Mock Test Paper - Series II: August, 2024

Date of Paper: 22nd August, 2024

Time of Paper: 2 P.M. to 5 P.M.

INTERMEDIATE: GROUP – II
PAPER – 5: AUDITING AND ETHICS
SUGGESTED ANSWERS / HINTS
Part I - Multiple Choice Questions

1. (b)
2. (c)
3. (c)
4. (d)
5. (c)
6. (b)
7. (b)
8. (a)
9. (a)
10. (b)
11. (a)
12. (a)
13. (c)
14. (b)
15. (d)

Part II - Descriptive Answers

1. (a) Misstatement refers to a difference between the amount, classification,
presentation, or disclosure of a reported 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.
In the given situation, there is a difference in amount to be recorded as
well as in disclosure of a financial statement item from what is required
in accordance with applicable financial reporting framework. The
company should have recorded gross amount of dividend and interest
amounting to ₹ 2.00 lakhs and ₹ 3.00 lakhs respectively in its financial
statements in accordance with AS 13. Therefore, amount recorded under
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 head “Other income” should have been for ₹ 10 lakhs (2 lakhs+3 lakhs+5
lakhs).
Further, in accordance with disclosure requirements of Schedule III of
the Companies Act, 2013, other income shall be classified in the above
situation as: -
(a) Interest Income of ₹ 3 lakhs
(b) Dividend Income of ₹ 2 lakhs
(c) Net gain on sale of investments of ₹ 5 lakhs
Few examples of misstatements are:
 Charging of an item of capital expenditure to revenue or vice-versa.
 Difference in disclosure of a financial statement item vis-à-vis its
requirement in applicable financial reporting framework.
 Selection or application of inappropriate accounting policies.
 Difference in accounting estimate of a financial statement item vis-
à-vis its appropriateness in applicable financial reporting
framework.
 Intentional booking of fake expenses in statement of profit and loss.
 Overstating of receivables in the financial statements by not writing
off irrecoverable debts.
 Overstating or understating inventories.
(b) In the given case, method of sampling being used in software is known
as interval sampling or systematic sampling. It is a selection method in
which the number of sampling units in the population is divided by the
sample size to give a sampling interval.
Sampling interval = Sampling units in population/Sample size
i.e 1000/100
Sampling interval = 10
Records selected = 100
Software would pick every 10th record from 1 to 1000 records.
When using this method, the auditor would need to determine that
sampling units within the population are not structured in such a way that
the sampling interval corresponds with a particular pattern in the
population.
Further, partner of CA Z suggested him to select the first 200 sales
invoices from the sales book for the last month. He is suggesting him
block sampling for sales, this method involves selection of a block(s) of
contiguous items from within the population.
(c) Maintaining professional skepticism throughout audit is necessary if
auditor is to reduce risks of overlooking unusual circumstances and

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 using inappropriate assumptions in determining the nature, time and
extent of audit procedures and evaluating results thereof.
In the given situation, revenue from operations of the company have
increased from ₹ 80 crores to ₹100 crores despite its operations being
affected by fire for about two months. Further, despite loss of inventories
to the tune of ₹ 5 crores, financial statements reflect increase in net profit
before tax from 7.5% in year 2022-23 to 10% in year 2023-24. Thus,
approach of CA D lacks professional skepticism.
In spite of these unusual circumstances, the auditor has decided to rely
upon same tests of details as performed in the previous years. The
nature and extent of audit procedures need to be suitably altered
considering changed circumstances. He may include substantive
analytical procedures to analyse variations and seek necessary
explanations from management. In case of doubt about the reliability of
information or indications of possible fraud, Standards on Auditing
require auditor to determine what modifications or additions to audit
procedures are necessary to resolve the matter. CA D, the auditor of a
listed company, shall document the overall audit strategy, the audit plan
and any significant changes made during the audit engagement to the
overall audit strategy or the audit plan, and the reasons for such
changes.
2. (a) Three examples of assurance engagements are as under :-
(i) Audit of financial statements
An audit of financial statements provides reasonable assurance
about whether the financial statements as a whole are free from
material misstatement, whether due to fraud or error, thereby
enabling the auditor to express an opinion on whether the financial
statements are prepared, in all material respects, in accordance
with an applicable financial reporting framework.
(ii) Review of financial statements
Review provides lower level of assurance than audit. Further,
review involves fewer procedures and gathers sufficient
appropriate evidence on the basis of which limited conclusions can
be drawn up.
(iii) Examination of prospective financial information
In assurance reports involving prospective financial information,
the practitioner obtains sufficient appropriate evidence to the effect
that management’s assumptions on which the prospective financial
information is based are not unreasonable, the prospective
financial information is properly prepared on the basis of the
assumptions and it is properly presented and all material
assumptions are adequately disclosed. Such type of assurance
engagement provides a moderate assurance.

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 (b) (i) When the auditor includes an Emphasis of Matter (EOM) paragraph
in the auditor’s report, the auditor shall:-
(a) include the paragraph within a separate section of the
auditor’s report with an appropriate heading that includes the
term “Emphasis of Matter”
(b) 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
(c) indicate that the auditor’s opinion is not modified in respect of
the matter emphasized.
(ii) Examples of circumstances where the auditor may consider it
necessary to include an Emphasis of Matter (EOM) paragraph are:
 An uncertainty relating to the future outcome of exceptional
litigation or regulatory action.
 A significant subsequent event that occurs between the date
of the financial statements and the date of the auditor’s report.
 Early application (where permitted) of a new accounting
standard that has a material effect on the financial statements.
 A major catastrophe that has had, or continues to have, a
significant effect on the entity’s financial position.
(c) 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. In this context, it
is reasonable for CA Y, the auditor, to assume that users: -
(a) Have a reasonable knowledge of business and economic activities
and accounting and a willingness to study the information in the
financial statements with reasonable diligence
(b) Understand that financial statements are prepared, presented and
audited to levels of materiality
(c) Recognize the uncertainties inherent in the measurement of
amounts based on the use of estimates, judgment and the
consideration of future events and
(d) Make reasonable economic decisions on the basis of the
information in the financial statements.
3. (a) In a banking environment, there exist documentary evidence containing
observations/comments on advances which can be useful to the
statutory branch auditor in performing an effective audit. CA Amrish, the
auditor should take into account the adverse comments, if any, on
advances appearing in the following:-

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  Previous year’s audit reports.
 Latest internal inspection reports of bank officials.
 Reserve Bank’s latest inspection report.
 Concurrent / Internal audit report.
 Report on verification of security.
 Any other internal reports specially related to particular accounts.
 Manager’s charge-handing-over report when incumbent is
changed.
(b) The auditor, CA L should read the LLP agreement & note the following
provisions: -
(a) Nature of the business of the LLP.
(b) Amount of capital contributed by each partner.
(c) Interest – in respect of additional capital contributed.
(d) Duration of partnership.
(e) Drawings allowed to the partners.
(f) Salaries, commission etc. payable to partners.
(g) Borrowing powers of the LLP.
(h) Rights & duties of partners.
(i) Method of settlement of accounts between partners at the time of
admission, retirement, admission etc.
(j) Any loans advanced by the partners.
(k) Profit sharing ratio
Reporting Responsibilities of CA L/ concerning the financial statements
of Bro Traders LLP is as follows:
The auditor should mention
(a) Whether the records of the firm appear to be correct & reliable.
(b) Whether he was able to obtain all information & explanation
necessary for his work.
(c) Whether any restriction was imposed upon him.
(c) Changes may 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.
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  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.
4. (a) Few audit procedures to obtain sufficient appropriate audit evidence to
conclude that trade receivables have been valued appropriately are as
under: -
 Review the process followed by the Company to derive an
allowance for doubtful accounts. This will include a consistency
comparison with the method used in the last year, and a
determination of whether the method is appropriate for the
underlying business environment.
 Obtain the ageing report receivable (both Dr/Cr balance).
 Also, obtain the list of debtors under litigation and compare with
previous year.
 Scrutinize the analysis and identify those debtors which appear
doubtful; discuss with management about reasons as to why these
debtors are not included in the provision for bad debts. Perform
further testing where any disputes exist.
 He should check if provisions are made at appropriate rates
considering recoverability of amounts due.
 Prepare schedule of movements of bad debts – Provision accounts
and debts written off and compare the proportion of bad debt
expense to sales for the current year in comparison to prior years
to see if the current expense appears reasonable.
 Check that write-offs of the receivable balances have been
authority appropriate approved by an appropriate authority i.e. the
Board of Directors in case of a company.
(b) The assessment of risks is based on audit procedures to obtain
information necessary for that purpose and evidence obtained
throughout the audit. The assessment of risks is a matter of professional
judgment, rather than a matter capable of precise measurement.
Audit risk is a technical term related to the process of auditing; it does
not refer to the auditor’s business risks such as loss from litigation,
adverse publicity, or other events arising in connection with the audit of
financial statements. For the purpose of the Standards on Auditing, audit
risk does not include the risk that the auditor might express an opinion
that the financial statements are materially misstated when they are not.
This risk is ordinarily insignificant.
In the given case, CA K is of the view that materiality and audit risk are
only considered at planning stage of an audit. 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

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 forming the opinion in the auditor’s report. Thus, the view of CA K is not
correct.
(c) 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 engagement team.
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 and/or audit completion
checklists, tailored as needed to reflect the particular engagement
circumstances.
A 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.
5. (a) Under section 143(1) of the Companies Act, 2013 auditor shall inquire
into following matters given as under: -
(a) whether loans and advances made by the company on the basis of
security have been properly secured and whether the terms on
which they have been made are prejudicial to the interests of the
company or its members
(b) whether transactions of the company which are represented merely
by book entries are prejudicial to the interests of the company
(c) where the company not being an investment company or a banking
company, whether so much of the assets of the company as consist
of shares, debentures and other securities have been sold at a
price less than that at which they were purchased by the company
(d) whether loans and advances made by the company have been
shown as deposits
(e) whether personal expenses have been charged to revenue account
(f) where it is stated in the books and documents of the company that
any shares have been allotted for cash, whether cash has actually
been received in respect of such allotment, and if no cash has
actually been so received, whether the position as stated in the
account books and the balance sheet is correct, regular and not
misleading.
(b) Auditor wants to ensure Completeness and the audit procedures to be
followed by him to verify that trade payables and liability balances that

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were supposed to be recorded have been recognized in the financial
statements are as follows:
 The auditor needs to perform the following cut off procedures:
— For the last 5 invoices received/ recorded at the end of the
reporting date (cut off date) and which have been included in
the trade payables; the goods should have been received/ risk
and rewards of ownership in goods should have been
transferred in favour of the entity;
— All goods received prior to the period/ year- end should have
been booked in the form of purchases and included in trade
creditors.
 Test purchases/ expenses on a sample basis selecting the same
from the accounts payable ledgers and checking their supporting
documents to ensure that the purchases were recorded at the
correct amounts and correct dates.
 Match purchase invoice dates to the gate entry (inward) dates to
check whether the purchases are being recorded in the correct
accounting period. This can include an examination of purchase/
expense invoices received subsequent to the period being audited,
to see if they should have been included in the period under audit.
 Review subsequent expense vouchers. Review all material
expense vouchers recorded post the balance sheet date to see if
they relate to transactions from within the audit period.
 For advance received from customers/ revenue received in
advance, obtain the customer wise listing along with its ageing and
the nature. Enquire from the entity’s management if there has been
any dispute with the customer and if there is any additional liability
to be recorded. For all such advances, the auditor should verify the
underlying documentation based on which the entity had received
the advance.
 In relation to statutory dues liability like withholding tax (TDS)
payable, GST payable, luxury tax payable, professional tax
payable, PF and ESI payable etc., prepare a reasonability with
respect to sales/ purchases/ employee benefit expenses. Example-
GST liability for last month may be calculated by applying the
applicable rate to the sales made and in case of any variance with
the GST liability recorded by the entity, reasons for variance should
be requested from client and in case found satisfactory, the same
should be maintained as part of audit documentation.
Similarly, Provident Fund liability for last month may be calculated by
applying the applicable rate to the employee benefit expense and in case
of any variance with the liability recorded by the entity, reasons for
variance should be requested from client and in case found satisfactory,
the same should be maintained as part of audit documentation.

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 Further, the auditor should obtain and verify the challans for deposits
made subsequent to the period-end for all statutory liabilities as at the
balance sheet date and also analyse the reasons, if any, in consultation
with the management for any variance between the amounts deposited
subsequently vis-à-vis the liability recorded in books of account.
 He shall prepare a complete list of all statutory dues and consider
his reporting requirements under CARO,2020.
(c) (i) Substantive analytical procedures are more appropriate when an
account balance or relationships between items of data are
predictable. A predictable relationship is one that may reasonably
be expected to exist and continue over time.
In the given case CA M, auditor of a company, has planned to use
substantive analytical procedures for testing relationship between
sales and cost of sales. Hence, auditor’s approach is appropriate
in this case.
(ii) Using substantive analytical procedures is also affected by nature
of assertion. Substantive analytical procedures may be more
effective in providing evidence for some assertions (e.g.,
completeness or valuation) than for others (e.g., rights and
obligations).
In the given case, CA M has planned to use substantive analytical
procedures for testing rights over certain assets forming part of
account balances. Such procedures are likely to be less effective
in this case.
6. (a) PPE have been valued appropriately and as per generally accepted
accounting policies and practices:
It is a common understanding that the value of fixed assets/ PPE
depreciates due to efflux of time, use and obsolescence. The diminution
of the value represents an item of cost to the entity for earning revenue
during a given period. Unless this cost in the form of depreciation is
charged to the accounts, the profit or loss would not be correctly
ascertained, and the values of PPE would be shown at higher amounts.
Mr. Vaayu, the auditor should:
 Verify that the entity has charged depreciation on all items of PPE
unless any item of PPE is non- depreciable like freehold land;
 Assess that the depreciation method used reflects the pattern in
which the asset’s future economic benefits are expected to be
consumed by the entity. It could be Straight line method,
diminishing value method, unit of production method, as applicable.
 The auditor should also verify whether the management has done
an impairment assessment to determine whether an item of
property, plant and equipment is impaired as per the requirements
of AS 28 - Impairment of Assets.

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 The entity has valid legal ownership rights over the PPE claimed to be
held by the entity and recorded in the financial statements (Rights and
Obligation)
 In addition to the procedures undertaken for verifying completeness
of additions to PPE during the period under audit, the auditor while
performing testing of additions should also verify that all PPE
purchase invoices are in the name of the entity that entitles legal
title of ownership to the respective entity.
 For all additions to land and building in particular, the auditor should
check the conveyance deed/ sale deed to verify whether the entity
is the legal and valid owner or not.
 The auditor should insist and verify the original title deeds for all
immoveable properties held as at the balance sheet date.
 In case the entity has given such immoveable property as security
for any borrowings and the original title deeds are not available with
the entity, the auditor should request the entity’s management for
obtaining a confirmation from the respective lenders that they are
holding the original title deeds of immoveable property as security.
 In addition, the auditor should also verify the register of charges,
available with the entity to assess that any charge has been created
against the PPE.
(b) In the given situation, the senior member of the audit team handed over
the standard audit programme of earlier years to the audit assistants and
instructed them to follow the same.The assistant to keep an open mind
as follows:
 To start with, an auditor having regard to the nature, size and
composition of the business and the dependability of the internal
control and the given scope of work, should frame a programme
which should aim at providing for a minimum essential work which
may be termed as a standard programme.
 As experience is gained by actually carrying out the work, the
programme may be altered to take care of situations which were
left out originally but are found relevant for the particular concern.
 Similarly, if any work originally provided for proves beyond doubt to
be unnecessary or irrelevant, it may be dropped.
 The assistant engaged in the job should be encouraged to keep an
open mind beyond the programme given to him. He should be
instructed to note and report significant matters coming to his
notice, to his seniors or to the partners or proprietor of the firm
engaged for doing the audit.
Thus, the attitude of assistants of TP & Co. is not justified. They should
keep an open mind and go beyond the programme to take care of newer
areas of the business of KSR Ltd. into which the Company has

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 diversified.
(c) “Date the financial statements are issued” reflects the date on which the
auditor’s report and audited financial statements are made available to
the third parties. The date the financial statements are issued generally
depends on the regulatory environment of the entity.
In some circumstances, the date the financial statements are issued may
be the date that they are filed with a regulatory authority. Since audited
financial statements cannot be issued without an auditor’s report, the
date that the audited financial statements are issued must not only be at
or later than the date of the auditor’s report but must also be at or later
than the date the auditor’s report is provided to the entity.
Therefore, “date the financial statements are issued” can be later than
date of providing auditor’s report to the entity.
OR
Standard on Quality Control 1 (SQC 1),“Quality Control for Firms that
Perform Audits and Reviews of Historical Financial Information, and
Other Assurance and Related Services Engagements”, provides that,
unless otherwise specified by law or regulation, audit documentation is
the property of the auditor. Therefore, it is not mandatory for CA N to
share audit file with client.
He may at his discretion, make portions of, or extracts 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.

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