Report No. 49577-BT Bhutan Report on Observance of Standards and Codes (ROSC) Accounting & Auditing May 26, 2009 Financial Management Unit South Asia Region Document of the World Bank ABBREVIATIONS AND ACRONYMS ACCA Association o f Chartered Certified Accountants ASOSAI Asian Organization o f Supreme Audit Institutions BCCI Bhutan Chamber o f Commerce & Industry CPA Certified Public Accountant CEO Chief Executive Officer CAG Comptroller and Auditor General CPE Continuing Professional Education DHI Druk Holding and Investments Limited DPA Department o f Public Accounts DNB Department o f National Budget DRC Department o f Revenue & Customs EPS Earnings Per Share GAAP Generally Accepted Accounling Principles GAAS Generally Accepted Auditing Standards GDP Gross Domestic Product GNI Gross National Income IAS International Accounting Standards IASB International Accounting Standards Board ICAI Institute o f Chartered Accountants o f India IAAB Institute o f Accountants and Auditors o f Bhutan IAPS International Auditing Practice Statements IFAC International Federation o f Accountants IFRIC International Financial Reporting Interpretations Committee IFRS International Financial Reporting Standards IMF International Monetary Fund INTOSAI International Organization o f Supreme Audit Institutions ISAE International Standards on Assurance Engagements ISA International Standards on Auditing ISQC International Standards on Quality Control ISRE International Standards on Review Engagements MoWHS Ministry o f Works & Human Settlements MTI Ministry o f Trade and Industry NPPF National Pension & Provident Fund PGDFM Post Graduate Diploma in Financial Management. ROSC Reports on the Observance o f Standards and Codes RAA Royal Audit Authority RGoB Royal Government o f Bhutan RIM Royal Institute o f Management RMA Royal Monetary Authority RSEB Royal Securities Exchange o f Bhutan RUB Royal University o f Bhutan SEC U S Securities and Exchange Commission SIC Standing Interpretations Committee Bhutan - Accounting and Auditing ROSC Page 2 BHUTAN Report on Observance o f Standards and Codes (ROSC): Accounting & Auditing Contents Page I INTRODUCTION AND BACKGROUND ................................................................................ 7 I1 INSTITUTIONAL FRAMEWORK......................................................................................... 10 A STATUTORY FRAMEWORK ................................................................................................. 10 B ACCOUNTING & AUDITING PROFESSION ........................................................................ 14 C. PROFESSIONAL EDUCATION AND TRAINING ................................................................ 16 D SETTING ACCOUNTING AND AUDITING STANDARDS................................................. 17 E COMPLIANCE WITH ACCOUNTING AND AUDITING STANDARDS ............................ 18 . I11 ACCOUNTING STANDARDS ................................................................................................ 20 I V. AUDITING STANDARDS AS DESIGNED AND AS PRACTICED ................................... 21 V . PERCEPTION OF THE QUALITY OF FINANCIAL REPORTING ................................ 21 V I. POLICY RECOMMENDATIONS .......................................................................................... 22 Contents Page ANNEXURE 1 .................................................................................................................................... 27 ANNEXURE 2 .................................................................................................................................... 34 ANNEXURE 3 .................................................................................................................................... 35 ANNEXURE 4 .................................................................................................................................... 37 ANNEXURE 5 .................................................................................................................................... 38 Bhutan .Accounting and Auditing ROSC Page 3 ACKNOWLEDGEMENTS This report was prepared by a task team comprising o f Pazhayannur K. Subramanian, Lead Financial Management Specialist, SARFM, Manoj Jain, Senior Financial Management Specialist, SARFM and Manvinder Mamak, Senior Financial Management Specialist, SARFM (Task Leader). Zubaidur Rahman (OPCFM) provided the team with valuable advice. The field work and initial analysis was carried out by a team from Ernst & Young, Kolkata. The study was carried out in active collaboration with the Royal Government o f Bhutan (RGoB) and various stakeholders that included the Royal Monetary Authority, Ministry o f Trade & Industries, Royal University o f Bhutan, Royal Audit Authority, Ministry o f Finance, Royal Securities Exchange o f Bhutan, Royal Institute o f Management and Bhutan Chambers o f Commerce and Industries. I t included facilitated discussion and round table meetings with the representatives o f the profession and other stakeholders. We gratefully acknowledge the valuable and extensive contributions o f each member on the steering committee. We also thank the officials and the coordinators in the various institutions for their valuable assistance in facilitating this study. Several other World Bank staff and consultants including V. Ramakrishnan and Lekzang Dorji provided valuable inputs and suggestions. The report also benefited immensely from comments o f peer reviewers: Henri Fortin (LCSFM), Asya Akhlaque, Kyoo-Won Oh (SASFP), David Robinett (CCGPP) and I a n Mackintosh (Chairman, UK Accounting Standards Board). The team i s thankful to Srilatha Shankar for her efficient administrative support throughout the study. Various background documents were prepared and completed during the course o f this study including the four-part diagnostic tool that has been developed by the World Bank for this exercise. Bhutan - Accounting and Auditing ROSC Page 4 EXECUTIVE SUMMARY Bhutan has registered rapid economic growth in the recent past. But the private sector's contribution to this growth has not been significant. Recognizing that the private sector can play an important role as an engine o f growth, the R G o B mapped out strategies to encourage the private sector to participate in the Kingdom's growth. An important strategy outlined under Bhutan's loth Five-Year-Plan (10FYP) i s t o enhance employment opportunities by encouraging private sector development, which will broaden the employment base. This strategy is also in l i n e with another major lOFYP objective o f vitalizing industry, in which the private sector i s envisaged to play a major role. Bhutan's financial sector has hitherto been very small and underdeveloped, owing to the lack o f adequate development in the private sector and the small size o f the economy. The RGoB assessed that the lack o f a clear institutional framework i s one the major factors responsible for the slow growth and weak performance o f industries in Bhutan, notably in the manufacturing and trade sectors. I t i s against this backdrop that the World Bank at the invitation o f the RGoB has undertaken an assessment o f accounting and auditing practices in the Kingdom o f Bhutan with respect to the International Financial Reporting Standards (IFRS) issued b y the International Accounting Standards Board (IASB) and the International Standards o n Auditing (ISA) issued by the International Federation o f Accountants (IFAC). This assessment i s positioned within the broader context o f the country's institutional framework and capacity needed to ensure compliance with international standards and to improve the quality o f financial reporting in the country. The accounting and auditing practices in Bhutan suffer from weaknesses in regulation, compliance and enforcement o f standards and rules. The absence o f a well-developed accounting profession and the poor quality o f accounting education and training have resulted in a complete dependence o n professional accountants from outside the country, mainly from India, to take care o f the country's corporate financial reporting and auditing requirements. By default, the regulation o f the audit profession i s left to the Royal Audit Authority ( M A ) which is clearly not equipped nor mandated for the task. Absence o f properly defined standards o n accounting and auditing means that preparation o f financial statements and conduct o f audits, even for listed companies, are not uniform and generally incomplete. There is an overall lack o f awareness o f the need to be in compliance with internationally accepted standards. However, it i s difficult to say if this i s the result or the cause o f the anomalies in the present institutional and legal framework. The scope o f audit for a statutory auditor, as defined in Schedule XIV o f the Companies Act 2000, i s very wide and onerous. In addition to certification o f financial statements, the scope envisages that the auditors shall undertake proprietary audit, performance audit, management audit and compliance audit. Consequently, the expectations from an auditor go well beyond the role traditionally associated with statutory auditors. Apart from auditing, the role may include subjective reporting o n a number o f areas pertaining to the operation o f the business, which poses significant threats t o the auditor's independence and objectivity. Bhutan - Accounting and Auditing ROSC Page 5 The principle-based policy recommendations outlined in this report may be used as inputs to design and implement a comprehensive action plan for necessary accounting reform and development in the country. The report highlights the need for setting up o f a dedicated Accounting and Auditing Oversight Board as an independent standard setting and audit regulating body on the lines o f UK's Financial Reporting Council (FRC) responsible for (a) setting, monitoring and enforcing accounting and auditing standards (b) regulating auditors (c) conducting practice reviews o f auditors on public interest entities (d) administering disciplinary action in the event that there has been misconduct by an auditor, and (e) reviewing published financial statements o f public interest entities for compliance with standards on a proactive basis. Many o f the above mentioned functions may well need to be initiated and undertaken by the Accounting & Auditing Standards Board (AASB) that i s being established with technical assistance provided under the ADB-funded Financial Sector Development Project. The AASB should adopt the IFRS in full for all listed companies and public interest entities. Adoption of IFRS would lend wide international credibility and acceptance to Bhutan's corporate reporting framework and attract foreign capital through increased accountability and transparency. However, given that the adoption o f IFRS w i l l require specialized skills and resources, a transition period o f four to five years must be factored in to allow sufficient time for these companies to acquire and implement the necessary competencies for such compliance. The AASB should issue implementation guidelines for standardized application o f these standards. For all other private entities, including medium and small enterprises, the AASB should adopt the IFRS for Private Entities. These standards are expressly designed to meet the financial reporting needs o f entities that (a) do not have public accountability and (b) publish general purpose financial statements for external users. Examples o f such external users include owners who are not involved in managing the business, existing and potential creditors, and credit rating agencies. The standards are derived from full IFRSs with appropriate modifications based on the needs o f users o f private entity financial statements and for cost-benefit considerations. These recommendations are aimed at achieving corporate financial reporting practices o f international standards and to help create a world-class working environment for professional accountants and auditors in Bhutan. Bhutan - Accounting and Auditing ROSC Page 6 I INTRODUCTION AND BACKGROUND 1. In a world o f integrated capital markets, financial crises in individual countries can imperil global financial stability. International financial institutions have taken initiatives to promote standards and codes relevant to economic stability and private and financial sector development. In particular, the World Bank and the IMF have undertaken a j o i n t initiative, identifying 12 areas' for preparation o f Reports o n Observance o f Standards and Codes (ROSC). 2. The World Bank, in M a y 2006, conducted an assessment o f the corporate governance policy framework and enforcement and compliance practices o f the Kingdom o f Bhutan - known as ROSC Corporate Governance - which highlights recent improvements in corporate governance regulations, makes policy recommendations and provides investors with a benchmark to measure corporate governance in the kingdom. O n invitation o f the RGoB, the World Bank has n o w conducted an assessment o f Accounting and Auditing practices (ROSC-A&A) in Bhutan. The assessment determines the extent to which the economic and financial sector o f the country i s in synchronization with international standards, benchmarked t o IFRS2 and ISA3. 3. The review used a diagnostic template developed b y the World Bank to facilitate collection o f information, based primarily on desk reviews. The desk reviews for Assessment o f Auditing Standards as designed and as practiced i s based o n a sample size o f three mid-size audit firms practising in Bhutan. Assessment o n compliance with IFRS i s based o n financial reviews o f nine listed companies, 14 non-listed companies, one insurance company and two banking companies. The information was complemented by the findings o f a due diligence exercise, based o n a series o f meetings with key stakeholders, conducted b y World Bank staff and consultants. The scope o f the review i s limited to companies, both privately and state-owned, registered under the Conipanies Act in Bhutan, as also banking and insurance companies. But it does not extend to retail, wholesale or micro trade enterprises not registered as companies. The review essentially focussed o n the accounting and financial reporting requirements to meet the statutory requirements o f the Companies A c t and the Prudential Rules. However, it did not extend to accounting and reporting for taxation purposes. ' The 12 areas are: data dissemination, fiscal transparency, monetary and financial policy transparency, banking and insurance supervision, securities market regulation, payments and settlements systems, corporate governance, accounting, auditing, insolvency regimes and creditor rights and anti-money laundering Within this report, IFRS refers to all standards and related interpretations issued by the IASB and its predecessor the International Accounting Standards Cominittee (IASC). IASC-issued standards are known as International Accounting Standards (IAS) and IASB-issued standards are known as IFRS. In line with IASB's pronouncements. it i s a common practice to refer to IFRS meaning both IFRS and IAS. However, in the policy recommendations section o f this report, "1ASIIFRS' has been used to mean all standards and related interpretations issued by lASB and IASC. ' Within this report. ISA refers to International Standards on Auditing ( E A ) and other related pronouncements such as, the International Auditing Practice Statements (IAPS), International Stcmdards on Review Engagements (ISRE), International Standards on Quality Control (ISQC) and International Standards on Assurance Engagements (ISAE) issued by IFAC. Bhutan - Accounting and Auditing ROSC Page 7 4. The assessment provides policy recommendations on action that should be taken to implement accounting and auditing standards, to strengthen the profession and introduce appropriate mechanisms to ensure compliance with minimum accounting and auditing requirements. Developing the infrastructure to set up professional bodies and initiating accounting and auditing education and training are other important recommendations. The policy recommendations flowing from the ROSC-A&A will provide a framework to Bhutan's Ministry o f Finance to prepare an Action Plan geared to improve overall accounting and auditing practices in Bhutan. 5. The ROSC-A&A will support the RGoB's objective of improved business environment and positive investment climate, including development o f the Micro Small and Medium Enterprises (MSME)4.Bhutan i s likely to reap significant benefits if the key stakeholder - the Ministry o f Finance - adopts policy recommendations o f the ROSC-A&A. A few such benefits are: Improvement in comparability o f financial performance and financial information with global peers and global industry standards. 0 Improvement in more transparent financial reporting o f a company's activities, which w i l l benefit investors, customers and other key stakeholders in Bhutan and overseas. 0 Improved quality o f financial reporting following consistent application o f accounting principles as well as improvement in reliability o f financial statements. This in turn will lead to increased trust and reliance placed by investors, analysts and other stakeholders in a company's financial statements. 6. Real GDP grew at an average o f over 9% over the Ninth Plan period between 2002 and 2006, taking into consideration an estimated growth o f over 18.9% in the last year o f the plan period, boosted by the earnings from the newly commissioned Tala Hydropower Project Corporation. GDP per capita in 2006 was estimated at US$1,414.01 as compared to US$835 in 2002. The growth rate of 9% exceeded the 8.2% growth targeted for the Ninth Plan. This represents an exceptionally high and sustained rate o f growth that matches the pace o f growth in the fastest growing economies around the world. Real GDP grew from Nu.23.5 billion (equivalent to US$483 million) at the start o f the Ninth Plan in 2002 to approximately Nu. 39.7 billion (equivalent to US$817 million) in 2007. The major impetus for this sustained growth was derived from the continuous and sustained expansion o f the electricity and construction sectors, driving economic sectors that witnessed average annual growths of around 25% and 11.8% respectively over the plan period5. ` The draft Tenth Five Year Plan of the RGoB has recognized the growing importance o f the MSMEs sub-sector for ensuring equitable distribution o f income and poverty reduction. One o f the broad areas of intervention to further the development ofMSMEs has been identified as the development o f hstitutional, legal and regulatory frameworks for MSMEs. 5 Source: Draft Tenth Five Year Plan (2008-2013), RGoB. Bhutan - Accounting and Auditing ROSC Page 8 7. While economic growth is considered important, the R G o B i s keen t o preserve i t s culture, environment and identity. Therefore, along with the objective o f economic development, the RGoB has incorporated the major goal o f creating an atmosphere in Bhutan where every individual can seek and achieve happiness. Accordingly, the government i s pursuing a holistic path o f change framed by a unique and homegrown development vision: Gross National Happiness. This political philosophy i s supported by four pillars that further define the effort to balance spiritual and material advancement: sustainable socioeconomic development, conservation and sustainable use o f the environment, promotion o f culture, and good governance. All policy and planning documents, projects, programs, and legislation strive to make the concept o f Gross National Happiness operational. 8. Bhutan has recently undergone a major political transformation by adopting a system o f democratic governance in 2008. Under this new system, nationwide elections will be held every five years when qualified political parties will compete in a preliminary runoff to determine which two parties will finally contest for the national election. The role o f the king under this system has been transformed to that o f a constitutional monarch. Concurrent to these significant changes in the political mechanism, there remains a strong commitment, as identified under the new constitution, to move forward with governance reforms. 9. Currently there are 114 registered companies6, o f which 106 are active. These include 59 private companies, 32 public companies and 15 Government companies. Currently only two companies fall under the Government controlled conipany category. The total number o f retail, wholesale or micro trade registration certificates issued in 2007 was 11,442 as compared to 9,455 in 2006 i.e. an increase o f 2 1%. Government - not listed 17 15 I Total 114 I 10. As i s evident, Bhutan's economy remains dominated by the state with a substantial number o f the companies directly or indirectly owned by the RGoB. These companies operate in a variety o f sectors: the manufacturing sector, the financial services sector and the services sector. A number o f corporations fulfill non-commercial social objectives within their mandate. Mindful o f the need to ensure that the companies are able to meet the challenges and requirements o f the corporate sector in a highly competitive global economy, the R G o B established in November 2008, Druk Holding and Investments as a fully owned holding company and transferred to i t a portfolio o f 14 companies with an objective to maximize the returns to i t s shareholders, the people o f Bhutan. 6 Source: Registrar o f Companies, Ministry o f Trade & Industries, RGoB Bhutan - Accounting and Auditing ROSC Page 9 I1 INSTITUTIONAL FRAMEWORK A STATUTORY FRAMEWORK 11. The Companies Act 2000 provides the legal framework f o r all companies in Bhutan. The Companies Act mandates the procedures for preparation, presentation, publication and disclosure as well as submission o f financial statements and audit of all companies by auditors empanelled by the M A . The Act also lays down provisions relating to the prospectus that forms ,the basis for public offerings o f securities. In addition, i t mandates the rules and regulations for insider trading and for compliance o f security exchange. 12. The Companies Act allows for four categories of companies. The categories are: (a) private (non-listed) companies (b) public companies whose shares must be freely transferable (c) Government companies, and (d) Government-controlled companies that are private or public companies where the Government has at least 50 percent ownership directly and/or through other entities controlled by them. Listed companies are those whose shares and other securities are listed on the Royal Securities Exchange o f Bhutan (RSEB) Limited. While the Act addresses the requirements for conversion o f a private company into a public one, the criteria for conversion o f a public company to a private company are not detailed. 13. The RSEB incorporated in the form of a not-for-profit company i s the sole stock exchange of Bhutan. The RSEB i s responsible for trading, clearing and settlement. I t acts as the central depository and oversees the listing rules. There i s no over-the-counter market and only equity shares and corporate bonds are listed on the exchange that does not have any index. Stocks are not actively traded on the exchange. The annual turnover o f the exchange in 2006 relating to the secondary market was Nu. 36.557 million (equivalent to US$0.75 million), with an average o f 1283 shares per day. 14. The Rules & Regulations o f RSEB which include the Listing Rules prescribe the requirements for listing of securities on the Exchange. The rules also mandate continuing obligations with which an issuer must comply once listing has been granted. The RSEB can amend the Listing Rules with the approval o f the Royal Monetary Authority ( M A ) . The market capitalization o f 16 listed companies as o f December 2006, increased slightly to Nu 4,638.78 million' compared to 4,467.1 1 million' in 2005. The 2006 market capitalization as percentage o f Gross Domestic Product (GDP) was 11.20%. ' Source : RSEB Annual Report 2006 Source : RSEB Annual Report 2006 '' Source : RSEB Annual Report 2006 Bhutan - Accounting and Auditing ROSC Page 10 15. The Financial Institutions Act 1992 regulates financial services, including banking and insurance as well as securities related activities. These have been supplemented by the Prudential Regulations 2002 issued by the RMA and the Companies Act. There are two banks with a total asset base o f Nu. 27 193.1 million" and one finance company with an asset base o f Nu. 1614.84 million". There i s one insurance company with an asset base o f Nu. 1751.34 million'* and an operating income o f Nu.135.72 million13. The percentage o f the banking sector's gross operating income to GDP i s 3.5% whereas the insurance company's operating income to GDP i s only 0.3%. 16. Banks are required to prepare periodic reports in accordance with accounting standards established by RMA. (The RMA, though, has yet not established any accounting standards.) The reports should be based on the banks' capital, assets, liquidity, profitability and other aspects. They must be submitted in prescribed formats to the RMA to enable it to make an assessment o f the banks' financial condition. However, this i s likely to result in non- transparent financial reporting o f the banks' activities and may even prove to be a hindrance to attracting foreign investments. In fact, it may not be wrong to assume that the financial results may change substantively if the standardized accounting standards were to be applied. 17. Listed companies are required to prepare half-yearly interim financial statements containing the minimum information prescribed by the Listing Rules. The statements must be published in newspapers every six months. However, it has been observed that although interim reports are published by listed companies, not all the information that i s required to be d i ~ c l o s e di's revealed. The information required to be published as per the ~ Listing Rules i s for the 'group' that has been defined to mean the issuer and its subsidiaries. But, in practice, the information that i s published i s for the listed company only. Preliminary announcement o f results for the full year should also contain the information required by the Listing Rules for the interim reports. However, no such announcement has so far been made by any company. Financial institutions, whether listed or not, are required to publish their un-audited accounts in a national newspaper on a half-yearly basis. 'I' Source : Audited Financial Statements o f Bank o f Bhutan Limited and Bhutan National Bank Limited for 2006 'I Source : Audited Financial Statement of Bhutan Development Finance Corporation Limited for 2006 ' I Source : Audited Financial Statement of Royal Insurance Corporation o f Bhutan Ltd for 2006 .'Source : Audited Financial Statement o f Royal Insurance Corporation o f Bhutan L t d for 2006 " For example, extraordinary items (net o f taxation), earnings per share, basis of computation with separate disclosure o f the laxation on share o f associated companies' profits, transfers to and from reserves, the interest o f each director and chief executive o f the issuer in the equity or debt securities o f the issuer and any subsidiary and the details o f any right to subscribe for equity or debt securities o f the issuer granted to any director or chief executive o f the issuer and o f the exercise o f such right, or if there i s no such interest or no such right that has been granted or exercised. a statement o f that fact, etc Bhutan - Accounting and Auditing ROSC Page 11 18. RGoB has formed Druk Holding and Investments Limited (DHI) as the holding company's o f Government companies and Government-controlled companies. This has been done to ensure that subsidiaries o f Government or Government-controlled companies meet the challenges and requirements o f the corporate sector in a highly competitive global economy and thus maximize returns to i t s shareholders. DHI's portfolio comprises o f 12 companies, including five fully-owned companies16 and seven linked companies". The selection criterion for transfer to DHI was primarily decided by the commercial nature o f the companies' operations. Application o f this criterion meant that companies with social mandates stayed with the RGoB. DHI, in the meanwhile, aims to improve the performance o f the companies b y the following measures: a Improving board performance by reconstituting the boards o f i t s companies and appointing directors with the skills, time and diversity o f experience so that they add value to the company. a Enhancing accountability by appointing MDs o f DHI-linked companies in fixed term contract terms and empowering the board to hire and fire MDs. a Setting targets through compacts that have been signed with companies with targets for financial, operational, customer service, corporate governance and physical expansions. a Developing long-term strategies. a Enhancing resource utilization through introduction o f modern corporate finance methods to improve planning, budgeting and financing o f new projects. a Professionally analyzing companies: DHI has engaged consultants to conduct a diagnostic study o f some o f i t s companies and to make recommendations on improving performance. a Changing corporate culture. 20. The Financial Institutions Act and the Prudential Regulations issued by the RMA require each financial institution to have an audit committee to oversee financial reporting, internal controls and internal audit, external audit, and legal compliance. The Audit Committee i s required to meet ordinarily once per quarter and extraordinarily when convened by the Board o f Directors. The auditors can attend any meeting o f the Committee. A meeting may even be convened by the Audit Committee Chairman to consider any matter that the auditors believe should be brought to the attention o f the directors or shareholders. However, there i s no requirement to have an Audit Committee for other corporate entities. I5 D H I has been established as an autonomous holding company incorporated under the Companies Act o f the Kingdom o f Bhutan 2000 (Act). The Royal Charter for DHI issued on I1 November 2008 states that all shares owned by the Ministry o f Finance in the Government Linked Companies (GLC) shall be transferred to DHI as equity pursuant to the terms and conditions o f the Share Transfer Agreement. l 6 After the creation o f DHI, the three hydropower companies (CHPC, KHPC, BHPC) have been amalgamated into Druk Green Power Corporation (DGPC). " Linked Companies are those wherein the Royal Government o f Bhutan has part share holding. Bhutan - Accounting and Auditing ROSC Page 12 21. L i s t e d companies a n d unlisted companies have t o call f o r a n A n n u a l General Meeting (AGM) every year o n o r before April 30 a n d June 30 respectively. The Registrar can grant a maximum o f 30 days extension for convening the AGM. Apart from consideration o f the company's accounts, the audit report and the directors' report, the other business transacted at the AGM includes declaration o f dividends, appointment o f directors, appointment o f auditors and fixing their remuneration and deciding on any ordinary or special resolution. Appointment o f the Chief Executive Officer has to be approved at the AGM. 22. Companies are mandated by the Companies A c t to appoint t h e statutory auditor a t each AGM o u t o f t h e panel o f auditors maintained by the RAA f o r audit o f their accounts. The law permits the appointment o f j o i n t auditors. The auditor can be removed by way o f a special resolution. The appointment o f the auditor o f a financial institution further requires the approval o f RMA. The Auditor General o f Bhutan i s the ex-officio auditor o f a Government or Government-controlled company. The auditors o f these companies are appointed or removed by the office o f the RAA. 23. T h e RAA empanels chartered accountant firms k n o w n as t h e 'Common National Panel' f r o m w h i c h auditors o f b o t h public a n d private companies are appointed. Bhutan does n o t have its o w n professional body and the eligibility to be empanelled is defined both in the Companies Act as well by the Terms & Conditions o f Empanelment issued by the RAA. Such criteria specify that members o f the Institute o f Chartered Accountants (ICA)", Association o f Chartered Certified Accountants (ACCA) and Certified Public Accountants (CPA)19 would be eligible for such appointment. In practice, all the 33 audit firms empanelled are members o f the Institute o f Chartered Accountants o f India (ICAI). 24. As p e r the requirements o f t h e Companies Act, the auditor reports o n whether the financial statements present a true and f a i r view o f the state o f t h e company's affairs as a t the financial year-end and o f t h e operating results a n d cash movements during the financial year. The auditor also reports o n whether proper books o f accounts have been kept b y the company and whether the financial statements are in agreement with the books o f account. Further, the auditor also comments o n compliance relating to filing requirements, maintenance o f records and various other matters under the Companies Act. The auditor also reports on whether companies have complied with other applicable laws, rules and regulations during the period under audit. The A c t requires the auditor to comment in his audit report whether financial institutions have complied with the requirements o f the Financial Institutions Act, 1992 and other laws, rules, regulations and guidelines issued by the appropriate authorities. 25. Schedule XIV o f the Companies A c t 2000 lays d o w n t h e scope o f audit f o r a statutory auditor w h i c h i s very wide a n d onerous. In addition to certification o f financial statements, the scope envisages that the auditors shall undertake proprietary I8 The Companies Act makes a general mention o f members o f Institute o f Chartered Accountants as being eligible for empanelment, without saying which institute i s being referred to.. l9 The Companies Act makes a general mention o f members o f Certified Public Accountants (CPA) as being eligible for empanelment - the assumption being that this refers to US CPA. Bhutan - Accounting and Auditing ROSC Page 13 audit, performance audit, management audit and compliance audit. The reporting format and requirements for reporting i s not laid down in the Act. (Refer to Annexure 1 for detailed scope o f an auditor.) As i s apparent from a mere reading o f Schedule XIV, the scope o f duties and other expectations from an auditor are well beyond the role traditionally associated with statutory auditors. The auditor's role as defined in the Schedule involves subjective reporting on a number o f areas pertaining to the operation o f the business, which poses significant threats to the auditor's independence and objectivity. 26. The Audit Act (2007) o f Bhutan also mandates a `so-called' proprietary audit of all Government owned o r controlled o r funded companies by the M A . This audit i s o f the nature o f a supplementary audit and currently focuses on transactions such as procurement and employee expenses. But it i s moving towards broader measures o f performance. 27. The Department of Trade and Industry has formulated certain regulations such as the M i c r o Trade Regulation, Retail Trade Regulation and Wholesale Trade Regulation. The primary purpose o f all these regulations i s to institute a simplified registratiodlicensing system to boost trading activities in the country as well as creation o f self-employment. None o f these regulations, however, lay down any requirement for maintaining books o f accounts or preparing financial statements or reports. The only reporting obligation envisaged in these regulations i s that the trader should cooperate and provide any information as required by the Department o f Trade and Industry or i t s authorized representatives. B ACCOUNTING & AUDITING PROFESSION 28. Bhutan does not have an established accounting r auditin profession of its own. There i s neither an established professional accountancy qualification nor any accountancy body or association to license statutory auditors or certify professional accountants in the country. This may be partly attributed to the lack o f adequate development in the private sector and the small size o f the economy. The private sector growth in Bhutan has remained constrained by a number o f factors, such as the small size o f the domestic market, a narrow resource base, inadequacy o f infrastructure, shortage o f skills in the labor market and financial market, apart from numerous regulatory constraints. 29. Due to factors such as geographical proximity, similarity in corporate laws and search for new markets, audit firms from India dominate the auditing profession in Bhutan. In fact, all o f the 33 audit f i r m s currently empanelled with the RAA are from India. All such audit firms empanelled are members o f the ICAI, that i s a statutory body formed by an Act o f the Indian Parliament for governing the accounting and auditing profession in India. Bhutan - Accounting and Auditing ROSC Page 14 30. Independence of the auditor in Bhutan i s partly governed by the Companies Act and the empanelment terms of the RAA. The Companies A c t does not allow an auditor to be appointed for more than three consecutive financial years, except with the previous written approval o f the RAA. The Act also requires separate disclosure o f the fees paid for audit services and other services in the financial reports o f companies. However, there i s n o statutory limitation o n the number o f companies the same auditor can audit. The empanelment terms o f the RAA prohibit professional firms o f accountants from rendering any remunerative services including preparation o f accounts o f a company if they are appointed as statutory auditors o f that company. The terms also prevent firms from accepting audit appointments for an entity if they have rendered accountancy or other consultancy services to such entities during the period o f audit or in the previous two years. The fee rates for audit o f Government companies i s determined by the RAA and while i t may not be so intended, sets the framework for fee rates for non-Government companies as well. 31. Professional ethics of Bhutan auditors i s also partly governed by the Companies Act and the empanelment terms o f RAA. The Companies A c t stipulates that auditors should strictly adhere to professional and ethical standards. The terms and conditions for empanelment with the RAA require the audit firms to ensure adherence to the professional code o f conduct and ethical rules prescribed by their respective accountancy bodies. Since all currently empanelled firms are Indian, they need to comply with the code o f ethics promulgated by the I C A I . The RAA, however, does not have any way o f monitoring compliance with such requirements. N o r does it have i t s own set o f ethical standards for auditors and accountants practicing in Bhutan. 32. Part I 1 of Schedule XIV of the Companies Act on minimum audit examination and reporting requirements includes a long and onerous list. There are, however, n o explicit financial or legal liabilities for non-compliance. Nevertheless, auditors may be held liable under the general Breach o f Contract provisions o f the Bhutan Penal A c t 2004 and Bhutanese c i v i l law. 33. There is no other system o r forum which addresses professional negligence o r professional o r other misconduct committed by an auditor. The RAA itself only has the power to remove an audit firm from i t s panel or refuse empanelment or request for re- empanelment. The auditors currently empanelled are all members o f the I C A I which has an elaborate disciplinary mechanism. Significantly, that mechanism, and the l a w under which i t operates, does not extend beyond the territory o f India. Interestingly, the RAA does not have any mechanism to enquire with the governing professional body o f the empanelled audit firm as to whether there are any disciplinary casedsanctions pending against that particular firm or i t s members in the country o f origin. 34. RAA does not have an institutionalized process of conducting quality control reviews of audit firms on their panel. Further, RAA cannot ensure that the empanelled audit firms comply with quality control requirements, as i s mandated b y the I C A I for all i t s members. This i s because the RAA i s not mandated to review the quality o f audit reports. As concurring partner review i s not mandated by auditing standards, auditors generally issue audit reports without a quality assurance check by another impartial Bhutan - Accounting and Auditing ROSC Page 15 reviewer within the auditing firm. There are no statutory provisions or other legal principles imposing liability or other consequences on a statutory auditor for actions taken while acting in a professional capacity. Audit firms have never been subjected to lawsuits by any regulatory body that resulted in fines or reprimands. 35. The Audit Act of Bhutan (2007) that governs proprietary audits of Government and Government-controlled companies lays down a Code o f Professional Conduct for the Auditor General. The Act requires all staff o f the RAA, including the Auditor General to maintain the highest degree o f incorruptibility. It mandates declaration o f any potential conflict o f interest before undertaking any particular audit or other duties concerning a particular audit. The Act further provides that violation o f such Code o f Conduct by the auditors would be a ground for disciplinary action. However, no formal disciplinary procedure or penal action has been prescribed in the Act. C. PROFESSIONAL EDUCATION AND TRAINING 36. The Royal University o f Bhutan (RUB) comprises o f nine colleges established since 1969. Few o f these colleges offer courses in accounting. What they offer i s various courses in Arts, Science, Environmental Studies among others. The Sherubtse College i s the only college now offering a three-year degree course in commerce based on India's Delhi University curriculum. The course, however, does not include practical application o f national or international accounting and auditing standards. The closest to this i s the four-year degree course in Business Administration o f the same college. About 120 students graduate with the Business Administration degree each year. The teaching on accounting and auditing in this course mainly focuses on elementary topics and application o f some basic accounting rules. The faculty members lack practical work experience. Perceiving the increasing demand for accountants, a new B Com course with intake o f 240 students will be commencing from the next session i.e. July 2009 at the new college o f business studies. 37. The Royal Institute of Management (RIM) i s an autonomous body offering a one- year Post Graduate Diploma in Financial Management (PGDFM), Public Administration and Legal Studies through a combination of training and examination. About 30-3 5 students join financial management and public administration courses and about 10 students enroll for legal studies. There i s a failure rate o f about 10%. Bhutanese Acts and regulations are not part of the course curriculum. None o f the RIM courses, current or proposed, includes anything on national or international accounting or auditing standards. The accounting part o f the PGDFM curriculum i s based solely on the RGoB Financial Rules & Regulations, July 200 1. Such curriculum leaves the students without an adequate background for modern accounting and auditing. Business Ethics i s also not part o f any RIM curriculum. Neither does the RIM have any affiliation with any international management institute nor are the RIM courses benchmarked with any international curriculum2'. 'O The R I M does offer Diploma in Information Management Systems (DIMS) courses, which include CISCO Networking and i s affiliated to Keane School o f Excellence, IIIT, Hyderabad. Bhutan - Accounting and Auditing ROSC Page 16 38. While the demand f o r accountants has increased, t h e r e has been l i m i t e d expansion o f suitable opportunities, particularly in t h e c i v i l service a n d p u b l i c corporations which are the p r e f e r r e d employment choices o f most educated youth. The evolving, small private sector i s yet to become an engine o f growth and provider o f employment. The lack o f an adequate regulatory framework for the labor market has also tended to discourage employment absorption. While prospective private sector employers are dismayed about the `job hopping' tendencies o f young Bhutanese, the youth themselves are generally not attracted to work in the private sector. This i s because the youth perceive the private sector as one with l o w quality jobs, lack o f career opportunities and poor remuneration. D S E T T I N G ACCOUNTING AND AUDITING S T A N D A R D S 39. Currently there are n o accounting standards in B h u t a n except f o r t h e formats o f financial statements l a i d d o w n in the Companies Act. A uniform set o f well defined accounting standards needs to be formulated and adopted. There i s no active body in Bhutan for setting accounting standards. Under the Asian Development Bank-funded Financial Sector Development Program, the Ministry o f Finance has established an - Accounting and Auditing Standards Committee comprising o f Secretary, Ministry o f Finance (Chairperson), Secretary, Ministry o f Economic Affairs (Member), Auditor General, RAA (Member) and Managing Director, RMA (Member) as the high level Committee. Subsequently, Bhutan Accounting Standards Technical Committee (BASTC) was formed with representation from DPA, DNB, BCCI, NPPF, RMA, RAA, MoWHS, DRC and RIM to provide technical inputs and support high level committee with the Director, DPA as the Chair. The project will provide technical assistance and funds to assist the Committee in setting an AASB, i t s organizational structure and roles and responsibilities. 40. Section 75 o f t h e Companies A c t requires a l l auditors t o follow Generally Accepted Auditing Standards (GAAS), w i t h o u t specifically defining w h a t G A A S constitutes. Also, Schedule XIV o f the Companies Act lays down detailed guidelines for the auditors in the conduct o f the audit. RAA i s the sole competent body for determining the auditing procedures in Bhutan and the Companies Act empowers the RAA to revise the guidelines from time to time. 41. Legislative r e q u i r e m e n t s a n d various regulations, often interchangeably r e f e r to accounting standards (e.g. Listing Rules, Financial Institutions Act), Generally Accepted Accounting Principles (GAAP) a n d G A A S (e.g. Companies Act), accounting guidelines (e.g. L i s t i n g Rules), a n d in some cases I F R S (e.g. By-Laws o f R o y a l M o n e t a r y Authority), w i t h o u t clearly specifying w h a t constitutes GAAP a n d G A A S in Bhutan. In most cases these terms are not defined and because o f the varying terminology, non-definition thereof, and, non-prescription o f stipulated accounting and auditing standards, these legislative requirements are often contradictory and meaningless. The World Bank's discussion with regulators, preparers, users and auditors indicated that there was lack o f clarity on the application o f the standards. In actual practice, however, many organizations appear to have defaulted to an Indian GAAP and Bhutan - Accounting and Auditing ROSC Page 17 GAAS framework. There i s no process in the country to even benchmark itself to this framework or internalize regular changes thereto. In the past, Indian GAAP was nominally used to supplement these requirements, although according to the RAA and M A , IFRS i s currently supposed to fulfill these stipulations. In practice, company reports generally conform to Bhutanese legal requirements using basic accounting conventions. The financial statements reviewed made no reference to (other) accounting standards.* ' E COMPLIANCE W I T H ACCOUNTING AND AUDITING STANDARDS 42. The Registrar of Companies (Registrar) has a range of powers under the Companies Act and i s primarily responsible for its enforcement. The registrar conducts regular inspections to ensure that companies have complied with the Companies Act, including the requirements with respect to accounting and auditing. The Registrar's office comprises o f the Registrar (lawyer by qualification) and two other Assistant Registrars who are graduates in commerce and business administration respectively. The office remains the main `enforcer' for the corporate sector and ensures compliance with the basic requirements as set forth in the Companies Act, including filing o f the annual returns by the companies. 43. The regulatory functions o f the RSEB include oversight of new listing, ensuring orderly trading and compliance with Listing Rules. However, RSEB does not review the quality o f the financial reporting o f listed companies. There i s also no dedicated persods tasked with for the job o f monitoring and enforcing financial reporting, accounting and auditing compliance o f listed companies. RSEB has the power to issue warnings, suspend and cancel listings. However, there have been no suspensions or cancellations in the past. RSEB has very limited resources and plays a limited regulatory role. 44. Financial Institutions Act and Prudential Regulations empowers the Financial Supervision Division of the R M A for monitoring, regulatory reporting and other compliances of financial institutions. The financial institutions are required to provide all records and documents and any information necessary to enable the Financial Supervision Division to ascertain the overall financial condition o f the institution. The Division i s solely dedicated to on-site and off-site inspection o f compliance with accounting and auditing requirements. The examining officers' report i s submitted to the Board o f Directors and executive management o f the institution and i s discussed at the following board meeting. The RMA issues and can revoke licenses, can issue cease and desist orders and fines, approves corporate control changes in the financial sector, and sets capital and other financial requirements. 45. The 2002 Prudential Regulations contain some additional requirements for financial institutions, The 1992 Financial Institutions Act (FIA) and the 2002 Prudential Regulations issued by the RMA require each financial institution. to have an audit 2' Report on the Observance and Codes (ROSC) Corporate Governance Country Assessment, Bhutan, December 2006 Bhutan - Accounting and Auditing ROSC Page 18 committee. The committee should include at least three members, at least one o f whom is a director, appointed by shareholders. The committee is to oversee financial reporting, internal controls and internal audit, external audit and legal compliance. I t is to have access to outside experts and should be notified by directors or the management o f "any error or misstatement o f which they become aware." In practice, the existing audit committees are considered to be o f limited effectiveness by the RMA. 46. The Financial Institutions Act, 1992 requires the independent auditor to assist in accounting functions - tasks which are generally considered contradictory to the independence o f the auditor. These tasks include: (i) assist the financial institution in keeping adequate accounts and records o f i t s operations and transactions in accordance with sound accounting principles (ii) prepare in accordance with generally accepted to auditing practices, an annual report o n the balance sheet and profit and loss account o f the financial institution and to deliver an opinion as to whether the financial statements o f the financial institution adequately reflect the financial position o f the financial institution and i t s solvency (iii) inform the Board o f Directors o f the financial institution and the to RMA o f any irregularities or deficiencies observed in the operations, transactions, records or accounts o f the financial institution, which could result in material losses for the financial institution or its customers. However, these provisions are generally not followed in practice. 47. The RAA has the sole authority for empanelment of statutory auditors by inviting applications in prescribed format from audit firms and empanelling them for a period o f three years based on their experience and the number o f qualified accountants in the firm. For companies owned or controlled by the Government, the RAA appoints the auditor and sets the fee for audit. 48. A may be expected in a country with a small economy, shareholders have limited s knowledge o f what their rights are. Enforcement is also limited b y the l o w awareness o f corporate governance. The law does explicitly allow shareholders to ask questions at the AGM o f shareholders or add items to the agenda. In practice, shareholders can get the required information only from the corporate office or f r o m the Registrar. Bhutan - Accounting and Auditing ROSC Page 19 11 1. ACCOUNTING STANDARDS AS DESIGNED AND AS PRACTICED 49. There a r e n o national accounting standards in Bhutan. The only accounting guidelines are the formats o f financial statements prescribed b y Schedule XI11 o f the Companies Act. The law, however, mandates that the auditors should report whether financial statements have been prepared in accordance with G A A P . But what constitutes G A A P has not been defined. 50. Schedule XI11 to the Companies Act o f Bhutan, which specifies the contents and format o f the balance sheet, the contents o f the profit and loss account, and the format and content o f the cash flow statement, suffers f r o m several shortcomings. There are certain areas where the existing Schedule XI11 o f the Companies A c t i s grossly inadequate, or not in accordance with international trends and requirements. This situation i s further exacerbated with the overwhelming presence o f Indian audit firms, which apply different accounting standards. 51. Given the above scenario, Schedule XI11 may be considered as outdated. The Government has set up an Accounting & Auditing Standards Committee to assist in setting the Accounting and Auditing Standards Board. Given the special and highly technical nature o f rules and principles for accounting, the established trend across the globe i s o f relegating this task t o specialized standard setting institutions or bodies and providing the necessary enabling references in the legislation. 52. There a r e significant differences observed in accounting standards applied vis-i-vis IFRS. After studying the financial statements o f 22 companies for the financial year 2006, we came to the conclusion that many o f the accounting standards followed in practice are far different from IFRS norms. The study covered 10 listed companies, 10 non-listed companies including private companies, one banking company and one insurance company. (See Annexure 3 for examples). Bhutan - Accounting and Auditing ROSC Page 20 IV. AUDITING STANDARDS AS DESIGNED AND AS PRACTICED 53. By default, the Indian audit firms tend to follow standards prescribed by the I C A I . The auditing standards prescribed by the ICA122are broadly in line with ISA. However, there s t i l l remain some differences. For example, I C A I has not issued an equivalent standard for the ISA-720, "Other Information in Documents Containing Audited Financial Statements." The Indian Auditing Standard, "Responsibilities o f Joint Auditors," does not have an equivalent ISA. The Indian Standards on Audit Sampling, Management Representations, Planning and Quality Control for audit work have significant gaps that need to be aligned with corresponding ISAs. 54. Actual practices diverge from ISA To better understand and assess actual auditing practices in Bhutan, the ROSC team obtained written responses to the ROSC (A&A) Diagnostic Tool-Part 4 from leading audit firms practicing in Bhutan, interviewed representatives o f regulatory bodies and also facilitated discussions with senior practitioners and partners representing such firms. Significant differences exist with the international standards and best practices, which may be attributed to the lack o f defined standards. Majority o f the auditors use a traditional vouching-based audit approach focusing on transactions as opposed to the modern risk-based approach focusing on critical assertion. Auditors do not typically attend physical inventory count nor i s the realizable value o f inventories reviewed or assessed. Debtordcreditors and other sundry parties generally do not respond to confirmation requests in respect o f receivables and payables. Detailed audit procedures for reviewing disclosures o f related party transactions are not followed in view o f the limited legal requirements for such disclosures. (For more references, see Annexure 4.). V. PERCEPTION OF THE QUALITY OF FINANCIAL REPORTING 55. Interviews and discussions with various stakeholders, regulators as well as our review of sample financial statements revealed serious concerns about the quality of financial reporting. Since there are no national accounting standards and GAAP has not been defined, there i s no uniformity in the accounting principles adopted by various companies. This has led to a high degree o f opacity and incomparability o f financial reports and performance records in Bhutan. Since all auditors are from India, companies mostly tend to adopt Indian accounting standards. In certain cases, the accounting principles applied are different from Indian principles whereas in other cases Indian standards have only been cherry-picked for application. 56. There i s a widespread view that the low-level o f skills of accounting professionals and the lack of sanctions resulting from poor oversight and enforcement contribute to noncompliance with established statutory and regulatory reporting requirements. Most stakeholders shared the opinion that improving the quality o f financial reporting calls for a well developed accounting profession and the presence o f a sufficient number o f qualified professionals. It is also widely believed that more effective enforcement mechanisms are necessary to ensure better coinpliance with established reporting requirements. 21 Refer ROSC (A&A), India 2004 Bhutan - Accounting and Auditing ROSC Page 2 1 VI. POLICY RECOMMENDATIONS 57. The policy recommendations in this section are forged around the five pillars o f corporate financial reporting. These five pillars are: (a) Statutory Framework (b) Accounting Profession and Ethics (c) Education and Training (d) Monitoring and Enforcement, and (e) Accounting and Auditing Standards. The design o f the policy recommendations in this section have essentially followed a developmental approach and are guided by the following key postulates: e I t i s Bhutan's aspiration and vision, as articulated in i t s IOFYP, that the private sector will grow significantly and become more dynamic. This provides a unique opportunity to establish a corporate financial reporting framework that i s based o n best international practices. e Establishing a robust corporate financial reporting regime will help to improve the business climate, thereby attracting increased domestic as well as foreign direct investment. e Given the growing importance o f the MSMEs s u b - ~ e c t o r ~ ~ensuring equitable for distribution o f income and poverty reduction, these recommendations would help Bhutan in the development o f institutional, legal and regulatory frameworks for MSMEs. e Building o f in-country human resource capacity in accounting and auditing. will perhaps be the most critical challenge for Bhutan. While the establishment o f a professional accountancy body in Bhutan i s seen as an important step in creating a profession o f skilled accountants, this process may have t o take an incremental approach. In keeping pace with the demand for accountants in Bhutan, the initial focus may have to be o n developing a cadre o f accounting technicians. e Bhutan may determine the pace and sequencing o f reforms, essentially following a gradual process o f improvement, with the public interest entities leading the reform process. 58. The following policy recommendations are based on a review o f accounting and auditing practices in Bhutan. The recommendations take into account valuable inputs from various stakeholders in the country. The recommendations could prove useful in giving direction to the overall financial reporting architecture for Bhutan and in determining i t s shape and format. Prioritization o f short and medium term goals and the sequencing o f matching action plans within relevant time frames will need t o be determined by Bhutan for the country as a whole. 23 In most countries, Micro Enterprises and Small and Medium Enterprises are dealt with separately, as they face different challenges in the context o f bank credit, corporate taxation, as well as low levels o f private entrepreneurship. I n Bhutan, however, this distinction i s not considered significant as the challenges, by and large, remain the same. In fact, Bhutan's Tenth Five Year Plan document refers to Micro Enterprises and SMEs as one single sub-sector. Bhutan - Accounting and Auditing ROSC Page 22 59. As a matter o f priority, the RGoB should establish a dedicated Accounting and Auditing Oversight Board as an independent standard setting and audit regulating body o n the lines of UK's FRC. This body should be set up with the following objectives: (a) setting, monitoring and enforcing accounting and auditing standards (b) regulating auditors24 (c) conducting practice reviews o f auditors o n public interest entities (d) administering disciplinary action in the event that there has been misconduct b y an auditor, and (e) reviewing published financial statements o f public interest entities for compliance with standards o n a proactive basis. The composition, functions and powers o f the body responsible for monitoring and enforcing these requirements need to be configured in l i n e with the emerging international trends to ensure independence and effectiveness in regulating general purpose financial reporting. The body should be empowered with oversight to assess whether the auditing profession is appropriately serving the interests o f users o f audited financial statements and o f the wider public. I t should adjust i t s scope o f work in coordination with the monitoring and enforcement activities o f other regulators, including the professional self regulatory organizations. Other regulators ( M A , RSEB) etc. could strengthen their capacities t o complement the role o f this body. 60. Many of the above mentioned functions may well need to be initiated and undertaken by the AASB. This is being established with technical assistance provided under the ADB-funded Financial Sector Development Project. This would essentially be a transitory mechanism for preparatory actions and may entail: (a) advising the RGoB in the definition o f accounting and auditing standards and development o f the implementation guidance (b) promoting the establishment o f the Institute o f Accountants and Auditors o f Bhutan (IAAB), forging possible alliances with regional institutes, as required, and (c) assisting the R G o B in harmonizing the statutory and legal framework through rationalization o f the Companies Act and other legislation. Over time, the AASB may transition into an independent Accounting and Auditing Oversight Board. 61 The AASB should adopt the IFRSZ5 full for'all listed companies and public in interest entities. Countries across the globe are gradually moving towards IFRS. Adoption o f IFRS by Bhutan would lend wide international credibility and acceptance to Bhutan's corporate reporting framework and attract foreign capital through increased accountability and transparency. The current state o f the accounting framework in Bhutan i s all the more favorable for such adoption. Since Bhutan does not have any legally defined GAAP, the country would not have to go through the procedure o f undoing processes and a relearning curve for making such a transition. Since adoption o f IFRS entails specialized skill and resources, a transition period o f four to five years, or more if required, must also be factored in to allow sufficient time to these companies to acquire and implement the necessary competencies for such compliance. AASB should issue implementation guidelines for standardized application o f these standards. 24 More by default than design, the Companies Act assigns a prominent role to the RAA i n terms o f regulating auditing in Bhutan. This function can well be discharged by the AASB, with RAA continuing to play a significant role in the audits of pubiic enterprises. 25 IFRS are standards and interpretations issued by the IASB. Many o f the standards forming part o f IFRS are known by the older name o f IAS. IAS were issued between 1973 and 2001 by the board o f the IASC. I n Aprii 2001, the IASB adopted all 1AS and continued their development. calling the new standards IFRS. Bhutan - Accounting and Auditing ROSC Page 23 62. The RGoB, by way o f separate legislation, should define MSME and public interest entities26. These are generally not companies which are banks and financial institutions, listed companies, Government companies with large turnover, companies, which have accepted significant public deposits or entities which are considered o f public interest. Such public interest entities should first be defined and identified in the light o f Bhutan's economic environment. The definition o f such companies should be based on certain thresholds as deemed fit. 63. F o r all other private entities, including medium and small enterprises the AASB should adopt the IFRS for Private Entities2'. Because full IFRSs were designed to meet the needs o f equity investors in companies in public capital markets, they cover a wide range o f issues, contain a sizeable amount o f implementation guidance and include disclosures appropriate for public companies. However, users o f the financial statements o f private entities do not have those needs, but are rather more focused o n assessing shorter-tei-ni cash flows, liquidity and solvency. Also, many private entities say that full IFRSs impose a burden o n them - a burden that has been growing as IFRSs have become more detailed and more countries have begun to use them. The IFRS for Private Entities are expressly designed to meet the financial reporting needs o f entities that (a) do not have public accountability and (b) publish general purpose financial statements for external users. Examples o f such extei-nal users include owners who are not involved in managing the business, existing and potential creditors, and credit rating agencies. The IFRS for Private Entities are derived from full IFRSs with appropriate modifications based o n the needs o f users o f private entity financial statements and for cost-benefit considerations. 64. AASB should fully adopt ISA and related IFAC pronouncements for audit o f financial statements o f all companies irrespective o f their size. The audit o f financial statements o f all companies should be carried out in accordance with ISA and other related pronouncements such as the International Auditing Practice Statements (IAPS), International Standards o n Review Engagements (ISRE), International Standards o n Quality Control (ISQC) and International Standards o n Assurance Engagements (ISAE) issued by IFAC28. 2GPublicinterest entities may be defined by the nature o f their business, size and number o f employees; or by their corporate status by virtue o f their range o f stakeholders. Examples may include listed companies, banks and similar financial institutions, insurance companies and large enterprises. The large enterprises may be defined as individual enterprises or groups o f enterprises that may meet any two o f the following three criteria: (a) total number o f employees exceeding 50 (b) total assets on the balance sheet exceeding Nu.400 million, and (c) total turnover exceeding Nu.400 million. 27 The current due process step i s Board re-deliberation o f the proposals in the Exposure Draft (ED) o f an International Financial Reporting Standards for Small and Medium-sized Entities (IFRS for SMEs) that was issued in February 2007. Please note that the IASB changed the name o f the standard to IFRS for Private Entities in May 2008 as part o f its re- deliberations. '' IFAC i s a global professional accountancy organization that serves to protect public interest by encouraging high quality practices by accountants across the world. Members o f IFAC, which are primarily national professional accountancy bodies, globally represent about 2.5 million accountants employed in public practice, industry, Government and academics. Bhutan - Accounting and Auditing ROSC Page 24 65. Royal University of Bhutan should review the curriculum and teaching o f commerce degree course in the university to ensure that practical application o f IFRS and ISA and business ethics are included as elective subjects. The present courses o f the university or the Management Institute in Bhutan do not offer any education o n external corporate accounting, auditing and the related laws, regulation and acts. These educational institutions should take immediate steps t o review and introduce a degree course or program that would include international standards o f accounting, auditing, corporate laws and taxation as main subjects. The curriculum should be practically oriented and supported as far as possible with case studies. Business ethics should also be covered extensively in such curriculum. The institutions should employ trained instructors with adequate knowledge o f the practical dimensions o f international accounting and auditing standards and professional ethics. Arrangements should also be made to facilitate development o f in-house trainers in order to enhance the capacity o f these educational institutions. Besides, the institutions should ensure that a minimum quality standard i s maintained in teaching such accounting and auditing courses by frequently reviewing and updating the course curriculum. 66. The RGoB should review and rationalize Schedule XI11 o f the Companies Act, including the role o f the M A in empanelment o f auditors. The Schedule XI11 to the Companies A c t o f Bhutan, which specifies the contents and format o f the balance sheet and the profit and loss account, and the format and content o f the cash f l o w statement, suffers f r o m several shortcomings. Matching the rapid changes in the world o f commerce, accounting requirements have also been evolving pretty fast. But although the need may arise to amend accounting norms to keep up with the changes in the economic environment across the world, corresponding legislation cannot be changed as fast because this would entail amending the A c t itself, which requires a long cycle o f time. In a bid to overcome t h i s problem, countries have moved to a regime where independent professional accounting standard setters, under a due process o f oversight by relevant authorities, set accounting standards. This process i s enabled by a legal provision laying out the process o f standard setting rather than laying out the requirements o f such standards themselves. Accordingly, Schedule XI11 o f the Companies A c t should be removed f r o m legislation and replaced with a simple provision enabling A A S B to .prescribe and amend from time to time the format, content and standards on measurement, presentation and disclosure o f elements contained in the financial statements o f various enterprises and the form and content o f such financial statements themselves. 67. In the medium and long term, Bhutan will need to develop i t s o w n accountancy and audit profession. In order to build the domestic accounting capacity and to fill the long- standing vacuum o f professional accountants in the country, there i s a need to institute a professional accounting qualification in Bhutan. As the private sector evolves in Bhutan and the demand for domestic accounting and auditing professionals rises correspondingly, the priority would be to develop a cadre o f accounting technicians by laying down a well-defined professional education curriculum, practical training requirements and qualifying examinations as minimum necessities. This can be followed in course o f time with a certification program for obtaining the title o f professional accountant or an auditing license. In order to successfully implement this, A A S B will Bhutan - Accounting and Auditing ROSC Page 25 need to play an active role in exploring opportunities to forge regional and international collaborations for establishing the professional education and certification process in Bhutan2'. Over time, this will allow Bhutan to establish its Institute o f Chartered Accountants set up under Bhutanese law and managed by a Council with wide ranging membership, comprising o f members and nominated Government representatives. The statutory functions o f the Council will include enrolling students, regulating their education and training, conducting examinations, providing professional development, maintaining professional and ethical standards, and taking disciplinary action against erring members. 29 The Accounting Standard Board o r Nepal was formed by the Institute o f Chartered Accountants o f Nepal (ICAN). which uas established under Nepal Chaitered Accountants Act, 1997. An MOCJ on technical cooperation was signed 11. ith the Institute o f Chartered Accountants o f India in 1998 to assist Nepal in the process. Bhutan - Accounting and Auditing ROSC Page 26 ANNEXURE 1 Scope of Audit as per the Companies Act, 2000 A range o f wide and onerous duties are included in the scope o f audit work as per Schedule XIV o f the Companies Act 2000 as indicated below: Part Io f Schedule XIV o n General Terms o f Reference includes the following: 1, The scope o f audit shall be, a) Certification o f Financial Statements b) Proprietary audit c) Performance audit d) Management audit, and e) Compliance audit In addition to the above, auditors shall be responsible for assessing the strength and weaknesses in the accounting/internal controls system and frame the recommendations to improve it. 2. While conducting proprietary audit o f a company, the following aspects shall be looked into and audit observations thereto shall be reported: a) Whether the fund and property o f the company has been used economically, efficiently and effectively and in the best interest o f the company; b) Cases o f any: i) Excessive/extravagant/unnecessary expenditure incurred ii) Irregular expenditure and uses o f property i) i i Embezzlement o f fund iv) Misuse o f fund, inventory or property o f the company; and v) Whether the transactions comply with the rules and regulations o f the Government. Part I 1 of Schedule XIV on Minimum Audit Examination and Reporting Requirements includes the following: Every report made by an auditor under the Companies A c t o f the Kingdom o f Bhutan in examining the accounts o f the corporation shall contain, inter alia, the following: Bhutan - Accounting and Auditing ROSC Page 27 F o r all manufacturing, mining o r processingcompanies: 1. Whether the company i s maintaining proper records showing full particulars including quantitative details and situation o f fixed assets; whether any material discrepancies were noticed on physical verification and, if so, whether the same have been properly dealt with in the books o f accounts. 2. Whether any o f the fixed assets were being revalued during the year; if so, the basis of revaluation should be indicated. The treatment for profit/loss on revaluation should be clearly indicated. 3. Whether physical verifications were conducted at reasonable intervals in respect o f finished goods, stores, spare parts and raw materials. 4. Whether the procedures o f physical verification o f stocks followed b y the management are reasonable and adequate in relation to the size o f the company and the nature o f i t s business. I not, the inadequacies in such procedures should be reported. f 5. Whether any material discrepancies were noticed on physical verification o f stocks as compared to the book records, and if so, whether the same have been properly dealt with in the books o f accounts. 6. Whether the auditors, on the basis o f their examination o f stocks, are satisfied that such valuation i s fair and proper, in accordance with the normally accepted accounting principles. Whether the basis o f valuation o f stocks i s the same as in the preceding year or if there i s any deviation in the basis o f valuation, has the effect o f such deviation been stated? 7 . Whether the rate o f interest and the other terms and conditions o f loans availed, if any, by the company secured or unsecured from companies, firms or other parties and/or from the companies under the same management are p r i m a facie not pre-judicial to the interest o f the company. 8. Whether the rate o f interest and other terms and conditions o f loans granted, if any, secured or unsecured to other companies, f i r m s or other parties and/or to the companies under the same management, are primafacie not prejudicial to the interest o f the company. 9. Whether the parties to whom the loans or advances have been given by the company are repaying the principal amounts as stipulated and are also regular in payment o f interest, and if not, whether reasonable steps have been taken by the company for recovery o f the principal and the interest. 10. Whether the loans/advances granted to officerdstaff are in keeping with the provisions o f service rules. No excessive/frequent advances are granted and accumulation o f large advances against a particular individual i s avoided. 11, Whether the company has established an adequate system o f internal controls to ensure completeness, accuracy and reliability o f accounting records, carrying out the business in an orderly and efficient manner, to safeguard the assets o f the company as well as to ensure adherence to the rules/regulations and system and procedures. Bhutan - Accounting and Auditing ROSC Page 28 12. Whether there i s a system o f competitive bidding, commensurate with the size o f the company and the nature o f its business, for the purchase o f goods and services including stores, raw materials, plant and machinery, equipment and other assets, and for the sale o f goods and services. 13. Whether the transactions for purchases and sales o f goods and services made in pursuance o f contracts or arrangement entered into with the director(s) or any other party(ies) related to the director(s) or with company or firms in which the director(s) are directly or indirectly interested have been made at prices, which are reasonable and in line with the prevailing market prices for such goods or services or at prices at which the transactions for similar goods or services have been made with other parties. I t should also be ensured that details o f such transactions and amounts thereof are adequately disclosed in the financial statements. 14. If the auditors' examination reveals that the transactions entered into b y the company wherein the directors are directly or indirectly interested are prejudicial to the interests o f the other shareholders and the company, the details thereof together with the likely financial impact thereof should be reported. 15. Whether any unserviceable or damaged stores, raw materials or finished goods are determined, and whether provisions for loss, if any, have been made in the accounts. 16. Whether there i s a reasonable system o f ascertaining and identifying point o f occurrence o f breakage/damages o f raw materials, packaging materials and finished products i.e. while in transit, during processing, during loading/unloading, in storage and during handling etc., so that responsibility could be fixed and compensation sought f r o m those responsible. 17. Whether the company is maintaining reasonable records for production o f finished goods, by-products and whether adequate physical safeguards exist to prevent unauthorized or irregular movement o f goods from the company. 18. Whether the company is maintaining reasonable records for sales and disposal o f realizable by-products and scraps where applicable. 19. Whether the company i s regular in depositing taxes, duties, royalties, provident funds, and other statutory dues with the appropriate authority and if not, the extent o f arrears should be disclosed. Whether the provision for corporate tax i s adequate and that necessary adjustments have been made to compute the amount o f tax required under the Revised Taxation Policy, 1992. 20. Whether any undisputed amounts payable in respect o f taxes, duties, royalties, provident funds and other statutory deductions were outstanding, as per the last day o f the financial year concerned, and if so, the amounts o f such outstanding dues. 21. Whether personal expenses have been charged to the company accounts; if so, the details thereof. 22. Whether the company has a reasonable system o f recording receipts, issues and consumption o f materials and stores and allocating materials consumed to the respective jobs, commensurate with its size and nature o f i t s business, if applicable. 23. Whether quantitative reconciliation i s carried out at least at the end o f the accounting year in respect o f all major items o f inventories i.e. finished goods and raw materials. Bhutan - Accounting and Auditing ROSC Page 29 24 Whether approval o f the board/appropriate authority i s obtained for writing o f f amounts due to material loss/discrepancies in physical/book balances o f inventories including finished goods, raw materials, stores and spares. 25 Whether the company has a reasonable system o f allocating man hours utilized for the respective jobs, commensurate with the size and nature o f its business, if applicable. 26. Whether there i s a reasonable system o f authorization at proper levels, as well as an adequate system o f internal control commensurate with the size o f the company and nature o f i t s business, on issue o f stores and allocation o f materials and labor to jobs. 27. Whether there i s a reasonable system o f price fixation taking into account the cost o f production and market conditions. 28. Whether the credit sales policy i s reasonable and proper credit rating o f customers i s carried out. 29. Whether the system o f screening commission agents i s adequate where sales are made through commission agents and that the agency commission structure i s in keeping with the industry normdmarket conditions. Whether the company has a system o f evaluating performance o f each agent on a periodic basis. 30. Whether there i s a reasonable system for continuous follow-up with debtors and other parties for recovery o f outstanding amounts. Also, whether age-wise analysis o f outstanding amounts i s carried out for management information and follow-up action. 31. Whether the management o f liquid resources particularly cash/bank and short term deposits etc. are adequate and that excessive amounts are not lying idle in non-interest bearing accounts, and whether withdrawals o f loan amounts are made after assessing the requirements o f funds from time to time and no excess amounts are withdrawn leading to avoidable interest burden on the company. 32. Whether the activities carried out by the company are lawful and intra vires to the Articles o f Incorporation o f the company. 33. Whether the activitieshnvestment decisions are made subject to the board's prior approval and investment in new projects are made only after ascertaining the technical and economic feasibility o f such new ventures. 34. Whether the company has established an effective budgetary control system. 35. Whether in the case o f manufacturing companies, where input-output relationship can be established and standard costing system i s established, the variance analysis i s being carried out in periodic intervals and corrective action i s being taken if warranted. 36. The details o f remuneration, commission and other payments made in cash or in kind to the Board o f Directors including the Chief Executive Officer or any o f their relatives (including spouse(s) and child/children) by the company directly or indirectly are disclosed in the accounts. 37. Whether the directives o f the boards have been complied with and if not, enumerate the non- compliance. Bhutan - Accounting and Auditing ROSC Page 30 38. Whether the officials o f the company have transmitted any price sensitive information, which are not made publicly available to their relatives/friends/associates or close persons, which would directly or indirectly benefit themselves. For all Trading Companies: 1. All matters specified in the case o f manufacturing, mining or processing companies shall apply to a trading company except matters relating to raw materials, labor, by-products etc., which are applicable only in respect o f the audit o f a manufacturing company. 2. Whether the value o f damaged and slow moving goods have been determined, and if the value o f such goods i s significant, whether provisions were made for the loss. For all Finance and Investment Companies: 1. All matters specified for manufacturing, mining or processing companies except those pertaining to manufacturing, activities and relative procurements, sales, marketing etc. functions, which are not relevant in a financing and investment company. 2. Whether adequate documents and records are maintained in case, where the company has granted loans and advances and that agreements have been drawn up and whether timely entries have been made therein. 3. Whether proper records o f the transactions and contracts have been maintained and whether timely entries have been made therein if the company i s dealing or trading in shares, securities and other investments. 4. Whether reasonable records are maintained for funds collected from depositors and for interest payment. 5. Whether the provisions are made for permanent diminution, if any, in the value o f investment (shares). 6. Whether or not the financial institutions have complied with the requirements o f the Financial Institutions Act, 1992 and any other applicable laws, rules and regulations and guidelines issued by the appropriate authorities. 7. Whether or not the requirements relating to provisioning for non-performing assets including loans and advances have been complied with. 8. Whether recognition o f interest income in respect o f non-performing assets have been deferred. 9. Whether assets hypothecated against loans and advances have been physically verified, properly valued, the mortgage deed executed and it i s ensured that the assets are free o f any prior lien or charges. 10. Whether or not the financial institutions have a system o f monitoring o f projects for which loans have been provided to ensure that loan amounts are used for the specified purposes and project activities are progressing satisfactorily. Bhutan - Accounting and Auditing ROSC Page 3 1 11. Whether or not the disposal o f assets taken over for repayment defaults etc. are made through opedsealed bids. 12. Whether or not proper analysis i s carried out before re-phasinghescheduling o f loans are permitted and that re-phasing i s not permitted in respect o f non-performing loans. 13. Whether or not there i s a system to ensure that additional loans are not granted to those who have defaulted payments o f previous advances. F o r all other Service Sector Companies: 1. All matters specified for manufacturing, mining or processing companies except those pertaining to manufacturing activities and relative procurements functions etc., which are not relevant in a Service Sector Company. 2. Whether the company maintains a reasonable system o f costing to ascertain the cost o f i t s services and to enable i t to make proper pricing decisions for i t s services. 3. Whether proper records are kept for inter unit transactions/services and arrangements are made for services with other agencies engaged in similar activities. 4. Whether proper agreements are executed and that the terms and conditions o f leases are reasonable and the same are applied if machinery/equipment are acquired on lease or leased out to others. F o r Computerized Accounting Environment: 1. Whether the organizational and system development controls and other internal controls are adequate, relative to size and nature o f computer installations. 2. Whether adequate safeguard measures and back up facilities exist. 3. Whether back up facilities and disaster recovery measures include keeping files in different and remote locations. 4. Whether the operational controls are adequate to ensure correctness and validity o f input data and output information. 5. Whether the measures to prevent unauthorized access over the computer installation and files are adequate. Bhutan - Accounting and Auditing ROSC Page 32 General: 1. Going concern problems: In all the above cases, in addition to the various matters to be checked and reported, the Auditor's Report shall specify whether the company i s healthy or is likely to become sick in the near future. Potential going concern problems shall be highlighted. 2. Ratio Analysis: Auditors should carry out such analysis including ratio analysis so as to determine the financial health and profitability o f the enterprise. Ratio analysis should also ascertain the impact o f Government subsidy (in case or in kind) or any other forms o f benefits extended by the Government o n the profitability o f the company. Where appropriate, comparison o f the ratios with the industry norms should also be carried out. A separate chapter should be devoted, under the head financial and operational resume in respect o f each audited entity. Graphic presentation o f the important performance indicators and financial highlights should be made. 3. Compliance with the Companies Act o f the kingdom o f Bhutan: Auditors should in their report clearly indicate as to whether the companies have complied with the various provisions o f the Companies A c t o f the Kingdom o f Bhutan concerning conducting o f meetings, filing requirements, maintenance o f records, issue o f shares, raising o f loans and all other matters specified in the said Act. 4. Adherence to Laws, Rules and Regulations: Auditors should also report as to whether the companies have been complying with the applicable laws, rules and regulations, systems, procedures and practices. Reporting: 1. Auditor's Report shall consist of: i) Audited financial statements and auditors' report thereon. Notes to accounts and significant accounting policies shall form an integral part o f the accounts. ii) Auditors' observations and recommendations o n the accounts, internal control system and operations o f the company including Financial and Operational Resume for the current year.* iii) Follow-up report o n the current status o f the recommendations o f the earlier year.* *Comments of the management should be duly incorporated in the report. 2. In respect of Government/Government controlled companies, the following shall also apply: In addition to these reports, the auditors should also enclose an authenticated list o f outstanding advances availed by the officials and employees o f the Government/Government-controlled companies and Financial Institutions including advances given to the officials o f other Government agencies. Such advances should not include loans availed by the employees in the normal course o f business which are subject to recovery through set procedures. The details should indicate the voucher number and date o f loan, amount paid, amount adjusted and details o f adjustment, balance outstanding and period since the amount i s overdue for adjustmenthefund. Bhutan - Accounting and Auditing ROSC Page 33 ANNEXURE 2 Inadequacies in Schedule XI11 o f the Companies Act Listed below are some areas where the existing Schedule XI11 o f the Companies Act is grossly inadequate, or not in accordance with international trends and requirements : 1. Schedule XI11 does not prescribe any format for the profit and loss account. 2. The Schedule requires disclosure o f inventory, consumption and such other information. But this kind o f information i s not required under any other framework. I t also does not provide any meaningful insight to the users o f the financial statements. Moreover, this requirement i s fraught with the risk o f disclosure o f confidential data to competitors. The need for such disclosures should be done away with. 3. The Schedule does not mandate disclosure o f accounting policies. This requirement becomes applicable through the Indian Accounting Standard, since Indian Standards are generally applied at the behest o f auditors from India. 4. Schedule XI11 does not mandate any disclosure for leases. I t i s left to the application o f the Indian Accounting Standard on Leases to do so in this matter. 5. The Schedule does not mandate disclosure o f Basic and diluted EPS. It i s the Indian Accounting Standard o n EPS which warrants such disclosure. 6. The Schedule does not mandate disclosure o f deferred taxes.. I t i s the Indian Accounting Standard for Taxes which mandates disclosure and lays down the principles and measurement and recognition norms in this respect. 7. The Schedule does not mandate accounting for recognizing impairment losses. 8. Schedule XIIIA does not mandate disclosures regarding intangibles, although Schedule XIIIB format for the Cash F l o w Statement does. 9. Schedule XIIIA does not mandate disclosures o f derivatives and potential losses thereon, other than cash flow disclosures required by Schedule XIIIB. - Bhutan Accounting and Auditing ROSC Page 34 ANNEXURE 3 Key differences between accounting standards as per the Companies Act and IAS Examples o f some o f such differences found in the review o f financial statements include the following : 1. Presentation o Financial Statement: Certain disclosure requirements o f IFRS have not f been adopted by most o f the companies. For example, none o f the companies has presented the Statement o f Changes in Equity or a Statement o f Recognized Gains & Losses as required by IAS 1. 2. Inventory: Most companies have different accounting policies o n inventory valuation as compared to IAS 2 for valuation and disclosure o f inventories at lower o f cost or net realizable value. In most cases, the inventory has been valued either at cost or at weighted average cost, irrespective o f higher or lower net realizable value. 3. Classification o cash flow activities: The classification requirements o f cash flows as f per IAS 7.10 and the definitions o f different business activities as per I A S 7.6 have not been adopted by most companies. In some cases, cash flows have been disclosed under the head "Returns o n investments and servicing o f Finance" instead o f the head "Cash Flows from Investing Activities." In some cases, cash flows f r o m Taxation and Capital Expenditures have been separately disclosed instead o f showing them as part o f Operating and Investing Activities respectively. 4. Prior Period Errors: Most o f the companies reviewed have not adopted the accounting treatment for prior period errors prescribed by IAS 8.42. For example, some companies have charged prior period errors in the current period income statement instead o f retrospective correction and adjustment with opening balance o f retained earnings and restating comparative information. 5. Issuance o Financial Statement: There i s no practice o f disclosing the date o f f authorization for issue o f financial statements which has been mandated by IAS 8.49. 6. Deferred Tax: Most o f the companies do not measure or recognize deferred tax. 7. Segment reporting: Although some o f the companies have disclosed segment reporting as a significant accounting policy yet most o f the companies have not actually disclosed segment wise information. 8. Impairment o assets: The significant accounting policies o f most o f the companies do f not include any policy o n accounting for impairment o f assets. Impairment testing at year-end has also been disregarded by most o f the companies. 9. Depreciation: The tendency to follow the Income Tax rate for the computation o f depreciation has been observed in most o f the cases irrespective o f the rate based on the estimated useful l i f e o f the assets. Such a practice is not in line with IAS 16.50 - Bhutan Accounting and Auditing ROSC Page 35 10. Lease Accounting: In most o f the cases, it has been observed that accounting policies do not distinguish between different types o f leases i.e. operating and finance leases. Thus, disclosure provisions as per I A S 17 have not been adopted in most o f the cases. 11. Revenue: Very few companies have clearly specified their revenue recognition policy. The disclosure requirements o f IAS 18 have not been followed in most o f the cases. 12. Employee Benefits: The disclosure requirements as per IAS 19 have not been followed by most o f the companies. For example, the computation o f defined benefit liability has not been disclosed by any company. 13. Foreign Exclzange Transactions: The requirements o f IFRS regarding conversion o f the financial statement to reporting currency, using the closing rate for balance sheet items and average rate for income statement items, have not been followed by some o f the companies. Some companies have accounted for the foreign exchange gaidloss on realization basis. 14. Related Party Disclosures: Most o f the companies have disregarded the adoption o f the requirements o f IAS 24 relating to related party disclosures. Some companies have only disclosed the payments made to their management personnel without specifying the same as related party transactions. 15. Disclosures specific to Banks: None o f the banking companies reviewed by us has followed the disclosure norms o f I A S 30 relating to fair values o f financial assets and liabilities, contingent liabilities and commitments, analysis o f assets and liabilities based o n maturity, net foreign currency exposures, etc. 16. Earnings Per Share: None o f the listed companies has completely adopted the provisions o f I A S 33 relating t o earnings per share. 17. Financial Instruments: Accounting policies relating to recognition and measurement o f financial instruments have not been specified by most o f the companies. The disclosure norms o f IFRS 7 have also not been applied by most o f the companies. 18. Insurance Liabilities: The insurance company reviewed has not applied the liability adequacy test as required by IFRS 4 for i t s recognized insurance liabilities. Bhutan - Accounting and Auditing ROSC Page 36 ANNEXURE 4 Key differences between auditing practice and ISA The following differences in the auditing practice vis-a-vis ISA have been noted in the review o f the audit reports: 1. Generally, audit i s commenced after the end o f the financial year and auditors do not attend physical inventory counting. Certificates confirming physical existence o f inventories are relied upon. 2. Realizable value o f inventories i s not reviewed or assessed in most cases. Many companies have different accounting policies on inventory valuation rather than valuation and disclosure o f inventories at lower o f cost or net realizable value. Often, inventory i s valued either at cost or at weighted average cost irrespective o f higher or lower net realizable value. 3. Confirmations o f receivables and payables are often not obtained from debtodcreditors and other sundry parties even in respect o f material balances. 4. Reporting o f segment information i s not mandated by the Companies Act/other regulations and, hence, segment information i s not furnished and consequently not audited for all the audited companies. 5. There i s no requirement in the Companies Act o f the Kingdom o f Bhutan or under Indian Generally Accepted Auditing Standards for Fair Value Measurements and Disclosures. Hence, Fair Value Measurements and Disclosures are neither made nor audited. 6. Very few companies have introduced an effective internal auditing system in Bhutan. Hence, it i s difficult for the statutory auditor to effectively leverage the work o f the internal auditor for the purpose o f statutory audit. 7. Branch audits or joint audits are yet to be introduced in Bhutan in actual practice. Hence, the statutory auditor does not have any scope o f leveraging the work o f another auditor. Assessments and discussions also revealed the following important concerns regarding the quality o f audits o f many large and medium enterprises in the country: 1. Majority o f the auditors use a traditional vouching-based audit approach focusing on transactions as opposed to the modern risk-based approach focusing on critical assertions. 2. There i s a need for increased audit supervision by audit partners and senior staff, which would lead to improving uniform application o f auditing standards. 3. Most o f the audit firms practicing in Bhutan do not have a separate technical department or the system o f appointing a quality control reviewer from within the firm to independently review the work performed by the engagement team, even in respect o f audits o f listed entities. 4. A l l audit firms do not have a policy for dealing with and resolving differences o f opinion which might arise within the engagement team, with those consulted, and, where applicable, between the engagement partner and the engagement quality control reviewer. 5. Audit staff with expertise in information technology i s seldom present on the engagement team, which considerably restricts the ability o f the team to analyze and test the processes and controls around the technical environment o f the audited companies. Bhutan - Accounting and Auditing ROSC Page 37 ANNEXURE 5 List o f Registered Companies in Bhutan, 2008 -~ ~~~ ~~ Registration Date of S. No. N a m e o f the company Location No. Registration 1 Bhutan Polythene Company Limited Phuentsholing 1 27-Dec-90 2 Penden Cement Authority Limited Gomtu 2 27-Dec-90 1 3 Bhutan Development Finance Corporation Limited Thimphu 4 27-Dec-90 1 4 Natural Resource Development Corporation Limited Thimphu 5 27-Dec-90 ~ 5 Bhutan Board Products Limited Phuentsholing 7 27-Dec-90 6 Bhutan Engineering Company Private Limited Phuentsholing 9 27-Dec-90 i 7 Bhutan Carbide and Chemical Limited Phuentsholing 10 27-Dec-90 8 Bhutan Ferro Alloys Limited Phuentsholing 11 27-Dec-90 I 9 Bhutan Fruits Products Private Limited Samtse 12 29-Mar-9 1 10 Druk Air Corporation Limited Par0 15 16-Apr-91 11 Bank o f Bhutan,Limited Phuentsholing 16 0 1-May-9 1 13 Bhutan Agro Industries Limited Thimphu 20 24-Oct-9I i 14 Bhutan Tourism Corporation Limited Thimphu 25 22-Apr-92 I5 Food Corporation of Bhutan Limited Phuentsholing 27 08-Jul-92 ~ 16 Wood Craft Centre Limited Thimphu 34 30-NOV-92 17 Druk Mining Limited Phuentsholing 42 'i 18 19 20 Royal Securities Exchange o f Bhutan Limited Druk Securities Limited BNB Securities Limited Thimphu Thimphu Thimphu 46 52 54 18-Aug-93 02-Sep-93 12-Oct-93 I 21 Druk Stair Corporation Limited Samdrupjongkhar 56 14-Oct-93 22 Army Welfare Project Limited Phuentsholing 61 18-NoV-93 23 BOB Securities Limited Phuentsholing 62 08-Dec-93 24 RICB Securities Limited Phuentsholing 63 08-Dec-93 25 H&K Company Private Limited Phuentsholing 64 27-Dec-93 26 Bhutan Dairy & Agro Products Limited Phuentsholing 65 27-Dec-93 27 Drunk Petroleum Corporation Limited Phuentsholing 67 25-Jan-94 28 RSA Private Limited Phuentsholing 84 09-May-95 29 International Treks and Tours Limited Thimphu 85 25-JuI-95 30 Kuensel Corporation Limited Thimphu 87 16-Aug-95 31 Druk Cement Company Private Limited Phuentsholing 90 30-Oct-95 32 State Trading Corporation o f Bhutan Limited Phuentsholing 91 05-Mar-95 1 33 Bhutan Broadcasting Service Corporation Limited Thimphu 94 0 1-Aug-96 34 Bhutan National Bank Limited Thimphu 96 02-Sep-96 35 Bhutan Postal Corporation Limited Thimphu 97 25-Oct-96 36 Green Wood Manufacturing Corporation Limited Phuentsholing 104 28-Apr-97 ' 37 Alpine Builders Private Limited Thimphu 106 I 38 Bhutan Polymers Company Limited Gomtu 107 12-Jun-97 39 Bhutan Board Exports Limited Phuentsholing 109 03-JuI-97 i 40 Bhutan Chemicals & Industries Limited Samdrupjongkhar 111 21-JuI-97 I 41 Royal Society for the Protection o f Nature Limited Thimphu 114 29-Oct-97 1 42 Bumthang Brewery Limited Bumthang 117 29-May-98 Bhutan - Accounting and Auditing ROSC Page 38 45 RSA Poly Products Private Limited Phuentsholing 134 15-Aug-0I 46 Bhutan Resorts Private Limited Thimphu 135 27-Aug-0 1 47 Bhutan Eco-Venture Limited Thimphu 138 06-NOV-0 1 48 Bhutan Telecom Limited Thimphu 140 26-Mar-02 49 Bhutan Steel Industries Limited Phuentsholing 141 27-Mar-02 50 Bhutan Power Corporation Limited Thimphu 145 2 1-Aug-92 51 Druk Plaster & Chemical Limited Samdrupjongk har 149 03-Jan-0 1 1 52 Bhutan Metals Private Limited Phuentsho ling 150 23-0ct-03 ' 53 SD Eastern Bhutan Ferro Silicon Private Limited Samdrupjongkhar 151 05-May-04 1 54 Bhutan Brewery Private Limited Phuentsholing 152 07-May-04 55 Druk Wang Alloys Limited Phuentsholing 153 14-JuI-04 56 Yarkay Group Private Limited Phuentsholing 154 20-Sep-04 , 57 Kenpa Private Limited Phuentsholing 155 26-Oct-04 1 58 Yarab Private Limited Phuentsholing 156 03-NOV-04 59 SD Eastern Bhutan Coal company Limited Samdrupjongkhar 157 30-NOV-04 60 Samphell Norbu Products Private Limited Phuentsholing 158 02-Dec-04 61 Druk Packaging & Industries Private Limited Phuentsholing 159 10-Dec-04 62 Samden Tech Private Limited Thimphu 161 19-Jan-05 , I 63 Druk Ferro Alloys Limited Phuentsholing 162 15-Mar-05 64 Rangshar Industries Private Limited Phuentsholing 163 16-Mar-05 65 Bhutan Cable Industries Private Limited Phuentsholing 164 3 1-Mar-05 66 Kimpex Private Limited Phuentsholing 165 05-Apr-05 67 Jigme Mining Corporation Limited Gomtu 166 03-Jun-05 68 Jigme Polytex Private Limited Gomtu 167 03-Jun-05 69 Jigme Industries Private Limited Gomtu 168 23-Jun-05 70 Tashi Metals & Alloys Private Limited Phuentsholing 169 29-Jun-05 71 Megha Private Limited Phuentsholing 170 28-Jul-05 72 Zimdra Industries Private Limited Phuentsholing 171 0 1 -Sep-05 73 Bhutan Business Solution Private Limited Thimphu 172 29-NOV-05 74 Bhutan Rolling mills Private Limited Phuentsholing 173 09-Dec-05 75 Sonam Yangchuk Private Limited Phuentsholing 174 24-Feb-05 76 United Cable TV Private Limited Thimphu 175 13-Mar-06 77 Bhutan Health Food Private Limited Phuentsholing 176 20-Apr-06 78 Ugen Ferro Alloys Private Limited Phuentsholing 177 24-May-06 79 G4S Security Services (Bhutan) Private Limited Thimphu 179 14-JuI-06 1 80 K.K. Steel Private Limited Phuentsholing 180 27-JuI-06 1 81 DSB Enterprises Private Limited Thimphu 181 28-JuI-06 ' 82 Bhutan Ferro Industries Limited Phuentsholing 182 3 1-JuI-06 83 Tashi Dawa Associates Private Limited Thimphu 183 0 1-Aug-06 l 84 Lhaki Steel & Rolling Private Limited Phuentsholing 184 26-Sep-06 ' 85 Bhutan Concast Private Limited Phuentsholing 185 20-NOV-06 90 United Industries Private Limited Thimphu 190 22-Jan-07 91 Tashi Infocom Limited ' Thimphu 191 23-0ct-07 Bhutan - Accounting and Auditing ROSC Page 39 93 Quality Gases Private Limited Phuentsholing 193 29-Mar-07 Saint Gobain Ceramic Material Bhutan Private 94 Limited Phuentsholing 194 29-May-07 95 Bhutan Observer Private Limited Thiinphu 195 03-JuI-07 96 Bhutan Pharmaceuticals Private Limited Gomtu 196 12-Sep-07 ' 97 Tashi Beverages Limited Phuentsholing 197 24-0ct-07 98 Druk Holding & Investment Limited Thimphu 198 16-NOV-07 Bhutan Engineering Power Company Private 99 Limited Thimphu 199 07-Dec-07 100 Sherab Institute o f Learning Private Limited Phuentsholing 200 19-Dec-07 101 Druk Green Power Corporation Limited Thimphu 20 1 24-Dec-07 ' 102 Met Trade Bhutan Limited Phuentsholing 202 07-Feb-08 103 Sherab Reldri Services Private Limited Phuentsholing 203 26-Feb-08 104 East West Company Private Limited Thimphu 204 03 -Apr-O8 105 Gyelsa Tewa Real Estate Limited Thimphu 205 10-Apr-08 106 Bhutan Bitumen Industries Private Limited Phuentsholing 206 22-Apr-08 107 Bhutan Silicon Metal Private Limitad Phuentsholing 207 29-Apr-08 ' 11 1 SKW- Tashi Metals Private Limited Phuentsholing 21 1 0 1-Jul-08 I12 New Edge System Technologies Private Limited Thimphu 2 12 02-Jul-08 1 13 Norbu Bhutan Travel Private Limited Thimphu 213 11-Aug-08 1 14 Nima Power Private Limited Thimphu 214 12-Aug-08 Bhutan - Accounting and Auditing ROSC Page 40