In a major relief to the former auditors of IL&FS Financial Services (IFIN), the Bombay High Court on Tuesday quashed the criminal complaint against Deloitte Haskins & Sells and BSR Associates, an affiliate of KPMG, filed by Serious Fraud Investigation Office (SFIO) terming it to be “bad in law”.
While the court upheld the constitutionality of Section 140 (5) of the Companies Act 2013, it said that it is not applicable to auditors who have already resigned. BSR & Associates resigned in June 2019, while Deloitte’s term ended in 2018.
The government sought a stay on the quashing of criminal complaint against the auditor for a period of eight weeks so that they can appeal in the apex court and the same was granted by the court despite opposition from the auditors lawyers. However, during the eight week period, the interim protection granted to the auditors in criminal proceedings will continue. Thus, the government cannot take action against the auditors.
In August 2019, the National Company Law Tribunal (NCLT) had rejected the appeal of the auditors who had questioned the tribunal’s jurisdiction in banning them for five years under Section 140 (5) of the Companies Act 2013 and had said it would move ahead with Ministry of Corporate Affairs (MCA) application for banning them.
Meanwhile, the auditors had moved the Bombay High Court against the constitutional validity of Section 140 (5) as well as the MCAs plea to ban them for five years.
Under Section 140 (5), the tribunal either suo motu or on an application made to it by the Central Government or by any person concerned, if it is satisfied that the auditor of a company has, whether directly or indirectly, acted in a fraudulent manner or abetted or colluded in any fraud by, or in relation to, the company or its directors or officers, it may, by order, direct the company to change its auditors.
Provided further that an auditor, whether individual or firm, against whom final order has been passed by the Tribunal under this section shall not be eligible to be appointed as an auditor of any company for a period of five years from the date of passing of the order and the auditor shall also be liable for action under section 447.
The auditors’ lawyers had earlier argued that the section under which the government was seeking a ban – Section 140(5) – applies only to auditors who are currently responsible for auditing the company and not those who have resigned or whose term expired.
The SFIO, in its complaint, had alleged that the auditors were aware that IFIN was lending to defaulting borrowers through group companies, so that it could suppress its non-performing assets and not provide for the bad debt.
The probe report said the auditors failed to verify the end-use of bank finances and money raised through non-convertible debentures (NCDs), despite it being a regulatory mandate for verifying such things.
The SFIO complaint went on to say that the auditors falsified books of accounts and financial statements of the company from FY14 to FY18 and did not report the negative net owned fund, as well as its negative capital to risk (weighted) assets ratio, resulting in loss to those who had invested in the company’s NCDs.
Law firm AZB along with Darius Khambatta, Navroz Seervai and Sujay Kantawala were representing BSR Associates and Veritas Legal was representing Deloitte in the case.