Propriety or prudence is a term generally associated with expenditure from public money and audit of government departments and government companies. In the context of Companies, though provisions relating to propriety was absent in the Companies Act, 1956, Sections 227 (1A) and 227 (4A) inserted by the Companies Amendment Act, 1956 required the auditors to inquire into and report upon certain specific questions relating to propriety.
Section 227 (1A) is given below
“Without prejudice to the provisions of sub-section (1), the auditor shall inquire –
(a) whether loans and advances made by the company on the basis of security have been properly secured and whether the terms on which they have been made are not prejudicial to the interests of the company or its members ;
(b) whether transactions of the company which are represented merely by book entries are not prejudicial to the interests of the company ;
(c) where the company is not an investment company within the meaning of section 372 or a banking company, whether so much of the assets of the company as consist of shares, debentures and other securities have been sold at a price less than that at which they were purchased by the company ;
(d) whether loans and advances made by the company have been shown as deposits ;
(e) whether personal expenses have been charged to revenue account ;
(f) where it is stated in the books and papers of the company that any shares have been allotted for cash, whether cash has actually been received in respect of such allotment, and if no cash has actually been so received, whether the position as stated in the account books and the balance sheet is correct, regular and not misleading.”
Section 227 of the 1956 Act has been replaced by Section 143 of the 2013 Act and all the clauses in the Section 227 (1A) are given under 143 (1).
Section 227 4(A) empowered the Central Government to issue orders directing to include a statement on such matters as may be specified therein. In exercise of powers conferred under Section 227 4(A) the Central Government had issued an order named as CARO 2003. CARO 2003 required auditors to state the position relating to 21 specific areas which involved elements of propriety.
The section corresponding to 227 (4A) of 1956 Act, in the 2013 Act is Section 143 (11), which is as follows
The Central Government may, in consultation with the National Financial Reporting Authority, by general or special order, direct, in respect of such class or description of companies, as may be specified in the order, that the auditor’s report shall also include a statement on such matters as may be specified therein.
The National Financial Reporting Authority is to be constituted by the Central Government under Section 132 of the 2013 Act. However the NFRA has not so far been constituted by the GOI and no orders in lieu of CARO has been issued. As a result in my opinion the auditors are as such not required to report upon such matters covered under CARO.
The clauses under CARO covered various aspects on propriety including one about the internal audit function. It is true that 2013 Act has made Internal Audit mandatory under Section 138, but it is applicable only to companies with higher capital/ turnover/ debt as per Rule 13 of the Companies (Accounts) Rules, 2014.
As per Rule 13 the following classes of companies only required to appoint Internal Auditor.
(a) every listed company;
(b) every unlisted public company having-
(i) paid up share capital of fifty crore rupees or more during the preceding financial year; or
(ii) turnover of two hundred crore rupees or more during the preceding financial year; or
(iii) outstanding loans or borrowings from banks or public financial institutions exceeding one hundred crore rupees or more at any point of time during the preceding financial year; or
(iv) outstanding deposits of twenty five crore rupees or more at any point of time during the preceding financial year; and
(c) every private company having-
(i) turnover of two hundred crore rupees or more during the preceding financial year; or
(ii) outstanding loans or borrowings from banks or public financial institutions exceeding one hundred crore rupees or more at any point of time during the preceding financial year:
Hence this is not applicable to relatively smaller companies.
It is also true that as per Sec 143(3) (i) of the 2013 Act, an auditor has also to state whether the company has adequate internal financial controls system in place and the operating effectiveness of such controls.
Internal Financial Controls have been defined in the context of ‘directors responsibility statement under Sec 134(5)(e) (as applicable to listed companies) as the “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”
It appears that the additional responsibilities in the 2013, Act relating to financial controls is no substitute for the requirement to comment on areas of propriety covered under CARO.
Now Vide S.O. 2425 (E) dated 18.9.2014, National Advisory Committee on Accounting Standards, has been constituted by the Central Government in exercise of powers conferred under Sec 210 A (1) of the Companies Act 1956. (Section 210 A is still operative !)
It seems that the absence of CARO has left a void in the reporting responsibilities of the Auditors of companies. Let us hope that the newly constituted NACAS under the chairmanship of CA. Amarjith chopra, will perceive this void and consider initiating the issuance of a new order to replace the CARO, 2003.
It is well within the powers of NACAS as revealed by a reading of Sec 210 A(3) as given below,
“The Advisory Committee shall give its recommendations to the Central Government on such matters of accounting policies and standards and auditing as may be referred to it for advice from time to time.”
include matters relating to auditing also.