Introduction
1. The Central Government, in exercise of the powers conferred, under sub-section (11) of section 143 of the Companies Act, 2013 (hereinafter referred to as "the Act"), issued the Companies (Auditor's Report) Order, 2020, (CARO 2020/ "the Order") vide Order number S.O. 849(E) dated 25th February 2020. CARO 2020 was initially applicable for audits of financial year 2019-20 and onwards. Subsequently, vide notifications dated 24th March 2020 and 17th December 2020, its applicability was deferred by one year each. Accordingly, CARO 2020 is applicable for audits of financial year 2021-22 and onwards. CARO 2020 contains certain matters on which the auditors of companies (except auditors of those categories of companies which are specifically exempted under the Order) have to make a statement in their audit reports. The text of the CARO 2020 is given in Appendix I to this Guidance Note.
2. This Order is in supersession of the earlier Order issued in 2016, viz., the Companies (Auditor's Report) Order, 2016 (CARO 2016). Appendix II to this Guidance Note contains a clause-by- clause comparison of the reporting requirements of the Order and the CARO 2016.
3. The purpose of this Guidance Note is to enable the auditors to comply with the reporting requirements of the Order. It should, however, be noted that the guidance contained in this Guidance Note is not intended to be exhaustive and the auditors should exercise their professional judgement and experience on various matters on which they are required to report under the Order.
Appendix III to this Guidance Note contains the definitions of important terms used in this Guidance Note. Appendix IV to this Guidance Note contains list of important sections/ rules/ regulations/ statutes referred to in this Guidance Note.
General Provisions Regarding Auditor's Report
4. The requirements of the Order are supplemental to the existing provisions of section 143 of the Act regarding the auditor's report. In this regard, the following points may be noted:
(i) the provisions of sub-sections (1), (2), & (3) of section 143 are applicable to all companies (other than clause (i) of sub- section (3)) while the Order exempts certain categories of companies from its application; and
(ii) the provisions of sub-section (1) of section 143 require the auditor to make certain specific inquiries during the course of his audit. The auditor is, however, not required to report on any of the matters specified in that sub-section unless he has any special comments to make on the said matters. In other words, if the auditor is satisfied with the results of his inquiries, he has no further duty to report that he is so satisfied. The Order, on the other hand, requires a statement on each of the matters specified therein, as applicable to the company.
5. Another question that arises is about the status of the Order vis-a-vis the directions given by the Comptroller and Auditor General of India under section 143(5) of the Act. In this regard, it may be noted that the Order is supplemental to the directions given by the Comptroller and Auditor General of India under section 143(5) of the Act in respect of government companies. These directions continue to be in force. Therefore, in respect of government companies, the matters specified in the Order will form part of the auditor's report submitted to the members and the replies to the aforesaid questionnaire issued by the Comptroller and Auditor General of India will be governed by the requirements of section 143(5) of the Act.
6. The Order is not intended to limit the duties and responsibilities of auditors but only requires a statement to be included in the audit report in respect of the matters specified therein.
Applicability of the Order
Companies Covered by the Order
7. The Order applies to all companies except certain categories of companies specifically exempted from the application of the Order.
8. The Order also applies to foreign companies as defined in clause (42) of section 2 of the Act. According to the aforesaid section, a "foreign company" means:
"Any company or body corporate incorporated outside India which -
(a) has a place of business in India whether by itself or through an agent, physically or through electronic mode; and
(b) conducts any business activity in India in any other manner."
9. In the case of a foreign company, wherever under any of the provisions of the Act, an audit of financial statements under Chapter X of the Act is required to be carried out, the Order would be applicable.
10. The Order is also applicable to the audits of branch(es) of a company since sub-section 8 of section 143 of the Act read with Rule 12 of the Companies (Audit and Auditors) Rules, 2014 clearly specifies that a branch auditor has the same duties in respect of audit as the company's auditor. It is, therefore, necessary that the report submitted by the branch auditor (including auditor of a foreign branch) contains a statement on all the matters specified in the Order, as applicable to the company, except where the company is exempt from the applicability of the Order, to enable the company's auditor to consider the same while complying with the provisions of the Order.
The Order is also applicable to the audits of project office / liaison office established by a company outside India, to whom the Order applies. In case the company has appointed separate auditors for the project office / liaison office, the auditor of the company should seek a report from the said auditors which contains a statement on all the matters specified in the Order, as applicable to the company, except where the company is exempt from the applicability of the Order.
Companies Not Covered by the Order
11. The Order provides that it shall not apply to:
(i) a banking company as defined in clause (c) of section 5 of the Banking Regulation Act, 1949;
(ii) an insurance company as defined under the Insurance Act, 1938;
(iii) a company licensed to operate under section 8 of the Act;
(iv) a one person company as defined under clause (62) of section 2 of the Act and a small company as defined under clause (85) of section 2 of the Act; and
(v) a private limited company, not being a subsidiary or holding company of a public company, having a paid-up capital and reserves and surplus not more than one crore rupees as on the balance sheet date and which does not have total borrowings exceeding one crore rupees from any bank or financial institution at any point of time during the financial year and which does not have a total revenue as disclosed in Schedule III to the Act, (including revenue from discontinuing operations) exceeding ten crores rupees during the financial year as per the financial statements.
12. The Order specifically exempts banking companies, insurance companies and companies which have been licensed to operate under section 8 of the Act. The Order also exempts one person company and a small company from its application. The applicability of the Order would be based on the status of the company as at the balance sheet date. It may also be noted that in case a company is covered under the definition of small company, it will remain exempted from the applicability of the Order even if it falls under any of the criteria specified for private company. It may be noted that with effect from April 1, 2021, the revised paid up capital and turnover thresholds for small companies1 are set out in notification number G.S.R 92(E) dated February 1, 2021 issued by the Ministry of Corporate Affairs. Auditors should ensure that they refer to the rules / regulations / notifications relevant to the year under audit for any subsequent changes to the aforementioned thresholds for small companies.
13. The specific exemption under the Order is given to companies licensed to operate under section 8 of the Act. However, it would appear that in view of the provisions of section 465 of the Act, the exemption would also extend to companies licensed to operate under section 25 of the Companies Act, 1956.
14. A private limited company, in order to be exempt from the applicability of the Order, must satisfy all the conditions mentioned above collectively. In other words, even if one of the conditions is not satisfied, the Order would be applicable to the company.
15. In case a company converts into limited liability partnership or partnership or to any other constitution (which is not governed by the Act) or converts to any constitution which is exempted from application of the Order, in that situation, the Order would not be applicable.
16. The Order will not be applicable to Infrastructure Investment Trusts and Real Estate Investment Trusts since they are trusts which are governed by Securities and Exchange Board of India (Infrastructure Investment Trusts) Regulations, 2014 and Securities and Exchange Board of India (Real Estate Investment Trusts) Regulations, 2014, respectively. However, the Order will be applicable to the companies in which these trusts have investment if such companies satisfy the applicability criteria prescribed in the Order. Accordingly, the Order is not applicable to the consolidated trust financial statements even though there are companies forming part of the consolidated trust financial statements which individually may have the Order applicable to them.
Private Limited Company
17. The term "private limited company", as used in the Order, should be construed to mean a company registered as a "private company" [as defined in clause (68) of section 2 of the Act].
Paid-up Capital and Reserves and Surplus
18. Clause (64) of section 2 of the Act defines the term "paid-up share capital" as such aggregate amount of money credited as paid-up as is equivalent to the amount received as paid up in respect of shares issued and also includes any amount credited as paid up in respect of shares of the company, but does not include any other amount received in respect of such shares, by whatever name called.
While calculating the paid-up capital, amount of calls unpaid should be deducted from and the amount originally paid-up on forfeited shares should be added to the figure of paid-up capital. In order to maintain consistency with the Schedule III (Division II) of the Act classification, share application money received should not be considered as part of the paid-up capital. Convertible instruments whether optionally or fully convertible should be considered in paid up share capital only once the actual shares are issued by the company.
The "Glossary of Terms Used in Financial Statements" issued by the Research Committee of ICAI defines the term "reserve" as, "the portion of earnings, receipts or other surplus of an enterprise (whether capital or revenue) appropriated by the management for a general or a specific purpose other than a provision for depreciation or diminution in the value of assets or for a known liability".
19. As per Schedule III (Division I) to the Act (Financial statements for a company whose financial statements are required to comply with the Companies (Accounting Standards) Rules, 2021), "Reserves & Surplus" consists of:-
• Capital Reserves;
• Capital Redemption Reserve;
• Securities Premium;
• Debenture Redemption Reserve;
• Revaluation Reserve;
• Share Options Outstanding Account;
• Other Reserves–(specify the nature and purpose of each reserve and the amount in respect thereof);
• Surplus i.e., balance in statement of profit and loss disclosing allocations and appropriations such as dividend, bonus shares and transfer to/from reserves etc.
(Debit balance of statement of profit and loss shall be shown as a negative figure under the head "Surplus".)
Reserves are primarily of two types–capital reserves and revenue reserves. According to the said Glossary of Terms, the term "capital reserve" means "a reserve of a corporate enterprise which is not available for distribution as dividend". The said Glossary of Terms defines the term "revenue reserve" as "any reserve other than capital reserve". For determining the applicability of the Order to a private limited company, both capital as well as revenue reserves should be taken into consideration while computing the limit of one crore rupees prescribed for paid-up capital and reserves & surplus. Revaluation reserve, if any, should also be taken into consideration while determining the figure of reserves for the limited purpose of determining the applicability of the Order. In case of debit balance of profit and loss, the same shall be netted for computing reserves & surplus.
20. In case of Schedule III (Division II) to the Act (Financial statements for a company whose financial statements are drawn up in compliance of the Companies (Indian Accounting Standards) Rules, 2015, the term "Reserve & Surplus" will consist of:-
- Capital Reserve;
- Securities Premium;
- Other Reserves–(specify the nature and purpose of each reserve and the amount in respect thereof);
- Retained earnings i.e., balance in statement of profit and loss.
Further, it is important to note that as per Division II of Schedule III to the Act, equity component of compound financial instruments, revaluation surplus, debt/equity instruments through other comprehensive income (OCI), effective portion of cash flow hedges, exchange differences on translating the financial statements of a foreign operation and other items of OCI are not considered to be part of reserve & surplus.
21. In case of Schedule III (Division III) to the Act (Financial statements for a non-banking financial company (NBFC) whose financial statements are drawn up in compliance of the Companies (Indian Accounting Standards) Rules, 2015, the term "Reserve & Surplus" will consist of:-
• Capital Reserve;
• Securities Premium;
• Other Reserves (specify nature);
• Retained Earnings; Borrowings
22. Borrowings from banks or financial institutions can be long term or short term and are normally in the form of term loans, demand loans, export credits, cash credits, overdraft facilities, bills purchased or discounted. Outstanding balances of such borrowings should be considered as borrowing outstanding for the purpose of computing the limit of one crore rupees. Non-fund based credit facilities, to the extent such facilities have devolved and have been converted into fund- based credit facilities, should also be considered as outstanding borrowings. The figures of outstanding borrowing would also include the amount of bank guarantees issued by the company where such guarantee(s) has been invoked and encashed or where, say, a letter of credit has been devolved on the company. In case of term loans, interest accrued and due is considered as a borrowing whereas interest accrued but not due is not considered as a borrowing. Further, in case the company enjoys a facility, say, a cash credit facility, whose balance is fluctuating in nature, the Order would apply to the company in case on any day during the financial year concerned, the amount outstanding in the cash credit facility along with other borrowings as per books of the company exceeds one crore rupees. The condition laid down in the Order is that the private company does not have total borrowing exceeding one crore rupees from any bank or financial institution at any point of time during the financial year. There is no stipulation in the Order that the borrowing should be a long- term borrowing or a short-term borrowing or that it should be a secured borrowing or an unsecured borrowing. Further, the condition would also apply notwithstanding the fact that the company has been granted an overdraft facility against, say, fixed deposits, of the company with the concerned bank. Current maturity of long term borrowings will also form part of borrowings. Moreover, outstanding dues in respect of credit cards would also be considered while calculating the limit of one crore rupees; in respect of borrowings outstanding from a bank or financial institution. It is clarified that since the words used by the Order are 'any bank or financial institution', the limit of "exceeding one crore rupees" would apply in aggregate to all borrowings and not with reference to each bank or financial institution. The aggregate borrowings disclosed in the financial statements would need to be considered based on applicable generally accepted accounting principles in India (Ind AS/AS).
Financial Institution
23. Clause (39) of section 2 of the Act defines the term "financial institution" to include a scheduled bank, and any other financial institution defined or notified under the Reserve Bank of India Act, 1934". The term financial institution has been defined under clause (c) of Section 45I of the Reserve Bank of India (RBI) Act, 1934, as under:-
"Section 45I(c): ''financial institution'' means any non-banking institution which carries on as its business or part of its business any of the following activities, namely:–
(i) the financing, whether by way of making loans or advances or otherwise, of any activity other than its own;
(ii) the acquisition of shares, stock, bonds, debentures or securities issued by a Government or local authority or other marketable securities of a like nature;
(iii) letting or delivering of any goods to a hirer under a hire- purchase agreement as defined in clause (c) of section 2 of the Hire-Purchase Act, 1972;
(iv) the carrying on of any class of insurance business;
(v) managing, conducting or supervising, as foreman, agent or in any other capacity, of chits or kuries as defined in any law which is for the time being in force in any State, or any business, which is similar thereto;
(vi) collecting, for any purpose or under any scheme or arrangement by whatever name called, monies in lumpsum or otherwise, by way of subscriptions or by sale of units, or other instruments or in any other manner and awarding prizes or gifts, whether in cash or kind, or disbursing monies in any other way, to persons from whom monies are collected or to any other person,
but does not include any institution, which carries on as its principal business,–
(a) agricultural operations; or (aa) industrial activity; or
(b) the purchase or sale of any goods (other than securities) or the providing of any services; or
(c) the purchase, construction or sale of immovable property, so however, that no portion of the income of the institution is derived from the financing of purchases, constructions or sales of immovable property by other persons;
Explanation – For the purposes of this clause, ''industrial activity'' means any activity specified in sub-clauses (i) to (xviii) of clause (c) of section 2 of the Industrial Development Bank of India Act, 1964;
Further ''non-banking institution'' has been defined under clause
(e) of Section 45I of RBI Act 1934 as under:-
Section 45I(e): ''non-banking institution'' means a company, corporation or cooperative society.
Further, the term "financial institution" is also referred to in the context of the definition of a non-banking financial company as defined by RBI Act, 1934. The term ''non-banking financial company'' has been defined under clause (f) of Section 45I of RBI Act 1934 as under:-
"Section 45I(f) ''non-banking financial company'' means–
(i) a financial institution which is a company;
(ii) a non-banking institution which is a company and which has as its principal business the receiving of deposits, under any scheme or arrangement or in any other manner, or lending in any manner;
(iii) such other non-banking institution or class of such institutions, as the Bank may, with the previous approval of the Central Government and by notification in the Official Gazette, specify;"
Accordingly, the term "financial institution" shall also cover a non- banking financial company (NBFC). Further, private banks or foreign banks are banking institutions under the Banking Regulation Act, 1949. Therefore, loans taken from a private bank or a foreign bank would also be taken into consideration while examining the applicability of the Order.
Revenue
24. The term, "revenue", for the purpose of this Order shall be total income disclosed in Schedule III to the Act. Accordingly, the total income would include revenue from operations and other income as per Schedule III. Revenue will also include revenue from discontinuing operations as specified in the Order.
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