APPLICABILITY OF CARO,

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Audrey Merry McDowell
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1 CONTENTS 1 INTRODUCTION I Backdrop CARO, Effective Date Features of CARO, CARO, 2016 applicable to all companies unless specifically exempted CARO, 2016 not applicable to auditor s report on CFS Auditor required to report only on matters specified in Paras 3 and 4 of the Order as applicable to the company Requirements of CARO, 2016 are supplemental to the existing provisions of section 143 of the Act Distinction between CARO, 2016 and section 143(1) Supplemental to Comptroller and Auditor General Directions General Audit Approach to CARO, Period of compliance Investigation not required Working Papers Observe CARO, 2016 in letter and spirit CARO, 2016 is not restrictive of auditor s duties Exercise of judgment Avoid criticising management s actions based on hindsight 9 2 APPLICABILITY OF CARO, Effective date of CARO,

2 CONTENTS I Companies to which CARO, 2016 applies Applies to foreign company Applicability of CARO, 2016 to audit of branches of a company Exemption of companies from CARO, Company licensed to operate under section 8 of the Act Definition of One Person Company (OPC) Small Company Exemption to private limited companies from CARO, Not a holding Co. or a subsidiary of a public company Paid up capital plus reserves and surplus should not exceed ` 1 crore Total borrowings not exceeding ` 1 crore from any bank or Financial Institution [para 1(2)(iv)] Total revenue not exceeding ` 10 crore 29 3 FIXED ASSETS 3.1 Requirements of CARO, Interpretation of the requirements Proper records [Para 3(i)(a)] Quantitative details Location/Situation Physical verification [Para 3(i)(b)] Reasonable intervals Material Discrepancies [para 3(i)(b)] Audit Procedures - Auditor s Checklist Documentation/working papers to be maintained Sample drafts of comments under para 3(i)(a) and (b) Corporate Practices (Extracts from the Annual Reports of Companies) Auditor s duty under section 143(3)(i) - Existence, adequacy and operating effectiveness of internal financial controls Auditor s duty under section 143(3)(f) - Adverse effect on the functioning of the company 48

3 I-9 CONTENTS 3.9 Auditor s duty under section 143(3)(h) - Any qualification, reservation or adverse remark relating to accounts 48 4 TITLE DEEDS OF IMMOVABLE PROPERTIES 4.1 Requirements under CARO, Interpretation of requirements Whether para 3(i)(c) applies only to immovable properties included under the head fixed assets Immovable Property Title Deeds Audit procedures/audit checklist Documentation to be maintained Sample drafts of comments under para 3(i)(c) 54 5 INVENTORY 5.1 Requirements under CARO, Interpretation of requirements Physical verification by Management What about inventories held with third parties (e.g., consignees, customers on sale or return basis, bounded warehouses)? Is auditor to insist that management physically verify these also? Auditor s responsibilities with reference to physical stock-taking conducted by management Reasonable Intervals [para 3(ii)(a)] Material discrepancies noticed on physical verification A Audit Procedures - Auditor s Checklist Documentation - Working papers to be maintained Sample drafts of comments under para 3(ii) Corporate Practices (Extracts from the Annual Reports of Companies) A Auditor s duty under section 143(3)(i) - Existence, adequacy and operating effectiveness of internal financial controls Auditor s duty under section 143(3)(f) - Adverse effect on the functioning of the company 66

4 CONTENTS I Auditor s duty under section 143(3)(h) - Any qualification, reservation or adverse remark relating to accounts 66 6 LOANS TO PARTIES COVERED UNDER SECTION Requirements of para 3(iii) Loans Advances vis-a-vis loans Sale and repurchase transaction Interpretation of requirements Parties covered in register maintained under section Whether terms and conditions of loans are not prejudicial to the company s interest - Para 3(iii)(a) of CARO, Whether repayment schedule stipulated - Para 3(iii)(b), first limb Regularity of repayments or receipts - Para 3(iii)(b) Overdue Reasonable steps for recovery Audit Procedures - Auditor s checklist Working papers/documents to be retained Sample Drafts Corporate Practices (Extracts from the Annual Reports of Companies) Auditor s duty under section 143(3)(f) - Adverse effect on the functioning of the company 85 7 REPORTING ON COMPLIANCE WITH SECTIONS 185 AND 186 AS REGARDS LOANS, INVESTMENTS, GUARANTEES AND SECURITIES 7.1 Requirements under CARO, Interpretation of requirements Transactions exempted from section 185/186 and not required to be reported upon by auditor under Para 3(iv) 88

5 I-11 CONTENTS 7.3 Ban on loan to director or to any other person in whom director is interested [section 185] Any other person in whom he is interested Exception to the prohibition on loans/guarantees/ security Definition of loan Distinction between salary advance and loan Financial accommodation not amounting to loan Indirect loan Letter of comfort - Whether guarantee Loan and investment by company [Section 186] Making inter-corporate investments through investment companies [Section 186(1)] Investment company Restrictions on loans/investments transactions [Section 186(2)/(3)/(5)] Whether scope of section 186 not limited to intercorporate transactions? definition of loan Distinction between loans and deposits Directly or Indirectly Whether section 186 applies to section 8 companies limited by guarantee and having no share capital Whether section 186 is applicable to a company which is a subscriber to memorandum of association Whether provisions of section 186 applicable to investments in the shares of a new company Whether partners capital contribution in LLP is hit by section Whether loan to LLP hit by section 186? Disclosure of loans in financial statements [Section 186(4)] Benchmark lending rate for loans made by company [Section 186(7)] Companies defaulting on repayment of deposits barred from making loans, investments or giving guarantee/security [Section 186(8)] Register of loans, investments etc. [Section 186(9)/(10)] 102

6 CONTENTS I Restrictions on acceptance of inter-corporate deposits [Section 186(6)] Exemption from section 186 [Section 186(11)] Infrastructure facilities Power of Central Government to make Rules [Section 186(12)] Audit procedures Audit procedures for verifying compliance with section Audit procedures for verifying compliance with the provisions of section ACCEPTANCE OF PUBLIC DEPOSITS 8.1 Requirements of para 3(v) Interpretation of the requirements Acceptance of deposits Compliance with RBI Directives/section 73/ section 76/Rules Compliance with RBI Directives (Applicable to NBFC) Compliance with the Companies (Acceptance of Deposits) Rules, Compliance with Order of CLB/NCLT/any Court/ other Tribunal Audit Procedures - Auditor s Checklist Documentation - Working papers to be retained Sample Drafts of Comments under Para 3(v) 128 ANNEX 8.1 : Conditions for acceptance of deposits under section ANNEX 8.2 : Conditions for acceptance of deposits under section MAINTENANCE OF COST RECORDS 9.1 Requirements of para 3(vi) Interpretation of requirements If records not written up or incomplete Companies or classes of Companies obligated to maintain cost records as per prescribed Rules (Rule 3) Maintenance of records 158

7 I-13 CONTENTS 9.4 Whether Para 3(vi) would apply to companies for which cost audit has been ordered under section 148? Whether statutory auditor needs to conduct a detailed audit of cost records for the purposes of reporting under Para 3(vi) of CARO, 2016? Audit Procedures - Auditor s Checklist Documentation Audit - Working Papers to be retained Sample Drafts of Comments under Para 3(vi) Corporate practices (Extracts from the Annual Reports of Companies) PAYMENT/NON-PAYMENT OF STATUTORY DUES 10.1 Requirements of Para 3(vii) Interpretation of requirements Regularity in deposit of undisputed statutory dues [para 3(vii)(a)] Undisputed statutory dues Reporting the extent of arrears [para 3(vii)(a)] From the date they become payable Subsequent clearance Statement of Arrears of Statutory Dues Outstanding for More than Six Months Reporting of amount of disputed dues not deposited [para 3(vii)(b)] Audit procedures - Auditor s checklist Documentation - Working papers to be retained Sample drafts of comments under para 3(vii) Corporate practices (extracts from Annual Reports of Companies) Auditor s duty under section 143(3)(f) - Adverse effect on the functioning of the company DEFAULT IN REPAYMENT TO BANKS/FIs/ GOVT. DEBENTURE HOLDERS 11.1 Requirements of para 3(viii) 182

8 CONTENTS I Interpretation of requirements Borrowings, loans, dues Financial Institution Government Default Reporting on defaults Audit procedures - Auditor s checklist Documentation - Audit working papers to be retained Sample Drafts of Comments under para 3(viii) Corporate Practices (Extracts from the Annual Reports of Companies) Auditor s duty under section 143(3)(f) - Adverse effect on the functioning of the company END USE OF MONIES RAISED BY WAY OF IPO/FPO/TERM LOANS 12.1 Requirements of para 3(ix) Interpretation of requirements Term loans Initial Public Offer (IPO) Further Public Offer Temporary investment of term loan funds pending end-use Temporary investment of moneys raised by IPO/ FPO pending end use Audit Procedures - Auditor s Checklist Documentation - Working papers to be retained Sample drafts of comments under para 3(ix) Corporate Practices (Extracts from the Annual Reports of Companies) Auditor s duty under section 143(3)(f) - Adverse effect on the functioning of the company FRAUDS NOTICED/REPORTED 13.1 Requirement of para 3(xii) 196

9 I-15 CONTENTS Para 3(x) of CARO, 2016 vis-a-vis section 143(12) Concept of fraud Noticed or reported CARO, 2016 deals with fraud reporting and not fraud detection Audit Procedures - Auditor s Checklist Sample Drafts of Comments under para 3(xii) Corporate Practices (Extracts from the Annual Reports of Companies) Auditor s duty under section 143(3)(f) - Adverse effect on the functioning of the company Auditor s duty under section 143(3)(h) - Any qualification, reservation or adverse remark relating to accounts MANAGERIAL REMUNERATION 14.1 Requirements of para 3(xi) Interpretation of requirements Applicability of this requirement Managerial remuneration - Definition D&O Insurance premium paid by company not includible in managerial remuneration Sitting fees not exceeding the limit specified under section 197(5) is not includible Remuneration for services rendered by director in professional capacity not includible in managerial remuneration Perquisites not included in managerial remuneration Requirements of section managerial remuneration limits and approvals required for exceeding the limits Requirements of Part II of Schedule V as regards limits on Managerial Remuneration Remuneration payable by companies having profits Remuneration payable by companies having no profit or inadequate profit without Central Government approval [Section II of Part II of Schedule V] 215

10 CONTENTS I Remuneration payable by companies having no profit or inadequate profit without Central Government approval in certain special circumstances Remuneration payable to a managerial person in two companies Provisions Applicable to Parts I and II of Schedule V [Part III of Schedule V] Auditor s duty where payment of managerial remuneration is not in accordance with Section 197 and Schedule V REPORTING ON COMPLIANCES BY NIDHI COMPANY 15.1 Requirements of para 3(xii) Definition of Nidhi company Net owned funds to deposit liability ratio of 1: Definition of Net Owned Funds Unencumbered term deposits Documentation - Audit working papers to be retained Sample Drafts of comments under para 3(xii) Auditor s certificate as to compliance with Nidhi Rules, Audit procedures Distinction between reporting under Para 3(xii) of CARO, 2016 and certification under Rule RELATED PARTY TRANSACTIONS 16.1 Requirements of para 3(xiii) Definition of related party Requirements of section 188 as regards approvals for related party transactions Requirement of Audit Committee s approval under section Audit Procedures and Reporting 233

11 I-17 CONTENTS 17 PRIVATE PLACEMENT/PREFERENTIAL ALLOTMENT OF SHARES/FCDs/PCDs 17.1 Requirements of para 3(xiv) Interpretation of requirements of para 3(xiv) Requirements of section 42 regarding private placement Audit Procedures NON-CASH TRANSACTIONS INVOLVING DIRECTORS OR CONNECTED PERSONS 18.1 Requirements of para 3(xv) Interpretation of requirements of para 3(xv) Non-cash transaction Whether auditor to report on non-cash transactions entered into during preceding financial years? Requirements of section 192 of the Companies Act, Person connected with him Valuation of assets by registered valuer Audit procedures/checklist Is auditor required to make any adverse comment if there is adverse variance between deal price and registered valuer s valuation? Suggested paragraph on reporting non-compliance with section REGISTRATION OF NBFC UNDER SECTION 45-IA OF RBI ACT, Requirements of para 3(xvi) Interpretation of requirements of para 3(xvi) Non-Banking Financial Company Financial Institution NBFCs exempted by RBI from registration under Chapter III-B (i.e. under section 45-IA) Audit Procedures Sample audit comments under Para 3(xvi) 255

12 CONTENTS I-18 APPENDICES u COMPANIES (AUDITOR S REPORT) ORDER, u COMPANIES (AUDITOR S REPORT) ORDER, u COMPANIES (AUDITOR S REPORT) ORDER, u RELEVANT PROVISION OF COMPANIES ACT, u COMPANIES (ACCEPTANCE OF DEPOSITS) RULES, u NON-BANKING FINANCIAL COMPANIES ACCEPTANCE OF PUBLIC DEPOSITS (RESERVE BANK) DIRECTIONS,

ANNEXURE A TO THE INDEPENDENT AUDITOR S REPORT

ANNEXURE A TO THE INDEPENDENT AUDITOR S REPORT (Referred to in paragraph 1(f) under Report on Other Legal and Regulatory Requirements section of our report of even date to the Members of Tata Motors Limited)