slide1 n.
Download
Skip this Video
Loading SlideShow in 5 Seconds..
TECHNICAL SESSION 3 DEPRECIATION, INTERNAL AUDIT, VOLUNTARY REVISION OF FINANCIAL STATEMENTS ,ICFR & CONSOLIDAT PowerPoint Presentation
Download Presentation
TECHNICAL SESSION 3 DEPRECIATION, INTERNAL AUDIT, VOLUNTARY REVISION OF FINANCIAL STATEMENTS ,ICFR & CONSOLIDAT

Loading in 2 Seconds...

play fullscreen
1 / 112

TECHNICAL SESSION 3 DEPRECIATION, INTERNAL AUDIT, VOLUNTARY REVISION OF FINANCIAL STATEMENTS ,ICFR & CONSOLIDAT - PowerPoint PPT Presentation


  • 110 Views
  • Uploaded on

TECHNICAL SESSION 3 DEPRECIATION, INTERNAL AUDIT, VOLUNTARY REVISION OF FINANCIAL STATEMENTS ,ICFR & CONSOLIDATION UNDER THE COMPANIES ACT, 2013. CA (DR.) SANJEEV SINGHAL HEAD: CENTRE OF EXCELLENCE FOR ACCOUNTING AND MANAGEMENT ASSURANCE JUBILANT LIFE SCIENCES LTD. DEPRECIATION.

loader
I am the owner, or an agent authorized to act on behalf of the owner, of the copyrighted work described.
capcha
Download Presentation

PowerPoint Slideshow about 'TECHNICAL SESSION 3 DEPRECIATION, INTERNAL AUDIT, VOLUNTARY REVISION OF FINANCIAL STATEMENTS ,ICFR & CONSOLIDAT' - jodie


An Image/Link below is provided (as is) to download presentation

Download Policy: Content on the Website is provided to you AS IS for your information and personal use and may not be sold / licensed / shared on other websites without getting consent from its author.While downloading, if for some reason you are not able to download a presentation, the publisher may have deleted the file from their server.


- - - - - - - - - - - - - - - - - - - - - - - - - - E N D - - - - - - - - - - - - - - - - - - - - - - - - - -
Presentation Transcript
slide1

TECHNICAL SESSION 3DEPRECIATION, INTERNAL AUDIT, VOLUNTARY REVISION OF FINANCIAL STATEMENTS ,ICFR & CONSOLIDATION UNDER THE COMPANIES ACT, 2013

CA (DR.) SANJEEV SINGHAL

HEAD: CENTRE OF EXCELLENCE FOR ACCOUNTING AND MANAGEMENT ASSURANCE

JUBILANT LIFE SCIENCES LTD.

applicable provisions

DEPRECIATION

APPLICABLE PROVISIONS
  • Section 123 of the Companies Act, 2013
  • Schedule II of the Companies Act, 2013
  • (Note: Above provisions are effective from 1st April, 2014 as per notification by MCA dated 26th March, 2014)
  • Amendment to Schedule II of the Companies Act, 2013
depreciation related provisions key highlights useful life vis a vis rates of depreciation
DEPRECIATION RELATED PROVISIONS-KEY HIGHLIGHTS(Useful Life vis-a-vis rates of depreciation)
  • Schedule II of the Companies Act, 2013 provides the useful life as against the minimum rates of depreciation which were there in the Schedule XIV of the Companies Act, 1956.
  • In case of Plant and Machinery, Schedule II of the Companies Act, 2013 gives the industry specific useful life.
  • Schedule XIV of the Companies Act, 1956 contained the minimum rates of depreciation. No Company was allowed to charge depreciation at the rates lower than the rates prescribed in Schedule XIV.
  • However, the Companies Act, 2013 does not have any such restriction. This is a significant change in the approach of the regulator and will bring the Indian companies at par with international practice.
slide4

Classification of companies as per the Companies Act, 2013 to decide the application of depreciation rates

  • All Companies:
  • Useful life should not generally be longer than the useful life specified in Part ‘C’ and the residual value shouldnot be more than 5% of the original cost of the asset.
  • However, where a company uses a useful life or residual value of the asset which is different from the above limits, justification for the difference shouldbe disclosed in its financial statement.
  • (Replaced by amendment to Schedule II)
  • IMPACT: Now, instead of only prescribed companies, all the companies are required to comply with the above provision.
slide5

II. Class of companies or class of assets where useful lives or residual value are prescribed by a regulatory authority constituted under an act of the Parliament or by the Central Government:

  • The useful life or residual value of any specific asset, as notified for accounting purposes by a Regulatory Authority constituted under an Act of Parliament or by the Central Government should be applied in calculating the depreciation to be provided for such asset irrespective of the requirements of Schedule II.
slide6

Useful Life & Residual Value:

*Residual value was inbuilt in depreciation rates prescribed under Schedule XIV

rates applicable to intangible assets
Rates applicable to Intangible Assets
  • For Intangible assets, there is no specific provision in the Schedule XIV of the Companies Act, 1956 except that in the case of toll road, amortization was done using the amortization rate arrived at by dividing actual revenue for the year with total estimated revenue.
  • Now, no separate depreciation rate is prescribed for intangible assets in the Schedule II of the Companies Act, 2013. Rather, the same will be governed by the notified AS (i.e., AS 26).
  • In practice, we do not expect a change for Intangible assets.
change brought in by the amendment
Change brought in by the amendment
  • For intangible assets, the provisions of the accounting standards applicable for the time being in force will apply, except in case of intangible assets (Toll Roads) created under ‘Build, Operate and Transfer’, ‘Build, Own, Operate and Transfer’ or any other form of public private partnership route in case of road projects.
  • Where a company arrives at the amortisation amount in respect of the Intangible Assets in accordance with any method as per the applicable Accounting Standards, the same should be disclosed.
  • Where a company arrives at the amortisation amount in respect of the said Intangible Assets in accordance with any method as per the applicable Accounting Standards, it shall disclose the same.
  • IMPACT: Revenue based amortization permitted for intangible assets (toll roads) under service concession
example
Example:
  • Cost of creation of Intangible Assets Rs. 500 crores
  • Total period of Agreement 20 Years
  • Time use for creation of Intangible Assets 2 Years
  • Intangible Assets to be amortized in 18 Years
  • Assuming that the Total revenue to be generated out of Intangible Assets over the Period would be Rs. 600 Crores, in the following manner:
slide10

BasedonthisthechargeforfirstyearwouldbeRs. 4.16Crore(approximately)(i.e.,Rs. 5/Rs. 600XRs.500Crores)whichwouldbechargedtoprofitandlossand0.83%(i.e., Rs. 4.16 crore /500 crore *100) is the amortisation rate for the first year.

‘*’will be actual at the end of financial year

useful life of continuous process plant
Useful life of Continuous process plant
  • Useful life of Continuous process plant for which no special rate has been prescribed [NESD] is increased from 8 to 25 years by the amendment.
slide12

Extra Shift Depreciation

  • Earlier, the extra shift depreciation rates were given for the categories of assets for which extra shift depreciation was allowed. Now, no separate rates are prescribed for extra shift depreciation. A blanket statement is provided that the period of time an asset is used in double shift, depreciation will increase by 50% and by 100% in case of triple shift working.
example 1
Example-1
  • From the following information, compute the depreciation as per the provisions of Schedule XIV of the Companies Act, 1956 and Schedule II of the Companies Act, 2013 and show the difference in both.
  • Purchase cost of the Reactors Rs.40,00,000
  • Cost of installation Rs.1,50,000
  • Residual Value Nil
  • Estimated Useful Life 25 Years
  • Useful Life prescribed in Schedule II 20 years
notes
Notes:
  • Prescribed rates have been used for computation of depreciation under Schedule XIV of the Companies Act, 1956.
  • b) The rates prescribed in the Schedule XIV of the Companies Act, 1956 have the inbuilt effect of residual value, i.e., the rates are prescribed such that 5% of residual value remains after depreciating 95% of the cost. Accordingly, the residual value is not deducted in the example in computing the depreciation under Schedule XIV. But it is deducted for depreciation computed under the Schedule II of the Companies Act, 2013.
  • c) Useful life considered for computation of depreciation under Schedule II of the Companies Act, 2013 is the one that is prescribed in Part C of the Schedule.
  • d) According to the Schedule XIV of the Companies Act, 1956, lower rate of depreciation (based on higher estimated useful life of 25 years) than prescribed cannot be used
slide16

e) According to the Schedule II of the Companies Act, 2013, entities may charge a lower depreciation than the rate envisaged in Schedule II on disclosing justified reasons of the differences. In case the entity goes with the option of charging depreciation at the rates lower than the prescribed rates, the rates will be as follows:

  • In case the entity goes with the option of rates lower than the prescribed rates, the rates will be as follows:
  • Single shift: (1*100/25= 4%)
  • In this case, the difference would be as follows:
example 2
Example-2
  • A ltd. is using Roll Grinder (falling in category of Plant and Machinery used in manufacture of non-ferrous metals in schedule II) in its operation process. Details are as follows:
  • Capitalised value of the Roll Grinder Rs. 5,00,000/-
  • Useful Life 40 Years
  • Residual Value Rs. 25,000/-
  • Useful Life prescribed in Schedule II 40 years
  • Required:
  • Calculate depreciation as per the provisions of schedule XIV of the Companies Act, 1956 and Schedule II of the Companies Act, 2013, if the machine is used for:
  • a)Single shift
  • b)Double shift
  • c)Triple shift
slide20

Notes

  • a)Prescribed rates have been used for computation of depreciation under Schedule XIV of the Companies Act, 1956.
  • b)The rates prescribed in the Schedule XIV of the Companies Act, 1956 have the inbuilt effect of residual value, i.e., the rates are prescribed such that 5% of residual value remains after depreciating 95% of the cost. Accordingly, the residual value is not deducted in the example in computing the depreciation under Schedule XIV. But it is deducted for depreciation computed under the Schedule II of the Companies Act, 2013.
  • c)According to the Schedule XIV of the Companies Act, 1956, lower rate (based on higher estimated useful life of 40 years) of depreciation than prescribed cannot be used.
slide28

Note:

“Buildings" include roads, bridges, culverts, wells & tube-wells and "factory buildings" does not include offices, godowns, officers & employees' quarters, roads, bridges, culverts, wells & tube-wells according to the Schedule XIV of the Companies Act, 1956. Hence, the corresponding schedule XIV rates considered for comparison are those of ‘buildings (other than factory buildings) NESD’ specified in Schedule XIV.

slide29

Component Accounting made mandatory:

  • Useful life specified in Part C of the Schedule is for whole of the asset. Where cost of a part of the asset is significant to total cost of the asset and useful life of that part is different from the useful life of the remaining asset, useful life of that significant part should be determined separately.
example1
Example
  • X Ltd., a steel company is in the process of enhancing its production capacity. The company has got another furnace commissioned. Based on its historical experience, the company determines the life of furnace to be 30 years. The cost of the furnace is Rs. 90 crores. The break-down of the cost is as below:

Give the impact of component accounting on replacement of components after introduction of the Companies Act, 2013 and compare with the earlier situation under the Companies Act, 1956. Residual value may be assumed to be nil.

slide31

Treatment under the Companies Act, 1956

  • The component accounting was not mandatory under the Companies Act, 1956. The replacement cost was charged to the Statement of Profit and loss in the year in which it was incurred.
  • Annual depreciation of the furnance =Rs. 90 crore/30
  • = Rs. 3 crores
  • Replacement cost of various components will be charged to the statement of Profit and loss.
slide32

Treatment under Companies Act, 2013:

Statement showing component wise annual depreciation

slide33

When at the end of the respective useful lives of the components, the components will be replaced, the replacement cost should be capitalised because by that time, they are fully depreciated and the carrying value at the end of their respective useful lives is nil.

  • Thus, although the overall amount that will be charged to the statement of Profit and loss will be same during the entire life of the furnance, the annual charge to the statement of profit and loss will differ significantly.
slide34

There is no specific requirement of 100% depreciation on assets whose actual cost does not exceed Rs. 5,000 in the Companies Act, 2013. However, under the Companies Act, 1956, assets whose actual cost does not exceed Rs. 5 thousand are depreciated @ 100%.

  • There is no significant change in pro-rata basis of providing depreciation and in the concept of residual value.
transitional provisions
Transitional Provisions
  • From the date the Schedule II comes into effect, the carrying amount of the asset as on that date:
  • (a) Should be depreciated over the remaining useful life of the asset as per Schedule II;
  • (b) after retaining the residual value, should be recognised in the opening balance of retained earnings where the remaining useful life of an asset is nil.
example 11
Example-1
  • A company acquired a building (other than factory building and RCC Frame Structure) at a cost of Rs. 10 crores. The company was depreciating the building according to Schedule XIV SLM rate, i.e., 1.63% (rate computed assuming useful life to be approximately 60 years). Now, in April, 2014, Schedule II of the Companies Act, 2013 became effective, useful life specified in which is 30 years.
  • Explain how the transitional provision effect will be accounted for:
  • A. If the building is acquired on 1st April, 2000
  • B. If the building is acquired on 1st April, 1980
slide37

A. Transition effect in case the building is acquired on 1st April, 2000

  • Depreciation charged till FY 2013-14, i.e., depreciation on SLM for 14 years
  • Rs. 10 crores*1.63%*14 yrs
  •  Rs. 2,28,20,000
  • Carrying Value as on 1st April, 2014
  • Cost less accumulated depreciation till FY 2013-14
  • Rs. 10,00,00,000 – Rs. 2,28,20,000
  •  Rs. 7,71,80,000
  • The carrying value as on 1st April, 2014 will be depreciated over the remaining useful life of the asset as per Schedule II of the Companies Act, 2013. The remaining useful life as per new Schedule is (30-14) 16 years. Accordingly, depreciable amount of Rs. 7,71,80,000 will be depreciated over 16 years. So, annual depreciation to be charged to Profit and loss account from FY 2014-15 onwards would be Rs. 7,71,80,000/16 yrs , i.e., Rs. 48,23,750.
slide38

Impact

  • After 16 years from FY 2014-15, i.e., from FY 2030-31 onwards no depreciation would be charged
  • For 16 years, i.e., from FY 2014-15 to FY 2029-30, higher depreciation would be charged. If Schedule II would not have been introduced, depreciation charged annually would have been Rs. 10 cr. * 1.63% = Rs. 16,30,000. After the introduction of Schedule II of the Companies Act, 2013, depreciation charged for these 16 years would be Rs. 48,23,750 which is higher by Rs. 31,93,750.
slide39

B. Transition effect in case the building is acquired on 1st April, 1980

  • If the building would have been purchased on 1st April, 1980, then as on 1st April, 2014, useful life of 30 years as per new Schedule has already expired. In such case, the carrying value as on 1st April, 2014 would be recognised in the opening balance of retained earnings.
  • Depreciation charged till FY 2013-14, i.e., depreciation on SLM for 34 years
  • Rs. 10 crores*1.63%*34 yrs
  •  Rs. 5,54,20,000
  • Carrying Value as on 1st April, 2014
  • Cost less accumulated depreciation till FY 2013-14
  • Rs. 10,00,00,000 – Rs. 5,54,20,000
  •  Rs. 4,45,80,000
slide40

Carrying value as on 1st April, 2014 of Rs. 4,45,80,000 would be recognised in the opening balance of retained earnings. (assuming residual value to be nil)

  • Impact
  • Opening balance of retained earnings would reduce by the carrying amount.
  • No depreciation from FY 2014-15 onwards shall be charged to the profit and loss account, which otherwise would have been charged if Schedule II would not have come into force.
  • Note: In case, there is a residual value, say, Rs. 10,00,000 then Rs. 4,35,80,000 would be recognized in the opening balance of retained earnings and Rs. 10,00,000 will remain in the carrying amount of asset.
example 21
Example-2
  • A company acquired a reactor used in the manufacture of pharmaceuticals and chemicals at a cost of Rs. 40 lakhs on 1st April, 2005. The reactor worked for triple shift. The company was depreciating the reactor according to Schedule XIV triple shift SLM rate, i.e., 10.34%. Now, in April, 2014 Schedule II of the Companies Act, 2013 became effective, useful life specified in which is 20 years.
  • Explain how the transitional provision effect will be accounted for:
  • A. If the reactor is acquired on 1st April, 2005
  • B. If the reactor is acquired on 1st April, 1993
slide42

Notes:

  • Reactor was not specifically covered under the Schedule XIV of the Companies Act, 1956, so rate is taken to be the rate applicable to ‘general plant and machinery (not being a ship) other than a continuous process plant for which no specific rate has been prescribed’.
  • Reactor is specified as NESD under the Schedule II of the Companies Act, 2013, i.e., under new schedule, no extra shift depreciation would be applicable. However, under old schedule extra shift depreciation was applicable as earlier it was covered under the category of ‘general plant and machinery (not being a ship) other than a continuous process plant for which no specific rate has been prescribed’ and it was not specified in the items of general plant and machinery (for which no specific rate has been prescribed) to which extra shift depreciation is not applicable.
slide43

A. If the reactor is acquired on 1st April, 2005

  • Depreciation charged till FY 2013-14, i.e., depreciation on SLM for 9 years
  • Rs. 40 lakhs*10.34%*9 yrs
  •  Rs. 37,22,400
  • Carrying Value as on 1st April, 2014
  • Cost less accumulated depreciation till FY 2013-14
  • Rs. 40,00,000 – Rs. 37,22,400
  •  Rs. 2,77,600
  • The carrying value as on 1st April, 2014 will be depreciated over the remaining useful life of the asset as per Schedule II of the Companies Act, 2013.
slide44

The remaining useful life as per new Schedule is (20-9) 11 years. Accordingly, depreciable amount of Rs. 2,77,600 will be depreciated over 11 years. So, annual depreciation to be charged to Profit and loss account from FY 2014-15 onwards would be Rs. 2,77,600/11 yrs , i.e., Rs. 25,236. (assuming residual value to be nil)

  • Impact
  • After 11 years from FY 2014-15, i.e., from FY 2025-26 onwards no depreciation would be charged
  • For 11 years, i.e., from FY 2014-15 to FY 2024-25, lower depreciation would be charged. If Schedule II would not have been introduced, depreciation charged annually would have been Rs. 40 lakhs * 10.34% = Rs. 4,13,600 till the time the asset is fully depreciated. After the introduction of Schedule II of the Companies Act, 2013, depreciation charged for these 11 years would be Rs. 25,236 which is lower by Rs. 3,88,364
slide45

B. If the reactor is acquired on 1st April, 1993

  • If the reactor would have been purchased on 1st April, 1993, then as on 1st April, 2014, useful life of 20 years as per new Schedule has already expired.
  • In such case, the carrying value as on 1st April, 2014 would be recognised in the opening balance of retained earnings.
  • The reactor would have been fully depreciated by the end of 10th year from 1st April, 1993. Accordingly there would be no carrying value as on 1st April, 2014.
  • Impact
  • There would be no effect on retained earnings.
  • No depreciation from FY 2014-15 onwards shall be charged to the profit and loss account, which would have been the same if Schedule II would not have come into force. Hence, there would be no effect on the Statement of Profit and Loss as well.
other provision relating to depreciation
Other provision relating to depreciation
  • Dividend should be declared by a company for any financial year at a general meeting out of the profits for that year or any previous year or years arrived at after providing for depreciation.
  • The section also provides that the depreciation shall be provided in accordance with Schedule II.
  • (Section 123 of the Companies Act, 2013)
slide47

INTERNAL AUDIT (Section 138 of the Companies Act, 2013)(Rule 13 of Companies (Accounts) Rules, 2014)(Provisions to be complied within 6 months of commencement of section)(No provision for mandatory audit in the 1956 Act)

Prescribed class of companies would be required to appoint an internal auditor, who shall either be a chartered accountant or a cost accountant, or such other professional as may be decided by the Board to conduct internal audit of the functions and activities of the company.

slide48

Internal Auditor may or may not be an employee of the company.

  • Chartered accountant may or may not be in practice.
slide49

>=Rs. 50 cr

>=Rs. 200 cr

>=Rs. 100 cr

>=Rs. 25 cr

>=Rs. 200 cr

>=Rs. 100 cr

slide50

MANNER AND SCOPE

The Central Government may, by rules, prescribe the manner and the intervals in which the internal audit shall be conducted and reported to the Board.

(Section 138(2) of the Companies Act, 2013)

Audit Committee/Board shall, in consultation with the Internal Auditor, formulate the scope, functioning, periodicity and methodology for conducting the internal audit.

(Rule 13(2) of Companies (Accounts) Rules, 2014)

slide51

VOLUNTARY REVISION OF FINANCIAL STATEMENTS OR BOARD’S REPORT(Section 131 of the Companies Act, 2013)(Section yet to be notified) (No such provision in the Companies Act, 1956)

general provision
General Provision
  • Directors may prepare revised financial statement or a revised report in respect of any of the three preceding financial years after obtaining approval of the Tribunal on an application made by the company in prescribed form and manner.
  • This is permissible when it appears to the directors that:
  • (a) the financial statement of the company; or
  • (b) the report of the Board,
  • do not comply with the provisions of section 129 or section 134
points to be noted
Points to be noted
  • Revision is allowed only once in a FY.
  • Detailed reasons for revision of such financial statement or report shall also be disclosed in the Board's report in the relevant financial year in which such revision is being made.
  • Copy of the Order of the Tribunal shall be filed with the Registrar.
slide54

Provisions in case the copies of the previous financial statement or report have been sent out to members or delivered to the Registrar or laid before the company in general meeting

  • Revisions must be confined to:
  • the correction in respect of which the previous financial statement or report do not comply with the provisions of section 129 or section 134; and
  • (b) the making of any necessary consequential alternation.
slide55
AUDITORS REPORT(Section 143(3) of the Companies Act, 2013)(Rule 11 of Companies (Audit and Auditors), 2014
auditors report shall state that
Auditors’ Report shall state that:
  • (a) whether he has sought and obtained all the information and explanations which to the best of his knowledge and belief were necessary for the purpose of his audit and if not, the details thereof and the effect of such information on the financial statements;
  • (b) whether, in his opinion, proper books of account as required by law have been kept by the company so far as appears from his examination of those books and proper returns adequate for the purposes of his audit have been received from branches not visited by him;
  • (c) whether the report on the accounts of any branch office of the company audited by a person other than the company’s auditor has been sent to him under the proviso to that sub-section and the manner in which he has dealt with it in preparing his report;
slide57

d) whether the company’s balance sheet and profit and loss account dealt with in the report are in agreement with the books of account and returns;

  • (e) whether, in his opinion, the financial statements comply with the accounting standards;
  • (f) whether any director is disqualified from being appointed as a director under sub-section (2) of section 164;
  • (g) any qualification, reservation or adverse remark relating to the maintenance of accounts and other matters connected therewith
  • Note: The above points except point (g) are same in the Companies Act, 1956
slide58

the observations or comments of the auditors on financial transactions or matters which have any adverse effect on the functioning of the company

  • Note: Companies Act, 1956 required the auditor’s report to state in thick type or italics, observations or comments having adverse impact on the functioning of the company. The scope has been narrowed to financial matters and the requirement to highlight in thick type or italics has been omitted by the Companies Act, 2013.
slide59

(i) The auditor’s report shall state whether the company has adequate internal financial controls system (IFCS) in place and the operating effectiveness of such controls.

  • ISSUE: IFCS should be restricted to the financial statements only.
  • (j) The Auditor’s report shall state any qualification, reservation or adverse remark relating to the maintenance of accounts and other matters connected therewith.
  • Auditor’s report shall also include their views and comments on the following matters:
  • Whether the company has disclosed the effect, if any, of pending litigations on its financial position in its financial statement;
  • (b) Whether the company has made provision as required under law/AS for material foreseeable losses, if any, on long term contracts including derivative contracts;
  • (c) Whether there has been delay in depositing money into the Investor Education and Protection Fund by the company.
key points
Key Points
  • Auditor is required to report on adequacy & operating effectiveness of such IFC in case of all companies
  • Provisions do not apply for CFS
  • The auditor should test the controls during the financial year and not only on the Balance Sheet date
  • To the extent possible, the review of IFC should be integrated with the main audit
  • A significant deficiency in IFC may exist even when the financial statements are not materially misstated.
key provisions of sox act 2002
Key provisions of SOX Act, 2002

Section 302

Section 409

  • Expanded representations by certifying officers
  • Disclosure of material changes on a “rapid and current basis”

SOX Act, 2002

Focused representations by certifying officers linked to criminal provisions of the Act

Assessment of the

effectiveness of internal controls and attestation from independent public accountants

Section 906

Section 404

coso overview
COSO Overview
  • COSO stands for the Committee of Sponsoring Organizations which includes the American Institute of CPAs (AICPA), the American Accounting Association (AAA), the Institute of Internal Auditors (IIA), the Institute of Management Accountants (IMA), and the Financial Executives Institute (FEI). The group published Internal Control—Integrated Framework in 1993
  • SOX 404 requires that a structured and generally accepted internal controls framework be adopted and followed
  • COSO is the standard framework for SOX 404 (Internal Control)
  • SEC and PCAOB both specifically state that COSO is an acceptable framework
components of internal control
Components of Internal control
  • The control environment
  • The set of standards, processes, and structures that provide the basis for carrying out internal control across the organisation.
  • The board of directors and senior management establish the tone at the top regarding the importance of inter­nal control including expected standards of conduct.
  • The control environment comprises the integrity and ethical values of the organisation; the parameters enabling the board of directors to carry out its governance oversight responsibilities; the organisational struc­ture and assignment of authority and responsibility; the process for attracting, develop­ing, and retaining competent individuals; and the rigor around performance measures, incentives, and rewards to drive accountability for performance. The resulting control environment has a pervasive impact on the overall system of internal control.
components of internal control1
Components of Internal control
  • Risk assessment
  • Risk is defined as the possibility that an event will occur and adversely affect the achievement of objec­tives. Risk assessment involves a dynamic and iterative process for identifying and assessing risks to the achievement of objectives.
  • Risk assessment also requires management to consider the impact of pos­sible changes in the external environment and within its own business model that may render internal control ineffective.
components of internal control2
Components of Internal control
  • Control activities
  • Control activities are the actions established through policies and procedures that help ensure that management's directives to mitigate risks to the achievement of objectives are carried out.
  • Control activities are performed at all levels of the entity, at various stages within business processes, and over the technology environment.
  • They may be preventive or detective in nature and may encompass a range of manual and automated activities such as authorisations and approvals, verifications, reconciliations, and busi­ness performance reviews.
  • Segregation of duties is typically built into the selection and development of control activities. Where segregation of duties is not practical, manage­ment selects and develops alternative control activities.
components of internal control3
Components of Internal control
  • Information and communication
  • Internal communication is the means by which information is disseminated throughout the organisation, flowing up, down, and across the entity. It enables personnel to receive a clear message from senior management that control responsibilities must be taken seriously.
  • External communication is twofold: it enables inbound communication of relevant exter­nal information, and it provides information to external parties in response to require­ments and expectations.
components of internal control4
Components of Internal control
  • Monitoring activities
  • Ongoing evaluations, separate evaluations, or some combination of the two are used to ascertain whether each of the five components of internal control, including controls to effect the principles within each component, is present and functioning.
components principles
Components & Principles
  • Control environment
  • The organisation demonstrates a commitment to integrity and ethical values.
  • The board of directors demonstrates independence from management and exer­cises oversight of the development and performance of internal control.
  • Management establishes, with board oversight, structures, reporting lines, and appropriate authorities and responsibilities in the pursuit of objectives.
  • The organisation demonstrates a commitment to attract, develop, and retain com­petent individuals in alignment with objectives.
  • The organisation holds individuals accountable for their internal control responsibili­ties in the pursuit of objectives.
components principles1
Components & Principles
  • Risk assessment
  • The organisation specifies objectives with sufficient clarity to enable the identifica­tion and assessment of risks relating to objectives.
  • The organisation identifies risks to the achievement of its objectives across the entity and analyses risks as a basis for determining how the risks should be managed.
  • The organisation considers the potential for fraud in assessing risks to the achieve­ment of objectives.
  • The organisation identifies and assesses changes that could significantly impact the system of internal control.
components principles2
Components & Principles
  • Control activities
  • The organisation selects and develops control activities that contribute to the miti­gation of risks to the achievement of objectives to acceptable levels.
  • The organisation selects and develops general control activities over technology to support the achievement of objectives.
  • The organisation deploys control activities through policies that establish what is expected and procedures that put policies into action.
components principles3
Components & Principles
  • Information and communication
  • The organisation obtains or generates and uses relevant, quality information to support the functioning of internal control.
  • The organisation internally communicates information, including objectives and responsibilities for internal control, necessary to support the functioning of internal control.
  • The organisation communicates with external parties regarding matters affecting the functioning of internal control.
components principles4
Components & Principles
  • Monitoring activities
  • The organisation selects, develops, and performs ongoing and/or separate evaluations to ascertain whether the components of internal control are present and functioning.
  • The organisation evaluates and communicates internal control deficiencies in a timely manner to those parties responsible for taking corrective action, including senior management and the board of directors, as appropriate.
effective internal control
Effective Internal Control
  • Each of the five components and relevant principles is present and function­ing.
    • "Present" refers to the determination that the components and relevant principles exist in the design and implementation of the system of internal control to achieve specified objectives.
    • "Functioning" refers to the determi­nation that the components and relevant principles continue to exist in the operations and conduct of the system of internal control to achieve specified objectives.
  • The five components operate together in an integrated manner. "Operat­ing together" refers to the determination that all five components collectively reduce, to an acceptable level, the risk of not achieving an objective.
entity level controls
Entity Level Controls

COSO is applied at two levels – at the entity level and at the process or activity level.

Entity Level Controls (Company level controls)

  • These are controls that management relies on to establish the appropriate “tone at the top” relative to financial reporting.
  • Entity level controls have a pervasive impact on the effectiveness of controls at the process, transaction or application level. At the entity level, each of the 5 COSO components should be considered.

Examples

  • Code of conduct/ethics – Control Environment
  • Adequate training - Control Environment
  • Established risk identification practices - Risk Assessment
  • Reliable IT systems - Information & Communication
  • Whistle-blowing program - Information & Communication
  • Internal audit function - Monitoring
  • Self assessments - Monitoring
process level controls
Process Level Controls
  • The COSO framework is also applied at the activity or process level in same manner at entity level. At the process level, each of the 5 COSO components is considered, though from a practical standpoint it would consist mostly of control activities and monitoring.
  • Control activities are embedded within the process and they provide assurance that that the processes are preventing and detecting errors and irregularities as close as possible to the source and that relevant assertions are being met.
  • Monitoring provides assurance that control activities are being performed as intended. Example – Bank reconciliation review
key examples

Entity Level Controls

  • Company M has a number of operations throughout the country. The CEO recently announced the rollout of a new code of conduct program throughout the organization.
  • Yearly, the strategic business development plan is reviewed and updated.
  • An organization has extensive employee orientation programs. They include communication of the company’s mission statement, courses on the benefits of a sound internal control system, and details of procedures to follow when an employee suspects fraudulent behavior.
  • A steering committee is responsible for evaluating and balancing the level of skills and outside resources required to complete IT projects satisfactorily.
  • Process Level Controls
  • The accounting manager at Company Y reviews, on a weekly basis, the aged receivables report to determine that items are being collected on a timely basis.
  • On a quarterly basis, the group controller reviews a report of all vendors contained in the vendor master file and compares the vendor lists against the list of approved vendors.
  • Upon receiving raw materials, all receipts are checked against an authorized purchase order to ensure that the product received was ordered.
  • Physical inventory is counted periodically by individuals independent of day-to-day custody or recording of inventory.
Key examples
assertions understanding what can go wrong
Assertions - Understanding “What can go Wrong”

Question

Explanation

  • What is it?
  • Risks or errors that could occur related to the internal control assertions for the related cycle (i.e. what could go wrong in the processing stream)
  • Why do we need them ?
  • To identify the points where controls are needed
  • To assist with identifying all the relevant risks of errors or fraud, and the mitigating controls
  • To help formulate the additional questions we need to ask to help identify the appropriate controls
  • How do we develop them ?
  • By identifying those points within the flow of transactions where there could be a failure (including a failure due to fraud) to achieve the internal control assertions for the related cycle
  • By considering the entire flow of the transaction from initiating to reporting in the general ledger, including both manual and automated aspects
assertions understanding what can go wrong1
Assertions - Understanding “What can go Wrong”

Question

Explanation

  • Factors that affect how many you should identify
  • Complexity of the process
  • Number of opportunities in the process for errors to occur and remain undetected
  • Need to consider IT related WCGWs for significant processes
  • Start by thoroughly understanding process flows including automated aspects
  • Significant automated processing steps will have associated WCGWs.
  • IT related WCGW are very important
  • Management is still responsible to ensure that activities outsourced will not generate exposures to the business. WCGW list must include those processes.
  • Outsourced processes
assertions understanding what can go wrong2

Considerations for WCGW

Explanation

Assertions - Understanding “What can go Wrong”

Assets and liabilities actually exist and transactions as well as accounting events have actually occurred.

Existence

All assets, liabilities, transactions, and accounting events that should be included have been recorded.

Completeness

The assets and liabilities are presented at appropriate valuations.

Valuation

Transactions and accounting events are recorded at their appropriate valuations, and income and expenses are allocated to the appropriate time periods.

Allocation

Transactions and accounting events are properly presented.

Presentation and Disclosure

An assertion that an asset or liability pertains to the company at a point in time.

Rights and Obligations

examples of what can go wrong
Examples of “What can go Wrong”
  • Orders are processed and sales made to fictitious customers resulting in inaccurate sales.
  • Invoices are generated/ processed at the time of delivery/ dispatch of product resulting into sales being recorded in incorrect period
  • Price master may be set up incorrectly or with unauthorised details leading to incorrect invoicing
  • Incorrect inventory adjustments reserve calculated for obsolete/ short dated material
  • Adjustment amount for loss on impairment testing is not updated in SAP as per approved calculations
examples of what can go wrong1
Examples of “What can go Wrong”
  • Provision for goods in transit for goods sold is not computed and recorded accurately
  • Incorrect/ unauthorised disclosures in the financial statements
  • Liabilities for Product Recalls are not computed accurately.
  • Deferred Tax Assets/ Liabilities are inaccurately computed impacting the completeness and valuation.
definitions of deficiencies as defined by pcaob as 5
Definitions of deficiencies (as defined by PCAOB AS 5)
  • Control Deficiency
    • A deficiency in internal control over financial reporting exists when the design or operation of a control does not allow management or employees, in the normal course of performing their assigned functions, to prevent or detect misstatements on a timely basis.
    • A deficiency in design exists when
      • a control necessary to meet the control objective is missing or
      • an existing control is not properly designed so that, even if the control operates as designed, the control objective would not be met
    • A deficiency in operation exists when a properly designed control does not operate as designed, or when the person performing the control does not possess the necessary authority or competence to perform the control effectively
definitions of deficiencies as defined by pcaob as 51
Definitions of deficiencies (as defined by PCAOB AS 5)
  • A significant deficiency is a deficiency or a combination of deficiencies in internal controls over financial reporting that is less severe than a material weakness, yet important enough to merit attention by those responsible for oversight of the company’s financial reporting.
  • To be communicated by management and the auditor in writing to the Audit Committee
  • A material weakness is a deficiency or a combination of deficiencies in internal controls over financial reporting such that there is a reasonable possibility that a material misstatement of the company’s annual or interim financial statements will not be prevented or detected on a timely basis.
  • Externally reportable in assertion (by management) and in attestable opinion (by external auditor). Existence of a material weakness precludes an unqualified opinion

Significant Deficiency

Material Weakness

responsibilities
Responsibilities

Management’s

Auditor’s

  • Accept responsibility for the effectiveness of internal control over financial reporting
  • Evaluate the effectiveness of the company’s internal control over financial reporting
  • Support its evaluation with sufficient evidence including documentation
  • Present a written assessment of the effectiveness of the Company’s internal control over financial reporting as of the end of the company’s most recent fiscal year
  • Design of control over all relevant financial statement assertions relating to significant accounts and disclosures
  • Information about how significant transactions are initiated, authorized, recorded, processed and reported
  • To assess controls designed to prevent and detect fraud
  • To assess controls over period-end financial reporting process
  • To test the results of management’s testing and evaluation
preparation of consolidated financial statements
Preparation of Consolidated Financial Statements
  • A company with one or more subsidiaries should, in addition to Standalone Financial Statements, prepare Consolidated Financial Statements (CFS).
  • (Section 129(3) of the Companies Act, 2013)
  • The statement containing the salient features of the financial statement of a company’s subsidiary or subsidiaries, associate company and joint venture shall be in Form AOC-1.
  • (Rule 5 of Companies (Accounts) Rules, 2014)
  • Such statement should be attached by the company along with its financial statements.
  • (First proviso to Section 129(3) of the Companies Act, 2013)
slide92

The requirements concerning preparation, adoption and audit will, mutatis mutandis, apply to CFS.

  • (Section 129(4) of the Companies Act, 2013)
  • For this requirement, the word “subsidiary” includes associate company and joint venture.
  • (Explanation to Section 129(3) of the Companies Act, 2013)
slide93

Earlier, only clause 32 of the listing agreement mandated listed companies to publish Consolidated Financial Statements. Neither the Companies Act, 1956 nor AS 21 required other companies to prepare CFS.

conformity with accounting standards
Conformity with Accounting Standards
  • Consolidation of financial statements should be made in accordance with the
  • Accounting Standards &
  • Schedule III provisions
  • Company covered under section 129(3) not required to prepare consolidated financial statements under the Accounting Standards.
  • It shall be sufficient if the company complies with provisions on consolidated financial statements provided in Schedule III of the Act.
  • (Rule 6 of Companies (Accounts) Rules, 2014)
consolidation even if no subsidiary but only has an associate or joint venture
Consolidation-even if no subsidiary but only has an associate or joint venture
  • A company needs to apply equity method/proportionate consolidation to its associates and joint ventures even if it does not have any subsidiary.
  • CFS will be prepared when the company has an associate or joint venture, even though it does not have any subsidiary.
general instructions for preparation of cfs prescribed by schedule iii of the companies act 2013
General instructions for preparation of CFS prescribed by Schedule III of the Companies Act, 2013
slide97

a) Where a company is required to prepare CFS, the company will mutatis mutandis follow the requirements of this Schedule.

  • CFS should disclose the information as per the requirements specified in the Accounting Standards.
  • Profit or loss attributable to ‘minority interest’ and to owners of the parent in the statement of profit and loss should be presented as allocation for the period.
  • “Minority interests” in the balance sheet within equity should be presented separately from the equity of the owners of the parent.
slide98

b) All subsidiaries, associates and joint ventures (whether Indian or foreign should be covered under consolidated financial statements.

  • c)A company should disclose the list of subsidiaries or associates or joint ventures, which have not been consolidated along with the reasons for non consolidation.
  • d) A statement containing information such as share in profit/loss and net assets of each subsidiary, associates and joint ventures should be presented as additional information

Comparison:

Earlier, the MCA circular required information, such as, capital, reserves, total assets and liabilities, details of investment, turnover and profit before and after taxation, to be disclosed for subsidiaries only.

control meaning

The Companies Act, 1956 does not define the term “control.” It explains the meaning of terms “holding company” and “subsidiary” as below:

  • A company will be deemed to be a subsidiary of another company if, but only if:
  • The other company controls the composition of its board of directors, or
  • The other company:
  • Where the first mentioned company is an existing company in respect of which the holders of preference shares issued before the commencement of this Act have the same voting rights in all respects as the holders of equity shares, exercises or controls more than half of the total voting power of such company.
  • Where the first mentioned company is any other company, holds more than half in nominal value of its equity share capital, or
  • (c) The first mentioned company is a subsidiary of any company, which is the other’s subsidiary.
Control-Meaning
control meaning given in as 21
Control-Meaning given in AS 21
  • The ownership, directly or indirectly through subsidiary(ies), of more than one-half of the voting power of an enterprise, or
  • Control of the composition of the board of directors in the case of a company or of the composition of the corresponding governing body in case of any other enterprise so as to obtain economic benefit from its activities.”
control meaning as per companies act 2013
Control-Meaning as per Companies Act, 2013
  • “Control” includes:
  • right to appoint majority of the directors or to control the management or policy decisions exercisable by a person or persons acting individually or in concert, directly or indirectly, including by virtue of their shareholding or management rights or shareholders agreements or voting agreements or in any other manner.
  • (Section 2(27) of the Companies Act, 2013)
subsidiary company meaning given in as 21
Subsidiary Company-Meaning given in AS 21
  • “A subsidiary is an enterprise that is controlled by another enterprise (known as the parent).”
subsidiary company meaning as per companies act 2013
Subsidiary Company: Meaning as per Companies Act, 2013
  • A company in which the holding company:
  • (i) controls the composition of the Board of Directors; or
  • (ii) exercises or controls more than one-half of the total share capital either at its own or together with one or more of its subsidiary companies.
  • (Section 2(87) of the Companies act, 2013)
slide107

Total Share Capital means the aggregate of:

  • Paid up equity share capital
  • Convertible preference share capital
  • (Rule 2(1)(r) of Companies (Specification of definitions details) Rules, 2014)
slide108

ISSUE:

  • In the definition of subsidiary, only control over composition of board of directors and control via more than half of share capital. However, the definition of control suggests that a company may control other company through management rights or voting agreements also.
  • Whether a company should consider the definition of control for the purpose of consolidation?
associate meaning as per companies act 1956 and accounting standard 23
Associate-Meaning as per Companies Act, 1956 and Accounting Standard 23
  • AS 23 defines the term ‘associate’ as an enterprise in which the investor has significant influence and which is neither a subsidiary nor a joint venture of the investor.

The Companies Act, 1956 does not define the term ‘associate’ or ‘associate company’.

slide110

Associate: Meaning as per Companies Act, 2013

  • “Associate company”, in relation to another company, means a company in which that other company has a significant influence, but which is not a subsidiary company of the company having such influence and includes a joint venture company.
  • Explanation:“Significant influence” means control of at least 20% of total share capital, or of business decisions under an agreement.
  • (Section 2(6) of the Companies Act, 2013)
new avenues for practitioners
NEW AVENUES FOR PRACTITIONERS
  • Establishment of Internal Financial controls
  • Establishment of vigil mechanism
  • Computation of Depreciation
  • Internal Audit
  • Compulsory Consolidation