QUESTION
Amiysam Ltd. is an unlisted public company, registered under GST, incorporated since 2010, with seven directors on its board, and is engaged in the manufacturing and selling of chemical products through its several units across the country. It also exports its chemical products to certain European & Middle East countries. Visam (P) Ltd. (VPL) is another company engaged in manufacturing and selling of only one chemical product named, 'KOH'. Its 55% equity shares were recently acquired by Amiysam Ltd. during F.Y. 2021-22, due to which the paid-up capital of VPL increased from ₹ 8 crore to ₹ 12 crore. For acquiring such shares, Amiysam Ltd. paid a cash consideration of ₹ 10 crore to VPL and the fair value of non-controlling interest on the date of acquisition of such shares of VPL was ₹ 3 crore. VPL had incurred a loss of ₹ 4 lakhs during F.Y. 2020-21 as per its Income Tax Return (ITR) which was brought forward by it.
Thereafter, VPL appointed Mr. Divarkar, as its whole-time company secretary and Mr. Devraj as its managing director, respectively, which are also serving on the same positions in its holding company, Amiysam Ltd. After being appointed as managing director in VPL, Mr. Devraj acquired its 1000 shares with face value of ₹ 100/share at issue price of ₹ 130/share whereas the fair market value of such shares was ₹115/ share. On 25th August, 2021, VPL sold its two machineries to Mr. Devraj, wherein one machinery was sold in exchange of a vehicle of Mr. Devraj and the other machinery was sold for ₹1,20,000, respectively, the WDV of which at the time of sale was ₹90,000. However, such other machinery was reacquired by VPL on 10th September, 2021, at a cost of ₹ 1,40,000.(Para 2)
The CFO of Amiysam Ltd., Mr. Digpal, told Mr. Devraj that from F.Y. 2021-22 onwards, the financial statements of Amiysam Ltd. would be required to be prepared on consolidation basis as the company has acquired its first subsidiary, VPL, during F.Y. 2021-22. However, Mr. Devraj told him that he is of the view that, there would be no requirement to do so as Amiysam Ltd. is an unlisted company and also all the members of the company would beintimated in writing that for F.Y. 2021-22, the company will not be preparing consolidated financial statements and will only issue standalone financial statements for the said year. (Para3)
Mr. Praveen has been appointed as the engagement partner for conducting the audit of Amiysam Ltd. for F.Y. 2021-22 on behalf of Ved & Co. for the 3rd consecutive year. For the current year's audit, Mr. Praveen planned to use the audit evidence from previous year's audit about the operating effectiveness of specific controls. For that purpose, he decided to obtain audit evidence for the significant changes that may have occurred in those controls subsequent to the previous audit. After obtaining audit evidence on the same, Mr. Praveen concluded that there were certain factors that indicated there have been changes in the controls that would require retesting the controls during the current year's audit and reliance cannot be made on the audit evidence obtained in the previous audit about such controls. (Para 4)
Mr. Devraj consulted Mr. Praveen on the issue of standalone financial statements by Amiysam Ltd. to which Mr. Praveen explained him the statutory requirements applicable in the case and accordingly, Mr. Devraj was compelled to change his decision. Rao & Co. is another firm of Chartered Accountants, in which Mr. Praveen is having 22% profit sharing ratio. The management of VPL proposed Rao & Co. to provide internal audit services to VPL from F.Y. 2021-22 onwards. However, Mr. Praveen told the management that due to certain legal restrictions, Rao & Co. would not be able to provide internal audit services to VPL.(Para 5)
From above details please answer below-mentioned questions
1 (i) With reference to the information given under Para 2, explain the manner in which VPL would have appointed MrDivarkar and Mr. Devraj, respectively?
(ii) With reference to the information given under Para 3, explain what statutory requirements, Mr. Praveen would have explained to Mr. Devraj that would have made him change his contention?
2. With reference to the information given under Para 2, whether there were any restrictions for VPL to sale its machinery to Mr. Devraj in exchange of a vehicle and if yes, then what legal requirements would have been followed by it?
3. (i) With reference to the information given under Para 5, due to what legal restrictions, Rao & Co. would not be able to provide internal audit services to VPL?
(ii) With reference to the information given under Para 4, what was the responsibility of Mr. Praveen in the given case with respect to his planning to use the audit evidence from the previous audit and whether it can be said that he has adhered to his responsibility?
(iii) With reference to the information given under Para 4, due to presence of what type of factors, Mr. Praveen might have considered to retest the controls and not to rely upon the audit evidence obtained in the previous audit about such controls?.
ANSWERS
1(I) As per Section 203(2) of the Companies Act, 2013,
- Every whole-time key managerial personnel of a company shall be appointed by means of a resolution of the Board. The resolution shall contain the terms and conditions of the appointment including the remuneration.
- A whole-time key managerial personnel shall not hold office in more than one company at the same time except in its subsidiary company. As per third proviso to Section 203(2) of the Companies Act, 2013, if a person is MD or manager in some other company, it is permissible for a company to appoint him as its managing director.
The modus operandi is as under:
(a) The person so appointed or employed as managing director should be managing director or manager of one, and of not more than one, other company.
(b) Such appointment or employment is made or approved by a resolution passed at a meeting of the Board with the consent of all the directors present at the meeting.
(c) Further, specific notice of such meeting, and of the resolution to be moved thereat has been given to all the directors then in India.
In the given instance, VPL would have appointed Mr. Divarkar, as its whole time company secretary by passing a board resolution that should have contained the terms and conditions of the appointment of Mr. Divarkar including his remuneration.
As Mr. Devraj is also holding office as managing director in Amiysam Ltd., Visam Ltd. would have appointed him by passing a board resolution with the consent of all the directors present at the meeting and a specific notice of such meeting and the of the resolution to be moved would have been given to all the directors then in India. It is presumed that Mr. Devraj is holding office as managing director/ manager of only Amiysam Ltd. apart from VPL.
1(ii) Section 129(3) of the Companies Act, 2013, has made the consolidation of financial statements mandatory. It states that where a company has one or more subsidiaries, it shall, in addition to the financial statements provided above (i.e. standalone financial statements), prepare consolidated financial statements of the company and of all the subsidiaries in the same form and manner as that of its own which shall also be laid before the annual general meeting of the company along with its financial statements under section 129 (2).
Exemptions from preparation of CFS: As per Rule 6 of Companies (Accounts) Amendment Rules, 2016, preparation of CFS by a company is not required if it meets the following conditions:
(i) it is a wholly-owned subsidiary, or is a partially-owned subsidiary of another company and all its other members, including those not otherwise entitled to vote, having been intimated in writing and for which the proof of delivery of such intimation is available with the company, do not object to the company not presenting consolidated financial statements;
(ii) it is a company whose securities are not listed or are not in the process of listing on any stock exchange, whether in or outside India; and
(iii) its ultimate or any intermediate holding company files consolidated financial statements with the Registrar which are in compliance with the applicable Accounting Standards.
(iv) In the given instance, Mr. Devraj contended that there would be no requirement to prepare CFS, as Amiysam Ltd. is an unlisted company and all the members of the company would be intimated in writing that the company will not prepareconsolidated financial statements and will only issue standalone financial statements for F.Y. 2021-22. However, Mr. Praveen, the audior of Amiysam Ltd. would have explained to Mr. Devraj the aforesaid provisions of the Companies Act, 2013, and told him that even though if it is presumed that the first two conditions as aforesaid might be satisfied by Amiysam Ltd. but still it is not having holding company of its own that would be preparing consolidated financial statements and filing the same with the Registrar and thus, the third condition would remain unsatisfied because of which it would be required to prepare consolidated financial statements.
2. According to Section 192(1) of the Companies Act, 2013, no company shall enter into an arrangement by which—
(a) a director of the company or its holding, subsidiary or associate company or a person connected with him acquires or is to acquire assets for consideration other than cash, from the company; or
(b) the company acquires or is to acquire assets for consideration other than cash, from such director or person so connected.
Relaxation of restriction: The above restriction shall be relaxed i.e. the company may enter into an arrangement involving non-cash transactions as stated above, if prior approval for such arrangement is accorded by a resolution of the company in general meeting.
Where the director or connected person is a director of its holding company, approval shall also be required to be obtained by passing a resolution in general meeting of the holding company.
Contents of notice issued for approval of resolution: The notice for approval of the resolution in general meeting issued by the company or holding company shall include the particulars of the arrangement. It shall also include the value of the assets involved in such arrangement duly calculated by a registered valuer.
In the given instance, VPL entered into a non-cash transaction with its managing director, Mr. Devraj by selling its machinery in exchange of a vehicle. For doing so, VPL would have taken prior approval for such arrangement vide a resolution in its general meeting and also as Mr. Devraj is a director of its holding company, Amiysam Ltd., as well, prior approval would also have been taken by passing a resolution in the general meeting of Amiysam Ltd.
Further, the contents of notice of aforesaid meetings would have included the particulars of such arrangement between VPL and Mr. Devraj and the value of the assets involved in such arrangement duly calculated by a registered valuer.
3(i) Section 144 of the Companies Act, 2013, prescribes certain services not to be rendered by the auditor. An auditor appointed under this Act shall provide to the company only such other services as are approved by the Board of Directors or the audit committee, as the case may be, but which shall not include any of the following services (whether such services are rendered directly or indirectly to the company or its holding company or subsidiary company), namely:
(a) accounting and book- keeping services;
(b) internal audit;
(c) design and implementation of any financial information system;
(d) actuarial services;
(e) investment advisory services;
(f) investment banking services;
(g) rendering of outsourced financial services;
(h) management services; and
(i) any other kind of services as may be prescribed.
Further, in case of auditor being an individual, either himself or through his relative or any other person connected or associated with such individual or through any other entity, whatsoever, in which such individual has significant influence or control, or whose name or trade mark or brand is used by such individual, shall be termed as rendering of services directly or indirectly by the auditor; and in case of auditor being a firm, either itself or through any of its partners or through its parent, subsidiary or associate entity or through any other entity, whatsoever, in which the firm or any partner of the firm has significant influence or control, or whose name or trade mark or brand is used by the firm or any of its partners, shall be termed as rendering of services directly or indirectly by the auditor.
In the given instance, Mr. Praveen is having significant influence in Rao & Co. by having a profit sharing ratio of more than 20% in the said firm and Mr. Praveen is also a partner in Ved& Co. which is the company auditor of Amiysam Ltd., the holding company of VPL.
Now, if Rao & Co. provides internal audit services to VPL, it will amount to indirect provision of a prohibited service by Ved& Co. to the subsidiary company of a company of which it is an auditor and therefore, Rao & Co. would not be able to provide internal audit services to VPL.
3(ii) As per Standard of Auditing 330, 'The Auditor's Responses to Assessed Risks', if the auditor plans to use audit evidence from a previous audit about the operating effectiveness of specific controls, the auditor shall establish the continuing relevance of that evidence by obtaining audit evidence about whether significant changes in those controls have occurred subsequent to the previous audit.
The auditor shall obtain this evidence by performing inquiry combined with observation or inspection, to confirm the understanding of those specific controls, and:
(a) If there have been changes that affect the continuing relevance of the audit evidence from the previous audit, the auditor shall test the controls in the current audit.
(b) If there have not been such changes, the auditor shall test the controls at least once in every third audit, and shall test some controls each audit to avoid the possibility of testing all the controls on which the auditor intends to rely in a single audit period with no testing of controls in the subsequent two audit periods.
In the given instance, for the current year's audit, Mr. Praveen planned to use the audit evidence from the previous year's audit about the operating effectiveness of specific controls and accordingly, as required by SA 330, he obtained audit evidence for the significant changes that may have occurred in those controls subsequent to the previous audit on the basis of which he concluded that there were certain factors that indicated that there have been changes in the controls that would require retesting the controls during the current year's audit and reliance cannot be made on the audit evidence obtained in the previous audit about such controls.
Thus, on the basis of given facts, it appears that Mr. Praveen has adhered to his responsibility with respect to his planning to use the audit evidence from the previous audit about the operating effectiveness of specific controls, as per SA 330, as aforesaid.
3(iii) As per SA 330, 'The Auditor's Responses to Assessed Risks', factors that may decrease the period for retesting a control, or result in not relying on audit evidence obtained in previous audits at all, include the following:
A deficient control environment.
- Deficient monitoring of controls.
- A significant manual element to the relevant controls.
- Personnel changes that significantly affect the application of the control.
- Changing circumstances that indicate the need for changes in the control.
- Deficient general IT-controls.
Thus, due to presence of any of such aforesaid factors, Mr. Praveen might have considered to retest the controls and not to rely upon the audit evidence obtained in the previous audit about such controls.
DISCLAIMER: The case law presented here is only for sharing knowledge and information with readers. The views are personal. In case of necessity do consult with professionals for better understanding and clarity on subject matter.
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