Overview of Internal Control over Financial Reporting (ICFR)

Introduction

Prior to Clause (i) of Sub-section 3 of Section 143 of the Companies Act, 2013 reporting of internal controls is required under CARO only, However which was limited to adequacy of controls over purchase of inventory and fixed assets and sale of goods and services. Auditors were not required to report for adequacy and operating effectiveness. Now, clause (i) of section 143(3) mandates auditor to report on adequacy and effectiveness of all internal control relating to financial reporting. These reporting are fairly new for Indian reporting framework however under US reporting framework these reporting are pre-existed under section 404 of Sarbanes Oxley Act.

Management responsibility

For Unlisted Companies:

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. Hence, an unlisted company is also required to state the adequacy and operating effectiveness of internal controls relating to financial reporting.

For Listed Companies:

Clause (e) of Sub-section 5 of Section 134 to the Act requires the directors’ responsibility statement to state that the directors, in the case of a listed company, had laid down internal financial controls to be followed by the company and that such internal financial controls are adequate and were operating effectively.

Auditors Responsibility

A material weakness in internal financial controls may exist even when the financial statements are not materially misstated. The reporting under Clause (i) of section 143(3) will only be in context of audit of financial statement but shall be in addition to reporting for financial statements. The auditor is required to report for all companies both listed and non-listed.

Specified date

The date on which the adequacy and operational efficiency is to be reported is at the date of balance sheet. Those control deficiency which have been corrected during the course of audit are not required to be reported as the internal control have existed and are adequate and operating effectively as at the balance sheet date.

However, to form an opinion about the internal control over financial reporting auditor is required to test the internal controls during the financial year under audit and not just the internal controls as at the balance sheet date, though the extent of testing at or near the balance sheet date may be higher.

Reporting on internal financial controls over financial reporting will not be applicable with respect to interim financial statements, such as quarterly or half-yearly financial statements, unless such reporting is required under any other law or regulation

Consolidated Financial Statement

The reporting requirement of internal control over financial reporting are mutatis mutandis applicable to consolidated financial statement. The component shall also be complying with their reporting requirement of internal control over financial reporting. Auditor of the parent company should apply the concept of materiality and professional judgment for a consolidated reporting using the reporting made by component auditors.

(The above article is contributed / compiled by Vipin Chaurasia having professional and academic interests in SEBI, Listing agreement, IPOs, IFRS areas. He can be approached at vipin.kr.chaurasia@gmail.com or Ph no. +91-97 17 748196)