Executive Summary of Audit Quality Review (AQR) Report No. 01/2020 released by NFRA in respect of audit done by BSR & Associates LLP (Firm Reg No 116231W/W-100024) of IL&FS Financial Services Ltd (IFIN) for FY 2017-18.
NFRA issues Audit Quality Review Report of the Statutory Audit for FY 2017-18 of IL&FS Financial Services Limited
The National Financial Reporting Authority (NFRA) has issued the Audit Quality Review Report (AQRR) of the Statutory Audit for the year 2017-18 of IL&FS Financial Services Limited (IFIN). The statutory auditor for this engagement was BSR & Associates LLP (BSR).
The AQR was conducted pursuant to Section 132(2)(b) of the Companies Act, 2013, and NFRA Rules, 2018, which require the NFRA to, inter-alia, monitor and enforce the compliance with accounting standards and auditing standards.
NFRA has concluded in this AQRR that the appointment of BSR as the statutory auditors of IFIN was ab initio illegal and void. The instances of failure to comply with the requirements of the Standards of Auditing (SAs) by BSR are significant and BSR did not have adequate justification for issuing the Audit Report asserting that the audit was conducted in accordance with SAs. The failure to comply deals with Material Misstatements of major magnitude and fundamental importance, Going Concern assumption by the management, the complete absence of the required communication with Those Charged With Governance, determination of Materiality amounts on the basis of non-relevant factors, etc. Further, NFRA found that the IT processes/platform used by BSR have deficiencies that are systemic and structural in nature.
Separately, NFRA will examine whether disciplinary proceedings under Section 132(4) of the Companies Act, 2013 needs to be initiated in connection with the AQRR.
The Audit Quality Review (AQR Process) was commenced on 7th February, 2019. During the process, a very extensive and detailed correspondence was carried on with BSR and Associates, LLP, (BSR), answers were sought to many questions, and additional information was requested on many issues. NFRA’s intermediate conclusions, along with the detailed reasoning in support of the same, was made available to BSR at two stages in the process, and BSR was afforded full opportunity to respond to the same. BSR was also invited for an oral discussion/presentation to NFRA on 27th July, 2020. Subsequent to this, BSR provided additional information/documents arising out of this discussion/presentation. All this material has been carefully scrutinised in the preparation of this AQR Report (AQRR).
1. 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).
2. Notwithstanding such lack of eligibility, and without prejudice to such finding, NFRA has conducted a full Some of the more important findings described in detail in the AQRR are mentioned below. Anyone interested in understanding the matters listed in the succeeding paras in more detail is requested to go through the full AQRR.
3. 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 SA
4. In this connection, NFRA wishes to draw attention to Response 12 in the ICAI’s Implementation Guide on Reporting Standards (November 2010 Edition) which says that “A key assertion that is made in this paragraph is that the audit was conducted in accordance with the SAs”; and that “If during a subsequent review of the audit process, it is found that some of the audit procedures detailed in the SAs were not in fact complied with, it may tantamount to the auditor making a deliberately false declaration in his report and the consequences for the auditor could be very serious indeed” (emphasis added).
5. BSR and other entities in its network de facto use the KPMG Trade Mark and Brand Name for all their audit and non-audit services, while making a clearly futile attempt to show a de jure separation from KPMG. This attempt will have to fail in view of the clear public perception of the BSR network entities being part of the larger KPMG global network, and also the legal agreements between them. The non-audit services provided technically by the KPMG labelled entities of the network are clearly services indirectly provided by the BSR entities, and result in gross violations of the independence requirements for auditors laid down under the Companies Act, as well as the Code of Ethics mandated by the Institute of Chartered Accountants of India.
6. 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, as of 31st March, 2018. In fact, these numbers were actually 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 own 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.
7. IFIN’s reported Profit Before Tax for 2017-18 was Rs 201.96 crores. This was 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)
In all the above cases, BSR has not obtained sufficient, appropriate audit evidence, as required by the SAs, to support the specific numbers finally reported in the Financial Statements. The total of the 3 items mentioned above alone have led to an inflation of the profits of IFIN by Rs 609 crores.
8. Numerous other violations of the SAs have been detailed in the These 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 on the basis of non-relevant factors, etc.
9. The Engagement Quality Control Review (EQCR) mechanism was found to be completely inadequate for the intended task.
10. NFRA has also extensively studied the IT processes and platform that are used by BSR for their Audit File documentation. NFRA found that the IT processes/platform have deficiencies that are systemic and structural in nature, and arise substantially from a complete disregard for basic principles of IT security in the software used. This renders the audit documentation completely unfit for the intended purpose.