Tuesday, October 15, 2013

COMPANIES ACT, 2013 - CORPORATE GOVERNANCE IN NEW DIRECTIONS

The Government of India has already notified 98 sections of the new Companies Act and has also announced draft rules in 1st phase as well as in 2nd phase on most of the chapters of Companies Act, 2013. It may be an interesting debate to examine certain issues having wider implications.

Appointment and Rotation of Auditors:

In terms of the revised law, auditors are to be appointed for a period of 5 years at a time, annual ratification to be undertaken by the shareholders. In case a company wish to retire or remove an auditor before a period of 5 years, an approval of Central Government will become necessary. The statement of ordinary business at the AGM, for the 4 intervening years will be "ratification of appointment" rather than "appointment" as ordinary business of an AGM, contained in Section 102 (erstwhile section 173). The auditors of all companies rather than one person company and small company having turnover of Rs 2 crore and above or capital of more than Rs 50 lakhs has to be
mandatory rotated. In case of individual auditors, the auditors need to retire mandatory after 5 years and in case of partnership firm of auditors, the audit firm has to mandatory retire on completion of 10 years. In view of this provision and the 3 year period being prescribed for implementing this provision, a large number of audit firms will retire after completing audit for the year ending 31st
March, 2016. The period already served as auditor will also be counted as per the draft rules. The draft rules have very important implication and to apply mandatory rotation to auditors, even in companies in which public is not substantially interested will not be appropriate. The rule makers should realise the principles laid down by the Honorable Justice Krishna Aiyer as a Supreme court judge that the distinction or classification need to meet the ultimate objective to sustain constitutional validity. The government has always justified rotation of auditors on the ground of public interest and rotation is proposed as a control mechanism of manipulation or fraud. The government need to consider to restrict rotation only to public limited listed companies and to companies beyond a large turnover say Rs 1000 crore or deposits or borrowings beyond Rs 100 crore.

Maximum Number of Audits:

Maximum number of audits which can be undertaken by a chartered accountant have been restricted to 20 companies other than one Person Company or company with paid up capital of Rs 50 lakhs or turnover less than Rs 2 crore. These limits require re-consideration.

Corporate Social Responsibility:

The initiative of mandatory spending of 2% of net profit by larger corporate on social initiative is a
welcome move. The rule making has diluted non utilization to only disclosure of the reasons for not
spending of money. This will not be enough to push corporate sector mind set. It is important to create a fund.

Mandatory Valuation:

Section 62 of the new Act require all preferential issue of shares (other than right issue or issue of shares under ESOP), to be undertaken at a price based on valuation report of a registered valuer. The Chartered Accountants and other professionals have been recognized to be registered as a valuer. This will bring a new direction to corporate governance including need for adherence to valuation standards issued by Institute of Chartered Accountants of India.

Public Co. - Private Co. Distinction:

The law makers have not taken adequate care while drafting the rules, to differentiate between public
company and private company. The rule brought in for loan by a private company to a related party or to a director and also restriction even on issuance of shares with differential rights are some of the
examples, where private limited companies will be subjected to tough regulation, same as are applicable to public limited companies. This list is long and will need a conceptual change in approach of Government.

Prescription of Rules

The government has announced rules even on sections which do not specifically empower the government to prescribe rules. Some of the rules have also even gone beyond powers delegated to the government, including certain rules are prescribing substantive law rather than procedure or disclosures, while certain rules are providing for exceptions of the law passed by the Parliament. The aforesaid exercise on the part of the government will be beyond legal powers of the government and will be struck down in terms of established principles of jurisprudence and our constitutional framework. We need to continue a debate in the profession and among industrial and business circles to achieve the objective of a better corporate culture and effective channelization of investment to corporate with reasonable checks and balances.

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