National Financial Reporting Authority (NFRA) published its Audit Quality Review Report (AQRR) for the IL&FS Financial Services Ltd. (IFIN) case on 17th August 2020. The Audit Quality Review (AQR Process) was commenced on 7th February 2019 basically to look upon the Statutory Audit of IL&FS for the year 2017-18 performed by the auditor BSR and Associates, LLP, (BSR).

The Audit Quality Review Report (AAQR) stated, “The appointment of BSR as the statutory auditor of IL&FS Financial Services Ltd. (IFIN) for the year 2017-18 was illegal since BSR was not eligible to be appointed as such auditor due to violation of Sec 141(3)(e) (subsisting business relationships on the date of appointment) and Sec 141(3)(i) (provision of non-audit services directly or indirectly) of the Companies Act, 2013. BSR’s continuation as such statutory auditor was also violative of Sec 141(4).”

“The instances of failure to comply with the requirements of the Standards of Auditing (SAs) that have been documented in the AQRR are of such significance that it appears to NFRA that BSR did not have adequate justification for issuing the Audit Report asserting that the audit was conducted in accordance with SAs.” also said the report.

NFRA said that IFIN was not compliant with the minimum Net Owned Funds (NOF) and Capital to Risk Assets Ratio (CRAR) prescribed for an NBFC of its type. These numbers were heavily negative, (against a minimum positive requirement) and this non-compliance had continued since some time. The Financial Statements of an NBFC have to disclose these numbers. 

IFIN’s management contested the RBI’s computation method and decided to show positive numbers nevertheless, according to its definition.BSR was convinced that the IFIN management was clearly in the wrong. However, they went along with the wrong numbers disclosed in the Financial Statements, contenting themselves with only an Emphasis of Matter (EOM) para in the Auditor’s Report, when such EOM is justified only when the disclosure requirements as per the SAs are fulfilled. Thus, BSR failed to highlight a material misstatement of major magnitude and fundamental importance.

IFIN also reported its Profit Before Tax for 2017-18 to be Rs 201.96 Crores that were reported after taking credit/not providing for the following: 

a. Reversal of General Contingency Provision: Rs 225 Crores

b. Unjustified Valuation of a Derivative Asset: Rs 184 Crores

c. Non-provision for Impairment in the value of Investments: Rs 200.20 Crores. (This total excludes some investments in respect of which NFRA has not been able to arrive at a specific amount for the impairment).

The total of the 3 items mentioned above alone has led to an inflation of the profits of IFIN by Rs 609 Crores. 

BSR did not obtain sufficient and appropriate audit evidence, which is required according to SAs, to support the specific numbers finally reported in the Financial Statements.

Many other kinds of violations of the SAs were found in the AQRR which also deal with the assessment of the use of the Going Concern assumption by the management, the complete absence of the required communication with Those Charged With Governance, inadequate and improper evaluation of the Risk of Material Misstatements, determination of Materiality amounts based on non-relevant factors, etc.

Also, NFRA found out that Engagement Quality Control Review (EQCR) mechanism was completely inadequate for the statutory audit and the IT processes and platform that are used by BSR for their Audit File documentation have deficiencies that are systemic and structural in nature.

With Warm Regards,

CL Bureau.

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