Statutory Framework on Internal Audit

Overview of Companies Act, 2013:

• The long-awaited Companies Bill 2013 got its assent in the Lok Sabha on 18 December 2012 and in the Rajya Sabha on 8 August 2013. After having obtained the assent of the President of India on 29 August 2013, it has now become the much awaited Companies Act, 2013 (2013 Act). The ACT has 470 Sections as against 658 Sections in the existing Companies Act,1956.• The entire is divided into 29 chapters and contains 7 schedules.

• The Bill, amongst other aspects provides for business friendly corporate regulation / pro-business initiatives, e-governance initiatives, good corporate governance, Corporate Social Responsibility (CSR),enhanced disclosure norms, enhanced accountability of management, stricter enforcement, audit accountability, protection for minority shareholders, investor protection and activism and better framework for insolvencyregulation and institutional structure. Also, many new concepts such as one-person company, small companies, dormant company, class action suits, registered valuers and corporate social responsibility have been included.

Types of Audit under Companies Act, 2013

Statutory Audit

Internal Audit

Secretarial Audit

Cost Audit

Internal Audit under Companies Act, 2013

1. Internal Audit under section 138 of the Act

2. Audit Committee under section 177 of the Act

1. Section 138 of the Act:

Section 138 contains provisions regarding Internal Audit. The provisions contained in the Act are as under:-

Certain classes or class of companies as may be prescribed shall appoint an Internal Auditor who will conduct an audit of the functions and activities of the company and make a report thereon to the Board of Directors.

Any Chartered Accountant (except Statutory auditor of the company or cost Accountant) or other professional as may be decided by the Board, can be appointed to conduct the Internal Audit.

Manner and frequency of conducting the audit will be prescribed.

According to Rule 13 of The Company (Accounts) Rules 2014 following class or classes of companies shall be required to appoint an Internal Auditor, viz.,:

1)       Every listed company2)      Every unlisted public company having -

(i) Paid up share capital Rs. 50 crores or more during the preceding financial year, or

(ii) Turnover of Rs. 200 crores or more during the preceding financial year, or

(iii)Outstanding loans or borrowings from banks or financial institutions exceeding Rs. 100 crores or more at any time during the preceding financial year: or

(iv)Outstanding deposits of 25 crore rupees or more at any time during the financial year.

3) Every private company having –

(v) Turnover of Rs. 200 crores or more during the preceding financial year, or

(vi)Outstanding loans or borrowings from banks or financial institutions exceeding Rs. 100 crores or more at any time during the preceding financial year: or

• Provided that an existing company covered under any of the above criteria shall comply with the requirements of section 138 and this rule within six months of commencement of such section.

Explanation.- For the purposes of this rule –(i) the internal auditor may or may not be an employee of

the company;(ii) the term “Chartered Accountant” shall mean a Chartered Accountant whether engaged in practice or not.

The Audit Committee of the company or the Board shall, in consultation with the Internal Auditor, formulate the scope, functioning, periodicity and methodology for conducting the internal audit.

2. Audit Committee under Section 177 of the Act:

• The BOD of every listed company and such other class or classes of companies, as may be prescribed, shall constitute an Audit Committee.

• The audit committee shall consist of minimum of three directors with Independent directors forming a majority.

• Every committee shall act in accordance with the term of reference specified in writing by the Board which shall include – auditor’s independence and performance and effectiveness of audit process, examination of the financial statement and auditors’ report thereon , evaluation of internal financial controls, approval or any subsequent modification of transactions with related parties, scrutiny of inter-corporate loans and monitoring end use of funds raised through public offers among other things.

• The auditors of a company and the key managerial personnel shall have a right to be heard in the meetings but shall not have the right to vote.

• The company shall establish a vigil mechanism for directors and employees to report genuine concerns and also make provision for direct access to the Chairperson of the Committee in appropriate or exceptional cases.

Under the old Companies Act, 1956, Audit Committee was governed under section 292 A. A comparative analysis of Audit Committee under New Companies Act and Old Act is given below:-

Particulars

Provisions under section 177 of the Comp. Act, 2013

Provisions under section 292A of Comp. Act, 1956

Formation Companies which are required to Constitute Audit Committee: S.177 and Draft Rules 12.4: a) Every listed company; andb) Every other public company-i)       having paid-up capital of Rs.100 Crores or more; orii) which have, in aggregate, outstanding loans or borrowings or debentures or deposits exceeding Rs.200 Crores shall constitute an Audit Committee.

Every public company having paid-up capital of not less than five crores of rupees shall constitute a committee of the Board known as "Audit Committee.

Vigil Mechanism

The company shall establish a vigil mechanism for directors and employees to report genuine concerns.

No such vigil mechanism was required.

Particulars Provisions under section 177 of the Comp. Act, 2013

Provisions under section 292A of Comp. Act, 1956

Composition

The Audit Committee shall consist of a minimum of 3 directors with independent directors forming a majority.

The audit committee shall consist of minimum 3 directors of which 2/3rd shall be directors other than M.D. or other directors.

Financial Literacy

Majority of members of Audit Committee including its Chairperson shall be persons with ability to read and understand the financial statement.

No such provision was there. However, Listing agreement provided for the same.

Evaluation of performance

All the Companies should describe the manner of evaluating the performance of Board, Committees and Directors

N.A.

Listing Agreement:

All listed Companies shall constitute a Committee of Directors to be

known as “Audit Committee of Directors” to look into accounting, financial and audit aspects of a Company.

The Audit Committee shall mandatory review the following information:--

a. Management discussion and analysis of financial condition and results of operations.

b. Statement of significant related party transactions (as defined by the Audit Committee), submitted by management.

c. Management letters/letters of internal control weaknesses issued by the statutory auditors.

d. Internal audit reports relating to internal control weaknesses, and

e. The appointment, removal and terms of remuneration of the Chief Internal Auditor shall be subject to review by the Audit Committee.

Other Audits

1. Statutory Audit

Sections 139 to 147 under Chapter X of the Act contain provisions regarding audit and auditors.

• Section 139 contains that at the first general meeting every company shall appoint an individual or firm as auditor who shall hold office from the conclusion of that meeting till the conclusion of the sixth annual general meeting and thereafter till the conclusion of every sixth meeting provided his re - appointment is approved by the members in the meeting.

• Section 139(2) provides for compulsory rotation of individual auditors in every 5 years and of audit firm every 10 years in listed company or class or classes of companies as may be prescribed.

Class or Classes of Companies: As per rule 5 of Companies (Audit and Auditors) Rules, 2014, the same include following:-1. All unlisted companies having paid up share capital of Rs. 10

crores or more;2. All private companies having paid up capital of Rs. 20 crores

or more;

3. All companies having paid up share capital of below threshold limit mentioned in (1) and (2) above, but having public borrowings from financial institutions, banks or public deposits of Rs. 50 crores or more.

• Section 141 specifies a person shall be eligible for appointment only if he is a chartered accountant and in case of a firm whereof majority of partners practising in India are qualified for appointment may be appointed by its firm name to be auditor of a company.

• Section 143 contains provisions regarding powers and duties of auditors which corresponds to Section 227, 228 and 619 of the Companies Act, 1956.

• The auditor must state besides other things, whether the financial statements represent a true and fair view of the state of affairs and in case he suspects any fraud, he must immediately report the same to the Central government.

2. Internal Audit

• As given above

3. Secretarial Audit

Section 204 of the Act, specifies every listed company and other class of companies as may be prescribed is required to annex to the Board’s report, a Secretarial Audit.

Secretarial Audit has to be conducted by a Practising Company Secretary in respect of the secretarial and other records of the company.

The Board is required to provide explanation in the board’s report to every qualification, observation or other adverse remark made by the company in his report.

4. Cost Audit

Section 148 of the Act contains the provisions regarding the cost audit and contains that a cost audit wherever conducted is in addition to statutory audit conducted under section 143.

Certain class of companies engaged in the production of such goods or providing such services as may be prescribed and which have a net worth or turnover of such amount as may be prescribed may be directed to get their cost audit records audited.

Cost Audit has to be conducted by a Cost Accountant in Practice who is required to comply with cost auditing standards.

Cost auditor has to submit his report to the board of Directors who in turn shall file it with the Central government within 30 days of the report.

As per Section 143 (14), the provisions regarding qualifications, rights, duties and obligations applicable to statutory auditors shall apply mutatis mutandis to Cost auditor (Section 148) and Secretarial auditor ( Section 204).

Summary of Above Provisions:Nature of Requirements

Statutory audit

Internal Audit

Secretarial Audit Cost Audit

Applicability All companies Such classes as may be prescribed

Every listed company and other class of companies as may be prescribed

Such classes of companies engaged in production of such goods or providing such companies as may be prescribed which have a net worth or turnover as may be prescribed .

Who can conduct the audit

A CA or a firm of CA

A CA (except statutory auditor of the company) or such other professional as may be decided by the board.

A CS in practice A CWA in practice.

Nature of Requirements

Statutory Audit

Internal Audit

Secretarial Audit Cost Audit

Scope of audit Audit of financial records and statements of the company.

Audit of the functions and activities of the company.

Audit of the Secretarial and other related records of the company.

Audit of the cost records of the company.

Standards to be complied

Auditing standards as recommended by the ICAI.

NA NA Cost auditing standards issued by ICWAI.

Frequency of audit Yearly. To be prescribed

Yearly. Yearly.

Reports to be made Members Board of Directors

Members Board of Directors

Nature of Requirements

Statutory audit Internal Audit

Secretarial Audit

Cost Audit

Penal Provisions

1.Company:Fine Rs. 25,000/- toRs. 5,00,000/-

2. Officer in default:Fine Rs. 10,000 to Rs. 1,00,000/- or Imprisonment upto 1 year or both

3. Statutory Auditor:Fine Rs. 25,000/- toRs. 5,00,000/-

4. Wilful contravention

Imprisonment upto 1 year and Fine Rs. 1,00,000/- toRs. 25,00,000/-

Not prescribed

1. Company, officer in default and company secretary:Fine Rs. 1,00,000/- to Rs. 5,00,000/-

1.Company:Fine Rs. 25,000/- toRs. 5,00,000/-

2. Officer in default:Fine Rs. 10,000 to Rs. 1,00,000/- or Imprisonment upto 1 year or both

3. Cost Auditor:Fine Rs. 25,000/- toRs. 5,00,000/-

4. Wilful contravention

Imprisonment upto 1 year and Fine Rs. 1,00,000/- toRs. 25,00,000/-

Duty to report fraud – If any auditor, cost accountant or company secretary in practice does not comply with the provisions regarding reporting to Central Government in case of suspected fraud he shall be punishable with fine which shall not be less than Rs. 1,00,000 but which may extend to Rs. 25,00,000/-.

Thank YouPrepared by:

CA Shri Jignesh Mehta.B. COM, ACA & LCS.