Audit and Auditors under the Companies Act, 2013

Introduction

1. With the most awaited and anticipated Companies Act, 2013 ("2013 Act") receiving the President's assent on 29th August, 2013, India is about to witness a new legislation for its companies after a long time! The Companies Act, 2013 will replace the Companies Act, 1956 soon.

The Companies Act, 2013 provides for various changes to the functioning of a companies' operation and brings in a new era of corporate governance and corporate social responsibility for the companies.

Though the Companies Act, 2013 differs from its earlier counterpart on various concepts, one of the most important and debated but a welcome change that has been brought about is Chapter X (sections 139 to 148) of the Companies Act, 2013 and relates to audit accountability.

Salient features of Chapter X of the Companies Act, 2013

2. These features are as follows:—

(a)		Every auditor shall comply with the auditing standards as prescribed by the Central Government in consultation with the Institute of Chartered Accountants of India and the recommendations of the National Financial Reporting Authority.
(b)		Eligibility :
(i)		A person shall be eligible for appointment as an auditor of a company only if he is a Chartered Accountant and in case of an accounting firm the majority of partners practising in India should be Chartered Accountants. Only the partners of a firm who are Chartered Accountants shall be authorised to act and sign on behalf of the firm.
(ii)		The 2013 Act provides list of the persons who are ineligible to be appointed as auditors. Such persons/institutions are as under:
-		a body corporate other than a limited liability partnership registered under the Limited Liability Partnership Act, 2008;
-		a person who is a partner, or who is in the employment of an officer or employee of the company;
-		a person who, or his relative or partner, is holding any security of or interest in the company or its subsidiary, or of its holding or associate company or a subsidiary of such holding company of face value exceeding one thousand rupees or such sum as may be prescribed;
-		a person who, or his relative or partner is indebted to the company, or its subsidiary, or its holding or associate company or a subsidiary of such holding company, in excess of such amount as may be prescribed;
-		a person who, or his relative or partner has given a guarantee or provided any security in connection with the indebtedness of any third person to the company, or its subsidiary, or its holding or associate company or a subsidiary of such holding company, for such amount as may be prescribed;
-		a person or a firm who, whether directly or indirectly, has business relationship with the company, or its subsidiary, or its holding or associate company or subsidiary of such holding company or associate company of such nature as may be prescribed;
-		a person whose relative is a director or is in the employment of the company;
-		a director or key managerial personnel;
-		a person who is in full time employment elsewhere or a person or a partner of:
		a firm holding appointment as its auditor, if such persons or partner is at the date of such appointment or reappointment holding appointment as auditor of more than twenty companies;
		a person who has been convicted by a court of an offence involving fraud and a period of ten years has not elapsed from the date of such conviction;
		any person whose subsidiary or associate company or any other form of entity, is engaged as on the date of appointment in consulting and specialised services as provided in section 144.
(c)			Appointment :
-		A company shall appoint its auditor at the first annual general meeting. The auditor so appointed shall hold office till the conclusion of the sixth annual general meeting and thereafter, till the conclusion of every sixth meeting with yearly ratification by members of the company, i.e., an auditor shall be appointed for 5 years. This provision has been included to ensure continuity of the same auditor.
-		The first auditor of a company, other than a Government company, shall be appointed by the Board of Directors within thirty days from the date of registration of the company. In the case of failure of the Board to appoint such an auditor, it shall inform the members of the company, who shall within ninety days at an extraordinary general meeting appoint such auditor. Such auditor shall hold office till the conclusion of the first annual general meeting.
-		The company is required to intimate the Registrar of Companies within 15 days of auditor's appointment (1956 Act required the auditor to make such intimation).
-		The law is stringent in case of a listed company, as the stake of public at large is involved. No listed company or a company belonging to such class or classes of companies, as may be prescribed, shall appoint or re-appoint-
(i)		an individual as an auditor for more than one term of five consecutive years; and
(ii)		an audit firm as auditor for more than two terms of five consecutive years (provided that on the date of appointment no audit firm having a common partner/s to the other audit firm, whose tenure has expired in a company immediately preceding the financial year shall be appointed as an auditor of the same company for a period of five years.
(d)		Any casual vacancy will have to be filled up by the Board of Directors within thirty days, but if such casual vacancy is as a result of the resignation of an auditor, such appointment shall also be approved by the company at a general meeting convened within three months of the recommendation of the Board. Such auditor shall hold the office till the conclusion of the next annual general meeting.
(e)		The members of a company may resolve to provide that—
(i)		in the audit firm appointed by it, the auditing partner and his team shall be rotated at such intervals as may be resolved by members; or
(ii)		the audit shall be conducted by more than one auditor.
(f)			A retiring auditor may be re-appointed at an annual general meeting, if—
(i)		he is not disqualified for re-appointment;
(ii)		he has not given the company a notice in writing of his unwillingness to be re-appointed; and
(iii)		a special resolution has not been passed at that meeting appointing some other auditor or providing expressly that he shall not be re-appointed.
(g)		The remuneration of an auditor shall be fixed in general meeting. The remuneration of first auditor shall be fixed by board of directors.
(h)		Special notice shall be required for a resolution at an annual general meeting appointing as an auditor a person other than a retiring auditor, or providing expressly that a retiring auditor shall not be re-appointed, except where the retiring auditor has completed a consecutive tenure of five years or, ten years in case of any audit firm, as the case may be.
(i)		Where at any annual general meeting, no auditor is appointed or re-appointed, the existing auditor shall continue to be the auditor of the company.
(j)		Where a company is required to constitute an Audit Committee (i.e., every listed company and such other class or classes of companies, as may be prescribed), all appointments, including the filling of a casual vacancy of an auditor shall be made after taking into account the recommendations of such committee.
(k)		An auditor, subject to reasonable opportunity of being heard, may be removed from his office before the expiry of his term only by a special resolution of the company, after obtaining the approval of the Central Government in that behalf in the prescribed manner.
(l)		Every auditor of a company shall have a right of access at all times to the books of account and vouchers of the company (auditor of a company which is a holding company shall also have the right of access to the records of all its subsidiaries, insofar as it relates to the consolidation of its financial statements with that of its subsidiaries), 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 necessary for the performance of his duties as an auditor. The matters on which the auditor may inquire into are same as that provided in the Companies Act, 1956.
(m)		The auditor shall make a report to the members of the company on the 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.
(n)		The auditor's report shall, in addition to matters listed in the Companies Act, 1956, state—
-		any qualification, reservation or adverse remark relating to the maintenance of accounts and other matters connected therewith;
-		whether the company has adequate internal financial controls system in place and the operating effectiveness of such controls;
-		such other matters as may be prescribed.
(o)			An auditor is barred from providing the following 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; and
-			any other kind of service as may be prescribed.
(p)		All notices of, and other communications relating to, any general meeting shall be forwarded to the auditor of the company, and the auditor shall, unless otherwise exempted by the company, attend either by himself or through his authorised representative, who shall also be qualified to be an auditor, any general meeting and shall have right to be heard at such meeting on any part of the business which concerns him as the auditor.
(q)		If an auditor resigns from the company, he/it will file, within a period of 30 days from the date of resignation, a statement with the company and the Registrar, indicating reasons and other facts regarding resignation, the compliance of which shall attract fine which shall not be less than fifty thousand rupees but which may extend to five lakh rupees.
(r)		The 2013 Act empowers the Central Government to require specified class of companies to maintain cost accounts and get cost audit done.
(s)		If an auditor of a company, in the course of the performance of his duties as an auditor, has reason to believe that an offence involving fraud is being or has been committed against the company by officers or employees of the company, he shall immediately report the matter to the Central Government.
(t)		If convicted, the auditor shall, in addition to refund of remuneration received from the company, pay for damages to the company, statutory bodies or authorities or to any other persons for loss arising out of incorrect or misleading statements of particulars made in his audit report.
(u)		Qualifications, observations or comments on financial transactions or matters, which have any adverse effect on the functioning of the company mentioned in the auditor's report shall be read before the company in general meeting and shall be open to inspection by any member of the company.
(v)		The Tribunal may either suo motu or on an application made to it by the Central Government or by any person concerned, if it is satisfied that the auditor of a company has, whether directly or indirectly, acted in a fraudulent manner or abetted or colluded in any fraud by, or in relation to, the company or its directors or officers, by order, direct the company to change its auditors and an auditor against whom final order has been passed by the Tribunal shall not be eligible to be appointed as an auditor of any company for a period of five years from the date of passing of the order.

The Companies Act, 2013 vis-a-vis audit accountability and responsibility of auditors

3. The Companies Act, 2013 makes an attempt to reform the audit accountabi-lity and increase the liability and responsibility of auditors. Keeping in view the recent series of scams and misappropriation of funds of various companies, the Companies Act, 2013 has made several provisions to ensure independence of the auditors as well as stringent vigilance (including criminal liability) on the auditors, some of which are:—

(a)		increasing the list of disqualifications of auditors as compared to the 1956 Act,
(b)		mandatory rotation of auditors of listed companies after every 5 years (audit firms may serve for 2 continuous terms) (a 3 year breather has been provided to comply with this requirement!),
(c)		the Comptroller and Auditor-General of India has been made responsible to appoint an auditor for government companies (this requirement did not exist in the 1956 Act),
(d)		stringent provisions for removal of auditors and providing the auditors with an opportunity of being heard,
(e)		barring the auditors from providing non-audit services,
(f)		restricting the auditor from holding appointment as an auditor of more than 20 companies (public as well a private),
(g)		right to directly report to the Central Government if the auditor has reason to believe that the officers/employees of a company are involved in an offence involving fraud against a company,
(h)		liability to pay damages if it is proved that the audit report contains misleading statements and imprisonment for violation of certain obligations,
(i)		mandatory requirement on the board to fill in any casual vacancy of the auditor within 30 days,
(j)		if found guilty of abetting or colluding in any fraud, the auditor shall be removed and debarred from acting as an auditor for any company for 5 years thereon (monetary as well as penal punishment is prescribed),
(k)		constitution of the National Financial Reporting Authority to oversee the quality of service of auditors ensuring compliance with prescribed standards,
(l)		transaction by way of postal ballot is not permitted in respect of business in which the auditors have a right to be heard,
(m)		reporting under the audit report on whether the company has adequate internal financial controls system in place and the operating effectiveness of such controls.

Conclusion

4. Though independence of an audit is the need of the hour and has been dealt with in the Companies Act, 2013, yet it places the responsibility for appointment of auditors on the members of the company rather than on an Audit Committee that is independent of the company's members. The Audit Committee's role has been restricted only to make recommendation with respect to the appointment but the ultimate right to appoint rests with the members. The requirement of obtaining the consent of the Central Government for removal of an auditor may be a little harsh on smaller companies. Further, since the term 'fraud' has a wide connotation it would have been easier for the auditors to report certain specific frauds to the Central Government rather than any fraud. Further, the members of a company have been given the right to decide the tenure of the auditors and whether more than one auditor needs to be appointed ? This would be an advantage to the majority of shareholders and needs further consideration.

The Companies Act, 2013 has surely made an attempt at redefining the role of auditors and audit requirements with an aim to strengthen the corporate governance, though the liabilities of the auditors are stringent and onerous. We will have to wait for the Rules to be prescribed that will contain the procedural aspects.

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CA SANJAY DEWAN

B.COM (H),FCA

FCMA,LCS,MIMA