;
– Obtain and review the supporting documentation for Grace Ltd’s existing loan
agreements with the bank as well as the draft documentation for the new loan;
the forecast finance costs should be recalculated and agreed to the forecast
statements;
– Perform analytical review, followed by discussion with management to seek
corroborating evidence of key trends and ratios including:
– Growth in revenue (26% from 2016 to 2017; 29% from 2017 to 2018)
– Cost of sales as a percentage of revenue (75·5% in 2016; 71·3% in 2017; 69·7% in
2018)
– The declining trend in administrative expenses (decrease of 4·2% from 2016 to
2017; 5·6% from 2017 to 2018)
– The increase in the net profit margin (6·9% in 2016; 15·2% in 2017; 20·4% in 2018)
Answer No. 13
(i) Controls testing on payables
The absence of evidence of authorization by the procurement manager in relation to the three
purchase orders represents an exception to the effective operation of an internal control on which
the auditor intends to place reliance. The review of the supporting documentation and the
conclusion that the items were legitimate business expenditure do not resolve the exception in
the effective operation of the control. There is a risk that other exceptions and further
unauthorized purchases may have occurred which may not have been for legitimate business
purposes. The audit procedures therefore appear to have been inadequate. The audit assistant
should have reported the matter to the manager and partner for them to decide if further work or
risk analysis was required and who it should be reported to, i.e. those charged with governance,
etc. This should have also been picked up during the review of the working papers.
Prior to finalizing the audit, the audit team needs to assess the extent and significance of the
internal control deficiency and should consider increasing the original sample size and extending
the audit testing. If the extended testing identifies further exceptions in the effective operation of
the control, the auditor should review whether a controls based approach is appropriate and
consider whether more substantive testing on the payables component is required. The auditor
should also consider including the matter in the report to management.
In line with NSA 260 Communication with Those Charged with Governance, the auditor is required
to communicate significant findings from the audit to those charged with governance. These
include significant difficulties encountered during the audit and any extensive unexpected effort
required to obtain sufficient appropriate audit evidence. The absence of authorization by the
procurement manager in relation to the three purchase orders requires extended audit testing
and represents a potentially significant deficiency in the operation of internal controls. It therefore
represents a potentially significant audit finding which should be communicated to those charged
with governance.
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(ii) Petty cash fraud
The personal taxi fares represent a fraudulent transaction by the petty cashier and should be
reviewed in the light of the auditor’s and management’s respective responsibilities in relation to
the prevention and detection of fraud. NSA 240 The Auditor’s Responsibilities Relating to Fraud in
an Audit of Financial Statements states that the primary responsibility for the prevention and
detection of fraud rests with both those charged with governance of the entity and management.
The existence of the fraud may also be further indication of a weak control environment. The
auditor is responsible for obtaining reasonable assurance that the financial statements taken as a
whole are free from material misstatement, whether caused by fraud or error. The amount of Rs
175 is clearly immaterial to the financial statements and therefore does not represent a potential
source of material error caused by fraud. The auditor should review the petty cash records for
evidence of any further irregularities and discuss the matters identified with management.
However, if the auditor concludes that the matter increases the overall assessment of fraud and
control risk, management should be informed.
In spite of the immateriality of the amounts involved, however, the relationship of the audit
assistant to the petty cashier represents a familiarity threat. The failure of the audit assistant to
highlight the matter prior to the discussion with the engagement quality control reviewer may
indicate a lack of professional integrity on the part of the audit assistant. In line with NSA 220
Quality Control for an Audit of Financial Statements, the auditor, primarily the audit engagement
partner, has responsibility to monitor ethical requirements throughout the audit process. The
firm’s procedures for assigning staff to audit teams and for reporting personal relationships with
client staff should be reviewed in light of this responsibility.
If the auditor concludes that the petty cash fraud and any additional issues identified on review of
the petty cash records increases the overall assessment of fraud and control risk, the matter
should be reported to management with a recommendation that all petty cash transactions
should be adequately reviewed and authorized.
Answer No. 14
Why the matters require further investigation
Termination of contract
Impact on forecasts
The loss of the customer may lead to a reduction in forecast revenue by as much as 5% per year.
This may also lead to a reduction in costs specifically relevant to servicing the customer. For
example, sales staff specifically allocated to servicing this client.
This is significant because the forecast future cash flows of Zebra Ltd will be critical in determining
the value of the company and the price offered by Cheetah Ltd. It is therefore vital to establish all
of the potential revenue and cost implications of the loss of the customer to ascertain the impact
on the purchase price.
Wider implications of new competitor
The customer referred to has switched to a new, cheaper supplier. This may have wider
implications if the new supplier is directly targeting the customers of Zebra Ltd. It is possible that
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other customers may switch to the new supplier in the future, which would have further
implications on future revenue and cost forecasts.
It may not be possible to determine the potential impact of the new supplier at this point, which
increases the level of uncertainty associated with the potential acquisition. Cheetah Ltd may be
able to use this uncertainty as a tool for bargaining with the owners of Zebra Ltd over the final
agreed price.
Possible impairment of other assets
The loss of a major customer may be an indication of impairment of the assets of Zebra Ltd. This
will be particularly relevant if Zebra Ltd holds specific assets for manufacturing the unique
furniture products made for this client.
As well as production assets, Zebra Ltd may also be holding inventories which are specifically
relevant to the customer which cannot be re-used elsewhere or sold to other customers. If this is
the case, these inventories will almost certainly be impaired.
If not performed at the year end, it may now be appropriate to conduct an impairment review to
ensure that the valuation of the assets, as presented in the financial statements, is still
appropriate in the circumstances.
Gifted land
Possible restriction on sale
The restriction on the sale of the land may mean that Zebra Ltd is prohibited from including the
land as part of the acquisition by Cheetah Ltd. It is likely that following acquisition, Cheetah Ltd
will not be able to initiate a sale of the land to an external company or develop or change its
current use. This may act as a deal breaker if Cheetah Ltd is not able to obtain complete control
over the land surrounding the entrance to the production facilities.
If Zebra Ltd is not permitted to include the land as part of the deal with Cheetah Ltd, then this may
also have an impact on the purchase price as the owners of Zebra Ltd may have attributed some
value to the land in their expectation of the price which they can achieve. If so, it will be important
to ascertain the value attributed to the land by the owners to negotiate the reduction of the
purchase price
Possible limitation on future usage
If the land can be included as part of the acquisition deal, the restrictions may also mean that
Cheetah Ltd is not able to use the land for their intended purpose, such as the future expansion of
production facilities, resulting in the acquisition of Zebra Ltd not being an appropriate strategic fit
for Cheetah Ltd if one of the key aims is future expansion. If this is the case, then this will severely
limit the value of the land to the company.
If the land can be acquired but cannot be developed, it is likely that there will be ongoing
maintenance costs and potentially other requirements and conditions regarding the upkeep of the
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nature reserve set out by the local authority, which need to be understood as part of the review.
The cost of maintenance may result in a net annual cost to the business and this needs to be
quantified as part of the due diligence work.
It will be vital to ascertain what restrictions are in place and whether the directors of Cheetah Ltd
believe they can extract any value from the use of the land.
Based upon this, the directors of Cheetah Ltd may wish to try and negotiate the purchase of Zebra
Ltd without the associated land or they may wish to negotiate a lower price based on the
restricted usage.
Uncertainty regarding valuation
It may be difficult to accurately value the piece of land. The value attributed to it in the financial
statements is zero, so this may not provide an appropriate basis for estimating the resale value. A
land valuation expert may be able to provide an estimation of the current market value of the land
without restriction on its use but they may find it difficult to accurately value how much it is worth
with the local authority restrictions. It may also be difficult to value the land based on the future
cash flows attributable to it if it is not currently in use and its future usage is uncertain.
As a result, the valuation of the land may become a point of significant negotiation between the
directors of Cheetah Ltd and Zebra Ltd. This may also become a deal breaker if the two parties are
unable to reach agreement on the matter.
Procedures
Termination of contract
Analytically review the total historic value of revenue earned from the customer to help
determine an appropriate estimate for the potential loss of future revenues and cash inflows.
Enquire of management whether the loss of the customer will have any other repercussions, such
as the sale of specific assets or the redundancy of staff and the costs associated with this if such
action was required.
Perform an analytical review to identify other major customers by value of revenue contributions
to the business. For all major customers identified, review any supply agreements/contracts in
place to determine when they expire.
If any contracts with major customers are due to expire within the next few years, enquire of
management whether any discussions have taken place with those customers in relation to
renegotiating the terms.
Obtain any correspondence available with the identified major customers to identify whether
there is any indication that they may attempt to either renegotiate the terms of their agreements
or switch them to a new supplier.
Enquire of a relevant manager, such as a production manager or sales manager, whether there is
any specific inventory which has been produced in relation to the customer who is not renewing
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their agreement. If this is the case, obtain a breakdown of the total inventories produced for this
client and discuss with management whether they will be able to sell this inventory at full price
given the notice to terminate the contract.
Inspect the forecasts prepared by management to ensure that the changes to the revenue and
cost streams identified above have been appropriately incorporated.
Gifted land
Review the terms supplied when the land was originally gifted to Zebra Ltd. Identify the specific
restrictions in relation to how the land may be used and who the land may be sold to in the future.
Enquire of a legal adviser whether this will have any impact in relation to the sale of the land to
Cheetah Ltd and their consequent usage of it.
Engage a land valuation expert to provide a valuation of the land. Ask them to consider the
implications of the restrictions imposed upon the land in the valuation.
If Zebra Ltd is not permitted to sell the land, or the restrictions imposed on the usage of the land
are too restrictive, seek legal advice in relation to the potential options, including whether the
land can be gifted back to the local authority prior to the acquisition.
Inspect the forecasts prepared by the management of Zebra Ltd to identify the specific forecast
costs and revenues associated with the usage of the land.
Prepare a revised version of the forecasts which excludes these revenues and costs to identify the
potential implications on the forecasts if the deal is conducted excluding the gifted land.
Answer No. 15
(a)Types of misstatement
NSA 450
Evaluation of misstatements identified during the audit identifies three types of misstatement:
1. Factual misstatements,
2. Judgmental misstatements, and
3. Projected misstatements.
It is important for the auditor to consider the type of misstatement as the nature of an identified
misstatement will have a significant impact on the auditor’s evaluation of the misstatement and
any consequent further actions necessary in response.
When the auditor discovers a factual misstatement, where there can be no doubt over the error,
there is little room for discussion with management. Once a factual misstatement, such as a
miscalculation of depreciation, has been established, management should be asked to correct it.
With regard to judgmental misstatements, the validity of the auditor’s opinion and any
consequent corrections recommended by the auditor are more open to debate. It is therefore
vital that in such matters the auditor compiles sufficient evidence to justify why they believe
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management’s judgment is inappropriate in a specific circumstance. Without this weight of
evidence to support their position, it is unlikely that management will accept the auditor’s view.
Even with sufficient evidence, management may still disagree with the auditor’s opinion and
refuse to accept their judgment in a specific matter. This heightens the risk that the auditor makes
an inappropriate conclusion and, ultimately, that they issue an incorrect auditor’s report. If
material matters of this nature are identified, it is vital that they are considered by a suitably
senior member of the audit team.
Projected misstatements assume that an error identified in a sample may be repeated throughout
the whole population. The smaller the size of the population originally tested, the lower the
validity of this assumption. Clearly the auditor should not recommend the correction of a
projected misstatement. These should be used by the audit team to determine the potential for a
material misstatement in the wider population being tested and this should guide their decisions
as to whether they need to extend their testing.
(b) (1) Depreciation charge
Matters
The error identified in the sample represents less than 0·001% of total assets and less than 0·02%
of profits. In isolation the error is therefore immaterial.
The error is, however, limited to the sample audited, which represents only 3·6% of total vehicles.
If the error is extrapolated to the whole population, it could potentially lead to a total error of Rs
9·7million (0·35m/4·5m x 125m). This represents 0·03% of total assets and 0·4% of profits; and it
would seem that the potential error is therefore also not material to the financial statements. The
auditor should ensure that they understand how the error has occurred and if the error is isolated,
for example, to a certain category of asset, as there is scope for the error to be greater depending
on how the miscalculation has occurred.
Regardless of the immateriality of the projected misstatement, there is still a factual, known error
in the financial statements. Management should be asked to correct the error in relation to the
depreciation of newly acquired assets.
Management should be requested to make the corrected non-current asset register available to
the audit team so that they are able to audit the revised register to determine its accuracy.
Furthermore, the auditor should seek evidence that, as well as correcting the error in the financial
statements, the relevant system has been corrected to ensure that all new non-current asset
purchases are correctly depreciated in the future so that it does not affect subsequent periods.
Opinion
If management refuses to amend the valuation of motor vehicles, then assets and depreciation
will both be misstated by an immaterial amount.
As long as the auditor is satisfied that the source of the error has been corrected and this is not an
ongoing issue which will affect subsequent periods, the auditor would issue a standard,
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unmodified audit opinion, stating that the financial statements are fairly presented in all material
respects.
(2)Provision
A provision for 7% of one month’s sales would total Rs 328 million (Rs 56,360m/12 x 7%).
Reducing it to 4% would create a provision of Rs 188 million (Rs 56,360m/12 x 4%). As a result of
the change in calculation, the amount of the provision would be reduced by Rs 140 million.
As well as reducing the provision recognized on the statement of financial position, the release of
the provision would also increase the profit reported by Rs 140 million. At 5·5% of profit and
0·37% of total assets, the adjustment is material to the statement of profit or loss but not to the
statement of financial position.
This is clearly a matter of judgment. The change must, however, be reasonable and supported by
evidence that it is more appropriate to the circumstances of the business. The audit team has
found no evidence to support the change made by management.
The risk associated with this is heightened because the release of provisions is a known earnings
management technique and Basking Ltd has suffered a reduction in profits this year. The auditor
must apply professional scepticism in these circumstances and be aware that management may
be using this as a device to restore profits to help achieve their annual targets.
In these circumstances, it would be appropriate to ask the management team of Basking Ltd for
some form of evidence that the change to their system will lead to a lower rate of refunds. In the
absence of any evidence the auditor should explain that the change is purely speculative and, as it
appears to be unjustified at the present time, that Basking Ltd should revert back to the original
provision until there is evidence of improved effectiveness.
Opinion
If management refuses to amend the provision, it is likely that the auditor will conclude that the
financial statements are materially misstated. In isolation it is unlikely that the auditor will
conclude that this is a pervasive matter as it has limited impact on the financial statements as a
whole.
In these circumstances the auditor should issue a qualified opinion, stating that ‘except for’ the
matters identified the financial statements are fairly presented.
Answer No. 16
Osier Ltd
Cost of inventory
Matters
Materiality
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Inventory costs represent 1·1% of total assets and 19·6% of profit. Inventory is therefore material
to both the statement of financial position and the statement of profit or loss.
Risk of material misstatement

The calculation of the cost of inventory is complex. This complexity increases the risk of error in
the calculation, which increases the risk of misstatement.
The calculation is also subject to a number of estimates; the average production time per unit, the
forecast annual wage cost, the scheduled hours of production and the forecast units of production
are all estimates. These estimates increase the risk of both error and manipulation of the
calculation to suit management’s bias.
Given both the complexity and subjectivity involved in the calculation, there is a significant risk
that the inventory cost may be misstated.
Evidence expected to be on file:

– Documentation of the system for obtaining the data used in the costing exercise and
calculating the final cost. This should identify the key controls which operate in this
system and there should be evidence on file that these controls have been
appropriately tested.
– A copy of the summary of inventory purchase costs. A sample of the purchase costs,
including the additional costs of transport and handling, should have been confirmed
through inspection of original purchase invoices, copies of which should also be on file
– Documentation of the results of a discussion with the production manager to
ascertain how they estimate the average production time per unit of inventory. Any
calculations referred to by management should have been re-performed by the audit
team to confirm their mathematical accuracy and agreed to corroborating
documentation.
– A copy of the calculation of the forecast annual wage cost. The initial staffing levels
should have been confirmed through inspection of current human resource records
and for a sample of the staff their initial wages should have been confirmed through
inspection of payroll records.
– Forecast wage increments should have been agreed to either post year-end
confirmation issued by human resources or minutes of board meetings approving pay
rises.
– Documentation of the results of a discussion with management regarding how the
forecast is made and who is ultimately responsible for reviewing and approving the
forecast.
– A copy of the calculation of forecast units of production. This should have been
analytically reviewed in comparison to the previous year’s production levels. Where
there are significant differences, explanations should have been sought from
management.
– A copy of the calculation of forecast production overheads. This should have been
analytically reviewed by category of over-head in relation to the previous year to
identify any significant variances. Corroborating evidence, such as rental and utilities
agreements, should have been obtained where possible.
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– There should be evidence on all management’s schedules that the figures have been
recalculated by the audit team to confirm the mathematical accuracy of
management’s calculations.
Impairment
Matters
Materiality
The impairment of Rs 9 million represents 0·47% of total assets and 8·41% of profit. While it is not
material to the statement of financial position, it is material to the statement of profit or loss.
Calculation of recoverable amount

The fair value of the retail outlets, the disposal costs and the value in use are all management
estimates. This increases the risk of material misstatement through both error and management
manipulation of the reported figures.
In particular, while the estimate for the fair value appears to have a reasonable basis, the estimate
of value in use appears to be too basic. The assumption that the cash flows attributable to the
whole of the retail division will grow at 1% per annum is too simplistic and appears to lack
commercial justification. It is likely that each retail outlet will be subject to regional variations in
growth and growth rates will also be subject to annual fluctuations based upon economic
variables. There is also no justification as to why 1% growth has been selected to represent ‘poor
performance’; at the very least this should be benchmarked to more wide spread and reliable
growth forecasts, e.g. national forecasts of economic growth.
Allocation of the impairment

The impairment has been allocated against the tangible assets in the cash generating unit. This is
incorrect; as a cash generating unit the impairment should first be allocated against any goodwill
relating to the cash generating unit in accordance with NAS 36 Impairment of Assets. It should
then be allocated against the remaining assets on a pro rata basis bearing in mind that an asset
should not be impaired below the highest of either its fair value less costs of disposal or its value
in use.

– Copies of the offers received to purchase the retail outlets, confirming the amounts
offered. These should have been used to recalculate the average used for the
estimate of fair value.
– Documentation of enquiries with management with regard to how they estimated the
disposal costs and what experience they have had with the sale of similar operations.
– A copy of the forecast cash flows attributable to the retail outlets. This should contain
evidence of analytical review in comparison to the year ended 31 March 2017 to
confirm the accuracy of the base cash flows.
– There should then be evidence of a recalculation of the future cash flows using
management’s estimates of 1% growth to confirm the mathematical accuracy of
management’s calculation.
– There should be evidence of a recalculation of the value in use using a range of growth
rates to assess the sensitivity of management’s calculations to economic variables.
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The differences between these valuations and management’s valuation should have
been reviewed to assess the likelihood of a material under or overvaluation.
– Evidence of an analytical review of performance by retail outlet or geographical area
of operations, referenced to sales and cash flow records where available, to confirm
whether growth rates are consistent across the brand or whether there are variances.
– Documentation of enquiries with management relating to their expectations for
specific retail outlets or areas of operations and whether there are any specific
matters which they are aware of which may affect regional performance, e.g. the
opening of new out-of-town shopping facilities or competitors setting up in the same
location.
– A schedule of any goodwill included in the statement of financial position with
analysis of its various components to assess whether any part is attributable to the
retail outlets as a cash generating unit. This is specifically relevant to any acquired
brands which may be sold through the retail stores or any retail brands acquired by
Osier Ltd.
– A recalculation of the allocation of the impairment by the auditor, first against any
goodwill determined to be attributable to the cash generating unit, then against the
remaining assets pro rata.
– Copies of previous forecasts. Where the retail outlets forecast performance exceeds
the 1% currently predicted by management, there should be evidence of discussion
with management to ascertain the reasons for changing their outlook.
Warranty provision
Matters
Materiality
The year-end provision represents 0·36% of total assets and 6·54% of profit. It is not, therefore,
material to the statement of financial position but it is material to the statement of profit or loss.
Estimates
The estimate of returns is clearly subject to significant subjectivity. This increases the risk of
material misstatement due to both error and manipulation.
The estimate is made by the sales director; while this may be the best person to forecast sales,
they may not be the best person to predict returns. Returns are likely to be influenced more
heavily by product quality, which the production or quality control manager may be better placed
to predict. This implies that the forecast amount is based on simplistic, general estimates using
sales levels rather than consideration of specific product quality issues.
Evidence of prior overstatement

The risk of misstatement is amplified by the evidence of large overstatements in the past. The
reversal of unutilised provisions suggests that previous estimates were too high, which indicates
inaccuracy in the forecasting process. The reversal of unutilized provisions represents 2·9% of
profit so is not individually material to the financial statements.
Possible creative accounting

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Provisions can be used to smooth profits, i.e. a provision made in a year where profits are high
and reversed in future years (i.e. released back to the statement of profit and loss) when earnings
targets are not being met.
The reversal of unutilized provisions in the year has increased Osier Ltd’s profits by Rs 3·1 million.
While this is not a material amount on its own, with other creative accounting devices, such as the
manipulation of estimates of the cost of inventory and impairments, this could lead to a material
overstatement of profits.
This should be considered a particular risk for Osier Ltd as the company’s profits have declined
during the year, despite a 5·5%increase in revenue during the year. The decline in performance
provides an increased incentive for management to adopt manipulative accounting practices to
help achieve targets and smooth profits.

– Copies of the terms of sale offered to customers to confirm the length of the warranty
period.
– Notes of a discussion with the sales director confirming the basis of the calculation for
forecast returns. These should specifically note any general rates of return applied to
the calculation and any specific matters the director has taken into consideration,
such as known faults or poor quality.
– A copy of the calculation of the provision. The components of the calculation should
have been recalculated and analytically reviewed in comparison to previous years and
any fluctuations should have been corroborated to supporting evidence.
– A schedule analysing the total returns received following the year end. A sample of
these returns should have been matched to the original sales invoice, confirming the
date upon which the goods were first sold.
– This schedule should also have been analytically reviewed in comparison to the same
period in previous years to identify whether returns levels were consistent. Any
significant fluctuations should have been corroborated with evidence or management
enquiry.
– A schedule confirming the calculation of the total unutilized provisions reversed
during the year. These should be accompanied with the notes of a meeting with
management identifying the reasons why these provisions were not needed and,
where possible, what time period the original provision related to.
– Notes of a discussion with the production or quality control manager identifying
whether there are any known problems with goods sold during the warranty period,
and what products were affected. If any such matters exist, there should be evidence
that these have been traced through to the provision calculation.
Answer No. 17
REPORT ON FINANCIAL PROJECTION TO ISSUE DEBENTURE
TO SAMPANNA BANK LIMITED
We have examined the accompanying financial projections of M/s Sampanna Bank Limited for a
period of 3 years starting from financial year 2075-76 in accordance with the Nepal Standard on
Assurance Engagement 3400 applicable to the examination of prospective financial information.
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Management is responsible for the preparation and fair presentation of these financial projections
in accordance with Nepal Financial Reporting Standards including the assumptions on which it is
based.
These financial projections have been prepared for the purpose of issuance of Debentures. The
projections have been prepared using a set of assumptions that include hypothetical assumptions
about future events and management’s actions that are not necessarily expected to occur.
Consequently, readers are cautioned that this projection may not be appropriate for purposes
other than that described above,
Based on our examination of the evidence supporting the assumptions namely annual budget and
strategic plan, nothing has come to our attention which causes us to believe that these
assumptions do not provide a reasonable basis for projection. Further, in our opinion the
projection is properly prepared on the basis of the assumptions and is presented in accordance
with Nepal Financial Reporting Standards in consonance with financial reporting requirements of
Nepal Rastra Bank.
Even if the events anticipated under the hypothetical assumptions described above occur, actual
results are likely to be different from the projection since other anticipated events frequently do
not occur as expected and the variation may be material.
Signature
Name of the signatory
Name of the organization
Place:
Date:
Answer No. 18
AML/CFT
AML/CFT policies, procedures and practices formulated and followed
A. AML/CFT (Directive No.19)
i. AML/CFT policies, procedures and practices formulated and followed

Whether the Bank has formulated Know Your Customer & Anti Money Laundering Manual
which meet the requirements in the Directive issued by NRB and Financial Information
Unit (FIU).
Whether it broadly covers roles and responsibilities of each employee, ongoing Customer
Due Diligence (CDD), Transaction Monitoring and Supervision, Risk Management,
Suspicious Transaction Reporting, Threshold Transaction Reporting, Training and
Awareness to staffs, Customer Risk Categorization and Records Retention.
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Whether a compliance officer has been appointed by the bank to ascertain day to day
compliance with AML and KYC procedures of the Bank.
ii. Adequacy of mechanism, procedures and documents for customer due diligence
Whether the Bank has formulated Know Your Customer & Anti Money Laundering Manual
which incorporates measures for customer due diligence.
Whether the customer information are obtained and verified as per the policy before
establishing any business transaction.
Whether different level of due diligence viz. Simplified Customer Due Diligence and
Enhanced Customer Due Diligence are followed depending upon the risk category
assigned to the customers.
Whether mechanism, procedures and documents for knowing the customer is found
adequate having regard to the size and operation of the business of the Bank.
iii. Adequacy of risk based customer classification and monitoring

Whether the Bank follows risk assessment methodology for assessing the AML risk for
new customer and for on-going review of its customers.
Whether the bank classifies customers into High, Medium and Low risk categories and
performs CDD accordingly.
Whether having regard to the size and operation of the business of the Bank, the risk
based classification and monitoring of the customer is adequate.
iv. Mechanism, procedures and documents for customer due diligence

Whether under the CDD procedures customers are classified as High, Medium and Low
based on the risk associated with the Customer type, Country of domicile, Business type,
Product type and other relevant factors.
Whether enhanced Due Diligence is performed for High risk customers and Simplified for
Medium and Low Risk customers.
Whether the mechanism, procedures and documentation for CDD is satisfactory having
regard to the size and operation of the bank.
B. Loan Classification and Loan Loss Provisioning (Directive No. 2)

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i. Comment on the Assets Quality and Classification

Whether there has not been major change in overall quality of assets of the Bank during
the year.
Whether Non-Performing Loan (NPL) of the bank has declined/ increased compared to
previous year.
Whether the NPL has been classified following NRB directives.
ii. Adequacy of Loan Loss Provisions

Whether the Bank has classified the loans and advances on the basis of the overdue
period and made necessary provisions as per the NRB Directive.
Whether there were no other instances; where the bank needs to provide for additional
loan loss provision.
iii. Whether the rescheduling/restructuring comply with the provisions of the directive
Whether provisions of NRB Directive are complied with while rescheduling or
restructuring loans
iv. Loan Loss Provisions in case of restructuring and rescheduling of loans

Whether appropriate provisioning is done for restructured or rescheduled loans
v. Loan Classification and loan loss provision in respect of force loans

Whether appropriate loan classification and loan loss provision in done in respect of force
loans
vi. Loan Classification and loan loss provision in respect of loan against personal/corporate
guarantees
Whether required loan loss provision has been provided for the loan against
personal/corporate guarantee.
vii. Whether the adjustment and write back of loan loss provision comply with the
provisions of the directive
Whether the bank has adjusted and written back loan loss provision as per the provisions
of the NRB directives.
viii. Overall opinion on loan classification & provisioning

Whether loans are classified in accordance with the directive no. 2 about loan
classification and loan loss provisioning, issued by NRB and the amount of provision is
considered adequate.
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Safe Deposit Lockers
– Are the prescribed application forms obtained invariably?

– Are Specimen Signature Cards obtained, signature admitted thereon and kept in serial
order in S.S. card boxes?
– Confirm for any request made by an Individual, two copies of photographs of
applicant have been obtained along with the Application form. One Photograph has
been attached with the application form and another with the signature specimen (SS)
card.
– Check whether the customer has mentioned the mode of operation of the account
whether it will be operated Jointly/Singly or through the Authorized Agent in the
signature specimen card?
– Confirm if the Locker Rent for each Subsequent year is recovered in advance before
the day of completion of a year?
– Whether the minimum amount required to be held for Locker Account has been
obtained invariably as per rules?
– Identify the instances where held amount is less than the requirement & enquire the
reasons thereof?
– Whether the Locker Account Register is maintained up to date?
– Are the operation allowed only after verification of signatures in Licensee’s
Attendance Register with reference to SS Cards?
– Are the operations allowed without the entry in the Licensee’s Attendance register?
– Are the Master Keys of Locker Cabinets kept in cash safe overnight instead of being
taken home by the custodian?
– In case of the death of the locker holder, are the contents of the lockers handed over
to the nominee after the fulfillment of legal formalities?
– Is Procedure for surrender of locker, as mentioned in the Locker Manual, being
followed?
– Check if any of the Locker has been left Unlocked at any point of time during the
audit?
– Whether the repair work to be done on the Locker is done by the workman appointed
by the bank?
– Whether the Overdue Rent Register has been maintained?
– Confirm whether the list of Overdue Lockers (Over six months) have been forwarded
to a senior office on monthly basis?
– Whether proper compliance to the “Manual on Safe Deposit Locker” has been done
for the locker account operations?
Answer No. 19
The auditor was found compromising the provisions of Sec. 34(9) of the Nepal Chartered
Accountants Act, 2053 which requires that members holding Certificate of Practice shall discharge
their duties with due care in the course of their profession and shall draw attention of all
concerned to all material facts which are or have taken place contrary to the prevailing law and do
not comply with generally accepted principles of auditing. Similarly, the auditor was found
compromising the provisions of clause 12 of the ICAN Code of Ethics 2060, which requires that a
Professional Accountant should carry out professional services in accordance with the technical
and professional standards and that Professional accountants have a duty to carry out with care
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and skill the instructions of the client in so far as they are compatible with the requirements of
integrity, objectivity, and independence and that they should confirm with the technical and
professional standards promulgated by the Nepal Accounting Standards Board, Nepal Standards
on Auditing Board, ICAN or other regulatory body, and relevant legislation.
On these grounds the auditor can be held guilty of professional misconduct.
Answer No. 20
Insolvency practitioners
An Insolvency Practitioner (IP) often called as liquidator is someone who is licensed and
authorized to act in relation to an insolvent individual, partnership or company. Most IPs are
accountants, insolvency specialists working in firms of accountants and lawyers. IPs are appointed
to sort out difficult situations; where either an individual or a business is insolvent or is likely to
become insolvent. Initially, their main task is to attempt to rescue the situation.
If it is not possible, the IP aims to:
– realise the assets of the person or company who is insolvent;
– collect monies due to the person or company;
– agree the claims of creditors; and
– make distributions these monies after paying for the costs involved in realization.
Nepalese provision for IP

Individual Person willing to carry out liquidator having fulfilling following criteria shall apply for
license of IP:
– S/he should attain age of thirty five years
– Should be either Chartered Accountants or lawyers
Application to be filled on
Person willing to carry IP shall apply to Office of Company Register (OCR) in prescribed format.
OCR upon scrutiny of the documents, may grant license of IP.
121
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Revision Questions:
ICAN ACT/CIRCULARS/NOTICES/CODE OF ETHICS ISSUED BY ICAN
Question No. 1
Answer the following with reference to ICAN Act, Rules, circulars/notices and code of ethics
issued by ICAN.
a) Mr. Kumar, a practicing chartered accountant was appointed as external auditor by
Sahara Ltd. Mr. Kumar quoted his audit fees as 1% of turnover of the company for that
fiscal year. Comment
b) Mr. Rahish, practicing chartered accountant was appointed as auditor of Sea Zone Ltd.
He mentioned his remuneration as Rs. 3 lakhs in engagement letter whereas the audit
fee of previous year was Rs. 3.5 lakhs. Comment
c) PQR Associates is the new firm in the market. Suggest provisions of the sign board to
be followed by the firm? Further the firm has also obtained affiliation with renowned
auditing firm of India and desires to mention the same in the sign board. Does the firm
need approval of ICAN?
d) ABC and Associates has been appointed as external auditor by XYZ Industries Pvt. Ltd
for Fiscal Year 2075/76. The client has demand loan of limit Rs. 30 crore at Piggy
Bank which is in process of renew. The bank asked company to submit the certified
statement of net working capital of the company. The company requested ABC and
Associates to certify his current assets and current liabilities as the auditor is already at
his place for audit. ABC and associates duly accepted his request. Comment.
OECD PRINCIPLES ON CORPORATE GOVERNANCE

Question No. 2
Describe Disclosure and transparency principle as per OECD Principles on corporate
governance.
ENGAGEMENT PROCEDURE
Question No. 3
a) Ms. Sita has been appointed statutory auditor of Sahara Trading Pvt. Ltd. Her brother in
law Mr. Poudel holds 5% share of the company. She did not know about the
shareholding of his brother in law at the time of acceptance and only got to know during
her audit. Comment on above.
b) Insurance Ltd. for FY 2074/75 in which CA Shiva Rimal was engagement team leader.
Mr. Rimal left the audit firm and started his own Chartered Accountants in practice in the
name of Shiva and associates. Om Insurance Ltd. appointed him as the statutory audit for
© The Institute of Chartered Accountants of Nepal 2

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FY 2076/77 on the basis of previous relationship and Mr. Rimal accepted the audit
engagement. Comment
Question No. 4
Reliable Spinning Mills Pvt. Ltd. is a small sized company engaged in business of production
of threads. The company has production plant in Sunsari and corporate office in Kathmandu.
The company appointed a chartered accountants audit firm as their statutory auditor. The
statutory auditor before commencement of audit wants to enter engagement letter with the
management and shared a format of engagement letter to the management. The management
are not aware of the engagement letter and denies to sign the letter contending that the AGM
has already appointed the auditor as mandated by Company Act and no agreement need to be
signed again. Convince the management regarding the need of agreeing the terms of audit
engagement and form and content of audit engagement letter.
PLANNING AND RISK ASSESSMENT

Question No. 5
What is audit strategy? Narrate the steps involved in formulation of audit strategy.
Question No. 6
Mr. Neupane has been appointed as the auditor of M/S Cool Summer Ltd. for first time.
While planning his audit, he intends to apply the concept of materiality for the financial
statements as a whole. He is confused regarding determination of appropriate materiality
level and wants to know factors that may affect the identification of benchmark for this
purpose. Guide him as per NSA 320.
Question No. 7
The primary responsibility for the prevention and detection of fraud rests with both those
charged with governance of the entity and management. An auditor conducting an audit in
accordance with NSAs is responsible for obtaining reasonable assurance that the financial
statements taken as a whole are free from material misstatement, whether caused by fraud or
error. The auditor shall identify and assess the risks of material misstatement due to fraud at
the financial statement level, and at the assertion level for classes of transactions, account
balances and disclosure. Provide examples of possible audit procedures to address the
assessed risks at assertion level.
AUDIT TEST
Question No. 8
a) Auditor of SUN Ltd. desires to use confirmation request as audit evidence during the
course of audit. Does he need approval from the company for issuing confirmation
request? What factors should be considered by the auditor while designing confirmation
request? State the methods of confirmation?

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b) Mr. Surya Bhatta was appointed as the auditor of BHK Ltd. for the first time. He plans
his audit in the way to satisfy the sufficiency and appropriateness of the current financial
figures only. He thinks that the correctness of opening balances need not be verified as it
has been audited by previous year’s auditor. Is his notion correct? Comment.
Question No. 9
a) Analytical procedures are one of the important financial audit processes. Explain when to
use the substantive analytical procedure in audit with reference to NSA 520. What are the
key factors affecting the precision of analytical procedures.
b) CA Smart, auditor of AXE Limited identified some non-compliance with laws and
regulations applicable to the company that may have a material effect on the financial
statements. He seeks your guidance for auditor’s responsibility in communicating and
reporting identified or suspected non-compliance.
Question No. 10
a) Mr. Shankar is appointed as external auditor of Nirantar Ltd. Nirantar Ltd. has internal
audit department where Mr. Sahas is the head internal auditor. Mr. Shankar thought that
Mr. Sahas has detail knowledge about the entity and has worked with management for
long time, so he asked Mr. Sahas to provide him direct assistance regarding evaluating the
appropriateness of management’s use of the going concern assumption and evaluating
significant accounting estimates used by management. Discuss whether the external
auditor can ask direct assistance from internal auditor as stated above. Give your answer
in reference to auditing standards.
b) As an auditor of group financial statements, state the communication requirements with
the component auditor with reference to applicable standards.
Question No. 11
ABC Carpets Pvt. Ltd. is newly incorporated company engaged in manufacturing of various
carpets and furnishing products. The managing director of the company appointed his brother
in law as in charge of procurement and inventory department, which is responsible of
purchases of raw materials and maintaining the inventory records. The managing director is
confident that the internal control system is strong. According to you comment on the above
system of control.
AUDIT REPORTING
Question No. 12
As an auditor give your advice to incorporate the same in audit report and frame the relevant
audit opinion part in following cases.
a) You are auditor of a Penguine Company for the FY 2075/76. The financial statements are
prepared for a general purpose by management of the entity in accordance with NFRSs.
The terms of the audit engagement reflect the description of management’s responsibility
for the financial statements. Based on the audit evidence obtained, the auditor has

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concluded that a material uncertainty does not exist related to events or conditions that
may cast doubt on the entity’s ability to continue as a going concern. The inventories are
stated in financial statements at Rs. 3.5 crore which are valued in cost. The net realizable
value of the inventories would come Rs. 3.45 crore based the market value and average
selling costs. The management contented that the decrease in price of inventory is
temporary as it always fluctuates up-down and hence cost method of valuation of
inventory is to be followed. If the inventories are valued at net realisable value, cost of
sales would have been increased by Rs. 5 lakh, and income tax, net income and
shareholders’ equity would have been reduced by Rs. 1 lakh, Rs. 4 lakh and Rs. 3.5 lakh,
respectively.
b) You are auditor of a PQR Ltd. for the FY 2075/76. The financial statements are prepared
for a general purpose by management of the entity in accordance with NFRSs. The terms
of the audit engagement reflect the description of management’s responsibility for the
financial statements. You have concluded an unmodified (i.e., “clean”) opinion is
appropriate based on the audit evidence obtained. On Bhadra 01, 2076, there was massive
fire in the entity’s factory and half of the inventories shown in balance sheet date was
completely destroyed and two of the major plants were destructed resulting production
halt for next two months. The company is in process of insurance claim.
Question No. 13
a) Write short note on Key audit matters and circumstances in which a matter determined
to be a key Audit Matters is not communicated in Auditor’s Report.
b) What do you understand by Other Information. What is the responsibility of auditor in

case material inconsistencies are identified in other information obtained subsequent to
the Date of the Auditor’s Report?
c) Differentiate between Reporting to Shareholders Vs. Those charged with governance
AUDIT OF SPECIALIZED ENTERPRISES

Question No. 14
Explain different types of audit other than financial audit which the auditor general can carry
out in government offices as provided in Audit Act, 2075.
Question No. 15
a) You have been appointed as an auditor of National Bank Ltd. which has been dealing
nostro accounts. Enumerate the verification process of Nostro accounts.
b) Mention the provisions of Audit committee in bank and financial institutions.
Question No. 16
As an auditor, mention special points or areas to be covered for the audit of mutual funds
companies.
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ASSURANCE AND RELATED SERVICES

Question No. 17
a) State the circumstances when the practitioner shall not accept the review engagement
with reference to Standard on Review Engagement 2400.
b) Shikhar Hydropower Ltd. is in process of further public issue of shares. For this, it has
prepared the prospectus to provide potential investors with the information about future
expectations of the company. Mr. Bishal, FCA has been appointed by the company as an
expert to examine the projected financial statements and give report thereon. Explain
what should be considered and what evidence should be obtained for reporting on
projected financial statements.
OTHER SERVICES
Question No. 18
a) Write short note on Compliance Audit
b) Explain forensic audit procedures.
c) Differentiate between Financial audit and management audit
FRAUD AND AUDITOR’S LIABILITY

Question No. 19
a) Describe the functions and duties of statutory auditor and offenses and punishment that
can be charged to auditor as per the Companies Act.
b) AB Associates was external auditor of Surya Ltd. for FY 2074/75. During the tax
assessment by tax officer for the same fiscal year, it was brought to light that there has
been fraud of Rs. 10 lakh in procurement of heavy equipment in which procurement
officer and managing director was involved. The tax officer alleged external auditor for
non identification of such report during audit. Is allegation of tax officer correct?
AUDIT OF FAIR VALUES

Question No. 20
Briefly explain the valuation Techniques of measuring fair values.

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Suggested Answers/Hints:
Answer No. 1
a) As per section 34(10) of ICAN Act, 1997, members holding Certificate of Practice shall
not base their remuneration as a percentage on the profit or on any other uncertain results.
Similarly according to code of ethics, contingent fees might create threats to compliance
with the fundamental principles, particularly a self-interest threat to compliance with the
principle of objectivity, in certain circumstances. Though safeguards to address such a
self-interest threat such as having an appropriate reviewer who was not involved in
performing the non-assurance service review the work performed by the professional
accountant and obtaining an advance written agreement with the client on the basis of
remuneration might be followed.
In the given case, the auditor has fixed his remuneration as a percentage on the turnover
of the company for that fiscal year. Thus this is professional misconduct.
b) As per hand book of code of ethics, 2018, the level of fees quoted might impact a
professional accountant’s ability to perform professional services in accordance with
professional standards. A professional accountant might quote whatever fee is considered
appropriate. Quoting a fee, which is lower than another auditor, is not itself unethical.
However, the level of fees quoted creates a self-interest threat to compliance with the
principle of professional competence and due care if the fee quoted is so low that it might
be difficult to perform the engagement in accordance with applicable technical and
professional standards. Factors that are relevant in evaluating the level of such a threat
include:
• Whether the client is aware of the terms of the engagement and, in particular,
the basis on which fees are charged and which professional services the quoted
fee covers.
• Whether the level of the fee is set by an independent third party such as a
regulatory body.
Examples of actions that might be safeguards to address such a self-interest threat
include:
• adjusting the level of fees or the scope of the engagement
• having an appropriate reviewer review the work performed.
Thus, in the given case if the remuneration fixed by the auditor is based on the scope of
audit as mentioned in engagement letter and accordingly the auditor can comply the
principle of professional competence and get audit review from appropriate reviewer, the
quotation of fee is not unethical.
c) A Professional Accountant in Public Practice can put up sign board for his/her office. The
sign board can be of any size as per their own discretion and good taste. Use of glow
signs or lights on large-sized boards as is used by traders or shop-keepers are not allowed.
The sign board should contain name of the office and address but it is not permitted to

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mention types of service provided by the firm and any other information that is in the
nature of advertisement of professional services. The use of logo/monogram of any
kind/form/style/design/color etc. whatsoever on any display material or media e.g. paper
stationery, documents, visiting cards, magnetic devices, internet, signboard by the
Professional Accountant in Public Practice, firm of the Professional Accountant in Public
Practice is not permitted. Use/printing of member/firm name in any other manner
tantamount to logo/monogram is also not permitted. However, the use of a common CA/
RA logo, if prescribed by ICAN, shall be allowed to the members, provided it is used in
the correct manner. As per rule 45 (4) of ICAN Rule, the sign board of the firm shall not
mention as member of ICAN or any other foreign professional body.
As per rule 45(7) of ICAN rule, if Professional Accountants in public practice (firm or
individual) holding valid Certificate of Practice (COP) from the ICAN has carried out
auditing practice through agreement with foreign auditing firm or obtaining approval for
the same, such auditor or firm may use words or sentence disclosing such affiliation only
after obtaining prior approval of council. Professional Accountants in public practice
(firm or individual) holding valid COP from the ICAN shall have to submit authenticated
documentary evidence such as signed contract or agreement with the network firm
together with the stipulated amount of fees for registration with ICAN in form. After the
registration of the network firm, the ICAN approves the local network form to use the
words such as: “affiliate to ……………(name of the international network firm. In no
condition the local network firm shall further add any words excepting “affiliate to
…………….(name of the international network firm).
d) As per NRB Directive No. 2 clause 35 (2), the loanee shall submit current assets and
current liabilities statement certified by chartered accountants while approval of new loan
or renew of existing working capital loan. In this regards, ICAN through its council
decision dated 2075.09.08 has made provision that COP holding chartered accountant
except following can certify the working capital statement:
a) Incumbent external auditor, internal auditor and financial advisor of the loan taking
company
b) Incumbent external auditor and internal auditor of the concerned bank
In given case, ABC and associates is incumbent external auditor of XYZ Industries Pvt.
Ltd. Hence he cannot certify the current assets and current liabilities of the company.
OECD PRINCIPLES ON CORPORATE GOVERNANCE

Answer No. 2
The corporate governance framework should ensure that timely and accurate disclosure is
made on all material matters regarding the corporation, including the financial situation,
performance, ownership, and governance of the company. The Principles support timely
disclosure of all material developments that arise between regular reports. They also support
simultaneous reporting of material or required information to all shareholders in order to
ensure their equitable treatment. In maintaining close relations with investors and market
participants, companies must be careful not to violate this fundamental principle of equitable

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treatment. Disclosure requirements are not expected to place unreasonable administrative or

cost burdens on enterprises. Nor are companies expected to disclose information that may
endanger their competitive position unless disclosure is necessary to fully inform the
investment decision and to avoid misleading the investor. In order to determine what
information should be disclosed at a minimum, many countries apply the concept of
materiality. Material information can be defined as information whose omission or
misstatement could influence the economic decisions taken by users of information. Material
information can also be defined as information that a reasonable investor would consider
important in making an investment or voting decision. A strong disclosure regime that
promotes real transparency is a pivotal feature of market-based monitoring of companies and
is central to shareholders’ ability to exercise their shareholder rights on an informed basis.
Experience shows that disclosure can also be a powerful tool for influencing the behaviour of
companies and for protecting investors. A strong disclosure regime can help to attract capital
and maintain confidence in the capital markets. By contrast, weak disclosure and non-
transparent practices can contribute to unethical behaviour and to a loss of market integrity at
great cost, not just to the company and its shareholders but also to the economy as a whole.
Shareholders and potential investors require access to regular, reliable and comparable
information in sufficient detail for them to assess the stewardship of management, and make
informed decisions about the valuation, ownership and voting of shares. Insufficient or
unclear information may hamper the ability of the markets to function, increase the cost of
capital and result in a poor allocation of resources. Disclosure also helps improve public
understanding of the structure and activities of enterprises, corporate policies and
performance with respect to environmental and ethical standards, and companies’
relationships with the communities in which they operate. The OECD Guidelines for
Multinational Enterprises may, in many jurisdictions be relevant for multinational enterprises.
A. Disclosure should include, but not be limited to, material information on:
1. The financial and operating results of the company.
2. Company objectives and non-financial information.
3. Major share ownership, including beneficial owners, and voting rights.
4. Remuneration of members of the board and key executives.
5. Information about board members, including their qualifications, the selection process,
other company directorships and whether they are regarded as independent by the
board.
6. Related party transactions.
7. Foreseeable risk factors.
8. Issues regarding employees and other stakeholders.
9. Governance structures and policies, including the content of any corporate governance
code or policy and the process by which it is implemented.
B. Information should be prepared and disclosed in accordance with high quality standards
of accounting and financial and non-financial reporting.
C. An annual audit should be conducted by an independent, competent and qualified,
auditor in accordance with high-quality auditing standards in order to provide an
external and objective assurance to the board and shareholders that the financial

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statements fairly represent the financial position and performance of the company in all
material respects.
D. External auditors should be accountable to the shareholders and owe a duty to the
company to exercise due professional care in the conduct of the audit.
E. Channels for disseminating information should provide for equal, timely and cost-
efficient access to relevant information by users.
Answer No. 3
a) As per section 112 of Company Act, 2063, substantial shareholder of the company or a
shareholder holding one percent or more of the paid up capital of the company or his
close relative shall not qualified for appointment as auditor, despite appointment, shall not
continue to hold office.
In given case, Mr. Poudel being brother in law is close relative of of Ms. Sita. Mr. Poudel
holds 5% share of the company which is above 1% of the total shareholding also he is
substantial shareholder of the company. Thus, she is not qualified for the appointment as
auditor and should immediately withdraw from the audit.
b) As per section 111 of Companies Act, 2063, no auditor or his/her partner or ex-partner
or employee or ex-employee shall be appointed as auditor for more than three
consecutive terms to perform the audit of a public company. Provided, however, that this
restriction shall not apply to any partner who ended partnership or any employee who
left the service of such auditor three years before.
In the given case, Mr. Rimal is ex-employee of Bishnu Associates, auditor of Om
Insurance Ltd. for FY 2074/75. Here, three years has not completed since he left the audit
firm. So, Shiva and associates cannot be appointed as the auditor for FY 2075/76. Further,
Mr. Rimal was engagement team leader in the statutory audit for FY 2074/75 and thus
familiarity threat exists and this threat cannot be minimized since the audit engagement
was offered to him on the basis of relationship with management. Hence, he should not
accept the audit engagement.
Answer No. 4
As per NSA 210 “Agreeing the Terms of the Audit Engagement”, the auditor shall agree the
terms of the audit engagement with management or those charged with governance, as
appropriate. It is in the interests of both the entity and the auditor that the auditor sends an
audit engagement letter before the commencement of the audit to help avoid
misunderstandings with respect to the audit. In the agreed terms of the audit engagement shall
be recorded in an audit engagement letter or other suitable form of written agreement and
shall include:
(a) The objective and scope of the audit of the financial statements;
(b) The responsibilities of the auditor;
(c) The responsibilities of management;

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(d) Identification of the applicable financial reporting framework for the preparation of the
financial statements; and
(e) Reference to the expected form and content of any reports to be issued by the auditor and
a statement that there may be circumstances in which a report may differ from its expected
form and content.
In addition to including the matters required as above, an audit engagement letter may make
reference to, for example:
• Elaboration of the scope of the audit, including reference to applicable legislation,
regulations, NSAs, and ethical and other pronouncements of professional bodies to
which the auditor adheres.
• The form of any other communication of results of the audit engagement.
• The fact that because of the inherent limitations of an audit, together with the inherent
limitations of internal control, there is an unavoidable risk that some material
misstatements may not be detected, even though the audit is properly planned and
performed in accordance with NSAs.
• Arrangements regarding the planning and performance of the audit, including the
composition of the audit team.
• The expectation that management will provide written representations
• The agreement of management to make available to the auditor draft financial
statements and any accompanying other information in time to allow the auditor to
complete the audit in accordance with the proposed timetable.
• The agreement of management to inform the auditor of facts that may affect the
financial statements, of which management may become aware during the period
from the date of the auditor’s report to the date the financial statements are issued.
• The basis on which fees are computed and any billing arrangements.
• A request for management to acknowledge receipt of the audit engagement letter and
to agree to the terms of the engagement outlined therein.
When relevant, the following points could also be made in the audit engagement letter:
• Arrangements concerning the involvement of other auditors and experts in some
aspects of the audit.
• Arrangements concerning the involvement of internal auditors and other staff of the
entity.
• Arrangements to be made with the predecessor auditor, if any, in the case of an initial
audit.
• Any restriction of the auditor’s liability when such possibility exists.
• A reference to any further agreements between the auditor and the entity.
• Any obligations to provide audit working papers to other parties.

Answer No. 5
An audit strategy sets the direction, timing, and scope of an audit. Audit strategy is
concerned with designing optimised audit approaches that seeks to achieve the necessary

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audit assurance at lowest cost within the constraints of the information available. The
strategy is then used as a guideline when developing an audit plan to achieve the audit
objectives in most efficient and effective manner. The strategy document usually
includes a statement of the key decisions needed to properly plan the audit. The audit
strategy is based on the following considerations:
• The characteristics of the engagement

• Reporting objectives
• Timing of the audit
• Nature of communications
• Significant factors in directing engagement team efforts
• The results of preliminary engagement activities
• The knowledge gained on other engagements
• The nature, timing, and extent of resources available for the engagement
The audit strategy could be relatively short for the audit of a smaller entity, perhaps in
the form of a brief memo. If there are unexpected changes in conditions or the outcome
of audit procedures, it may be necessary to alter the audit strategy. If there is an
alteration, the reasons for the alteration should be stated in the accompanying
documentation.
Audit strategy generally involves following steps:

i) Obtaining knowledge of business:
In performing audit of financial statements, the auditor should obtain sufficient
knowledge of the business to enable auditor to identify and understand the events,
transactions and practices that, in the auditor’s judgement may have significant effect
on the financial statements or on the examination or audit report. Knowledge of
business is a frame of reference within which the auditor in exercises professional
judgement. Understanding the business and using this information appropriately
assists the auditor in assessing risks and identifying problems, planning and
performing the audit effectively and efficiently. It also ensures that the audit staff
assigned to an audit engagement obtains sufficient knowledge of the business to
enable that they understand the need to be alert for additional information and need to
share that information with the auditor and the other audit staff.
ii) Performing analytical procedures
The analytical procedures at planning stage is attention directing and requires the
extensive use of accounting and business knowledge and experience to assess the
potential for material misstatement in the financial statements as a whole. The
key aspect of this task is to identify the relevant risk indicators and to interpret
them properly.
iii) Evaluating inherent risk
The auditor uses professional judgement to evaluate numerous factors such as
quality of accounting system, unusual pressure on management, etc. Having

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regards to his experience of the entity from previous audit engagements of the
entity, any controls established by management to compensate for a high level of
inherent risk and his knowledge of any significant changes which, might have
taken place since his last assessment.
iv) Evaluating internal control
The auditor’s assessment of the control environment is crucial to the decision on
whether to make an extended assessment of controls. This is because a good
control environment is conductive to the maintenance of a reliable system of
accounting and control procedures. For strategy purposes, the auditor should
obtain a sufficient understanding of the control environment. The auditor needs
an understanding of the accounting system, regardless of whether the audit
strategy will involve an extended assessment of internal accounting controls. This
is done by considering the results of gathering or updating information about the
client and making preliminary judgements about materiality, inherent risk and
control effectiveness. These will include identification of the system of the
auditor proposes to subject to an extended assessment of controls.
Thus the audit strategy is evolved after considering the engagement objectives, the results of
the business review, preliminary judgements as to materiality and identified inherent risks.
Audit strategy also considers main points relating to planning and controlling the audit or
comments on adequacy of the existing arrangements. Thus the overall audit plan involving
determination of timing, manpower, coordination and the directors in which the audit work
has to proceed is dependent upon the audit strategy formulated by the audit firm.
Answer No. 6
NSA 320 ‘Materiality in Planning and Performing an Audit’ deals with the auditor’s
responsibility to apply the concept of materiality in planning and performing an audit of
financial statements. The concept of materiality is applied by the auditor both in planning and
performing the audit, and in evaluating the effect of identified misstatements on the audit and
of uncorrected misstatements, if any, on the financial statements and in forming the opinion
in the auditor’s report. The auditor’s determination of materiality is a matter of professional
judgment, and is affected by the auditor’s perception of the financial information needs of
users of the financial statements. When establishing the overall audit strategy, the auditor
shall determine materiality for the financial statements as a whole. If, in the specific
circumstances of the entity, there is one or more particular classes of transactions, account
balances or disclosures for which misstatements of lesser amounts than materiality for the
financial statements as a whole could reasonably be expected to influence the economic
decisions of users taken on the basis of the financial statements, the auditor shall also
determine the materiality level or levels to be applied to those particular classes of
transactions, account balances or disclosures. In planning the audit, the auditor makes
judgments about the size of misstatements that will be considered material. These judgments
provide a basis for:
(a) Determining the nature, timing and extent of risk assessment procedures;

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(b) Identifying and assessing the risks of material misstatement; and

(c) Determining the nature, timing and extent of further audit procedures.
The materiality determined when planning the audit does not necessarily establish an amount
below which uncorrected misstatements, individually or in the aggregate, will always be
evaluated as immaterial. The circumstances related to some misstatements may cause the
auditor to evaluate them as material even if they are below materiality. Although it is not
practicable to design audit procedures to detect misstatements that could be material solely
because of their nature, the auditor considers not only the size but also the nature of
uncorrected misstatements, and the particular circumstances of their occurrence, when
evaluating their effect on the financial statements.
Determining materiality involves the exercise of professional judgment. A percentage is often
applied to a chosen benchmark as a starting point in determining materiality for the financial
statements as a whole. Factors that may affect the identification of an appropriate benchmark
include the following:
• The elements of the financial statements (for example, assets, liabilities, equity,
revenue, expenses);
• Whether there are items on which the attention of the users of the particular entity’s
financial statements tends to be focused (for example, for the purpose of evaluating
financial performance users may tend to focus on profit, revenue or net assets);
• The nature of the entity, where the entity is in its life cycle, and the industry and
economic environment in which the entity operates;
• The entity’s ownership structure and the way it is financed (for example, if an entity is
financed solely by debt rather than equity, users may put more emphasis on assets,
and claims on them, than on the entity’s earnings); and
Examples of benchmarks that may be appropriate, depending on the circumstances of the

entity, include categories of reported income such as profit before tax, total revenue, gross
profit and total expenses, total equity or net asset value. Profit before tax from continuing
operations is often used for profit-oriented entities. When profit before tax from continuing
operations is volatile, other benchmarks may be more appropriate, such as gross profit or total
revenues.
Answer No. 7
The auditor shall identify and assess the risks of material misstatement due to fraud at the
financial statement level, and at the assertion level for classes of transactions, account
balances and disclosure. The following are specific examples of responses to address the
assessed risks at assertion level:
• Visiting locations or performing certain tests on a surprise or unannounced basis. For
example, observing inventory at locations where auditor attendance has not been
previously announced or counting cash at a particular date on a surprise basis.
• Requesting that inventories be counted at the end of the reporting period or on a date
closer to period end to minimize the risk of manipulation of balances in the period
between the date of completion of the count and the end of the reporting period.

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• Altering the audit approach in the current year. For example, contacting major customers
and suppliers orally in addition to sending written confirmation, sending confirmation
requests to a specific party within an organization, or seeking more or different
information.
• Performing a detailed review of the entity’s quarter-end or year-end adjusting entries and
investigating any that appear unusual as to nature or amount.
• For significant and unusual transactions, particularly those occurring at or near year-end,
investigating the possibility of related parties and the sources of financial resources
supporting the transactions.
• Performing substantive analytical procedures using disaggregated data. For example,
comparing sales and cost of sales by location, line of business or month to expectations
developed by the auditor.
• Conducting interviews of personnel involved in areas where a risk of material
misstatement due to fraud has been identified, to obtain their insights about the risk and
whether, or how, controls address the risk.
• When other independent auditors are auditing the financial statements of one or more
subsidiaries, divisions or branches, discussing with them the extent of work necessary to
be performed to address the assessed risk of material misstatement due to fraud resulting
from transactions and activities among these components.
• If the work of an expert becomes particularly significant with respect to a financial
statement item for which the assessed risk of misstatement due to fraud is high,
performing additional procedures relating to some or all of the expert’s assumptions,
methods or findings to determine that the findings are not unreasonable, or engaging
another expert for that purpose.
• Performing audit procedures to analyze selected opening balance sheet accounts of
previously audited financial statements to assess how certain issues involving accounting
estimates and judgments, for example, an allowance for sales returns, were resolved with
the benefit of hindsight.
• Performing procedures on account or other reconciliations prepared by the entity,
including considering reconciliations performed at interim periods.
• Performing computer-assisted techniques, such as data mining to test for anomalies in a
population.
• Testing the integrity of computer-produced records and transactions.
• Seeking additional audit evidence from sources outside of the entity being audited.
Answer No. 8
a) External confirmation is the process of obtaining and evaluating audit evidence through a
direct communication from a third party in response to a request for information about a
particular item affecting assertions made by management in the financial statements. The
auditor does not specifically need approval of management of company for issuing
confirmation request but the consent of management can increase the response from the
confirming party. However, sometimes management may request the auditor not to seek
external confirmation and that time the auditor should consider whether there are valid
grounds for such a request and obtain evidence to support the validity of management’s

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requests. If the auditor agrees to management’s request not to seek external confirmation
regarding a particular matter, the auditor should apply alternative procedures to obtain
sufficient appropriate evidence regarding that matter. If the auditor does not accept the
validity of management’s request and is prevented from carrying out the confirmations,
there has been a limitation on the scope of the auditor’s work and the auditor should
consider the possible impact on the auditor’s report.
As per NSA 505 “External Confirmation” factors to be considered when designing
confirmation requests are:
(i) the assertions being addressed
(ii) Specific identified risks of material misstatement including fraud risks
(iii) The layout and presentation of confirmation request
(iv) Prior experience on audit or similar engagements
(v) The method of communication (in form of paper or electronic form)
(vi) Management’s interaction authorization or encouragement to the confirming
parties to respond to auditor. Confirming parties may only be willing to respond to
confirmation request containing management’s authorisation.
(vii) The ability of the intended confirming party to confirm or provide the requested
information.
There are two types of confirmation request: positive confirmation request and negative
confirmation request. The auditor may use positive or negative external confirmation
requests or a combination of both. A positive external confirmation request asks the
respondent to reply to the auditor in all cases either by indicating the respondent’s
agreement with the given information, or by asking the respondent to fill in information.
A response to a positive confirmation request is ordinarily expected to provide reliable
audit evidence. There is a risk, however, that a respondent may reply to the confirmation
request without verifying that the information is correct. The auditor is not ordinarily able
to detect whether this has occurred. The auditor may reduce this risk, however, by using
positive confirmation requests that do not state the amount (or other information) on the
confirmation request, but ask the respondent to fill in the amount or furnish other
information. On the other hand, use of this type of “blank” confirmation request may
result in lower response rates because additional effort is required of the respondents.
A negative external confirmation request asks the respondent to reply only in the event of
disagreement with the information provided in the request. However, when no response
has been received to a negative confirmation request, the auditor remains aware that there
will be no explicit evidence that intended third parties have received the confirmation
requests and verified that the information contained therein is correct. Accordingly, the
use of negative confirmation requests ordinarily provides less reliable evidence than the
use of positive confirmation requests, and the auditor considers performing other
substantive procedures to supplement the use of negative confirmations. Negative
confirmation requests may be used to reduce audit risk to an acceptable level when: (a)
the assessed level of inherent and control risk is low; (b) a large number of small balances
is involved; (c) a substantial number of errors is not expected; and (d) the auditor has no
reason to believe that respondents will disregard these requests.

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b) No the auditor is not correct. The auditor shall read the previous year’s financial
statements and the predecessor auditor’s report thereon for information relevant to
opening balances, including disclosures. As per NSA 510 ‘Initial Audit Engagement
Opening Balance’, the auditor shall obtain sufficient appropriate audit evidence about
whether the opening balances contain misstatements that materially affect the current
period’s financial statements by:
(a) Determining whether the prior period’s closing balances have been correctly brought
forward to the current period or, when appropriate, have been restated;
(i) Where the prior year financial statements were audited, reviewing the predecessor
auditor’s working papers to obtain evidence regarding the opening balances;
(iii) Performing specific audit procedures to obtain evidence regarding the opening
balances.
If the auditor obtains audit evidence that the opening balances contain misstatements that
could materially affect the current period’s financial statements, the auditor shall perform
such additional audit procedures as are appropriate in the circumstances to determine the
effect on the current period’s financial statements. If the auditor concludes that such
misstatements exist in the current period’s financial statements, the auditor shall
communicate the misstatements with the appropriate level of management and those
charged with governance.
Answer No. 9
a) Analytical procedures mean evaluations of financial information made by a study of
plausible relationships among both financial and non-financial data. Analytical
procedures also encompass the investigation of identified fluctuations and relationships
that are inconsistent with other relevant information or that differ from expected values
by a significant amount. Analytical procedures are very important audit process during
financial audit. It can be used during planning stage to assess the potential for material
misstatement in the financial statements as whole, used as substantive procedures in
response to assessed risk and can be used to analyse the evidences in arriving at the
overall conclusion as to whether the financial statements as a whole are consistent with
the auditor’s understanding of the entity.
According to NSA 520, the application of analytical procedures is based on the

expectation that relationships among data exist and continue in the absence of known
conditions to the contrary. The presence of these relationships provides audit evidence as
to the completeness, accuracy and occurrence of transactions captured in the information

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produced by the entity’s information system relevant to financial reporting. However, the
suitability of a particular analytical procedure will depend upon the auditor’s assessment
of how effective it will be in detecting a misstatement that, when aggregated with other
misstatements, may cause the financial statements to be materially misstated.
The determination of the suitability of analytical procedures as substantive procedures is

influenced by the nature of the assertion and the auditor’s assessment of the risk of
material misstatement. For example, if controls over sales order processing are weak, the
auditor may place more reliance on tests of details rather than analytical procedures for
assertions related to receivables; or if inventory balances are material, the auditor may
decide not to rely only on analytical procedures when performing audit procedures on the
existence assertion. Analytical procedures as substantive procedures may also be
considered appropriate when tests of details are performed on the same assertion. For
example, when obtaining audit evidence regarding the valuation assertion for accounts
receivable balances, the auditor may apply analytical procedures to an aging of
customers’ accounts in addition to performing tests of details on subsequent cash receipts
to determine the collectability of the receivables.
In deciding to use, and when designing and performing, analytical procedures, either
alone or in combination with tests of details, as substantive procedures in accordance with
NSA 330, the auditor shall:
i. Determine the suitability of using substantive analytical procedures given the
assertions, taking account of the assessed risks of material misstatement and tests of
details, if any, directed towards the same assertion;
ii. Develop an expectation of recorded amounts or ratios;
iii. Evaluate the reliability of data, whether internal or external, from which the auditor’s
expectation of recorded amounts or ratios is developed, taking account of source,
comparability, and nature and relevance of information available, and controls over
preparation;
iv. Evaluate whether the expectation is sufficiently precise to identify a misstatement
that, when aggregated with other misstatements, may cause the financial statements
to be materially misstated; and
v. Determine the amount of any difference of recorded amounts from expected values
that is acceptable without further investigation.
Factors affecting the precision of analytical procedures are:

a) Availability and Reliability of the Data: The more reliable the data is, the more
precise the expectation. The data used to form an expectation in an analytical
procedure may consist of external industry and economic data gathered through
independent research. The reliability of data is influenced by its source and by its
nature and is dependent on the circumstances under which it is obtained Internal data
produced from systems and records that are covered by the audit, or that are not
subject to manipulation by persons in a position to influence accounting activities,
are generally considered more reliable. Accordingly, the following are relevant when

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determining whether data is reliable for purposes of designing analytical procedures

as substantive procedures:
(a) Source of the information available. For example, information may be more
reliable when it is obtained from independent sources outside the entity;
(b) Comparability of the information available. For example, broad industry data may
need to be supplemented to be comparable to that of an entity that produces and sells
specialized products;
(c) Nature and relevance of the information available. For example, whether budgets
have been established as results to be expected rather than as goals to be achieved;
and
(d) Controls over the preparation of the information that are designed to ensure its
completeness, accuracy and validity. For example, controls over the preparation,
review and maintenance of budgets.
b) Disaggregation: The degree to which information can be disaggregated affect the
precision of analytical procedures. .The more detailed the level at which analytical
procedures are performed, the greater the potential precision of the procedures.
Analytical procedures performed at a high level may mask significant, but offsetting,
differences that are more likely to come to the auditor’s attention when procedures
are performed on disaggregated data. For example, analytical procedures may be
more effective when applied to financial information on individual sections of an
operation or to financial statements of components of a diversified entity, than when
applied to the financial statements of the entity as a whole.
c) Predictability: There is a direct correlation between the predictability of the data
and the quality of the expectation derived from the data. Generally, the more precise
an expectation is for an analytical procedure, the greater will be the potential
reliability of that procedure. The use of non-financial data (eg number of employees,
occupancy rates, units produced) in developing an expectation may increase the
auditor’s ability to predict account relationships. However, the information is subject
to data reliability considerations mentioned above.
d) Type of analytical procedures: There are several types of analytical procedures
commonly used as substantive procedures and will influence the precision of the
expectation. The auditor chooses among these procedures based on his objectives for
the procedures (ie purpose of the test, desired level of assurance). 1. Trend analysis –
the analysis of changes in an account over time. 2. Ratio analysis – the comparison,
across time or to a benchmark, of relationships between financial statement accounts
and between an account and non-financial data. 3. Reasonableness testing – the
analysis of accounts, or changes in accounts between accounting periods, that
involves the development of a model to form an expectation based on financial data,
non - financial data, or both.
b) NSA 250 ‘Consideration of Laws And Regulations in An Audit of Financial Statements’

guides auditor regarding consideration of compliance with laws and regulations, audit
procedures when non- compliance is identified or suspected and communicating and
reporting identified or suspected non-compliance. Accordingly, if the auditor becomes

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aware of information concerning an instance of non-compliance or suspected non-

compliance with laws and regulations, the auditor shall obtain:
(a) An understanding of the nature of the act and the circumstances in which it has
occurred; and
(b) Further information to evaluate the possible effect on the financial statements.
If the auditor suspects there may be non-compliance, the auditor shall discuss the matter,
unless prohibited by law or regulation, with the appropriate level of management and,
where appropriate, those charged with governance. If, in the auditor’s judgment, the non-
compliance is believed to be intentional and material, the auditor shall communicate the
matter with to those charged with governance as soon as practicable. If management or,
as appropriate, those charged with governance do not provide sufficient information that
supports that the entity is in compliance with laws and regulations and, in the auditor’s
judgment, the effect of the suspected non-compliance may be material to the financial
statements, the auditor shall consider the need to obtain legal advice. If the auditor
suspects that management or those charged with governance are involved in
noncompliance, the auditor shall communicate the matter to the next higher level of
authority at the entity, if it exists, such as an audit committee or supervisory board. Where
no higher authority exists, or if the auditor believes that the communication may not be
acted upon or is unsure as to the person to whom to report, the auditor shall consider the
need to obtain legal advice.
If sufficient information about suspected non-compliance cannot be obtained, the auditor

shall evaluate the effect of the lack of sufficient appropriate audit evidence on the
auditor’s opinion. If the auditor concludes that the identified or suspected non-compliance
has a material effect on the financial statements, and has not been adequately reflected in
the financial statements, the auditor shall, express a qualified opinion or an adverse
opinion on the financial statements. If the auditor is precluded by management or those
charged with governance from obtaining sufficient appropriate audit evidence to evaluate
whether non-compliance that may be material to the financial statements has, or is likely
to have, occurred, the auditor shall express a qualified opinion or disclaim an opinion on
the financial statements on the basis of a limitation on the scope of the audit.
In addition, the auditor shall determine whether law, regulation or relevant ethical
requirements require the auditor to report to an appropriate authority outside the entity
and establish responsibilities under which reporting to an appropriate authority outside
the entity may be appropriate in the circumstances.
Answer No. 10
a) As per NSA 610 ‘Using the work of internal auditor’, the external auditor may be
prohibited by law or regulation from obtaining direct assistance from internal auditors.
Even if the external auditor is not prohibited to do so, he shall not use internal auditors to
provide direct assistance to perform procedures that involve making significant judgments
in the audit. Since the external auditor has sole responsibility for the audit opinion

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expressed, the external auditor needs to make the significant judgments in the audit
engagement. Significant judgments include the following:
• Assessing the risks of material misstatement;
• Evaluating the sufficiency of tests performed;
• Evaluating the appropriateness of management’s use of the going concern
assumption;
• Evaluating significant accounting estimates; and
• Evaluating the adequacy of disclosures in the financial statements, and other matters
affecting the auditor’s report.
Hence, in reference to above provision of NSA 610, the external auditor Mr. Shankar
cannot ask direct assistance from internal auditor Mr. Sahas regarding evaluating the
appropriateness of management’s use of the going concern assumption and evaluating
significant accounting estimates used by management
b) NSA 600 ‘Special considerations-Audit of Group Financial statements (including the

work of component Auditors’ deals with the communication requirements with the
component auditor. Accordingly, the group engagement team shall communicate its
requirements to the component auditor on a timely basis. This communication shall set
out the work to be performed, the use to be made of that work, and the form and content
of the component auditor’s communication with the group engagement team. It shall also
i. A request that the component auditor, knowing the context in which the group
engagement team will use the work of the component auditor, confirms that the
component auditor will cooperate with the group engagement team.
ii. The ethical requirements that are relevant to the group audit and, in particular, the
independence requirements.
iii. In the case of an audit or review of the financial information of the component,
component materiality (and, if applicable, the materiality level or levels for particular
classes of transactions, account balances or disclosures) and the threshold above
which misstatements cannot be regarded as clearly trivial to the group financial
statements.
iv. Identified significant risks of material misstatement of the group financial statements,
due to fraud or error that are relevant to the work of the component auditor. The group
engagement team shall request the component auditor to communicate on a timely
basis any other identified significant risks of material misstatement of the group
financial statements, due to fraud or error, in the component, and the component
auditor’s responses to such risks.
v. A list of related parties prepared by group management, and any other related parties
of which the group engagement team is aware. The group engagement team shall
request the component auditor to communicate on a timely basis related parties not
previously identified by group management or the group engagement team. The group
engagement team shall determine whether to identify such additional related parties to
other component auditors.

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The group engagement team shall request the component auditor to communicate matters
relevant to the group engagement team’s conclusion with regard to the group audit. Such
communication shall include:
i. Whether the component auditor has complied with ethical requirements that are
relevant to the group audit, including independence and professional competence;
ii. Whether the component auditor has complied with the group engagement team’s
requirements;
iii. Identification of the financial information of the component on which the component
auditor is reporting;
iv. Information on instances of non-compliance with laws or regulations that could give
rise to a material misstatement of the group financial statements;
v. A list of uncorrected misstatements of the financial information of the component (the
list need not include misstatements that are below the threshold for clearly trivial
misstatements communicated by the group engagement team
vi. Indicators of possible management bias;
vii. Description of any identified significant deficiencies in internal control at the
component level;
viii. Other significant matters that the component auditor communicated or expects to
communicate to those charged with governance of the component, including fraud or
suspected fraud involving component management, employees who have significant
roles in internal control at the component level or others where the fraud resulted in a
material misstatement of the financial information of the component;
ix. Any other matters that may be relevant to the group audit, or that the component
auditor wishes to draw to the attention of the group engagement team, including
exceptions noted in the written representations that the component auditor requested
from component management; and
x. The component auditor’s overall findings, conclusions or opinion.
Answer No. 11
Internal check system is important part of internal control system. Internal check system
implies organization of the overall system of book-keeping and arrangement of staff duties in
such a way that no one person can carry through a transaction and record every aspect thereof
with the objective to minimize or avoid the possibility of commission of errors or frauds and
misappropriation or embezzlement of cash and falsification of accounts by any staff and
detect such error and fraud. The system provides existence of checks on day to day
transactions which operate continuously as part of the routine system whereby the work of
each person is either proved independently or is made complimentary to the work of another.
The effectiveness of system depends on clarity of responsibility, division of work,
standardization and appraisal. The general conditions pertaining to internal check system can
be highlighted as below:
i) No single person should have complete control over any important aspect of the
business operation. Every employee’s action should come under the review of
another.

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ii) Staff duties should be rotated from time to time so that the members do not
perform the same function for a considerable length of time.
iii) Every member should be encouraged to go on leave at least once a year.
iv) Persons having physical custody of assets must not be permitted to have access to
the books of accounts.
v) There should exist an accounting control in respect of each class of assets, in
addition, there should be periodical inspection so as to establish their physical
condition.
vi) Mechanical devices should be should be used, where ever practicable to prevent
loss or misapplication of cash.
vii) Budgetary control should be exercised and wide deviations observed should be
reconciled.
viii) For inventory taking, at the close of the year, trading activities should, if possible
suspended and it should be done by staff belonging to several sections of the
organization.
In the given case, the single person is in charge of procurement and inventory department,
which is responsible of purchases of raw materials and maintaining the inventory records.
Hence, internal check system which is one of the basic constituent of internal control system
has been violated here. In detail, the segregation of duties and check and balance where the
transaction processing is allocated to different persons in such a manner that no one person
carry through the completion of transaction from start to finish has not been followed here
because the procurement of raw materials and inventory maintenance is different work.
Single person carrying out the purchase of inventory and making in and out in inventory
records may raise possibility of misappropriation or embezzlement of cash and inventory by
the staff.
Answer No. 12
a) As per NAS 02 inventories shall be measured at the lower of cost and net realisable value.
Here the net realisable value of inventories is lower that the cost, but the inventories are
stated at cost by management. The inventories are misstated and the misstatement is
deemed to be material but not pervasive to the financial statements. Thus the auditor may
express qualified opinion is appropriate. The audit opinion part is given below:
Qualified Opinion
We have audited the financial statements of Penguine Company (the Company), which
comprise the statement of financial position as at Ashad 31, 2076, and the statement of
comprehensive income, statement of changes in equity and statement of cash flows for
the year then ended, and notes to the financial statements, including a summary of
significant accounting policies.
In our opinion, except for the effects of the matter described in the Basis for Qualified
Opinion section of our report, the accompanying financial statements present fairly, in
all material respects, (or give a true and fair view of) the financial position of the

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Company as at Ashad 31, 2076, and (of) its financial performance and its cash flows for
the year then ended in accordance with Nepal Financial Reporting Standards (NFRSs).
Basis for Qualified Opinion

The Company’s inventories are carried in the statement of financial position at Rs. 3.5
crore. Management has not stated the inventories at the lower of cost and net realizable
value but has stated them solely at cost, which constitutes a departure from NFRSs. The
Company’s records indicate that, had management stated the inventories at the lower of
cost and net realizable value, an amount of Rs.5 lakh would have been required to write
the inventories down to their net realizable value. Accordingly, cost of sales would have
been increased by Rs. 5 lakh, and income tax, net income and shareholders’ equity
would have been reduced by Rs. 1 lakh, Rs. 4 lakh and Rs. 3.5 lakh, respectively.
We conducted our audit in accordance with Nepal Standards on Auditing (NSAs). Our
responsibilities under those standards are further described in the Auditor’s
Responsibilities for the Audit of the Financial Statements section of our report. We are
independent of the Company in accordance with the ethical requirements that are
relevant to our audit of the financial statements and have fulfilled our other ethical
responsibilities in accordance with these requirements. We believe that the audit
evidence we have obtained is sufficient and appropriate to provide a basis for our
qualified opinion.
b) The destruction of major production plant by a fire after the reporting period is non-
adjusting events requiring disclosure in financial statements. As an auditor, in my
judgment, the matter is of such importance that it is fundamental to users’ understanding
of the financial statements. The matter does not require significant auditor attention in the
audit of the financial statements in the current period. The destruction of production plant
and inventory by fire on Bhadra 01, 2076 is subsequent event and need disclosure in the
financial statements and also the auditor should inlcude emphasis of matter paragraph in
the audit report. The opinion part is given below:
Opinion
We have audited the financial statements of PQR Ltd. (the Company), which comprise
the statement of financial position as at Ashad 31, 20, and the statement of
In our opinion, the accompanying financial statements present fairly, in all material
respects, (or give a true and fair view of) the financial position of the Company as at
Ashad 31, 20X1, and (of) its financial performance and its cash flows for the year then
ended in accordance with Nepal Financial Reporting Standards (NFRSs).
Basis for Opinion


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independent of the Company in accordance with the ethical requirements that are
relevant to our audit of the financial statements and we have fulfilled our other ethical
responsibilities in accordance with these requirements. We believe that the audit
evidence we have obtained is sufficient and appropriate to provide a basis for our
opinion.
Emphasis of Matter- effects of fire

We draw attention to Note X of the financial statements, which describes the effects of a
fire in the Company’s production facilities. Our opinion is not modified in respect of this
matter.
Answer No. 13
a) As per NSA 701, “Communicating Key Audit Matters in the independent Auditor’s
Report”, those matters that in the auditor’s professional judgment, were of most
significance in the audit of the financial statements of the current period. Key audit
maters are selected from matters communicated with charged with governance.
Circumstances in Which Matter Determined to Be a Key Audit Matter is not communicated

in Auditor’s report:
The auditor shall describe each key audit matter in the auditor’s report unless:
i. Law or regulation precludes public disclosure about the matter; or
ii. In extremely rare circumstances, the auditor determines that the matter should not
be communicated in the auditor’s report because the adverse consequences of
doing so would reasonably be expected to outweigh the public interest benefits of
such communication. This shall not apply if the entity has publicly disclosed
information about the matter.
b) Other information refers to financial and non-financial information (other than the
financial statements and the auditor’s report thereon) which is included, either by law,
regulation or custom, in a document containing audited financial statements and the
auditor’s report thereon. Other information may comprise, for example:
• A report by management or those charged with governance on operations.
• Financial summaries or highlights.
• Employment data.
• Planned capital expenditures.
• Financial ratios.
• Names of officers and directors.
• Selected quarterly data.
As per NSA 720 ‘The auditor’s responsibilities relating to other information in documents
containing audited financial statements’ in case material inconsistencies are identified in
other information obtained subsequent to the Date of the Auditor’s Report, the auditor shall

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determine whether the audited financial statements or the other information needs to be
revised following shall be responsibility of auditor:
If revision of the audited financial statements is necessary and management refuses to make
the revision, the auditor shall modify the opinion in the auditor’s report.
If revision of the other information is necessary and management refuses to make the
revision, the auditor shall communicate this matter to those charged with governance, unless
all of those charged with governance are involved in managing the entity; and
(a) Include in the auditor’s report an Other Matter paragraph describing the material
inconsistency
(b) Withhold the auditor’s report; or
(c) Withdraw from the engagement, where withdrawal is possible under applicable law or
regulation.
c)
Reporting to Shareholders Reporting to those charged with
governance
It is statutory audit report which is It is reporting to those charged with

addressed to the shareholders of company governance according to NSA 260.
as per company act and NSA 700.
Statutory audit report is on true and fair It is reporting on matters to those charged
view and as per prescribed format. with governance like scope of audit, audit
procedures, audit modifications, lapses in
internal control system etc.
Statutory audit reports are in public Reporting to those charged with
domain. governance is an internal document i.e.
private report.
It is presented to annual general meeting. It is presented to board of directors.

Answer No. 14
As per Section 5 of Audit Act 2075 the Auditor General may carry out the audit of others
subjects other than financial audit like Information Technology, performance, gender,
methodology science, environment of the offices, bodies or organizations under its
jurisdiction on the basis of sampling. The methods, procedures, scope, period, examination
and reporting of audit of various subjects as mentioned above shall be as prescribed by
Auditor General.
Section 6 of Audit Act 2075 has made provision of periodic Audit. Accordingly the Auditor
General may conduct periodic audit of the offices, bodies or organizations under its
jurisdiction before the end of fiscal year or after completion of transactions. The methods,

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procedures, scope, period, examination and reporting of periodic audit shall be as prescribed
by Auditor General. The report of periodic audit shall be made public by delivering to
concerned offices.
According to Section 7 of Audit Act 2075, the Auditor General may audit the any grants,
assistance received or provided by Nepal government, State government and Local Level as
per federal laws. The methods, procedures, scope, period, examination and reporting of such
audit shall be as prescribed by Auditor General.
Answer No. 15
a) A nostro account refers to an account that a bank holds in a foreign currency in another
bank. Following procedures shall be followed for the verification of nostro accounts:
• Obtain a list of all Nostro Accounts for the purpose of verification.
• Verify whether the Nostro Accounts are being regularly operated. If not give the list
of Nostro Accounts with balances outstanding, which are not operated regularly, the
date of last transaction, etc.
• Verify whether the balance confirmation from all concerned overseas branches/
correspondents have been obtained on a periodic basis.
• Confirm whether reconciliation of Nostro Accounts with the respective mirror
account is being done on periodic basis. The amount in the Nostro account is stock of
foreign currency in the form of bank accounts with the overseas branches and
correspondents. Unreconciled Nostro Accounts, on an examination, may reveal
unauthorised payments from the foreign currency account, unauthorised withdrawals,
and unauthorised debit to mirror account.
• Evaluate the internal control with regard to inward/outward messages. The
inward/outward messages should be properly authenticated and discrepancies noticed
should be properly dealt with in the books of accounts. In case balance confirmation
certificate have been received but the same have not been reconciled, report, in
respect of each bank, the balances as per books maintained by the branch and the
balance as per the relevant balances confirmation certificate, stating in either case
whether the balance is debit or credit.
b) As provided in section 60 of BAFIA 2073, the Board of Directors of a bank or financial

institution shall form an audit committee under the coordination of non-executive director
and consisting of three members. The chairman of bank or financial institution,
coordinator of sub-committee and executive chief shall not work in an audit committee.
The member of audit committee shall not be involved in accepting deposit, supplying
credit, making investment in securities, taking decision by spending approved budget
including day-to-day transactions. The meeting of audit committee shall be held, except
in the situation where the meeting is called by the Board of Directors, at least once in
every three months. The working procedure regarding the meetings of audit committee
shall be as determined by the same committee.
The functions, duties and powers of audit committee as mentioned in section 61 of the
BAFIA 2073 shall be as follows:-

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i. To monitor and supervise whether or not the account, budget and internal
audit procedure, internal control system of bank or financial institution is
appropriate and if it is appropriate than whether or not it is implemented.
ii. To conduct internal audit of account and books of bank and financial
institution and to confirm whether or not such documents are prepared
accurately as per prevailing laws, regulation and directives of the Rastra Bank.
iii. To examine or caused to be examine the management and functioning of
regular management and work performance of bank or financial institution so
as get assured that the prevailing laws has been fully implemented in bank or
financial institution.
iv. To monitor whether or not the functions and activities carried on by bank or
financial institution is as per this Act or rules formed under this Act, bye-laws,
rules or given directives and submit a report to the Board of Directors on this
matter.
v. To recommend the names of three auditors for appointment of external
auditor.
vi. To suggest on matters as asked by the Board of Directors
Answer No. 16
The special points or areas to be covered by auditor during the audit of mutual funds
companies are as follows:
i. Verify all the securities (shares or debentures) held by the company either in physical
form or dematerialized form. In respect of securities held through depository, obtain
confirmation from the depository regarding shares/securities held on behalf of the
company.
ii. Examine the ceiling on investment in the shares by mutual funds in a single entity or
group of entities where the ceiling of investment has been fixed. For example; the
shares in bank or financial institution. Verify that the investment made is within
prescribed limit.
iii. Verify that the company has not advanced any loans against the security of its own
shares.
iv. Verify that the dividend income wherever declared by an entity has been duly
received and booked and or interest income wherever due has been duly accounted as
per NFRS.
v. Verify the bonus shares, right shares or any other rights or benefits are duly received
and treatment of such in books of accounts.
vi. Check the contract notes received from brokers with reference to prices vis-a vis the
stock market quotations on respective dates.
vii. Examine the board minutes for purchase and sale of investments. Verify the profit or
loss on sale of investment has been duly accounted for as per NAS/NFRS.
viii. Verify the brokerage charges and TDS deducted on the purchase and sale of
investments.

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ix. Check whether the investments have been valued in accordance with NFRS/NAS and
the provision for fall in market value of securities have been made as required.
x. Verify the calculation of net assets value.
xi. Check the dividend distributed to participants of mutual funds and verify the proper
application of tax thereon.

Answer No. 17
a) According to NSRE 2400, unless required by law or regulation, the practitioner shall not
accept a review engagement if:
(a) The practitioner is not satisfied:
(i) That there is a rational purpose for the engagement; or
(ii) That a review engagement would be appropriate in the circumstances;
(b) The practitioner has reason to believe that relevant ethical requirements, including
independence, will not be satisfied;
(c) The practitioner’s preliminary understanding of the engagement circumstances
indicates that information needed to perform the review engagement is likely to be
unavailable or unreliable;
(d) The practitioner has cause to doubt management’s integrity such that it is likely to
affect proper performance of the review; or
(e) Management or those charged with governance impose a limitation on the scope of the
practitioner’s work in the terms of a proposed review engagement such that the
practitioner believes the limitation will result in the practitioner disclaiming a conclusion
on the financial statements.
b) The projected financial statements are form of prospective financial information which
are based on assumptions about events that may occur in the future and possible actions
by an entity. It is highly subjective in nature and its preparation requires the exercise of
considerable judgment. As per NSAE 3400 ‘The Examination of Prospective Financial
Information’, the auditor should obtain a sufficient level of knowledge of the business to
be able to evaluate whether all significant assumptions by considering the internal
controls over the system used to prepare prospective financial information and the
expertise and experience of those persons preparing the prospective financial information,
the nature of the documentation prepared by the entity supporting management’s
assumptions, the extent to which statistical, mathematical and computer-assisted
techniques are used and the methods used to develop and apply assumptions. Further the
auditor requires knowledge of the entity’s historical financial information to assess
whether the prospective financial information has been prepared on a basis consistent
with the historical financial information and to provide a historical yardstick for
considering management’s assumptions. The auditor will need to establish, for example,
whether relevant historical information was audited or reviewed and whether acceptable
accounting principles were used in its preparation. Similarly, the auditor should consider
the period of time covered by the prospective financial information.

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In an engagement to examine prospective financial information, the auditor should obtain

sufficient appropriate evidence as to whether:
o Management’s best-estimate assumptions on which the prospective financial
information is based are not unreasonable and, in the case of hypothetical
assumptions, such assumptions are consistent with the purpose of the information;
o The prospective financial information is properly prepared on the basis of the
assumptions; for example, making clerical checks such as re-computation and
reviewing internal consistency.
o The prospective financial information is properly presented and all material
assumptions are adequately disclosed, including a clear indication as to whether
they are best-estimate assumptions or hypothetical assumptions; and
o The prospective financial information is prepared on a consistent basis with
historical financial statements, using appropriate accounting principles.
The auditor needs to assess the source and reliability of the evidence supporting
management’s best-estimate assumptions. Sufficient appropriate evidence supporting
such assumptions would be obtained from internal and external sources including
consideration of the assumptions in the light of historical information and an evaluation
of whether they are based on plans that are within the entity’s capacity. The auditor would
consider whether, when hypothetical assumptions are used, all significant implications of
such assumptions have been taken into consideration. For example, if sales are assumed
to grow beyond the entity’s current plant capacity, the prospective financial information
will need to include the necessary investment in the additional plant capacity or the costs
of alternative means of meeting the anticipated sales, such as subcontracting production.
The auditor should obtain written representations from management regarding the
intended use of the prospective financial information, the completeness of significant
management assumptions and management’s acceptance of its responsibility for the
prospective financial information.
OTHER SERVICES
Answer No. 18
a) Compliance audit is the independent assessment of whether a given subject matter is in
compliance with the applicable authorities identified as criteria. This audit is carried out
by assessing whether activities, financial transactions and information comply in all
material respects, with the regulatory and other authorities which govern the audited
entity. Compliance audit is concerned with:
i. Regulatory- adherence of the subject matter to the formal criteria emanating from
relevant laws, regulations and agreements applicable to the entity.
ii. Propriety-observance of the general principles governing sound financial
management and the ethical conduct of public officials.
While regularity is emphasized in compliance auditing, propriety is equally pertinent in
the public-sector context, in which there are certain expectations concerning financial
management and the conduct of officials.

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Compliance audit is generally conducted either in relation with the audit of financial
statements, or separately as individual compliance audits, or in combination with
performance audit.
b) A forensic audit is an examination and evaluation of a firm's or individual's financial

records to derive evidence that can be used in a court of law or legal proceeding. Forensic
audits cover a wide range of investigative activities. A forensic audit may be conducted to
prosecute a party for fraud, embezzlement, or other financial crimes or even situations
that do not involve financial fraud, such as disputes related to bankruptcy filings, business
closures, and divorces. Forensic auditing is a specialization within the field of accounting
and requires the expertise of accounting and auditing procedures as well as expert
knowledge about the legal framework of such an audit. Forensic auditing process
involves an initial investigation, information reporting, and a final litigation.
i. Investigation
Forensic audit involves initially planning the investigation to achieve its objectives of
discovering about fraud and then collect evidence when fraud suspicions already
exist. The forensic auditors may interview staff at an organization to gain more
information and attempt to find the individual behind the fraud. Using the gathered
information they begin to form a hypothesis as to what happened and create follow-up
plans to continue to assess the business. Once this step reaches completion, the
forensic accountant determines the next necessary action and relays this information
to the company. The evidence collected should be adequate enough to prove the
identity of the fraudster(s) in court, reveal the details of the fraud scheme, and
document the financial loss suffered and the parties affected by the fraud. A logical
flow of evidence will help the court in understanding the fraud and the evidence
presented.
ii. Reporting
A forensic audit requires a written report about the fraud to be presented to the client
so that they can proceed to file a legal case if they so desire. At a minimum, the report
should include the findings of the investigation, a summary of the evidence collected,
an explanation of how the fraud was perpetrated and suggestions for preventing
similar frauds in the future—such as improving internal controls.
iii. litigation
The final step of a forensic accountant's process involves participation as an expert
witness in the incident's court case. The professional presents their findings as
evidence in court and testifies against the offenders. He or she should simplify any
complex accounting issues and explain the case in a layperson’s language so that
people who have no understanding of legal or accounting terms can understand the
fraud clearly.
c) Differences are:

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Financial audit Management audit

Financial audit is concerned with Management audit is a systematic
expressing opinion whether the financial evaluation of capabilities of the
statements are prepared, in all material company’s management with regard to
respects, in accordance with the effectiveness in achieving the strategic
applicable financial reporting framework. objectives of the company and quality of
decision making.
It is quantitative in nature, the attention It is qualitative in nature, the attention is
more on figures. more on process, performance and
stewardship.
It is statutory requirement. It is voluntary.
It is conducted on annual basis. It is conducted as per specific

requirement.
It is conducted by statutory auditor, It is conducted by an employee or
professional accountant in practice. independent consultant.
FRAUD AND AUDITOR’S LIABILITY

Answer No. 19
a) As per section 115 and section 116 of Companies Act, 2063, have provisions regarding
functions and duties of statutory auditor appointed by the company. Accordingly, the
auditor shall submit his/her report to the company, addressing to the shareholders or the
appointing authority, certifying the Statement of Financial Position, Statement of Profit or
Loss and cash flow statement based on the books of account, records and accounts
audited by him/her.
The audit report shall be prepared in accordance with the prevailing law or in consonance
with the audit standards prescribed by the competent body; and such report shall disclose
the matters to be set out prescribed under the companies act. The audit report shall also
indicate the following matters, inter alia:
(a) Whether such information and explanations have been made available as required for
the completion of audit;
(b) Whether the books of account as required by this Act have been properly maintained
by the company in a manner to reflect the real affairs of its business;
(c) Whether the Statement of Financial Position, Statement of Profit or Loss and cash
flow statements received have been prepared in compliance with the accounting
standards prescribed under the prevailing law and whether such statements are in
agreement with the books of account maintained by the company;
(d) Whether, in the opinion of the auditor based on the explanations and information
made available in the course of auditing, the present balance sheet properly reflects

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the financial situation of the company, and the Statement of Profit or Loss and cash
flow statement for the year ended on the same date properly reflect the profit and
loss, cash flow of the company, respectively;
(e) Whether the board of directors or any representative or any employee has acted
contrary to law or misappropriated any property of the company or caused any loss
or damage to the company or not;
(f) Whether any accounting fraud has been committed in the company
(g) Suggestion, if any.
The audit report, prepared by the auditor shall be signed and dated by the auditor
him/herself.
Section 160 and section 161 of Companies Act, have mentioned provisions relating to
offenses and punishment that can be charged to auditor. Under these provisions, auditor if
commits the following offense shall be punished with a fine from twenty thousand rupees
to fifty thousand rupees or with imprisonment for a term not exceeding two years or with
both punishments:
i. where the auditor of a company states a false matter in his/her report in the course
of carrying out his/her duty or omits necessary comments while making audit, with
mala fide intention or malicious recklessness, such auditor;
ii. An auditor who knowingly carries out auditing of the concerned company even after
that he/she is not qualified to carry out auditing of any company;
Similarly, auditor if commits the following offense shall be punished with a fine not
exceeding fifty thousand rupees:
i. An auditor who does not present a report as specified in the Act;
ii. An company, director, auditor, officer and employee who violate the provision
contained in Chapter-18 Audit Committee or who fail to fulfil the duty and
obligations specified in that Chapter.
b) As per NSA 240, ‘The Auditor’s Responsibilities Relating to Fraud in An Audit Of

Financial Statements’, the primary responsibility for the prevention and detection of fraud
rests with both those charged with governance of the entity and management. It is
important that management, with the oversight of those charged with governance, place a
strong emphasis on fraud prevention, which may reduce opportunities for fraud to take
place, and fraud deterrence, which could persuade individuals not to commit fraud
because of the likelihood of detection and punishment. An auditor conducting an audit in
accordance with NSAs is responsible for obtaining reasonable assurance that the financial
statements taken as a whole are free from material misstatement, whether caused by fraud
or error. Owing to the inherent limitations of an audit, there is an unavoidable risk that
some material misstatements of the financial statements may not be detected, even though
the audit is properly planned and performed in accordance with the NSAs. This is because
fraud may involve sophisticated and carefully organized schemes designed to conceal it,
such as forgery, deliberate failure to record transactions, or intentional misrepresentations

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being made to the auditor. Such attempts at concealment may be even more difficult to
detect when accompanied by collusion. Collusion may cause the auditor to believe that
audit evidence is persuasive when it is, in fact, false. The auditor’s ability to detect a
fraud depends on factors such as the skilfulness of the perpetrator, the frequency and
extent of manipulation, the degree of collusion involved, the relative size of individual
amounts manipulated, and the seniority of those individuals involved. Furthermore, the
risk of the auditor not detecting a material misstatement resulting from management fraud
is greater than for employee fraud, because management is frequently in a position to
directly or indirectly manipulate accounting records, present fraudulent financial
information or override control procedures designed to prevent similar frauds by other
employees. However, when obtaining reasonable assurance, the auditor is responsible for
maintaining professional skepticism throughout the audit, recognizing the possibility that
a material misstatement due to fraud could exist. The auditor shall identify and assess the
risks of material misstatement due to fraud at the financial statement level, and at the
assertion level for classes of transactions, account balances and disclosures. The auditor
shall evaluate whether the information obtained from the risk assessment procedures and
related activities performed indicates that one or more fraud risk factors are present. The
auditor shall determine overall responses to address the assessed risks of material
misstatement due to fraud at the financial statement level.
The subsequent discovery of material misstatement of financial information resulting

from fraud or error existing during the period covered by auditor’s report does not, in
itself, indicate that whether the auditor has adhered to the basic principles of governing an
audit. The question of whether the auditor has adhered to the basic principles of
governing an audit such as performance of audit with professional competence and due
care, details of audit plan, nature, timing and extent of compliance and substantive audit
procedures, documentation of significant matters is determined by the adequacy of the
procedures undertaken in the circumstances and the suitability of the auditor’s report
based on the results of those procedures. The liability of auditor for failure to detect fraud
exists only when such failure is clearly due to not exercising reasonable care and skill.
Here in the given case, if the auditor can prove from his working papers that he has
conducted the audit in accordance with NSAs and has assessed the risks of material
misstatement due to fraud and conducted the extended audit procedures as response to
those addressed risks maintaining professional skepticism in audit, then the auditor cannot
be alleged for non detection of fraud.
Answer No. 20
The objective of a fair value measurement is to estimate the price at which an orderly
transaction to sell the asset or to transfer the liability would take place between market
participants at the measurement date under current market conditions. The NFRS 13 notes
that there are three widely used valuation techniques; the market approach, the cost approach
and the income approach.

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i) The market approach: The market approach uses prices and other relevant
information generated by market transactions involving identical or comparable
(i.e. similar) assets, liabilities or a group of assets and liabilities, such as a
business. For example, valuation techniques consistent with the market approach
often use market multiples derived from a set of comparables. Multiples might be
in ranges with a different multiple for each comparable. The selection of the
appropriate multiple within the range requires judgement, considering qualitative
and quantitative factors specific to the measurement.Valuation techniques
consistent with the market approach include matrix pricing. Matrix pricing is a
mathematical technique used principally to value some types of financial
instruments, such as debt securities, without relying exclusively on quoted prices
for the specific securities, but rather relying on the securities’ relationship to other
benchmark quoted securities.
ii) The cost approach: The cost approach reflects the amount that would be required
currently to replace the service capacity of an asset (often referred to as current
replacement cost). From the perspective of a market participant seller, the price
that would be received for the asset is based on the cost to a market participant
buyer to acquire or construct a substitute asset of comparable utility, adjusted for
obsolescence. That is because a market participant buyer would not pay more for
an asset than the amount for which it could replace the service capacity of that
asset. Obsolescence encompasses physical deterioration, functional
(technological) obsolescence and economic (external) obsolescence and is broader
than depreciation for financial reporting purposes (an allocation of historical cost)
or tax purposes (using specified service lives). In many cases the current
replacement cost method is used to measure the fair value of tangible assets that
are used in combination with other assets or with other assets and liabilities.
iii) The income approach: The income approach converts future amounts (eg cash
flows or income and expenses) to a single current (ie discounted) amount. When
the income approach is used, the fair value measurement reflects current market
expectations about those future amounts. Those valuation techniques include, for
example, the following:
• present value techniques;
• option pricing models, such as the Black-Scholes-Merton formula or a
binomial model (ie a lattice model), that incorporate present value
techniques and reflect both the time value and the intrinsic value of an
option; and
• the multi-period excess earnings method, which is used to measure the fair
value of some intangible assets.

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Revision Questions
GENERAL CONCEPTS-AUDITING
Question No. 1
Answer the following with reference to ICAN Act, Rules, circulars/notices and code of ethics
issued by ICAN.
a) PR and Associates is a sole proprietorship Chartered Accountants firm having its
registered office at Kathmandu. With growing number of clients in eastern part of
Nepal, it is planning to open its branch office in Biratnagar. The branch office will be
led and managed by senior staff who is a semi qualified and four other junior staffs who
are article trainees. Can he open the branch office? Comment.
b) Mr. X, a Chartered Accountant is external auditor of Galaxy Ltd. for FY 2075/76.

There was fire in the production plant of one of its major products on Mangsir 2076.
The fire destroyed almost 80% of the plant and the management has estimated that it
would take six months to recover the plant operation. However, the event was not
disclosed in the financial statements of FY 2075/76 and auditor has not mentioned
anything in audit report of FY 2075/76 issued on Poush 2076. Comment.
c) What are the special considerations to be taken while taking custody of clients’ cash
and bank balances?
d) Write short note on UDIN.
Question No. 2
What do you mean by engagement quality control review? What policies and procedures
shall be established by the firm regarding engagement quality control review?
GENERAL CONCEPTS-GOVERNANCE
Question No. 3
Describe the role of stakeholders in corporate governance as one of the OECD Principles on
corporate governance.
AUDIT PROCESS-ENGAGEMENT PROCEDURE

Question No. 4
Mr. Avinash Lama, Chartered Accountant has been proposed as the statutory auditor by
Moonlight Private Limited for the fiscal year 2075/76. During discussion meeting, the
management declared that they will not provide the minutes of board meetings of the
company since these contain crucial confidential decisions which cannot be known to
outsiders. Advice Mr. Lama whether the audit engagement should be accepted?
AUDIT PROCESS-PLANNING AND RISK ASSESSMENT

Question No. 5

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Mr. Sudhir Thapa, Chartered Accountant has been appointed as statutory auditor of PVC
Limited. He has discussed with his team about audit engagement but has not maintained any
documentation regarding planning of the audit. He believes that audit should be carried in
planned way but documentation regarding planning is not required since they do not produce
any audit evidence. Guide him regarding the documentation of audit planning with reference
to NSA 300.
Question No. 6
Describe analytical procedures performed as risk assessment procedures.
AUDIT PROCESS-AUDIT TEST

Question No. 7
The auditor needs to obtain an understanding of the entity’s related party relationships and
transactions sufficient to be able to conclude whether the financial statements, insofar as they
are affected by those relationships and transactions; achieve fair presentation or are not
misleading. Explain how auditor can obtain such an understanding of the entity’s related
party relationships and transactions.
Question No. 8
The external auditor expresses its opinion on the financial statements for the specific
financial period only. Does the auditor have any responsibilities towards events occurring
after the date of the financial statements and the date of the auditor’s report?
Question No. 9
Write short note on Block Sampling.
Question No. 10
Shyam Udas, a Chartered Accountant is appointed as the external auditor of Sambridhi Ltd.
The company has its own internal audit department to carry out internal audit function. He is
planning to use the work of internal auditor in obtaining audit evidence so that the external
audit can be completed on time. Can he use the work of internal audit function? In which
areas and to what extent the work can be used? Discuss with reference to auditing standards.
Question No. 11
You have appointed the statutory auditor of Global Pvt. Ltd., a manufacturing company for
the fiscal year 2075/76 only on 15th of Shrawan 2076 due to some problem. The inventory
forms 20% of the total assets of the balance sheet. The physical inventory counting has
already been conducted on Ashad end 2076. How will you obtain sufficient appropriate audit
evidence regarding the existence and condition of inventory?
AUDIT PROCESS-AUDIT REPORTING

Question No. 12
Draft the relevant audit opinion part as an external auditor of QRS Ltd. for the FY 2075/76 in
following cases. The financial statements are prepared for a general purpose by management

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of the entity in accordance with NFRSs and the terms of the audit engagement reflect the
description of management’s responsibility for the financial statements
a) The short-term marketable securities are carried in the balance sheet at cost Rs.15 lakh.
Management has not marked these securities to market where the value is Rs.12 lakh.
Also, there is uncertainty relating to a pending exceptional litigation matter.
b) You were unable to obtain sufficient appropriate audit evidence about the entity’s
inventories as you did not observe the counting of physical inventories at the end of the
year due to late appointment. In addition, the introduction of a new computerized
accounts payable system in Mangsir 1, 2075 resulted in numerous errors in accounts
payable and management was still in process of rectifying the system deficiencies and
correcting errors. You were unable to satisfy yourselves by alternative means inventories
of amount Rs.2.5 crores and account payables of total amount Rs.35 lakh.
Question No. 13
a) Communicating key audit matters provides additional information to users of the
financial statements to assist them in understanding those matters that, in the auditor’s
professional judgment, were of most significance in the audit of the financial statements
of the current period. How shall the auditor determine key audit matters?
b) Differentiate between management letter and written representation.
AUDIT PROCESS-AUDIT OF SPECIALIZED ENTERPRISES

Question No. 14
Mr. A, Chartered Accountant as the external auditor of Sambriddhi Bank Ltd. is conducting
risk assessment for the audit of bank. He believes that nowadays the operational risk of the
banks is of major concern and focus. Explain him the factors that contribute significantly to
the operational risk.
Question No. 15
You are appointed as an external auditor of a retirement fund. Mention special areas to be
covered for audit of retirement benefit funds.
Question No. 16
Sahayogi Nepal, an NGO based on Kathmandu had collected huge donations from national
and international donors for flood victims in fiscal year 2075/76. The donations so collected
were distributed to different NGOs operating in Rautahat, Sarlahi, Mahottari, Dhanusha,
Siraha and Saptari for relief operations. You have been appointed by Sahayogi Nepal to audit
its account for FY 2075/76. Draft an audit program for the audit of receipts of donations and
remittance of such donations to different NGOs.

Question No. 17
a) What do you understand by compilation engagement? Why is it required?

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b) Describe the audit tools to conduct management audit.
OTHER SERVICES
Question No. 18
What is forensic audit? Why is forensic audit conducted?
AUDIT ISSUES- AUDIT UNDER COMPUTERISED ENVIRONMENT

Question No. 19
When the computer information systems are significant the auditor should assess whether it
may influence the assessment of inherent and control risks. Explain the risks that may arise
due to computer information system.
AUDIT ISSUES- FRAUD AND AUDITOR’S LIABILITY

Question No. 20
a) The statutory auditor of ABC Ltd. noticed a misstatement resulting from fraud suspected
to be committed by Finance Manager during the audit and the concluded that it is not
possible to continue the audit engagement. How would you deal as the statutory auditor?
b) Discuss the responsibility of auditor regarding prevailing Money Laundering Act.

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Answers/Hints:
Answer No. 1
a) As per Rule 65 of ICAN Rules 2061, the firm willing to open branch office shall give
application to ICAN in prescribed form and giving prescribed fees and can open the
branch office after approval from ICAN. Accordingly, the branch should be managed by
at least one member of ICAN of same level and class.
In the given case, the firm is planning to open the branch office in Biratnagar which will
be managed by a semi qualified staff. The firm has also not obtained approval for opening
branch office from the ICAN.
Thus the firm cannot open the branch office without approval of ICAN and without
management at least one member of ICAN. The firm should give application to the ICAN
in prescribed form mentioning the details of one CA member of ICAN who will manage
the branch and open the branch office only after the approval.
b) According to NAS 10 ‘Events after the reporting period’, the destruction of a major
production plant by a fire after the reporting period is a non-adjusting event after the
reporting period which is material and could influence the economic decisions that users
make on the basis of the financial statements. Accordingly, an entity shall disclose the
nature of such event and estimate of its financial effect or a statement that such an
estimate cannot be made. Further, section 34 of ICAN Act has provision that the members
holding Certificate of Practice shall discharge their duties with due care in the course of
their profession and shall draw attention of all concerned to all material facts which are or
have taken place contrary to the prevailing law and do not comply with generally
accepted principles of auditing and one should have obtained sufficient information prior
to give audit opinion.
Here the financial statements of FY 2075/76 has not disclosed anything about the
destruction of one of the major production plant by fire and the auditor Mr. X has also not
drawn this material fact in his audit report. Hence he has done misconduct by not
discharging his duty with professional due care.
c) The professional accountants while assuming custody of the clients’ monies shall comply
with the fundamental principles and identify, evaluate and address threats provided in of
code of ethics. Holding clients’ monies or assets creates self- interest threats or other
threats to compliance of fundamental principles such as professional behaviour and
objectivity. The professional accountant shall first verify and evaluate the risks associated
as follows:
• Whether local laws and regulations permit to assume cash and bank balances of the
clients’ in the name of Professional accountant?
• Verify the legality of earning of cash and bank balances of the clients and if found
legal and also permitted by local laws and regulations, regulatory authorities and

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bank and financial institution then proceed to assume the custody; if not decline the
engagements.
• If permitted to assume the custody of cash and bank balances, then proceed to
provide safe custody of such assets but shall not mix up with the Professional
accountant or firm’s assets;
• make legal declaration that these assets are owned by the clients and the
professional accountant has only professional services by assuming the safe custody
of clients’ such assets;
• open and operate bank account in the name of client as permitted and directed by
the local regulatory authorities;
• collect client’s monies or income earned on bank deposits such as interest, dividend
on securities and other recoverable and deposit them in time into the clients’ bank
accounts;
• in case of foreign currency if any received then verify the source of income and if
found legal then open a separate foreign currency bank account in the name the
clients and deposit it in time;
• obtain monthly bank statement and reconcile them within seven days of the
succeeding moth on regular basis;
• In case of occurrence of any error the professional accountant shall ensure its
prompt remedy;
• Before making any disbursement out of these cash or bank balances the professional
accounts shall ensure that such disbursements are having prior approval of the
clients;
• In case of disbursement of professional accountant’s fees and expenses if any, the
professional accountant shall ensure that these disbursements are having prior
approval of the client and disbursed time;
• maintain up –to- date appropriate accounts and records to be made available with all
upto-date information to clients on regular basis;
• Account and records maintained shall be preserved for the period as required by the
local laws and regulations and the engagement assignments and also be made
available for inspection if any at their requirement in time.
d) UDIN is abbreviation of Unique Document Identification Number which is the

information procedure based on in order to enhance social trust and belief on accounting
profession and to deter illegal auditing practice. UDIN is 18 digit unique number
generated by UDIN application for every certifications and audits by a practicing
Chartered Accountant/Registered Auditor member of ICAN. It may be reflected in the
related certification/audited financial statement for which UDIN is generated. UDIN
application assigns unique identification number to every legitimate document issued by
practicing Chartered Accountants/Registered Auditors members of ICAN after
certification and every audit report accompanying audited financial statement by a
practicing Chartered Accountant Member/Registered Auditor member of ICAN.

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The objective of UDIN is to provide assurance of authenticity of document certified by

practicing ICAN members to investors, lenders, regulators and other stakeholders by
simply entering UDIN in UDIN application. UDIN application provides the specific
details related to certification/audited financial statement entered by practicing Chartered
Accountant/ Registered Auditor member of ICAN which can be cross verified with
document presented to various parties. The objective of UDIN Application is also to
identify and take legal actions against non-members misrepresenting themselves as
members of ICAN and providing services authorized to be delivered by ICAN members
only as mandated by ICAN Act, 1997. In addition, its purpose is to take legal action
against ICAN members who certify/audit multiple statements without observing due
procedures and standards prescribed by ICAN. Unique document identification numbers
will be generated in every audit/certifications for number of audits/ certifications
performed by an ICAN member to the extent of limit allowed as per directive issued by
the Institute. As such, members are automatically checked before providing
audit/certifications service beyond the prescribed limit.
Answer No. 2
Engagement quality control review is a process designed to provide an objective evaluation,
on or before the date of the report, of the significant judgments the engagement team made
and the conclusions it reached in formulating the report. The engagement quality control
review process is for audits of financial statements of listed entities, and those other
engagements, if any, for which the firm has determined an engagement quality control review
is required. Whether other engagements require engagement quality control review depends
on the nature of the engagement, including the extent to which it involves a matter of public
interest and the identification of unusual circumstances or risks in an engagement or class of
engagements as well as the requirements of it by any law or regulations.
The firm shall establish policies and procedures requiring, for appropriate engagements, an
engagement quality control review. Such policies and procedures shall:
• Require an engagement quality control review for all audits of financial statements of
listed entities;
• Set out criteria against which all other audits and reviews of historical financial
information and other assurance and related services engagements shall be evaluated to
determine whether an engagement quality control review should be performed; and
• Require an engagement quality control review for all engagements, if any, meeting the
criteria established as above.
The firm shall establish policies and procedures setting out the nature, timing and extent of an
engagement quality control review which shall require that the engagement report not be
dated until the completion of the engagement quality control review.
The firm shall establish policies and procedures to require the engagement quality control
review to include:
• Discussion of significant matters with the engagement partner;

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• Review of the financial statements or other subject matter information and the proposed
report;
• Review of selected engagement documentation relating to significant judgments the
engagement team made and the conclusions it reached; and
• Evaluation of the conclusions reached in formulating the report and consideration of
whether the proposed report is appropriate.
For audits of financial statements of listed entities, the firm shall establish policies and
procedures to require the engagement quality control review to also include consideration of
the following:
• The engagement team’s evaluation of the firm’s independence in relation to the specific
engagement;
• Whether appropriate consultation has taken place on matters involving differences of
opinion or other difficult or contentious matters, and the conclusions arising from those
consultations; and
• Whether documentation selected for review reflects the work performed in relation to the
significant judgments and supports the conclusions reached.
GENERAL CONCEPTS-GOVERNANCE
Answer No. 3
A key aspect of corporate governance is concerned with ensuring the flow of external capital
to companies both in the form of equity and credit. Corporate governance is also concerned
with finding ways to encourage the various stakeholders in the firm to undertake
economically optimal levels of investment in firm-specific human and physical capital. The
competitiveness and ultimate success of a corporation is the result of teamwork that embodies
contributions from a range of different resource providers including investors, employees,
creditors, and suppliers. Corporations should recognise that the contributions of stakeholders
constitute a valuable resource for building competitive and profitable companies. It is,
therefore, in the long-term interest of corporations to foster wealth-creating cooperation
among stakeholders. The governance framework should recognise that the interests of the
corporation are served by recognising the interests of stakeholders and their contribution to
the long-term success of the corporation. The corporate governance framework should
recognise the rights of stakeholders established by law or through mutual agreements and
encourage active co-operation between corporations and stakeholders in creating wealth,
jobs, and the sustainability of financially sound enterprises.
A. The rights of stakeholders that are established by law or through mutual agreements are to
be respected.
B. Where stakeholder interests are protected by law, stakeholders should have the opportunity
to obtain effective redress for violation of their rights.
C. Performance-enhancing mechanisms for employee participation should be permitted to
develop.

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D. Where stakeholders participate in the corporate governance process, they should have
access to relevant, sufficient and reliable information on a timely and regular basis.
E. Stakeholders, including individual employees and their representative bodies, should be
able to freely communicate their concerns about illegal or unethical practices to the board
and their rights should not be compromised for doing this.
F. The corporate governance framework should be complemented by an effective, efficient
insolvency framework and by effective enforcement of creditor rights.
AUDIT PROCESS-ENGAGEMENT PROCEDURE
Answer No. 4
The auditor shall obtain the agreement of management that it acknowledges and understands
its responsibility to provide the auditor with:
a. Access to all information of which management is aware that is relevant to the preparation
of the financial statements such as records, documentation and other matters;
b. Additional information that the auditor may request from management for the purpose of
the audit; and
c. Unrestricted access to persons within the entity from whom the auditor determines it
necessary to obtain audit evidence.
If management or those charged with governance impose a limitation on the scope of the
auditor’s work in the terms of a proposed audit engagement such that the auditor believes the
limitation will result in the auditor disclaiming an opinion on the financial statements, the
auditor shall not accept such a limited engagement as an audit engagement, unless required
by law or regulation to do so.
Here in the given case, the management has clearly stated that it will not provide the minute
of board meetings to the auditors. Thus management has imposed limitation on scope by
limiting the access to necessary documents necessary to plan the audit, obtain the audit
evidence and analyse the evidence to draw the conclusion. Hence, if the auditor believes this
limitation will result in the auditor disclaiming an opinion on the financial statements, the
auditor shall not accept such a limited audit engagement.
AUDIT PROCESS-PLANNING AND RISK ASSESSMENT
Answer No. 5
According to NSA 300 ‘Planning an audit of financial statements’, the auditor shall include
in the audit documentation:
(a) The overall audit strategy;
(b) The audit plan; and
(c) Any significant changes made during the audit engagement to the overall audit strategy or
the audit plan, and the reasons for such changes.
The documentation of the overall audit strategy is a record of the key decisions considered
necessary to properly plan the audit and to communicate significant matters to the

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engagement team. For example, the overall audit strategy may be summarized in the form of
a memorandum that contains key decisions regarding the overall scope, timing and conduct
of the audit. Similarly, the documentation of the audit plan is a record of the planned nature,
timing and extent of risk assessment procedures and further audit procedures at the assertion
level in response to the assessed risks. It also serves as a record of the proper planning of the
audit procedures that can be reviewed and approved prior to their performance. The auditor
may use standard audit programs or audit completion checklists, tailored as needed to reflect
the particular engagement circumstances. Further, the record of the significant changes to the
overall audit strategy and the audit plan, and resulting changes to the planned nature, timing
and extent of audit procedures, explains why the significant changes were made, and the
overall strategy and audit plan finally adopted for the audit. It also reflects the appropriate
response to the significant changes occurring during the audit.
Thus, the notion of Mr. Sudhir is not correct. Documentation of audit planning is quite
necessary.
Answer No. 6
Analytical procedures performed as risk assessment procedures may identify aspects of the
entity of which the auditor was unaware and may assist in assessing the risks of material
misstatement in order to provide a basis for designing and implementing responses to the
assessed risks. Analytical procedures performed as risk assessment procedures may include
both financial and non-financial information, for example, the relationship between sales and
square footage of selling space or volume of goods sold. Analytical procedures may help
identify the existence of unusual transactions or events, and amounts, ratios, and trends that
might indicate matters that have audit implications. Unusual or unexpected relationships that
are identified may assist the auditor in identifying risks of material misstatement, especially
risks of material misstatement due to fraud. However, when such analytical procedures use
data aggregated at a high level (which may be the situation with analytical procedures
performed as risk assessment procedures), the results of those analytical procedures only
provide a broad initial indication about whether a material misstatement may exist.
Accordingly, in such cases, consideration of other information that has been gathered when
identifying the risks of material misstatement together with the results of such analytical
procedures may assist the auditor in understanding and evaluating the results of the analytical
procedures.
AUDIT PROCESS-AUDIT TEST
Answer No. 7
It is the objective of the auditor irrespective of whether the applicable financial reporting
framework establishes related party requirements, to obtain an understanding of related party
relationships and transactions sufficient to be able to recognize fraud risk factors, if any,
arising from related party relationships and transactions that are relevant to the identification
and assessment of the risks of material misstatement due to fraud; and to conclude, based on
the audit evidence obtained, whether the financial statements, insofar as they are affected by
those relationships and transactions; achieve fair presentation; or are not misleading. The

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understanding of the entity’s related party relationships and transactions can be obtained by
following ways:
• The engagement team discussion about the susceptibility of the entity’s financial
statements to material misstatement shall include specific consideration of the
susceptibility of the financial statements to material misstatement due to fraud or error
that could result from the entity’s related party relationships and transactions.
• Further, the auditor shall inquire of management regarding:
(a) The identity of the entity’s related parties, including changes from the prior period
such as the entity’s ownership and governance structures; types of investments that
the entity is making and plans to make; and the way the entity is structured and how it
is financed.
(b) The nature of the relationships between the entity and these related parties; and
(c) Whether the entity entered into any transactions with these related parties during the
period and, if so, the type and purpose of the transactions.
• The auditor shall inquire of management and others within the entity, and perform other
risk assessment procedures considered appropriate, to obtain an understanding of the
controls, if any, that management has established to:
(a) Identify, account for, and disclose related party relationships and transactions in
accordance with the applicable financial reporting framework;
(b) Authorize and approve significant transactions and arrangements with related parties;
and
(c) Authorize and approve significant transactions and arrangements outside the normal
course of business.
• The auditor may consider features of the control environment relevant to mitigating the
risks of material misstatement associated with related party relationships and transactions,
such as:
a) Internal ethical codes, appropriately communicated to the entity’s personnel and
enforced, governing the circumstances in which the entity may enter into specific
types of related party transactions.
b) Policies and procedures for open and timely disclosure of the interests that
management and those charged with governance have in related party transactions.
c) The assignment of responsibilities within the entity for identifying, recording,
summarizing, and disclosing related party transactions.
d) Timely disclosure and discussion between management and those charged with
governance of significant related party transactions outside the entity’s normal course
of business, including whether those charged with governance have appropriately
challenged the business rationale of such transactions (for example, by seeking advice
from external professional advisors).
e) Clear guidelines for the approval of related party transactions involving actual or
perceived conflicts of interest, such as approval by a subcommittee of those charged
with governance comprising individuals independent of management.
f) Periodic reviews by internal auditors, where applicable.

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g) Proactive action taken by management to resolve related party disclosure issues, such
as by seeking advice from the auditor or external legal counsel.
h) The existence of whistle-blowing policies and procedures, where applicable.
Answer No. 8
Though the financial statements are for the specific financial period; it may be affected by
certain events that occur after the date of the financial statements. Many financial reporting
frameworks ordinarily identify two types of events: (a) Those that provide evidence of
conditions that existed at the date of the financial statements; and (b) Those that provide
evidence of conditions that arose after the date of the financial statements. The date of the
auditor’s report informs the reader that the auditor has considered the effect of events and
transactions of which the auditor becomes aware and that occurred up to that date. It is the
responsibility of auditor to obtain sufficient appropriate audit evidence about whether events
occurring between the date of the financial statements and the date of the auditor’s report that
require adjustment of, or disclosure in, the financial statements are appropriately reflected in
those financial statements in accordance with the applicable financial reporting framework.
Thus, the auditor shall perform audit procedures designed to obtain sufficient appropriate
audit evidence that all events occurring between the date of the financial statements and the
date of the auditor’s report that require adjustment of, or disclosure in, the financial
statements have been identified. The auditor is not, however, expected to perform additional
audit procedures on matters to which previously applied audit procedures have provided
satisfactory conclusions. The auditor shall take into account the auditor’s risk assessment in
determining the nature and extent of such audit procedures, for example; obtaining an
understanding of any procedures management has established to ensure that subsequent
events are identified, inquiring of management and, where appropriate, those charged with
governance, reading minutes and reading the entity’s latest subsequent interim financial
statements. In addition, the auditor shall request management and, where appropriate, those
charged with governance, to provide a written representation that all events occurring
subsequent to the date of the financial statements and for which the applicable financial
reporting framework requires adjustment or disclosure have been adjusted or disclosed.
Answer No. 9
Block sampling involves selection of a block(s) of contiguous items from within the
population. Block selection cannot ordinarily be used in audit sampling because most
populations are structured such that items in a sequence can be expected to have similar
characteristics to each other, but different characteristics from items elsewhere in the
population. Although in some circumstances it may be an appropriate audit procedure to
examine a block of items, it would rarely be an appropriate sample selection technique when
the auditor intends to draw valid inferences about the entire population based on the sample.
For example take first 100 sales invoices from the sales day book in one month; alternatively
take any four blocks of 25 sales invoices, therefore once the first item in the block is selected,
the rest of the block follows the item to the completion. There is close similarity between this
method and non-statistical sampling method. It is simple and economic. However there is risk
of bias and of establishing a pattern of selection which may be noted by the auditees.

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Answer No. 10
NSA 610 ‘Using the Work of Internal Auditors’ provides guidance on the external auditor’s
responsibilities if using the work of internal audit function in obtaining audit evidence. The
external auditor has sole responsibility for the audit opinion expressed, and that responsibility
is not reduced by the external auditor’s use of the work of the internal audit function. While
the objectives of an entity’s internal audit function and the external auditor differ, the
function may perform audit procedures similar to those performed by the external auditor in
an audit of financial statements. If so, the external auditor may make use of the function for
purposes of the audit in to obtain information that is relevant to the external auditor’s
assessments of the risks of material misstatement due to error or fraud. Unless prohibited, or
restricted to some extent, by law or regulation, the external auditor, after appropriate
evaluation, may decide to use work that has been performed by the internal audit function
during the period in partial substitution for audit evidence to be obtained directly by the
external auditor. Accordingly, the external auditor shall determine whether the work of the
internal audit function can be used for purposes of the audit by evaluating the following:
(a) The extent to which the internal audit function’s organizational status and relevant
policies and procedures support the objectivity of the internal auditors;
(b) The level of competence of the internal audit function; and
(c) Whether the internal audit function applies a systematic and disciplined approach,
including quality control.
The external auditor shall not use the work of the internal audit function if the external
auditor determines that:
a) The function’s organizational status and relevant policies and procedures do not adequately
support the objectivity of internal auditors;
(b) The function lacks sufficient competence; or
(c) The function does not apply a systematic and disciplined approach, including quality
control.
Once the external auditor has determined that the work of the internal audit function can be
used for purposes of the audit, a first consideration is whether the planned nature and scope
of the work of the internal audit function that has been performed, or is planned to be
performed, is relevant to the overall audit strategy and audit plan. As a basis for determining
the areas and the extent to which the work of the internal audit function can be used, the
external auditor shall consider the nature and scope of the work that has been performed, or is
planned to be performed, by the internal audit function and its relevance to the external
auditor’s overall audit strategy and audit plan.
The external auditor shall also communicate how the external auditor has planned to use the
work of the internal audit function communicate to those charged with governance while
communicating an overview of the planned scope and timing of the audit.
Answer No. 11
In the given case, the inventory is material to the financial statements being manufacturing
company and inventory holding 20% of total assets of the company. The auditor has been
appointed only on 15th of Shrawan 2076 such that the auditor could not attend the physical

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inventory counting conducted on Ashad end 2076. In this regards, NSA 501 ‘Specific
considerations for selected items’ has provided specific considerations while obtaining
sufficient appropriate audit evidence regarding the existence and condition of inventor where
inventory is material to the financial statements. Accordingly, if the auditor is unable to
attend physical inventory counting due to unforeseen circumstances, the auditor shall make or
observe some physical counts on an alternative date, and perform audit procedures on
intervening transactions. The auditor shall evaluate the risks of material misstatement related
to inventory and the nature of the internal control related to inventory, whether adequate
procedures are expected to be established and proper instructions issued for physical
inventory counting. The auditor shall evaluate management’s instructions and procedures for
recording and controlling the results of the entity’s physical inventory counting for example
the application of appropriate control activities, the accurate identification of the stage of
completion of work in progress, of slow moving, obsolete or damaged items and of inventory
owned by a third party such as on consignment, control over the movement of inventory
between areas and the shipping and receipt of inventory before and after the cut-off date. The
auditor should perform test counts, for example, by tracing items selected from
management’s count records to the physical inventory and tracing items selected from the
physical inventory to management’s count records, provides audit evidence about the
completeness and the accuracy of those records. In addition to recording the auditor’s test
counts, obtaining copies of management’s completed physical inventory count records assists
the auditor in performing subsequent audit procedures to determine whether the entity’s final
inventory records accurately reflect actual inventory count results. Since physical inventory
counting is conducted at a date other than the date of the financial statements, the auditor
shall, perform audit procedures to obtain audit evidence about whether changes in inventory
between the count date and the date of the financial statements are properly recorded.
The auditor shall also perform alternative audit procedures to obtain sufficient appropriate
audit evidence regarding the existence and condition of inventory. For example, inspection of
documentation of the subsequent sale of specific inventory items acquired or purchased prior
to the physical inventory counting, may provide sufficient appropriate audit evidence about
the existence and condition of inventory.
If it may not be possible to obtain sufficient appropriate audit evidence regarding the
existence and condition of inventory by performing alternative audit procedures, the auditor
shall modify the opinion in the auditor’s report as a result of the scope limitation.
Answer No. 12
a) Here, the investments are misstated and the misstatement is deemed to be material but not
pervasive to the financial statements. The appropriate opinion in this case is qualified
opinion. The opinion part is given below:

The company’s short-term marketable securities are carried in the balance sheet at Rs. 15
lakh. Management has not marked these securities to market but has instead stated them
at cost, which constitutes a departure from Nepal Financial Reporting Standards. The

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company’s records indicate that had management marked the marketable securities to
market, the company would have recognized an unrealized loss of Rs.3 lakh in the
income statement for the year. The carrying amount of the securities in the balance sheet
would have been reduced by the same amount at Ashad 31, 2076, and income tax, net
income and shareholders’ equity would have been reduced by Rs.75 thousand, Rs.2.25
lakh and Rs. XXX respectively.
Qualified Opinion
In our opinion, except for the effects of the matter described in the Basis for Qualified
Opinion paragraph, the financial statements present fairly, in all material respects (or
“give a true and fair view of”) the financial position of QRS Limited as at Ashad 31,
2076, and of its financial performance and its cash flows for the year then ended in
accordance with Nepal Financial Reporting Standards.
Emphasis of Matter
We draw attention to Note X to the financial statements which describes the uncertainty
related to the outcome of the lawsuit filed against the company by QRS Limited. Our
opinion is not qualified in respect of this matter.
b) Here, sufficient audit evidence regarding inventories and accounts payable could not be
obtained. The possible effects of this inability to obtain sufficient appropriate audit
evidence are deemed to be both material and pervasive to the financial statements. The
appropriate opinion in this case is disclaimer opinion. The opinion part is given below:
Disclaimer of Opinion
We do not express an opinion on the accompanying financial statements of QRS Limited
(the Company). Because of the significance of the matters described in the Basis for
Disclaimer of Opinion section of our report, we have not been able to obtain sufficient
appropriate audit evidence to provide a basis for an audit opinion on these financial
statements. We were engaged to audit the financial statements of the Company, which
comprise the statement of financial position as at Ashad 31, 2076, and the statement of
Basis for Disclaimer of Opinion

We were not appointed as auditors of the Company until after Ashad 31, 2076 and thus
did not observe the counting of physical inventories at the end of the year. We were
unable to satisfy ourselves by alternative means concerning the inventory quantities held
at Ashad 31, 2076, which are stated in the statement of financial position at Rs. 2.5
crores. In addition, the introduction of a new computerized accounts payable system in
Mangisr 1, 2075 resulted in numerous errors in accounts receivable. As of the date of our
audit report, management was still in the process of rectifying the system deficiencies and
correcting the errors. We were unable to confirm or verify by alternative means accounts

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payable included in the statement of financial position at a total amount of Rs.35 lakh as
at Ashad 31, 2076. As a result of these matters, we were unable to determine whether any
adjustments might have been found necessary in respect of recorded or unrecorded
inventories and accounts payable, and the elements making up the statement of
comprehensive income, statement of changes in equity and statement of cash flows.
Answer No. 13
a) The auditor shall determine which of the matters communicated with those charged with
governance are the key audit matters. Determining the key audit matters to communicate
in the auditor’s report is a matter of the auditor’s professional judgment. The auditor’s
decision-making process in determining key audit matters is designed to select a smaller
number of matters, from the matters communicated with those charged with governance,
based on the auditor’s judgment about which matters were of most significance in the
audit. The significance of a matter is judged by the auditor in the context in which it is
being considered. Significance can be considered in the context of quantitative and
qualitative factors, such as relative magnitude, the nature and effect on the subject matter
and the expressed interests of intended users or recipients. This involves an objective
analysis of the facts and circumstances, including the nature and extent of communication
with those charged with governance. For example, the auditor may have had more in-
depth and frequent communications with those charged with governance on more difficult
and complex matters. The auditor may develop a preliminary view at the planning stage
about matters that are likely to be the key audit matters in the audit and may communicate
this with those charged with governance when discussing the planned scope and timing of
the audit.
The number of key audit matters to be included in the auditor’s report may be affected by
the size and complexity of the entity, the nature of its business and environment, and the
facts and circumstances of the audit engagement. In general, the greater the number of
key audit matters, the less useful the auditor’s communication of key audit matters may
be. When the auditor has determined a long list of key audit matters, the auditor may need
to reconsider whether each of these matters meets the definition of a key audit matter. The
auditor’s determination of key audit matters is limited to those matters of most
significance in the audit of the financial statements of the current period, even when
comparative financial statements are presented.
In making this determination, the auditor shall take into account areas of significant
auditor attention in performing the audit, including:
i. Areas identified as significant risks or involving significant auditor judgment
including significant transactions with related parties. Areas of significant
management judgment and significant unusual transactions may often be
identified as significant risks.
ii. Areas in which the auditor encountered significant difficulty during the audit,
including with respect to obtaining sufficient appropriate audit evidence for
example, related party transactions, limitations on the group audit.

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iii. Circumstances that required significant modification of the auditor’s planned

approach to the audit, including as a result of the identification of a significant
deficiency in internal control.
In addition, considerations that may be relevant to determining the significance of a
matter communicated with those charged with governance and whether such a matter is a
key audit matter include:
i. The industry in which the entity operates. There may be areas of complexity in
financial reporting that are specific to a particular industry, or accounting policies
unique to that industry.
ii. Recent significant economic, accounting, regulatory or other developments. For
example, significant changes to the economic environment that affected
management’s assumptions or judgments, or the auditor’s approach, may cause the
auditor to determine that a matter is a key audit matter.
iii. Whether the matter involved a number of separate, but related, auditing
considerations. For example, long-term contracts may involve significant auditor
attention with respect to revenue recognition, litigation or other contingencies, and
may have an effect on other accounting estimates.
iv. Whether the auditor determined it was necessary to obtain written representation
from management to support other audit evidence relevant to the matter or one or
more specific assertions in the financial statements relating to the matter. For
example, such written representations may include representations about plans or
intentions that may affect the carrying value or classification of assets and liabilities.
b) Difference between management letter and written representations:

Basis Management letter Written Representations
Meaning It is a letter to management It is a letter or any written form
regarding internal control from the management confirming
deficiencies/weaknesses. its responsibility and its oral
representations.
Issued by Issued by auditor to management or Issued by management or those
those charged with governance. charged with governance to auditor.
Purpose To convey information about To emphasize or impress upon
accounting and management issues management its ultimate
in the entity including responsibility for the financial
weakness/deficiencies in internal statements and for the completeness
control system to management. of the information provided to the
auditor.
Timing Provided at the completion of audit Written representations are dated as
program. near as practicable to, but not after,
the date of the auditor’s report on
Nature It is outcome of auditor’s These are necessary information
observations in the form of report that the auditor requires in

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about the entity and its system, connection with the audit of the
accounting policies and procedures, entity’s financial statements, so are
internal controls, and operating audit evidence or support other
policies. audit evidence relevant to the
financial statements
AUDIT PROCESS-AUDIT OF SPECIALIZED ENTERPRISES
Answer No. 14
Operation risk of banks refers to the risk of direct or indirect loss resulting from inadequate or
failed internal processes, people and systems or from external events. Factors that contribute
significantly to operational risk include the following:
 The need to process high volumes of transactions accurately within a short time. This
need is almost always met through the large-scale use of IT, with the resultant risks of:
- Failure to carry out executed transactions within the required time, causing an
inability to receive or make payments for those transactions;
- Failure to carry out complex transactions properly;
- Wide-scale misstatements arising from a breakdown in internal control;
- Loss of data arising from systems’ failure;
- Corruption of data arising from unauthorized interference with the systems; and
- Exposure to market risks arising from lack of reliable up-to date information.
 The need to use electronic funds transfer or other telecommunications systems to transfer
ownership of large sums of money, with the resultant risk of exposure to loss arising from
payments to incorrect parties through fraud or error.
 The conduct of operations in many locations with a resultant geographic dispersion of

transaction processing and internal controls. As a result:
- There is a risk that the bank’s worldwide exposure by customer and by product may
not be adequately aggregated and monitored; and
- Control breakdowns may occur and remain undetected or uncorrected because of the
physical separation between management and those who handle the transactions.
 The need to monitor and manage significant exposures that can arise over short time-
frames. The process of clearing transactions may cause a significant build-up of
receivables and payables during a day, most of which are settled by the end of the day.
This is ordinarily referred to as intra-day payment risk. These exposures arise from
transactions with customers and counterparties and may include interest rate, currency
and market risks.
 The handling of large volumes of monetary items, including cash, negotiable instruments
and transferable customer balances, with the resultant risk of loss arising from theft and
fraud by employees or other parties.

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 The inherent complexity and volatility of the environment in which banks operate,
resulting in the risk of inappropriate risk management strategies or accounting treatments
in relation to such matters as the development of new products and services.
 Operating restrictions may be imposed as a result of the failure to adhere to laws and
regulations. Overseas operations are subject to the laws and regulations of the countries in
which they are based as well as those of the country in which the parent entity has its
headquarters. This may result in the need to adhere to differing requirements and a risk
that operating procedures that comply with regulations in some jurisdictions do not meet
the requirements of others.
Answer No. 15
As an external auditor of a retirement fund, following are the key areas to be covered during
the audit of retirement benefit funds:
i. Legal framework
Examine the legal framework such as the approval of retirement from Inland Revenue
Department, byelaws of the fund and other relevant legal compliance.
ii. Contribution
Test the contributions from the employee and employer to determine whether the amounts
received by or due to the plan are properly determined and recorded and disclosed in the
financial statements, and whether any appropriate allowance have been made for
uncollectable amounts.
iii. Investments
Ensure whether the funds are invested as per the established investment policy of the
retirement fund. Determine whether the investments are properly recorded, owned by the
fund, properly valued at fair value as of the financial statement date and properly
presented in the financial statements and appropriate related discourse have been made.
iv. Investment income
Test whether the income from the fund’s investments has been properly recorded. Also
test the allocation of investment income to individual participant accounts and evaluates
whether investment income are properly presented in the financial statements and the
appropriate related disclosures are made.
v. Benefit payments
Benefits are tested to determine whether the payments are in accordance with fund
provisions and related documents, whether payments are made to or on behalf of the
persons entitled to them and only to such persons, and whether transactions are properly
recorded in the proper account, amount and period. Also examine the application of
applicable tax laws on the benefit payments.
vi. Liabilities and plan obligations
Perform tests to determine whether all fund liabilities are reported in the financial
statements. In a defined benefit plan, the auditor will test plan obligations to determine
that they are properly estimated and reported in the financial statements. Testing plan
obligations typically will include using the work of an actuary. Thus, the actuarial report
should be examined and tested whether the work of actuary can be relied.
vii. Loans to participants

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Loans to participants and the related interest are tested to determine whether the amounts
due the fund have been properly identified, valued, recorded and disclosed in the financial
statements.
viii. Administrative expenses
Expenses may be tested to determine if they are in accordance with agreements, are
properly classified and are recorded in appropriate amounts in the proper period.
ix. Participant data
The auditor applies procedures to relevant participant data, such as demographic data
(e.g., sex, marital status, birth date and period of service); payroll data relevant to
determining contributions and benefit payments (e.g., wage rate, hours worked, earnings
and contributions to the plan); participant elections (e.g., investment elections and elected
deferral rates); and benefit data (e.g., benefit levels and options selected) to determine
whether all covered employees have been properly included and whether accurate
participant data were supplied to fund management and the actuary, if applicable. This
work often is done in conjunction with other audit areas such as contributions or benefits
testing. The auditor also tests whether investment income has been properly allocated to
individual participant accounts. In addition, the auditor should examine whether the KYM
(Know Your Member) has been updated of all participants and the AMLCFT Directive
issued for retirement benefit fund has been complied with.
Answer No. 16
Audit program for receipt of donations is given below:
• Internal control system: Existence of internal control system particularly with
reference to division of responsibilities in respect of authorised collection of
donations, custody of receipt books and safe custody of money.
• Custody of receipt books: Existence of system regarding issue of receipt books,
whether unused receipt books are returned and the same are verified physically
including checking of number of receipt books and sequence of numbering therein.
• Receipt of cheques: Receipt book should have carbon copy for duplicate receipt and
signed by a responsible official. All details relating to date of cheque, bank’s name,
date, amount, etc, should be clearly stated.
• Bank reconciliation: Reconciliation of bank statements with reference to all cash
deposits not only with reference to date and amount but also with reference to receipt
book.
• Cash receipts; Register of cash donations to be vouched more extensively. If
addresses are available to donors who had given cash, the same may be cross-checked
by asking entity to post thank you letters mentioning amount and receipt number.
• Foreign contributions: Check the compliance with applicable laws and regulations in
addition to bank receipts confirmation.
Audit program for remittance of donations to different NGOs is given below:

• System of NGO’s selection: System for selecting NGO to whom donations have been
sent.

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• Mode of sending remittance: all remittances are through account payee cheques or
direct bank transfers. Remittances through demand draft would also need to be
scrutinised thoroughly with reference to the recipient.
• Confirming receipt of remittance: All remittances are supported by receipts and
acknowledgments.
• Identity: Recipient NGO is a genuine entity. Verify the address, registration
documents, objectives, bank account etc.
• Direct confirmation procedure: Send confirmation letters to entities to whom
donations have been paid.
• Donation utilisation: Utilisation of donations for providing relief for flood victims and
not from any other purpose. Check the supporting documents and reports sent by
different NGOs.
Answer No. 17
a) Compilation engagement refers to an engagement in which a practitioner applies
accounting and financial reporting expertise to assist management in the preparation and
presentation of financial information of an entity in accordance with an applicable
financial reporting framework, and reports as required by standard on compilation
engagement. It is not an assurance engagement, a compilation engagement does not
require the practitioner to verify the accuracy or completeness of the information
provided by management for the compilation, or otherwise to gather evidence to express
an audit opinion or a review conclusion on the preparation of the financial information.
Management retains responsibility for the financial information and the basis on which it
is prepared and presented.
Management may request a professional accountant in public practice to assist with the
preparation and presentation of financial information of an entity. Financial information
that is the subject of a compilation engagement may be required for various purposes
including:
(a) To comply with mandatory periodic financial reporting requirements established in
law or regulation; or
(b) For purposes unrelated to mandatory financial reporting under relevant law or
regulation, including for example:
For management or those charged with governance, prepared on a basis appropriate for
their particular purposes (such as preparation of financial information for internal use).
For periodic financial reporting undertaken for external parties under a contract or other
form of agreement (such as financial information provided to a funding body to support
provision or continuation of a grant).
For transactional purposes, for example to support a transaction involving changes to the
entity’s ownership or financing structure (such as for a merger or acquisition).

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b) Management audit refers to the analysis and assessment of competencies and capabilities
of a company's management in order to evaluate their effectiveness, especially with
regard to the strategic objectives and policies of the business. The audit tools to conduct
the management audit in general are:
i. Questionnaire
ii. Interview with employee and managers
iii. Examination and
iv. Observation
i. Questionnaire
Management audit questionnaire is an important tool for conducting the management
audit. It is through these questionnaires that the auditors make an inquiry into important
facts measuring current performance. Such questionnaires aim at a comprehensive and
constructive examination of an organization’s management and its assigned tasks. Overall
it is concerned with the appraisal of management actions in accomplishing the
organization’s objectives. The primary objective is to highlight the weaknesses and
deficiencies of the organization. Normally there are three possible answers to the
questions as Yes, No or Not applicable. The questionnaire comments on negative answers
not only provide documentation for future reference but more important provide
background information for undertaking remedial action. Thus the management audit
questionnaire for this part of the audit not only serves as management tool to analyse the
current situation, but also enables the management auditors to synthesis those elements
that are causing organizational difficulties and deficiencies.
ii. Interview with employee and managers
The interview with employees and managers collects most evidence about the
performance and achievement of management’s action. The interview may cover
information about objectives, planning process, organisation, control systems: procedures,
functional areas etc.
iii. Examination
Examination involves the examination of information, documents and records of
organization which may provide evidence regarding the performance of management. It
also help to confirm the information gathered by questionnaire and interview. The
information should be carefully studied to ascertain the real position of organisation.
iv. Observation
Management auditor may sometimes have to observe pertinent activities and conditions
in the organization to understand in better way. The auditor may prepare organizational
charts and flow charts as result of his observation. This will give more insight in to the
activities undertaken.
OTHER SERVICES
Answer No. 18
Generally, the term ‘forensic accounting’ is used to describe the wide range of investigative
work which forensic accountants in practice could be asked to perform. The work would

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normally involve an investigation into the financial affairs of an entity and is often associated
with investigations into alleged fraudulent activity. Forensic accounting refers to the whole
process of investigating a financial matter, including potentially acting as an expert witness if
the fraud comes to trial. Finally, ‘forensic auditing’ refers to the specific procedures carried
out in order to produce evidence. A Forensic Audit is an examination of a company’s
financial records to derive evidence which can be used in a court of law or legal proceeding.
Forensic audit investigations are made for following reasons:
i. Corruption
Corruption is involved in around one third of all frauds as reflected by the research. There are
three types of corruption fraud: conflicts of interest, bribery, and extortion.
• In a conflict of interest fraud, the fraudster exerts their influence to achieve a personal
gain which detrimentally affects the company. The fraudster may not benefit financially,
but rather receives an undisclosed personal benefit as a result of the situation. For
example, a manager may approve the expenses of an employee who is also a personal
friend in order to maintain that friendship, even if the expenses are inaccurate.
• Bribery is when money (or something else of value) is offered in order to influence a
situation.
• Extortion is the opposite of bribery, and happens when money is demanded (rather than
offered) in order to secure a particular outcome.
ii. Asset misappropriation
By far the most common frauds are those involving asset misappropriation, and there are
many different types of fraud which fall into this category. The common feature is the theft of
cash or other assets from the company, for example:
• Cash theft – the stealing of physical cash, for example petty cash, from the premises of a
company.
• Fraudulent disbursements – company funds being used to make fraudulent payments.
Common examples include billing schemes, where payments are made to a fictitious
supplier, and payroll schemes, where payments are made to fictitious employees (often
known as ‘ghost employees’).
• Inventory frauds – the theft of inventory from the company.
• Misuse of assets – employees using company assets for their own personal interest.
iii. Financial statement fraud

This is also known as fraudulent financial reporting, and is a type of fraud that causes a
material misstatement in the financial statements. It can include deliberate falsification of
accounting records; omission of transactions, balances or disclosures from the financial
statements; or the misapplication of financial reporting standards. This is often carried out
with the intention of presenting the financial statements with a particular bias, for example
concealing liabilities in order to improve any analysis of liquidity and gearing.

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AUDIT ISSUES-AUDIT UNDER COMPUTERISED ENVIRONMENT
Answer No. 19
The nature of the risks and the Internal Control System in CIS environment include the
following:
a. Lack of Transaction Trails - Some computer information systems are designed so that a
complete transaction trail that is useful for audit purposes might exist for only a short
period of time or only in computer readable form. Where a complex application system
performs a large number of processing steps, there may not be a complete trail.
Accordingly errors embedded in an application’s program logic may be difficult to detect
on a timely basis by manual procedures.
b. Uniform processing of Transactions - Computer programs processing transactions
uniformly, virtually eliminating the occurrence of clerical errors. However, if
programming error exists all transactions will be processed incorrectly.
c. Lack of Segregation of functions - Many controls becomes concentrated in a CIS
environment allowing data processing of incompatible functions.
d. Potential for errors and Irregularities - The potential for human error in the development,
maintenance and execution of computer information systems may be greater than in
manual systems, because of the level of detail inherent in these activities. Also, the
potential for individuals to gain unauthorized access to data or to alter data without visible
evidence may be greater in CIS environment than in manual systems.
e. Initiation or Execution of Transactions - In a CIS process certain types of transactions are
triggered internally by the system, the authorization for which may not be documented as
in manual system. In such cases, management; authorization of these transactions may be
implicit.
f. Dependence of other controls over computer processing - Certain manual control
procedures are dependent on computer generated reports and outputs for their
effectiveness. In term, the effectiveness and consistency of transaction processing
controls are dependent on the effectiveness of general computer information systems
controls.
g. Increased management Supervision - Computer information can offer management a
variety of analytical tools that can enhance the effectiveness of the entire internal control
structure.
AUDIT ISSUES -FRAUD AND AUDITOR’S LIABILITY
Answer No. 20
a) If, as a result of a misstatement resulting from fraud or suspected fraud, the auditor
encounters exceptional circumstances that bring into question the auditor’s ability to
continue performing the audit, the auditor shall:
i. Determine the professional and legal responsibilities applicable in the circumstances,
including whether there is a requirement for the auditor to report to the person or
persons who made the audit appointment or, in some cases, to regulatory authorities;

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ii. Consider whether it is appropriate to withdraw from the engagement, where

withdrawal is possible under applicable law or regulation; and
iii. If the auditor withdraws:
• Discuss with the appropriate level of management and those charged with
governance the auditor’s withdrawal from the engagement and the reasons for the
withdrawal; and
• Determine whether there is a professional or legal requirement to report to the
person or persons who made the audit appointment or, in some cases, to
regulatory authorities, the auditor’s withdrawal from the engagement and the
reasons for the withdrawal.
b) Professional Accountant should conduct a Customer Due Diligence as required by Money

laundering act when they prepare for or carry out transactions for their client concerning
the following activities:
- buying and selling of real estate;
- managing of client money, securities or other assets;
- management of bank, savings or securities account;
- organization of contributions for the creation, operation or management of companies;
- Creation, operation or management of legal persons or arrangements, and buying and
selling of business entities.
Customer Due Diligence includes following:

- Keeping and verifying identification document of the key persons (Directors/ owners/
senior management personnel)
- The address of the registered office, and, if different, a principal place of business
- Appointing a contact person in firm and communicating the details of the contact person
to Financial Information Unit of Nepal Rastra Bank
- Make a suspicious transaction report to the financial Information unit.
However, accountants acting as independent legal professionals, are not required to report
suspicious transactions if the relevant information was obtained in circumstances where they
are subject to professional secrecy or legal professional privilege.

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Revision Questions
Question No. 1
Answer the following with reference to ICAN Act, Rules, Circulars/Notices and Code of
Ethics issued by ICAN and other prevailing laws.
a) Mr. Heera, a practicing Chartered Accountant has recently published his book on taxation
where he gave his personal details as the tax, accounting and financial consultant,
professional experience, and the partner of M/s HTS and Associates, an audit firm on
back cover of his book. Comment.
b) PBC and Associates, an audit firm has accepted the appointment as external auditor by
M/S XYZ Bank Ltd for Fiscal Year 2076/77. One of the partners of the firm, Mr. C has
been availing professional loan of Rs.15 lakh from that bank since six months. Comment.
c) Mr. M, a chartered accountant in practice entered into partnership with Mr. R, a lawyer
for sharing the works of corporate cases. They have agreed to share fees for work sent by
one to the other. Comment.
d) Mr. X, practicing chartered accountant is statutory auditor of M/S KLM Ltd. for past two
years. M/S KLM Ltd. has applied for overdraft loan to the bank. The bank called the
auditor Mr. X to share detailed information regarding the few items in audited financial
statements of past years. Mr. X gave the needed information to bank as it was available in
his working papers without taking the consent of M/S KLM Ltd. Comment.
CORPORATE GOVERNANCE
Question No. 2
Explain the role of statutory audit in good corporate governance of an entity.
Question No. 3
Before the acceptance of any client relationships and specific engagements, it is necessary
that the audit firm has considered the integrity of the client, and does not have information
that would lead it to conclude that the client lacks integrity. Explain with reasons.
Question No. 4
What do you mean by preconditions for audit? What shall auditor do to establish whether the
preconditions for an audit are present?

Question No. 5
Mr. D, a practising chartered accountant is the statutory auditor of M/S BMC Company. He
wants to use the audit program of previous year without any modification as he had
considered necessary things while designing the program in the last year. Is he correct? Why?

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Question No. 6
The auditor needs to perform risk assessment procedures to provide a basis for the
identification and assessment of risks of material misstatement at the financial statement and
assertion levels. What are such risk assessment procedures? Discuss.
Question No. 7
The auditor of a company has determined that an assessed risk of material misstatement at the
assertion level is a significant risk, what procedures shall he perform in response of such risk?
AUDIT TEST
Question No. 8
a) Sampling risk can lead to erroneous conclusions. Explain.
b) You are appointed as the statutory auditor of M/S Possible Pvt. Ltd. What are the factors
that will influence the extent of working papers to be maintained for the purpose of your
audit?
Question No. 9
In the context of related parties, the potential effects of inherent limitations on the auditor’s
ability to detect material misstatements are greater. Explain the responsibilities of auditor
regarding related parties.
Question No. 10
B & Associates, Chartered Accountants is appointed as internal auditor of M/S ABC Bank
Ltd. The internal auditor wants to apply Risk Based Internal Audit approach. The board of
the bank is not aware of the risk based audit. How can the internal auditor convince the board
for risk based internal audit? Describe the concept and its advantages.
Question No. 11
You are an auditor of M/S PSD Ltd. You are required to satisfy yourself with the
reasonability of the estimates and the disclosure made by the management in financial
statements for FY 2076/77. What are the things to be considered given the circumstances
created by the COVID-19 pandemic?
AUDIT REPORTING
Question No. 12
a) You are auditor of M/S RTS Manufacturing Company for FY 2076/77. You observed
during audit that Large Taxpayers office had sent final letter on Jetha 2077 demanding
income tax of Rs.60 lakhs and VAT of Rs.80 lakhs pertaining to assessment year
2074/75. The company has not taken any action to pay or appeal against the decision. No
liabilities have been recognized in the books of account yet. How would you incorporate
this in your report?

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b) You are auditor of M/S RPQ Ltd. for the FY 2076/77. The financial statements are
prepared for a general purpose by management of the entity in accordance with NFRSs.
The company suffered a huge loss of Rs.2 crore in that year due to outbreak of pandemic
which impacted the business sales. The current liabilities of the company exceeded its
total assets by Rs.1 crore as on year end. The company’s overdraft loan expired on Asoj
end 2077 and amounts outstanding are payable. The Company has been unable to
conclude re-negotiations with the bank or obtain replacement financing from another
bank. The company has not disclosed the conditions in financial statements. Draft the
relevant audit opinion part.
Question No. 13
a) Mr. A, chartered accountant is newly appointed for the external audit of M/S PMC
General Insurance Limited. He is required to issue Long form audit report. Guide him
about the contents of long form audit report.
b) The statutory auditor of M/S BMC Bank Ltd. has come across certain key audit matters
during the audit of FY 2076/77. Give him advice on communicating key audit matters in
the auditor’s report.

Question No. 14
What are the specific aspects to which you will give your attention while verifying insurance
premium income as the auditor of general insurance company?
Question No. 15
You are appointed as an external auditor of Kathmandu Youth Sports Club. Mention special
process to be followed for audit of club.

Question No. 16
a) Q & Company is intending to enter a major joint venture with P & Company. You are
appointed to conduct due diligence of P & Company for this purpose. What are the key
areas you will cover in your review as a due diligence auditor?
b) What are the matters to be considered in terms of engagement regarding compilation

engagement?
OTHER SERVICES
Question No. 17
a) Write short note on functions of Insolvency Practitioners.
b) What are the specific areas to be covered during investigation of assets misappropriation?

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AUDIT UNDER COMPUTERIZED ENVIRONMENT
Question No. 18
What are the specific risks to be considered while auditing in a Computer Information System
Environment?
COMPUTER ASSISTED AUDITING TECHNIQUES

Question No. 19
When planning an audit, the auditor may consider an appropriate combination of manual and
computer assisted audit techniques. What are the factors to be considered in determining
whether to use CAATS by the auditor?
JOINT AUDIT AND BRANCH AUDIT

Question No. 20
Mr. A and Mr. B are joint auditors of Deed Bank Ltd. They are required to give the common
audit report. However, while drawing audit conclusion, they could not reach a common
opinion. What is the reporting responsibility of auditors? Give them the appropriate
suggestion.

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Answers/Hints:
GENERAL CONCEPTS ON AUDITING

Answer No. 1
a) As per section 115 of Code of Ethics 2018, when undertaking marketing or promotional
activities, a professional accountant shall not bring the profession into disrepute. A
professional accountant shall be honest and truthful and shall not make:
i. Exaggerated claims for the services offered by, or the qualifications or experience
of, the accountant; or
ii. Disparaging references or unsubstantiated comparisons to the work of others.
If a professional accountant is in doubt about whether a form of advertising or marketing
is appropriate, the accountant is encouraged to consult with the relevant professional
body. Professional accountants in public practice are prohibited from making exaggerated
claims on services that one is able to offer, qualifications possessed, or experience gained.
This can be in quotations, firm‘s profiles or other communication to current and
prospective clients who have requested for such information. Moreover, according to
ICAN’s guidelines on marketing professional services, member writing a book,
monograph, pamphlet, etc., other personal particulars, as are usual, viz, education,
hobbies and interests, other qualifications and previous publications. But it is not
permitted to indicate in a book or monograph, pamphlet, etc. published by him/her, the
association with any firm of practicing member.
In the given case, as Mr. Heera, a practicing Chartered Accountant has mentioned the
information regarding services being provided by him and his association with the audit
firm, HTS and Associates. Mr. Heera has committed the professional misconduct.
b) As per the provision of section 34(13) of the Nepal Chartered Accountants Act 1997, a
member holding Certificate of Practice shall not accept his appointment as an auditor of
an organisation without ascertaining that all required procedures for appointment as the
auditor under the prevailing law has been duly fulfilled. As per section 112 of companies
act 2063, none of the persons or the firms or companies in which such persons are
partners shall be qualified for appointment as auditor and shall, despite appointment as
auditor, continue to hold office if the person is a debtor who has borrowed moneys from
the company in any manner, or a person who has failed to pay any dues payable to the
company within the time limit and is in such arrears. Also section 64 of BAFIA 2073 has
provision that persons or any firm, company or institution in which such person is a
promoter or partner shall not be eligible to be appointed as an auditor of a bank or
financial institution where such person is a borrower of that bank or financial institution.
In view of the above provisions, PBC and Associates, an audit firm cannot be appointed
as external auditor by M/S XYZ Bank Ltd. because one of the partners of the firm, Mr. C
is debtor/borrower of the bank. The audit firm should have ensured whether it can accept
the appointment as an auditor as per prevailing laws. The audit firm is guilty of
professional misconduct.

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c) As per the provision of section 34(3) of the Nepal Chartered Accountants Act 1997, a
member shall not share or distribute as profit the auditing fees or remuneration with any
person other than a member of the Institute; and shall not pay any commission, brokerage
etc. out of the professional fees earned to any person or member.
In the given case, Mr. M, a chartered accountant in practice has entered into partnership
with Mr. R, a lawyer and agreed to share fees for work sent by one to the other. Here, Mr.
R is not a member of the institute. Thus, Mr. R cannot share fees or remuneration with
him or pay commission to him for work sent. Mr. R is guilty of professional misconduct.
d) As per NSA 230 "Audit Documentation", working papers are the property of the auditor.
The auditor may at his discretion, make portion of or extracts of his working papers
available to his clients. However, section 34(5) of the Nepal Chartered Accountants Act
1997 provides that one shall not disclose or divulge any information and explanations
acquired in the course of professional service to any person other than the employer
employing him and the person whom he is compiled by the law to do so. Similarly,
general principles of Code of Ethics imposes an obligation on all professional accountants
to maintain confidentiality of information acquired as a result of professional or business
relationship and shall not disclose confidential information without proper and specific
authority unless there is legal or professional duty or right to disclose. Nevertheless, the
following are circumstances where professional accountants are or might be required to
disclose confidential information or when such disclosure might be appropriate:
i. Disclosure is required by law,
ii. Disclosure is permitted by law and is authorized by the client or the employing
organization; and
iii. There is a professional duty or right to disclose, when not prohibited by law:
• To comply with the quality review of a professional body;
• To respond to an inquiry or investigation by a professional or regulatory body;
• To protect the professional interests of a professional accountant in legal
proceedings; or
• To comply with technical and professional standards, including ethics
requirements.
In the given case, the bank has asked the auditor for detailed information regarding few
items in the financial statements and the auditor gave the information available in the
working papers without taking the consent from client. Thus, in the light of above stated
provisions, there is no requirement compelling the auditor to divulge information and he
cannot disclose the information in his possession without permission from client. Hence
he is guilty of professional misconduct.
CORPORATE GOVERNANCE
Answer No. 2
Corporate Governance is the process and structure used to direct and manage the business
and affairs of the corporations with the objective of enhancing shareholder value, which

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includes ensuring the financial viability of the business. The process and structure define the
division of power and establish mechanisms for achieving accountability among
shareholders, the board and management.
The statutory auditor plays a central role in good corporate governance by virtue of:
• audit financial statements and other (financial) reporting;
• attest internal control statements, where applicable; and
• review or attest corporate governance statements where applicable.
One of the primary roles of external auditors in corporate governance is protecting the
interests of shareholders. This is possible because external audits are conducted independent
of the company’s influence. External auditors report the state of a company's finance and
attest to the validity of financial reports that may have been released. They ensure that the
board receives accurate and reliable information. The board may also question the auditors'
views and assessment on the appropriateness of the accounting principles used by a company.
Similarly, external auditors promote accountability by introducing measures and policies
designed to compel accountability in the workplace. External auditors also help promote
corporate governance by conducting periodic risk assessment. Auditors review the security
measures that a company has in place against corporate fraud or corruption. In addition to
assessing potential risks, auditors also analyze the overall risk tolerance of the company as
well as the efforts the company has made toward mitigating risks.
Accordingly, the statutory audit supports the best practice of good corporate governance by
ensuring:
• Best management practices;
• Appropriate delegation of authority and responsibility;
• Compliance with the applicable laws and regulations;
• Adherence to the management policies and procedures;
• Review of internal control structures including financial, operational and compliance
controls;
• Safeguard of assets; and
• Overall transparency and accountability within an organization; and
• Timely and accurate financial reporting to the stakeholders.
Answer No. 3
NSQC 1 on ‘Quality Control for Firms That Perform Audits and Reviews of Financial
Statements, and Other Assurance and Related Services Engagements’ requires the audit firm
to establish policies and procedures for the acceptance and continuance of client relationships
and specific engagements, designed to provide the firm with reasonable assurance that it will
only undertake or continue relationships and engagements where the firm has considered the
integrity of the client, and does not have information that would lead it to conclude that the
client lacks integrity. The integrity of client may provide threat to compliance with the
fundamental principles. Before responding to any offers or communicates to potential clients,
it is necessary for a professional accountant to gather adequate information about the owners,
management and business activities of the client. Such as:

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• The identity and business reputation of the client’s principal owners, key management,
and those charged with its governance.
• The nature of the client’s operations, including its business practices.
• Complexity of operation of business e.g. nature of industry, trade and commerce or
services;
• The requirement of engagement- audit or review engagement, assurance or non-
assurance services other than audit and review;
• Proposed nature of the work to be performed;
• Requirement or knowledge of the relevant industries and the subject matter;
• Experience of regulatory requirements such as - banks, non -bank financial institutions,
cooperatives, insurance etc.; and
• Existence of quality control policies and procedures.
• Information concerning the attitude of the client’s principal owners, key management and
those charged with its governance towards such matters as aggressive interpretation of
accounting standards and the internal control environment.
• Whether the client is aggressively concerned with maintaining the firm’s fees as low as
possible.
• Indications of an inappropriate limitation in the scope of work.
• Indications that the client might be involved in money laundering or other criminal
activities.
• The reasons for the proposed appointment of the firm and non-reappointment of the
previous firm.
• The identity and business reputation of related parties.
This approach could help in finding out at least the following information:
• Whether client activities are lawful,
• Whether there any questionable issues such as involvement in illegal activities, illegal
financial accounting and reporting practices or unethical behaviour;
• Whether previous audited financial statements can be provided to assess the volume of
business and accounting transactions and the status of internal control system;
• Whether client has adequate, experienced and qualified personnel involved in financial
management and preparation of financial statements;
After gathering above information, the professional accountant shall proceed to evaluate the
self- interest threat and take suitable measures given hereunder to address such self-interest
threat to an acceptable level.
• To assign adequate experienced and qualified personnel;
• To prepare for performance of engagement in time; using experts wherever necessary.
Therefore, before accepting or continuing any client relationships and specific engagements,
it is necessary that the audit firm has considered the integrity of the client in order to evaluate
and reduce the threat to acceptable level or to withdraw from the engagement.

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Answer No. 4
Preconditions for an audit means the use by management of an acceptable financial reporting
framework in the preparation of the financial statements and the agreement of management
and, where appropriate, those charged with governance to the premise, relating to the
responsibilities of management and, where appropriate, those charged with governance, on
which an audit is conducted.
According to NSA 210 ‘Agreeing the Terms of Audit Engagements’, in order to establish
whether the preconditions for an audit are present, the auditor shall:
i. Determine whether the financial reporting framework to be applied in the preparation of
the financial statements is acceptable. Factors that are relevant to the auditor’s
determination of the acceptability of the financial reporting framework to be applied in
the preparation of the financial statements include:
• The nature of the entity (for example, whether it is a business enterprise, a public
sector entity or a not-for-profit organization);
• The purpose of the financial statements (for example, whether they are prepared to
meet the common financial information needs of a wide range of users or the financial
information needs of specific users);
• The nature of the financial statements (for example, whether the financial statements
are a complete set of financial statements or a single financial statement); and
• Whether law or regulation prescribes the applicable financial reporting framework.
ii. Obtain the agreement of management that it acknowledges and understands its
responsibility:
(i) For the preparation of the financial statements in accordance with the applicable
financial reporting framework, including where relevant their fair presentation;
(ii) For such internal control as management determines is necessary to enable the
preparation of financial statements that are free from material misstatement, whether
due to fraud or error; and
(iii) To provide the auditor with:
• Access to all information of which management is aware that is relevant to the
preparation of the financial statements such as records, documentation and other
matters;
• Additional information that the auditor may request from management for the
purpose of the audit; and
• Unrestricted access to persons within the entity from whom the auditor determines
it necessary to obtain audit evidence.

Answer No. 5
An audit program is a detailed plan of applying the audit procedures in given circumstances
with instructions for the appropriate techniques to be adopted for accomplishing the audit
objectives. There should be periodic review of the audit programme to assess whether the
same continues to be adequate for obtaining requisite knowledge and evidence about the
transactions. Unless this is done, any change in the business policy of the client may not be

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adequately known, and consequently, audit work may be carried on, on the basis of an
obsolete programme and for this negligence, the whole audit may be held as negligently
conducted and the auditor may have to face legal consequences.
The utility of the audit program can be retained and enhanced only by keeping the under
periodic review so that inadequacies or redundancies of the program may be removed.
However, as a basic feature, audit program not only lists the tasks to be carried out but also
contains a few relevant instructions, like the extent of checking, sampling plan, etc. So long
as the program is not officially changed by the principal, every assistant deputed on the job
should unfailingly carry out the detailed work according to the instructions governing the
work. Many persons believe that this brings an element of rigidity in the audit program. This
is not true provided the periodic review is undertaken to keep the program up to date as
possible and by encouraging the assistants on the job to observe all salient features of the
various accounting functions of the client.
Revision of audit programme shall also be done by auditor any time after the commencement
during the audit, if he encounters any change in circumstances such as weaknesses in internal
control in some areas, so that it suits the current circumstances.
Here, Mr. D wants to use the audit program of previous year without any modification. Thus,
he is not correct and he should update the audit program used in last year according to the
changed circumstances in the M/S BMC Company.
Answer No. 6
According to NSA 315, the auditor shall perform risk assessment procedures to provide a
basis for the identification and assessment of risks of material misstatement at the financial
statement and assertion levels. Information obtained by performing risk assessment
procedures and related activities may be used by the auditor as audit evidence to support
assessments of the risks of material misstatement. The risk assessment procedures shall
i. Inquiries of management and of others within the entity that in the auditor’s judgment
may have information that is likely to assist in identifying risks of material misstatement
due to fraud or error.
Much of the information obtained by the auditor’s inquiries is obtained from management
and those responsible for financial reporting. However, the auditor may also obtain
information, or a different perspective in identifying risks of material misstatement,
through inquiries of others within the entity and other employees with different levels of
authority. For example: inquiries directed towards those charged with governance may
help the auditor understand the environment in which the financial statements are
prepared. Inquiries directed toward internal audit personnel may provide information
about internal audit procedures performed during the year relating to the design and
effectiveness of the entity’s internal control and whether management has satisfactorily
responded to findings from those procedures. Inquiries of employees involved in
initiating, processing or recording complex or unusual transactions may help the auditor
to evaluate the appropriateness of the selection and application of certain accounting
policies. Inquiries directed toward in-house legal counsel may provide information about
such matters as litigation, compliance with laws and regulations, knowledge of fraud or

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suspected fraud affecting the entity, warranties, post-sales obligations, arrangements
(such as joint ventures) with business partners and the meaning of contract terms.
ii. Analytical procedures

Analytical procedures performed as risk assessment procedures may identify aspects of
the entity of which the auditor was unaware and may assist in assessing the risks of
material misstatement in order to provide a basis for designing and implementing
responses to the assessed risks. Analytical procedures performed as risk assessment
procedures may include both financial and non-financial information, for example, the
relationship between sales and square footage of selling space or volume of goods sold.
Analytical procedures may help identify the existence of unusual transactions or events,
and amounts, ratios, and trends that might indicate matters that have audit implications.
Unusual or unexpected relationships that are identified may assist the auditor in
identifying risks of material misstatement, especially risks of material misstatement due
to fraud.
iii. Observation and inspection.

Observation and inspection may support inquiries of management and others, and may
also provide information about the entity and its environment. Examples of such audit
procedures include observation or inspection of the entity’s operations, documents (such
as business plans and strategies), records, and internal control manuals, reports prepared
by management (such as quarterly management reports and interim financial statements)
and those charged with governance (such as minutes of board of directors’ meetings) and
the entity’s premises and plant facilities.
Apart from above procedures, the auditor shall also consider whether information obtained in
previous audit, client acceptance or continuance process or other engagements for the entity
is relevant to identifying risks of material misstatement. Other procedures may also be
performed where the information to be obtained therefrom may be helpful in identifying risks
of material misstatement. Examples of such procedures include reviewing information
obtained from external sources such as trade and economic journals; reports by analysts,
banks, or rating agencies; or regulatory or financial publications and making inquiries of the
entity’s external legal counsel or of valuation experts that the entity has used.
Answer No. 7
According to NSA 330 ‘The Auditor’s Responses to Assessed Risks’, if the auditor has
determined that an assessed risk of material misstatement at the assertion level is a significant
risk, the auditor shall perform substantive procedures that are specifically responsive to that
risk. When the approach to a significant risk consists only of substantive procedures, those
procedures shall include tests of details.
Audit evidence in the form of external confirmations received directly by the auditor from
appropriate confirming parties may assist the auditor in obtaining audit evidence with the
high level of reliability that the auditor requires to respond to significant risks of material
misstatement, whether due to fraud or error. For example, if the auditor identifies that
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management is under pressure to meet earnings expectations, there may be a risk that
management is inflating sales by improperly recognizing revenue related to sales agreements
with terms that preclude revenue recognition or by invoicing sales before shipment. In these
circumstances, the auditor may, for example, design external confirmation procedures not
only to confirm outstanding amounts, but also to confirm the details of the sales agreements,
including date, any rights of return and delivery terms. In addition, the auditor may find it
effective to supplement such external confirmation procedures with inquiries of non-financial
personnel in the entity regarding any changes in sales agreements and delivery terms.
If the auditor plans to rely on controls over a risk the auditor has determined to be a
significant risk, the auditor shall test those controls in the current period.
AUDIT TEST
Answer No. 8
a) Sampling risks refers to the risk that the auditor’s conclusion based on a sample may be
different from the conclusion if the entire population were subjected to the same audit
procedure. Sampling risk can lead to two types of erroneous conclusions:
• In the case of a test of controls, that controls are more effective than they actually are,
or in the case of a test of details, that a material misstatement does not exist when in
fact it does. The auditor is primarily concerned with this type of erroneous conclusion
because it affects audit effectiveness and is more likely to lead to an inappropriate
audit opinion.
• In the case of a test of controls, that controls are less effective than they actually are,
or in the case of a test of details, that a material misstatement exists when in fact it
does not. This type of erroneous conclusion affects audit efficiency as it would
usually lead to additional work to establish that initial conclusions were incorrect.
b) According to NSA 230 ‘Audit Documentation’, the auditor shall prepare audit
documentation that is sufficient to enable an experienced auditor, having no previous
connection with the audit, to understand:
i. The nature, timing and extent of the audit procedures performed to comply with the
NSAs and applicable legal and regulatory requirements;
ii. The results of the audit procedures performed, and the audit evidence obtained; and
iii. Significant matters arising during the audit, the conclusions reached thereon, and
significant professional judgments made in reaching those conclusions.
According to the relevant standard, the extent of audit documentation depends on factors
such as:
• The size and complexity of the entity.
• The nature of the audit procedures to be performed.
• The identified risks of material misstatement.
• The significance of the audit evidence obtained.
• The nature and extent of exceptions identified.
• The need to document a conclusion or the basis for a conclusion not readily
determinable from the documentation of the work performed or audit evidence
obtained.

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• The audit methodology and tools used.
Answer No. 9
NSA 550 ‘Related Parties’ deals with the responsibilities of auditor relating to related party
relationships and transactions in an audit of financial statements. Accordingly, many related
party transactions are in the normal course of business. In such circumstances, they may carry
no higher risk of material misstatement of the financial statements than similar transactions
with unrelated parties. However, the nature of related party relationships and transactions
may, in some circumstances, give rise to higher risks of material misstatement of the financial
statements than transactions with unrelated parties. To explain, related parties may operate
through an extensive and complex range of relationships and structures, with a corresponding
increase in the complexity of related party transactions and information systems may be
ineffective at identifying or summarizing transactions and outstanding balances between an
entity and its related parties. Similarly, related party transactions may not be conducted under
normal market terms and conditions; for example, some related party transactions may be
conducted with no exchange of consideration.
Owing to the inherent limitations of an audit, there is an unavoidable risk that some material
misstatements of the financial statements may not be detected, even though the audit is
properly planned and performed in accordance with NSAs. In the context of related parties,
the potential effects of inherent limitations on the auditor’s ability to detect material
misstatements are greater for such reasons as the following:
• Management may be unaware of the existence of all related party relationships and
transactions, particularly if the applicable financial reporting framework does not
establish related party requirements.
• Related party relationships may present a greater opportunity for collusion, concealment
or manipulation by management.
Because related parties are not independent of each other, Nepal Financial Reporting
Frameworks establish specific accounting and disclosure requirements for related party
relationships, transactions and balances to enable users of the financial statements to
understand their nature and actual or potential effects on the financial statements. The auditor
has a responsibility to perform audit procedures to identify, assess and respond to the risks of
material misstatement arising from the entity’s failure to appropriately account for or disclose
related party relationships, transactions or balances in accordance with the requirements of
the framework. According to NSA 550, the auditor should obtain an understanding of related
party relationships and transactions sufficient to be able:
(i) To recognize fraud risk factors, if any, arising from related party relationships and
transactions that are relevant to the identification and assessment of the risks of material
misstatement due to fraud; and
(ii) To conclude, based on the audit evidence obtained, whether the financial statements,
insofar as they are affected by those relationships and transactions:
a. Achieve fair presentation (for fair presentation frameworks); or
b. Are not misleading (for compliance frameworks); and

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In addition, an understanding of the entity’s related party relationships and transactions is
relevant to the auditor’s evaluation of whether one or more fraud risk factors are present as
required by NSA 240, because fraud may be more easily committed through related parties.
Planning and performing the audit with professional scepticism as required by NSA 200 is
therefore particularly important in this context, given the potential for undisclosed related
party relationships and transactions.
The auditor shall inquire of management and others within the entity, and perform other risk
assessment procedures considered appropriate, to obtain an understanding of the controls, if
any, that management has established to identify, account for, and disclose related party
relationships and transactions in accordance with the applicable financial reporting
framework, authorize and approve significant transactions and arrangements with related
parties and those outside the normal course of business. During the audit, the auditor shall
remain alert, when inspecting records or documents, for arrangements or other information
that may indicate the existence of related party relationships or transactions that management
has not previously identified or disclosed to the auditor. In forming an opinion on the
financial statements, the auditor shall evaluate whether the identified related party
relationships and transactions have been appropriately accounted for and disclosed in
accordance with the applicable financial reporting framework; and whether the effects of the
related party relationships and transactions prevent the financial statements from achieving
fair presentation or cause the financial statements to be misleading.
Answer No. 10
Risk based internal auditing (RBIA) can be defined as a methodology that links internal
auditing to an organization’s overall risk management framework. RBIA allows internal audit
to provide assurance to the board that risk management processes are managing risks
effectively, in relation to the risk appetite. RBIA is not about auditing risks but about auditing
the management of risk, it focuses on the actions taken by the management team to respond
to risks. Internal auditors need to spend time with managers, discussing and observing the
monitoring controls they apply, rather than re-performing controls or other responses, or
analysing data for themselves. The implementation of RBIA has three stages:
Stage 1: Assessing risk maturity
Obtaining an overview of the extent to which the board and management determine, assess,
manage and monitor risks. This provides an indication of the reliability of the risk register for
audit planning purposes. There are three objectives to this stage, which are to assess the risk
maturity of the organisation, report to management and to the audit committee on that
assessment and agree an audit strategy.
Stage 2: Periodic audit planning
Identifying the assurance and consulting assignments for a specific period, usually annual, by
identifying and prioritising all those areas on which the board requires objective assurance,
including the risk management processes, the management of key risks, and the recording
and reporting of risks. The objectives of this stage are to
• Agree all the risk management responses and risk management processes on which
objective assurance from internal audit is required

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• Produce an audit plan which lists all audits to be carried out over a specified period -
usually a year.
Stage 3: Individual audit assignments
Carrying out individual risk based assignments to provide assurance on part of the risk
management framework, including on the mitigation of individual or groups of risks.
The objective of this stage is to provide assurance that, in relation to the business, activity, or
system under review and for the processes identified in the audit plan:
• Management has identified, assessed and responded to risks above and below the risk
appetite.
• The responses to risks are effective but not excessive in managing inherent risks within
the risk appetite.
• Where residual risks are not in line with the risk appetite, action is being taken to remedy
that.
• Risk management processes, including the effectiveness of responses and the completion
of actions, are being monitored by management to ensure they continue to operate
effectively.
• Risks, responses and actions are being properly classified and reported.
RBIA is at the cutting edge of internal audit practice. The advantages of RBIA are much
greater. By following RBIA, internal auditor should be able to conclude that:
1. Management has identified, assessed and responded to risks above and below the risk
appetite
2. The responses to risks are effective but not excessive in managing inherent risks within
the risk appetite
3. Where residual risks are not in line with the risk appetite, action is being taken to remedy
that
4. Risk management processes, including the effectiveness of responses and the completion
of actions, are being monitored by management to ensure they continue to operate
effectively
5. Risks, responses and actions are being properly classified and reported.
This enables internal audit to provide the board with assurance that it needs on three areas:
1. Risk management processes, both their design and how well they are working
2. Management of those risks classified as 'key', including the effectiveness of the controls
and other responses to them
3. Complete, accurate and appropriate reporting and classification of risks.
RBIA this allows the internal audit activity to provide value to its organisation. The RBIA
methodology makes a clear and valuable contribution to the risk management framework by
providing objective assurance and by facilitating management's efforts to improve the
framework. An effective risk management framework will improve an organisation's
governance and its chances of achieving its objectives over the long term. RBIA ensures that
internal audit resources are directed towards assessing the management of the most

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significant risks.
Answer No. 11
According to NSA 540 ‘Auditing Accounting Estimates, Including Fair Value Accounting
Estimates, And Related Disclosures’, the auditor shall obtain an understanding of the
following in order to provide a basis for the identification and assessment of the risks of
material misstatement for accounting estimates:
(a) The requirements of the applicable financial reporting framework relevant to accounting
estimates, including related disclosures.
(b) How management identifies those transactions, events and conditions that may give rise
to the need for accounting estimates to be recognized or disclosed in the financial
statements. In obtaining this understanding, the auditor shall make inquiries of
management about changes in circumstances that may give rise to new, or the need to
revise existing, accounting estimates.
(c) How management makes the accounting estimates, and an understanding of the data on
which they are based, including:
• The method, including where applicable the model, used in making the accounting
estimate;
• Relevant controls;
• Whether management has used an expert;
• The assumptions underlying the accounting estimates;
• Whether there has been or ought to have been a change from the prior period in the
methods for making the accounting estimates, and if so, why; and
• Whether and, if so, how management has assessed the effect of estimation
uncertainty.
Due to the changes in economic conditions, business environment and uncertainties arising
out of COVID-19 pandemic, accounting estimates made by management may require
revision and also management may need to make new estimates because of difficulty caused
by the situation where measurement could have been made with precision in normal
circumstances. Auditor is required to satisfy himself/herself with the reasonability of the
estimates and the disclosure made. Following things are to be considered with regards to the
circumstances created by COVID -19 pandemic:
• Consider whether the assumption, method of measurement used and the data used by
management to make estimate are accurate, appropriated and reasonable in accordance
with the circumstance in light of the measurement objectives of the applicable financial
reporting framework.
• Consider whether the disclosures are sufficient and appropriate in accordance with the
financial reporting framework for the circumstances created by the COVID-19.
• Determine whether events occurring up to the date of the auditor’s report provide audit
evidence regarding the accounting estimate.
• Test the operating effectiveness of the controls over how management made the
accounting estimate, together with appropriate substantive procedures.

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• If the auditor determines that an accounting estimate gives rise to a significant risk, the
auditor is required to obtain an understanding of the entity’s controls, including control
activities.
• Consider whether the estimates made in earlier year by management have been
reassessed to reflect the changed business environment.
• Consider obtaining management’s representation letter on the estimates made by
management with specific mention of the areas or issues directly impacted by the
pandemic.
• Consider whether specialized skills or knowledge in relation to one or more aspects of
the accounting estimates are required in order to obtain sufficient appropriate audit
evidence.
AUDIT REPORTING
Answer No. 12
a) According to NSA 250, ‘Consideration of Laws and Regulations in an Audit of Financial
Statement”, it is the responsibility of management, with the oversight of those charged
with governance, to ensure that the entity’s operations are conducted in accordance with
the provisions of laws and regulations, including compliance with the provisions of laws
and regulations that determine the reported amounts and disclosures in an entity’s
financial statements. Accordingly, the auditor is responsible for obtaining reasonable
assurance that the financial statements, taken as a whole, are free from material
misstatement, whether due to fraud or error. In conducting an audit of financial
statements, the auditor takes into account the applicable legal and regulatory framework.
The provisions of tax laws and regulations generally recognized to have a direct effect on
the determination of material amounts and disclosures in the financial statements. If the
auditor concludes that the non-compliance has a material effect on the financial
statements, the auditor shall express a qualified or adverse opinion on the financial
statements.
In the given case, there is income tax demand of Rs. 60 lakhs and VAT demand of Rs. 80
lakhs and company has neither booked it as payable or paid the amount nor gone for the
appeal. The company should decide whether the demand is based on logical basis and the
entire amount is payable or the company should go for appeal. As per NAS 37,
‘Provisions, contingent liabilities and contingent assets’, if the amount is payable, then
provision should be made in financial statements of FY 2076/77 for amount payable
because the company has present obligation as a result of past event. If the company
decides for appeal and there is strong reason behind the case in favour, the same should
be disclosed as contingent liabilities. But if the management does not take any action and
does not make any disclosure, the auditor should modify his opinion based on the
materiality of the item.
b) In the given case, M/S RPQ Ltd. has incurred huge loss and the current liabilities of the
company exceeded its total assets. Moreover, the company’s overdraft loan expired on
Asoj end 2077 and it has been unable to conclude re-negotiations with the bank or obtain

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replacement financing from another bank. It concludes that a material uncertainty exists
related to events or conditions that may cast significant doubt on the entity’s ability to
continue as a going concern. The material uncertainty is not adequately disclosed in the
financial statements. The financial statements are materially misstated due to the
inadequate disclosure of the material uncertainty. A qualified opinion should be expressed
because the effects on the financial statements of this inadequate disclosure are material.
The opinion part is given below:
Qualified Opinion
We have audited the financial statements of ABC Company (the Company), which
comprise the statement of financial position as at 31st Asar 2077, and the statement of
In our opinion, except for the incomplete disclosure of the information referred to in the
Basis for Qualified Opinion section of our report, the accompanying financial statements
present fairly, in all material respects (or give a true and fair view of), the financial
position of the Company as at 31st Asar 2077, and (of) its financial performance and its
cash flows for the year then ended in accordance with Nepal Financial Reporting
Standards (NFRSs).

As discussed in Note X, the Company incurred a net loss of Rs. 2 crore during the year
ended 31st Asar 2077 and, as of that date, the Company’s current liabilities exceeded its
total assets by Rs.1 crore. The Company’s financing arrangements expire and amounts
outstanding are payable on Asoj end, 2077. The Company has been unable to conclude
re-negotiations or obtain replacement financing. This situation indicates that a material
uncertainty exists that may cast significant doubt on the company’s ability to continue as
a going concern. The financial statements do not adequately disclose this matter.
independent of the Company in accordance with the ethical requirements that are relevant
to our audit of the financial statements and we have fulfilled our other ethical
responsibilities in accordance with these requirements. We believe that the audit evidence
we have obtained is sufficient and appropriate to provide a basis for our qualified opinion.
Answer No. 13
a) Long Form Audit Report (LFAR) is the additional or elaborated information which are
not covered in the main report generally required by the regulating authorities in case of
banks, insurance companies and co-operatives. The auditor expresses his opinions and
gives comments on various issues in LFAR. But it is not the substitute of main report.
The format and contents are generally provided by monitoring/regulating body itself. The

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information required to be provided by the auditor also includes matters requiring
attention of the management.
The comments/opinions to be provided by the auditor of a bank in the LFAR generally
include:
• Comments/Opinion on Risk Management System
• Comments /Opinion on Internal Control System
• Comments /Opinion on compliance with applicable rules and regulations
Insurance regulatory authority of Nepal has also issued its directives with regards to the
submission of Long Form Audit Report by the auditors. The contents that are to be
included and reported in the Long Form Audit Report as prescribed by the insurance
board are as follows:
• Audit Plan including independence of audit team and standards of auditing
• Audit approach and methodology about internal audit review, audit risk assessment
and mitigation
• Sampling method and sample size
• Difficulties faced during audit, limitations of audit and audit plan implementation
• Risk Management Systems of insurance company (Insurance risk management
system, re-insurance management system, investment and credit management system,
insurance claim management system etc.)
• Internal Control Systems of insurance company
• Accounting policies of insurance company
• Assets quality and management of insurance company
• Net worth and financial status of insurance company
• Unfunded liabilities of insurance company
• Corporate governance of insurance company
• Transaction of promoters’ share
• Compliance with Applicable rules and regulations
• Reservation/qualification/adverse remark if any in main audit report
• Others if any after the comprehensive evaluation of insurance company
b) Key audit matters are those matters that, in the auditor’s professional judgment, were of
most significance in the audit of the financial statements of the current period. Key audit
matters are selected from matters communicated with those charged with governance.
The auditor shall determine which of the matters communicated with those charged with
governance are the key audit matters. The auditor shall communicate the key audit
matters determined in a separate section of the auditor’s report under the heading “Key
Audit Matters.” The auditor’s report shall state that:
i. Key audit matters are those matters that, in the auditor’s professional judgment, were
of most significance in the audit of the financial statements of the current period;
ii. Key audit matters are selected from matters communicated with [those charged with
governance], but are not intended to represent all matters that were discussed with
them;

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iii. The auditor’s procedures relating to these matters were designed in the context of the
audit of the financial statements as a whole; and
iv. The auditor’s opinion on the financial statements is not modified with respect to any
of the key audit matters, and the auditor does not express an opinion on these
individual matters.
The auditor shall describe each key audit matter in the Key Audit Matters section using
an appropriate subheading in a separate section of the auditor’s report under the heading
“Key Audit Matters”. The description of each key audit matter shall include a reference to
the related disclosure(s), if any, in the financial statements and shall include an
explanation of why the auditor considered the matter to be one of most significance in the
audit and, to the extent the auditor considers it necessary as part of this explanation and
its effect on the audit.
The sufficiency and appropriateness of the description of a key audit matter is a matter of
professional judgment, but the description is intended to provide a succinct explanation to
enable users of the financial statements to understand why the matter was one of most
significance in the audit and, to the extent the auditor considers it necessary, its effect on
the audit. Limiting the use of highly technical auditing terms helps to enable users who do
not have a reasonable knowledge of auditing to understand the basis for the auditor’s
focus on particular matters during the audit.

Answer No. 14
Insurance premium is the primary revenue of general insurance company and verification of
premium income is extremely important for an auditor. The aspects in respect of insurance
premium income to be examined by the auditor of general insurance company are as follows:
• Before commencing verification of premium income, the auditor should look into the
internal controls and compliance thereof as laid down for the collection and recording of
the premium.
• Ascertain that all the cover notes relating to the risks assumed have been serially
numbered for each class of business. Verify that there is an adequate internal check on the
issue of stationery comprising of cover notes, policy documents, stamps etc.
• Premium shall be recognised as income over the contract period or the period of risk,
whichever is appropriate. Ensure that premium in respect of risks incepting during the
relevant accounting year has been accounted as premium income of that year on the basis
of premium revenue recognition. Make an assessment of the reasonability of the risk
pattern established by the management, the auditor should see whether the premium
received during the year but pertaining to risk commencing in the following year has been
accounted for under the head ‘premium received in advance’ and has been disclosed
separately.
• Verify the collections lodged by agents after the balance sheet date to see whether any
collection pertains to risk commencing for the year under audit and also check that the

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premium has been recorded originally at the gross figure i.e. without providing for
unexpired risks and reinsurance.
• In case of co-insurance business, where the company is not the leader, because of the
non-availability of the relevance information in many cases the premium is not booked
even though the risk has been commenced during the relevant accounting year. The
auditor should see that company’s share of the premium has been accounted for on the
basis of available information on nature of risks and the provisional premium charged by
the leading insurer. Where the company is the leader, the auditor should obtain a
reasonable assurance that only the company’s own share of premium has been shown as
income.
• Where the policies have been issued with a provision to collect premium periodically i.e.
under installment clause, the auditor should check whether the premium are collected as
and when they become due.
• The auditor should verify whether the installments falling due on or before the balance
sheet date, whether received or not, have been accounted for as premium income as for
the year under audit. Also examine whether installments of premium falling due in the
subsequent year have not been recognised in the accounts as outstanding premium.
• Verify the year end transactions to check the amounts received during the year in respect
of risks commencing/installments falling due on or after the first day of next financial
year are not credited to premium account but credited to premium received in advance
account.
• Verify the collections remitted by agents immediately after the cut –off date to verify the
risk assumed during the year under audit on those collections.
• In case of cancellation of polices where premium originally received has been refunded,
verify whether the agency commission paid on such premium has been recovered.
• Examine inoperative old dues and treatment given to them with reference to company
rules.
• Enquire into the reasons for relating the old balance dues.
• Ensure that recognition of premium income is as per the accounting standards and
instruction of the regulatory body of the country.
• Verify old debit balances which may require provision or adjustment. Notes of
explanation may be obtained from the management in this regard.
• Check age-wise, sector-wise analysis of outstanding premium.
• Verify whether outstanding premiums have since been collected.
• Check the availability of adequate bank guarantee or premium deposit for outstanding
Answer No. 15
The special steps involved in an audit of clubs are stated below:
a. Vouch the receipt on account of entrance fees with members' applications, counterfoils
issued to them, as well as on a reference to minutes, of the Managing Committee.
b. Vouch member's subscriptions with the counterfoils of receipt issued to them, trace
receipts for a selected period to the Register of Members; also reconcile the amount of
total subscriptions due with the amount collected and that outstanding.

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c. Ensure that arrears of subscriptions for the previous year have been correctly brought
over and arrears for the year under audit and subscriptions received in advance have
been correctly adjusted.
d. Check totals of various columns of the Register of members and tally them across.
e. See the Register of Members to ascertain the Member's dues which are in arrear and
enquire whether necessary steps have been taken for their recovery; the amount
considered irrecoverable should be mentioned in the Audit Report.
f. Verify the internal check as regards members being charged with the price of foodstuffs
and drinks provided to them and their guests, as well as, with the fees chargeable for the
special services rendered, such as billiards, tennis, etc.
g. Trace debits for a selected period from subsidiary registers maintained in respect of
supplies and services, to members to confirm that the account of every member has been
debited with amounts recoverable from him.
h. Vouch purchase of sports items, furniture, crockery, etc. and trace their entries into the
respective stock registers.
i. Vouch purchases of foodstuffs, cigars, wines, etc., and test their sale price so as to
confirm that the normal rates of gross profit have been earned on their sales. The stock
of unsold provisions and stores, at the end of year, should be verified physically and its
valuation checked.
j. Check the stock of furniture, sports material and other assets physically with the
respective stock registers or inventories prepared at the end of the year.
k. Inspect the share scrips and bonds in respect of investments, check their current values
for disclosure in final accounts; also ascertain that the arrangements for their safe
custody are satisfactory.
l. Examine the financial powers of the secretary and, if these have been exceeded, report
specific care for confirmation by the Managing Committee.

Answer No. 16
a) Before entering into a major joint venture or other collaboration with a company, a
collaboration partner will want to carry out a certain amount of due diligence. This is
particularly likely to be the case where a large company is forming a relationship for the
first time with a relatively small start-up company. The due diligence may not to be as
extensive as on an acquisition, but the larger company will be seeking comfort that its
investment will be secure and the small company has the systems, personnel, expertise
and resources to perform its obligations. The specific risk in any joint venture lies in the
uncertainty of whether the parties in the venture are able to make the required
contributions as committed in the joint venture agreement. Accordingly, financial due
diligence study needs to perform on the books of accounts and other information directly
pertaining to the financial matters of M/s P & Company. Similarly, a legal due diligence
might also be necessary where legal aspects of the operation of the company are
reviewed. Due diligence has to check the reliability and credit worthiness of the party as
well as the ability to make the agreed contributions. In this process, as a due diligence
auditor, I will cover the following significant key areas during my due diligence study:

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i. Checking the legal documents of the establishment of the company and review of the
legal aspects of the operation of the company.
ii. Checking the history of the company and the background of the owners/directors, the
control of the company. It may also help in determining whether any regulatory
requirement have had an impact on its business in the past.
iii. Review of the financial statements of current and past years is also very important. An
evaluation of the profit reported by the company would be largely based upon its
operating results. Any extra ordinary item of income or expense that might have
affected the operating results would require close scrutiny. The industrial operating
results comparison may also be required. In the process, valuation of the business is
also necessary. The net worth of the company has to be arrived at by taking into
account the impact of over/ under valuation of assets and liabilities. The expanded
range of assets and activities impacting venture performance and risks are to be
looked.
iv. Review the cash flow position of the company. A review of historical cash flows and
their pattern would reflect the cash generating capabilities of the company and should
highlight the major trends. It is also necessary to review if the company is able to
meet its liquidity requirements through internal sources or does it have to seek
external help from time to time.
v. Review of the other joint ventures or collaborations of the company with other
companies.
vi. Review the status of the work force, staff and employees and skills they pertain to
check the technical and operational capabilities.
vii. Review the statutory and regulatory Compliances. This area needs to be reviewed in
depth. It is important to make a list of laws and regulations that are applicable to the
company as well as to make a checklist of compliances required under those statutory
and regulatory provisions. The impact of serious violations if any should be quantified
and assessed in respect of the company‘s financial status and even it‘s going concern
status.
b) The objective of a compilation engagement is for the accountant to use accounting

expertise, as opposed to auditing expertise, to collect, classify and summarize financial
information. As per NSRS 4410 ‘Engagements to Compile Financial Statements’, the
accountant should ensure that there is a clear understanding, between the client and the
accountant, regarding the terms of the engagement. It is in the interests of both the
accountant and the entity that the accountant sends an engagement letter documenting the
key terms of the appointment. An engagement letter confirms the accountant’s acceptance
of the appointment and helps avoid misunderstanding regarding such matters as the
objectives and scope of the engagement, the extent of the accountant’s responsibilities
and the form of reports to be issued.
Matters to be considered in the terms of engagement include the following:
• Nature of the engagement including the fact that neither an audit nor a review will be
carried out and that accordingly no assurance will be expressed.

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• Fact that the engagement cannot be relied upon to disclose errors, illegal acts or other
irregularities, for example, fraud or defalcations that may exist.
• Nature of the information to be supplied by the client.
• Fact that management is responsible for the accuracy and completeness of the
information supplied to the accountant for the completeness and accuracy of the
compiled financial information.
• Basis of accounting on which the financial information is to be compiled and the fact
that it, and any known departures therefrom, will be disclosed.
• Intended use and distribution of the information, once compiled.
• Form of report to be rendered regarding the financial information compiled, when the
accountant’s name is to be associated therewith.
OTHER SERVICES
Answer No. 17
a) An Insolvency Practitioner often called as liquidator is someone who is licensed and
authorized to act in relation to an insolvent individual, partnership or company.
Insolvency practitioners are appointed to sort out difficult situations; where either an
individual or a business is insolvent or is likely to become insolvent. Initially, their main
task is to attempt to ‘rescue’ the situation. The functions of the insolvency practitioners
are also provided in different laws like companies act 2063, Bank and Financial
Institution Act 2073 and Insolvency Act 2063. In general, the functions of the insolvency
practitioners are as follows:
• To institute or defend any case or legal action on behalf of the company;
• Where any installment on any share of the company is due, to make a call on the
shareholder for payment of such installment;
• To examine the business and financial situation of the company;
• To do and execute, or cause to be done and executed, all such acts and deeds or
documents as required to be done and executed on behalf of the company and in the
name of the company and use the seal of the company for that purpose;
• To call and conduct the meeting of creditors;
• To accept debt claim of any creditor or to enter into compromise with any creditor of
the company or any person who claims to be a creditor of the company in relation to
the claim made by such creditor or person;
• To enter into compromise with any person against whom the company may make a
claim in relation to any loan, liability or any other claim;
• To get back any property of the company if such property is used by any person or to
institute legal action to get back such property or amount involved in a void
transaction.
• To collect, protect and sell the assets of the company
• To distribute the proceeds of sale of the assets of the company
• To perform, or cause to be performed all such other acts as may be necessary to
liquidate the company.
• To facilitate the cancellation of registration of the company

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• To examine or inquire into whether any director or employee or shareholder of the
company or any person has committed any fraud, cheating or deception against the
company or its creditors and institute necessary legal action against such person.
b) There are different types of asset misappropriation fraud for example cash theft – the
stealing of physical cash, for example petty cash, from the premises of a company,
fraudulent disbursements – company funds being used to make fraudulent payments,
inventory frauds – the theft of inventory from the company and misuse of assets –
employees using company assets for their own personal interest. Investigating issues
involving asset misappropriation or embezzlement is a complex and tricky process. These
matters demand in-depth training and hands-on forensic accounting and criminal
investigation experience. Following are some areas to be covered while investing assets
misappropriation:
• Testing controls to gather evidence which identifies the weaknesses, which allowed
the fraud to be perpetrated
• using analytical procedures to compare trends over time or to provide comparatives
between different segments of the business
• applying computer assisted audit techniques, for example to identify the timing and
location of relevant details being altered in the computer system
• discussions and interviews with employees and interviewing fact witnesses
• Substantive techniques such as reconciliations, cash counts and reviews of
documentation.
• Financial statement and disclosure analysis
• Document review, data mining and computer forensics
• Digital forensics and data analytics
• Asset tracing and identification of potential related parties
• Calculating damages
AUDIT UNDER COMPUTERIZED ENVIRONMENT

Answer No. 18
The overall objective and scope of an audit do not change in a Computer Information System
(CIS) environment. However, the use a computer changes the processing, storage, retrieval
and communication of financial information and may affect the accounting and internal
control systems employed by the entity. The specific risks to be considered while auditing in
CIS environment include the following:
a. Lack of Transaction Trails - Some computer information systems are designed so that a
complete transaction trail that is useful for audit purposes might exist for only a short
period of time or only in computer readable form. Where a complex application system
performs a large number of processing steps, there may not be a complete trail.
Accordingly errors embedded in an application’s program logic may be difficult to detect
on a timely basis by manual procedures.
b. Uniform processing of Transactions - Computer programs processing transactions

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c. Lack of Segregation of functions - Many controls becomes concentrated in a CIS
d. Potential for errors and Irregularities - The potential for human error in the development,
maintenance and execution of computer information systems may be greater than in
manual systems, because of the level of detail inherent in these activities. Also, the
potential for individuals to gain unauthorized access to data or to alter data without visible
evidence may be greater in CIS environment than in manual systems.
e. Initiation or Execution of Transactions - In a CIS process certain types of transactions are
triggered internally by the system, the authorization for which may not be documented as
in manual system. In such cases, management; authorization of these transactions may be
implicit.
f. Dependence of Other Controls over Computer Processing - Certain manual control
procedures are dependent on computer generated reports and outputs for their
controls.
g. Unauthorized access to data
h. Excessive access/privileged access to data
i. Direct data changes and loss of data
j. Unauthorized changes to systems or programs
COMPUTER ASSISTED AUDITING TECHNIQUES

Answer No. 19
In determining whether to use CAATS, the factors to consider include:
(i) The availability of sufficient IT knowledge, expertise and experience of the audit team;
Auditing in computer information systems environment deals with the level of skill and
competence the audit team needs to conduct an audit in a CIS environment. It provides
guidance when an auditor delegates work to assistants with CIS skills or when the auditor
uses work performed by other auditors or experts with such skills. Specifically, the audit
team should have sufficient knowledge to plan, execute and use the results of the
particular CAAT adopted. The level of knowledge required depends on “availability of
CAATS” and “suitable computer facilities”.
(ii) The availability of CAATs and suitable computer facilities and data:
The auditor may plan to use other computer facilities when the use of CAATs on an
entity’s computer is uneconomical or impractical, for example, because of an
incompatibility between the auditor’s package program and entity’s computer.
Additionally, the auditor may elect to use their own facilities, such as pcs or laptops. The
cooperation of the entity’s personnel may be required to provide processing facilities at a
convenient time, to assist with activities such as loading and running of CAAT on the
entity’s system, and to provide copies of data files in the format required by the auditor.
(iii)Impracticability of Manual Tests due to lack of evidence
Some audit procedures may not be possible to perform manually because they rely on
complex processing (for example, advanced statistical analysis) or involve amounts of
data that would overwhelm any manual procedure. In addition, many computer

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information systems perform tasks for which no hard copy evidence is available and,
therefore, it may be impracticable for the auditor to perform tests manually. The lack of
hard copy evidence may occur at different stages in the business cycle.
(iv) Impact on effectiveness and efficiency in extracting a data
The effectiveness and efficiency of auditing procedures may be improved by using
CAATs to obtain and evaluate audit evidence. CAATs are often an efficient means of
testing a large number of transactions or controls over large populations by analyzing and
selecting samples from a large volume of transactions; applying analytical procedures;
and performing substantive procedures. Matters relating to efficiency that an auditor
might consider include the time taken to plan, design, execute and evaluate CAAT;
technical review and assistance hours; designing and printing of forms (for example,
confirmations); and availability of computer resources.
(v) Time constraints
Certain data, such as transaction details, are often kept for a short time and may not be
available in machine-readable form by the time auditor wants them. Thus, the auditor will
need to make arrangements for the retention of data required, or may need to alter the
timing of the work that requires such data. Where the time available to perform an audit is
limited, the auditor may plan to use CAAT because its use will meet the auditor’s time
requirement better than other possible procedures.
JOINT AUDIT AND BRANCH AUDIT

Answer No. 20
It shall be the responsibility of each joint auditor to determine the nature, timing and extent of
audit procedures to be applied in relation to the areas of work allocated to the said joint
auditor. It is the individual responsibility of each joint auditor to study and evaluate the
prevailing system of internal control and assessment of risk relating to the areas of work
allocated to the said joint auditor. Before finalising their audit report, the joint auditors shall
discuss and communicate with each other their respective conclusions that would form the
content of the audit report.
Normally joint auditors have to arrive at an agreed report and issue a joint audit opinion on
the financial statement. However, where the joint auditors are in disagreement with regard to
any matters to be covered by the report, each one of them should express their own opinion
through a separate audit report. A joint auditor is not bound by the views of the majority of
the joint auditors regarding matters to be covered in the report and should express his opinion
in a separate report in case of disagreement. In such circumstances, the audit report(s) issued
by the joint auditor(s) shall make a reference to the separate audit report(s) issued by the
other joint auditor(s). Further, separate audit report shall also make reference to the audit
report issued by other joint auditors. Such reference shall be made under the heading “Other
Matter Paragraph” as per NSA 706, “Emphasis of Matter Paragraphs and Other Matter
Paragraphs in the Independent Auditor’s Report”.
In above case, if Mr. A and Mr. B have disagreements to some matters and this leads to
different opinions, then each of them needs to issue a separate audit report. Further, each of
them needs to include an ‘Other Matter’ paragraph in their respective audit report wherein
they would make a reference to the separate audit reports issued by other joint auditors.

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❖ Question 1
BB & Rare recently qualified Chartered Accountants. They have registered a CA firm BB &
R Associates and have hired six employees as seniors and trainees. BB recently called you
requesting you to present a paper on Quality Control guidelines that they should follow in
their new practice. You are required the four major aspects to be covered in designing quality
control system in an audit firm, highlighting the concept of hot review and cold review.
❖ Question 2
Compliance with the fundamental principles of IFAC code of conduct may potentially be
threatened by a broad range of circumstances. What are the categories of such threats? Give
some examples of the circumstances that may lead to such threats.
❖ Question No. 3
How would you explain the term “True and Fair View” in a simple manner to an investor
without sound knowledge of auditing?
❖ Question 4
What type of risks may be associated with the banking industry?
❖ Question 5
a) Mr X an auditor express his query with you as he faces In the course of his audit he has
come across a related party transaction which prima facie appears to be biased. How
would you suggest him to deal with this and what action you will take if you are in his
place?
b) During the course of audit of Rock Limited the auditor received some of the
confirmation of the balances of creditors outstanding in the balance sheet through
external confirmation by negative confirmation request. In the list of Sundry Creditors
there are number of creditors of small balances except one, old outstanding of NRs
25 Lacs, of whom, no confirmation on the credit balance received. Comment with
respect to Standard of Auditing.
❖ Question 6
P & Co, Chartered Accountants is the statutory auditor of Surya Ltd. For the financial year
ended on 31st Aashad 2077, Surya Ltd had disclosed in the notes (Note No. X) "The
pollution control board had ordered the closure of the company's only manufacturing
plant on the ground that it is environmentally damaging, which the company had
challenged in a law suit. Pending the outcome of the law suit the financial statements are
prepared on a going concern basis". Further the financial statements prepared by the
management of Surya Ltd include financial statements of certain branches which are
audited by other auditors. What are the reporting responsibilities of P & Co.?
❖ Question No. 7
The promoters of the regional level development banks from four different districts of Nepal
would like to merge as one owing to the increment in capital base required by the Nepal
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Rastra Bank. As such, they have come to you for a professional advice on legal provisions
and procedures of the merger.
Required:
As a professional, you are required to give them advice considering all the applicable laws,
regulations and directives issued by the regulators.
Audit Issue
❖ Question 8
How do misstatements in financial statements arise? The auditor of P&H Pvt. Ltd. during the
course of audit identified certain issues that reveal the potentialities of fraud in the
organization. In this circumstances, what steps the auditor need to follow?
❖ Question 9
How would you ensure that data inputted in computer information system is valid and
correct. Give brief explanation with points.
❖ Question 10
What are the nature of the risks included in the Internal Control System in CIS environment
?
❖ Question 11
Jaya Ltd, an entity publicly quoted on a stock exchange, owns 15% of the equity capital of
Ashtha Ltd. This equity investment is classified as “available for sale”. The year-end of Jaya
Ltd is December 31, 2010, and an interim report has been prepared on June 30, 2010, using
this NAS. On January 1, 2010, the fair value of the investment in Ashtha Ltd. was NRs. 2
million. The investment in Ashtha Ltd. was deemed to be impaired on June 30, 2010, and an
impairment loss of NRs. 500,000 was determined at that date. However, on December 31,
2010, the fair value of the investment in Ashtha Ltd. had risen to NRs. 2.3 million.
Required
Explain how the preceding transaction should be shown in the financial statements for the
period to December 31, 2010.
❖ Question 12
You are a manager in CPMG & Co, a firm which offers a range of services to audit and non-
audit clients. You have been asked to prepare audit strategy for Watsan Co. a company which
has been an audit client of CPMG & Co for past two years. The audit of the financial
statements for the year ended 31st Ashad 2077 has just commenced.
The audit strategy relevant to the audit of Watsan Co. concludes that the company has a
relatively high risk associated with money laundering, largely due to the cash-based nature of
its activities. The majority of customers purchase their cinema tickets and refreshments in
cash, and the company transfers its cash to overseas bank accounts on a regular basis.
Required:
i. Explain the stages used in laundering money, commenting on why Watsan Co has
been identified as high risk.
ii. Recommend FOUR elements of an anti-money laundering program which audit
firms such as CPMG & Co should have in place.
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AUDIT PROCESS
❖ Question 13
State the purpose of ‘letter of Engagement’.
❖ Question 14
Write Short on
a. Professional Judgement
b. Professional Skepticism
c. Inherent limitations of audit
❖ Question 15
Present your views on engagement partner responsibility for engagement quality control
review of listed entities.
❖ Question 16
Mr A, a respectable Chartered Accountant was requested by General Insurance Company
to Join its Board and also as a Chairman of Audit Committee. He expressed his
apprehensions that he is not having the requisite experience. Mr A seeks your view on the
responsibility of Audit Committee towards Insurance Board.
❖ Question 17
KRP Ltd., at its annual general meeting, appointed Mr. X, Mr. Y and Mr. Z as joint
auditors to conduct auditing for the financial year 2076-77. For the valuation of gratuity
scheme of the company, Mr. X, Mr. Y and Mr. Z wanted to refer their own known
Actuaries. Due to difference of opinion, all the joint auditors consulted their respective
Actuaries. Subsequently, major difference was found in the actuary reports. However,
Mr. X agreed to Mr. Y’s actuary report, though, Mr. Z did not. Mr. X contends that Mr.
Y’s actuary report shall be considered in audit report due to majority of votes. Now, Mr.
Z is in dilemma.
✓ You are required to briefly explain the responsibilities of auditors when they are
jointly and severally responsible in respect of audit conducted by them and also
guide Mr. Z in such situation.
❖ Question 18
Present a draft audit report highlighting the effect of major fire breakdown in factory of
P&H company.(Only present Basis of opinion, EOM,OM,KAM)
OTHER SERVICE
Question 19
Define forensic auditing ? Explain the major fraud that forensic auditor is required to
investigate .
Question 20
Explain the audit procedure for conducting the audit of Educational Institutions.
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Answer for Q. No. 01

Audit firms need to have policies and procedures to ensure that quality of their work is
satisfactory. Failure to do so may result in:
a) Audit failures in the short-term affecting the firm's market image and possible
disciplinary action against the partners and financial claims in certain countries,
excluding Nepal.
b) In the long term, the public confidence in the audit profession will be diminished.
Quality Control ensures that audit and assurance engagements are completed to an
appropriate standard and that the risk to a firm is reduced to an acceptable level. There are
two standards that set out the responsibilities of auditors regarding quality control:
a) Nepal Standards on Quality Control (NSQC)1: Quality control for firm's that
perform audits and review of historical Financial Information and other.
Assurance and related Service Engagement
b) NSA 220- Quality Control for an Audit of Financial Statements
BB & R Associates should consider these standards while designing their quality control
system. NSQC 1 identifies six building blocks of a firm's system of quality control.
Leadership; Client Relationships; Engagement Performance; Human Resources;
Monitoring; Ethics
a) Leadership
The firm's management should assume ultimate responsibility for the system of
quality control. They should establish:
✓ Policy and procedures to address performance evaluation, compensation and
promotion to demonstrate commitment to quality.
✓ Provision for resources sufficient for the development, documentation and
support of quality control procedures
✓ Assignment of management responsibility so that commercial consideration does
no override quality.
✓ Assignment of operational responsibility to those with sufficient and appropriate
experience, ability, and authority to implement those quality control procedures.
b) Human Resource
NSQC 1 sets out a principle-based guideline to the HR function. It stresses that is a
firm wants quality of work through its staffs, it needs to hire the best human resource,
work on developing their competency and capabilities by continuous training and
development, professional education, coaching, etc. and also reward them for their
quality.
c) Engagement Performance
NSQC 1 requires firms to establish policies and procedures designed to provide it
with reasonable assurance that engagements are performed in accordance with
professional standards and applicable legal frameworks, and that the reports issued are
appropriate in the circumstances. The three areas are:
✓ Matters relevant to promoting consistency in the quality of engagements.
✓ Supervision responsibilities and
✓ Review responsibilities
d) Monitoring
Quality control policies alone do not ensure good quality work. They must be
implemented effectively and therefore there should be systems to evaluate the
compliance with professional standards and regulatory requirements, and
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effectiveness of overall system. Monitoring is never effective without Hot Review and
Cold Review.
Hot Review
Hot review is referred to as Independent Quality Control Reviewer (ICQR) in NSQC 1.
appointed for all large assignments that the firm undertakes. Hot review is mandatory for
all listed clients and for other risky, public interest engagements, as appropriate. Hot
review is conducted:
a. Before the audit report is issued/finalized.
b. By an independent partner or consultant
c. Looking after processes underpinning judgement made about materiality,
independence, audit opinion, significant risks, matters requiring consultation and
overall compliance with professional standards.
An engagement quality control review includes an objective evaluation of:
✓ The significant judgments made by the engagement team; and
✓ The conclusions reached in formulating the auditor’s report. The engagement
partner should:
▪ Discuss significant matters arising during the audit engagement, including

those identified during the engagement quality control review, with the
engagement quality control reviewer; and
▪ • Not issue the auditor’s report until the completion of the engagement
quality control review.
Cold Review
Cold Review is conducted after the engagement has been completed to ensure that quality
control procedures are adequate and relevant, are operating effectively and are complied
with. It is conducted for selected engagements conducted by the firms and involves
wholesale review of all working papers on an audit file, normally by a dedicated
compliance or quality department/team or a qualified external consultant or an
independent partner. An annual report is provided to partners for areas that require
corrective action.
ANSWER OF Q. NO. 02
Many threats fall into the following categories:
a. Self-interest.
b. Self-review.
c. Advocacy.
d. Familiarity; and
e. Intimidation.
The nature and significance of the threats may differ depending on whether they arise in
relation to the provision of services to a financial statement audit client, a non-financial
statement audit assurance client or a non-assurance client.
Examples of circumstances that may create self-interest threats for a professional
accountant in public practice include, but are not limited to:
✓ A financial interest in a client or jointly holding a financial interest with a client.
✓ Undue dependence on total fees from a client
✓ Having a close business relationship with a client.
✓ Concern about the possibility of losing a client.
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✓ Potential employment with a client.

✓ Contingent fees* relating to an assurance engagement.
✓ A loan to or from an assurance client or any of its directors or officers.
Examples of circumstances that may create self-review threats include, but are not limited
to:
✓ The discovery of a significant error during a re-evaluation of the work of the
professional accountant in public practice.
✓ Reporting on the operation of financial systems after being involved in their design or
implementation. Having prepared the original data used to generate records that are
the subject matter of the engagement.
✓ A member of the assurance team∗ being, or having recently been, a director or
officer* of that client.
✓ A member of the assurance team being, or having recently been, employed by the
client in a position to exert direct and significant influence over the subject matter of
the engagement.
✓ Performing a service for a client that directly affects the subject matter of the
Examples of circumstances that may create advocacy threats include, but are not limited
to:
✓ Promoting shares in a listed entity when that entity is a financial statement audit
client.
✓ Acting as an advocate on behalf of an assurance client in litigation or disputes with
third parties. Examples of circumstances that may create familiarity threats include,
but are not limited to:
✓ A member of the engagement team having a close or immediate family relationship
with a director or officer of the client.
✓ A member of the engagement team having a close or immediate family relationship
with an employee of the client who is in a position to exert direct and significant
influence over the subject matter of the engagement.
✓ A former partner of the firm being a director or officer of the client or an employee in
a position to exert direct and significant influence over the subject matter of the
engagement.
✓ Accepting gifts or preferential treatment from a client, unless the value is clearly
insignificant.
✓ Long association of senior personnel with the assurance client.
Examples of circumstances that may create intimidation threats include, but are not
limited to:
✓ Being threatened with dismissal or replacement in relation to a client engagement.
✓ Being threatened with litigation.
✓ Being pressured to reduce inappropriately the extent of work performed in order to
reduce fees.
ANSWER OF Q. NO. 03
True and fair view is an opinion expressed by an auditor on the state of the financial
statements of an organization. It implies that the financial statements are presented fairly
in all materials respect the position, performance, cash flows and changes in equity of the
organization. The auditor expresses such opinion upon assessment of the internal control
system of the organization and test checking the financial transactions carried out during
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the fiscal year. The auditors act is guided by the provisions set forth in the Nepal
Standards on Auditing together with the Code of Ethics applicable to the professional
accountants.
As per NSA 200 “Objectives and General Principles Governing an Audit of Financial
Statements”, the auditor‘s expression of true and fair view is supposed to be received as
only the ‘Reasonable Assurance and not the Absolute Assurance’ of the state of the
financial statements. This implies that the users are not supposed to absolutely rely on
auditor‘s judgment for making their financial decisions relating to the organization. This
is because the auditor is not expected to, and cannot, reduce audit risk to zero and cannot
therefore obtain absolute assurance that the financial statements are free from material
misstatement due to fraud or error. This is because there are inherent limitations of an
audit, which result in most of the audit evidence on which the auditor draws conclusions
and bases the auditor‘s opinion being persuasive rather than conclusive.
Broadly speaking, the financial statements are considered as presenting to true and fair if:
✓ The information contained in them are not materially misstated.
✓ There is an appropriate application of Nepal Accounting Standards, with
additional disclosure in the case of companies registered under Companies Act
2063. In the case of other entities there is an appropriate application of generally
accepted accounting principles as is applicable; and
✓ They comply with the provisions of applicable laws and regulations of the
country.
ANSWER OF Q. NO. 04
The risks associated with banking activities may broadly be categorized as:
a) Credit risk
The risk that a customer or counterparty will not settle an obligation for full value,
either when due or at any time thereafter. Credit risk, particularly from commercial
lending, may be considered the most important risk in banking operations. Credit risk
arises from lending to individuals, companies, banks and governments. It also exists
in assets other than loans, such as investments, balances due from other banks and in
off-balance sheet commitments. Credit risk also includes country risk, transfer risk,
replacement risk and settlement risk.
b) Currency risk
The risk of loss arising from future movements in the exchange rates applicable to
foreign currency assets, liabilities, rights and obligations.
c) Interest rate risk
The Institute of Chartered Accountants of Nepal The risk that a movement in interest
rates would have an adverse effect on the value of assets and liabilities or would affect
interest cash flows.
d) Legal and documentary risk
The risk that contracts are documented incorrectly or are not legally enforceable in the
relevant jurisdiction in which the contracts are to be enforced or where the
counterparties operate. This can include the risk that assets will turn out to be worth
less or liabilities will turn out to be greater than expected because of inadequate or
incorrect legal advice or documentation. In addition, existing laws may fail to resolve
legal issues involving a bank; a court case involving a particular bank may have wider
implications for the banking business and involve costs to it and many or all other
banks; and laws affecting banks or other commercial enterprises may change. Banks
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are particularly susceptible to legal risks when entering into new types of transactions
and when the legal right of counterparty to enter into a transaction is not established.
e) Liquidity risk
The risk of loss arising from the changes in the bank’s ability to sell or dispose of an
asset. Operational risk The risk of direct or indirect loss resulting from inadequate or
failed internal processes, people and systems or from external events.
f) Regulatory risk
The risk of loss arising from failure to comply with regulatory or legal requirements in
the relevant jurisdiction in which the bank operates. It also includes any loss that
could arise from changes in regulatory requirements.
g) Reputational risk
The risk of losing business because of negative public opinion and consequential
damage to the banks reputation arising from failure to properly manage some of the
above risks, or from involvement in improper or illegal activities by the bank or its
senior management, such as money laundering or attempts to cover up losses.
Banks may be subject to risks arising from the nature of their ownership. For
example, a banks owner or a group of owners might try to influence the allocation of
credit. In a closely held bank, the owners may have significant influence on the banks
management affecting their independence and judgment. The auditor should consider
such risks as well.
ANSWER TO Q. NO. 05
a) The duties of an auditor with regard to reporting of transactions with related parties
are given in NSA 550 on Related Parties. As per NSA 550 on, “Related Parties”, the
auditor should review information provided by the management of the entity
identifying the names of all known related parties. Since it is the management,
which is primarily responsible for identification of related parties, NSA 550
requires that to identify names of all known related parties, the auditor may inspect
records or documents that may provide information about related party
relationships and transactions.
In this case, the auditor is finding a related party transaction which prima facie
appears to be biased. So the auditor is required to confirm the same. For
identified significant related party transactions outside the entity’s normal course of
business, the auditor shall inspect the underlying contracts or agreements, if any,
and evaluate whether:
i. The business rationale (or lack thereof) of the transactions suggests that
they may have been entered into to engage in fraudulent financial reporting or
to conceal misappropriation of assets.
ii. The terms of the transactions are consistent with management’s
explanations; and
iii. The transactions have been appropriately accounted for and disclosed in
accordance with the applicable financial reporting framework.
The auditor should also obtain audit evidence that the transactions have been
appropriately authorized and approved.
After obtaining further information on significant transactions outside the entity’s

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normal course of business enables the auditor to evaluate whether fraud risk factors,
if any, are present and, where the applicable financial reporting framework
establishes related party requirements, to identify the risks of material misstatement.
In addition, the auditor needs to be alert for transactions which appear unusual in the
circumstances and which may indicate the existence of previously unidentified
related parties. Where the applicable financial reporting framework establishes
related party requirements, the auditor shall obtain written representations from
management and, where appropriate, those charged with governance that they
have disclosed to the auditor the identity of the entity’s related parties and all
the related party relationships and transactions of which they are aware; and they
have appropriately accounted for and disclosed such relationships and transactions in
accordance with the requirements of the framework.
Finally, the auditor should report on the basis of this fact that the related party
relationships and transactions prevent the financial statements from achieving
true and fair presentation (for fair presentation frameworks); or they are not cause
for the financial statements to be misleading (for compliance frameworks).
b) As per NSA 505, “External Confirmation”, ‘Negative Confirmation’ is a request

that the confirming party respond directly to the auditor only if the confirming
party disagrees with the information provided in the request. Negative
confirmations provide less persuasive audit evidence than positive confirmations.
The failure to receive a response to a negative confirmation request does not

explicitlyindicate receipt by the intended confirming party of the confirmation
request or verification of the accuracy of the information contained in the request.
Accordingly, a failure of a confirming party to respond to a negative confirmation
request provides significantly less persuasive audit evidence than does a response
to a positive confirmation request. Confirming parties also may be more likely to
respond indicating their disagreement with a confirmation request when the
information in the request is not in their favor, and less likely to respond
otherwise.
In the instant case, the auditor sent the negative confirmation requesting the
creditors having outstanding balances in the balance sheet while doing audit of
Rock Limited. One of the old outstanding of NRs 25 lacs has not sent the
confirmation on the credit balance. In case of non-response, the auditor may
examine subsequent cash disbursements or correspondence from third parties, and
other records, such as goods received notes. Further non response for negative
confirmation request does not means that there is some misstatement as negative
confirmation request itself is to respond to the auditor only if the confirming
party disagrees with the information provided in the request.
But, if the auditor identifies factors that give rise to doubts about the reliability of
the response to the confirmation request, he shall obtain further audit evidence to
resolve those doubts.
ANSWER TO Q. NO. 06
This question involves two broad aspect with respect to reporting requirements i.e.
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i. one which deals with Going Concern aspect where the company has gone for
legal suit and
ii. other is work done by other auditors.
As per facts of the case, the Pollution Control Board has issued the closure order
for Surya Ltd., on account of environmental damaging by its only manufacturing
plant. However, Surya Ltd had challenged the same by way of a law suit. Due to
pendency of the outcome of the legal suit, the company has prepared its financial
statements on going concern basis.
As per NSA 570 “Going Concern”, under the going concern assumption, an entity is
viewed as continuing in business for the foreseeable future. General purpose
financial statements are prepared on a going concern basis, unless management either
intends to liquidate the entity or to cease operations or has no realistic alternative but to
do so. Management’s assessment of the entity’s ability to continue as a going concern
involves making a judgment, at a particular point in time, about inherently uncertain
future outcomes of events or conditions.
The auditor’s responsibility is to obtain sufficient appropriate audit evidence about the
appropriateness of management’s use of the going concern assumption in the
preparation and presentation of the financial statements and to conclude whether
there is a material uncertainty about the entity’s ability to continue as a going
concern. For this the auditor may take the help of expert.
As per NSA 620, “Using the Work of an Auditor’s Expert”, if expertise in a field is
necessary to obtain sufficient appropriate audit evidence, he may determine to use the
work of an auditor’s expert. On the basis of expert’s opinion he may decide to rely or
not on assessment of management.
As per NSA 570 “Going Concern”, pending legal proceedings is a condition that,
individually, may cast significant doubt about the going concern assumption. Existence
of above condition signifies that a material uncertainty exists.
Further, when the auditor concludes that the use of the going concern assumption is
appropriate in the circumstances but a material uncertainty exists, the auditor shall
determine whether the financial statements:
i. Adequately describe the principal events or conditions that may cast significant
doubt on the entity’s ability to continue as a going concern and management’s
plans to deal with these events or conditions; and
ii. Disclose clearly that there is a material uncertainty related to events or

conditions that may cast significant doubt on the entity’s ability to continue as a
going concern and, therefore, that it may be unable to realize its assets and
discharge its liabilities in the normal course of business.
If adequate disclosure is made in the financial statements, the auditor shall express an
unmodified opinion and include an Emphasis of Matter paragraph as per NSA
706(Revised) “Emphasis of matter paragraphs and other matter paragraphs in the
Independent Auditor’s Report”, in the auditor’s report to:
i. Highlight the existence of a material uncertainty relating to the event or
condition that may cast significant doubt on the entity’s ability to continue as a
going concern; and
ii. Draw attention to the note in the financial statements that discloses the matters.
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In the present situation, management of Surya Ltd. had disclosed the above fact in
the financial statement. Further, use of the going concern assumption is appropriate but
a material uncertainty exists so assuming the assessment and disclosure of Surya Ltd.
in order, P & Co. should include an Emphasis of Matter paragraph in the auditor’s
report.
Further, as per NSA 600 “Using the work of Another Auditor”, when the principal
auditor has to base his opinion on the financial information of the entity as a whole
relying upon the statements and reports of the other auditors, his report should state
clearly the division of responsibility for the financial information of the entity by
indicating the extent to which the financial information of components audited by the
other auditors have been included in the financial information of the entity, e.g., the
number of divisions/ branches/ subsidiaries or other components audited by other
auditor.
ANSWER TO Q. NO. 7
Section 69 of BAFIA, 2063 has laid down provisions regarding the mergers. As per this
section following action should be taken by these banks:
1. If any licensed institution wishes to be merged with or merging another licensed
institution, both the merged licensed institutions shall adopt a special resolution to
that effect in their respective general meetings and make a joint application, setting
out the following matters, Nepal Rastra Bank for approval:
a. Audit report of the last fiscal year of the merging licensed institution, along with
its balance sheet, profit and loss account, cash flow statement and other financial
statements.
b. A copy of the written consent of the creditors of both the merging and merged
licensed institutions to merge or to be merged.
c. Valuation of the movable and immovable properties of, and actual details of
assets and liabilities of, the merging licensed institution.
d. A copy of the decision as to the employees of the merging licensed institution.
e. Such other necessary matters as prescribed by Nepal Rastra Bank in relation to
the merger of the licensed institutions.
2. If an application is made for approval pursuant to sub-section (1), Nepal Rastra
Bank shall examine the documents and returns attached with the application and
decide whether or not to grant approval for the merger of the licensed institutions
with each other and give information thereof to the concerned licensed institutions
within forty-five days, and within a period of additional days if Nepal Rastra Bank
has demanded any returns or document in the course of making decision.
3. Notwithstanding anything contained elsewhere in this Act, Nepal Rastra Bank shall
not grant approval for the merger of any two more than two licensed institutions if
it sees that the merger of such licensed institutions is likely to create an
environment of unhealthy competition or to give rise to the monopoly or controlled
practices of any licensed institution in the financial sector.
4. On receipt of an approval from Nepal Rastra Bank for merger pursuant to Sub-
section (2), all the assets and liabilities of the merging licensed institution shall be
transferred to the merged licensed institution.
5. Nepal Rastra Bank shall maintain records of the merged licensed institutions.
6. Nepal Rastra Bank may issue necessary directives in relation to other procedures
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relating to the merger of licensed institutions.

7. Nepal Rastra Bank shall publish in a newspaper of national circulation at least once
within thirty days after the date of decision a notice containing the particulars of
the decision made by it in relation to the merger of any licensed institution for the
information of the general public.
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ANSWER TO Q. NO. 08
NSA 240 specifies that misstatements in the financial statements can arise from either
fraud or error. The distinguishing factor between fraud and error is whether the
underlying action that results in the misstatement of the financial statements is intentional
or unintentional. The primary responsibility for the prevention and detection of fraud rests
with both those charged with governance of the entity and management. Fraud is an
intentional act by one or more individuals among management, those charged with
governance, employees, or third parties, involving the use of deception to obtain an unjust
or illegal advantage.
Responsibilities of the Auditor

An auditor conducting an audit in accordance with NSAs is responsible for obtaining
reasonable assurance that the financial statements taken as a whole are free from material
misstatement, whether caused by fraud or error. Owing to the inherent limitations of an
audit, there is an unavoidable risk that some material misstatements of the financial
statements may not be detected, even though the audit is properly planned and performed
in accordance with the NSAs.
Unless the auditor has reason to believe the contrary, the auditor may accept records and
documents as genuine. If conditions identified during the audit cause the auditor to
believe that a document may not be authentic or that terms in a document have been
modified but not disclosed to the auditor, the auditor shall investigate further Where
responses to inquiries of management or those charged with governance are inconsistent,
the auditor shall investigate the inconsistencies.
If the auditor identifies a misstatement, the auditor shall evaluate whether such a
misstatement is indicative of fraud. If there is such an indication, the auditor shall
evaluate the implications of the misstatement in relation to other aspects of the audit,
particularly the reliability of management representations, recognizing that an instance of
fraud is unlikely to be an isolated occurrence If the auditor identifies a misstatement,
whether material or not, and the auditor has reason to believe that it is or may be the
result of fraud and that management (in particular, senior management) is involved, the
auditor shall reevaluate the assessment of the risks of material misstatement due to fraud
and its resulting impact on the nature, timing and extent of audit procedures to respond to
the assessed risks. The auditor shall also consider whether circumstances or conditions
indicate possible collusion involving employees, management or third parties when
reconsidering the reliability of evidence previously obtained. If the auditor confirms that,
or is unable to conclude whether, the financial statements are materially misstated as a
result of fraud the auditor shall evaluate the implications for the audit.
Auditor Unable to Continue the Engagement

If, as a result of a misstatement resulting from fraud or suspected fraud, the auditor
encounters exceptional circumstances that bring into question the auditor‘s ability to
continue performing the audit, the auditor shall:
a) Determine the professional and legal responsibilities applicable in the circumstances,
including whether there is a requirement for the auditor to report to the person or
persons who made the audit appointment or, in some cases, to regulatory authorities.
b) Consider whether it is appropriate to withdraw from the engagement, where
withdrawal is possible under applicable law or regulation; and
c) If the auditor withdraws:
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i. Discuss with the appropriate level of management and those charged with
governance the auditor‘s withdrawal from the engagement and the reasons for the
withdrawal; and
ii. Determine whether there is a professional or legal requirement to report to the
person or persons who made the audit appointment or, in some cases, to
regulatory authorities, the auditor‘s withdrawal from the engagement and the
reasons for the withdrawal.
ANSWER TO Q. NO. 09
Input into the CIS system should be properly Checked, authorized and approved. The
auditor should assure that system verify all significant data fields used to record
information i.e., Should perform editing of the data. For validation of input controls, the
following procedure can be applied:
a) Pre-printed form - All constant information be printed on a source document. For
example, if only limited number of responses to a question is considered
appropriate then preprint the responses and have the user tick or circle the correct
responses deleting those that are inappropriate.
b) Check Digit - Errors made in transcribing and keying data can have serious
consequences. One control used to guard against these types of errors is a ‘Check
Digit’. A Check Digit is a redundant digit (s) added to a code that enables the
accuracy of other characters in the code to be checked. The check digit can act as a
prefix or suffix character or it can be placed somewhere in the middle of the code.
When the code is entered, a program recalculates the check digit to determine
whether the entered check digit and the calculated check digit are the same. If they
are the same, the code is most likely to be correct.
c) Completeness Totals - To input data erroneously is one type error. To leave out or
lose data completely is another type of error against which controls are provided.
i. Batch Control Totals - The transactions are collected together in batches of
say, 50 transactions. A total of all the data value of some important field is
made. For example, if a batch of invoices is to be imputed a total of all the
invoices amounts might be calculated manually. The control total is then
compared with a computer-generated control total, after input of batch
transaction. A difference indicates either a lost transaction or the input of an
incorrect invoice total. The method is not foot proof as compensating errors is
possible.
ii. Batch Hash Total - The idea is similar to control totals except that Hash totals
are meaningless totals prepared purely for control purposes. The total of all
customer account numbers in a batch is meaningless but may be used for
control by comparing it with computer generated hash totals.
iii. Batch Record Totals - Account is taken of the number of transactions and this
is compared with the record count produced by the computer at the end of the
batch.
iv. Sequence Checks - Documents may be pre-numbered sequentially before entry
and at a later stage the computer will perform a sequence check and display
any missing number.
d) Reasonableness Checks - These are sophisticated forms of limit checks. An
example might be a check on an electricity meter reading. The check might
consists of subtracting the last reading recorded from the current reading and
comparing this with the average usage for that quarter. If the reading differs by a
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given percentage then it is investigated before processing

e) Field Checks - The following types of field checks may be applied:
i. Missing data / blank - Is there any missing data in the field? If a code
should contain 2 hyphens, though they might be in a variable position, can
only one be detected? Does the field contain blanks when data always should
be present.
ii. Alphabetic / Numeric - Does a field that should contain only alphabetic or
numeric contain alphanumeric characters?
iii. Range - Does the data for a field fall within its allowable value range?
iv. Master Reference - If the master file can be referenced at the same time
input data is read, is there a master file match for the key field?
v. Size - If variable - length fields are used and a set of permissible sizes is
defined does the field delimiter show the field to be one of these valid sizes?
vi. Format Mask - Data entered into a field might have to conform to a
particular format, like ‘yy mm dd.’
f) Record Checks - The following types of record checks can be applied:

i. Reasonableness - Even though a field value might pass a range check, the
contents of another field might determine what a reasonable value for the
field is.
ii. Valid-Sign-Numeric - The content of one field might determine which sign
is valid for a numeric field.
iii. Size - If Variable - length records are used, the size of the record is a
function of the sizes of the variable length fields or the sizes of fields that
optionally might be omitted from the record. The permissible size of the
fixed and variable - length records also might depend on a field indicating
the record type.
g) File Checks - In file checks, validation control examines whether the
characteristics of a file used during data entry are matching with the stated
characteristics of the file. For example, if auditors validate some of the
characteristic of data that is keyed into an application system against a master file,
they can check whether they are using the latest version of the master file.
ANSWER TO Q. N. 10
The nature of the risks and the Internal Control System in CIS environment include the
following:
a) Lack of Transaction Trails - Some computer information systems are designed so
that a complete transaction trail that is useful for audit purposes might exist for only a
short period of time or only in computer readable form. Where a complex application
system performs a large number of processing steps, there may not be a complete
trail. Accordingly, errors embedded in an application’s program logic may be difficult
to detect on a timely basis by manual procedures.
b) Uniform processing of Transactions - Computer programs processing transactions
c) Lack of Segregation of functions - Many controls become concentrated in a CIS
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d) Potential for errors and Irregularities - The potential for human error in the
development, maintenance and execution of computer information systems may be
greater than in manual systems, because of the level of detail inherent in these
activities. Also, the potential for individuals to gain unauthorized access to data or to
alter data without visible evidence may be greater in CIS environment than in manual
systems.
e) Initiation or Execution of Transactions - In a CIS process certain types of
transactions are triggered internally by the system, the authorization for which may
not be documented as in manual system. In such cases, management; authorization of
these transactions may be implicit.
f) Dependence of Other Controls over Computer Processing - Certain manual
control procedures are dependent on computer generated reports and outputs for their
controls.
ANSWER TO Q. NO. 11
The financial asset should be reviewed for impairment at the date of the interim
financial report, and therefore an impairment loss of NRs. 500,000 should be
recognized in the Statement of comprehensive income at that date. The increase in
value of Nrs.800,000 from July 1, 2010, to December 31, 2010, should be taken to
equity. If the entity had not prepared an interim report, then a gain of NRs. 300,000
would have been taken to equity on December 31, 2010. It is the frequency of the
preparation of the Statement of Financial Positions that affects the annual results.
Answer of Q. No. 12
i) There are three stages typically involved in money laundering.
✓ The first is placement, which is when cash obtained through criminal activity is
first placed into the financial system. Business owners who have illegally
obtained funds can use a cash-intensive business to mix legitimate cash receipts
from business activity with the funds they wish to launder. For Watsan Co, the
fact that most customers are likely to pay in cash indicates that it would be easy
for genuine and illegal cash to be mixed up and banked, thereby placing the
illegal cash into the financial system.
✓ The second stage is layering. This is when cash is disguised by passing it through
complex transactions involving many layers, making the transactions difficult to
trace. This often involves moving the cash internationally, which adds a layer of
complexity to the layering process. Watsan Co transfers sums of cash to overseas
bank accounts, indicating that layering may be taking place.
✓ The final stage is integration, which is when the illegally gained funds are moved
back into the legitimate economy. At this point the funds have become „clean‟
and are invested in property or financial instruments or otherwise spent. Watsan
Co may be planning to invest a large sum of cash, in its cinema upgrade and
refurbishment Programme, which could be the integration stage of money
laundering.
ii) There are many elements which should be in place as part of an anti-money
laundering Programme. The audit firm must appoint a Money Laundering Reporting
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Officer (MLRO), who should have a suitable level of seniority and experience;
usually this would be a senior partner in the audit firm. Suspicions of money
laundering should be reported to the MLRO, who considers whether the matter should
be referred to agencies such as the Serious Organized Crime Agency and prepares and
keeps the appropriate documentation.
There are also firm-wide elements of an anti-money laundering Programme. A
training Programme is essential, to ensure that individuals are aware of the relevant
legislation and regulations regarding money laundering. Individuals should also be
trained in the firms identification, record keeping and reporting policies. Individuals
should also be trained in the money laundering risk factors and be able to identify
such risk factors and respond appropriately, and in matters such as tipping off
offences.
An important part of anti-money laundering is customer due diligence or know your
client procedures. This means that audit firms must establish the identity of clients
using documents such as certificates of incorporation and passports and should obtain
information about business activities in order to gain an understanding of matters such
as sources of income, and the rationale for business transactions.
Finally, the audit firm must ensure that it maintains records of client identification
procedures, and of all transactions relevant to audit clients, for example, the receipt of
cash for services performed. This is important to ensure that the audit firm does not
inadvertently become party to a transaction involving money laundering.
ANSWER TO Q. NO. 13
It is in the interests of both the entity and the auditor that the auditor sends an audit
engagement letter before the commencement of the audit to help avoid
misunderstandings with respect to theaudit. NSA 210 “Agreeing the Terms of Audit
Engagements” has been issued on this subject. Accordingly, the agreed terms of the
audit engagement shall be recorded in an audit engagementletter or other suitable
form of written agreement and shall include:
a) The objective and scope of the audit of the financial statements.
b) The responsibilities of the auditor.
c) The responsibilities of management.
d) Identification of the applicable financial reporting framework for the preparation
of the financial statements; and
e) Reference to the expected form and content of any reports to be issued by the
auditor and a statement that there may be circumstances in which a report may
differ from its expected form and content.
If law or regulation prescribes in sufficient detail the terms of the audit engagement,
the auditor need not record them in a written agreement, except for the fact that such
law or regulation applies and that management acknowledges and understands its
responsibilities.
The form and content of the audit engagement letter may vary for each entity.
Information included in the audit engagement letter on the auditor’s responsibilities
may be based on NSA.
200. In addition to matters above mentioned, an audit engagement letter may make
reference to, for example:
✓ Elaboration of the scope of the audit, including reference to applicable
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legislation, regulations, NSAs, and ethical and other pronouncements of

professional bodies to which the auditor adheres.
✓ The form of any other communication of results of the audit engagement.
✓ The fact that because of the inherent limitations of an audit, together with the
inherent limitations of internal control, there is an unavoidable risk that some
material misstatements may not be detected, even though the audit is properly
planned and performed in accordancewith NSAs.
✓ Arrangements regarding the planning and performance of the audit, including the
composition of the audit team.
✓ The expectation that management will provide written representations.
✓ The agreement of management to make available to the auditor draft financial
statements and any accompanying other information in time to allow the auditor
to complete the auditin accordance with the proposed timetable.
✓ The agreement of management to inform the auditor of facts that may affect the
financial statements, of which management may become aware during the period
from the date of the auditor’s report to the date the financial statements are
issued.
✓ The basis on which fees are computed and any billing arrangements.
✓ A request for management to acknowledge receipt of the audit engagement
letter and toagree to the terms of the engagement outlined therein.
ANSWER TO Q. N. 14
Professional Skepticism
Professional skepticism is an attitude that includes a questioning mind, being alert to
conditions which may indicate possible misstatement due to error or fraud, and a critical
assessment of audit evidence. The auditor should plan and perform the audit with an
attitude of professional skepticism recognizing that circumstances may exist which cause
the financial statements to be materially misstated. Professional skepticism includes being
alert to, for example:
✓ Audit evidence that contradicts another audit evidence obtained.
✓ Information that brings into question the reliability of documents and responses to
inquiries to be used as audit evidence.
✓ Conditions that may indicate possible fraud.
✓ Circumstances that suggest the need for audit procedures in addition to those
required by the NSAs.
Maintaining professional skepticism throughout the audit is necessary if the auditor is, for
example, to reduce the risks of:
✓ Overlooking unusual circumstances.
✓ Over generalizing when drawing conclusions from audit observations.
✓ Using inappropriate assumptions in determining the nature, timing and extent of
the audit procedures and evaluating the results thereof.
Professional Judgment
Professional judgment refers to the application of relevant training, knowledge and
experience, within the context provided by auditing, accounting and ethical standards, in
making informed decisions about the courses of action that are appropriate in the
circumstances of the audit engagement. The auditor shall exercise professional judgment
in planning and performing an audit of financial statements. It also needs to be
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appropriately documented. Professional judgment is not to be used as the justification for

decisions that are not otherwise supported by the facts and circumstances of the
engagement or sufficient appropriate audit evidence. Professional judgment is necessary
in particular regarding decisions about:
✓ Materiality and audit risk.
✓ The nature, timing and extent of audit procedures used to meet the requirements of
the NSAs and gather audit evidence.
✓ Evaluating whether sufficient appropriate audit evidence has been obtained, and
whether more needs to be done to achieve the objectives of the NSAs and thereby,
the overall objectives of the auditor.
✓ The evaluation of management’s judgments in applying the entity’s applicable
financial reporting framework.
✓ The drawing of conclusions based on the audit evidence obtained, for example,
assessing the reasonableness of the estimates made by management in preparing
Inherent limitations of audit

The auditor is not expected to, and cannot, reduce audit risk to zero and cannot therefore
obtain absolute assurance that the financial statements are free from material
misstatement due to fraud or error. This is because there are inherent limitations of an
audit, which result in most of the audit evidence on which the auditor draws conclusions
and bases the auditor’s opinion being persuasive rather than conclusive. The inherent
limitations of an audit arise from:
✓ The nature of financial reporting.
✓ The nature of audit procedures; and
✓ The need for the audit to be conducted within a reasonable period of time and at a
reasonable cost.
ANSWER TO Q. N. 15
For audits of financial statements of listed entities, the engagement partner shall:
a) Determine that an engagement quality control reviewer has been appointed.
b) Discuss significant matters arising during the audit engagement, including those
identified during the engagement quality control review, with the engagement
quality control reviewer; and
c) Not date the auditor’s report until the completion of the engagement quality
control review.
An engagement quality control review for audits of financial statements of listed entities
includes considering the following:
a) The engagement team’s evaluation of the firm’s independence in relation to the
audit engagement.
b) Whether appropriate consultation has taken place on matters involving
differences of opinion or other difficult or contentious matters, and the
conclusions arising from those consultations; and
c) Whether audit documentation selected for review reflects the work performed in
relation to the significant judgments and supports the conclusions reached.
d) Significant risks identified during the engagement and the responses to those
risks including the engagement team’s assessment of, and response to, the risk
of fraud.
e) Judgments made, particularly with respect to materiality and significant risks.
f) The significance and disposition of corrected and uncorrected misstatements
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identified during the audit.

g) The matters to be communicated to management and those charged with
governance and, where applicable, other parties such as regulatory bodies.
ANSWER TO Q. NO. 16
Responsibility of Audit Committee towards Insurance Board shall be as follows:

a) To review the financial statements of the insurer and ascertain the validity,
integrity and accuracy of the information contained in the statement,
b) To regulate, monitor and ascertain whether or not the accounts, budget and
internal control system of insurer are appropriate,
c) To inspect and monitor whether or not the procurement system of the insurer is
appropriate and efficient.
d) To ascertain whether or not insurer’s books of records, the records and
documents of internal audit system or electronic records are maintained in
appropriate way,
e) To ascertain whether or not the functions regarding insurance underwriting,
insurance claims, investment and re-insurance are carried in proper way and
the related records and documents are kept appropriately.
f) To ascertain whether the insurer’s accounts, audit, balance sheet or financial
statements are in accordance with the prevailing law, directives of the
Insurance Board and rules of insurer,
g) To furnish opinion on the subjects as required by the Board of Directors,
h) To ascertain whether or not the instructions given by Insurance Board has been
complied.
The audit committee shall submit the report of its actions and performance to Board
of Directors of the insurer.
ANSWER TO Q. NO. 17
Difference of Opinion among Joint Auditors:

NSA 299 on, “Responsibility of Joint Auditors” deals with the professional
responsibilities, which the auditors undertake in accepting such appointments as joint
auditors. In respect of the work divided amongst the joint auditors, each joint auditor
is responsible only for the work allocated to him, whether or not he has made a
separate report on the work performed by him. On the other hand the joint auditors
are jointly and severally responsible in respect of the audit conducted by them as
under:
i. in respect of the audit work which is not divided among the joint auditors and is
carried out by all of them.
ii. in respect of decisions taken by all the joint auditors concerning the nature,
timing or extent of the audit procedures to be performed by any of the joint
auditors.
iii. in respect of matters which are brought to the notice of the joint auditors by any
one of them and on which there is an agreement among the joint auditors.
iv. for examining that the financial statements of the entity comply with the
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disclosure requirements of the relevant statute.

v. for ensuring that the audit report complies with the requirements of the relevant
statute.
vi. it is the separate and specific responsibility of each joint auditor to study and
evaluate the prevailing system of internal control relating to the work allocated
to him, the extent of enquiries to be made in the course of his audit.
vii. the responsibility of obtaining and evaluating information and explanation from
the management is generally a joint responsibility of all the auditors.
Normally, the joint auditors are able to arrive at an agreed report. However where the
joint auditors are in disagreement with regard to any matters to be covered by the
report, each one of them should express their own opinion through a separate report.
A joint auditor is not bound by the views of majority of joint auditors regarding
matters to be covered in the report and should express his opinion in a separate report
in case of a disagreement.
In the instant case, there are three auditors, namely, Mr. X, Mr. Y and Mr. Z, jointly
appointed as an auditor of KRP Ltd. For the valuation of gratuity scheme of the
Company they referred their own known Actuaries. Mr. Z (one of the joint auditor) is
not satisfied with the report submitted by Mr. Y’s referred actuary. He is not agreed
with the matters to be covered by the report whereas Mr. X agreed with the same.
Hence, as per NSA 299, Mr. Z is suggested to express his own opinion through a
separate report whereas Mr. X and Mr. Y may provide their joint report for the same.
ANSWER TO Q. NO. 18
INDEPENDENT AUDITOR’S REPORT

To the Shareholders of P&H Company
Report on the Audit of the Financial Statements

Opinion
We have audited the financial statements of P&H Company (the Company), which
comprise the statement of financial position as of December 31, 20X1, and the
statement of comprehensive income, statement of changes in equity and statement of
cash flows for the year then ended, and notes to the financial statements, including a
summary of significant accounting policies. In our opinion, the accompanying
financial statements present fairly, in all material respects, (or give a true and fair
view of) the financial position of the Company as of December 31, 20X1, and (of) its
financial performance and its cash flows for the year then ended in accordance with
Nepal Financial Reporting Standards (NFRSs)
Basis for Opinion

We conducted our audit in accordance with Nepal Standards on Auditing (NSAs).
Our responsibilities under those standards are further described in the Auditor’s
Responsibilities for the Audit of the Financial Statements section of our report. We
are independent of the Company in accordance with the ethical requirements that are
relevant to our audit of the financial statements in [jurisdiction], and we have fulfilled
our other ethical responsibilities in accordance with these requirements. We believe
that the audit evidence we have obtained is sufficient and appropriate to provide a
basis for our opinion.
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Emphasis of Matter
We draw attention to Note X of the financial statements, which describes the effects
of a fire in the Company’s production facilities. Our opinion is not modified in
respect of this matter.
Key Audit Matters

Key audit matters are those matters that, in our professional judgment, were of most
significance in our audit of the financial statements of the current period. These
matters were addressed in the context of our audit of the financial statements as a
whole, and in forming our opinion thereon, and we do not provide a separate opinion
on these matters.
Other Matter
The financial statements of P&H Company for the year ended December 31, 20X0,
were audited by another auditor who expressed an unmodified opinion on those
statements on March 31, 20X1.
ANSWER TO Q. N. 19
Forensic auditing’ refers to the specific procedures carried out in order to produce
evidence. Audit techniques are used to identify and to gather evidence to prove, for
example, how long the fraud has been carried out, and how it was conducted and
concealed by the perpetrators. Evidence may also be gathered to support other issues
which would be relevant in the event of a court case. Such issues could include:
✓ the suspect’s motive and opportunity to commit fraud.
✓ whether the fraud involved collusion between several suspects any physical
evidence at the scene of the crime or contained in documents
✓ comments made by the suspect during interviews and/or at the time of arrest.
✓ attempts to destroy evidence.
The purpose of the Forensic auditing, in the case of fraud, would be to discover if a
fraud had actually taken place, to identify those involved, to quantify the monetary
amount of the fraud (i.e. the financial loss suffered by the client), and to ultimately
present findings to the client and potentially to court. The forensic accountant could be
asked to investigate many different types of fraud. The three categories of frauds are.
a) Corruption,
b) Asset misappropriation and
c) Financial statement fraud.
Corruption
There are three types of corruption fraud: conflicts of interest, bribery, and extortion.
Research shows that corruption is involved in around one third of all frauds.
✓ In a conflict-of-interest fraud, the fraudster exerts their influence to achieve a
personal gain which detrimentally affects the company. The fraudster may not
benefit financially, but rather receives an undisclosed personal benefit as a result
of the situation. For example, a manager may approve the expenses of an
employee who is also a personal friend in order to maintain that friendship, even
if the expenses are inaccurate.
✓ Bribery is when money (or something else of value) is offered in order to
influence a situation.
✓ Extortion is the opposite of bribery and happens when money is demanded
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(rather than offered) in order to secure a particular outcome.

Asset misappropriation
By far the most common frauds are those involving asset misappropriation, and there
are many different types of fraud which fall into this category. The common feature is
the theft of cash or other assets from the company, for example:
✓ Cash theft – the stealing of physical cash, for example petty cash, from the
premises of a company.
✓ Fraudulent disbursements – company funds being used to make fraudulent
payments. Common examples include billing schemes, where payments are made
to a fictitious supplier, and payroll schemes, where payments are made to fictitious
employees (often known as ‘ghost employees’).
✓ Inventory frauds – the theft of inventory from the company.
✓ Misuse of assets – employees using company assets for their own personal
interest.
Financial statement fraud

This is also known as fraudulent financial reporting and is a type of fraud that causes a
material misstatement in the financial statements. It can include deliberate falsification
of accounting records; omission of transactions, balances, or disclosures from the
financial statements; or the misapplication of financial reporting standards. This is often
carried out with the intention of presenting the financial statements with a particular
bias, for example concealing liabilities in order to improve any analysis of liquidity and
gearing.
ANSWER TO Q. NO. 20
Audit of books of educational institutions i.e. Schools, Colleges, Universities etc. is
known as audit of educational institutions. This type of audit comes under the category of
special audit.
Generally, the procedure for auditing is same as other audit even auditor need to follow
other steps.
The special steps involved in the audit of an educational institution are the following:
i. Examine the Trust Deed or Regulations in the case of school and note all the
provision affecting accounts. In the case of a university, refer to the Act of
Legislature and the Regulations framed there under.
ii. Read through the minutes of the meetings of the Managing committee or
Governing Body, noting resolutions effecting accounts to see these have been
duly complied with, specially the decisions as regards the operation of bank
accounts and sanctioning of expenditure.
iii. Check names entered in the students’ Fee Register for each month or term,
with the respective class register showing names of students on rolls and test
amount of fees charged and verify that there operates a system of internal
check which ensures that demands against the students are properly raised.
iv. Check fees received by comparing counterfoils of receipts granted with entries
in the cash book and tracing the collections in the Fee Register to confirm that
the revenue from this source has been duly accounted for.
v. Totals of the various columns of the Fees Register for each month or term to
ascertain that fees paid in advance have been carried forward and the arrears
that are irrecoverable have been written off under the sanction of an
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appropriate authority.
vi. Check admission fees with admission slips signed by the head of the
institution and confirm that the amount had been credited to a capital funds,
unless the Managing committee has taken a decision to the contrary.
vii. See that free studentship and concessions have been granted by a person
authorized to do so, having regard to the prescribed rules.
viii. Confirm that fines for late payment or absence etc. have either been collected
or remitted under proper authority.
ix. Confirm that hostel dues were recovered before student’s accounts were closed
and their deposits of caution money refunded.
x. Verify rental income from landed property with the rent rolls etc.
xi. Vouch income from endowments and legacies, as well as interest and
dividends from in investment; also inspect the securities in respect of
investments held.
xii. Verify any Government or local authority grant with the relevant papers of
grant. If any expenses have been disallowed for purposes of grant, ascertain
the reasons and compliancethereof.
xiii. Report any old heavy arrears on account of fees, dormitory rents, etc., to the
managing committee.
xiv. Confirm that caution money and other deposits paid by students on admission
have been shown as liability in the balance sheet and not transferred to
revenue.
xv. See that the investments representing endowment funds for prized are kept
separate and any income in excess of the prizes has been accumulated and
investment along with the corpus.
xvi. Verify that the provident fund money of the staff has been invested in
appropriate securities.
xvii. Vouch donations, if any, with the list published with the annual report. If some
donations were meant for any specific purpose, see that the money was utilized
for the purpose.
xviii. Vouch all capital expenditure in the usual way and verify the same with the
sanction forthe committee as contained in the minute book.
xix. Vouch in the usual manner all establishment expenses and enquire into any
unduly heavy expenditure under any head.
xx. See that increase in the salaries of the staff have been sanctioned and minuted
by the committee.
xxi. Ascertain that the system ordering inspection on receipt and issue of
provisions, foodstuffs, clothing and other equipment is efficient and all bills
are duly authorized and passed before payment.
xxii. Verify the inventories of furniture, stationery, clothing, provision and all
equipment, etc. These should be checked by reference to stock Register and
values applied to various items should be test checked.
xxiii. Confirm that the refund of taxes deducted from the income from investment
(interest on securities, etc.) has been claimed and recovered since the
institutions are generally exempted from the payment of income-tax.
xxiv. Verify the annual statements of accounts and while doing so see that separate
statements of account have been prepared as regards poor boys fund, Games
fund, hostel and provided fund of staffs.
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1) ICAN Handbook of the Code of Ethics for Professional Accountants addresses the
conceptual framework regarding the safeguards against threats to compliance of
fundamental principles. Briefly comment on it.
2) What are the auditor‘s responsibilities regarding the opening balances as per the concerned
standard.
3) What are the roles of Internal Audit in Corporate Governance?
4) Mention the provisions guiding the partnership firm applicable to the members of ICAN.
5) Explain the term “True and Fair View” to a layman investor in a simple manner?
6) How would you verify the existence of related party transactions during an audit? Briefly
explain with reference to NSA 550 “Related Parties”.
7) How would you evaluate the effects of misstatements identified on financial statement
during the audit?
8) What do you mean by forecast, projection and prospective financial information? Elaborate
with reference to Nepal Standards on Assurance Engagements (NSAE) 3400?
9) What are the scope and objectives of Internal Audit Functions as per NSA 610?
10) IT system also poses specific risks to an entity’s internal control? What are those risks?
11) An entity has a defined benefit pension plan. As of January 1, 2020, these values relate to
the pension scheme: Fair value of plan assets: NRs 50 million Present value of defined
benefit obligation: NRs 45 million Cumulative unrecognized actuarial gains: NRs 8 million
Average remaining working lives of employees: 20 years At the end of the period at
December 31, 2020, the fair value of the plan assets has risen by NRs 5 million. The present
value of the defined benefit obligation has risen by NRs 3 million. The actuarial gain is NRs
10 million, and the average remaining working lives of the employees is 20 years. The entity
wishes to know the difference between the corridor approach and the full recognition of
actuarial gains and losses.
You are required to show how the actuarial gain or loss for the period ending December 31,
2020, to be recognized in the financial statements.
12) Net Profit (after tax) for Current Year = Rs. 200 Lakhs ,
No of Equity shares Outstanding throughout the year = 50 lacs
12% convertible debentures of Rs. 100 Lacs of Rs.100 each
Each debenture is convertible to 10 equity shares. Income tax rate = 30%.
Find out
a. Basic EPS
b. Diluted EPS
c. Find out the impact of dilutive earning per share on basic EPS.
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13) CA. Prabhu was working as General Manager of Smart Ltd. till financial year 2075/76. With
effect from the 1st Shrawan, 2076, he resigned the Smart Ltd. and started working as
practicing Chartered Accountant from the name of "Prabhu & Associates". The Annual
General Meeting of Smart Ltd. appointed him as statutory auditor for the financial year
2076/77.
14) Write short notes on the following:
a) Subsequent Events
b) Tax Audit
15) Briefly explain the major point that auditor would consider while developing an audit
programme.
16) Distinguish between
a) Reasonable Assurance and Limited Assurance
b) Internal Check and Internal Audit
17) ABC Ltd is engaged in trading of consumable goods and having huge accounts
receivables. For analyzing the whole accounts receivables, auditor wanted to use sampling
technique. In considering the characteristics of the population from which the sample will
be drawn, the auditor determines that stratification or value-weighted selection technique
is appropriate. NSA 530 provides guidance to the auditor on the use of stratification and
value- weighted sampling techniques. Advise the auditor in accordance with NSA 530.
18) In the course of audit of MNP Ltd for the financial year ended 31st Asadh, 2077, you have
observed as an auditor that company has provided a sum of Rs. 50 lakhs in the books of
account as Gratuity payable to employees based on the certificate obtained from an actuary.
Give your comments with reference to Nepal Standards on Auditing.
19) Discuss the auditor’s responsibilities to provide access to his audit working paper to
Regulators and third parties.
20) What are the objectives and scope of Performance Audit?
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Answer No 1:
The circumstances in which professional accountants operate may create specific
threats to compliance with the fundamental principles. It is impossible to define every
situation that creates threats to compliance fundamental principles and specify the
appropriate action. In addition, the nature of engagements and work assignments may
differ and, consequently, different threats may be created, requiring the application of
different safeguards. Therefore, ICAN Code of Ethics establishes a conceptual
framework that requires a professional accountant to identify, evaluate, and address
threats to compliance with the fundamental principles. The conceptual framework
approach assists professional accountants in complying with the ethical requirements of
the Code and meeting their responsibility to act in the public interest. It accommodates
many variations in circumstances that create threats to compliance with the
fundamental principles and can deter a professional accountant from concluding that a
situation is permitted if it is not specifically prohibited. The code further mentions that
when a professional accountant identifies threats to compliance with the fundamental
principles and, based on an evaluation of those threats, determines that they are not at
an acceptable level, the professional accountant shall determine whether appropriate
safe guards are available and can be applied to eliminate the threats or reduce them to
acceptable level. In making that determination, the professional accountant shall
exercise professional judgment and take into account whether a reasonable and
informed third party, weighing all the specific facts and circumstances available to the
professional accountant at the time, would be likely to conclude that the threats would
be eliminated or reduced to an acceptable level by the application of the safeguards,
such that compliance with the fundamental principles is not compromised.
Answer No. 2:
NSA 510 clarifies that, in conducting an initial audit engagement, the objective of the
auditor with respect to opening balances is to obtain sufficient appropriate audit
evidence about whether: (a) Opening balances contain misstatements that materially
affect the current period‘s financial statements; and (b) Appropriate accounting policies
reflected in the opening balances have been consistently applied in the current period‘s
financial statements, or changes thereto are appropriately accounted for and adequately
presented and disclosed in accordance with the applicable financial reporting
framework. The auditor shall obtain sufficient appropriate audit evidence about
whether the opening balances contain misstatements that materially affect the current
period‘s financial statements by:
(a) Determining whether the prior period‘s closing balances have been correctly
brought forward to the current period or, when appropriate, have been restated;
(i) Where the prior year financial statements were audited, reviewing the
predecessor auditor‘s working papers to obtain evidence regarding the
opening balances;
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(iii) Performing specific audit procedures to obtain evidence regarding the
opening balances.
If the auditor obtains audit evidence that the opening balances contain misstatements
that could materially affect the current period‘s financial statements, the auditor shall
perform such additional audit procedures as are appropriate in the circumstances to
determine the effect on the current period‘s financial statements. If the auditor
concludes that such misstatements exist in the current period‘s financial statements, the
auditor shall communicate the misstatements with the appropriate level of management
and those charged with governance in accordance with NSA 450. The auditor shall
obtain sufficient appropriate audit evidence about whether the accounting policies
reflected in the opening balances have been consistently applied in the current period‘s
financial statements, and whether changes in the accounting policies have been
appropriately accounted for and adequately presented and disclosed in accordance with
the applicable financial reporting framework. Further, if the prior period‘s financial
statements were audited by a predecessor auditor and there was a modification to the
opinion, the auditor shall evaluate the effect of the matter giving rise to the
modification in assessing the risks of material misstatement in the current period‘s
financial statements in accordance with NSA 315.
Answer No. 3:
Internal auditing activity as it relates to corporate governance has in the past been generally
informal, accomplished primarily through participation in meetings and discussions with
members of the Board of Directors. Corporate Governance is the process and structure used
to direct and manage the business and affairs of the corporations with the objective of
enhancing shareholder value, which includes ensuring the financial viability of the business.
The process and structure define the division of power and establish mechanisms for
achieving accountability among shareholders, the board and management. These
requirements are well complimented by the audit functions within a company. The internal
auditor is often considered one of the pillars of corporate governance. A primary focus area
of internal auditing as it relates to corporate governance is helping the Audit Committee of
the Board of Directors perform its responsibilities effectively. This may include reporting
critical management control issues, suggesting questions or topics for the Audit Committee's
meeting agendas, and coordinating with the external auditor and management to ensure the
Committee receives effective information. In recent years, the advocacy for assigning
internal auditor for formal evaluation of corporate governance, particularly in the areas of
board oversight of enterprise risk, corporate ethics, and fraud. For managing inherent
operational risk of bank and financial institution, NRB has made mandatory provision for
internal auditor to comment on the policies and operational procedure adopted by bank and
financial institution.
Answer No. 4:
ICAN Rules 2061 has provided following special provisions guiding the Partnership
arrangements between the members:
• Every partner of the firm must hold COP.
• One firm can have a maximum 20 partners.
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• A member having his own proprietorship firm can be a partner in not more than two
accounting firms at a time. But he has to get approval of every partner to run his
proprietorship firm.
✓ Partnership of foreign accounting firm is not counted for this purpose.
✓ Remaining partner must inform ICAN if there is any change in the
composition of the partner, within 35 days of such change.
• The member can use the word partner if he is one of the partners of the firm.
Answer No. 5:
True and fair view is an opinion expressed by an auditor on the state of the financial
statements of an organization. It implies that the financial statements are presented fairly in
all materials respect the position, performance, cash flows and changes in equity of the
organization. The auditor expresses such opinion upon assessment of the internal control
system of the organization and test checking the financial transactions carried out during the
fiscal year. The auditors act is guided by the provisions set forth in the Nepal Standards on
Auditing together with the Code of Ethics applicable to the professional accountants.
As per NSA 200 “Overall Objectives of the Independent Auditor and the Conduct of an Audit
in accordance with Nepal Standards on Auditing”, the auditor‘s expression of true and fair
view is supposed to be received as only the “Reasonable Assurance and not the Absolute
Assurance” of the state of the financial statements. This implies that the users are not
supposed to absolutely rely on auditor‘s judgment for making their financial decisions
relating to the organization. This is because the auditor is not expected to, and cannot, reduce
audit risk to zero and cannot therefore obtain absolute assurance that the financial statements
are free from material misstatement due to fraud or error. This is because there are inherent
limitations of an audit, which result in most of the audit evidence on which the auditor draws
conclusions and bases the auditor‘s opinion being persuasive rather than conclusive. Broadly
speaking, the financial statements are considered as presenting to true and fair if:
• The information contained in them are not materially misstated;
• There is an appropriate application of Nepal Accounting Standards, with additional
disclosure in the case of companies registered under Companies Act 2063. In the case
of other entities there is an appropriate application of generally accepted accounting
principles as is applicable; and
• They comply with the provisions of applicable laws and regulations of the country.
Answer No. 6:
As per NSA 550 “Related Parties”, during the audit, the auditor shall remain alert, when
inspecting records or documents, for arrangements or other information that may indicate the
existence of related party relationships or transactions that management has not previously
identified or disclosed to the auditor.
• Entity income tax returns.
• Information supplied by the entity to regulatory authorities.
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• Shareholder registers to identify the entity‘s principal shareholders.

• Statements of conflicts of interest from management and those charged with
governance. Records of the entity‘s investments and those of its pension plans.
• Contracts and agreements with key management or those charged with
governance.
• Significant contracts and agreements not in the entity‘s ordinary course of
business.
Specific invoices and correspondence from the entity‘s professional advisors.
• Life insurance policies acquired by the entity.
• Significant contracts re-negotiated by the entity during the period.
• Internal auditors' reports.
• Documents associated with the entity‘s filings with a securities regulator (e.g.,
prospectuses).
Arrangements that may indicate the existence of previously unidentified or undisclosed
related party relationships or transactions In particular, the auditor shall inspect the following
for indications of the existence of related party relationships or transactions that management
have not previously identified or disclosed to the auditor:
i. Bank, legal and third party confirmations obtained as part of the auditor's
procedures;
ii. Minutes of meetings of shareholders and of those charged with governance; and
iii. Such other records or documents as the auditor considers necessary in the
circumstances of the entity.
Answer No. 7:
As per NSA 450, Evaluation of Misstatements identified during the Audit, misstatement
refers to a difference between the reported amount, classification, presentation, or disclosure
of a financial statement item and the amount, classification, presentation, or disclosure that is
required for the item to be in accordance with the applicable financial reporting framework.
Misstatements can arise from error or fraud. When the auditor expresses an opinion on
whether the financial statements are presented fairly, in all material respects, or give a true
and fair view, misstatements also include those adjustments of amounts, classifications,
presentation, or disclosures that, in the auditor’s judgment, are necessary for the financial
statements to be presented fairly, in all material respects, or to give a true and fair view.
Prior to evaluating the effect of uncorrected misstatements, the auditor shall reassess
materiality determined in accordance with NSA 320 to confirm whether it remains
appropriate in the context of the entity’s actual financial results. The auditor’s determination
of materiality is often based on estimates of the entity’s financial results, because the actual
financial results may not yet be known. Therefore, prior to the auditor’s evaluation of the
effect of uncorrected misstatements, it may be necessary to revise materiality determined in
accordance with NSA 320 based on the actual financial results. The auditor shall determine
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whether uncorrected misstatements are material, individually or in aggregate. In making this

determination, the auditor shall consider:
(a) The size and nature of the misstatements, both in relation to particular classes of
transactions, account balances or disclosures and the financial statements as a whole, and the
particular circumstances of their occurrence; and
(b) The effect of uncorrected misstatements related to prior periods on the relevant classes of
transactions, account balances or disclosures, and the financial statements as a whole.
Communication with Those Charged with Governance:
The auditor shall communicate with those charged with governance uncorrected
misstatements and the effect that they, individually or in aggregate, may have on the opinion
in the auditor’s report, unless prohibited by law or regulation. If uncorrected misstatements
have been communicated with person(s) with management responsibilities, and those
person(s) also have governance responsibilities, they need not be communicated again with
those same person(s) in their governance role. The auditor nonetheless has to be satisfied that
communication with person(s) with management responsibilities adequately informs all of
those with whom the auditor would otherwise communicate in their governance capacity.
Documentation:
The auditor shall include in the audit documentation: (a) The amount below which
misstatements would be regarded as clearly trivial; (b) All misstatements accumulated during
the audit and whether they have been corrected; and (c) The auditor’s conclusion as to
whether uncorrected misstatements are material, individually or in aggregate and the basis for
that conclusion.
Answer No. 8:
The purpose of Nepal Standards on Assurance Engagements (NSAE) 3400, The Examination
of Prospective Financial Information is to establish standards and provide guidance on
engagements to examine and report on prospective financial information including
examination procedures for best-estimate and hypothetical assumptions.
In an engagement to examine prospective financial information, the auditor should obtain
sufficient appropriate evidence as to whether:
(a) Management’s best-estimate assumptions on which the prospective financial information
is based are not unreasonable and, in the case of hypothetical assumptions, such
assumptions are consistent with the purpose of the information;
(b) The prospective financial information is properly prepared on the basis of the
assumptions;
(c) The prospective financial information is properly presented and all material assumptions
are adequately disclosed, including a clear indication as to whether they are best-estimate
assumptions or hypothetical assumptions; and
(d) The prospective financial information is prepared on a consistent basis with historical
financial statements, using appropriate accounting principles.
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“Prospective financial information” means financial information based on assumptions about

events that may occur in the future and possible actions by an entity. It is highly subjective in
nature and its preparation requires the exercise of considerable judgment. Prospective
financial information can be in the form of a forecast, a projection or a combination of both,
for example, a one-year forecast plus a five year projection.
A “projection” means prospective financial information prepared on the basis of: a.
Hypothetical assumptions about future events and management actions which are not
necessarily expected to take place, such as when some entities are in a start-up phase or are
considering a major change in the nature of operations; or b. A mixture of best-estimate and
hypothetical assumptions.
“Forecast” means prospective financial information prepared on the basis of assumptions as
to future events which management expects to take place and the actions management
expects to take as of the date the information is prepared.
Answer No. 9:
The objectives and scope of internal audit functions typically include assurance and
consulting activities designed to evaluate and improve the effectiveness of the entity’s
governance processes, risk management and internal control such as the following:
Activities Relating to Governance: The internal audit function may assess the governance
process in its accomplishment of objectives on ethics and values, performance management
and accountability, communicating risk and control information to appropriate areas of the
organization and effectiveness of communication among those charged with governance,
external and internal auditors, and management.
Activities Relating to Risk Management: a) The internal audit function may assist the entity
by identifying and evaluating significant exposures to risk and contributing to the
improvement of risk management and internal control (including effectiveness of the
financial reporting process) b) The internal audit function may perform procedures to assist
the entity in the detection of fraud.
Activities Relating to Internal Control: a) Evaluation of internal control. The internal audit
function may be assigned specific responsibility for reviewing controls, evaluating their
operation and recommending improvements thereto. In doing so, the internal audit function
provides assurance on the control. For example, the internal audit function might plan and
perform tests or other procedures to provide assurance to management and those charged
with governance regarding the design, implementation and operating effectiveness of internal
control, including those controls that are relevant to the audit. b) Examination of financial and
operating information. The internal audit function may be assigned to review the means used
to identify, recognize, measure, classify and report financial and operating information, and
to make specific inquiry into individual items, including detailed testing of transactions,
balances and procedures. c) Review of operating activities. The internal audit function may
be assigned to review the economy, efficiency and effectiveness of operating activities,
including non-financial activities of an entity. d) Review of compliance with laws and
regulations. The internal audit function may be assigned to review compliance with laws,
regulations and other external requirements, and with management policies and directives and
other internal requirements.
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Answer No. 10:

As per NSA 315, Identifying and Assessing the Risks of Material Misstatement through
Understanding the Entity and Its Environment, IT system also poses specific risks to an
entity’s internal control, including, for example:
▪ Reliance on systems or programs that are inaccurately processing data, processing
inaccurate data, or both.
▪ Unauthorized access to data that may result in destruction of data or improper changes
to data, including the recording of unauthorized or non-existent transactions, or
inaccurate recording of transactions. Particular risks may arise where multiple users
access a common database.
▪ The possibility of IT personnel gaining access privileges beyond those necessary to
perform their assigned duties thereby breaking down segregation of duties.
▪ Unauthorized changes to data in master files.
▪ Unauthorized changes to systems or programs.
▪ Failure to make necessary changes to systems or programs.
▪ Inappropriate manual intervention.
▪ Potential loss of data or inability to access data as required
Answer No. 11:

The entity must recognize the portion of the net actuarial gain or loss in excess of 10% of the
greater of defined benefit obligation or the fair value of the plan assets at the beginning of the
year.
Unrecognized actuarial gain at the beginning of the year was NRs. 8 million.
The limit of the corridor is 10% of NRs. 50 million, or NRs. 5 million.
The difference is Nrs 3 million, which divided by 20 years is Nrs 0.15 million.
Full Recognition Approach:
Under this approach, the full amount of the actuarial gains (NRs. 10 million) will be
recognized in the statement of recognized income and expense.
Answer No. 12:
Basic Earnings = 200L (Assumed as after tax earnings)
Diluted Earnings = 208.4L {Basic Earnings = 200L (+) Deb. Interest = 8.4L (12% on 100L x
70%)}
Weighted Avg no of Equity shares (Basic) = 50L x 12/12 = 50L
Debenture converted in to equity = (100L / 100) x (10 / 1) = 10 lacs
Weighted Avg no of Equity shares Diluted = (50L x 12/12) + (10L x 12/12) = 60L
EPS Basic = 200L / 50L = Rs.4.0
EPS Diluted = 208.4L / 60 L = Rs.3.47
Impact on Dilution is 0.53 (4.0 – 3.47)
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Answer No. 13:

As per Para 522.4 A1 of the Handbook of the Code of Ethics for Professional Accountants
2018 of the Institute of the Chartered Accountants of Nepal, a self-interest, self-review or
familiarity threat might be created if, before the period covered by the audit report, an audit
team member:
(a) Had served as a director or officer of the audit client; or
(b) Was an employee in a position to exert significant influence over the preparation of
the client's accounting records or financial statements on which the firm will express
an opinion.
Factors that are relevant in evaluating the level of such threats include:
• The position the individual held with the client.
• The length of time since the individual left the client.
• The role of the audit team member.
Further, Subsection (12) of Section 34 of the Nepal Chartered Accountants Act, 2053
provides that 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.
In the light of aforesaid provision of ICAN Code of Ethics and the Nepal Chartered
Accountants Act, CA. Prabhu should not accept the appointment for statutory auditor for the
FY 2076/77.
Answer No. 14 (a):
NSA 560, Subsequent Events defines the term "subsequent events" as events occurring
between the date of the financial statements and the date of the auditor's report, and facts that
become known to the auditor after the date of the auditor‘s report. Subsequent events also
refer to significant events which occurred up to the date of report of the auditor of that
component. Thus, subsequent events are those events which occur after the date of the
balance sheet till the audit report is signed by the auditor.
Answer No. 14 (b):
Tax audit is the examination and verification of tax accounts and records maintained by the
entity in accordance with the applicable tax laws and certification of tax return to be
submitted by the entity to tax authorities. A tax auditor is a professional who evaluates
financial records to determine whether they comply with the laws. They check if companies,
individuals, agencies and organizations comply with the federal, state and local tax laws.
Basically, tax audit involves ensuring compliance of the Income Tax Act 2058, VAT Act
2053 and other local taxation laws, which emphasizes on providing the error free income tax
return to tax authorities by assessing the correct taxable income and tax liability, applicable
interest, fines and penalties as a result of non-submission or delay submission or short
submission of tax return or tax amount of the assessee as per the tax laws. In Nepal, there is
no any legal provision for appointing auditor for the Tax audit. However, in practice,
generally statutory auditor has been assigned with that responsibility.
Page 327 of 331
Answer No. 15:

Developing the Audit Programme:
a) Written Audit Programme: The auditor should prepare a written audit programme setting
forth the procedures that are needed to implement the audit plan.
b) Audit objective and instruction to assistants: The programme may also contain the audit
objectives for each area and should have sufficient details to serve as a set of instructions
to the assistants involved in the audit and as a means to control the proper execution of
the work.
c) Reliance on Internal Controls: In preparing the audit programme, the auditor, having an
understanding of the accounting system and related internal controls, may wish to rely on
certain internal controls in determining the nature, timing and extent of required auditing
procedures. The auditor may conclude that relying on certain internal controls is an
effective and efficient way to conduct his audit. However, the auditor may decide not to
rely on internal controls when there are other more efficient ways of obtaining sufficient
appropriate audit evidence. The auditor should also consider the timing of the procedures,
the coordination of any assistance expected from the client, the availability of assistants,
and the involvement of other auditors or experts.
d) Timings of performance of audit procedures: The auditor normally has flexibility in
deciding when to perform audit procedures. However, in some cases, the auditor may
have no discretion as to timing, for example, when observing the taking of inventories by
client personnel or verifying the securities and cash balances at the year-end.
e) Audit planning: The audit planning ideally commences at the conclusion of the previous
year’s audit, and along with the related programme, it should be reconsidered for
modification as the audit progresses. Such consideration is based on the auditor’s review
of the internal control, his preliminary evaluation thereof, and the results of his
compliance and substantive procedures.
Answer No. 16 (a):
Reasonable Assurance is a concept relating to the accumulation of the audit evidence
necessary for the auditor to conclude that there are no material misstatements in the financial
statements taken as a whole. An audit in accordance with Nepal Standards on Auditing is
designed to provide reasonable assurance that the financial statements taken as a whole are
free from material misstatement. Audit cannot give an absolute assurance due to certain
inherent limitations that affect the ability of detect material misstatement which may arise
generally due to use of testing, limitation of accounting and control system and mostly due to
the fact that audit evidence is persuasive rather than conclusive.
The objective of a reasonable assurance engagement is 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. In other words, the practitioner
expresses conclusion in the positive form.
The objective of a limited assurance engagement is a reduction in assurance engagement risk
to a level that is acceptable in the circumstances of the engagement, but where that risk is
Page 328 of 331
greater than for a reasonable assurance engagement, as the basis for a negative form of
expression of the practitioner’s conclusion. In other words, the practitioner expresses
conclusion in the negative form.
Answer No. 16 (b):
S.N. Internal Check Internal Audit
1. Internal check is not a specific check, but Internal audit is specifically done to
the duties of different persons are so check that the accounts are properly
arranged that a person‘s work is maintained and the systems are in
automatically checked by another person control.
while carrying out the normal Duty.
2. Internal check does the preventive job i.e. Internal audit does the detective job of
internal check is derived so that frauds and identifying frauds and errors and
errors are prevented. rectifying them.
3. It is more of process in a day to day It is specific defined job.

functioning of the business.
4. All the persons in the organization are Specific persons are appointed to the
involved to maintain the internal check internal audit.
system.
5. It is required in all organization in formal or Carrying out internal audit is not
informal. compulsory. It is done based on
management decision.
6. It does not include internal audit. It include internal check.
Answer No. 17:

Stratification and Value-Weighted Selection: In considering the characteristics of the
population from which the sample will be drawn, the auditor may determine that stratification
or value-weighted selection technique is appropriate. NSA 530 provides guidance to the
auditor on the use of stratification and value-weighted sampling techniques.
Stratification: Audit efficiency may be improved if the auditor stratifies a population by
dividing it into discrete sub-populations which have an identifying characteristic. The
objective of stratification is to reduce the variability of items within each stratum and
therefore allow sample size to be reduced without increasing sampling risk.
When performing tests of details, the population is often stratified by monetary value. This
allows greater audit effort to be directed to the larger value items, as these items may contain
the greatest potential misstatement in terms of overstatement. Similarly, a population may be
stratified according to a particular characteristic that indicates a higher risk of misstatement,
for example, when testing the allowance for doubtful accounts in the valuation of accounts
receivable, balances may be stratified by age.
The results of audit procedures applied to a sample of items within a stratum can only be
projected to the items that make up that stratum. To draw a conclusion on the entire
Page 329 of 331
population, the auditor will need to consider the risk of material misstatement in relation to
whatever other strata make up the entire population.
For example, 20% of the items in a population may make up 90% of the value of an account
balance. The auditor may decide to examine a sample of these items. The auditor evaluates
the results of this sample and reaches a conclusion on the 90% of value separately from the
remaining 10% (on which a further sample or other means of gathering audit evidence will be
used, or which may be considered immaterial).
If a class of transactions or account balance has been divided into strata, the misstatement is
projected for each stratum separately. Projected misstatements for each stratum are then
combined when considering the possible effect of misstatements on the total class of
transactions or account balance.
Value-Weighted Selection: When performing tests of details it may be efficient to identify the
sampling unit as the individual monetary units that make up the population. Having selected
specific monetary units from within the population, for example, the accounts receivable
balance, the auditor may then examine the particular items, for example, individual balances,
that contain those monetary units. One benefit of this approach to defining the sampling unit
is that audit effort is directed to the larger value items because they have a greater chance of
selection, and can result in smaller sample sizes.
This approach may be used in conjunction with the systematic method of sample selection
and is most efficient when selecting items using random selection.
Answer No. 18:

Certificate from Management’s Expert
In the given case, MNP ltd. has provided a sum of Rs. 50 lakhs in the books of accounts as
gratuity payable on the basis of certificate obtained from an actuary. The liability towards
gratuity payable to the employees at the time of cessation of service should be ascertained
and provided for in the accounts when the employee are in service, it is ascertained present
liability accruing over the period of service but payable upon termination of service.
The auditor should check the quantification of the gratuity liability. He should ascertain
whether the same has been actuarially determined. The auditor should treat the actuary as
management’s expert and conduct procedures relevant to checking the opinion of an expert in
accordance with NSA 500.
As per NSA 500, “Audit Evidence”, when information to be used as audit evidence has been
prepared using the work of a management’s expert, the auditor shall, to the extent necessary,
having regard to the significance of that expert’s work for the auditor’s purposes:
1. Evaluate the competence, capabilities and objectivity of that expert.
2. Obtain an understanding of the work of that expert; and
3. Evaluate the appropriateness of that expert’s work as audit evidence for the
relevant assertion.
Page 330 of 331
Answer No. 19:
Access to Working papers to Regulators and Third Parties
•
NSA 200, Overall Objectives of the Independent Auditor and the conduct of an audit
in accordance with Nepal Standards on Auditing also reiterates that, “the auditor
should respect the confidentiality of the information obtained and should not disclose
any such information to any third party without specific authority or unless there is a
legal or professional duty to disclose.” If there is a request to provide access by the
regulator based on the legal requirement, the same has to be complied with after
informing the client about the same.
• NSQC 1, Quality Control for Firm that perform Audits and Reviews of Financial
Statements, and Other Assurance and Related Service Engagements provides that,
unless otherwise specified by law or regulation, audit documentation is the property
of the auditor. He may at his discretion, make portion of, extract from, audit
documentation available to clients, provided such disclosure does not undermine the
validity of the work performed, or in the case of assurance engagements, the
independence of the auditor or of his personnel.
• As per NSA 230, audit documentation serves a number of additional purposes,
including the enabling the conduct of external inspections in accordance with
applicable legal, regulatory or other requirements.
Conclusion:
It is auditor’s responsibility to provide access to his audit working papers to Regulators when
required by law whereas auditor is under no obligation to provide access to working paper to
third parties.
Answer No. 20:
The objectives of performance audits are to audit the economy, efficiency and effectiveness
(3Es) of audit client and to evaluate the discharge of accountability and due care of probity in
the use of resources.
Performance audits focus on one or more of following interrelated elements:
i) to provide objective assessment of the extent to which the organization is currently
pursuing the 3Es (economy, efficiency and effectiveness);
ii) to identify major deficiencies in management and control practices
iii) to encourage improvement in the system of performance reporting;
iv) to provide information and propose recommendations that can lead to better internal
control and public accountability.
Performance auditing covers a wide variety of issues to arrive at the conclusion relating to the
3Es (economy, efficiency and effectiveness). It examines and evaluates the systems,
procedures, operation and result related to:
a) planning, budgeting, accounting and reporting systems;
b) development, appraisal and utilization of resources;
d) Development, production and use of information; and
c) acquisition and utilization of property, equipment, plant, inventory and other assets.

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Paper 3: Advanced Audit & Assurance [CAP III]

Answer to Question No. 2

Answer to Question No. 3

Answer to Question No. 4

Note adequately describes going concern issues

Answer to Question No. 5

Key concepts of the COSO framework

Five framework components[edit]

The five components are the following:

Information and communication: Information systems play a key role in internal

Answer to Question No. 6

Answer to Question No. 7

Answer to Question No. 8

Broadly speaking, the financial statements are considered as presenting to true

c. Audit Versus Assurance

Answer to Question No. 9

Effects of on-line computer system on Audit Procedure

Answer to Question No. 10

Answer to Question No. 11

Answer to Question No. 12

 Standardised programmes facilitate delegation to junior staff and help to instruct in

Answer to Question No. 13

100.17 A professional accountant may be required to resolve a conflict in complying

Having considered the relevant factors, a professional accountant shall

100.19 Where a matter involves a conflict with, or within, an organization, a

100.21 If a significant conflict cannot be resolved, a professional accountant may

However, for an assurance engagement to be an audit engagement one additional requirement is

Q.No. 2 What are the components of COSO Framework?

Answer to Question No. 2

The five components are the following:

Answer to Question No. 3

Monitoring is never effective without Hot Review and Cold Review.

An engagement quality control review includes an objective evaluation of:

The engagement partner should:

• Indications of withdrawal of financial support by creditors.

You are required to:

(a) Improvements to be made in the internal control in this area:

Key audit procedures under these circumstances to mitigate audit risk:

d. Ensure all remittance matching entries in the cash book.

Question No. 10.

Question no. 11.

Shree Ram Industries Co (Shree Ram)

Singh Trading Co (Singh)

Answer to Question No. 11

(ii) A procedure to adopt includes:

Singh Trading Co (Singh)

(ii) A procedure to adopt includes:

(a) Engagement letters

(b) Matters to be included in an audit engagement letter

4. Smart’s accounting systems notes/procedural manuals: Provides information on how each

5. Discussions with management: Provides information in relation to the business, any

9. Financial statements of competitors: This will provide information about Smart’s

Environmental audit will basically cover areas in respect of industrial units:

b. Black Box Approach and White Box Approach of Auditing

c. Subject matter information

d. Walk though test

To: Audit manager

a) Evaluate the business risks faced by Nagarik Pharmaceuticals;

Minutes from Sunil’s meeting with Hareram

Key financial information

Share based payment scheme 300,000 300,000

Additional allowance required

Total 10,000 50,000 50,000 10,000