Page 331 - CA Final PARAM Digital Book.

requires you to make a due diligence audit in the areas of assets of pharmaceutical company especially
with reference to valuation aspect of assets. State what may be your areas of analysis in order to ensure
that the assets are not stated at overvalued amounts.

Answer ➢ Different Types
Due diligence is an all-pervasive exercise to review all important aspects like financial, legal,

commercial, etc. before taking any final decision in the matter.

➢ Review of Financial Statements
As far as any hidden liabilities or overvalued assets are concerned, this shall form part of such a
review of Financial Statements. Normally, cases of hidden liabilities and overvalued assets are not
apparent from books of accounts and financial statements. Review of financial statements does not
involve examination from the viewpoint of extraordinary items, analysis of significant deviations,
etc.
➢ Hidden Liabilities
However, in order to investigate hidden liabilities, the auditor should pay his attention to the
following areas
Government
• The company may not show any show cause notices which have not matured into
demands, as contingent liabilities. These may be material and important.
• Tax liabilities under direct and indirect taxes.
• Long pending sales tax assessments.
• Pending final assessments of customs duty where provisional assessment only has
been completed.

Share Holders
• Agreement to buy back shares sold at a stated price.

Financers
• The company may have given “Letters of Comfort” to banks and Financial Institutions.
• Since these are not “guarantees”, these may not be disclosed in the Balance sheet of
the target company.

Subsidiaries
• The Company may have sold some subsidiaries/businesses and may have agreed to take
over and indemnify all liabilities and contingent liabilities of the same prior to the date
of transfer. These may not be reflected in the books of accounts of the company.

Employees
• Unfunded gratuity/superannuation/leave salary liabilities; incorrect gratuity valuations.
• Huge labour claims under negotiation when the labour wage agreement has already
expired.
Customer
• Product and other liability claims; warranty liabilities; product returns/ discounts;
liquidated damages for late deliveries etc. and all litigation.

Other Third-Party Liabilities
• Environmental problems/claims/third party claims.
• Future lease liabilities.
• Contingent liabilities not shown in books.

➢ Regularly Overvalued Assets
The auditor shall have to specifically examine the following areas:
Fixed Assets
• Underused or obsolete Plant and Machinery and their spares;
• Asset values which have been impaired due to sudden fall in market value etc.
• Litigated assets and property.

Investments
• Investments carried at cost though realizable value is much lower.
• Investments carrying a very low rate of income / return.
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