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CA Final · Advanced Auditing, Assurance and Professional Ethics · Due Diligence, Investigation & Forensic Accounting

Varma & Co., a firm of Chartered Accountants, is engaged by Zenith Pharma Ltd. to carry out a financial due diligence on Aurora Labs Pvt. Ltd., a company it proposes to acquire. During fieldwork, the engagement partner finds that Aurora's sales to two related parties rose sharply in the last quarter before the deal. Which statement best describes the nature of the firm's engagement and the appropriate response?

Due diligence for an acquirer is a purpose-specific advisory engagement governed by its terms. The firm should examine the substance, pricing and recoverability of the unusual related party sales and report its findings to the client. It is neither a statutory audit with CARO reporting nor an automatic police matter.

  1. AIt is a statutory audit, so the firm must report the related party sales in a CARO report
  2. BIt is an advisory assurance-type engagement for the acquirer; the firm should examine the substance and terms of the related party sales and report findings to the client as per engagement termsCorrect
  3. CIt is a forensic audit, so the firm must immediately file a report with the police
  4. DIt is a limited review under SRE 2410, so the firm should only make inquiries and apply analytical procedures

Explanation

Due diligence is a purpose-specific engagement for the acquirer, governed by the engagement letter. Unusual year-end related party sales are a red flag that should be examined for substance, pricing and recoverability and reported to the client. It is not a statutory audit, so CARO does not apply, and nothing requires filing a police report immediately.

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