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CA Final · Advanced Auditing, Assurance and Professional Ethics · General Auditing Principles and Auditors Responsibilities

During the audit of Sundaram Pharma Ltd, the auditor finds that inventory was overstated by Rs 40 lakh. Management states it was a miscount by warehouse staff. The auditor's evidence does not indicate any deliberate intent. Under SA 240, what distinguishes fraud from error in this situation?

The distinguishing factor between fraud and error is whether the underlying action that results in the misstatement of the financial statements is intentional or unintentional. Materiality, the identifier of the misstatement or the account affected does not make the difference. Without indication of intent, the inventory miscount is treated as error.

  1. AWhether the amount of the misstatement exceeds materiality
  2. BWhether the misstatement was identified by the auditor or by management
  3. CWhether the underlying action that resulted in the misstatement was intentional or unintentionalCorrect
  4. DWhether the misstatement relates to assets rather than to liabilities

Explanation

SA 240 says misstatements can arise from fraud or error, and the distinguishing factor is whether the underlying action is intentional or unintentional. Size of the amount, who found it, or the type of account does not decide the question. Here no intent is indicated, so it is treated as error, though the auditor stays alert to contrary evidence.

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