Whether the company is maintaining proper records showing full particulars, including quantitative details and situation of fixed assets.

[Paragraph 4(i)(a)]

(a) The clause requires the auditor to comment whether the company is maintaining proper records showing full particulars, including quantitative details and situation of fixed assets. Accounting Standard (AS) 10, “Accounting for Fixed Assets” defines “fixed asset” as an “asset held with the intention of being used for the purpose of producing or providing goods or services and is not held for sale in the normal course of business”.

(b) The Order is silent as to what constitutes ‘proper records. In general, however, the records relating to fixed assets should contain, inter alia, the following details:

(i) sufficient description of the asset to make identification possible;

(ii) classification, that is, the head under which it is shown in the accounts, e.g., plant and machinery, office equipment, etc;

(iii) situation;

(iv) quantity, i.e., number of units;

(v) original cost;

(vi) year of purchase;

(vii) adjustment for revaluation or for any increase or decrease in cost, e.g., on revaluation of foreign exchange liabilities;

(viii) date of revaluation, if any;

(ix) rate(s)/basis of depreciation or amortisation, as the case may be;

(x) depreciation/amortisation for the current year;

(xi) accumulated depreciation/amortisation;

(xii) particulars regarding impairment;

(xiii) particulars regarding sale, discarding, demolition, destruction, etc.

(c) The records should contain the above-mentioned particulars in respect of all items of fixed assets, whether tangible or intangible, self-financed or acquired through finance lease. These records should also contain particulars in respect of those items of fixed assets that have been fully depreciated or amortised or have been retired from active use and held for disposal. The records should also contain necessary particulars in respect of item of fixed assets that have been fully impaired during the period covered by the audit report. Thus, what constitutes proper records is a matter of professional judgment made by the auditor after considering the facts and circumstances of each case.

(d) It is necessary that the aggregate original cost, depreciation or amortisation to date, and impairment loss, if any, as per these records under individual heads should tally with the figures shown in the books of account.

(e) It is not possible to specify any single form in which the records should be maintained. This would depend upon the mode of account keeping (manual or computerized), the number of operating locations, the systems of control, etc. It may be noted that with the advent of the information technology, many companies are maintaining electronic records. Section 2(1)(t) of the Information Technology Act, 2000 defines the term “electronic record” as data recorded or data generated, image or sound stored, received or sent in an electronic form or computer generated micro fiches. If the records of fixed assets are maintained electronically, they have to be maintained in a manner that they can be retrieved in a legible form (which is different from machine readable form). Records maintained using electronic media should not be construed to be proper if the records are not capable of being retrieved in a legible form. Thus, a condition for valid electronic records of fixed assets is that they can be retrieved in a legible form. The Information Technology Act, 2000, lays down legal framework for electronic records and digital signatures. Accordingly, where any law requires that any information or matter should be in the typewritten or printed form, then such requirement shall be deemed to be satisfied if it is in an electronic form. However, it will have to be ensured that the information contained in the electronic records remains accessible and unaltered and its origin, destination, date, etc., can be identified.

(f) The purpose of showing the situation of the assets is to make verification possible. There may, however, be certain classes of fixed assets whose situation keeps changing, for example, construction equipment which has to be moved to sites. In such circumstances, it should be sufficient if record of movement/custody of the equipment is maintained.

(g) Where assets like furniture, etc., are located in the residential premises of members of the staff, the fixed assets register should indicate the name/designation of the person who has custody of the asset for the time being. In this connection, it may be necessary for the auditor to consider whether there are good reasons for the asset to be so located.

(h) While, generally, the quantity, value and situation have to be recorded item-wise, assets of small individual value, e.g., chairs, tables, etc., may be conveniently grouped for purposes of entry in the register. Similarly, for assets having a common rate of depreciation, it may not be necessary to indicate the accumulated depreciation for each item; instead, depreciation for the group as a whole may be shown.

Whether these fixed assets have been physically verified by the management at reasonable intervals; whether any material discrepancies were noticed on such verification and if so, whether the same have been properly dealt with in the books of account;

[Paragraph – 4(i)(b)]

(a) The clause requires the auditor to comment whether the fixed assets of the company have been physically verified by the management at reasonable intervals. The clause further requires the auditor to comment whether any material discrepancies were noticed on such verification and if so, whether those discrepancies have been properly dealt with in the books of account.

(b) Physical verification of the assets has to be made by the management and not by the auditor. It is, however, necessary that the auditor satisfies himself that such verification was done and that there is adequate evidence on the basis of which he can arrive at such a conclusion. The auditor may prefer to observe the verification, particularly when verification of all assets can be made by the management on a single day or within a relatively short period of time. If, however, verification is a continuous process or if the auditor is not present when verification is made, then he should examine the instructions issued to the staff (which should, therefore, be in writing) by the management and should examine the working papers of the staff to substantiate the fact that verification was done and to determine the name and competence of the person who did the verification. In making this examination, it is necessary to ensure that the person making the verification had the necessary technical knowledge where such knowledge is required. It is not necessary that only the company’s staff should make verification. It is also possible for verification to be made by outside expert agencies engaged by the management for the purpose.

(c) The auditor should examine whether the method of verification was reasonable in the circumstances relating to each asset. For example, in the case of certain process industries, verification by direct physical check may not be possible in the case of assets which are in continuous use or which are concealed within larger units. It would not be realistic to expect the management to suspend manufacturing operations merely to conduct a physical verification of the fixed assets, unless there are compelling reasons which would justify such an extreme procedure. In such cases, indirect evidence of the existence of the assets may suffice. For example, the very fact that an oil refinery is producing at normal levels of efficiency may be sufficient to indicate the existence of the various process units even where each such unit cannot be verified by physical or visual inspection. It may not be necessary to verify assets like building by measurement except where there is evidence of alteration/demolition. At the same time, in view of the possibility of encroachment, adverse possession, etc., it may be necessary for a survey to be made periodically of open land.

(d) The Order requires the auditor to report whether the management “at reasonable intervals” has verified the fixed assets. What constitutes “reasonable intervals” depends upon the circumstances of each case. The factors to be taken into consideration in this regard include the number of assets, the nature of assets, the relative value of assets, difficulty in verification, situation and spread of the assets, etc. The management may decide about the periodicity of physical verification of fixed assets considering the above factors. While an annual verification may be reasonable, it may be impracticable to carry out the same in some cases. Even in such cases, the verification programme should be such that all assets are verified at least once in every three years. Where verification of all assets is not made during the year, it will be necessary for the auditor to report that fact, but if he is satisfied regarding the frequency of verification he should also make a suitable comment to that effect.

(e) The auditor is required to state whether any material discrepancies were noticed on verification and, if so, whether the same have been properly dealt with in the books of account. The latter part of the statement is required to be made only if the discrepancies are material. The auditor has, therefore, to use his judgement to determine whether a discrepancy is material or not. In making this judgement, the auditor should consider not merely the cost of the asset and its relationship to the total cost of all assets but also the nature of the asset, its situation and other relevant factors. If a material discrepancy has been properly dealt with in the books of account (which may or may not imply a separate disclosure in the accounts depending on the circumstances of the case), it is not necessary for the auditor to give details of the discrepancy or of its treatment in the accounts but he is required to make a statement that a material discrepancy was noticed on the verification of fixed assets and that the same has been properly dealt with in the books of account.

(f) Apart from the audit procedures mentioned above, it would be appropriate for the auditor to obtain a management representation letter confirming that the fixed assets are physically verified by the company in accordance with the policy of the company. The management representation letter should also mention the periodicity of the physical verification of fixed assets. The letter should also include the details of the material discrepancies noticed during the physical verification of the fixed assets. If no discrepancies were noticed during the physical verification, the management representation letter should also mention this fact clearly.

If a substantial part of fixed assets have been disposed off during the year, whether it has affected the going concern;

[Paragraph 4(i)(c)]

(a) This clause requires the auditor to comment, in case where a substantial part of the fixed assets has been disposed off during the year, whether such disposal has affected the going concern status of the company.

(b) Accounting Standard (AS) 1, “Disclosure of Accounting Policies” states, “the enterprise is normally viewed as a going concern, that is, as continuing in operation for the foreseeable future. It is assumed that the enterprise has neither the intention nor the necessity of liquidation or of curtailing materially the scale of its operations”.

(c) The auditor, in the normal course, when planning and performing audit procedures and in evaluating the results thereof, is required to consider the appropriateness of the going concern assumption underlying the preparation of financial statements in accordance with the requirements of Standard on Auditing (SA) 570, “Going Concern”. As a result of such audit procedures and evaluation, if the auditor is of the opinion that there exists any indication of risk that the going concern assumption might not be appropriate, the auditor should gather sufficient appropriate audit evidence to resolve, to his satisfaction, the question regarding the company’s ability to continue operations for the foreseeable future. It may be noted that the sale of substantial part of fixed assets is one of the several such indications of risk. This clause of the Order pre-supposes the existence of such risk and, therefore, requires the auditor to examine whether the company has disposed off substantial part of fixed asset(s) during the period covered by his report and, if yes, whether the disposal of such part of the fixed assets has affected the going concern status of company. It should also be noted that this requirement of the Order does not absolve the auditor from his responsibilities regarding the appropriateness of the going concern assumption as a basis for preparation of financial statements. Since there could be several other indications of such a risk, the auditor, notwithstanding his comments under the clause, should also comply with the requirements of SA 570, “Going Concern” while discharging his attest function.

(d) Sale of substantial part of fixed assets should be construed to have affected the going concern if the auditor is not able to resolve, to his satisfaction, the question regarding the entity’s ability to continue in operation for the foreseeable future keeping in view the sale of substantial part of fixed assets or if the auditor comes to a conclusion that sale of substantial part of fixed assets has rendered the going concern assumption inappropriate.

(e) The Order does not define the word “substantial”. The response to the issue as to what constitutes “substantial part of fixed assets” depends primarily upon the facts and circumstances of each case. The auditor should use his professional judgement to determine whether an asset or group of assets sold by the company is a substantial part of fixed assets. In this case, the auditor may note that section 293(1)(a) of the Act deals with the sale, lease or otherwise disposal of the whole or substantially the whole, of the undertaking of the company. It may be noted that such a situation may not necessarily tantamount to sale of substantial part of the fixed assets of the company. However, such an approval of the shareholders might be an indication that the company has sold or has the intention of selling substantial part of its fixed assets. The audit procedures, in such a case, would also include examination of the minutes of the general meeting(s) where the matter was discussed and the resolution passed by the shareholders in this regard.

(f) The auditor should carry out audit procedures to gather sufficient appropriate audit evidence to satisfy himself that the company shall be able to continue as a going concern for the foreseeable future despite the sale of substantial part of fixed assets. These procedures may include:

(i) discussion with the management and analysis as to the significance of the fixed asset to the company as a whole;

(ii) scrutiny of the minutes of the meetings of the board of directors and important committees for understanding the entity’s business plans for the future (for example, replacement of the substantial part of the fixed asset disposed off with another fixed asset having more capacity or for taking up a more profitable line of business);

(iii) review of events after the balance sheet date for analysing the effect of such disposal of substantial part of fixed asset on the going concern.

(g) The auditor should also obtain sufficient appropriate audit evidence that the plans of the management are feasible, are likely to be implemented and that the outcome of these plans would improve the situation. The auditor should also seek written representation from the management in this regard.

(h) Where the company has disposed off substantial part of fixed assets, the auditor should consider whether the disposal of such part of fixed assets has triggered the risk of going concern assumption being no longer appropriate. It is possible that such risk is mitigated by factors such as those referred to in (f)(ii) above. If, in the auditor’s judgement, the going concern assumption is appropriate because of mitigating factors, in particular because of management’s plans for future action, the auditor, apart from reporting that sale of substantial part of fixed assets has not affected the going concern, should also consider whether such plans or other factors need to be disclosed in the financial statements. Where the auditor concludes that such plans or other factors need to be disclosed in the financial statements, but have not been adequately disclosed in the financial statements, the auditor should express a qualified or adverse opinion, as appropriate in accordance with the requirements of Standard on Auditing (SA) 700, “The Auditor’s Report on Financial Statements”, issued by the Institute of Chartered Accountants of India.

(i) An auditor might also come across a situation where the assets have not been put to use but are being held for sale or have been abandoned because of non viability of the project or for any other reason and, therefore, excluded from the schedule of fixed assets and accordingly, shown under the head sales/ adjustments. Such abandoned or held for sale fixed assets are shown separately in the financial statements in terms of paragraph 24 of Accounting Standard (AS) 10, Accounting for Fixed Assets. The, auditor in such a case, should examine the records maintained in respect of these assets in terms of paragraph 44(c) of the Statement and should consider such assets also while commenting upon this clause of the Order. It should, however, be noted that these assets may form substantial part of fixed assets but their disposal or sale might not affect the going concern.

(j) Another peculiar situation that might be faced by the auditor in reporting on this clause is where, say, a substantial change in the nature of activities being carried on by the company, requiring it to dispose off its plant and machinery etc. For example, where a manufacturing company has closed down its manufacturing operations, sold off its plant and equipment and has converted itself into a trading company, whether it can still be considered as a going concern. In resolving this issue, guidance can be drawn from Accounting Standard (AS) 1, Disclosure of Accounting Policies, which states that “the enterprise is normally viewed as a going concern, that is as continuing its operation for the foreseeable future. It is assumed that the enterprise has neither the intention nor the necessity of liquidation or of curtailing materially the scale of its operations.” Thus, in such a scenario, though the company has disposed off its plant and equipment, it is still a going concern in the form of a trading company. The auditor in such cases would also draw guidance from the principles laid down in the Standard on Auditing (SA) 570, “Going Concern”, for assessing the appropriateness of the going concern assumption.

(k) In case the company has sold a substantial part of the fixed assets and the going concern question is not resolved to the satisfaction of the auditor, the auditor should, while commenting on the clause, state that sale of substantial part of fixed assets has affected the going concern status of the company. In so far as the opinion of the auditor on the financial statements is concerned, the auditor should ordinarily express an unqualified opinion if adequate disclosures3 in regard to the going concern problem not having been resolved are made in the financial statements. However, he should, in his report, add a paragraph that highlights the going concern problem by drawing attention to the notes to the financial statements. The following is an example of such a paragraph: “We draw attention to Note X in the financial statements. The Company has sold a substantial part of its fixed assets during the year covered by our report. The company has so far not made any plans to replace the fixed assets that have been sold. These factors, along with other matters as set forth in Note X, raise substantial doubt about the company’s ability to continue as a going concern in the foreseeable future.”

(l) In case the going concern question is not resolved to the satisfaction of the auditor and adequate disclosure is not made in the financial statements, the auditor should express a qualified or adverse opinion, as appropriate. The following is an example of the explanation and opinion paragraphs when a qualified opinion is to be expressed:

“The Company has sold a substantial part of its fixed assets during the year covered by our report. According to the information and explanations given to us, the company has so far not made any plans to replace the substantial part of fixed assets that have been sold. There exists a substantial doubt that without replacement of such substantial part of fixed assets, the company will be able to continue as a going concern for the foreseeable future. Consequently, adjustments may be required to the recorded amounts of assets and classification of liabilities. The financial statements (and notes thereto) do not disclose this fact.

In our opinion, subject to the omission of the information dealt within the preceding paragraph, the financial statements give a true and fair view of the financial position of the Company at March 31, 20XX and the results of its operations for the year then ended.”

(m) If, based on the additional procedures carried out and the information obtained, including the effect of mitigating circumstances, the auditor’s judgment is that the entity will not be able to continue in operation for the foreseeable future, i.e., going concern assumption considered inappropriate, the auditor should comment that the sale of substantial part of fixed assets has adversely affected the going concern status of the company. Further, the auditor would also conclude in main report that the going concern assumption used in the preparation of the financial statements is inappropriate. If the result of the inappropriate assumption used in the preparation of the financial statements is so material and pervasive as to make the financial statements misleading, the auditor should express an adverse opinion.