CARO: Audit reporting requirements under CARO 2016

The Ministry of Corporate Affairs (MCA) has issued the Companies (Auditor’s Report) Order, 2016 (CARO 2016), on 29th March 2016. It replaces CARO 2015. Thereby, every report made by the auditor u/s 143 of the Companies Act (CA) 2013, comes under CARO. Whether they have been made before or after 1st April 2015.

MCA wanted specific important matters to be reported in the financial statements of certain companies. According to CARO Applicability 2016, these matters must form a part of the Auditor's Report. You can find the list u/s 143 of the CA 2013. Accordingly, the auditor has to undertake all the necessary inspections and verifications of these points and then report.

What is Audit?

An audit is an objective examination and evaluation of the financial statements of the company. This is performed so that the records are fair. That the transactions actually took place. And that the transactions have been accurately represented. The audit can be conducted internally or externally. That is, an auditor can get hired by the company or the company can hire another firm on a contract basis.

This ensures that the financial statements and non-financial disclosures represent a true and fair view of the concern. It also makes certain that the books are properly maintained by the provisions of law.

Who is an Auditor?

The auditor is the person or the firm hired by the company to perform its audit. Whether they are internal or external. He has the qualifications and the training to review the accounting data. He needs to verify that the data provided corresponds, accurately, to the activities of the company. After auditing, he has to write a report explaining the level of accuracy and clarity of the accounting by that company.

For example, if all accounting entries are reflected in the books (such as the general ledger). And all data appearing in the records match with the course of business in the company. That means the audit will have shown no misstatements.

Under Section 139, every company has to appoint an auditor, during its first Annual General Meeting (AGM). This auditor shall hold the office for a duration of 5-years. CARO Applicability provides that the financial statement must be accompanied by the Auditor’s Report. At first, these statements must be approved by the Board of Directors.

CARO Applicability 2016

CARO 2016 is applicable to a certain class of companies. This categorization is based on activity, constitution, or the class of companies. CARO is applicable to Foreign Companies also.

However, there are some companies for which the auditors do not need to comply with CARO. These are:

• Insurance Companies, coming under the Insurance Act 1938,
• Banking Companies u/s 5(c) of the Banking Regulation Act, 1949,
• Section 8 Companies under Section 8 of the CA 2013,
• One Person Companies or OPC Registration done under Section 2(62) of the CA 2013,
• Small Companies defined u/s 2(85) of the CA 2013,
• A Private Company that satisfies the following conditions:

1. It is neither a subsidiary nor a holding of a public company,
2. It’s Paid-up Capital and Reserves and Surplus do not exceed Rs. 1 Crore as on last Balance Sheet date,
3. Its Total Borrowings from Banks and other Financial Institutions is not over Rs. 1 Crore at any time during the financial year,
4. Its Total Revenue for the FY does not exceed Rs. 10 Crore. The Revenue generated from some discontinued operations must be included here.

Besides the above-listed companies, CARO applicability does not include the Auditor’s Report on Consolidated Financial Statements.

What are the matters under CARO Applicability?

The matters that are to be included by the Auditor in his Report, have been specified under the Para 3 & 4. They have been explained in detail below.

(1) Fixed Assets

• Whether proper records about the fixed assets have been maintained? This is, generally, done by keeping a separate Fixed Assets Register.
• Do the Registers show full particulars, along with the complete details of the quantity and condition of the fixed asset?
• Whether physical verification is undertaken by the management?
• Is this verification taken regularly enough?
• Is the condition of the asset same in Register and Actual?
• What measures are adopted in case some difference is found at the time?
• How the discrepancies are addressed?
• Are the Title Deeds of Fixed Assets held in the name of the Company?
• If not, is the detail mentioned clearly?

(2) Inventory

• Whether records of purchase, operations and outwards of the Inventory has been properly maintained?
• Physical verification of the Inventory, maintenance of its records need to be ensured by the Auditor. Does the company have a well-documented programme for it?
• What is the frequency of this verification? Is it reasonable enough?
• Were any variation noticed? If yes, how was it corrected in the Records?

(3) Loans to Related Parties

• Has the Company granted a loan to some other Firm/LLP/other parties stated u/s 189 of the CA 2013? Whether such loans are secured or unsecured?
• If yes, is the terms & conditions of the granting hampering the interest of the Company?
• Is the grant of the loan, its amount, the interest rate being charged well justified?
• Are the terms & conditions similar to those loans granted to unrelated parties?
• What is the schedule of repayment? Whether it be the principal amount or interest.
• Is the schedule as stipulated in the terms/conditions, reasonable?
• Are the parties paying on a regular basis?
• Is the repayment schedule being met with?
• What is the overdue amount, if any?
• Duration for which the amount has been overdue?
• Has there been any amount overdue for more than 90 days? This has to be specified separately.
• What steps have been taken to recover the overdue amount?
• Are the measures reasonably sound?

(4) Loan to Directors

Section 185 of the Companies Act 2013 covers the Provisions governing loans, guarantees, and security, in case of Companies. For CARO Applicability, the Auditor needs to include in his Report:

• Whether all these Provisions have been met with?
• If not, what are the details concerning them?
• Has a loan been granted to any Director or a person in whom a Director may have interest? This is restricted u/s 185. Violation of these rules is punishable by law. But there have been a few exceptions provided.

1. The terms of the loan being granted to the Director. It must be the same as if granted to all other employees.
2. The loan has to be approved by the Shareholders during a Special Resolution Board Meeting.
3. The Rate of Interest being charged must not be lower than the Bank Rate declared by the RBI. This Provision is specific to those companies that are in the business of lending.

• Are the minutes of the Special Resolution Meeting kept?
• Any differences from the shareholders well-recorded?
• Is a well-documented employee loan scheme in place?

(5) Investments by the Company

Investments made by the company come under the purview of Section 186 of the Companies Act 2013. Any investments made by the company with more than 2-layers of investments have been restricted. It simply means that the investee company doesn't invest in another investee company which invests in another, and so on. This Section imposes the limit on the loan, guarantee or security being provided by the company, beyond a certain amount. The Auditor has to check:

• Has the limit of loan or investment been maintained by the company?
• If yes, was proper authorization obtained?
• Was a Board meeting held for the purpose?
• Did the Special Resolution got cleared unanimously? Have the records been kept?
• Did the Company File ROC Compliance? Both before and after the meeting was held.
• Has the company previously defaulted on repaying any loan?
• If yes, has the company taken permission from the Financial Institutions in question? This is a mandatory requirement of the law.
• Check if the Rate of Interest of such investment is lower than the prevailing rate on Government Securities.
• Has the transaction been properly disclosed in the Accounts?

(6) Deposits

The Relevant Provisions have been stated under Section 73-76 of the CA 2013. Coupled with the Directives from the RBI.

• Have such Rules & Regulations complied with?
• If not, the reason has been thoroughly disclosed in the books or not?
• Any related order by CLB (Company Law Board), NCLT (National Company Law Tribunal) or RBI has complied with or not?

(7) Cost Records

The Auditor must check whether the Company is maintaining the required Cost Records. The manner has been prescribed under Section 148(1) of the CA 2013.

• Whether or not such accounts and records have been maintained?

(8) Dues of the Company

The Dues of a Company is a very wide term. It doesn't only consist of loans and borrowings. It may also include PF( Provident Fund), ESI (Employee State Insurance), Income Tax, Sales Tax, GST, Service Tax, Customs Duty, Excise Duty, VAT (Value Added Tax), Cess or any other Statutory Dues with the appropriate authorities.

• Whether the Company is regular in depositing the Dues?
• Has there been a Default?
• Has the default been committed by the Company?
• If yes, what is the arrear amount?
• What was the date of payment? The Auditor's Report must state if the date of their payment was more than 6 months ago.
• Are the records supported with proper challans and other proof of payments?
• If the reason for not depositing has been due to some dispute. Is the Dispute, the Amount involved and the Forum where the Dispute is pending has been properly mentioned? The supporting documents must have copies of appeal filed.

(9) Default in Loan Repayment

• Has the Company defaulted in repayment of loans or borrowing to a financial institution, bank, Government or dues to debenture holders?
• If yes, is it sufficiently recorded in the books?
• Whether the Period and the Amount of Default has been reported?
• Have the details about the lenders provided?

(10) Utilization of Capital Raised

• For the money raised by an Initial or Further Public Offer. Or Debentures, Debt Instruments and Term Loans. Has it been applied to the same purpose for which it was raised?
• If not, do the Records contain thorough details regarding the delays or default and subsequent rectification?
• Is the Delay or Default well-justified?
• Whether proper permission from Shareholders, Debenture-holders, or Banks etc. was obtained?
• What about the money that becomes repayable due to the default of the company?

(11) Frauds

• Whether any fraud has been noticed or reported? It may be a fraud on the Company by its officers/employees. Or it may be a fraud committed by the Company.
• Has it been properly reported?
• Is Nature and the Amount involved indicated in the Records?

If in some case, the Auditor comes across a major fraud, during auditing. Particularly when the management or those responsible for proper governance are involved. He should consider withdrawing after properly documenting the reasons for withdrawal. And involve legal authorities.

(12) Managerial Remuneration

• Has managerial remuneration been paid?
• Is it in accordance with the approval required by Section 197 and Schedule V of the CA 2013?
• If limits are crossed, did the Shareholders approve?
• Has the permission of the Central Government been sought?
• If not, has the amount been properly recorded?
• What are the steps taken by the company for securing a refund of the same?
• If, in some case, the Director holds excess remuneration. When is he liable to return?
• Is it all properly documented and disclosed in the financial records?

(13) Nidhi Company

If the Company is a Nidhi Company

• Has it complied with the Net Owned Funds or NOF to Deposit Ratio of 1:20? Is the Company able to meet out the liability?
• Is the Company maintaining 10% Unencumbered Term Deposits as per the Nidhi Rules 2014?

(14) Allotment of Shares & Debentures

• Has the Company made any allotment of Preference Shares?
• Are any Shares or Debentures been privately placed?
• Were the requirements of Section 42 of the CA 2013 met during such transactions?
• Has the amount raised by these issues, used for the purpose as stated in the Offer Letter?
• Was separate Bank Account opened or not? Was it done within the stipulated time of 60 days of receipt of money?
• If not, is the detail been provided thoroughly?
• Are the rules of reporting to the ROC, in case of such discrepancies, been complied with?

(15) Non-Cash Transactions

• Has the Company entered into some Non-Cash Transactions with its Directors? Or it may be with a person connected with him?
• Were the Provisions of Section 192 of CA 2013 been followed?
• Was prior approval of the Shareholder sought for? Did the notice to them mention details about the proposed Non-Cash Transactions adequately?

(16) Registration under RBI Act 1934

• Is the Company required to obtain registration under Section 45 IA of the RBI Act, 1934?
• If yes, has such registration been obtained?

Final Notes

During the course of Audits under CARO 2016, the Auditor has to go through many Documents. The CARO Applicability is not restricted to the books of Accounts, Balance Sheets, P&L Statement and other Ledger books. It may include circulars circulated amongst members, annual credit rating obtained, deposit insurance policy, advertisements in newspapers at the time of raising money, form filed with the ROC for creation of charge and disclosure for unsecured deposits, deposit of the 15 per cent of the money due in current and next year with scheduled bank, compliance with RBI rules and regulations etc.

Audits by external parties are extremely helpful in removing any bias towards the finance of the Company. Proper and thoroughly performed Audits can bring out a "material error" in the Company's Statements. Benefits of getting the Audits done also apply in building trust and goodwill in the market. The investors and shareholders get a sense of confidence. The Audited Accounts enable them to make better, more informed decisions. When the Audits have been undertaken by third parties, the Auditor's Report is considered candid and honest.

This article has been written by Reema, a Content Writer with LegalRaasta. This is India's most sought after portal for assistance related to Companies, Finance and Legal.