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This article discusses the provisions related to uniform financial year and consolidated financial statements in the Companies Act 2013, including the requirements, exceptions, and changes introduced by the Companies (Accounting Standards) Amendment Rules 2016.
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Uniform financial year • Section 2(41) requires a Company or Body Corporate to adopt a uniform accounting year ending March 31. • Entities other than Company or Body Corporate may still continue a year other than March 31. • This applies to Standalone as well as Consolidated Financial Statements. • If a Company is freshly incorporated after Jan 1 of a year, the financial year would be period ended on March 31 of the following year. • Companies which are currently following a different financial year need to align with the new requirement within two years • A proviso to the definition states that a company may apply to the NCLT for adoption of different financial year, if it satisfies the following two criteria: • Company is a holding or subsidiary of a company incorporated outside India, and • Company is required to follow a different financial year for consolidation of its financial statement outside India.
Consolidated Financial Statements • Section 129(3) of the 2013 Act requires that a company having one or more subsidiaries will, in addition to separate financial statements, prepare CFS. Hence, the 2013 Act requires all companies, including non-listed and private companies, having subsidiaries to prepare CFS. • Proviso to Rule 6 of Companies (Accounts) Rules 2014 states that in case of a company covered under sub-section (3) of section 129 which is not required to prepare consolidated financial statements under the Accounting Standards, it shall be sufficient if the company complies with provisions on consolidated financial statements provided in Schedule III of the Act? • Looking at the 2 para’s above can a company having a subsidiary take a view that it will not prepare CFS?. • Change made by the Companies (Accounting Standards) Amendment Rules, 2016 • An enterprise, which does not have a subsidiary but has an associate and/or a joint venture, then such enterprise should also prepare consolidated financial statements in accordance with AS 23 and AS 27, respectively.
Depreciation • The useful life of an asset shall not ordinarily be different from the useful life specified in Part ‘C’ and the residual value of an asset shall not be more than five per cent of the original cost of the asset. • Provided that where a Co adopts a useful life different from what is specified in Part C, the financial statements shall disclose such difference and provide justification in this behalf supported by technical advice. • So logically no minimum rates of depreciation prevail under new Companies Act 2013 compared to earlier Companies Act 1956. • Unitary method of depreciation permitted. • Componentization of assets is mandatory. What is a component? (Introduced as part of AS 10R) • No separate shift rates. Double shift=1.5 times single shift, Triple shift=2 times of single shift. • Transitional provisions- Can they be applied to componentization on April 1, 2015, when the Company has already applied normal transitional provisions on April 1, 2014.
Depreciation • Some changes made by the Companies (Accounting Standards) Amendment Rules, 2016; • Items such as spare parts, stand-by equipment and servicing equipment are recognised in accordance with this Standard when they meet the definition of property, plant and equipment. Otherwise, such items are classified as inventory. • Unit of measure approach recognised. • Cost of an asset is the cash price. So if there is a deferred payment, difference between cash price and total payment is charged as interest to the statement of profit and loss, unless such interest is capitalisable as borrowing cost. • Asset retirement and restoration obligations to be provided upfront as part of the cost of the asset. • Annual review of useful life, depreciation method and residual values required. • Change in method of depreciation to be applied prospectively and not retrospectively as required earlier.
Dividend • Substantially the dividend provisions are the same i.e. dividend to be paid out of profits after providing for depreciation. • Freedom given to a company to decide the amount to be transferred to reserves. • Interim dividend: Restriction of rate of dividend in case of loss during current FY. Rate cannot exceed a rate higher than the average dividends declared by the Company during the immediately preceding three financial years. • Dividend cannot be declared in case of default in compliance with sections 73 and 74 relating to acceptance of deposits
Utilization of securities premium Overview and key changes • Utilization of securities premium restricted for prescribed class of companies which comply with prescribed AS. Given below is comparative analysis:
Applicability of the Companies (Accounting Standards) Amendment Rules 2016 • These standards are applicable from the date of notification in the Official Gazette. The date of notification is March 30, 2016. • Can any other view be taken?
Internal Financial Controls • Section 134(5)(e) of the 2013 Act requires that in case of listed companies, Directors’ Responsibility Statement should, among other matters, state that directors had laid down internal financial controls and such controls are adequate and were operating effectively. • For the purposes of this clause, the term ‘internal financial controls’ means • policies and procedures adopted by the company for ensuring the orderly and efficient conduct of its business, including adherence to company’s policies, • the safeguarding of its assets, • the prevention and detection of frauds and errors, • the accuracy and completeness of the accounting records, and • the timely preparation of reliable financial information • Rule 8(5)(viii) of the Companies (Accounts) Rules, 2014 requires the Board of Directors’ report of all companies to state the details in respect of adequacy of internal financial controls with reference to the financial statements. • Section 143(3) of the 2013 Act states that the auditor’s report, among other matters, will state “whether the company has adequate internal financial controls system in place and the operating effectiveness of such controls.” This requirement is applicable to all companies, including non-listed public and private companies.
Internal Financial Controls • How is this different from CARO? • How does it change the work which an auditor used to do earlier. Does it mean that an auditor never checked internal controls earlier? • This is not a post mortem exercise like audit of financial statement. • How different will the audit report in the current year be from last year (2015)
CARO 2016 related provisions • TheMCA has issued the revised Companies (Auditors Report) Order 2016 in supersession of the Companies (Auditor's Report) Order, 2015. This order applies for the financial years commencing on or after 1 April, 2015. • What are the key changes?
Appointment and tenure of auditors • 5 years tenure introduced instead of current system of annual appointment at every AGM • Audit Committee recommendations to be considered for all auditor appointments • AC to consider any order/ proceeding relating to professional conduct pending against proposed auditor before ICAI/ any Court/ any authority • Show-cause notice by ICAI/RoC should not be taken as pending proceeding • Board to document reasons for not accepting Audit Committee recommendation • Section 177(8) requires such disclosures in Board report • Ratification of appointment by members required at every AGM • Ratification shall be carried out by way of ordinary resolution • In case of non-ratification, Board shall appoint another auditor • Removal of an auditor can be done only by way of a special resolution and after obtaining previous approval of the Central Government.
Rotation of auditors • The following class of companies cannot appoint or re-appoint an audit firm as auditor for more than 2 terms of 5 consecutive years • (1 term of 5 consecutive years in case of an individual auditor) • all listed companies • all unlisted public companies having paid up share capital of Rs.10 crore or more • all private limited companies having paid up share capital of Rs.20 crore or more • all companies having paid up share capital below aforesaid threshold limits, but having public borrowings from financial institutions, banks or public deposits of Rs.50 crores or more • After completion of the above term :Cooling-off period of 5 years • What constitutes “paid-up share capital”? • Equity Share Capital, Preference Share Capital – whether convertible or not • Securities Premium is not included • Whether a private company which is deemed to be a public company will be governed by the criteria applicable to a private company or public company for auditor rotation? • Section 2(71) proviso states that “a company which is a subsidiary of a company, not being a private company, shall be deemed to be public company for the purposes of this Act” • Hence criteria applicable to public company will apply
Rotation of auditors • Rotation to apply retrospectively - Period for which a firm held office as auditor prior to commencement of the Act would be counted for calculating 10 consecutive years • Transitional provision - Every company covered by these requirements will need to comply with these requirements within 3 years from the date of commencement of new law i.e. April 1, 2014 • “Consecutive Years” has been defined to mean all the preceding financial years for which the firm has been the auditor until there has been a break by 5 years or more • Restriction to apply to the audit firm which has common partner(s) with the outgoing audit firm at the time of appointment • Incoming audit firm shall not be eligible if such firm is associated with the outgoing audit firm under the “same network” of audit firms • “Same Network” has been defined to include firms operating hitherto or in future, under the same brand name, trade name or common control • Tribunal may direct change of auditors, if it believes that: • Auditor has acted in a fraudulent manner, directly or indirectly, or • Abetted or colluded in any fraud by or in relation to the company, or its directors or officers • Tribunal may pass the order suo-moto, or on application of Central Government or any person concerned.
Independence norms and related issues • A person is not eligible for appointment as auditor if the person or his relative or partner: • Holds any security or interest in the company, its subsidiary, holding, associate or fellow subsidiary • Relative may hold security/interest of face value not exceeding Rs 1 lac • If threshold is exceeded, corrective action will have to be taken by the auditor within 60 days • Is indebted to the company or its subsidiary, holding, associate or fellow subsidiary in excess of Rs. 5 lacs • Has given guarantee or provided any security in connection with the indebtedness of any third person to the company or its subsidiary, holding, associate or fellow subsidiary in excess of Rs. 1 lac • Potential issues: • It is not clear if the above limits apply individually to each covered person or collectively to all • It is also not clear if the limits apply separately for the company, its affiliate companies or collectively to all.
Independence norms and related issues • “Relative” is defined to include: • Members of HUF • Spouse • Father (including step-father) • Mother (including step-mother) • Son (including step-son) • Son's wife • Daughter • Daughter's husband • Brother (including step-brother) • Sister (including step-sister) • Potential issues: • Financially independent relatives not excluded • Auditor may be disqualified due to investments made inadvertently by such relatives • Intentional investment by estranged relative may disqualify the auditor • Difficult to administer and manage such information
Independence norms and related issues • Persons not eligible for appointment as auditor also include : • Person or firm having business relationship with the company, its subsidiary, holding, associate, fellow subsidiary or subsidiary of associate company whether directly or indirectly • Business relationship has been defined as any transaction entered into for a commercial purpose except: • Professional services permitted to be rendered under the new Companies Act and the Chartered Accountants Act • commercial transactions which are in the ordinary course of business of the companyat arm’s length price - like sale of products or services to the auditor,as customer, in the ordinary course of business, by companies engaged in the business of telecommunications, airlines, hospitals, hotels and such other similar businesses
Independence issues – Auditor not to render certain services • Auditor cannot render following services to the auditee company, either directly or indirectly: • Accounting and Book Keeping services • Internal Audit • Investment Banking Services • Design & Implementation of Financial Information System • Outsourced Financial Services • Actuarial Services • Investment Advisory Services • Management Services • Any other prescribed services • Restrictions also apply to auditee’s holding and subsidiary companies, whether located within or outside India • Permissible services must be pre-approved by Board/Audit Committee
Other restrictions • Persons not eligible for appointment as auditor also include : • Person or partner of a firm holding appointment as auditor of more than 20 companies at the date of appointment or re-appointment • Potential issues • Restriction applies to private companies as well (may not apply to private companies with less than 100 crores paid-up share capital and small companies etc.) • Erstwhile Act restricted number of audits to 20 public companies i.e. excluding private companies • ICAI restricted the total number of audits to 30 companies (including private companies) • Auditors/Audit firms having more than 20 audits per partner will be automatically disqualified, resulting in casual vacancy • Will force all companies to search for replacement of such auditors immediately causing significant hardship to both auditor and auditee
Additional reporting responsibilities • Fraud Reporting • As per the notification dated 14th December, 2015 if during the course of audit, auditor has any reason to believe that fraud which involves or is expected to involve individually an amount of rupees one crore or above is being or has been committed against the company • Auditor to first report to Board/Audit Committee and obtain their reply/observations within 45 days • Auditor to report to Central Government within 15 days thereafter with his comments thereon • Penal consequences of upto Rs. 25 lacs on failure to report • Guidance noted is issued by ICAI in this regards • In case of a fraud involving lesser the amount specified above, the auditor shall report the matter to Audit Committee or to the Board immediately but not later than two days of his knowledge of the fraud and he shall report the matter specifying the following:- (a) Nature of Fraud with description; (b) Approximate amount involved; and (c) Parties involved.
