Introduction
The Companies Act, 2013(hereinafter referred to as “The Act”) has ushered in a number of changes which have led to an exponential increase in the number of compliances , where companies are concerned. One such requirement relates to the preparation of consolidated financial statements by a company which has one or more subsidiaries, pursuant to the provisions of Section 129 of the Act. Before we get into the nitty-gritty of the Statute and put forth for consideration the issues that are thrown up , it would be appropriate to trace the genesis of the requirements leading to the preparation of the consolidated financial statements.
Position under the Companies Act, 1956
It is pertinent to note that the companies Act, 1956 did not contain any provisions with regard to preparation of consolidated financial statements by companies which have one or more subsidiaries. Section 212 of the 1956 Act provided , inter alia, that there shall be attached with the Balance Sheet of a holding company ,the following documents in respect of each of the subsidiary companies as at the end of a financial year at which the holding company’s Balance sheet is made out:
- A copy of the Balance sheet of the Subsidiary
- A copy of the profit and loss Account
- A copy of the Report of the directors
- A copy of the Report of the statutory Auditors
- A statement of the Holding company’s interest in the subsidiary.
Under sub-section(8) of section 212, the Central Govt. was empowered, on an application or with the consent of the Board of Directors of the company, to direct that in relation to any subsidiary, the provisions of section 212 shall not apply or shall apply only to the extent as may be specified in the direction. Pursuant to the above, MCA vide its general circular No.2/2011 dated 8.2.2011 issued directions granting general exemption to companies under section 212(8) subject, inter alia, to the condition, that the company shall present in the annual report , the consolidated financial statements of the holding company and all its subsidiaries , duly audited by the statutory auditors. To avail of the exemption under the above general circular, it was necessary to provide the following information in aggregate for each subsidiary including the subsidiaries of subsidiaries:
- capital
- Reserves
- total assets
- total liabilities
- details of investments(except for investments in the subsidiaries)
- turnover
- profit before taxation
- Provision for taxation.
- profit after tax
- proposed dividend.
In addition, it was necessary for the holding company to undertake in its annual report that the annual accounts of the subsidiaries and the related information shall be made available to the shareholders of the holding and subsidiary companies seeking information at any point of time. The subsidiary Accounts were also to be kept available for inspection by the shareholders at the Company’s Head office and an assertion to this effect had to be made in the annual report of the holding company. Any member desirous of seeking a hard copy of the accounts of the subsidiaries had to be provided with a copy.
Preparation of consolidated Accounts made compulsory for listed companies under Listing Agreement
It is pertinent to note that the requirement of consolidated financial statements was ushered in for listed companies through Clause 32 of the Listing agreement in terms of which it was made mandatory for a listed company to publish consolidated financial statements in its Annual Report in addition to the individual financial statements .The consolidated Accounts had to be audited by the company’s statutory auditors and the same had to be filed with the Stock Exchanges in compliance with the requirements of the above clause.
The requirements regarding preparation of consolidated financial results has been reiterated in Regulation 33 of the SEBI(Listing Obligations and Disclosure Requirements)(LODR)Regulations, 2015 which have since substituted with effect from December,1,2015 the listing agreement.
In addition, the applicability of Accounting Standards was made mandatory for listed companies by SEBI vide its circular No. SEBI/SMD/Policy /.Cir-16/2002 dated 26.6.2002.As a prelude to the above, SEBI had issued circular No. SMDRP/Policy/Cir-44/2001 dated August 2001 directing the Exchanges ,inter alia, to amend the listing agreement to make it mandatory for listed companies to comply with all accounting standards issued by the Institute of Chartered Accountants of India from time to time. Pursuant to the above, consolidation of Accounts of subsidiary companies had to be carried out in accordance with the requirements of Accounting Standard-(AS)-21. Application of AS-21 is mandatory where an enterprise presents consolidated financial statements. In other words, the accounting standard does not mandate an enterprise to present consolidated financial statements but if the enterprise presents consolidated financial statements for complying with the requirements of any statute or otherwise, it should prepare and present consolidated financial statements in accordance with AS-21.
From the foregoing, it is clear that the requirement of presenting to the shareholders consolidated financial statements for a listed company was triggered off not by virtue of any statutory amendments to the 1956 Act but on account of changes in the listing provisions. As regards unlisted companies which were not desirous of attaching with their Annual Reports, the audited financial statements of their Subsidiaries, to avail of the benefit of the exemption granted by the MCA general circular dated 8.2.2011, they had to perforce present to their shareholders along with their Annual Report, the consolidated financial statements of the holding company and all its subsidiaries duly audited by the statutory auditors.
Position under the companies Act, 2013
The statutory provisions relating to financial statements have been laid down under Section 129 of the Act which have become enforceable from 1.4.2014.It is interesting to note that the Act makes use of the terminology of “financial statement” to cover aggregatively the company’s Balance Sheet, Profit and Loss Account , the cash flow statement and the explanatory notes forming a part of the aforesaid documents. Section 2(40) provides an inclusive definition to the above expression.
Section 129(3) of the Act calls upon every company which has one or more subsidiaries to prepare in addition to its standalone financial statements, a consolidated financial statement of the company and of all its subsidiaries in the same form and manner as that of its own .The consolidated financial statement shall also be laid before the annual general meeting of the company along with the company’s standalone financial statements.
The first proviso to the above sub-section stipulates that along with its financial statements, the holding company shall provide separately a statement containing the salient features of the financial statements of its subsidiaries in Form no. AOC-1 as prescribed under Rule 5 of the Companies (Accounts) Rules, 2014.
The second proviso empowers the Central Govt. to provide for the consolidation of Accounts of companies in such manner as may be prescribed. Pursuant to the above dispensation, Rule 6 of the Companies (Accounts) Rules, 2014 stipulates that the consolidation of financial statements of the company shall be made in accordance with the provisions of Schedule III of the Act and the applicable accounting standards.
MCA clarification vide circular no.39/2014 dated 14.10.2014 on consolidated financial Statement
As the Central Govt. had received representations seeking clarifications on the manner of presentation of the consolidated financial statement (CFS) in the wake of the requirements laid down under Rule 6 above that the statement should be prepared in accordance with Schedule III to the Act and the applicable Accounting Standards , MCA in consultation with the Institute of Chartered Accountants of India(ICAI) has clarified that while preparing the CFS , the company would be required to give in the CFS, all the disclosures that are relevant for CFS only.
Extended connotation to the term ”Subsidiary”
Explanation after the second proviso to Section 129(3) has the effect , for the purpose of this sub-section, of widening the amplitude of the term “Subsidiary”. The term shall include an associate company and Joint Venture. The term “Associate Company” shall carry the meaning given to it under Section 2(6).Thus for the purposes of Section 129(3) even a company in which the other company has a significant influence would also be considered as a subsidiary. The Explanation under Section 2(6) stipulates that for the purpose of this clause, ”significant influence” will mean control of at least twenty percent of total share capital or of business decisions under an agreement. The term ”Total Share Capital” has been defined by Rule 2(1)( r) of the Companies(Specification of Definitions Details)Rules, 2014 to mean, for the purposes of clause(6) and clause (87)of Section 2 the aggregate of the paid up equity share capital and convertible preference share capital.
From the above, it follows that for the purposes of section 129(3) a “Subsidiary” shall include a company in which the other company exercises significant influence either by holding control over 20% of the aggregate of the paid up equity capital and convertible preference share capital or over the business decisions of the company under an agreement. Thus even if a company does not have control in excess of the threshold total share capital of the other company as stated above which exerts significant influence over the business decisions of the other company under an agreement, it would qualify for consideration as an “Associate” and consequently as a subsidiary.
Joint Venture has not been defined by the Act !
It is pertinent to note that although the term “Associate” in Section 2(6) above includes a Joint Venture Company, inexplicably the Act does not contain yet a definition for a “Joint Venture”. This is a drafting omission which is intriguing. As Section 2(6) contemplates control over a prescribed threshold capital and as a joint venture company is encompassed within the above definition, one view that emerges is that if a company controls twenty percent of the total share capital of the other, the other company would be both an Associate and a joint venture company. Hence if the control is less than the threshold, the other company would not arguably be a joint venture company.
Joint Venture defined in the Companies (Amendment) Bill, 2016
Meaning of “Significant influence” in Section 2(6) proposed to be clarified in the Companies (Amendment) Bill, 2016
To set right the above anomaly in the Act, the expression ”Joint Venture” is proposed to be defined in the Companies(Amendment) Bill, 2016, by way of an extension to the existing Explanation under Section 2(6) in the Act to mean a joint arrangement whereby the parties that have joint control of the arrangement have rights to the net assets of the arrangement.
Further as the existing Explanation as to what constitutes “significant influence’ under Section 2(6) is somewhat vague and ambiguous, this expression too is also proposed to be amended in the bill to mean control over twenty percent of total voting power or control of or participation in business decisions under an agreement. The proposed change is most appropriate given the fact that one cannot in reality have control over share capital. Holding of shares in a company yields to voting powers and therefore it is welcome that the aberration in the definition of “significant influence” in the existing Explanation is proposed to be overcome by a more appropriate description of the expression ”significant influence”.
It is important to note that since the Bill, is now before a select Committee of parliament, we cannot take cognizance of the same as of now and will have to live with the existing imperfections in the definition of an “Associate”.
Accounting Standards are to be applied for consolidation
In view of the fact that Section 129(3) envisages not only consolidation of Accounts of subsidiaries but also Associates and Joint ventures, it is necessary to appreciate the appropriate Accounting standards to be applied. Where it comes to consolidation of a subsidiary where there is control by the parent company over more than one half of the voting power of an Enterprise or control over the composition of the Board of the other company, consolidation of the subsidiary’s Accounts shall be made line by line in accordance with the provisions of Accounting standard-21(AS-21).Where it comes to accounting for investments in Associates and Joint ventures, the applicable Accounting Standard shall be AS-23.In respect of those Companies which have to mandatorily embrace the Companies(Indian Accounting Standards)Rules, 2015 on and from the financial year 2016-17, adherence shall have to be ensured with Indian Accounting standard(Ind AS)110 for consolidation of financial Statements. Accounting for Joint Arrangements will have to be in terms of Indian Accounting standard (Ind AS) 111. For those companies such as NBFCs ,Housing finance companies which have subsidiaries, the Companies(Indian Accounting Standards)Rules, 2015 do not come into force as of now and hence such companies would continue to be guided by AS-21 and AS-23 as referred to above.
Provisions of the Act apply, mutatis mutandis, to consolidated financial statements-Section 129(4)
Section 129(4) of the Act clarifies that the provisions of the Act , as applicable to the preparation, adoption and audit of the financial statements of a holding company, shall, mutatis mutandis , apply to the consolidated financial statements referred to in sub-section(3) thereto. The Holding company shall therefore be required to draw up the consolidated financial statements exactly in the same manner as it draws up its standalone statement, subject to such changes as are necessary for the purposes of consolidation. These statements shall be subject to audit by the company’s statutory auditors .These are to be adopted by the Board before circulation to the members of the holding company along with the company’s Annual Report and laid before the annual general meeting of the company along with its standalone financial statements as contemplated by sub-section(3) to Section 129.
Resolutions for adoption of standalone and consolidated financial statements should be voted separately at Company Meetings
It follows from the provisions of Section 129(4) above, that the holding company in its Notice to the members for the Annual general meeting should propose two separate resolutions for the adoption of both the standalone and consolidated financial statements and the Reports of the Statutory Auditors on the standalone and consolidated financial statements.
Section 134(2) provides that the Auditors’ Report shall be attached with every financial statement. This makes it abundantly clear that there would a separate Report of the auditors on the consolidated financial statements which should be laid at the Annual General Meeting of the Holding Company.
In so far as listed companies which are under mandate under Section 108 of the Act and the Rules there under to provide to its shareholders the facility of both remote e-voting as also at the venue of the meeting either through electronic means or those physical ballots are concerned, separate resolutions should be proposed in the e-voting forms and ballot papers circulated to the members for adoption of the standalone and consolidated financial statements and the reports of the statutory auditors thereon so that the members can cast their votes separately in respect of each item. This procedure is imperative so that members get an opportunity, if they deem it necessary, to cast their votes differently where it comes to approval of the standalone and consolidated financial statements and the Reports of the Auditors thereon.
At this juncture, it would be appropriate to point out that based on the study of the annual Reports and notices of annual General meetings of some of the leading listed Entities, it transpires that whereas some companies, have provided correctly in the e-voting forms two separate resolutions for approval of the standalone and consolidated financial statements and Auditors’ Reports thereon some have, distressingly combined the adoption of both sets of financial statements into a single resolution , thereby depriving the shareholders of an opportunity to use their votes differently. The latter procedure, it is respectfully submitted is not proper and not in keeping with the spirit of good governance and transparency which the Statute seeks to propagate.
It is also pertinent to note that under Section 143(2) also the statutory auditors are under obligation to provide a Report to the members on every financial statement that is laid before the company in General Meeting. It may well be that the Auditors may have made an adverse remark or qualification in their Report on either the standalone or on the consolidated financial statements or the shareholders may have detected something amiss in the financial statements which may call for their intervention. If the resolution for adoption of both sets of financial statements is combined into one resolution as per the procedure adopted by some companies , members may not be able to express their dissent over the consolidated financial statements and vice versa. This results in the blatant denial of the legitimate rights of the shareholders.
Legal basis for adopting two separate Resolutions
Our above submission for the passage of two separate resolutions does get legal fortification when one draws an inference from the provisions of Section 102(2) of the Act. The above sub-section, sets out , inter alia, the items of ordinary business which are to be transacted at an Annual General Meeting of the Members.
Sub-clause (i) in Clause(a) in Sub-section (2) of the above Section reads as under:
“(i)the consideration of financial statements (Emphasis supplied) and Reports of the Board of Directors and Auditors”
The above clause uses the expression financial statement in plural which gives rise to an inference that the Act contemplates, the consideration of more than one financial statement by the members of the company at the Annual general Meeting. This presumption would be true in the case of a holding Company which has to present apart from its own financial statement, the consolidated statements along with those of its subsidiaries to its members. It is pertinent to point out that in Section 2(40) of the Act the definition of a Financial Statement is in the singular . We would hasten to add that under Section 13 of the General Clauses Act , 1897,words used in the singular include the plural and vice versa. The contrary intention to exclude the operation of the rule that the plural includes the singular is not inferred merely because the relevant provision is drafted in the plural and the subsidiary and ancillary provisions follow the same pattern and use plural words or words implying the plural.(Sin Poh Amalgamated (HK) v AG(!965)1 All ER 225(PC).
From the above discussion one can arguably state that the approval of financial results by the members in the case of a holding company which has to consolidate its results with its subsidiaries, should be by way of two separate resolutions. It would be appropriate that MCA issues a clarification at the earliest making it mandatory for holding companies to seek the approval of the shareholders by two separate resolutions.
Implications of MCA Notification dated July, 27, 2016 regarding consolidated financial statements-New proviso under Rule 6 confuses rather than clarifies
MCA vide its Notification No. G.S.R 742(E) dated July, 27, 2016 have issued the Companies(Accounts)Amendment Rules, 2016,which have come into force from the date of their publication in the Official Gazette. These Rules contain certain changes in so far as the requirements relating to consolidated financial statements are concerned .The second proviso under Rule 6 of the Companies (Accounts)Rules,2014 which provided that the requirement of consolidation of accounts shall not apply to an intermediary subsidiary other than a wholly owned subsidiary whose immediate parent is company incorporated outside India has been substituted by the following new proviso which reads as under:
“Provided further that nothing in this rule shall apply in respect of preparation of consolidated financial statements by a company if it meets the following conditions :
(i)it is a wholly owned subsidiary ,or is a partly 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 such information 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 India 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”.
Analysis of the new proviso
What is conspicuous in the above amendment is that the conditions stipulated therein are aggregative and not mutually exclusive. All the conditions stated will have to be satisfied by the company seeking exemption from the requirement of presenting CFS.
The first condition is that the subject company should be either a wholly owned subsidiary or a partly owned subsidiary .If it is a partly owned subsidiary , its members other than the Holding company including those members who are not otherwise entitled to vote(we assume that the reference is to the company’s preference shareholders whose dividends are not in arrears) should have intimated in writing to the effect that they do not object to the company not presenting consolidated financial statements. Further the company should have in possession proof of delivery of such confirmations. The meaning associated with the above condition is difficult to comprehend. Firstly if the subject company is a subsidiary, whether wholly or partly owned, it would not be required to present, as a subsidiary, as regards the company not presenting consolidated financial statements. There is therefore no question of the company seeking “no objections” from its “other members” .The above condition does not appear to be logical at all unless there is an underlying presumption that the company has a subsidiary whether fully owned or partly owned in which case the company’s status could be that of an intermediate holding company. It is submitted that the drafting of the above amendment leaves a lot to be desired.
The second limb of the proviso is much simpler to understand in that the subject company should not have any of its securities listed nor should it be in the process of having its securities listed either in India or abroad. As this clause makes use of the expression ”securities” the reference need not necessarily be restricted to equity shares. The company should not have even its debt securities listed either in India or abroad nor should the process of such listing be underway.
The third limb of the proviso postulates that either its ultimate or intermediate holding company files consolidated financial statements with the Registrar which are in compliance with the applicable accounting standards. It is significant to observe that this clause does not speak about the requirement of the holding company presenting to its members the CFS but refers to the company fulfilling the requirement of filing the CFS with the Registrar.
We have endeavored above to glean the full import of the above amendment but have come a cropper in the endeavor as the new proviso confuses rather than clarifies.To be honest, the revised proviso is not a happy amalgam of words. By no means can a conclusion be drawn from the new proviso as is being incorrectly assumed in certain circles that unlisted holding companies do not have to present CFS. It is imperative that a rejoinder be issued by the MCA to clarify the position which will go a long way in clearing the cobwebs of doubt that have arisen in all quarters.
The other amendment which has been made in the above Rules is to Rule 8 in terms of which the holding company is required to stipulate in the Directors’ Report the highlights in the performance of subsidiaries , associates and joint venture companies and their contribution to the overall performance of the company during the period under report in substitution of the erstwhile requirements. Form No. AOC-1 has been revised to incorporate the revised requirements.
Conclusion
In the above discussion, we have endeavored to dissect the statutory provision, traced the genesis of CFS and pointed out what we believe is a flaw in the procedure presently being adopted by some companies where it comes to seeking approval of shareholders on the CFS. The need of the hour, however, is for the MCA to issue a rejoinder on the Notification dated July, 27, 2016.
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