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Companies must update accounting processes, systems: Sudhir Soni
FINANCIAL REPORTING
The Ministry of Corporate Affairs (MCA) recently notified number of sections and rules of the Companies Act 2013 (Act) and appointed April 1, 2014, as the date on which the same shall come into force. While India Inc is gearing up to comply with the new regulation, it also juggles with the complexities involved in implementation of changes to financial reporting and the requirement to rotate auditors.
The provisions relating to financial reporting will facilitate the introduction of accounting standards that converge with International Financial Reporting Standards (IFRS). The requirements to prepare consolidated financial statements (CFS), changes to depreciation rates and certain transitional issues arising out of a later implementation of IND AS (the Indian standards converged with IFRS), are being evaluated by companies.
At present, unlisted companies are not required to prepare CFS. Under the Act, all companies, including private ones, having a subsidiary, associate or joint venture, need to prepare CFS and also get it audited and adopted by shareholders annually. This calls for updating accounting processes and systems.
The rules on mandatory audit firm rotation (awaited at the time of going to press), will prescribe in addition to listed companies, the other companies that are required to rotate auditors. Audit committees are beginning to discuss the implications of these requirements and the timing and preparation that may be required for transition to a new audit firm, within the prescribed period of three years.
Further, in view of qualification criteria, restriction on business relationships and non-audit services, companies and audit firms need to prepare for these compliances also when considering rotation.
Sudhir Soni
Partner in a member firm of Ernst & Young Global
Partner in a member firm of Ernst & Young Global
BOARD COMPOSITION
Come April 1, listed companies will need to ensure that their independent directors meet the stricter definition of independence under the 2013 Act. They must ensure there are no pecuniary relationships with the directors and the business relationships with the directors' relatives and firms/companies are within the prescribed limit. This may pose practical challenges for corporates in continuing their association. Unlisted public companies meeting certain thresholds will now need to have independent directors, audit committee and nomination and remuneration committee. Multinational companies will also need to have at least one resident director, while listed and certain public companies will need a woman director.
These re-constituted boards also come with duties codified in the 2013 Act - they are answerable not just to shareholders but to wide range of stakeholders from employees, the community and the protection of environment - a tough balancing act indeed. Board members would need to demonstrate that they acted diligently - there will be significant emphasis on documentation in order to protect their interests. Listed companies and certain public companies will also now need to carry out an annual evaluation of the board, its committees and individual directors.
All these changes come in a regime of severe monetary penalties and in certain cases, even imprisonment, which will get directors to actively re-evaluate their continuation on boards of companies. In order to ensure that directors have adequate bandwidth to deal with their enlarged responsibilities, both the 2013 Act and Securities and Exchange Borad of India (Sebi) has put a cap on number of directorships. All of these will result in a significant demand supply mismatch in the short-to-medium term till the organisations and the environment matures and all these requirements become business as usual. It is imperative that India Inc overcomes these challenges and support the underlying objective of the Act of raising the bar on governance.
Sai Venkateshwaran
Partner and Head - Accounting Advisory Services, KPMG India
Partner and Head - Accounting Advisory Services, KPMG India
Balance governance with confidentiality: Vijaya Sampath
RELATED PARTY TRANSACTIONS
One of the key principles of good governance is the manner in which a company enters into commercial arrangements with its related parties. The definition of "related party" is very wide and includes directors, key managerial personnel, their relatives (spouse, siblings, children and their spouses), holding, subsidiary and associate companies.
Transactions that are in the ordinary course of business and on arm's length basis are exempt from the requirements of approval by the board and/or shareholders. Threshold limits ranging from 25 per cent to one per cent of net worth have been prescribed in the rules for transactions that require the prior approval of shareholders by special resolution in which the person who is a related party cannot participate.
Other than exempt transactions, all arrangements for supply of goods and services, directly or through agents, leasing and disposal of property, underwriting arrangements for securities, appointment to an office require board approval. The agenda has to set out in detail all information including proper justification for the arrangement. If the threshold limits are reached, prior approval of shareholders by special resolution is required.
Further, a register containing details of all such related party transactions is required to be maintained and more importantly, a member is eligible to obtain an extract on payment of a nominal fee.
The rules provide some relief for companies that have large related party transactions with their parent since the threshold limits are set at 25 per cent of net worth for goods and services, and 10 per cent for property. But there would be no quorum at shareholder's meetings for wholly-owned subsidiaries, since the only member will be a related party. Prior approval by shareholders may delay transactions and minority shareholders will become quite powerful since they will now decide the fate of such transactions and can even deter mergers/ de-mergers of subsidiaries with parents.
While full disclosure for governance is understood, it needs to be balanced with confidentiality for competitive intelligence.
Vijaya Sampath
Senior Partner, Lakshmi Kumaran & Sridharan
The author is Ombudsperson for Bharti Group
Senior Partner, Lakshmi Kumaran & Sridharan
The author is Ombudsperson for Bharti Group
COMPLIANCE OVERKILL
There is a very strong thrust on minority protection, disclosure and corporate governance. While all of these are laudable objectives, the Companies Act 2013 seems to have gone overboard. In several aspects, it has resulted into legislating for the small percentage which needs strong oversight but causing significant issues for the rest. One can do no better than to quote a very telling sentence in the ministry's own report dated September 2013 on reforming regulatory environment in India - the first sentence of the preface says: if you have a hammer, everything looks like a nail, and that seems to be the issue.
The focus of this piece is in relation to key challenges to compliance issues which have surfaced as a result of the thrust of the Companies Act outlined above.
For example, in relation to directors, especially independent directors, the issue is extremely worrisome: it is almost as if independent directors are running the company on a day-to-day basis, and the number of issues they are supposed to look at is sweeping, to put it mildly. Related party transactions, which anyway have a large number of commercial fetters, tax issues, board oversight, etc, now have other ring fences. This casts a huge compliance burden on the company. Similarly, consolidation of accounts, even for closely-held companies, is going to be a significant challenge.
One does hope that the government (whichever it is after the elections) looks at the practical reality and makes adequate changes, even if the law has to be amended to make life less difficult for corporate India.
Ketan Dalal
Jt Leader, Tax and Regulatory Services PricewaterhouseCoopers
Jt Leader, Tax and Regulatory Services PricewaterhouseCoopers
CORPORATE SOCIAL RESPONSIBILITY
Incorporating social responsibility in the corporate legislation is invariably the most phenomenal reform the Companies Act 2013 aspires to bring about.
However, to comply with the legislation in letter and spirit, there are still some aspects of the legislation that need more clarity.
For example, consider Indian companies which grew over time to become large multinational groups or large multinational groups with Indian operations. While these large conglomerates may already be sponsoring significant corporate social responsibility (CSR) initiatives in India, at present the funds may be allocated by the parent company by virtue of a centralised group policy. Such Indian corporates will now have to realign their internal CSR organisation to make the fund allocation from the Indian companies to meet the requirement of the new legislation.
Further, the Indian corporates have to re-focus their CSR efforts to the exclusive list of activities prescribed in the new legislation. Additionally, while the new legislation provides that a company cannot choose a project which also supports its business object, it is not clear that if, say, a fast-moving consumer goods company distributes its own products free of cost, whether will that be considered as eligible CSR expenditure.
Similarly, if a company puts its employees to community work as part of its CSR activities, it is not clear whether cost of such personnel time can be deemed to be an eligible CSR expenditure.
It is also not clear whether the expenditure incurred by a company for its CSR activities will be considered a deductible for tax purposes. If the tax revenue department takes a view that that such expenditure is not in the normal course of business, India Inc might see that as an unfair burden. Further, the net profit threshold of Rs 5 crore may also cover SME companies which will make it even all the more competitive for such companies.
Yogesh Sharma
Partner, Assurance, Grant Thornton India LLP
Partner, Assurance, Grant Thornton India LLP
