I.  Introduction

Corporate fraud has been an area of focus under the Companies Act, 2013 (“Companies Act”) – this is reflected through: (i) a broad definition ^[1]; (ii) stringent punishment; and (iii) putting in place reporting and review mechanisms involving internal and external stakeholders.

The Companies Act has also led to the empowerment, and practically the operationalization, of the Serious Fraud Investigation Office (“SFIO”), which is empowered to detect, investigate and prosecute white-collar crimes and fraud in India. The SFIO has broad powers to conduct inspections, discover documents, search and seize evidence, carry out arrests, amongst others. Besides the SFIO, the Companies Act has also established the National Financial Regulatory Authority (“NFRA”), which monitors and enforces compliance with the accounting and auditing standards under the Companies Act. Additionally, the Companies Act has put in place rules for vigil/whistle-blower mechanism for certain categories of companies.

II. Fraud Reporting

A. Section 143(12) of the Companies Act read with relevant rules

A positive obligation has been put on statutory auditors (which has also been extended to cost auditors and secretarial auditors) to report fraud to the Central Government^[2].

Rule 13 of the Companies (Audit and Auditors) Rules 2014, prescribes detailed steps that need to be followed by the relevant auditor if he has reason to believe that an offence of fraud, which involves or is expected to involve individually an amount of INR 1 crore or above, is being or has been committed against the company by its officers or employees. The auditor is required to report the matter to the board or the audit committee, as the case may be, immediately but not later than two days of his knowledge of the fraud, seeking their reply/ observations within forty-five days. On receipt of such reply/ observations^[3], the auditor is required to forward his report and the reply/ observations of the board or the audit committee along with his comments on the same to the Central Government within fifteen days. The report to the Central Government is required to be submitted in the form of a statement as specified in Form ADT-4. In case of a fraud involving an amount lesser than INR 1 crore, the auditor is required to report the matter to audit committee or to the board immediately but not later than two days of his knowledge of the fraud.

B. Reporting to Central Government – Position for statutory auditors prior to and after the NFRA June 26 Circular (as defined below):

1. Pursuant to a guidance note on reporting of frauds issued by the Institute of Chartered Accountants of India, statutory auditors were not required to report a fraud (even if it exceeded the monetary threshold referred above) to the Central Government if such auditor was not the first person to identify/note such instance in the course of performance of his duties as a statutory auditor. Hence, if the fraud had been identified through the whistle blower mechanism and had been/was being remediated and dealt with by the management, and if such case was informed to the statutory auditor, then subject to compliance with certain conditions (as stated therein – which if not satisfied may still involve reporting to the Central Government), such statutory auditor was not obligated to report the same to the Central Government as the statutory auditor had not identified the fraud per se.
2. NFRA (which currently has jurisdiction over listed and certain other companies), by its circular dated June 26, 2023 (“NFRA June 26 Circular”) has stated that the statutory auditor is required to submit Form ADT-4 to the Central Government under section 143 (12) of Companies Act even in cases where the statutory auditor is not the first person to identify the fraud/suspected fraud. Additionally, the NFRA June 26 circular inter alia states that resignation would not absolve the auditor of his responsibility to report suspected fraud or fraud as mandated by the law.
   
   C. Companies (Auditors Report) Order, 2020 (“CARO”)

Further, Companies (Auditor’s Report) Order, 2020 requires the statutory auditors to disclose the following in their auditor’s report (i) the nature and amounts of any fraud by the company and/or of any fraud on the company; (ii) whether any report under sub-section (12) of section 143 of the Companies Act has been filed by the auditors in Form ADT-4 as prescribed under rule 13 of Companies (Audit and Auditors) Rules, 2014 with the Central Government; and (c) whether the auditor has considered whistle-blower complaints, if any, received by the company. Related disclosures would be required to be made to the statutory auditors, under the management representation letter(s) given to them.

D.  Other matters

Reporting of fraud often involves a detailed evaluation of possible implications (and related mitigants) under several provisions of the Companies Act and other relevant laws. These inter alia include: (i) evaluating implications on financial statements, auditor’s report and board’s report (including the directors responsibility statement therein); (ii) implications under direct and indirect tax laws; (iii) implications under securities laws (where the company is listed, or is otherwise registered with SEBI); (iv) implications under other relevant sectoral laws relevant to the company/group; (v) implications under criminal laws, including anti-corruption and anti-money laundering laws; (vi) implications where the company/group have operations in other countries ; (vii) potential multi-agency investigations in India arising from one or more of the above-referred factors; and (vii) contractual implications.

Footnotes:

[1] “Fraud” in relation to affairs of a company or any body corporate, includes any act, omission, concealment of any fact or abuse of position committed by any person or any other person with the connivance in any manner, with intent to deceive, to gain undue advantage from, or to injure the interests of, the company or its shareholders or its creditors or any other person, whether or not there is any wrongful gain or wrongful loss.

Certain other acts and omissions in the Companies Act are also punishable as “fraud” – e.g. incorrect statements in certain statutory documents.

[2] “Notwithstanding anything contained in this section, if an auditor of a company in the course of the performance of his duties as auditor, has reason to believe that an offence of fraud involving such amount or amounts as may be prescribed, is being or has been committed in the company by its officers or employees, the auditor shall report the matter to the Central Government within such time and in such manner as may be prescribed: ….”

[3] In case the auditor fails to get any reply or observations from the Board or the Audit Committee within the stipulated period of forty-five days, he shall forward his report to the Central Government along with a note containing the details of his report that was earlier forwarded to the Board or the Audit Committee for which he has not received any reply or observations.