Amendment of Consolidation Rules: Creates year end dilemma

CS Jyoti Srivastva

In the midst of the buzz within companies for finalization of accounts, the Ministry of Corporate Affairs (‘MCA’) decided to be a little playful and introduced the Companies (Accounting Standards) Amendment Rules, 2016 (‘Amendment Rules’) vide its notification no. G.S.R. 364(E) dated 30.03.2016. This Rules brings amendment to the Companies (Accounting Standards) Rules, 2006 (‘Principle Rules’), which was initially notified by MCA vide its notification no. G.S.R. 739(E) dated 07.12.2006. The Amendment Rules has made several changes in the Principle Rules with respect to as much as 7 accounting standards. The Amendment Rules has substituted the text of the following Accounting Standards (‘AS’):

1. AS 2- Valuation of Inventories
2. AS 4- Contingencies and Events Occurring After the Balance Sheet Date
3. AS 10- Accounting for Fixed Assets
4. AS 13- Accounting for Investments
5. AS 14- Accounting for Amalgamations
6. AS 21- Consolidated Financial Statements
7. AS 29- Provisions, Contingent Liabilities and Contingent Assets

With the last minute introduction of the Amendment Rules, the companies may be left high and dry in as much as companies may be slithering away trying to comply with the changes. However the question remains as to for which financial year the changes are applicable to. This will have impact on the financial statements as the companies are also required to consolidate their accounts. Changes have also been made to AS- 21 which deals with consolidation of accounts. This article is an attempt to analysis the changes and its impact on the corporate sectors with respect to consolidation of financial statements.

Consolidation requirement under Companies Act, 2013 (‘Act, 2013’)

Section 129 (3) read with Rule 6 of the Companies (Accounts) Rules, 2014 (Rules) provides manner of consolidation of financial statements of subsidiaries pursuant to Schedule III of the Act, 2013 and the applicable Accounting Standards. Also explanation to Section 129 (3) clearly states that for the purposes of this sub-section, the word “subsidiary” shall include associate company and joint venture but that is not envisaged by the Accounting Standard.

Therefore, as per Section 129 of the Act, 2013 read with rules thereof, consolidation of financial statement is required in case a company is having subsidiary or associate or joint-venture company. This created a dilemma for companies who did not have any subsidiary (ies) but either an associate or a JV as because such companies were also governed by the said section and accordingly were required to consolidate their financial statements merely by having either an associate or a JV. However, section 129 in turn provided that a company will have to consolidate its accounts as per the Accounting Standards.

In this regard, MCA had come with notification no. G.S.R 723 (E) dated October 14, 2014 and introduced the Companies (Accounts) Amendment Rules, 2014. As per the rule the consolidation requirement was exempted for a company not having subsidiaries but having associates or joint ventures (‘JVs’). However, the said exemption was only for the financial year 2014-15. Accordingly, such companies come within the purview of consolidation from FY 15-16 onwards.

Consolidation of Subsidiary/Associate/JVs under AS-21

Consolidated Financial Statement (CFS) is required to be prepared only for a ‘group’ of enterprises under the control of a parent. As per the scope of AS-23 and AS-27 the application of equity method/proportionate method for consolidation of accounts of associate/ joint ventures respectively is required only when a company prepares

The term ‘group’ has been defined in AS 21 as follows:

‘A group is a parent and all its subsidiaries.’[Emphasis supplied]

Looking at the definition of ‘group’ in AS-21, it is clear that CFS according to AS-21 is required to be prepared only when the company has subsidiary or subsidiaries. The anomaly however was with respect to the language under section 129 (3) which provided that subsidiaries for the purpose will include associate and JVs as well. However, the interpretation could have been that the requirements relating to accounting for associate/joint ventures in the books of investor/JV partner as per AS-23 and AS-27 respectively are not applicable where the company has no subsidiary[1]. The rationale for the same was that the section referred to consolidation as per the accounting standards wherein the accounting standards provided consolidation only in case where a company has a group. Consolidation of financial statements where there is no group was surely illogical and meaning less as the same would only lead to misleading results. Therefore, this was a saving grace for the companies. Obviously the said interpretation was open to debate in absence of any clear clarification from the MCA.

The Amendment in AS-21

By virtue of the Amendment Rules, the scope of consolidated financial statements has been now rendered meaningless. That is to say, the saving grace under section 129 was only with respect to the provisions of the Accounting Standards. The law maker has now in order to remove one fallacy created another whereby the Accounting Standards have now been amended to make bad the good within it.

Pursuant to para 9 of the revised AS-21:

“a parent which presents consolidated financial statements should consolidate all subsidiaries, domestic as well as foreign, other than those referred to in paragraph 11. Where an enterprise does not have a subsidiary but has an associate and/or a joint venture such an enterprise should also prepare consolidated financial statements in accordance with Accounting Standard (AS) 23, Accounting for Associates in Consolidated Financial Statements, and Accounting Standard (AS) 27, Financial Reporting of Interests in Joint Ventures respectively.”

[Emphasis supplied]

Accordingly, consolidation will be now be required for associates and JVs companies even in case the company has no subsidiary or subsidiaries. The change is totally on a different node from the Principle Rules.

Impact of the amendment in AS 21

There will be no impact of para 9 of AS-21 on the companies which are having subsidiary or subsidiaries. Such companies were anyway covered under the provisions of section 129 of the Act and were required to consolidate the accounts of subsidiaries, associates or JVs as per the relevant accounting standards. Such companies will still continue with consolidation of financial statement of subsidiaries, associate or JV companies.

The major impact will be on the companies which do not have any subsidiary but have associates or JVs. Now, such companies will also be required to consolidate the accounts of associates and JVs companies. The issue as discussed above was open to interpretation until this amendment, which though is now clear but is fruitless and infact meaningless altogether. It will be pointless for such companies to adopt consolidation as the same cannot be done in case of associates and JVs. This would mean that misleading figures get reflected in the standalone accounts of the Company. Consolidation would always mean line by line inclusion of a separate set of financials in the financials of the holding company. Where the company is not a holding/parent company there cannot be a question of line by line consolidation. That is to say, in case of a venturer and an investor it will be reckless to do so-called consolidation as that will render the whole purpose of consolidation itself meaningless. Infact the meaning of consolidated financial statements as per the said AS 21 is “Consolidated financial statements are the financial statements of a group presented as those of a single enterprise. “

Therefore, the whole purpose of consolidation gets frustrated with such an amendment. There was already a fallacy in the Companies Act, 2013, but where the companies had saving grace by way of the provisions of the Accounting Standards, has now been turned into omen.

Applicability- Whether FY 2015-16 or 2016-17?

While the Amendment Rules have been notified by MCA on 30th March, 2016 to say that the same will be coming into effect from the date of its publication in the Official Gazette, one may say that the same will become applicable for the financial year 2015-16. The rational behind such view is that section 129 deals with the consolidation of financial statements and the meaning of ‘financial statements’ as provided under section 2 (40) of the Act, 2013 states that the financial statements are as at the end of financial year, i.e. 31^st March. It is obvious that the annual financials can be prepared only towards the end of the financial year. Therefore, the requirement of consolidation of financial statement arises at the end of financial year. Since the Amendment Rules has been notified before the end of the financial year, a view may be taken that the same may become applicable for the financial year 2015-16.

Hence, the Amendment Rules if becomes applicable will vary the present consolidation requirement and this will also lead to change in Accounting Policy of the Company. Accordingly, while adopting the provisions of Amendment Rules, one should also consider AS-1 which deals with the disclosure of significant accounting policies followed in preparing and presenting financial statements. As per para 26 of AS-1 “any change in the accounting policies which has a material effect in the current period or which is reasonably expected to have a material effect in later periods should be disclosed. In the case of a change in accounting policies which has a material effect in the current period, the amount by which any item in the financial statements is affected by such change should also be disclosed to the extent ascertainable. Where such amount is not ascertainable, wholly or in part, the fact should be indicated.”

Therefore, the Companies which are having only associates or JVs will need to consolidate the accounts of associates or JVs and make relevant disclosure as per AS-1 as the same is a change in the accounting policy.

However, another view may also be taken that since the amendment has come near the end of the financial year, the said amendment will be applicable only for FY beginning April 01, 2016. Companies are already in process of preparing their financial statements based on the existing Standards and accordingly, abiding by the provisions of the Amendment Rules would be totally impractical for the companies. Hence, a possible interpretation may also be that the Amendment Rules will become applicable only for financial statement being prepared for the financial year 2016-17 and onwards.

Conclusion

The Amendment Rules have come with an open ambiguity w.r.t to its applicability and is creating a hustle bustle amongst the corporates as well as the auditors. MCA is expected to come with a clarification on the same so as to provide clarity on its applicability. Further, even if the said change is applicable for FY 16-17, the question may be that whether the companies should be preparing their financial statements pursuant to the changes in order to have the respective comparative figures?

[1] An article on the Companies (Accounts) Amendment Rules, 2014 can be seen at: http://www.india-financing.com/images/Articles/Companies_Accounts_Amendment_Rules_2014.pdf