Following the enactment of Companies Act 2013, India Inc is worried about the prospect of an overly-regulated regime and the attendant scourge of corruption.
Costs without benefits
Positive measures such as the restriction on the services offered by a statutory auditor, restriction on the number of audits per audit partner, mandatory rotation of audit partner and firms, and rotation of independent directors will indeed help secure the independence of auditors and directors of listed and certain other companies.
Similarly, the appointment of a woman director by every listed company and other companies with a paid-up capital of Rs 100 crore or more could help infuse a fresh perspective into corporate management. At the same time, the 2013 Act is widely expected to significantly increase compliance costs without the corresponding benefits.
Directors of listed companies and auditors of every company have to confirm/ report the existence, adequacy and operating effectiveness of an internal financial control system. This could be viewed as an extension of the requirement under the amended Companies (Auditor’s) Report 2004 to make directors and auditors directly responsible.
The provisions related to internal financial control bear a striking resemblance to the Assessment of Important Financial Manual and Automated Controls under the US Public Company Accounting Reform and Investor Protection Act.
However, there is a stark contrast too, as the latter applies only to large publicly-listed companies while the former applies to the audit of every company. As the cost of testing such controls is disproportionately higher for smaller companies, the US Securities and Exchange Commission has exempted listed companies that are neither accelerated nor large accelerated filers.
Implementation of the provision in its current form would lead to chaos as there are no standards yet for auditing the existence and operating effectiveness of controls and the reporting obligations of auditors. The Ministry of Corporate Affairs needs to rethink and go in for phased implementation.
Evaluation of the Board
Under Section 134(3)(p) of the 2013 Act, the Board of every listed company and other public companies with paid-up capital of Rs 25 crore or more shall report the annual performance evaluation of individual directors, the Board and its committees.
This concept is not new, as many developed countries have successfully implemented it through rules such as ‘comply or explain’.
Individual and collective assessment of the Board is integral to the overall success of an organisation, as it assists the directors and the Board in fulfilling their responsibilities towards maximising stakeholders’ wealth. However, the 2013 Act and the draft rules released until now did not provide any guidance for such performance evaluation.
Thus, one might infer that rather than being prescriptive, the Ministry perhaps wants to offer Board members the flexibility to design the evaluation process.
In view of the large number of companies that are likely to be covered by this provision, it is strongly felt that risk profile and other relevant characteristics should have driven the applicability.
An effective performance evaluation involves significant ongoing effort and cost to drive the Board towards excellence, and many believe the cost may outweigh the benefits for many small companies.
Companies Act 2013 is undoubtedly a bold move on the Government’s part. However, the concerns are manifold, including increased cost of compliances and low utility of the outcome.
The author is a chartered accountant.