Learn how forensic audit are critical in maintaining integrity and identifying wrongful practices within the insolvency process.
Overview
Forensic Audit – The Insolvency and Bankruptcy Code, 2016 (referred to as ‘The Code’) was designed to rejuvenate a corporate debtor and streamline insolvency and liquidation proceedings in a timely manner. The Code sets the stage for a more efficient insolvency process, aiming to maximise asset value.
Unpacking the Code: An Overview
The Code introduces various features and procedures, including provisions addressing specific transactions. Sections 43 to 56 and Section 66 empower the Resolution Professional to avoid specific transactions, termed as fraudulent or wrongful. This article delves into the Code’s provisions concerning these specific transaction types.
Understanding Preferential Transactions – Section 43
Preferential transactions occur when a corporate debtor transfers property or its interest to benefit a creditor, potentially impacting the creditor’s position as per the waterfall mechanism (Section 53). The Code analyses a specific period preceding the insolvency commencement date to identify such transactions.
The Forensic Audit Process for Preferential Transactions
The Forensic Auditor reviews advances, loans repaid to related parties, and compares them with payments to secured lenders in the same period. Additionally, the auditor assesses transfers of assets to lenders, secured or unsecured, and creditors in the specified period.
Unveiling Undervalued Transactions – Section 45
Undervalued transactions transpire when a corporate debtor either gifts assets or engages in transactions where the consideration paid is higher than the asset’s value, not in the ordinary course of business. The Code scrutinises a specific period before the insolvency commencement date to identify such transactions.
The Forensic Audit Process for Undervalued Transactions
The audit involves reviewing profit and loss ratios, comparing transactions with related parties and other entities, benchmarking undervalued transactions with peer organisations, assessing ledger accounts, analysing key ledgers, conducting site visits, and background verifications for suspicious parties.
Exposing Extortionate Credit Transactions – Section 50
Extortionate credit transactions are characterised by exorbitant transactions in relation to credit or violations of contract law by the corporate debtor. The Code reviews a specific period before the insolvency commencement date to identify such transactions.
The Forensic Audit Process for Extortionate Credit Transactions
Forensic auditors analyse the operational and financial debt incurred by the corporate debtor in the previous 2 years, review the terms of such debts, and assess the genuineness of lending parties.
Investigating Fraudulent and Wrongful Trading – Section 66
Section 66 empowers the Resolution Professional to apply to the adjudicating authority against a corporate debtor conducting business to defraud creditors. The authority can pass orders against all parties involved in such wrongful business.
The Forensic Audit Process for Fraudulent and Wrongful Trading
Forensic auditors rigorously review financial statements, assess funds usage, and scrutinise asset removal or disposal without informing the bank, ensuring compliance with the terms of sanctions, and proper use of borrowed funds.
Adapting to Amendments: Present Status of Section 66
The Insolvency and Bankruptcy Amendment Ordinance 2020 amended Section 66, introducing a suspension clause (Section 66(3)). This clause temporarily suspends the Code for 6 months, preventing the resolution professional from making applications related to wrongful and fraudulent transactions during this period.
Detecting Suspect Transactions – A Comprehensive Overview
Forensic audits play a vital role in detecting fraudulent or suspect transactions within the insolvency and bankruptcy process. These audits are designed to uncover irregularities, misrepresentations, and potential fraudulent activities that may have taken place leading up to the insolvency commencement date.
Key Areas of Focus in Forensic Audit
- Financial Statement Analysis: Forensic auditors meticulously review financial statements for any signs of tampering, fraudulent reporting, or discrepancies that could indicate wrongful trading.
- Cash Flow Analysis: Analysing cash flow patterns helps in identifying anomalies or irregularities in fund utilisation, diversion of funds, or undisclosed transactions.
- Asset Valuation and Ownership: Verification of the value and ownership of assets is crucial to uncover potential overvaluation or undervaluation, which might be indicative of fraudulent transactions.
- Transaction Tracing: Forensic auditors trace transactions to ensure they comply with legal and financial regulations, identifying any illicit transactions or fund diversions.
- Document Examination: Thorough examination and verification of documents to validate their authenticity and identify any discrepancies or forgeries.
Unravelling the Power of Data Analytics in Forensic Audits
Modern forensic audits increasingly rely on advanced data analytics tools and techniques. Data analytics can process vast amounts of financial and transactional data to identify unusual patterns or trends that could signify fraudulent activities.
Data Analytics Techniques in Forensic Audits
- Pattern Recognition: Identifying patterns in financial transactions that deviate from the norm or follow a suspicious trend.
- Anomaly Detection: Utilising algorithms to detect unusual activities or transactions that stand out from regular patterns.
- Predictive Modelling: Building models to predict future financial behaviours based on historical data, enabling proactive fraud prevention.
- Network Analysis: Analysing the relationships and connections within financial data to uncover potential collusions or fraudulent activities.
Conclusion
e-FIR – In conclusion, comprehending and leveraging forensic audit procedures under the Insolvency and Bankruptcy Code 2016 are imperative for maintaining the integrity of insolvency processes. Forensic audits act as a robust mechanism to detect and prevent fraudulent or wrongful transactions, ensuring a fair and efficient insolvency resolution framework. As you traverse the complexities of the Code, engaging professional assistance from Vakilsearch can significantly enhance the effectiveness of your forensic audit. Our expertise and guidance can fortify your forensic audit endeavours, leading to more accurate and reliable outcomes.
