Page 27 - CA Final PARAM Digital Book.

(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.

QNO Fraud Risk in Revenue Recognition Old Course-(M22R)
11.500 TITANIUM CNO - SA240.520
Arihant Limited was engaged in the business of owning and managing hotels and resorts, selling tourism
packages and performing airline bookings for corporate and individuals. It appointed Upadhyay & Co. as
its statutory auditor for the financial year 2021-22. While planning the audit, the audit team decided that
the risk of improper revenue recognition from hotel business should not be treated as a fraud risk. This
conclusion was based on the assessment of earlier years, wherein no fraud was identified in revenue
recorded from such business. While testing the internal financial controls over the process of revenue
recognition, it was identified that the controls are not properly designed to mitigate the risk of fraud and
risk of improper revenue recognition. As a result, the audit team decided to perform additional substantive
testing. However, the audit team still were to the conclusion that there is no risk of fraud in revenue
recognition. During the course of substantive testing, it was identified that the management did not
account for revenue received from corporate hotel bookings amounting to ₹ 35 crore. These amounts were
partially received in the company’s bank accounts and partially received in the CFO’s personal account.
The amounts received in the bank account of the company were disclosed as advances received against
the future bookings. In the light of above scenario, kindly guide the statutory auditors with respect to their
responsibility relating to fraud in an audit of a financial statement.
Answer As per SA 240, “The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial Statements”
and SA 315, “Identifying and Assessing the Risks of Material Misstatement Through Understanding the
Entity and Its Environment”, 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. When identifying and assessing the risks of material misstatement
due to fraud, the auditor shall, based on a presumption that there are risks of fraud in revenue
recognition, evaluate which types of revenue, revenue transactions or assertions give rise to such risks.
In accordance with SA 240, “The Auditor’s Responsibilities Relating to Fraud in an Audit of Financial
Statements” and 330,” The Auditor’s Responses to Assessed Risks” the auditor shall determine overall
responses to address the assessed risks of material misstatement due to fraud at the financial
statement level and assertion level.

The presumption that there are risks of fraud in revenue recognition may be rebutted. For example,
the auditor may conclude that there is no risk of material misstatement due to fraud relating to
revenue recognition in the case where there is a single type of simple revenue transaction, for example,
leasehold revenue from a single unit rental property. However, when there is a complex revenue
structure or when there is lack of controls on revenue recognition, then there is a high probability of
fraud risk in revenue recognition.

Obtaining an understanding of the entity and its environment, including the entity’s internal control
(referred to hereafter as an “understanding of the entity”), is a continuous, dynamic process of
gathering, updating and analysing information throughout the audit.

In the current scenario, the company was earning revenue from multiple streams. Also, it was
identified that the controls are not properly designed to mitigate the risk of fraud and risk of improper
revenue recognition. During the year it was identified that the management did not account for
revenue from corporate hotel bookings amounting to ` 35 crore. These amounts were partially received
in the company’s bank accounts and partially received in the CFO’s personal account. The amounts
received in the bank account of the company were disclosed as advances received against future
bookings.

Therefore, the auditor while performing the risk assessment procedures should consider the
complexity and nature of the revenue for determining the fraud risks in revenue recognition. Also,
there were no adequate controls addressing the risk of improper revenue recognition or fraud risk, the
audit team rebutted the fraud risk. Moreover, the audit team should have recognised fraud risk by

www.auditguru.in PARAM 2.6 | P a g e