Accounting and Auditing Update - KPMG Accounting and Auditing Update Issue no. 15/2017 October 2017

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Accounting and Auditing UpdateIssue no. 15/2017

October 2017

Editorial

© 2017 KPMG, an Indian Registered Partnership and a member firm of the KPMG network of independent member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.

Sai VenkateshwaranPartner and HeadAccounting Advisory Services KPMG in India

Ruchi RastogiExecutive DirectorAssuranceKPMG in India

Implementation of Indian Accounting Standards (Ind AS) would require financial institutions in India to change the way impairment allowance is calculated on their financial assets. Currently, they follow a standardised and regulatory approach whereas under Ind AS they would need to measure impairment based on an ‘Expected Credit Loss’ (ECL) approach. The ECL approach requires entities to estimate the Probability of Default (PD) associated with loan exposures in a methodological framework. In this edition of Accounting and Auditing Update (AAU), we describe the key components of a PD-based approach for computation of ECL on term loans given by financial institutions.

The Companies Act, 2013 (2013 Act), lays down guidance for reopening or revision of accounts and board’s report, while the Companies Act, 1956 did not allow reopening or revision of accounts except in limited circumstances. Our article provides an overview of the circumstances in which an entity would be mandatorily required to reopen or revise its accounts and board’s report, and the circumstances when it could voluntarily seek permission to reopen or revise its accounts or board’s report. The article also explains the detailed rules to be followed by the entities.

Under Ind AS, if there is an indication of impairment then an entity has to perform an impairment test for its non-financial assets such as property, plant and equipment, intangible assets, and its investment in subsidiaries, associates and joint ventures. Our article elaborates on the disclosures that entities should provide when they recognise an impairment loss.

The Institute of Chartered Accountants of India (ICAI) published an educational material on Ind AS 18, Revenue in the form of frequently asked questions. An article on this topic explains the key principles discussed in the education material.

We also cover a regular round-up of some recent regulatory updates in India and internationally along with an overview of the report of the Committee on Corporate Governance issued on 5 October 2017.

We would be delighted to receive feedback/suggestions from you on the topics we should cover in the forthcoming editions of AAU.



Table of contents


Expected credit loss assessment by banks 01

07Disclosures for impairment of non-financial assets

The Companies Act, 2013 - Revision or reopening of financial statements

1 1

Revised education material on Ind AS 18, Revenue

15

Regulatory updates 19

This article aims to:

– Present the key components of a probability of default-based approach for computation of ECL on term loans.


1

Expected credit loss assessment by banks

With the implementation of Indian Accounting Standard (Ind AS) 109, Financial Instruments, financial institutions will move from a standardised and regulatory approach to an Expected Credit Loss (ECL) model for recognising an impairment allowance on their financial assets. This is expected to have a significant financial impact and would also entail extensive changes to systems and processes used for credit monitoring and analysis. Implementation of the ECL approach may require the application of sophisticated measurement techniques and estimates based on the nature of an institution’s financial asset portfolio.

In our previous article, we highlighted the concepts of ‘significant increase in credit risk’ and ‘default’. Ind AS 109 requires the financial institutions to define these in the context of their loan portfolios. Other factors to be considered while computing ECL include the expected life of the exposure, stage allocation, forward looking information and discounting at an appropriate rate. In our previous ECL article, we also considered how banks may use an internal credit risk rating model to identify a significant increase in credit risk and perform a stage-transfer assessment for their loan assets.

Ind AS 109 does not mandate any specific model to be adopted for ECL computation, however, financial institutions are required to adopt methodologies which are commensurate with the size, complexity, structure, economic significance and risk profile of their exposures. This will determine the level of sophistication the financial institutions need to incorporate in their ECL methodology. A model based on estimating the Probability of Default (PD) associated with loan exposures is a methodological framework for estimating ECL. This article aims to present the key components of a PD-based approach for computation of ECL on term loans.


2Accounting and Auditing Update - Issue no. 15/2017

An analysis of companies in the manufacturing sector with similar risk characteristics as company P does not indicate a pattern of prepayment for their medium-term borrowings. Generally, these companies are expected to repay their borrowings over the contractual term of the loans.

As per its internal credit risk rating system, which considers various factors including the credit risk of the borrower and other macroeconomic indicators, on initial recognition,

bank M has computed the forward lifetime PD of the loan as 1.5 per cent. Bank M further expects the loans to have a low cure rate and that the amount of default, if any, would be recovered through the sale of the underlying collateral.

On 31 March 2018, company P has made timely payment of the interest and principal instalment due on the loan. The forward lifetime PD of the loan is computed as 1.8 per cent (considering current economic conditions in the industry, and their

expected future impact on the company’s performance, bank M has determined a marginal increase in the forward lifetime PD of the loan) and bank M determines that there has been no significant increase in credit risk since initial recognition. Bank M has assessed that a PD-based approach to measurement of ECL would meet the requirements of Ind AS 109.

Key characteristics of loan

Bank M has extended a term loan on 1 April 2017 to company P, a manufacturer of mobile phones in India, for importing machinery. The details of the loan are below:

Details Particulars

Amount of loan INR100,000,000

Rate of interest 10.5 per cent per annum

Period 5 years

Repayment terms The loan is repayable in five equal annual instalments on 31 March each year, commencing from 31 March 2018.

Effective Interest Rate (EIR) 10.92 per cent

Collateral Bank M holds a charge over the new machines imported by company P. These are valued at INR100,000,000 on 1 April 2017. On the basis of market data available on 31 March 2018, the bank would be able to recover approximately 80 per cent of the book value of the asset (which represents their economic value).Company P depreciates the machine on a straight line basis over a period of five years.

Marketability of collateral There are a number of companies manufacturing phones using similar technology, hence Bank M considers that it would be able to sell the machine within a short period of time, if necessary, in order to recover the collateral value.

Other contractual terms The company does not have an option to extend the period of the loan, however, it may prepay the loan after repaying the second instalment on the loan. The bank does not have an option to demand payment of the loan before its due date.

Classification and measurement of loan

The bank expects to hold the loan until maturity. Further the contractual cash flows arising from the loan are solely in the nature of principal and interest on principal outstanding (SPPI). Hence, the bank has classified and subsequently measures the loan at amortised cost.


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Accounting issue

Ind AS 109 requires ECL to be computed as a probability weighted estimate of credit losses over the expected life of a financial instrument. It, however, does not prescribe a single approach or method to measure ECL. Therefore, the bank’s management

should carefully analyse the risks and characteristics of its financial assets and adopt suitable methods/models for ECL computation based on the availability of reasonable and supportable information without undue cost and effort. This would require the exercise of significant judgement and adds new responsibility, considering the high

estimation uncertainty surrounding the computation of impairment allowances.

In this article, we consider how bank M defines the parameters for computing ECL using a PD-based model. We also highlight how the bank should incorporate the impact forward looking information on impairment allowance.

Analysis

The PD-based model estimates ECL based on three principal parameters, the PD, Exposure at Default (EAD) and Loss Given Default (LGD). Other factors to be considered when assessing and using these components to calculate ECL are:

• The term structure and other contractual features of the asset

• The stage allocation, i.e. whether there is a significant increase in credit risk

• Forward looking information (including macro-economic factors); and

• Discounting based on the EIR.

These parameters are analysed below.

Default

In order to quantify parameters such as PD or LGD, a bank is required to define or establish a policy to identify ‘default’. This is also relevant in staging the financial asset, i.e.

to determine whether there has been a significant increase in credit risk associated with that asset. Ind AS 109 specifies certain backstop indicators stating that a default is considered to have occurred when there has been a delay of over 90 days in repayment. In this case study, bank M also considers other qualitative factors to define what would be considered as a ‘default’ on the loan to company P.

Accounting guidance

Figure 1: ECL computed using a PD-based model

(Source: KPMG in India’s analysis, 2017)

Expected Credit Loss(ECL)

• Macroeconomic assumptions and forecasts• Emerging issues and uncertain future events• Should neither be optimistic or pessimistic

Forward looking information

EADPD LGD Discount rate

Estimate of the likelihood of default over a given time horizon.

Estimate of exposure at a future default date, taking into account expected changes in exposure after reporting date.

Difference between contractual and expected cash flows, including from collateral,expressed as a percentage of EAD

Generally the Effective Interest Rate (EIR) applicable to the financial asset

• Broader definition as compared to regulatory literature• Definition should be consistent with that used for internal credit risk

management• Need to be assessed based on quantitaitve, qualitative and backstop indicators• Aligned with definition of credit-impaired

Default



Period of exposure and probability of default

A. Period of exposure

Prior to determining the PD, it is important to assess the period over which it will be determined. Generally, the period of exposure is based on the contractual terms of the financial asset, which include the borrower/lender’s ability to extend/prepay the loan. In this case, company P does not have the option to extend the loan, and bank M cannot demand repayment of the loan prior to the due date. However, company P may prepay the loan anytime after payment of the second instalment, on prior intimation to the bank. In this case, the period of exposure may be calculated on the basis of historical behavioural information of company P, adjusted for forward looking information.

Where historical behavioural information of the specific borrower is not available, the bank may consider behavioural information relating to entities of similar size and characteristics, operating in

the same sector. The bank has analysed companies operating in the manufacturing sector, with similar risks and characteristics as company P. In addition, the bank considers other macroeconomic, forward-looking information, for example, the probability of a reduction in future interest rates, which may cause company P to prepay the loan. Based on its analysis, the bank assesses that the company is unlikely to prepay its term loan. Accordingly, it determines the period of exposure to be five years from the date of inception of the loan (i.e. until 31 March 2022).

B. Probability of default

PD is an unbiased estimate made by a lender on the likelihood of the loan not being repaid by the borrower within a particular time period. It is computed on the basis of the bank’s assessment of the credit history of the borrower and the nature of the loan, adjusted for forward looking information. PD is used in both, calculating ECLs and assessing whether there has been a significant

increase in credit risk (for a staging assessment).

For the purpose of computing ECLs, a PD term structure is required to be developed. A PD term structure shows the estimated PD of a borrower at each point in time for the lifetime of the exposure. When estimating ECL, banks would be required to consider a 12-month PD term structure for loan assets in stage 1, and a lifetime PD term structure for assets in stage 2 or 3.

In the current case, the lifetime PD of the loan is estimated by the bank as 1.5 per cent on initial recognition and 1.8 per cent on the reporting date (31 March 2018). This represents the estimated probability of a default occurring over the remaining life of the instrument computed at each point in time- i.e. on initial recognition and on the reporting date. A PD term structure developed on initial recognition should be adjusted for current conditions and future macroeconomic factors at each reporting date. It is represented by the chart below:

Figure 2: Lifetime PD term structure1

(Source: KPMG in India’s analysis, 2017)

1. The above chart represents a lifetime PD term structure for the loan, however, since the loan is in stage 1, a 12-month PD term structure will be required to be developed. A 12-month PD is a part of the lifetime PD, hence, bank M should extract a 12-month PD term structure from the above chart.

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April-17 March-18 March-19 March-20 March-21 March-22

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PD

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2. for illustrative purpose only

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In the current case, on the reporting date, there is no significant increase in the credit risk, and no adjustments are required to the PD term structure. The loan asset is assessed as stage 1 and the bank would be required to determine the risk of default occurring in the next 12 months (at each reporting date) based on the 12-month PD structure.

Exposure at Default (EAD)

EAD is a point-in-time measure of the loan exposure after considering contractual and/or behavioural cash flows in the given time horizon. The time horizon would depend upon the stage of the loan.

In the given case, since the loan asset is in stage 1, 12-month ECL is required to be computed. For this, the EAD as on 31 March 2019 (i.e. 12-months from the reporting date) is computed on considering the principal and interest repayments during the period. The bank estimates that company P would make timely repayments (on the basis of its previous track record), of principal and interest thereon as on 31 March 2019. Hence, the EAD as on that date is estimated as INR60,000,000.

Loss Given Default

LGD is an entity’s estimate of the present value of the loss/cash shortfalls expected as a result of a default, as on the date of default. While calculating LGD, an entity needs to identify all components of collections/recovery of cash flows and project their values and the timing of their receipt. The LGD is usually expressed as a percentage of the EAD.

In case of secured loans, the amount of cash flows that are expected from foreclosure are cash flows that the entity actually expects to receive in the future. Timing of these cash flows is critical to the computation

of LGD. Entities may need to refer to a historical trend and adjust this for current and future economic conditions to make an unbiased computation of LGD.

In the current case study, the cure rate of the loan is estimated as nil by the bank. However, in case of default, the bank would be able to dispose off the collateral and recover approximately 80 per cent of its book value immediately. On 31 March 2019, the EAD of the loan and book value of the machine are both estimated at INR60,000,000. Hence, the LGD as on that date would be 20 per cent of the EAD.

Discount rate

The measurement of ECL should also reflect the time value of money. Hence, cash shortfalls associated with default should be discounted to the reporting date. An entity should maintain consistency between the rate used to recognise interest revenue and project future cash flows and the rate used to discount those cash flows. Generally, this is the EIR of the financial instrument or an approximation thereof. In the current case study, the EIR of the loan is 10.92 per cent, which is also considered as the discount rate to estimate ECL at the reporting date.

Forward looking information

The measurement of ECL reflects an unbiased and probability-weighted amount based on a range of possible outcomes reflecting an entity’s own expectations and incorporates forecasts of future economic conditions, including observable market information. In arriving at the estimate of ECL, an entity is required to use all reasonable and supportable information available at the reporting date, without undue cost or effort- about past events, current conditions and forecasts of future economic conditions.

Entities may incorporate forward looking information in computing their impairment allowance by establishing a relationship between the macroeconomic forecasts and ECL (for example, an increase in Gross Domestic Product (GDP) of the country may result in a reduction in ECL). In doing so, an entity could develop a base scenario, i.e. a most likely path for a set of macroeconomic variables that together form a forward-looking view of the economy - for example, a base case estimate of GDP at 6 per cent2 would result in no change to the estimated PD at initial recognition of the loan. Multiple scenarios could then be projected based on positive and negative deviations from the base scenario, and their impact on ECL or a component of ECL estimated. For example, a positive scenario may be that a 0.5 per cent increase in GDP would reduce the PD by 0.25 per cent. Conversely, a negative scenario may be that a 0.5 per cent reduction in GDP would increase the PD by 0.75 per cent. ECL may then be estimated on the basis of a weighted average of these scenarios.

An entity should exercise judgement to determine what constitutes reasonable and supportable forward-looking information that is relevant to the financial instruments to which the impairment requirements are applied.

In the current case, bank M needs to incorporate forward looking information from a variety of sources into various parameters of the model in order to reasonably estimate its expected loss on this loan.

Once the bank has estimated the various parameters described above, it should estimate the ECL on the basis of the formula:

ECL = PD*EAD*LGD



Consider this

– While there are various methods that can be used for computing ECL, banks should adopt the method specific to their requirement based on availability of data, sophistication of credit risk management systems and characteristics of the loans in their portfolio.

– Banks may consider aligning the definition of default with the regulatory definition, so that there is no conflict between the two. They should also ensure that there is consistency of information used for Ind AS 109 purposes and that used for organisational budgeting, risk management and regulatory purposes.

– Generally, for regulatory purposes the PD is computed ‘through-the-cycle’, i.e. in cycle neutral economic conditions. However, the PD required for Ind AS 109 purposes is at a point-in-time (i.e. PD in current economic conditions). Hence, when using PDs calculated for regulatory purposes as a starting point, banks should make appropriate adjustments in order to be in compliance with Ind AS 109.


– Summarise the disclosure requirements in relation to impairment of non-financial assets.


7

Disclosures for impairment of non-financial assets

Background

With the onset of Indian Accounting Standards (Ind AS), a number of entities have utilised the transition option to revalue items of Property, Plant and equipment (PPE). While the option of revaluation was available in the erstwhile accounting standards as well, not many companies opted to revalue. This leads to an important question in one’s mind – Are the items of PPE reflected at values that it would be expected to fetch in the market?

Apart from revaluation, the other categories of non-financial assets are generally carried at historic cost less accumulated depreciation/amortisation. Hence, it is important to ensure that the depreciated cost of the non-financial assets at least reflects the recoverable values, so that the non-financial assets are not materially overstated. ‘Impairment’ serves as this check to ensure that the non-financial assets to which the standard applies are carried at no more than the recoverable amounts.

The objective of this article is not to emphasise on the concept/methodology followed for impairment but to provide an insight into the key indicators/disclosure aspects for various categories of non-financial assets to which the standard applies. These disclosures are required not only when a non-financial asset is impaired, but also when the management asserts that there is no impairment. For instance, how has the management ensured that the non-financial assets are not impaired? This article focusses on the disclosure requirements for PPE, intangibles and investment in subsidiaries, associates and joint ventures.

Requirements for PPE

Ind AS 36, Impairment of Assets is applied to the individual assets. However, a single asset is not generally tested for impairment on a stand-alone basis when it generates cash inflows only in combination with other assets as part of a larger Cash Generating Unit (CGU). Cash

flows are to be interpreted as cash inflows and not net cash flows. The PPE would comprise core operating assets of the entity – for instance plant and machinery in case of a manufacturing entity. Corporate assets are generally tested for impairment at a CGU level, unless the asset is to be disposed.

Impairment testing of PPE is performed only when there is an indicator of impairment. Some of the key indicators relevant for PPE are enumerated below:

• The value of an asset has declined significantly during the period. For instance, if a core operating asset used by a manufacturing entity to produce specific goods has become outdated as a result of introduction of a newer, more efficient version of the core operating asset, then this could be a potential indicator that the core operating asset may not fetch its current book value.



• Significant changes in the technological, economic or legal environment in which the entity operates that could have an adverse effect on the entity or on the market to which the asset is dedicated. For instance, a company manufactures chemicals for industrial purposes at its factory. The chemical waste created during the process is likely to affect the water and the soil underneath. The relevant authorities have passed a legal requirement that the plant manufacturing the chemicals shall strictly comply with compliance tests or else be decommissioned. This is a potential indicator that the chemical plant needs to be tested for impairment.

• Market interest rates or other market rates of return on investments have increased during the period, and those increases could affect the discount rate used in the computations. This would typically affect the value in use computation which is based on the present value of cash flows discounted using a market rate of return. As the discount rate increases, the value in use is expected to decrease and is a potential impairment indicator.

Other possible indicators of impairment could be an evidence of obsolescence or physical damage to the asset or a plan to dispose the asset earlier than expected.

The above list is only indicative and entities would be required to consider other factors /indicators relevant to the industry in which the entity operates, laws governing the jurisdiction and other entity specific indicators. If an entity has any of the aforementioned indicators and the management performs

an impairment test and identifies impairment of certain PPE, then following disclosures become significant and should be disclosed in the financial statements:

• Amount of impairment losses recognised in the statement of profit and loss during the period including the line item in which the impairment losses are included. In practice, as entities in India are allowed to only present expenses nature-wise, entities generally disclose impairment loss as a separate line item

• Amount of reversals of impairment losses recognised in the statement of profit and loss during the period including the line item in which those impairment losses are reversed

• Amount of impairment losses on revalued assets recognised in other comprehensive income during the period

• Amount of reversals of impairment losses on revalued assets recognised in other comprehensive income during the period.

Further, disclosure of the above information is required to be presented along with the information provided for the class of assets to which the asset relates. Generally, any impairment related information pertaining to PPE is provided along with the PPE reconciliation in the notes to the financial statements.

Example 1: Impairment indicator – Change in the use of the asset

Entity ABC uses equipment E to manufacture a specialised product S. Over the period, there has been a substantial reduction in the demand for product S. Therefore, the management of ABC has decided to use equipment in manufacture

of another product X, which is expected to be profitable. However, the management has not assessed equipment E for impairment.

Entity ABC should assess equipment E for impairment due to decline in market demand for product S, as change in the use of an asset is an indicator of impairment regardless of what the equipment is redirected to perform. The impairment assessment would include factors such as change in customer’s preferences and change in use of equipment to assess the recoverable amount. If there is an impairment loss, then this should be disclosed along with the line item within which it is included. Further, as the equipment would form part of the PPE note in the financial statements, the impairment should be disclosed in the PPE reconciliation.

Requirements for intangible assets

Impairment testing for intangibles depends on the nature of the intangible asset:

• For intangible assets with indefinite useful lives and for intangibles not yet available of use (for instance ERP implementation is in-progress), annual impairment testing is required regardless of whether impairment indicators exist. Further, the impairment test is to be performed at the same time each year.

• For other intangible assets (patents, trademarks, software, etc.), impairment testing would be performed only if there is an indicator of impairment. The indicators of impairment are similar to the ones discussed in the PPE section.

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The disclosures required for intangibles can be broadly split in to two categories viz. disclosures pertaining to impairment of intangibles that are mandatorily to be tested for impairment on an annual basis, and for other assets where impairment is tested only when there is an indication of impairment. Disclosures pertaining to impairment loss/reversal for intangible assets re same as discussed in the PPE section and this should be provided for each class of intangible.

Impairment disclosures for intangibles with indefinite life and those not yet available for use require more extensive details to be captured as part of the notes in the financial statements. The standard provides a detailed illustrative example highlighting some of the disclosures that are required/expected by the standard setters. Some of the important disclosures are as following:

• Estimates used to measure the recoverable amount of a CGU when an intangible asset with an indefinite useful life is included in the carrying amount of that unit

• For each CGU (group of units) for which the carrying amount of intangible assets with indefinite useful lives allocated to that unit (group of units) is significant in comparison with the entity’s total carrying amount of intangible assets with indefinite useful lives:

– The carrying amount of intangible assets with indefinite useful lives allocated to the unit (group of units)

– The basis on which GGU’s (group of CGUs) recoverable amount has been determined (i.e. value in use or fair value less costs of disposal)

– When the CGU’s (group of CGUs) recoverable amount is based on value in use, key assumptions of cash flow projections, description of management’s approach to determine the value assigned to each key assumption, the period of projected cash flows, growth rates and discount rates used.

– When the CGU’s (group of CGUs) recoverable amount is based on fair value less costs of disposal and valuation techniques are used to measure fair value less costs of disposal, key assumptions for determination of fair values less costs of disposal, description of management’s approach to determine the value assigned to each key assumption, the level of fair value hierarchy as per Ind AS 113, Fair Value Measurement and any change in valuation technique, if any.

Requirements for associates and joint arrangement in the consolidated financial statements

With regard to associates and joint ventures, objective evidence of impairment includes:

• Significant financial difficulty of an associate or joint venture

• A breach of contract such as default or delinquency in payments

• If it is probable that the associate or joint venture will enter bankruptcy or other financial restructuring

• The disappearance of an active market for net investment because of financial difficulties

• Significant or prolonged decline in the fair value of an investment in an equity instrument below its cost.

The above list is only indicative and entities would be required to consider other factors/indicators relevant to the industry in which the entity operates.

For associates and joint venture, an impairment assessment is usually performed in two successive steps:

• Step 1: Apply the equity method to recognise the investor’s share of any impairment losses for the investee’s identifiable assets;

• Step 2: When there is an indication (as mentioned above), test the investment as a whole and recognise any additional impairment loss.

Example 2: Impairment of joint ventures

Company N has two joint ventures BN and NS and holds 50 per cent in each of the joint ventures. NS has been making losses since inception. However, BN has been making profits year on year. Further, company N has been in talks with the other joint venturer (LB) of BN to purchase the other 50 per cent in BN. LB has offered to sell the 50 per cent stake at the original cost less 30 per cent to company N. The management of company N has not performed impairment assessment for either of the joint ventures. Both joint ventures have been accounted using the equity method.

Impairment assessment is required whenever there is an indication of impairment. With regard to joint venture NS, the fact that the joint venture is loss making is a potential indicator of impairment. While the joint venture has been accounted using equity method i.e. share of losses would have been absorbed, this does not necessarily imply that the investment is fully recoverable. Therefore, an impairment assessment should be performed to ensure that the carrying amount is fully recoverable after applying the equity method.



Joint venture BN has been profitable and in the absence of any other indicators, no impairment testing was required over the years. However, with the step acquisition of the additional stake at a bargain purchase price, company N should assess whether its existing investment is fully recoverable by considering relevant factors.

Some of the key disclosures required if the joint ventures are impaired are mentioned below:

• The amount of impairment loss and the line item in which the loss is presented

• A brief on the indicators/factors that led to the impairment assessment

• Whether the recoverable amount was determined on the basis of fair value less costs to sell or value in use

• Whichever methodology is used, the key assumptions, discount rate, fair value levels, other relevant inputs should be disclosed.

Requirements for investment in subsidiary, associate and joint venture in the separate financial statements

Investment in subsidiary, associate and joint venture that an entity elects to account for in accordance with Ind AS 109, Financial Instruments are outside the scope of Ind AS 36. If an entity elects to account for investment in subsidiaries, associates and joint ventures at cost in its separate financial statements, then Ind AS 36 would apply.

Impairment testing is performed only when there is an indicator of impairment. In addition to the indicators of impairment mentioned earlier in the article, the receipt of dividend income from a subsidiary, associate or joint venture is considered as a possible indication of impairment in separate financial statements when:

• The carrying amount of the investment in the separate financial statement of the entity exceeds the carrying amounts of the investee’s net assets including

associated goodwill in the consolidated financial statements;

• The dividend exceeds the total comprehensive of the subsidiary, associate or joint venture in the period in which the dividend is declared.

With respect to subsidiaries, once an impairment indicator has been identified, the impairment testing follows same guidance as mentioned in the step 2 for associates/joint ventures. However, a different approach may be appropriate if the assets of the subsidiary form part of a larger CGU for the group’s perspective. In such situations, it may be necessary to conclude, from the perspective of the separate financial statements, that the investment in the subsidiary generates cash inflows independently only in combination with other assets within the group. Otherwise, an artificial impairment loss may be recognised.


Consider this

– Impairment assessment is required to ensure that the carrying amount of the assets do not exceed the recoverable amount.

– Impairment assessment is typically performed at a CGU level. A CGU is the smallest group of assets capable of independently generating cash inflows.

– Impairment testing is required for the following categories of non-financial assets:

* For PPE and intangibles with definite useful lives only if there is an indication of impairment

* For intangibles with indefinite useful lives, impairment is required on an annual basis regardless of indication of impairment

* For investment in subsidiary, associate and joint venture, only if there is an indication of impairment. The impairment indicators are the same as indicators for financial assets under Ind AS 109, however the impairment testing would be governed by Ind AS 36.

– Ind AS 36 requires a number of detailed disclosures when impairment loss has been recognised or reversed during the period.


– Provide an overview of the requirements of revision or reopening of financial statements and the board’s report under the Companies Act, 2013.


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The Companies Act, 2013 - Revision or reopening of financial statements

Introduction

The Companies Act, 2013 (2013 Act) introduced a new requirement related to reopening or revision of accounts of the companies. There was no corresponding section in the erstwhile Companies Act, 1956 (1956 Act).

Sections 130 and 131 of the 2013 Act deal with the reopening or restatement of financial statements. A company would need to reopen or restate its financial statements on an order received from the competent court or Tribunal, or on application by its Board of Directors under certain specified situations. These sections became effective from 1 June 2016.

Post the notification of sections, the Ministry of Corporate Affairs constituted the National Company Law Tribunal (NCLT) and National Company Law Appellate Tribunal (NCLAT) to exercise and discharge the powers and functions as conferred on it under the 2013 Act.

Background

Under the erstwhile 1956 Act, the management of a company was required to prepare financial

statements in relation to every financial year and lay the same before the company in its Annual General Meeting (AGM). The company’s financial statements once adopted in the AGM were considered as final and were generally not allowed to be reopened or restated except in few limited circumstances e.g. meeting the technical requirements of the law.

In case a material misstatement in the accounts was identified relating to previous years, whether due to occurrence of fraud or error, then these adjustments were reported as ‘prior period adjustment’ in the financial statements of the period in which such misstatements were discovered i.e. previous years’ financial statements were not restated. This leads to lack of understanding by the users of the revised financial position and performance of an entity.

However, as mentioned above, the 2013 Act allows reopening/revision of accounts after those are approved at the AGM in certain situations and provides procedural requirements in respect of revision of accounts.

This is an important enabler in implementing Ind AS (IFRS converged standards) in India. Under Ind AS framework, unlike erstwhile Indian GAAP, financial statements are restated if there is a change in accounting policy or an error.

Circumstances for revision of financial statements

The 2013 Act allows revision of financial statements in following cases:

Reopening of accounts on the court’s or Tribunal’s order:

As per Section 130 of the 2013 Act, the central government, income tax authorities, Securities and Exchange Board of India (SEBI) or any person concerned or statutory regulatory body, can approach the Tribunal (NCLT) or court of competent jurisdiction and can apply for reopening the books of account incase:

• The accounts were prepared in fraudulent manners

• The affairs of the company were mismanaged, casting a doubt on reliability of the financial statements



Period upto which reopening of accounts can be carried out:

Section 130 of the 2013 Act does not specify the period upto which reopening of accounts can be carried out. The Companies (Amendment) Bill, 2017 (Amendment Bill, 2017) proposes that the reopening of financial statements should be restricted upto eight financial years immediately preceding the current financial year. This is the maximum period as per the 2013 Act for which a company is required to maintain books of account. In certain situations a longer period may be applicable if the books of account are required to be maintained pursuant to any investigations. Further, the accounts which are revised or re-cast would be considered as final.

Voluntary revision of financial statements or board’s report

Section 131 of the 2013 Act allows the directors of the company to revise the financial statements/board’s report in respect of any of the three preceding financial years. For revision, a company would require to obtain prior approval of the Tribunal (NCLT). The Tribunal (NCLT), before passing the order for revision, will give notice to the central government and income tax authorities and consider their representations, if any.

Such an application can be made only if it appears to the directors that the financial statements or board’s report of the company do not comply with the provision of Section 1291 and Section 1342 of the 2013 Act.

The 2013 Act clarifies that the revised financial statements cannot be prepared or filed more than once in any financial year. Additionally, detailed reasons for revision of such financial statements or report should be disclosed in the board’s report in the relevant financial year (in which such revision is being made).

It is pertinent to note that the company would not get an opportunity to make a representation when the authorities make an application for reopening of accounts to court or Tribunal (NCLT). Whereas, an application by the company for reopening of accounts or board’s report would allow the government and the income tax authorities to make representation.

In case copies of financial statements or reports have been sent out to members, Section 131 specifies that the revision should be restricted to the correction of the non-compliance of the provisions of Section 129 and Section 134 of the 2013 Act, as applicable and any consequential changes.

Procedure to be followed in case of revision/restatement of accounts

The Rules provide the procedure relating to replacing the previous financial statements with the revised documents, provisions with respect to responsibility of auditor relating to revised financial statements or report and any other directions required for revision/restatement of accounts. The Rules require an application for reopening or revision of accounts should be made to the NCLT/NCLAT. The following

procedures are prescribed in relation to revision/restatement of accounts:

i. Reopening of accounts on the court’s or Tribunal order: Rule 76A of the NCLT Rules requires the regulatory authorities to file an application in Form No. NCLT. 9 for reopening of books of accounts and for re-casting of financial statement and such application shall be accompanied documents and/or other evidence in support of the statement made in the application or appeal or petition filed by the regulatory authority. The rules do not prescribe any other procedure which the regulatory authorities are required to follow to initiate revision/restatement of financial statements.

ii. Voluntary revisions of financial statements or board’s report: Rule 77 of NCLT Rules prescribes the following procedure which is to be followed by the company for an application under Section 131 of the 2013 Act:

• The application should be filed in a specified form (Form No. NCLT-1) within 14 days of the decision taken by the board to file for revision of the financial statements or board’s report.

• The company is required to disclose in the application, where the majority of the directors of the company or the auditor of the company have been changed immediately before the decision is taken to apply for voluntarily revision of the financial statements or board’s report

1. Section 129 requires the financial statements to give a true and fair view of the state of affairs of the companies in the form as may be provided for different class or classes in Schedule III and shall comply with accounting standards notified under Section 133 of the 2013 Act.

2. Section 134 of the 2013 Act provides for the manner of authentication of the financial statements and requires the financial statements to be approved by the Board. Section 134 casts responsibility on the Board of Directors to prepare a report containing various details and this report is required to be annexed to the financial statements which are to be laid before the members in the annual general meeting.

• The application shall, inter alia, include the following particulars, namely:

– Financial year or period to which such accounts relates

– The name and contact details of the managing director, chief financial officer, directors, company secretary and officer of the company responsible for making and maintaining such books of accounts and financial statements

– Where such accounts are audited, the name and contact details of the auditor or any former auditor who audited such financial statements

– Copy of the board resolution passed by the Board of Directors

– Grounds for seeking revision of financial statement or board’s report.

• The company should advertise the application in newspaper and on its website, at least 14 days before the date of hearing.

• The Tribunal (NCLT) is required to issue notice and on hearing the auditor of the original financial statements, in case present auditor is different, and after considering the application may pass an appropriate order in the matter.

• The company is required to file a certified copy of the order of the Tribunal with the Registrar of Companies (ROC) within 30 days of the date of receipt of the certified copy.

• On receipt of approval from Tribunal, a general meeting should be called for adopting restated accounts and a notice

should be given for such general meeting in newspaper explaining the change.

• In the general meeting the revised financial statements, statement of directors and auditors may be put up for considerations to the members before adoptions of revised financial statements.

• Post approval in the AGM, the revised financial statements along with the statement of auditors or revised report of the board are required to be filed with ROC within 30 days of approval.

• The previous financial statements need to be replaced by revised financial statements and supplemented by revised financial statements.

Auditor’s responsibility in case of revision of financial statements

The 2013 Act casts responsibility on auditors in relation to revision/restatement of accounts. The 2013 Act requires the central government to notify a provision relating to responsibility of auditors through rules. However, such rules have not been notified till date.

The Standard on Auditing (SA) 560, Subsequent Events requires auditors to perform additional procedures where amendments are made to financial statements. It lays down the procedure to be followed by the auditors in two situations:

a. Facts which become known to the auditors after the date of the auditor’s report but before the date that the financial statements are issued to third parties

b. Facts which become known to the auditor after the financial statements have been issued.

Possible implications on a company in case of revision/reopening of accounts

The following are the possible implications on a company when it undertakes revision/reopening of accounts:

– Cascading impact: The impact could be significant if the restatement is ordered of a period, many years into the past, as a restatement in one year is likely to have a cascading effect on subsequent years. Also there is no restriction of time period to initiate revision of financial statements by statutory authorities. Whereas impact for voluntary reopening is limited to preceding three years only.

– Tax impact: The restatement of each year need to be evaluated from provision of income tax including Minimum Alternate Tax (MAT)/income tax liabilities as a result of change in profits. The company would also need to consider filing revised income tax returns based on revised financial statements.

Accounting requirements

Ind AS includes Ind AS 8, Accounting Policies, Changes in Accounting Estimates and Errors and this standard highlights the concept of retrospective restatement when financial statement contain material errors. Ind AS 8 defines retrospective restatement as correcting the recognition, measurement and disclosure of amounts of elements of financial statements as if a prior period error had never occurred. Therefore, the new accounting regime also reiterate the requirement of 2013 Act as retrospective application requires amending the comparative information presented for prior periods unless it is impracticable.


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Consider this

– The detailed requirement for revision/restatement of financial statement requires involvement of current and previous auditors.

– Companies should evaluate the consequential implications of revision of financial statements on provisions such as MAT/dividend/managerial remuneration, if reported profits change on account of restatement.

– The process for revision is robust and as such avoids any abuse of the provisions.

– The 2013 Act now enables Ind AS to be applied in case of revision of accounts for past errors identified by management.

– The requirements of revision of accounts has been in existence in some foreign countries for a long time. Based on the experience in such countries revision of accounts is looked at critically by shareholders and other relevant stakeholders.

As per Ind AS 8, the entity should process the retrospective application by adjusting the opening balance of each affected component of equity for the earliest prior period presented and the other comparative amounts disclosed for each prior period presented. In case it is

impracticable to determine the period-specific effects for one or more prior periods presented then the entity should restate the opening balances of assets, liabilities and equity for the earliest period for which retrospective application is practicable.

The presentation on revision arising due to restatements and reclassifications have to be disclosed with the help of a ‘third balance sheet’ with appropriate explanations as required under Ind AS 8.


– Summarise the guidance provided in the revised education material on Ind AS 18.


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Revised education material on Ind AS 18, Revenue

Background

In accounting parlance, revenue is considered as a subset of income. Thus, income comprises both revenue and gains. ‘Revenue’ may more easily be understood to mean income arising from ordinary activities of an entity. Indian Accounting Standard (Ind AS) 18 Revenue, prescribes principles for recognition and measurement of revenue. The standard also provides principles for presentation of revenue. The definition of both revenue and income excludes contributions from or distribution to owners.

The Ind AS Implementation Committee of the Institute of Chartered Accountants of India (ICAI) has issued revised Education Material on Ind AS 18, which contains guidance for implementation of Ind AS 18 in the form of Frequently Asked Questions (FAQs). Further, it clarifies that for accounting of revenue from real estate transactions, the guidance is contained in the Guidance Note on Accounting for Real Estate Transactions (for entities to whom Ind AS is applicable).

Measurement of revenue post introduction of Goods and Services Tax (GST) Act, 2017

After introduction of the GST Act with effect from 1 July 2017, one of the most important questions raised is whether revenue should be measured gross of GST. It has been clarified in the education material that the collection of GST by an entity would not be an inflow on an entity’s own account rather, collected on behalf of the government authorities. Accordingly, revenue should exclude GST.

Under Ind AS 18, revenue should be measured in the financial statements based on the fair value of consideration received or receivable, while the relevant GST Act would provide what should be included or excluded in the value of taxable supply. Therefore, it is possible in certain situations, the value determined for the purpose of GST may not equal to the value determined for the purposes of financial reporting. The examples of these situations could be sales made with deferred consideration over a period of time and barter transactions, etc.

Presentation and disclosure related to GST

As indicated above, revenue is to be measured exclusive of GST, consequently, revenue should be disclosed exclusive of GST. Also, as GST became applicable from 1 July 2017, the amount recognised as revenue for the period from 1 April 2017 till 30 June 2017 would include excise duty. Excise duty is applicable on manufacturing and is deemed to be a charge on production of goods as opposed to GST, which is applicable on supply of goods and services. As there is difference in the nature of both taxes, excise duty is included in revenue. Accordingly, revenue for the period before applicability of GST should be shown as gross of excise duty while post notification of GST, revenue should be shown as net of GST. In such a scenario, in order to ensure comparability with pre GST figures, an entity may, disclose the amount of revenue excluding excise duty by way of notes to the financial statements and also explain the difference with the help of explanatory notes.



Sale of goods

Ind AS 18 lays down the following conditions for recognition of revenue from sale of goods:

a. Transfer of significant risks and rewards of ownership of goods

b. No continuing managerial involvement related to ownership nor effective control over sold goods

c. Measurement of revenue reliably

d. Probability of economic benefits flow to the entity

e. Reliable measurement of costs incurred or to be incurred related to sale.

Based on the above parameters, when an entity sells goods to customers with a right to return then on the basis of past experience and trends of return, the revenue should be adjusted for gross amounts of expected returns for which consideration would have to be refunded. A corresponding current asset for expected return of inventory should be recognised.

Also in cases where sale of goods is at deferred payment terms, i.e. the terms of the transaction provide for extended credit period, for example, a buyer is required to make a payment at the end of two years. In such a case, a case, revenue would be recognised at the present value of the consideration and the balance should be recognised as an interest income over the period based on effective interest rate.

Transfer of risks and rewards

Raising an invoice is merely a commercial arrangement and may not determine the timing of recognition of revenue. Accordingly, all the terms and conditions of the contract or arrangement with the

customer, should be evaluated/analysed to determine whether the risks and rewards have been transferred from seller to the buyer and no control over sold goods are retained by the former. Whether all significant risks and rewards of ownership have been transferred to the buyer is a question of fact. For example, raising an invoice at the time of dispatch of goods may not necessarily mean that risks and rewards have indeed been transferred. An entity may need to carefully peruse the facts and circumstances in each case. In certain cases, say where a bill of lading has been retained merely to protect the collectability of amount due, where all other aspects of cost, insurance and freight contract have been fulfilled, this would indicate that significant risks and rewards of ownership have been transferred to the buyer. Although, in a CIF1 contract, the buyer is in effect the insurer and the person responsible for risk prima facie, yet it is subject to condition to tender the shipping documents, including insurance policy as contained in the contract or as per terms of trade. There are many factors, e.g. intention of the parties for retaining the shipping documents, any explicit term in the contract supplying control over the goods, etc., which should be considered before deciding whether there has been a transfer of significant risks and rewards of ownership in the goods. The factors may differ on a case to case basis and would need to be perused carefully.

Similarly, in instances of a service contract, where invoices are raised, based on milestones achieved, the recognition of revenue, based on those invoices raised may not necessarily represent revenue earned. Timing of

recognition of revenue depends on the performance of the revenue generating activity. If that activity has been performed, revenue should be recognised (assuming other conditions of revenue recognition including measurability of revenue, and absence of any significant uncertainty as to collectability are satisfied).

Also, merely passing or transfer of legal ownership may not mean transfer of risks and rewards in all cases. For example, a contract in which the transfer of legal ownership may happen only once the last instalment is paid. In such a case if risks and rewards of ownership have been transferred, revenue should be recognised even if legal title is not transferred. Often reverse of above may also happen where legal title is transferred to help the customer get a loan with the understanding that he has an unrestricted right to return the goods within three months (such a right not available to other customers). In this case the risks and rewards get transferred only after three months, even though the legal title has been transferred earlier.

Cash incentives

Ind AS 18 provides that the amount of revenue arising on a transaction is usually determined by agreement between the entity and the buyer or user of the asset. It is measured at the fair value of the consideration received or receivable taking into account the amount of any trade discounts and volume rebates allowed by the entity. Accordingly, cash incentives (payments given to the customer) are rebates would be considered in the measurement of revenue when the goods are delivered. Revenue would be recognised at a reduced amount taking into account such a rebate.

1. CIF: Cost, Insurance and Freight

Rendering of services

Rendering of services involve the performance of a contractually agreed task by an entity over an agreed period of time. The revenue would be recognised based on percentage of completion method. Accordingly, in scenarios where even though fees or charges have been collected upfront for a service to be provided over a period of say three years, the upfront amount received should be recognised appropriately over the project period. Consider an instance where an entity is in the business of providing fibre connectivity to homes and charges an upfront charge of INR300 per subscriber and a monthly charge of INR1,000 per subscriber. Assuming an average customer life of, for example, three years (this would be an average, since the period would vary for each customer), the amount of INR300 should be recognised as revenue over the period of three years.

Free goods or services

The recognition criteria in Ind AS 18 should be applied to separately identifiable components of a single transaction in order to reflect the substance of the transaction. Accordingly, in a scenario where an entity grants free goods to a customer as part of the sale transaction, which it sells separately as part of its operations, the transaction price is allocated to each separate component. Thus, the total consideration received will be allocated to all elements in the sale, including free goods.

Separately identifiable services

Often a sale contract may be identifiable into one or more separate components. In such a case, with a view to reflect the substance of the transaction, the recognition criteria should be applied separately to each identifiable component. For example, a machine is sold bundled with a maintenance

contract for five years. On a stand-alone basis, such a maintenance contract is available for a separate consideration but bundled with the machine, its consideration i.e. sale value may differ. In such a contract, the first step is to recognise the two separate components viz., the revenue component for the machine and the revenue component for the sale of maintenance contract separately. Secondly, for recognition of revenue, relative fair values may be determined, if available, and the consideration should be allocated in proportion of relative fair values. Thus, sale of machine be recognised when the risks and rewards are transferred to the customer, at a consideration in accordance with relative fair value of stand-alone machine. For the maintenance contract service revenue would be recognised over the period of maintenance as per its stage of completion.

Linked transactions

The standard provides that the recognition criteria are usually applied separately to each transaction. In case of certain transactions, it is necessary to apply the recognition criteria to the separately identifiable components of the single transaction in order to reflect the substance of the transaction. For example, when the selling price of a product includes an identifiable amount for subsequent servicing, that amount is deferred and recognised as revenue over the period during which the service is performed. Conversely, the recognition criteria are applied to two or more transactions together when they are linked in such a way that the commercial effect cannot be understood without reference to the series of transactions as a whole. For example, an entity may sell goods and, at the same time, enter into a separate agreement to repurchase the goods at a later date, thus negating the substantive effect of the transaction; in such a case,

the two transactions are dealt with together.

In a case, where an entity A which is an auto component supplier, received a contract from a buyer to make a tooling for a total consideration of INR500,000. This tooling required a design to be created and approved from the customer before the process of manufacture of the tooling began. The process was completed in a short period of time, say, about a month. In this case, if the design activity and the tooling were linked, for example, designing was complex and specialised such that the customer cannot derive any benefit from it independent of the tooling activity, the total revenue should be recognised on a combined basis as and when performance of the assigned task is completed. In case the design activity and the tooling activity were not linked, say, the design activity was not complex nor specialised, the entity A provided the designing services on a stand-alone basis and the customer could use the design to get the tooling manufactured by another vendor, the two would be treated as separate components and revenue recognised accordingly.

In yet another case, entity A contracted with customer B to manufacture and install a product. The product needed significant amount of installation to make it operational and installation would be done by entity A. The goods were dispatched to the customer to be installed later and invoice of INR500,000 raised on 31 March 2017. In the instant case, installation was a significant part of the contract which was not yet completed by entity A. Accordingly, revenue should not be recognised on 31 March 2017 which was the date of the invoice. Instead, revenue should be recognised only on the installation of goods even if the goods were dispatched earlier, to be installed later.


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However, in situations, when the installation process is simple in nature, the revenue is recognised immediately upon the buyer’s acceptance of delivery, for example, the installation of a factory tested television which only requires unpacking and connection of power and antennae.

Customer loyalty programmes

In recent times, customer loyalty programmes have become very popular. Often entities introduce promotional schemes for selling their goods/services where customers are offered reward credits for availing the offered goods/services, provided certain conditions are fulfilled. Such reward credits are often termed ‘points’ that can be redeemed for free or discounted goods/services. Appendix B, Customer Loyalty Programmes of Ind AS 18, provides guidance for accounting of such credits. For example, a resort chain, which owns numerous resorts pan India, offers reward points to

customers who stay in its resorts on the basis of total amount paid. Award points can be redeemed only in multiples of 100 points and the customers are allowed INR500 discount for every 100 points for stay in any of the resorts owned by the resort chain on goods and services offered subject to fulfilment of certain condition. These award credits are accounted as a separately identifiable component of the initial sales transaction. In such a case, the fair value of the consideration received or receivable in respect of the initial sale would be allocated between the award credits and other components of the sale.

Further, Appendix B of Ind AS 18 provides, that in case a third party supplies the awards, an entity needs to assess, based on facts and circumstances, as to whether it is acting as principal (i.e. collecting consideration allocated to the award credits on its own account) or as an agent (i.e. collecting the

consideration allocated to award credits on behalf of third party). Accounting in both scenarios: agent and principal is described below:

If entity acts as an agent: The difference between the consideration allocated to the award credits and the amount payable to the third party for supplying awards is recognised as commission income.

The net amount is recognised as revenue when the third party becomes obliged to supply the awards and entitled to receive consideration for doing so.

If entity acts as a principal: Revenue is measured as the gross consideration allocated to the award credits and the revenue is recognised when the entity fulfils its obligations in respect of the awards. Costs incurred for providing free third party goods should be charged to the statement of profit and loss as the costs of goods sold.


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Regulatory updates

SEBI deferred disclosures of loan defaults from banks by listed entities

Background

The SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 (Listing Regulations) issued on 2 September 2015 required listed entities to disclose delay or default in payment of interest/principal on

debt securities such as listed non-convertible debentures, foreign currency convertible bonds, listed non-convertible redeemable preference shares, etc. The Listing Regulations do not require similar disclosures to be provided in case of loans from banks and financial institutions.

In order to bridge this gap in the availability of information to investors and other stakeholders,

the Securities and Exchange Board of India (SEBI) through its circular dated 4 August 2017 (the circular) required specified listed entities to provide disclosures to the stock exchanges in case of defaults in repayment of interest/instalment obligations on loans from banks and financial institutions, debt securities (including commercial paper), etc.

Additionally, the listed entities were required to separately disclose information pertaining to defaults to the concerned credit rating agencies in a timely manner.

New development

While the above mentioned circular was to be effective from 1 October 2017, SEBI through a press release dated 29 September 2017 decided to defer the implementation of the circular until further notice.

(Source: SEBI press release PR No.: 59/2017 date 29 September 2017 and KPMG in India’s First Notes dated 4 October 2017)

The circular prescribed the following timelines for disclosures:

Sr. no. Default Timing of disclosures

1. First instance of default A listed entity is required to make the disclosure of defaults within one working day from the date of default in the prescribed manner.

2. Outstanding amount under default as on the last day of the quarter

A listed entity is required to report the outstanding amount under default within seven days from the end of the quarter.



SEBI revised eligibility conditions for exemptions to listed companies merging with unlisted companies

Background

A listed entity that desires to undertake a scheme of arrangement with an unlisted entity under the requirements of the Companies Act, 2013 (2013 Act) is required to obtain a no objection letter or an observation letter from the stock exchange. The stock exchange is required to forward the scheme and relevant documents to the Securities and Exchange Board of India (SEBI). Additionally, the stock exchange has to ensure that the draft scheme of arrangement is in compliance with securities’ laws.

The Securities Contracts (Regulation) Rules, 1957 (SCRR), inter alia, lay down the rules for issuers for listing of securities on a recognised stock exchange. Specifically, Rule 19(2)(b)(1) of the SCRR provides requirements for minimum offer and allotment to public in terms of an initial public offer. It specifically requires that offer size should be 25 per cent of equity or debenture convertible into equity.

A listed company under a scheme of arrangement with an unlisted company can get an exemption from Rule 19(2)(b) by applying to SEBI under Rule 19(7) of the SCRR. The SEBI’s circular (relating to relaxation under Rule 19(7)) issued on 10 March 2017 provides detailed conditions that have to be fulfilled by a company for taking an exemption from Rule 19(2)(b). These conditions are specified in Clause III(A)(1) (of SEBI circular dated 10 March 2017) and

are as follows:

a. The equity shares sought to be listed are proposed to be allotted by the unlisted issuer (transferee entity) to the holders of securities of a listed entity (transferor entity) pursuant to a scheme of reconstruction or amalgamation (scheme) sanctioned by National Company Law Board (NCLT) under Section 230-234 of the 2013 Act

b. At least 25 per cent of the post-scheme paid up share capital of the transferee entity shall comprise of shares allotted to the public shareholders in the transferor entity

c. The transferee entity will not issue/reissue any shares, not covered under the draft scheme of arrangement

d. As on date of application, there are no outstanding warrants/instruments/agreements which give right to any person to take the equity shares in the transferee entity at any future date. If there are such instruments stipulated in the draft scheme, the percentage referred to in para (b) above shall be computed after giving effect to the consequent increase of capital on account of compulsory conversions outstanding as well as on the assumption that the options outstanding, if any, to subscribe for additional capital will be exercised and

e. The shares of the transferee entity issued in lieu of the locked-in shares of the transferor entity will be subject to lock-in for the remaining period. (Emphasis added)

New development

The SEBI, through its circular dated 21 September 2017 revised Clause III (A)(1)(b) of the aforementioned requirement and has provided one year’s time to increase the public shareholding to 25 per cent if a company meets certain conditions. The new requirement is as follows:

“At least 25 per cent of the post-scheme paid up share capital of the transferee entity shall comprise of shares allotted to the public shareholders in the transferor entity:

Provided that an entity which does not comply with the above requirement may satisfy the following conditions:

• The entity has a valuation in excess of INR1,600 crore as per the valuation report

• The value of post-scheme shareholding of public shareholders of the listed entity in the transferee entity is not less than INR400 crore

• At least ten per cent of the post-scheme paid up share capital of the transferee entity comprises of shares allotted to the public shareholders of the transferor entity and

• The entity shall increase the public shareholding to at least 25 per cent within a period of one year from the date of listing of its securities and an undertaking to this effect is incorporated in the scheme.”

(Emphasis added)

All other conditions given in the 10 March 2017 circular remain unchanged.

(Source: SEBI circular CFD/DIL3/CIR/2017/105 dated 21 September 2017 and KPMG in India’s First Notes dated 3 October 2017)

ICAI issued exposure drafts of AS 23, Borrowing Costs and AS 24, Related Party Disclosures

Background

The Ministry of Corporate Affairs (MCA) through a notification dated 16 February 2015 issued the Companies (Indian Accounting Standards) Rules, 2015 (Ind AS Rules) which laid down a road map for entities (other than insurance entities, banking entities and Non-Banking Financial Companies (NBFCs)) (corporate road map) for implementation of Ind AS converged with International Financial Reporting Standard (IFRS) in a phased manner.

For other class of companies not covered under the corporate road map (i.e. primarily unlisted entities having net worth less than INR250 crore, including non-corporate entities) Accounting Standards (AS), as notified under Companies (Accounting Standards) Rules, 2006 (AS Rules) continue to remain applicable.

The MCA has also requested the Accounting Standards Board (ASB) of the Institute of Chartered Accountants of India (ICAI) to upgrade the AS with a view to bring them nearer to the requirements of Ind AS. In this context, the ICAI has recently issued exposure drafts of two new standards and has maintained consistency with the numbering of the Ind AS.

New development

On 5 October 2017, the ASB of the ICAI issued Exposure Drafts (EDs) of the following AS:

• AS 23, Borrowing Costs

• AS 24, Related Party Disclosures.

With the issuance of EDs of AS 23 and AS 24, the ICAI has incorporated some of the key requirements of Ind AS into the standards applicable to smaller non-listed or non-corporate entities (to whom Ind AS is not applicable as per the corporate road map).

Comments on the EDs may be submitted up to 31 October 2017.

(Source: Exposure Draft AS 23, Borrowing Costs and AS 24, Related Party Disclosures issued by ICAI dated 5 October 2017)

IASB provided guidance on making materiality judgements and proposes amendments to the definition of material

Background

International Accounting Standard (IAS) 1, Presentation of Financial Statements and IAS 8, Accounting Policies, Changes in Accounting Estimates define the term ‘material’ as follows:

‘Omissions or misstatements of items are material if they could, individually or collectively, influence the economic decisions that users make on the basis of the financial statements. Materiality depends on the size and nature of the omission or misstatement judged in the surrounding circumstances. The size or nature of the item, or a combination of both, could be the determining factor.’

The International Accounting Standards Board (IASB) observed that entities face difficulties in making material judgements while preparing their financial statements. These difficulties were not only behavioural in nature but also relate to the existing definition of the term material.

New developments

Recently, IASB issued the following in relation to the definition of ‘material’ and guidance on making materiality judgements:

• IFRS practice statement on ‘making materiality judgements’ (practice statement): The practice statement is non-mandatory in nature and does not change or introduce any new requirement in IFRS. It provides guidance on the process that entities may follow to make materiality judgements when preparing their financial statements. The guidance provided in materiality statement includes basis of materiality judgements, four-step materiality process and additional guidance with respect to some of the common areas of judgement.

• Amendments to IAS 1 and IAS 8 by issuing an Exposure Draft ED/2017/6 Definition of Material (ED): The IASB proposed amendments to the definition of material in IAS 1 and IAS 8 separately through an ED. The proposed revised definition is as follows:

‘Information is material if omitting, misstating or obscuring it could reasonably be expected to influence decisions that the primary users of a specific reporting entity’s general purpose financial statements make on the basis of those financial statements.’

The ED highlighted that if any change is made to the definition of material in IAS 1 and IAS 8 as a result of the proposals, similar amendments would be made to the materiality practice statement and the forthcoming revised conceptual framework.


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Comments to the ED can be submitted up to 15 January 2018.

Please refer KPMG in India’s IFRS Notes dated 23 October 2017 for detailed overview of the practice statement and recent ED issued by IASB.

(Source: IFRS Practice Statement “Making Materiality Judgements Practice Statement 2” and ED/2017/6 Definition of Material issued by IASB in September 2017)

SEBI amends IEPF (Accounting, Audit, Transfer and Refund), Rules 2016

Background

Section 124(6) of the 2013 Act provides that all shares in respect of which dividend has not been paid or claimed for seven consecutive years or more should be transferred by the company in the name of Investor Education and Protection Fund (IEPF) along with a statement containing such details as may be prescribed.

Rule 6 of the IEPF (Accounting, Audit, Transfer and Refund), Rules 2016 (IEPF Rules) provide that in cases where the period of seven years provided above has been completed or being completed during the period from 7 September 2016 to 31 May 2017, the due date of transfer of such shares should be deemed to be 31 May 2017.

New development

The MCA, on 13 October 2017 introduced IEPF (Accounting, Audit, Transfer and Refund), Second Amendment Rules 2017. The amendment rules amended the time period given above and requires that in cases where the period of seven years has been completed or being completed during the period from 7 September 2016 to 31 October 2017, the due date of transfer of such shares should be deemed to be 31 October 2017.

Additionally, it provides that the transfer of shares by the companies to the fund should be deemed to be transmission of shares and the procedure to be followed for transmission of shares should be followed by the companies while transferring the shares to the fund. The Rules also prescribe the manner of effecting the shares held in physical form.

(Source: MCA notification G.S.R. 1267(E). dated 13 October 2017)

MCA notified section and rules relating to valuation by registered valuers

The MCA on 18 October 2017, notified Section 247 of the 2013 Act and Companies (Registered Valuers and Valuation) Rules, 2017.

Section 247 of the 2013 Act governs the provisions relating to the valuation by registered valuers under the 2013 Act. It requires that wherever valuation with respect to any property, stocks, shares, debentures, securities or goodwill or any other assets or net worth of a company or its liabilities is required to be made under the provisions of the 2013 Act, it should be valued by a person having such qualifications and experience and registered as a valuer in such a manner, on such terms and conditions as may be prescribed. Such a registered valuer should be appointed by the audit committee or by the Board of Directors (in the absence of audit committee) of that company.

The registered valuer has been entrusted with various significant responsibilities under the 2013 Act. These are as follows:

• Make an impartial, true and fair valuation of assets

• Exercise due diligence while performing the functions as a valuer

• Conduct valuation in accordance with the Rules as may be prescribed

• Not to undertake valuation of any assets in which he/she has a direct or indirect interest or becomes so interested at any time during or after the valuation of assets.

The Companies (Registered Valuers and Valuation) Rules, 2017 (Valuation Rules), provide detailed guidance on various aspects of a registered valuer. The Valuation Rules, inter alia, prescribe the norms of eligibility, qualifications and registration of valuers, recognition of registered valuers organisation and cancellation or suspension of certificate of registration or recognition. The Rules are effective from the date of its notification in the official gazette i.e. 18 October 2017.

(Source: MCA notification S.O. 3393(E). and Companies (Registered Valuers and Valuation) Rules, 2017 dated 18 October 2017)

MCA extended last date for filing of financial statements

Rule 12(1) of the Companies (Accounts) Rules, 2014 requires that every company should file the financial statements with the Registrar of Companies (ROC) together with Form AOC – 4 and the consolidated financial statement, if any, with Form AOC-4 CFS. Section 137 of the 2013 Act requires that every company should file such form with the ROC within 30 days of the date of the AGM.

Further Rule 3 of Companies (Filing of Documents and Forms in Extensible Business Reporting Language (XBRL)) Rules, 2015 requires that every company having paid up capital of INR5 crore or above should file their financial statements and other documents under section 137 of the 2013 Act, with the ROC in e-form AOC-4 XBRL for the financial years commencing on or after 1 April 2014 using the XBRL taxonomy.

Therefore all the companies preparing their financial statements under Companies Indian Accounting Standard Rules, 2015 for the financial year 2016-17 are required to file their financial statements only in XBRL formats.

New development

The MCA through its notification dated 26 October 2017 has extended the last date for filing of AOC-4 XBRL for Ind AS complaint companies for the financial year 2016-17 without additional fees. The relaxation is provided in view of unavailability of tools necessary for deployment of the taxonomy for XBRL filing which is expected to be completed by 28 February 2018. The MCA further stated that filing should be made by companies when the Ind AS based XBRL taxonomy is deployed, for which separate intimation would be provided by MCA.

Additionally, MCA through its circular dated 27 October 2017 also extended the last date for filing of e-forms AOC-4 and AOC-4 (XBRL non-Ind AS) and the corresponding AOC-4 CFS for non-Ind AS companies upto 28 November 2017 without additional fees.

(Source: MCA issued circular no. 13/2017 dated 26 October 2017 and circular no. 14/2017 dated 27 October 2017)

Recommendations on enhancing standards of corporate governance for listed entities in India

Background

The SEBI constituted a committee on corporate governance (the Committee) in June 2017 under the Chairmanship of Mr. Uday Kotak. The objective of this committee was to suggest measures for enhancing the standards of corporate governance of listed entities in India. It consisted of officials from the government,

industry, professional bodies, stock exchanges, academicians, lawyers, advisors, etc.

New development

On 5 October 2017, the committee submitted the report on Corporate Governance (the Report) to SEBI.

The Report sets out the recommendations of the Committee under the following broad heads:

• Composition and role of the board of directors (BoD)

• The institution of independent directors

• Board Committees

• Enhanced monitoring of group entities

• Promoters/controlling shareholders and Related Party Transactions (RPTs)

• Disclosures and transparency

• Accounting and audit related issues

• Investor participation in meetings of listed entities

• Governance aspects of public sector enterprise

• Leniency mechanism

• Capacity building in SEBI for enhancing corporate governance in listed entities.

The recommendations of the Committee were also sent for comments of MCA and also the Ministry of Finance (MoF). The Report is also open for public comments and the last date for submission of comments is 4 November 2017.

Approach followed by the Committee

The focus of the Committee is improve standards of corporate governance in India, by highlighting immediate challenges and gaps in governance. The report also highlights various remedial steps to

be taken over long term. According to the Committee, a well governed entity needed to fulfil two significant roles viz. to focus on long-term value creation and the other to protect interests of the shareholders by applying proper care, skills and diligence in business decisions. Therefore, the Committee opted for a balanced and measured approach for implementation of its recommendations so as to give time to companies for preparation for change for a smooth transition. This was necessary to avoid the risk of poor execution with damaging second order consequences. Accordingly, it recommended that a phased timetable for most initiatives to be executed between the years 2018 and 2020. This timeline is expected to allow companies time to adjust to the new governance demands.

Overview of the Report of the Committee

This section provides an overview of the key proposals given in the Report.

Directors, board and its committees

Quorum: The quorum for every meeting of the BOD of the listed entity should be one-third of its total strength or three directors, whichever is higher, and should include at least one independent director. These requirements would be subject to the requirements of the 2013 Act.

Attendance at board meetings: Directors should attend minimum number of board meetings over a relevant period i.e. if a director does not attend at least half of the total number of board meetings held over the relevant period, then his/her continuance on the board would be subject to ratification by the shareholders at the next annual general meeting (notwithstanding the nature of directorship).


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Relevant period means a period of two consecutive financial years on a rolling basis, commencing from the financial year immediately succeeding the date of appointment. For existing directors, the relevant period would commence from 1 April 2018.

Skills disclosure: A chart or a matrix setting out the skills/expertise/competence of the BOD should be disclosed. The matrix should list core skills/expertise/competencies identified by BOD in relation to the business and names of directors with the relevant skills.

Appointment of non-executive directors above certain age: Approval by special resolution would be required for appointment of non-executive directors of the age 75 years

Separation of the roles of non-executive Chairperson and managing director/Chief Executive Officer (CEO): Listed entities with public shareholding of 40 per cent or more at the beginning of a financial year should ensure that the Chairperson of the board of such listed entity would be a non-executive director. Additionally, this requirement would continue even if there is any subsequent reduction in public shareholding below 40 per cent.

All other listed entities should ensure that the Chairperson of the board would be a non-executive director. (To be effective from 1 April 2022)

Matrix reporting structure: The corporate governance report should include a confirmation that the board of directors have been responsible for the business and overall affairs of the listed entity in the relevant financial year and that the reporting structures of the listed entity, formal and informal, are consistent with the above.

Non-executive director engagement with the management: The listed entity should, at least once every year, undertake a formal interaction between the non-executive directors and the senior management.

Role of audit committee: The audit committee members should review the utilisation of loans and/or advances from/ investment by the holding company in the subsidiary exceeding INR100 crore or 10 per cent of the asset size of the subsidiary, whichever is lower.

Composition and role of Stakeholders Relationship Committee (SRC): The SRC of every listed entity should specifically look into various aspects of interest of shareholders, debenture holders and other security holders.

Also the SRC should consist of at least three directors as members, with at least one being an independent director. Additionally, the Chairperson of the SRC should be present in the annual general meeting to answer queries of the security holders. Further, the role of the SRC has been widened to include power to resolve security holder grievances relating to issue of new/duplicate certificates, general meetings, to proactively communicate and engage with security holders including with the institutional shareholders at least once a year along with members of the committee/board/Key Management Personnel (KMP), as may be required and identifying actionable points for implementation, etc.

Wider role of nomination and remuneration committee: The nomination and remuneration committee should recommend all payments to be made to senior management.

Minimum number of directors: A minimum of six directors should be appointed on the board of directors of any listed entity

The maximum number of directorships capped: The maximum number of directorships in listed entities should be reduced to seven (irrespective of whether the person is appointed as an independent director or not).

This change would be achieved in a staggered manner i.e. the maximum number of listed entity directorships held by a person be brought down to eight by 1 April 2019 and to seven by 1 April 2020.

Additionally, any person who is serving as a whole-time director/managing director in any listed entity would serve as an independent director in not more than three listed entities.

Gender diversity: Every listed entity should appoint at least one independent woman director.

Minimum number of board meetings: The BOD should meet at least five times a year, with a maximum time gap of 120 days between any two meetings. Additionally, at least once a year, the board should specifically discuss strategy, budgets, board evaluation, risk management, ESG (Environment, Sustainability and Governance) and succession planning.

Membership and chairpersonship limit: A director of listed entity should not be a member in more than 10 committees or act as Chairperson of more than five committees across all listed entities in which he is a director. Additionally, for the purpose of determination of limit, chairpersonship and membership of the audit committee, Nomination and Remuneration Committee (NRC) and the SRC should be considered.

Accounting and Auditing Update - Issue no. 15/2017

Minimum number of committee meetings: The audit committee should meet at least five times a year, with a maximum time gap of 120 days between any two meetings. Additionally, all other mandatory board committees (such as NRC, SRC and risk management committee) necessarily meet at least once in a year.

Composition of nomination and remuneration committee: A minimum of two-third members of the nomination and remuneration committee should be independent directors.

Quorum for committee meetings: The quorum for a meeting of the nomination and remuneration committee and SRC should be either two members or one-third of the members of the committee, whichever is greater, with at least one independent director.

Applicability and role of risk management committee: The BOD should specify the role and responsibility of risk management committee and it should specifically include cyber security.

Additionally, the requirement for constitution of a risk management committee should be applicable to top 500 listed entities determined on the basis of market capitalisation, as at the end of the immediate previous financial year.

Institution of independent directors

Eligibility criteria for independent directors: Eligibility criteria for a director to be an independent director would be as follows:

a. Specifically exclude persons who constitute the ‘promoter group’ of a listed entity

b. Require an undertaking from the independent director that such a director is not aware of any circumstance or situation, which

exists or may be reasonably anticipated, that could impair or impact his/her ability to discharge his/her duties with objective independent judgements and without any external influence

c. The board of the listed entity to take on record the above undertaking after due assessment of the veracity of such undertaking.

d. Exclude ‘board inter-locks’ arising due to common non-independent directors on boards of listed entities (i.e. a non-independent director of a company on the board of which any non-independent director of the listed entity is an independent director, cannot be an independent director on the board of the listed entity).

For example, if Mr. A is an executive director on the board of company A (being a listed entity) and is also an independent director on the board of company B, then no non-independent director of company B can be an independent director on the board of company A.

Additionally, BOD as a part of the board evaluation process may be required to certify every year that each of its independent directors fulfils the conditions specified in the Listing Regulations and is independent of the management

Lead independent director in companies with non-independent Chairperson: All listed entities where the Chairperson is not independent to designate an independent director as the lead independent director. The lead independent director should be a member of nomination and remuneration committee.

Directors and Officers (D&O) insurance for independent directors: It is recommended to make mandatory for top 500 companies by market capitalisation to undertake D&O insurance for its independent

directors, with effect from 1 October 2018. This could be subsequently extended to all listed entities. The board of directors of the listed entity could determine the quantum and type of risks covered under such insurance.

Minimum number of independent directors: Every listed entity, irrespective of whether the Chairperson is executive or non-executive, would be required to have at least half of its total number of directors as independent directors.

This requirement has been proposed to be applicable to the top 500 listed companies by market capitalisation by 1 April 2019 and to the rest of listed companies by 1 April 2020.

Induction and training of independent directors: A formal induction should be mandatory for every new independent director appointed to the board. Additionally, the report recommends a formal training, whether external/internal, especially with respect to governance aspects, for every Independent Director once every five years.

Alternate directors for independent directors: Appointment of an alternate director for independent directors should not be permitted.

Disclosures on resignation of independent directors: Listed entities should be required to disclose detailed reasons for resignation of independent directors (as provided by such independent directors) along with the notification of their resignation to the stock exchanges, as well as subsequently as part of the corporate governance report. As part of such disclosure, the listed entity should include a confirmation as received from the director that there are no other material reasons other than those set out therein.


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Casual vacancy of office of independent director: Any appointment to fill a casual vacancy of office of any independent director should also be approved by the shareholders at the next general meeting.

Monitoring group entities and related parties

Group governance unit/committee and policy: The Committee did not recommend any amendment to the Listing Regulations. However, it has been recommended that SEBI should provide guidance in the following manner where a listed entity has a large number of unlisted subsidiaries:

a. The listed entity may monitor their governance through a dedicated group governance unit or governance committee comprising the members of the board of the listed entity.

b. A strong and effective group governance policy may be established by the entity.

c. The decision of setting up of such a unit/committee or having such a group governance policy may be left to the board of the listed entity.

Materiality policy: Clear threshold limits, as considered appropriate by the BOD would be required to be disclosed in the materiality policy. Such materiality policy should be reviewed and updated at least once every three years.

Disclosure of RPTs: In order to strengthen transparency on RPTs, the following is recommended:

a. Half yearly disclosure of RPTs on a consolidated basis, in the disclosure format required for RPT in the annual accounts as per the accounting standards, on the website of the listed entity within

30 days of publication of the half-yearly financial results. Copy of the same also to be submitted to the stock exchanges.

b. Strict penalties may be imposed by SEBI for failing to make requisite disclosures of RPTs.

c. All promoters/promoter group entities that hold 20 per cent or above in a listed company to be considered related parties for the purposes of the Listing Regulations.

Disclosures of transactions with promoters/promoter group entities holding 10 per cent or more shareholding be made annually and on a half-yearly basis (even if not classified as related parties).

Obligations on the board of the listed entity with respect to subsidiaries: The Committee made following three recommendations:

a. Definition of material subsidiary: The definition of a material subsidiary should be revised to mean a subsidiary whose income or net worth exceeds 10 per cent (from the current 20 per cent) of the consolidated income or net worth respectively, of the listed entity and its subsidiaries in the immediately preceding accounting year, other than for requirement of appointment of independent directors on the board of material subsidiaries (where the threshold of 20 per cent would continue).

b. Appointment of an independent director: At least one independent director on the BOD of the listed entity should be a director on the BOD of an unlisted material subsidiary, whether incorporated in India or not.

Significant transaction or arrangement: The management of the unlisted subsidiary should periodically bring to the notice of

the board of directors of the listed entity, a statement of all significant transactions and arrangements entered into by all unlisted subsidiary (currently the disclosure is required for material subsidiary).

Approval of RPTs: Similar to the 2013 Act, the Listing Regulations to be amended to allow related parties to cast a negative vote, as such voting cannot be considered to be in conflict of interest.

Relationship with promoters and controlling shareholders

Sharing of information with controlling promoters/shareholders with nominee directors

Regulatory framework should be amended to provide an enabling transparent framework regulating the information rights of certain promoters (including promoters of the promoter) and significant shareholders to reduce subjectivity and provide clarity for ease of business, along with appropriate and adequate checks and balances to prevent any abuse and unlawful exchange of UPSI i.e. to ensure information moves from one known safe container to another.

Re-classification of promoters/classification of entities as professionally managed

If an entity becomes professionally managed and does not have any identifiable promoter then existing promoter(s) may be re-classified as public shareholders, on receipt of request in this regard from the promoter(s), subject to approval of the BOD and the shareholders in a general meeting in which the promoter, promoter group and persons acting in concert should not vote.


Any person/entity (specific promoter) which is a part of promoters, promoter group or persons acting in concert with them may be re-classified as public shareholders, on receipt of request in this regard from the specific promoter. An approval of the BOD and approval of the shareholders in a general meeting would be required, wherein the specific promoter(s), along with its promoter group and persons acting in concert should abstain from voting on such resolution placed before the shareholders for approval, and provided certain conditions are met.

Accounting and audit related matters

Audit qualifications: Quantification of audit qualifications to be made mandatory, with the exception being only for matters like going concern or sub-judice matters.

In such an instance, the management will be required to provide reasons, which will be reviewed by the auditors and need to be reported accordingly.

Independent external opinion by auditors: The Listing Regulations should be amended to provide a clear right to an auditor to independently obtain external opinions from experts.

Group audits: For listed entities in India, the auditor of the holding company should be made responsible for the audit opinion of all material unlisted subsidiaries.

Quarterly financial disclosures: The committee recommends the following in relation to periodic financial disclosures:

a. Consolidated financial results: Disclosure of CFS should be made mandatory for all listed entities on a quarterly basis.

Stand-alone results should continue to be required to be published.

b. Cash flow statement: Publishing a cash flow statement on a half-yearly basis should be made mandatory for all listed entities.

c. Audit/limited review of quarterly financial results: Financial information of the group, accounting for at least 80 per cent of each of the consolidated revenue, assets and profits, respectively, should have undergone limited review/audit for all listed entities, every quarter.

d. Last quarter financial results: Any material adjustments made in the results of the last quarter which pertain to earlier periods should be disclosed by the listed entity as a note in the financial results.

Internal financial controls: IFC reporting requirements to be made applicable to the entire operations of the group and not just to the Indian operations.

This should initially be made applicable to the listed entities with net worth of INR1,000 crore and above.

Governance aspects of Public Sector Enterprises (PSEs)

The committee gave following guiding principles:

a. Establish a transparent mandate for PSEs and disclose its objectives and obligations: The government, as owner, must set clear objectives and mandates for the PSEs, and, where there are non-commercial objectives, these should be clearly articulated, quantified and transparently disclosed to the shareholders on a regular basis so that investors can take informed investment decisions.

b. Ensure independence of the PSEs from the administrative ministry: The government should aim at ensuring independence of the PSEs from the administrative ministry to ensure speedy decision making, functional and operational autonomy in pursuit of their stated objectives, for better commercial goals and to attract talent in a competitive market place.

c. Consolidate the government stake in listed PSEs under holding entity structure(s): As a sustainable and optimal solution for minimizing conflicts arising from the ownership and regulatory dichotomy in PSEs, the government should consider consolidating its ownership and monitoring of PSEs into independent holding entity structure(s) by 1 April 2020. An independent board with diversified skill set of the holding entity(s) would also facilitate operationalising a consistent and high quality process on significant issues such as strategy, performance monitoring, mergers and acquisitions, and recruitment of best talent.

The Committee recommended that the listed PSEs fully comply with the provisions of the Listing Regulations and the same be suitably enforced. Additionally, the government should assess and examine the broader issues referenced above, inter alia, concerning ownership structure for the government stake, removal of conflicts and creating a more autonomous environment for PSEs to function in the best interest of all stakeholders. The Committee believed that this will significantly enhance value of the national assets. This should be done in a time-bound manner.


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SEBI’s monitoring and enforcement mechanisms

SEBI’s monitoring and enforcement mechanisms comprise leniency mechanism and capacity building in SEBI for enhancing corporate governance in listed entities.

Leniency mechanism

The SEBI Act, 1992 and the Securities Contracts (Regulation) Act, 1956 have the powers to grant immunity both from prosecution and imposition of penalty for alleged violation. However, there is no specific provision to empower SEBI to grant leniency.

Therefore, SEBI may be empowered to grant leniency and offer protection against victimisation to whistle-blowers in certain instances determined on a case by case basis. The Committee recommended that rules and regulations should be developed in relation to the conditions to be satisfied for getting benefits under the leniency programme and protection against victimisation, the procedure for the grant of lesser penalty or reduction in liability, the quantum of penalties that are waived when lenient treatment is meted out and protection of the whistle-blower.

Capacity building in SEBI for enhancing corporate governance in listed entities

The Committee believes that efficacy of recommendations significantly depends upon SEBI’s detection and enforcement capabilities. Therefore, there is a need to enhance capacity of SEBI in line with global best practices by undertaking following steps:

a. Enhance the number and skill-sets of its human resources

b. Exploit the power of data science and technology and

c. Strategically work with other agencies, especially for monitoring and enforcement.



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KPMG in India’s IFRS instituteVisit KPMG in India’s IFRS institute - a web-based platform, which seeks to act as a wide-ranging site for information and updates on IFRS implementation in India.

The website provides information and resources to help board and audit committee members, executives, management, stakeholders and government representatives gain insight and access to thought leadership publications that are based on the evolving global financial reporting framework.

SEBI defers disclosures of loan defaults from banks by listed entities

4 October 2017

The SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 (Listing Regulations) issued on 2 September 2015 required listed entities to disclose delay or default in payment of interest/principal on debt securities such as listed non-convertible debentures, foreign currency convertible bonds, listed

non-convertible redeemable preference shares, etc. The Listing Regulations do not require similar disclosures to be provided in case of loans from banks and financial institutions.

In order to bridge this gap in the availability of information to investors and other stakeholders, the Securities and Exchange Board of India (SEBI) through its circular dated 4 August 2017 (the circular) required specified listed entities to provide disclosures to the stock exchanges in case of defaults in repayment of interest/instalment obligations on loans from banks and financial institutions, debt securities (including commercial paper), etc.

Additionally, the listed entities were required to separately disclose information pertaining to defaults to the concerned credit rating agencies in a timely manner.

New development

While the above mentioned circular was to be effective from 1 October 2017, SEBI through a press release dated 29 September 2017 has decided to defer the implementation of the circular until further notice.

This issue of First Notes provides an overview of the circular and recent notification by SEBI.

Voices on Reporting - Quarterly update publication

Voices on Reporting – quarterly update publication (for the quarter ended 30 September 2017) provides summary of key updates from the Ministry of Corporate Affairs, the Securities and Exchange Board of India, the Institute of Chartered Accountants of India and the Central Board of Direct Taxes.

We will continue to provide a summary of relevant updates in future also. We hope you find this summary to be of use and relevance.

We would be delighted to receive feedback/suggestions from you on the topics we should cover in the forthcoming editions of Voices on Reporting calls, webinars and publications.

The publication can be accessed at KPMG in India website. Click here.

First NotesIFRS NotesIASB provides guidance on making materiality judgements and proposes amendments to the definition of material

23 October 2017

Background

International Accounting Standard (IAS) 1, Presentation of Financial Statements and IAS 8, Accounting Policies, Changes in Accounting Estimates define the term ‘material’ as follows:

‘Omissions or misstatements of items

are material if they could, individually or collectively, influence the economic decisions that users make on the basis of the financial statements. Materiality depends on the size and nature of the omission or misstatement judged in the surrounding circumstances. The size or nature of the item, or a combination of both, could be the determining factor.’

The International Accounting Standards Board (IASB) observed that entities face difficulties in making material judgements while preparing their financial statements. These difficulties were not only behavioural in nature but also relate to the existing definition of the term material.

New development

Recently, the IASB issued the following two documents in relation to the definition of ‘material’ and guidance on making materiality judgements:

• IFRS practice statement on ‘making materiality judgements’ (practice statement).

• Amendments to IAS 1 and IAS 8 by issuing an Exposure Draft ED/2017/6 Definition of Material (ED).

This issue of IFRS Notes provides an overview of these publications.

The information contained herein is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.


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