The New Companies Act, 2013 has been enacted with Presidential assent on 29 August,2012. 282 sections out of 470 sections have been notified till date and it is expected that once the rules are in place remaining provisions shall also be enforced by the year end. The draft rules have also been placed in public domain. The new law is going to change the life of auditors as well as auditee.
Once famously remarked –
“The auditor is a watchdog and not a bloodhound”
Companies Act, 2013 does not seem to echo this thought!
The kind of stringent measure prescribed against auditors give the picture that the Act indeed expects the auditors to be Bloodhounds in discharging their duties and not merely be watchdogs. The Satyam (and now Sahara) debacle seems to have cast a very gloomy image in the minds of regulators as far the auditors are concerned. While the new role of auditors make them more responsible and accountable, the auditee’s financial statements shall have to be more explicit, self explanatory, transparent and fair.
Let’s start with
POWERS OF AUDITORS
1. Right to access (Section 143(1))
- Every auditor of a company shall have a right of access at all times to the books of accounts and vouchers of the company, whether kept at the registered office of the company or at any other place and shall be entitled to require from the officers of the company such information and explanation as he may consider.
Inclusive list of matter for which auditor shall seek information and explanation i.e. Matters of Inquiry by auditor:
(a) Proper security for Loan and advances,
(b) Transaction by book entries
(c) Sale of assets in securities in loss
(d) Loan and advances made shown as deposits,
(e) Personal expenses charged to revenue account
(f) Case received for share allotted for cash
- Considering specific requirements to prepare and audit Cash Flow Statements, the Companies Act 2013 requires that the auditor of a holding company will have the right of access to the records of all its subsidiaries in so far as it relates to consolidation.
2. Auditor in general meeting (Section 146):
The Companies Act 1956 entitled but did not require an auditor to attend AGM. Under the Companies Act 2013, it is mandatory for the auditor or its authorized representative who is also qualified to be appointed as an auditor, to attend the AGM, unless exempted by the company.
As per section 101, notice of general meeting must be given before 21 days either in writing or through electronic mode to the auditor in such manner as may be prescribed. Every notice of a meeting shall specify the place, date, day and the hour of the meeting and shall contain a statement of the business to be transacted at such meeting
3. Right to remuneration (Section 142):
The remuneration of the auditor of a company shall be fixed in its general meeting or in such manner as may be determined therein. It must include the expenses, if any, incurred by the auditor in connection with the audit of the company and any facility extended to him but does not include any remuneration paid to him for any other service rendered by him at the request of the company.
Duties of Auditors
- Make report
The auditor shall make a report to the members of the company on the following:
- on accounts examined by him and
- on every financial statements which are required by or under this act to be laid before the company in general meeting and
- report financial statement give a true and fair view of the state of company’s affairs at the end of its financial year and profit or loss and cash flow for the year and such other matters.
The auditor report shall also state:
- Whether he has sought and obtained all the necessary information and
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(b) Whether proper books of account have been kept,
(c) Whether company’s balance sheet and profit and loss account are in
agreement with books of accounts and returns,
(d) Whether the report from branch auditor was sent to him and the manner he
dealt with it,
(e) Whether financial statements comply with accounting standards,
(f) The observations or comments on financial transactions or matters which
have any adverse effect .Also such observations/comments will be read in the
AGM and can be inspected by any member. Currently, the companies Act
require the observations or comments of the auditors with any adverse effect
on the functioning of the company to be given in bold/italics in the audit report.
(g) Whether any director is disqualified from being appointed as director under
section 164(2),
(h) Any qualification, reservation or adverse remark
(i) Whether company has effective internal financial control system and
operative effectiveness, and
(j) Such other matters
The reporting requirement of an auditor on ‘internal financial controls system’ is highly debated presently. On a literal interpretation, one may argue that the term has to be interpreted not only with reference to financial statements but also to include non-financial parameters, e.g., policies and procedures adopted by company for ensuring the orderly and efficient conduct of its business, including adherence to company’s policies. However, it may be noted that as per the Companies (Accounts) Rules, 2014, the directors’ report of unlisted companies has to include details in respect of adequacy of internal financial controls only with reference to the financial statements. This may lead to auditor’s reporting responsibility extending beyond the directors’ responsibility, which may not be correct. MCA/ ICAI should issue appropriate clarification to resolve this issue on a priority basis.
‘Other prescribed matters’ have been given under the Rules, which are as follows:
Draft Rules |
Final Rules |
Remarks |
Whether the company has disclosed the effect, if any, of pending litigations on its financial position in its financial statement |
Whether the company has disclosed the impact, if any, of pending litigations on its financial position in its financial statement* |
There is no change in the final Rules vis-à-vis the draft Rules in relation to this requirement. |
Whether the company has made provision for foreseeable losses, if any, on long term contracts including derivative contracts |
Whether the company has made provision, as required under any law or accounting standards, for material foreseeable losses, if any, on long term contracts including derivative contracts |
The final Rules have clarified that a provision should be recognized by the company if required under any law or Accounting Standards. Also, the reporting requirement has been rationalized to include only ‘material’ foreseeable losses as compared to ‘all’ foreseeable losses under the draft Rules. |
Whether there has been delay in depositing money into the Investor Education and Protection Fund by the company |
Whether there has been any delay in transferring amounts, required to be transferred, to the Investor Education and Protection Fund by the company |
It seems that there is no major change in the final Rules vis-à-vis the draft Rules. MCA has clarified that auditor has to opine upon delay in transferring any amount to IEPF. |
* The final Rules also do not clarify whether the company has to disclose the impact of pending litigations on its financial position in its financial statement even if not required by Accounting Standards, viz. AS 29 on ‘Provisions, Contingent Liabilities and Contingent Assets’. This may lead to interpretation issues, on which MCA/ ICAI should issue appropriate clarification. |
It seems that a requirement similar to CARO, 2003 has been kept under the new Act (Form no. AOC-4 ‘Form for filing financial statement and other documents with the registrar’ makes a reference to CARO, 2003). In addition, the provisions relating to ‘powers and duties of auditors’ have also been made applicable, mutatis mutandis, to cost accountants (conducting cost audits) and company secretaries (conducting secretarial audits).
ü Auditing Standards :
Every auditor shall comply with the auditing standards. The Central Government shall notify these standards in consultation with National Financial reporting Authority. The government may also notify that auditors’ report shall include a statement on such matters as notified.
Fraud
- Fraud committed by officer(s)/ employee(s) of the company (Section 143(12)) :
If an auditor, in the course of performance of his duties, has reason to believe that an offence involving fraud is being or has been committed against the company by its officers or employees, it should immediately report the matter to the Central Government.
Manner of reporting the matter to Central Government
The way the final Rules have been drafted, it seems that all the frauds have to be reported to the Central Government (i.e., even if they are not material and for which satisfactory action has been taken by the audit committee or the board). MCA/ ICAI should issue suitable clarification to avoid the hardships that may arise in this regard.
To provide adequate safeguards to auditors in such cases, the Companies Act, 2013 provides that no duty of the auditor will be regarded as having been contravened if the reporting is done in good faith. It may also be noted that provisions relating to fraud reporting is also applicable to branch auditors (to the extent it relates to the concerned branch), cost auditors and secretarial auditors.
- Branch Audit :
Where a company has a branch office, the accounts of that office shall be audited either by the auditor appointed for the company, or by any other person qualified for appointment as an auditor of the company. The branch auditor shall prepare a report on the accounts of the branch examined by him and send it to the auditor of the company who shall deal with it in his report in such manner as he considers necessary.
- Winding up :
As per section 305, at the time of voluntary winding up of a company it is a mandatory requirement that auditor should attach the copy of the audits of the company prepared by him.
Prohibited services (Section 144):
An auditor is prohibited to render certain services (whether directly or indirectly) to the company/ its holding company/ its subsidiary company. It seems that the services are prohibited to avoid any kind of self-review threat and independence threat. Following is the list of prohibited services:
- accounting and book keeping services
- internal audit
- design and implementation of any financial information system
- actuarial services
- investment advisory services
- investment banking services
- rendering of outsourced financial services
- management services
- any other kind of prescribed services (at present, no additional services has been prescribed)
If the auditor has been providing any non-audit services as on 1 April 2014, it has to ensure compliance before the closure of the first financial year after 1 April 2014, e.g., before 31 March 2015 for companies whose financial year ends on 31 March every year.
Interpretation of the term ‘directly or indirectly’
In case of an individual auditor |
In case of an audit firm |
- himself
- through his relative
- through other person connected or associated with the individual
- through other entity in which the individual has significant influence or control, or whose name/ trade mark/ brand is used by the individual
|
- either itself
- through any of its partners
- through its parent, subsidiary or associate entity
- through other entity in which the firm or any partner of the firm has significant influence or control, or whose name/ trade mark/ brand is used by the firm or any of its partners
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As per the Code of Ethics issued by ICAI for its members, the auditor should not render any services which may create ‘conflict of interests’, ‘independence threat’, ‘self-review threat’, etc. Following is an illustrative list of services (under the Code) which has been discouraged by ICAI for an auditor to render:
- Preparing accounting records and financial statements (not permitted)
- Valuation services
- Provision of internal audit services (not permitted)
- Provision of IT systems services
- Temporary staff assignments
- Provision of litigation support services
- Provision of legal services
- Corporate finance and similar activities
Under the new Act, even the permitted services (i.e., services not covered under the ‘prohibited’ services) require an approval of the board of directors or the audit committee, as the case may be.
AUDITOR’s LIABILITY TO THIRD PARTIES IN RELATION TO ISSUE OF PROSPECTUS:
Under section 35 of THE COMPANIES ACT 2013,
(1)Where the person has subscribed for securities of a company acting on any statement included, or the inclusion or omission of any matter, in the prospectus is misleading and he has sustained any loss or damage as a consequence thereof, the company and every person who-
- Is a director the company at the time of issue of the prospectus
- Has authorized himself to be named and is named in the prospectus as a director of the company or as agreed to become as a director either immediately or after an interval of time;
- Is a promoter of a company;
- Is an expert referred in sub section 5 of the section 26, shall without prejudice to any punishment to which any person may be liable under the section 36, be liable to pay the compensation to every person who has sustained such loss or damage.
(2) No person shall be liable under sub section (1), if he proves
- That having consented to become a director of the company, he withdrew his consent before the issue of prospectus, and that it was issued without his authority or consent.
- That the prospectus was issued without his consent and that on becoming aware of this issue he forthwith gave a reasonable public notice that it was issued without his knowledge or consent.
(3) Now withstanding anything contained in this section, where it is proved that prospectus has been issued with intent to defraud the applicants for the securities of a company or any other fraudulent purposes, every person referred to in the subsection (1) shall be personally responsible, without any limitation or liability, for all or any of the losses.
AUDITOR’s LIABILITY IN CASE OF UNLAWFUL ACTS OR DEFAULT BY CLIENTS:
The auditor’s basic responsibility is to report that whether in his opinion the accounts show a true and fair view and in discharging his responsibility he has to see as how the particular situations affect his position.
The general thinking with regards to unlawful acts or default by the clients appears to be that the auditor should not “aid or abet” but he is not under any legal obligation to disclose the offence.
The ICAI has considered the role of a chartered accountant in relation to taxation frauds by the assessee and has made the following major recommendations:
- A professional accountant should keep in mind the provisions of section 126 of the EVIDENCE ACT whereby a barrister, an attorney or vakil is barred from disclosing any information made to him the course of and for the purpose of his employment.
- If the fraud relates to the past years when the CA did not represent the client, the client should be advised to make a disclosure. The accountant should also be careful that the past disclosure should not affect the current tax matters.
- In case of fraud relating to the accounts examined by the accountant himself, he should advise the client to make a complete disclosure. In case, client refuses tom do so, the accountant should inform him that he is entitled to dissociate himself from the case and he would make a report to the authorities that the accounts prepared and examined by him are unreliable on account of certain information obtained later.
- In case of suppression in current accounts the clients should be asked to make a full disclosure. If he refuses to do so, the accountant should make a complete reservation in his report and should not associate himself with the return.
- The question of liability of an auditor for unlawful acts or frauds by the clients should be the considered in the light of broad parameters given above. However, it appears that if an auditor was aware of any unlawful act have been committed by the client in respects of accounts audited by him and the unlawfulness was not rectified by proper disclosure, the auditor owes a duty to make the suitable report.if he does not, he may be held liable.
Srishti Suri
CA Final
srishcolboss@yahoo.co.in
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