Clarification on Statutory Auditor's Report over Internal Financial Control

Background:

The Companies Act, 2013 ('the Act') had introduced many new reporting requirements for the statutory auditors of companies. One of these requirements is given under the Section 143(3)(i) of the Act requiring the statutory auditor to state in his audit report whether the company has adequate internal financial controls system ('IFC') in place and the operating effectiveness of such controls.

Relaxation granted to certain private companies:

Ministry of corporate affairs ('MCA') through its notification dated 13 June 2017 read with corrigendum dated 13 July 2017 and general circular dated 13 July 2017 provided exemption from applicability of the section 143(3)(i) of the Act to certain private companies, which is detailed as follows:

Requirements of reporting under section 143(3)(i) of the Companies Act, 2013 shall not apply to following private companies in respect of financial statements pertaining to financial years commencing on or after 1 April 2016:

(i) which is a one-person company or a small company; or 
(ii) which has turnover less than rupees fifty crores as per latest audited financial statement and which has aggregate borrowings from banks or financial institutions or anybody corporate at any point of time during the financial year less than rupees twenty-five crore. 

Definition of private company:

Definition of the private company as defined by clause 68 read with clause 71 of section 2 of the Companies Act, 2013 is as follows:

A company having a minimum paid-up share capital of one lakh rupees or such higher paid-up share capital as may be prescribed, and which by its articles,

(i) restricts the right to transfer its shares;
(ii) except in case of One Person Company, limits the number of its members to two hundred.
(iii) it is not a subsidiary of a company, being a public company.

As explained by section 71 of the Act, a Company which is a subsidiary of a company, not being a private company, shall be deemed to be a public company for the purpose of Companies Act, 2013 where such subsidiary company continues to be a private company in its articles.

Conclusion: 

IFC Reporting will be applicable to the private companies, being subsidiary of a public company for the financial year ended 31 March 2017.

IFC Reporting applicability for the financial year ended 31 March 2017 under various scenario (March 2016 being latest audited financial statements available):

Scenario I:
Name of the Company: XYZ Private Limited
Subsidiary of: ABC Private Limited 
Turnover for the year ended 31 March 2016: Rs. 38 Crores
Aggregate borrowings from banks or financial institutions or anybody corporate at any point of time during the financial year March 2016: Rs. 20 crores 
Conclusion: No.

Scenario II:
Name of the Company: XYZ Private Limited
Subsidiary of: ABC Private Limited 
Turnover for the year ended 31 March 2016: Rs. 58 Crores
Aggregate borrowings from banks or financial institutions or anybody corporate at any point of time during the financial year March 2016: Rs. 20 crores
Conclusion: Yes.

Scenario III:
Name of the Company: XYZ Private Limited
Subsidiary of: ABC Private Limited 
Turnover for the year ended 31 March 2016: Rs. 38 Crores
Aggregate borrowings from banks or financial institutions or anybody corporate at any point of time during the financial year March 2016: Rs. 30 crores
Conclusion: Yes.

Scenario IV:
Name of the Company: XYZ Private Limited
Subsidiary of: ABC Limited 
Turnover for the year ended 31 March 2016: Rs. 38 Crores
Aggregate borrowings from banks or financial institutions or anybody corporate at any point of time during the financial year March 2016: Rs. 20 crores 
Conclusion: Yes.