File No. NF-25012/2/2021-O/o Secy-NFRA
Government of lndia
National Financial Reporting Authority
7th Floor, Hindustan Times House,
KG Marg, New Delhi
No.NF-25012/1/2021
Dated 28.09.2021
To,
The Secretary,
Institute of Chartered Accountants of India,
ICAI Bhawan, lndraprastha Marg
New Delhi – 110 002
Subject: ICAI Recommendations on Accounting Standards to NFRA u/s 133 of the Companies Act, 2013
Respected Sir,
This is with reference to your communication dated 28.06.2021 and 26.08.2021 regarding submission of ICAI’s recommendation on revision of existing Accounting Standards to Companies that are not required to follow Indian Accounting Standards (Ind ASs).
2. As part of the above recommendations, the ICAI has sent its Approach Paper for revision of existing ASs and the proposed texts of 18 revised ASs out of a total of 32 revised ASs expected to be prescribed upon completion of this AS revision project. It has been noted from these documents that the ICAI had embarked on a project to revise the existing Accounting Standards (ASs) in the background of implementation of Indian Accounting Standards (Ind ASs) for certain class of Companies (called as Public Interest Entities). It has also been noted while discussing Ind AS recommendations during 2010 to 2014 some members of the Core Group set up by MCA for Ind AS Implementation were of the view that the recognition and measurements in accounting standards should be by and large the same for all Companies. Accordingly, ICAI had developed an Approach Paper during 2014-15 for formulating 2nd set of accounting standards for non-Ind AS companies and this Approach Paper was revised recently in 2020.
3. It can be noted that these Revised ASs will be applicable for Companies to whom the Ind ASs are not mandatory. As a result, these Revised ASs will be mandatory to large number of Micro, Small and Medium-size Companies (MSMCs) and will replace the existing ASs notified under Companies (Accounting Standards) Rules 2006 notified under erstwhile Companies Act, 1956 and which were recently re-notified as Companies (Accounting Standards) Rules 2021 under Companies Act, 2013. The Revised ASs are planned to be implemented in two phases starting from the accounting year 2023-24. As mentioned in the Revised Approach Paper 2020, the population of Companies to which these Revised ASs will be applicable is likely to be very large and more importantly, it will be a diverse set of companies ranging from tiny Companies with net worth of only a few lakhs to medium size Companies with Net Worth upto Rs.250 Crores.
4. While revision of the existing ASs in line with high quality Ind ASs substantially converged with globally accepted IFRS Standards is desirable, it is important to note the need for undertaking robust and comprehensive Regulatory Impact Assessment (RIA) in view of the following reasons and contemporary global best practices.
4.1 RIA is a systematic approach to critically assess the positive and negative effects of proposed and existing regulations and non-regulatory alternatives. RIA is defined as a “Systematic process of identification and quantification of benefits and costs likely to flow from regulatory and non-regulatory options for a policy under consideration” (OECD, 2018, p. 250[2])[1]. RIA has been institutionalised in many jurisdictions across the world and there are examples of tangible benefits of undertaking RIA in jurisdictions such as Australia, South Korea, Vietnam, European Union and US. It would also be useful to note the important principles of the Regulator’s Code developed by the Department for Business, Innovation and Skills, United Kingdom (UK) which regulates the companies incorporated in UK. (Refer Annexure I for details).
4.2 In India, there have been many Expert !Committees (Refer Annexure II for excerpts of recommendations of the some of these expert committees) that have also recognised the benefits of RIA and recommended its adoption. It is pertinent to note here the following excerpts from the report of committee set up by MCA on the past.
“Committee for Reforming the Regulatory Environment for Doing Business in India (2013, Set up by Ministry of Corporate Affairs)
4.17 The seemingly mindless explosion of regulations, impacting seriously on management time and cost has created a negative perception of the regulatory environment in which business is conducted. Most developed countries have put in place a formal system of regulatory impact assessment (RIA) in order to determine whether the effort involved and the costs required to be incurred are commensurate with the results sought to be achieved. The regulated universe is continuously changing in regard to participants, products/ instruments and processes, with the attendant attributes of size and the complexity that they engender. This challenge is being addressed more often than not by increased frequency of regulations often resulting in regulatory overreach. Ambitious in scope and expansionist in effect, many regulations are a clear case of biting of more than one can chew. In such a situation it becomes imperative to put in place a formal system of regulatory impact assessment.
4.22 A regulatory impact assessment of every proposed regulation should precede the public consultation process which has been dealt with elsewhere in this report. This would lead to fewer regulations with more of them being more produOve and purposeful than at present.”
5. From an initial perusal of the ICAI recommendations, it has been observed that there is no evidence of a comprehensive RIA having been: performed on this project nor any report on public consultation on the Approach Paper, either at the time of the original paper of 2014-15 or at the time of revision in 2020, for revising the existing ASs. Therefore, in order to facilitate well informed review and consideration of the ICAI Approach Paper and the Draft ASs by the NFRA, it was considered appropriate by NFRA to perform a primary research in respect of the following accounting and auditing aspects of Companies with Net Worth below 250 Crores. For the purpose of further analysis, such Companies are referred to AS Companies. The primary research performed relates to:
a. Identification and Analysis of Key Stakeholders of AS Companies General Purpose Financial Statements (GPFS).
b. Review of the proposal for Revised ASs vis-à-vis the following:
i. Proportionality of Revised ASs versus Type and Size of the operations of AS Companies;
ii. Cost -Benefit Analysis of the proposed implementation of Revised ASs along with the existing Standards on Auditing (SAs).
6. Preliminary findings of our primary research mentioned in the paragraph 5 above indicate the following key features.
6.1 Identification and Analysis of Key Stakeholders of GPFSs of AS Companies
6.1.1 Population size of Companies & Status of Filing of Annual Financial Statements Based on the statistics published by the Ministry of Corporate Affairs, Government of India (MCA) (Refer Table 1.1 in Annexure III), the total number of active companies was in the range of 11,59,945 to 12,99,710 during the period 2018-2021. The preponderant share is of private limited and one person companies: 93.85%, 94.43%, 94.66% and 94.93% of the total number of active companies were private limited companies and one person companies as of 31 March 2018, 31 March 2019, 31 March 2020 and 31 March 2021, respectively.
For the financial year (FY) 2018-19, only 52.48% (6,03,055 Companies) of the total number of active companies have filed their AFSs and MGT -7 as of June 2021 (Refer Table 1.2 in Annexure III). Such a low percentage of compliance with a critical statutory filing even after two years from the end of the reporting period indicates lack of adequate accounting professionals with many of these companies. It may also be relevant to note that there are only 4,349 Listed Companies in the total of 6,03,055 that have filed their AFS so far.
Of the total number of companies that have filed AFS for the FY 2018-19, 97.09% (5,85,535 Companies) have submitted their financial statements prepared under Companies (Accounting Standards) Rules 2006 (AS Framework) and 2.91% (17,520 Companies) have submitted financial statements prepared under Companies (Indian Accounting Standards) Rules 2015 (Ind AS Framework) (Refer Table 1.3 in Annexure III).
Out of the total companies which have made filings, 99.41% (5,99,487 companies)[2] have reported Net Worth below Rs.250 Crores (an important monetary threshold for mandatory adoption of Ind AS Framework).
6.1.2 The above data indicates the following key features of AS companies.
i. Net Worth Size (Refer Table 2.1 in Annexure III):
-
- Of the total number of Rs.5,99,487 AS Companies, there are Rs.4,76,536 Companies with cumulative positive Net Worth of Rs.21,37,302 Crores and Rs.1,22,951 Companies with cumulative negative Net Worth of Rs.9,50,457 Crores.
- Among the AS Companies with positive Net Worth, a large number of Companies (4,57,170), i.e., nearly 95.93% have very low size of Net Worth i.e., Net Worth below Rs.25 Crores.
- AS Companies with negative Net Worth have Turnover in the range of Rs.11.8 to 54,900 Crores (over and above zero). Further, these Companies have Indebtedness in the range of Rs.55.2 to 72,700 Crores (over and above zero).
ii. Turnover (Refer Table 3.1 in Annexure III)
-
- Of the total number of 5,99,487 AS Companies, there are a large number of Companies (2,09,122 Companies accounting for 34.88%) that have reported Nil Turnover (in some case there could be data input errors in MCA21).
- Among the AS Companies having Turnover, a large number of Companies (3,67,019) i.e., nearly 61.22% have very low size of turnover i.e., below Rs.50 Crores.
- AS Companies with Nil Turnover have instances where reported Indebtedness is of upto Rs.9,332 Crores.
iii. Indebtedness ((Refer Table 4.1 in Annexure III)
-
- Of the total number of 5,99,487 AS Companies, a significant number of Companies (2,66,832 Companies accounting for 44.51%) have reported NIL Indebtedness. Of these debt-free Companies, 1,12,043 Companies, nearly 41.99%, have also reported NIL Turnover.
- Further, out of the remaining companies having indebtedness, there are a large number of companies (3,15,803 Companies, nearly 52.68%) that have low size of Indebtedness i.e., below 25 Crores.
iv. Payments to Auditors[3] ((Refer Table 51 in Annexure III)
-
- There are a large number of Companies (1,81,392 Companies, nearly 30.26%) which have reported NIL of Payments to Auditors. This could be data input error indicating lack of adequate accounting professionals with many of these companies.
- Majority number of Companies (2,48,218 Companies accounting for 41.41%) have reported small amounts of Payments to Auditors i.e., below Rs.25 Thousands. Of these Companies, 40,708 Companies have reported very small amounts of Payments to Auditors i.e. below Rs.5 Thousand.
The tables for Net Worth, Turnover and Indebtedness analysis for companies with net worth above Rs.250 crore have also been included in Annexure III for reference purposes.
6.1.3 Users of GPFSs of AS Companies
As noted in the previous paragraphs and depicted in Table 1.1 in Annexure III, substantial number of these AS Companies are private limited companies; 93.85%, 94.43%, 94.66% and 94.93% of the total number of active companies are private limited companies and one person companies as of 31 March 2018, 31 March 2019, 31 March 2020 and 31 March 2021, respectively. A large majority of Companies have very low size of Indebtedness or reported NIL indebtedness, which indicates low risk to larger public interest and very limited set of users of GPFSs of these Companies. Therefore, primary users of GPFSs of these companies would be owners or shareholders of these private limited companies, who are unlikely to depend upon GPFRs for much of the financial information they need. Tax Authorities have also substantially done away with the requirement of audit by Chartered Accountants. By the Finance Act, 2021, Income lTax audit has been dispensed with for businesses with turnover of up to Rs 10 crores, provided not more than 5 % of the total transactions are in cash. GST Audit has also been completely done away with. Lenders, if any, such as banks have special requirements that are not within the purview of GPFSs.
In view of the above, the extent of public interest involved in the financial reporting of AS Companies is most likely to be minimal.
6.2 Proportionality of Revised ASs versus Type and Size of the operations of AS Companies
6.2.1 Nature and Complexity of Revised ASs
Based on the ICAI’s proposed approach, there are a number of ASs which are very large and complex as those are virtually same as the Ind ASs or Existing ASs which are primarily developed from the relevance and usefulness to the users of large PIEs. Some such large complex Revised ASs are listed below.
AS 12, Income Taxes
AS 16, Property, Plant and Equipment
AS 17, Leases
AS 19, Employee Benefits
AS 21, The Effects of Changes in Foreign Exchange Rates
AS 36, Impairment of Assets
AS 38, Intangible Assets
AS 41, Agriculture
AS 102, Share-based payments
AS 113, Fair Value Measurement
Further, the following Revised ASs may not be relevant and useful to the users of financial statements of these SMCs.
AS 33, Earnings per Share
AS 34, Interim Financial Reporting
AS 21, Consolidated and Separate Financial Statements
AS 23, Accounting for Investments in Associates in Consolidated Financial Statements
AS 27, Financial Reporting of Interests in Joint Ventures
AS 108, Operating Segments
6.2.2 Type and Size of AS Companies
It is evident from the analysis of data relating to 5,99,847 Companies with Net Worth below Rs.250 Crores, that
i. There are a large number of Companies in the category of Private Limited Companies.
ii. 96.77% of the Companies with positive Net Worth also are of very small size i.e., Net Worth below Rs.25 Crores.
iii. 96.10% have very low size of Turnover below Rs.50 Crores.
iv. 52.68% have low size of Indebtedness i.e., below Rs.25 Crores; another 44.48% have reported NIL Indebtedness.
6.3 Cost -Benefit Analysis of the proposed implementation of revised ASs along with the existing Standards on Auditing (SAs)[4].
6.3.1 In view of the significant role played by AS Companies, which is likely to comprise Micro, Small and Medium-size Companies, in the economic growth and development of the Nation, it is essential that regulatory environment is conducive to support, and not burden, the growth in business and economic activities of these entities. Implementation of high-quality standards and codes relating to accounting standards is an important area of regulation or statutory requirement that is intended to usher in sound and effective monitoring of the financial affairs of the entities, enhance efficiency in the governance and financial management of the entities and above all to protect the public interest, if any. However, the regulations relating to financial reporting should not impose undue burden and cost on the regulated entities and the overall regulatory framework should be proportional to the size and type of the entities that are subject to such regulations.
6.3.2 Preparation and reporting of financial information by the AS Companies also involves costs. Preparers incur costs for collecting and processing the financial information to generate the GPFSs. Preparers also incur costs in the form of audit fees to enable and enhance credibility of the GPFSs. No doubt, there are benefits of the high-quality GPFSs to the Preparers and Users of GPFS and also to public in general. However, it is impractical to reliably and precisely estimate and quantify the benefits of GPFSs. This fact is also somewhat relevant in quantifying the costs incurred by the preparers.
6.3.3 In the above background, it may be useful to consider the costs incurred for getting the GPFSs of AS Companies audited by an independent auditor. In this regard, standard cost approach was adopted to estimate the audit cost involved. (Refer Annexure IV).
6.3.4 It can be seen from the expected standard of cost audit fee to perform reasonably good quality audit, performed in letter and spirit of the SAs, of the AS Companies with Turnover below Rs.50 Crores is expected to be in the range of Rs.1.50 lakhs to Rs.8.43 lakhs (Refer Annexure IV). This expected audit cost is significantly higher as compared to the presently reported audit fee ranges i.e., large percentage of AS Companies have reported Payment to Auditors of less than Rs.25 thousand.
7. Based on the findings of preliminary research performed by NFRA as highlighted above, and persuaded by the extent of public interest in the financial reporting area of AS Companies and the need for enabling a regulatory environment conducive for their economic growth, it is recommended as follows. 9
7.1 The Approach Paper should be developed in a transparent manner after extensive nation-wide consultation with the primary stakeholders i.e., the Preparers – MSMCs and Auditors – MSMPs (Micro, Small and Medium-size Practitioners). ICAI is requested to send NFRA the analysis of the public comments on the Approach Paper if the ICAI had performed any such public consultation in the past.
7.2 , Comprehensive study and research should be performed on the costs to the Preparers of compliance with these Revised ASs and their technical resource capacity, which should be evaluated against the likely benefits to all the stakeholders of AS Companies segment.
7.3 ICAI should reconsider the Structure, Form and Contents of Revised ASs for AS Companies and align the same to the nature, size and complexity of the ASs to their commercial needs, business size, capacity to comply with the prescribed standards and relevance to their primary users. ICAI should adopt the following approach for revision of ASs for AS Companies.
a. Revised AS for AS Companies should b prescribed in a stand-alone single module with various accounting aspects divided into separate chapters or sections.
b. Text and language of the prescriptions should be plain and simple. It should enable better compliance with the prescribed standards.
c. The Accounting aspects covered in the Reviied AS for AS Companies should be relevant and applicable to the business and operating environment of AS Companies
d. ICAI should consider the contemporary global practices in this area e.g., ICAI should evaluate the structure and form of the following pronouncements.
i) UK FRS 102, The Financial Reporting Standard applicable in the UK and Republic of Ireland
ii) UK FRS 105, The Financial Reporting Standard applicable to the Micro-entities Regime
iii) IFRS for SMEs of IFRS Foundation
iv) A Guide for Micro-sized entities applying IFRS for SMEs
v) AICPA, US Financial Reporting Framework for Small and Medium-sized Entities
e) ICAI should consider the need for a separate set of ASs for Micro-entities.
7.4 Ind AS applicability threshold
Currently, the primary criteria for mandatory applicability of hid ASs as per the Companies (Indian Accounting Standards) Rules 2015 are (a) listing of securities of the company on recognised stock exchanges and (b) net worth of the companies. However, Turnover and Borrowings from Banks and Financial institutions by the Companies or overall Indebtedness of the Companies is also an important feature indicating existence of public interest. Therefore, there is a need to revisit the currently prescribed criteria and consider inclusion of Turnover or quantum of the Borrowings or Indebtedness of the Companies also as a criteria for Ind AS applicability.
Vivek Narayan
Secretary
Copy to: Shri K.V.R Murry,
Joint Secretary,
Ministry of Corporate Affairs
5th Floor, Shastri Bhavan,
Dr Rajendra Prasad Road,
New Delhi —110 001
List of enclosures is as follows:
| S.No. | Details of Item/ Description | Pg No. |
| 1. | Important principles of the Regulator’s Code[5] and developed by the Department for Business, Innovation and Skills, United Kingdom (UK) which regulates the companies incorporated in UK (Annexure I) | 8 |
| 2. | Expert Committees Recommendations on RIA — India (Annexure II) | 9 |
| 3. | Data Tables used by NFRA for its Research (Annexure III) | 11 |
| 4. | Estimated Cost of Audit using Standard Cost Model Approach (Annexure IV) | 22 |
| 5. | Approach Paper on Revision of Accounting Standards, submitted by ICAI vide email dated 28.06.2021 (Annexure V) | 27 |
