Forensic Audit in NPA PDF

Forensic audit of
Non Performing
Assets: navigating
hidden threats
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b | Forensic audit of Non Performing Assets: navigating hidden threats
© 2019 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All
rights reserved
Table of
contents
Key issues 01
Preliminary analysis 02
Detailed analysis 04
Key recommendations 07
Appendix 1 -
Key legislative and regulatory provisions requiring
forensic audits 08
Appendix 2 -
What is a forensic engagement? What skills are required of its
practitioners? How is a forensic engagement different from a
financial statement audit engagement? 09
Appendix 3 -
Forensic engagements of NPAs 12
© 2019 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights
reserved
1 | Forensic audit of Non Performing Assets: navigating hidden threats
Key issues
In May 2015, the Reserve Bank of
India (RBI) mandated the banks to
use forensic audit as a preventive
detect various types of frauds, this
document focusses on corporate
borrowal frauds and explores the
and investigative tool to detect following key issues:
frauds and deal with Red Flagged
1. Are the mandates for a forensic
Accounts (RFAs) of corporate
audit given in an independent and
borrowings over INR50 crore.1
objective manner? Do they have
After three years, the problem of
the right scope of work?
NPAs has still remained acute in the
case of large corporate loans. The 2. Is the system of selection of
introduction of beneficial ownership forensic auditors such that only
provisions in the Companies Act, individuals/firms really equipped
2013, Insolvency and Bankruptcy to conduct forensic audits in a
Code 2016 (e.g., section 29A), Bank’s professional manner get qualified
Know Your Client (KYC) and Anti- for taking up such engagements?
Money Laundering (AML) provisions,
3. Are forensic audit reports
etc., also require application of
proving useful as preventive
forensic audit methods to identify
and investigative tools, and
the actual beneficiaries of funds
for recovery of a bank’s assets
disbursed in the banking sector.2
which may have been diverted or
It is time to reflect how and if in siphoned off?
the last three years, banks have
4. Are forensic audit proving useful
effectively used forensic audit
for potential detailed investigation
to reduce NPA losses, recover
and prosecution by Law
assets and improve governance.
Enforcement Agencies (LEAs)?
Accordingly, this document covers
the various facets of forensic audits If answers to some of the above
for banks as a tool to manage questions are in the negative, then
their NPAs, both for preventive it has to be examined why forensic
and investigative purposes. While audits have failed and what remedial
forensic audits can be used to actions are called for.
1. RBI Circular number - RBI/2014-15/590 DBS.CO.CFMC.BC.No.007/23.04.001/2014-15.

Appendix 1 for extracts from RBI’s Circular
2. This document covers various facets of forensic audits for Banks as a tool to manage their
NPAs, both for preventive and investigative purposes. While forensic audits can be used to
detect various types of frauds, this document focuses on the corporate borrowal frauds.
rights reserved
2
Preliminary analysis
Issue 1 – Scope deficiency and limitations in forensic audit mandates
The foremost issue is the lack of funds has not yet surfaced in such Fifthly, the scope of a forensic
awareness of the nature of frauds entities under the same promoters. audit cannot ideally be defined
and the relevant review period. The upfront, as in most cases the
Besides, there are several
scope of forensic audit in most upfront requirement is to first
other ways (some of which are
cases is limited only to the last two identify the possible red flags and
discussed later in this document)
to four years period during which get prima facie evidence to initiate
in which the scope of the forensic
fraudulent transactions were a detailed forensic audit. Hence,
audit and its efficacy may be
actually suspected. Experienced a forensic audit for NPAs can be
seriously impaired.
investigators know that in case of structured in two stages:
large value frauds the preparation Thirdly, certain inherent limitations
1. Preliminary investigative stage,
of frauds such as manipulation of of forensic audits vis-à-vis LEAs
initiated by the banks to get
financial statements commences may make less information
prima facie evidence of frauds
much earlier – sometimes three available to a forensic accountant
in the borrowal accounts. This
to four years before the fraudulent as compared to a government
can help enable the bank/s to
transaction is actually suspected. investigator. For instance, a
determine if the case is worthy
The evidence for the motive behind forensic accountant cannot
of reporting to the RBI and
the fraud normally lies in the period compel anybody to produce
LEAs as required by the RBI’s
of preparation. If that period is information, conduct searches,
Circular on fraud reporting.
not included in the scope of the acquire communication and
The standard (burden) of proof
forensic audit, the usefulness correspondences, acquire
during this stage should be
of the audit report is severely accounts and records of group/
low because of the limited
diminished. related parties, etc. Certain
information during this phase
limitations can be overcome by
The second area where the
incorporating a contractual clause 2. Detailed investigative stage,
scope is not properly defined is
that the accounts and records of initiated during investigations
by limiting forensic audit to the
the borrowing entity as well as its by LEAs after the fraud has
firm(s)/ companies where the
subsidiaries and related entities been reported under the
fraudulent transactions may have
over which it has control or to RBI Circular. This stage may
been actually suspected. In most
which it has advanced funds be have access to additional
large value fraud cases, a number
made available during forensic information, as the LEAs have
of group/related entities/persons
engagements. legal powers to call/obtain
acting in concert are also involved,
information and documents
some of which may be borrowers Fourthly, sometimes, banks
compared to the first stage,
of other banks in other multiple themselves also do not provide
which is based more on
banking arrangements. There is a all transactional information and/
voluntary (through contractual
need for all bankers to join hands or supporting documents. This
and statutory) co-operation.
in coordinating forensic audit on should be insisted upon in the inter
associated/related entities, even se contracts between consortium
if the immediate loss of bank banks.
reserved
Issue 2 – Involvement As a recommendation, the banking

Nature of forensic supervisors (e.g., RBI/ Department
of qualified forensic
engagements in NPA of Financial Services (DFS)) may
practitioners and industry undertake an analytical study of
situations
experts the usefulness of forensic audit
The forensic engagement reports. The study may analyse, for
The second key issue is regarding
for NPA situations are quasi- the last three years, the scope, the
the selection of equipped forensic
criminal in nature and more procedures undertaken, depth and
auditors and industry experts by
complicated than those in civil breadth of work, as well as reports
banks. Banks should ensure that
cases because of the possibility given by both professionally
only experienced, qualified and
of findings being reported to qualified firms having specialised
trained individuals/firms should
LEAs (e.g., Central Bureau forensic audit capacities and
qualify to conduct forensic audits
of Investigation (CBI)- Anti- those given by firms with limited
in a professional manner. The
Corruption Branch (ACB), CBI- exposure to forensic practices
selection criteria should include an
Economic Offences Wing(EOW) and with limited or non-existent
assessment of their professional
or CBI- Bank Security and Fraud data analytics capacity. Based on
past experience, training, ability to
Cell (BSFC), Serious Fraud this study, policy formulation and
gather technical evidence through
Investigations Office (SFIO), improvement can be made to
data analytics, etc.
or State police, attracting staff arrive at guidelines for entrusting
In a number of instances where accountability provisions (e.g., such engagements, and drafting
forensic engagements have been findings of malfeasance by the scope of forensic work.
ordered, the pre-qualification the borrowers due to weak This study is extremely critical
criteria for selection of forensic sanctioning or monitoring to ensure that a very useful
auditors either has not been controls). preventive and investigative tool
defined or has been defined such as a forensic audit does not
loosely. This approach of the fully understood by the decision get discredited by lack of proper
decision makers may be primarily makers, an appropriate selection framework in entrusting forensic
because of a lack of awareness of forensic professionals is difficult. engagements. The challenge is
of the skillsets of forensic Ignoring these aspects constitutes that form does not prevail over the
engagement vis-à-vis financial a serious threat to the efficacy of substance of forensic audit.
statement or internal audits. There forensic engagements.
is a general misconception that Issue 4 – Usefulness of
any public accounting professional Issue 3 – Usefulness of forensic audit reports to
with experience of one or two forensic audit reports to LEAs
minor fraud investigations can banks
take up forensic audit involving Whether the forensic audit reports
thousands of crores of borrowings. Reports which lack in quality assist in detailed investigations
This misconception can cause and depth will have limited and potential legal actions by
tremendous damage to the usefulness for the banks, and LEAs is also yet to be established.
quality of work and consequent other stakeholders. However, However, analysis of various
usefulness of forensic audit the risk is that they may lead the cases filed by the LEAs shows
reports. The skill set required banks to reach a wrong conclusion that they have not quoted the
for forensic engagements that there was no diversion or forensic audits, although they
and a comparison of forensic siphoning of funds or other frauds, may have relied on some for
engagement with financial when indeed there may have been initiating or investigating cases.
statement audit engagement are some such acts. This may increase with time
explained in Appendix 2. as the RBI provisions are only
Whether the forensic audit reports three years old. Consistent with
The table in Appendix 2 highlights are proving useful as preventive the recommendation for Issue
how significantly different a and investigative tools for the number 3, a similar study may be
forensic engagement is from recovery of bank assets (which undertaken.
other financial statements audits. may have been diverted/siphoned),
Unless these differences are is yet to be seen.
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4
Detailed analysis
While forensic engagements Forensic engagements deployed by shareholders to ensure
can be a very valuable tool by the banks in cases of corporate that credible, reliable forensic
for detection and prevention NPAs have banks, regulators (e.g., engagements be performed.
of financial crimes, the lack RBI, SEBI, etc.) and LEAs as its
Part 2 – Unavoidable limitations
of training and experience potential users. Therefore, it is
where resolution by banks and
by various practitioners who critical that the work performed
forensic accountants is not
perform forensic engagements, in forensic engagements
possible – these limitations arise
a lack of understanding of be independent, objective,
due to uncontrollable factors such
basic requirements by various detail-oriented, high-quality
as legal or statutory restrictions
stakeholders, and lack of with appropriate utilisation of
which are beyond the ability
co-operation by the bankers appropriate forensic methods
or legal powers of banks and
and borrowers have seriously and tools. In the last three years
forensic accountants to resolve.
threatened the quality and is that in practice, the forensic
However, it is experienced that a
reliability of forensic engagements. engagements in NPAs have
lot of banks and even regulators,
suffered from serious limitations
Many reports labelled as ‘forensic’ LEAs, etc. do not fully understand
and no conclusive results have
may have been prepared by these limitations and may have
been achieved in many instances.
practitioners without sufficient unreasonable expectations from
The limitations, which are
forensic experience in investigative forensic engagements.
imposed on forensic audits and
methods, tools, and techniques,
have diminished the quality and
structured or unstructured training,
reliability of forensic engagements,
or any on-the-job experience with
may be analysed in two parts:
another forensic accountant. The
quality of such forensic reports Part 1 – Avoidable limitations
vastly falls short of the high where resolution by banks
standards which courts or other and forensic accountants is
adjudicating bodies require. These possible – these limitations arise
factors not only significantly due to controllable factors and
affect the appropriate outcome significantly compromise the
and mislead the users of such quality of forensic engagements.
reports, but also significantly These limitations must be resolved
reduce the credibility, reliability
and reputation of forensic
engagements because the users
will lose faith in the ability of
forensic audits to detect frauds.
reserved
Key limitations and threats to forensic audits

Avoidable limitations Unavoidable limitations
1. The loan agreement does not contain a contractual 4. No access to electronic information with borrowers. For
clause that the business accounts of the borrowing example, various electronic data on servers and laptops
entity as well as its subsidiaries and related entities over of the borrower’s owners and staff are not accessible
which it has control will be made available for third party to the forensic accountant to determine if they contain
audit (including forensic engagements) evidence of any wrongdoing such as diversion or
siphoning off of funds;
2. No or limited access to accounts and records of the
borrowing entity and its related entities who may have 5. No access to all other possible evidence because
received funds from the borrowing entity (for example if of lack of legal powers of search, seizure, etc. Such
a loan is taken by a Special Purpose Vehicle (SPV) entity powers are available only to government agencies.
who has passed it on to a group entity, the records
of group entity are not accessible during the forensic
engagement)
3. Sometimes banks do not provide transactional
information in bank accounts or supporting documents
Analysis of threats to forensic engagements at various stages

Threats to stifle the forensic audit, to determine whether there is such as accommodation of
etc. can be analysed into four diversion or siphoning off of funds) letters of credit (LCs) to make
stages: Special Mention Account
1. Presently, in some banks,
(SMA) loans as standard. For
1. Forensic engagement forensic engagements
example, if bank functionaries
initiation, selection are initiated, awarded and
suspect or know that fake
and scoping, including overseen by the same bank
documents were submitted
independence and conflict of officers who may have
to the banks by borrowers to
interest been associated with the
encash letters of credit, they
sanctioning and monitoring
2. Forensic engagement would be reluctant for this to
credit facilities subject to
execution be detected through a forensic
forensic audit. They have an
report;
3. Forensic engagement inherent conflict of interest
reporting. as any adverse findings in 2. Setting the budget too low
forensic engagement may for forensic engagements
Forensic engagement initiation,
also raise questions on their to the point that no credible
selection and scoping
sanctioning and monitoring of forensic work is possible
The primary threats during such facilities. This may lead within the budgeted amount.
this stage may include lack of to delay or avoiding forensic For example, a bank had come
independence, conflicts of interest engagements altogether out with maximum fee scale
on both the forensic accountant to restricting their scope. of INR500,000 for forensic
and the banker, and limiting and In certain cases, the bank engagement of loan exposures
restricting the scope to achieve functionaries may have prior above INR1000 crore. Under-
the overall objectives (example knowledge of certain issues budgeted forensic audits or
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6
commercial costs of well- professionals or investigation auditor, bank auditor, Techno

equipped forensic specialist is experts to adequately Economic Viability (TEV) study
a significant threat to scuttle conceptualise fraud consultants, credit consultants,
investigations not only in the hypotheses and evaluate it etc.
private sector, but also in the
2. Withholding accounting 8. Obstruction through spoliation
public sector.
and financial information by of records, i.e., the destruction
Forensic specialists collect and borrowers and not cooperating of records. What should the
review information for multiple in the forensic engagement. forensic accountant do if a
years, and under-budgeting As a forensic accountant bank functionary or borrower
threatens credible forensic does not have any powers destroys real evidence?
work. In certain cases, banks of search and seizure, or
Forensic engagement reporting
have budgeted amounts to compel testimony, the
lower than those for annual forensic accountant may just Factors during the reporting phase
financial statement audit for disclaim the report without any that threaten the objectives of
just one year, and this is clearly implication such as declaration forensic engagements generally
designed to scuttle the scope by an uncooperative borrower include:
and findings of forensic reports. or wilful defaulter
1. Insistence by bank
The constrained budget
3. Withholding accounting functionaries to change the
becomes even more important
and financial information by findings and observations in
as forensic engagements
banks – e.g., some consortium the forensic reports to exclude
usually have legal and quasi
members and in some cases items where they may be
legal implications and the work
even the lead bankers do themselves implicated
spans over several years even
not provide all information
after the forensic reports go 2. Delay or avoid submitting
available with them about the
to the regulators and LEAs, the report of a forensic
borrowers
and the forensic accountant engagement to various
may be called to provide 4. Restricting physical inspection authorities – e.g., RBI, CBI, etc.
more details, documents and of assets (stocks, properties,
3. Get a new forensic
court testimony when the etc.)
engagement with a different
investigative and prosecution
5. Manual sampling (rather than scope and discarding the
process is ongoing (which can
data analytics driven sampling) previous report
go on for several years).
that could lead to missing
4. Issue a report without
3. Curtail the scope of forensic out on specific fraudulent
requiring an evidence docket
engagements to exclude key transactions or red flags
so that the case can stand
items – for example if the bulk
6. Having limited ability to the relevant tests later in
of the disbursements (under
corroborate red flags, evidence detailed investigation or the
the credit facilities) were made
or events via direct or indirect adjudicating process.
four years ago, then the scope
evidence.
of the forensic engagement
may be only for the last two 7. Creating other hurdles such
to three years, hence avoiding as insistence on entering into
entirely the time when the Non-Disclosure Agreements
borrowers may have siphoned (NDAs) with onerous terms.
off the funds. For example, a borrower
attempting to obstruct a
Forensic engagement execution
forensic engagement on the
Factors during the execution phase pretext of not having an NDA,
that threaten the objectives of which restricted the forensic
forensic engagements generally practitioner to share any
include: information with the bankers,
but did not have any NDA with
1. Lack of subject matter
other service providers such
expertise, data analytics
as their financial statement
reserved
Key recommendations
01 Two potential stages of forensic
engagements can be explored as explained
earlier:
a. Preliminary investigative stage, initiated by the
banks to identify prima facie evidence of frauds in
the borrowal accounts, and determine if the case
Define the scope of forensic audit

appropriately – both in terms of the review
02 is worthy of reporting to the RBI and LEAs
b. Detailed investigative stage, initiated during
investigations by LEAs to review additional
period as well as focus areas. Review period financial information
should at least include the disbursement
period, and focus areas should include
group/related entities through which banks’
funds could have been diverted/siphoned
03 Banks should coordinate forensic audits
on group/related entities to remove legal
impediments created by borrowers, for
instance by creating multiple legal entities to
defeat banks’ rights
Develop benchmarks for pre-qualification/
empanelment of forensic practitioners and
04
define the levels of complexity and scale of
engagements Consider contractual clauses in loan
05 agreements to ensure that if some borrowed

funds were disbursed to group/related
companies, their books and records would
also be made available for a forensic audit. For
Define various factors that tantamount
to obstruction/uncooperative conduct
06 example, if an SPV borrower sub-contracts
EPC work and advances significant funds to
by bank borrowers. Banks may classify a group/related company, then such an entity
such borrowers as wilful defaulters/ should (a) obtain a no objection from banks
uncooperative, as well as refer the matter to and (b) consent to make its books and records
RBI and LEAs available if directed by the banks
07 Define various factors that tantamount to

obstruction/uncooperative conduct by bank
borrowers. Banks may classify such borrowers
as wilful defaulters/uncooperative, as well as
Banks should coordinate forensic audits
on group/related entities to remove legal
08 refer the matter to RBI and LEAs
impediments created by borrowers, for

instance by creating multiple legal entities to
defeat banks’ rights
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8
Appendix 1
Key legislative and regulatory provisions
requiring forensic audits
RBI’s circular on Framework for dealing with loan frauds (extracts) dated 7 May 2015:
1.0 Objective of the framework: In the context of bank to report the RFA or Fraud status of the account
increasing incidence of frauds in general and in loan on the Central Repository of Information on Large
portfolios in particular, objective of this framework is (CRILC) platform so that other banks are alerted.
to direct the focus of banks on the aspects relating Thereafter, within 15 days, the bank which has red
to prevention, early detection, prompt reporting to flagged the account or detected the fraud would ask
the RBI (for system level aggregation, monitoring the consortium leader or the largest lender under
and dissemination) and the investigative agencies MBA to convene a meeting of the Joint Lender’s
(for instituting criminal proceedings against the Forum (JLF) to discuss the issue. The meeting of
fraudulent borrowers) and timely initiation of the the JLF so requisitioned must be convened within
staff accountability proceedings (for determining 15 days of such a request being received. In case
negligence or connivance, if any) while ensuring that there is a broad agreement, the account would be
the normal conduct of business of the banks and classified as a fraud; else based on the majority rule
their risk taking ability is not adversely impacted and of agreement amongst banks with at least 60 per
no new and onerous responsibilities are placed on cent share in the total lending, the account would
the banks. … The early detection of Fraud and the be red flagged by all the banks and subjected
necessary corrective action are important to reduce to a forensic audit commissioned or initiated
the quantum of loss which the continuance of the by the consortium leader or the largest lender
Fraud may entail under MBA. All banks, as part of the consortium
or multiple banking arrangement, would share the
3.1 At present the detection of frauds takes an
costs and provide the necessary support for such an
unusually long time. Banks tend to report an
investigation
account as fraud only when they exhaust the
chances of further recovery. … More importantly, it 5.4 The forensic audit must be completed within a
delays action against the unscrupulous borrowers maximum period of three months from the date of
by the law enforcement agencies which impact the the JLF meeting authorising the audit. Within 15 days
recoverability aspects to a great degree and also of the completion of the forensic audit, the JLF will
increases the loss arising out of the fraud reconvene and decide on the status of the account,
either by consensus or the majority rule as specified
5.1 RBI Master Circular DBS.CO.CFMC.
above. In case the decision is to classify the account
BC.No.1/23.04.001/2014-15 dated July 01, 2014 on
as a fraud, the RFA status would change to Fraud
Frauds - Classification and Reporting (Para 3.2.4)
in all banks and reported to RBI and on the CRILC
provides that all the banks which have financed
platform within a week of the said decision. Besides,
a borrower under Multiple Banking Arrangement
within 15 days of the RBI reporting, the
(MBA) should take co-ordinated action, based on a
bank commissioning/ initiating the
commonly agreed strategy, for legal / criminal actions
forensic audit would lodge a complaint
and the bank which classifies or declares a fraud
with the CBI on behalf of all banks in the
should report the same to CFMC, RBI within the
consortium/MBA.
deadlines specified in the Master Circular on Frauds -
Classification and Reporting cited above
5.3 The initial decision to classify any standard or NPA
account as RFA or ‘Fraud’ will be at the individual
bank level and it would be the responsibility of this
© 2019 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International
Cooperative (“KPMG International”), a Swiss entity. All rights reserved
What is a forensic engagement? What
Appendix 2 skills are required of its practitioners? How

is a forensic engagement different from a
financial statement audit engagement?
Forensic and forensic or other illegal or unethical of a forensic accountant in

conduct recent years has expanded
accounting defined
and covers both (a) reactive,
3. Involvement of an adjudicating
The Oxford dictionary defines i.e., to confirm or refute the
body, whether civil,
forensic as (adjective) relating allegation, and (b) preventive,
criminal or administrative
to or denoting the application of i.e., to mitigate such alleged or
(e.g., court of law, arbitral
scientific methods and techniques actual wrongdoing, e.g., further
tribunal, special investigative
to the investigation of crime, and crime, damage or loss.
tribunal, independent court
(noun) scientific tests or techniques
appointed committee/judge, Key skills required of its
used in connection with the
etc.). Therefore, a forensic
detection of crime. practitioners
accountant is expected to
The dictionary defines forensic possess a certain level of The professional standards required
accounting as (noun) the use of legal knowledge and skills for forensic engagements are not
accounting skills to investigate to understand concepts codified or prescribed in many
fraud or embezzlement and to such as court process, rules countries including India. Some
analyse financial information for use of evidence, admissibility, developed countries have codified
in legal proceedings. relevance, principles of natural principle-based guidance/standards
justice, rules of interpretation, for forensic practitioners, e.g.,
Often, the mention of the word
etc. standard practices for investigative
forensic draws reference to a
and forensic accounting
criminal act, which is due to 4. Court acceptable standard
engagements in Canada that
frequent usage of this term in of work - a high standard
explain professional accounting
public media in the context of of reliance is immediately
skills, investigative skills and
(alleged or actual) criminal or quasi- established as to the quality
investigative mindset as follows:
criminal wrongdoings. However, of the work the forensic
the term is equally relevant to accountant must attain 1. Professional accounting skills
civil matters such as in financial because his or her findings require the following sub-
disputes between two or more may be subject to a public components:
parties in arbitration, courts, scrutiny should the matter go a) an understanding of
administrative authority or other to trial. Therefore, to deliver how business activity is
adjudicating bodies. work that meets this standard, documented, recorded,
The key ingredients in the the forensic accountant must reported, managed and
definitions of forensic accounting have adequate investigative controlled; including the
engagements are: skills and the sceptical and knowledge of prevalent
analytical mindset acquired accounting standards
1. Professional accounting skills through formal and structured
because the word accountant academic, experience, training, b) the ability to identify, obtain,
implies the skill to analyse etc. examine and evaluate
accounting and financial relevant information
information that may be 5. The involvement of a forensic
accountant traditionally has c) the ability to quantify the
acquired through education,
been in reactive situations, financial impact of actual or
training and experience
i.e., when some alleged expected transactions or
2. Existing or anticipated act(s) may have already taken events;
disputes, or allegations, place. However, the work d) the ability to perform and
concerns or risks of fraud
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10
interpret relevant analyses information collected identify fraud patterns; and forensic
of information and the work performed, auditors are trained to provide
including the work and expert testimony to the trier of
e) the ability to document
information of others, fact. Experience shows that it
and explain business
may become subject to takes at least five to six years of full
information and the results
disclosure and be tendered time practice to learn the various
of the financial analyses for
as evidence, and concepts and nuances of a forensic
decision-making purposes,
accounting engagement.
and g) the ability to document
and present investigative Beyond the common professional
f) the ability to render relevant
findings and conclusions for accounting skills between both
and appropriate opinions
decision making purposes. the financial statement auditors
and conclusions based on
and forensic accountants,
the findings and results of 3. An investigative mindset
the two have vastly different
the work performed. requires a sceptical attitude
experience and skillsets. At the
in the identification, pursuit,
2. Investigative skills require the strategic level, the differences
analysis and evaluation of
following sub-components: include investigative skills and
information relevant to each
investigative mindsets, and at
a) an understanding of the engagement, contemplating
the operational level include the
context within which that it may be biased, false
knowledge of key legal concepts,
the engagement is to be and/or incomplete. This is
court procedures, evidence
conducted (for example, applicable in identifying and
handling, clear identification of
the tribunal process, laws, assessing relevant issues,
civil and criminal matters, a highly
regulations, contracts or assessing the plausibility of
sceptical attitude, appearing as a
policies relevant to the the underlying assumptions,
witness in adjudicating body, etc.
engagement) assessing substance over form,
The objectives of the two types of
b) the ability to identify, and developing hypotheses for
engagements also vary significantly
obtain, examine and assess the purpose of addressing the
– the former is geared to give
information relevant to the issues under investigation.
an opinion on overall financial
engagement Comparison of forensic statements based on materiality
c) the ability to analyse and accounting engagements whereas the latter is concerned
with only a line item or particular
compare various types and with financial statement
sources of information wrongdoing or violation, without
audit engagements consideration of the materiality of
d) an understanding of the Forensic accounting is a specialised the overall financial statements.
types of information that field within accountancy, and Overall, the scope of audit is broad
would assist in establishing its practitioners should possess and prima facie, but of the forensic
motivation, intent and bias special investigative skills engagement is narrow and deep.
e) an understanding of the and mindset, gained through
ways in which information experience in human psychology,
could be fabricated or laws (e.g., civil, criminal, and
concealed; understanding administrative) and a variety of
patterns and red flags forensic methods and tools.
Forensic engagements also use
f) an understanding that advanced data analytics tools to
reserved
Area Forensic accounting engagements Financial statement audit engagements

Public accounting skills, investigative skills and investigative Public accounting skills;
Key skills
mindset; evidence handling;
Performance Civil, criminal and administrative procedures; rules of Accounting and auditing standards
standards evidence, etc.
To report facts and evidence about alleged fraud, To give an opinion on internal controls, and overall
wrongdoing or violation, without consideration of the financial statements based on materiality as far
Objectives materiality of the overall financial statements as their compliance to accounting standards,
presentation, disclosures, and not towards detection
of all frauds
Scope is usually narrowly focused (limited to issues under Scope is broad on overall financial statements and
Scope of
investigation such as diversion, siphoning, etc.) but evidence state of internal controls at the entity under audit
engagement
must be deep, court acceptable standard
Period of Multiple years of accounting and financial data Usually one year
coverage
forensic imaging of hard disks and server data, market Inspection, observation, inquiry and confirmation,
Approach and intelligence, field enquiries, public domain checks, computation and analytical review
methodology data analytics, analytical procedures, interviews, cross
examination, etc.
Tools Computer hard disk data extraction; data analytics; Data analytical tools to a limited extent
Trier of facts (court, arbitral tribunal, etc.), administrative Shareholders, investors, board of directors, income
Users of reports
authority, or some such authority. tax authorities, etc.,
Expert testimony Likely in some engagements Not required or expected
rights reserved
12
Forensic engagements of NPAs3
The RBI’s circular puts an onus on bank functionaries From a strategic perspective, the frauds can be
for laxity in effective supervision over the operations in classified as Borrowal frauds and Non-borrowal frauds.
borrowal accounts rendering the advance difficult for The nature of manipulations can be broadly analysed
recovery and resulting in financial loss to the bank. into four main categories as set out below.
Facets of borrowal frauds which generally become subject matter of forensic engagements:
1. Fraudulent financial statements to obtain 3. Manipulations to divert or siphon off funds

credit facilities beyond the actual borrowing
a. Round tripping funds to siphon off or divert
capacity by
funds
a. Inflating the net worth through the creation
b. Debtors are collected by related parties/
of false equity - Infusion of fake equity
sister concerns and then written off by the
– e.g., bank funds are round tripped by
borrowing entities
promoters and then brought back in the
borrowing entity and shown as promoter’s c. Diversion of funds, lack of interest or
equity criminal neglect on the part of borrowers,
partners, etc., in adhering to financial
b. Inflating turnover and purchases through
discipline and managerial failure with mala
false bills in the books and financial
fide intent leading to the unit becoming
statement to avail credit facilities (e.g.,
sick
from disclosed or undisclosed related
parties) d. Collusion with suppliers/vendors to take
inflated bills for material supplied, or where
c. Inflating profitability
the material was never supplied to support
d. Inflating receivables. payments
e. Project financing – inflated cost of project
costs to avail higher credit facilities. In
2. Fraudulent overstatement of primary and
some cases, the cost is inflated so high
collateral securities
that the promoters don’t need to contribute
a. Inflating value of stock/inventory in any funds and the entire investment is
stock statement for drawing excess funded through borrowings. This is a major
credit facilities (e.g., stock is overpriced area as in several Public Private Partnership
in monthly reports to the banks and in (PPP) projects, the Engineering,
financial statements) Procurement and Construction (EPC)
contracts are given to related parties at
b. Inflating quantities of stocks/inventories in
inflated costs and the entire bank money
stock statement for drawing excess credit
is diverted to related parties as unsecured
facilities
advances for construction.
c. Fraudulently removing pledged stocks/
disposing of hypothecated stocks without
the bank’s knowledge
4. Miscellaneous
d. Pledging the same assets multiple times
a. Accommodating credit facilities (e.g.,
e. Various schemes to flagrantly cheat
letters of credits) given for ever-greening of
the lenders – showing stock lying in
loans
warehouses owned by friends and relatives
as own stock to avail credit facilities against b. Fraudulent discount of instruments or kite
it. flying in clearing effects
c. Non-fund based facilities are used to obtain
funds through fictitious transactions with
(disclosed or undisclosed) related parties.
3. While there are many types of bank frauds where the forensic engagements may be
used to detect and prosecute, this paper focuses on large corporate borrowal frauds.
reserved
KPMG in India contacts:
Nilaya Varma
Partner and Leader
Markets Enablement
T: +91 124 669 1000
E: nilaya@kpmg.com
Jagvinder Brar
Partner
Forensic Services
T: +91 124 307 9469
E: jsbrar@kpmg.com
Maneesha Garg
Partner and Co-Head
Forensic Services
T: +91 120 386 8501
E: maneesha@kpmg.com
Suveer Khanna
Partner
Forensic Services
T: +91 22 3090 2540
E: skhanna@kpmg.com
home.kpmg/in
Follow us on:
home.kpmg/in/socialmedia
The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely
information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without
appropriate professional advice after a thorough examination of the particular situation.
The views and opinions expressed herein are those of the persons quoted and do not necessarily represent the views and opinions of KPMG in India.
© 2019 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a
Swiss entity. All rights reserved.
The KPMG name and logo are registered trademarks or trademarks of KPMG International.
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Forensic audit of

1. RBI Circular number - RBI/2014-15/590 DBS.CO.CFMC.BC.No.007/23.04.001/2014-15.

Issue 2 – Involvement As a recommendation, the banking

Key limitations and threats to forensic audits

Analysis of threats to forensic engagements at various stages

commercial costs of well- professionals or investigation auditor, bank auditor, Techno

Define the scope of forensic audit

05 agreements to ensure that if some borrowed

07 Define various factors that tantamount to

impediments created by borrowers, for

What is a forensic engagement? What

Appendix 2 skills are required of its practitioners? How

Forensic and forensic or other illegal or unethical of a forensic accountant in

Area Forensic accounting engagements Financial statement audit engagements

Forensic engagements of NPAs3

1. Fraudulent financial statements to obtain 3. Manipulations to divert or siphon off funds

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