13 Directors’ Responsibility Statement And Their Duties In Laying Accounts Before Shareholders

Prof Ferojuddin M A Khan

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Introduction:

 

Directors including the Managing Director of the company, being at the helm of affaires are always responsible and accountable to shareholders. Directors are being called “Trustee” and “Agent” also, with the objective of carrying onerous responsibilities of managing affairs prudently, safeguarding the assets etc., besides communicating through best means (say: disclosures in Annual Report) to apprise the shareholders about the performance of the company, market scenario, its subsidiaries etc..

 

Directors’ Duties and responsibilities are always subject to check and counter check by a number of authorities including Auditors. In fact, if we see the types of audits what our corporate bodies in our country go through are numerous. There are internal audit, statutory audit, Govt. audit (applicable to Govt. companies), Tax audit, Cost audit, Secretarial audit, Special audit etc., to name a few from a list of number of audits. The justification against such number of audits are aptly supported with the fact of growing number of instances of fraud, malpractices what we notice in every day newspaper, prominent being cases of Satyam, Enron etc.

 

The new Companies Act, 2013 has been framed keeping in view the updates on the best practices in the corporates across the globe, besides to remove the redundant provisions and also to check the frauds and negative practices of the companies which some view that the companies with the passage of time have gone ahead in mastering in the expertise of window dressing and not disclosing the right information to various stakeholders.

 

In this module, the specific provisions of the Companies Act, 2013 with regard to Directors’ Responsibility Statement and other duties with regard to laying of accounts and other responsibilities towards shareholders, have been explained with required disclosures as per Section 134 read with other subsections of the Act, in board’s report and financial statements with justification through evidences from Annual Report of HUL, a prominent industry leader in the FMCG industry. The idea is not to simply look at the provisions but to understand the good, the bad and the ugly, through practices of such a good company like HUL, which has got award on Corporate Reporting.

 

Learning outcomes:

 

After learning the subject, the students will be able to:

 

 

Content:

 

Annual Report, a statutory report as required under act, carries a detailed description of practices of company in terms of directors’ responsibilities and duties, becomes a right testimony of directors’ action vis-à-vis the requirements of the Act. The report spells out specific details on Corporate Governance, Financial statements, Directors’ Report, Auditors’ Report and of course on very relevant sub-themes such as disclosures, certificates and compliances etc.

 

Before understanding the ground what the company uses to communicate the shareholders and further understanding the quality of disclosure, it is better to understand the exact provision as enshrined in the section 134 of Companies Act, 2013, which is given as follows:

 

134. (1) The financial statement, including consolidated financial statement, if any, shall be approved by the Board of Directors before they are signed on behalf of the Board at least by the chairperson of the company where he is authorised by the Board or by two directors out of which one shall be managing director and the Chief Executive Officer, if he is a director in the company, the Chief Financial Officer and the company secretary of the company, wherever they are appointed, or in the case of a One Person Company, only by one director, for submission to the auditor for his report thereon.

 

(2) The auditors’ report shall be attached to every financial statement.

 

(3) There shall be attached to statements laid before a company in general meeting, a report by its Board of Directors, which shall include—

 

(a) the extract of the annual return as provided under sub-section (3) of section 92;

(b) number of meetings of the Board;

(c) Directors’ Responsibility Statement;

(d) a statement on declaration given by independent directors under sub-section(6) of section 149;

(e) in case of a company covered under sub-section (1) of section 178, company’s policy on directors’ appointment and remuneration including criteria for determining qualifications, positive attributes, independence of a director and other matters provided under sub-section (3) of section 178;

(f) explanations or comments by the Board on every qualification, reservation oradverse remark or disclaimer made—(i) by the auditor in his report; and(ii) by the company secretary in practice in his secretarial audit report;

(g) particulars of loans, guarantees or investments under section 186;

(h) particulars of contracts or arrangements with related parties referred to in sub-section (1)of section 188 in the prescribed form;

(i) the state of the company’s affairs;

(j) the amounts, if any, which it proposes to carry to any reserves;

(k) the amount, if any, which it recommends should be paid by way of dividend;

(l) material changes and commitments, if any, affecting the financial position of the company which have occurred between the end of the financial year of the company to which the financial statements relate and the date of the report;

(m) the conservation of energy, technology absorption, foreign exchange earnings and outgo, in such manner as may be prescribed;

(n) a statement indicating development and implementation of a risk management policy for the company including identification therein of elements of risk, if any, which in the opinion of the Board may threaten the existence of the company;

(o) the details about the policy developed and implemented by the company on corporate social responsibility initiatives taken during the year;

(p) in case of a listed company and every other public company having such paid-up share capital as may be prescribed, a statement indicating the manner in which formal annual evaluation has been made by the Board of its own performance and that of its committees and individual directors; (q) such other matters as may be prescribed.

 

(4) The report of the Board of Directors to be attached to the financial statement under this section shall, in case of a One Person Company, mean a report containing explanations or comments by the Board on every qualification, reservation or adverse remark or disclaimer made by the auditor in his report.

 

(5) The Directors’ Responsibility Statement referred to in clause (c) of sub-section (3) shall state that—

 

(a) in the preparation of the annual accounts, the applicable accounting standards had been followed along with proper explanation relating to material departures;

 

(b) the directors had selected such accounting policies and applied them consistently and made judgments and estimates that are reasonable and prudent so as to give a true and fair view of the state of affairs of the company at the end of the financial year and of the profit and loss of the company for that period;

 

(c) the directors had taken proper and sufficient care for the maintenance of adequate accounting records in accordance with the provisions of this Act for safeguarding the assets of the company and for preventing and detecting fraud and other irregularities;

 

(d) the directors had prepared the annual accounts on a going concern basis; and

 

(e) the directors, in the case of a listed company, had laid down internal financial controls to be followed by the company and that such internal financial controls are adequate and were operating effectively.

 

Explanation.—For the purposes of this clause, the term “internal financial controls” means the policies and procedures adopted by the company for ensuring the orderly and efficient conduct of its business, including adherence to company’s policies, the safeguarding of its assets, the prevention and detection of frauds anderrors, the accuracy and completeness of the accounting records, and the timely preparation of reliable financial information;

 

(f) the directors had devised proper systems to ensure compliance with the provisions of all applicable laws and that such systems were adequate and operating effectively.

 

(6) The Board’s report and any annexures thereto under sub-section (3) shall be signed by its chairperson of the company if he is authorised by the Board and where he is not so authorised, shall be signed by at least two directors, one of whom shall be a managing director, or by the director where there is one director.

 

(7) A signed copy of every financial statement, including consolidated financial statement, if any, shall be issued, circulated or published along with a copy each of— (a) any notes annexed to or forming part of such financial statement;

 

(b) the auditor’s report; and

 

(c) the Board’s report referred to in sub-section (3).

 

(8) If a company contravenes the provisions of this section, the company shall be punishable with fine which shall not be less than fifty thousand rupees but which may extend to twenty-five lakh rupees and every officer of the company who is in default shall be punishable with imprisonment for a term which may extend to three years or with fine which shall not be less than fifty thousand rupees but which may extend to five lakh rupees, or withboth.

 

Analysis of the provisions and comparison with suitable extract from Annual Report 2013-14 of M/s.HUL:

  • – While Section 134 (1) talks about the formality to be complied internally by management before formally handing over the financial statement to auditors for checking, the requirement as to signing on “behalf of the Board at least by the chairperson of the company where he is authorised by the Board or by two directors out of which one shall be managing director and the Chief Executive Officer, if he is a director in the company, the Chief Financial Officer and the company secretary of the company, wherever they are appointed, or in the case of a One Person Company, only by one director”, further corroborates the fact that there has to be responsibility levied on the people who are at the helm of affairs.Surely if such financial documents are not signed by such directors as prescribed,Auditors would not further take up for auditing. Even if we refer to Auditors’ report of M/s. HUL (refer Appendix B), there is specific mentioning by auditors that there findings depend on the “information and explanations given to them”. It has been held by court in the case of M/s. Satyam that auditors would not escape from their liabilities by simply mentioning that their findings sole depend on the information and explanation given by board of directors. Auditors need to use their common diligence to ask for documents in case of doubt.
  • – Further sub-section (2) which states that financial statement to be supported with Auditors’ Report gives more satisfaction among the shareholders, that the financial statement prepared by management are seen by the auditors who give their report on the accuracy of the financial statement. Auditors being external agency, when they give report on the financial statement carries more weightage on the relevancy of such statement for shareholders.

 

Having understood this, let us check on the compliance by M/s. HUL from their Annual Report 2013-14. Please refer Appendix A given (For detailed understanding, students can refer to Page no 76-78 for Standalone Financial Statement and Page no 128-130 for Consolidated Financial Statement and further Page no 124 and 162 for Independent Auditors’ report respectively from the aforesaid Annual Report) showing the Balance Sheet as a sample from Annual Report.

 

While from the side of management, the same has been signed by MD and CEO, Chairman Audit Committee, Executive Director (Finance & IT) and CFO, Executive Director (Legal and Company Secretary) and Group Controller and from the side of Audit Firm, one partner has signed. So there are five people who at the helm of affairs, have signed besides one auditor.

 

Similarly Appendix B talks about the 1st page of Independent Auditors’ report of M/s. HUL as a sample, which broadly talks about “Report on financial statement, Management’s responsibility for the financial statement, Auditors’ responsibility, Opinion and Report on other legal & regulatory requirements.

  • – Subsection (3) talks about prescribed matters to be included in the report by its board of directors, broadly on “extracts of annual reports as per Section 92(3), the number of meetings, Directors’ responsibility statement, declaration given by independent directors under section 149(6), company’s policy on directors’ appointment and remuneration, explanations or comments by the board on auditors’ comments, particulars of loans, guarantees or investments under section 186, particulars of contracts or arrangements with related parties under section 188(1), state of company’s affairs, the amount proposed to be carried to reserves, amount to be paid by way of dividend, material changes and commitments affecting financial position, the conservation of energy, technology absorption, foreign exchange inflow and outflow, development and implementation of risk management policy, CSR policy and implementation, evaluation of performance of directors in board and other matters as may be prescribed”.
  • The aforesaid matters are resulted due to duties both statutory and generally expected from directors whether efficiently being discharged by them, also necessary disclosures required as per Act. For example: Directors while paying dividend to shareholders should be updated about the general trends of rate of dividend prevailing in the industry. While listed companies are prescribed with more stringent rules and regulation, there are also duties expected from directors as matter of prudence or as a person of reasonable diligence.

 

Now checking from the Annual Report of HUL, a few extracts from Directors’ report, have been shown in Appendix C, D & E. There are some details on Conservation of power in Appendix C. Appendix D talks about Foreign Exchange inflow and outflow, R&D, Technology Absorption etc. Further Appendix E states about Directors’ Responsibility Statement, Dividend and summarized profit and loss account.

 

– Sub-section (4) focuses on explanation or comments by the Board on every qualification, reservation or adverse remark or disclaimer made by the auditor in their report.

 

This is but natural that it is the directors who have to reply on every comment given by auditors at the very outset. Either based on the reply given by the directors, some adverse points may be dropped or if the auditors are not happy with some clarifications given, would keep their report qualified for information for the shareholders.

 

In the Annual General Meeting when financial statement is presented to shareholders, surely shareholders are going to check the report given by auditors. They would ask to directors for any adverse qualification.

 

– Sub-section (5)  talks  about  necessary  certificate  in  Directors’  Responsibility

 

Statement with regard to matters prescribed in Sub-section (3) clause (c ), which has been projected in Appendix E with regard to compliance by M/s. HUL. This is the part of Directors’ Report, which is statutorily required, failing which directors would be considered grossly negligent in their duties.

 

Interesting to note that whenever there is any fraud or scam made in the company is unearthed, it is directors including MD are made solely responsible and after that CFO become the next person to be liable. Generally it is the CEO (MD) and CFO upon whom the sword falls. The reason being they give certificate relating to authencity of the financial statement and it is quite natural that they are made liable in case things go wrong.

 

– Similarly Sub-section (6) requires that Board’s report and annexures shall be signed by prescribed number of directors (at least two) including managing director or the chairperson if authorized etc. Even a cursory look on Appendix A suffices the requirement as there has been a better practice in M/s. HUL. The financial statement is signed by 3 directors including one Managing Director.

 

This is another round of compliance through certification by more number of directors and managers just to give more satisfaction among the shareholders that a number of people (not just one) have checked the financial statement before it is presented to shareholders and auditors. Further it signals quality of internal control mechanism built in the system itself.

 

– Sub-section (7) states that besides the signed copy of financial statement including consolidated financial statement, a copy of notes forming part of such statement, auditors’ report and also board’s report are required while issuing the financial statement. A copy of Annual Report 2013-14 (Page 132-161) is a glaring example and which is self-explanatory in this connection.

 

“Notes to Accounts” do supplement the main financial statement i.e., Balance Sheet,

 

Statement of Profit and Loss and Cash Flow Statement. Understanding of each and every element in the financial statement is more clear when it is referred with notes. This is necessary because there are lot of technicalities or nuances connected with each and every item. For example: while valuing closing stock, there can be number of methods to be followed such as First in First out or Last in First out or Simple Average or Weighted Average methods etc.. So the note in this case would clear the doubt by specifying the exact method followed.

 

– The last sub-section (8) prescribes punishment if there is contravention of this provision under Section 134. While the company shall be punishable with fine which shall not be less than fifty thousand rupees but which may extend to twenty-five lakh rupees, every officer in default shall be punishable with imprisonment for a term which may extend to three years or with fine which shall be not less than fifty thousand rupees but which may extend to five lakh rupees or with both.

 

Since shareholders invest money based on the matters disclosed in the Annual Report, the extent of penalty or imprisonment has been severe accordingly. Besides the punishment, there are other proceedings also which can be taken against directors, they may be disqualified from directorship further in other companies. Directors may be personally liable for misconduct also.

 

Conclusion:

 

While comparing the old Companies Act, 1956 (Section 217) with the new Companies Act, 2013 (Section 134), there have been many additions, such as extract of annual return (Section 92(3)), Explanation to adverse qualification in Secretarial audit report, Statement on declaration given by Independent Director if any (Section 149), Policy on Directors’ appointment, qualifications, remuneration etc., Particulars of loans, guarantees and investment (Section 186), Particulars of related party transactions (Section 188), Steps taken as per CSR policy approved by the Board etc., are the very relevant ones.

 

While many of the provisions under the old Act remains the same, the aforesaid additional ones in the New Act have been brought with the good intention of bringing more transparency, more relevant disclosures with regard to related party transaction and CSR etc. The responsibility of both auditors and independent directors have increased. The focus is not only on simply developing good policies by the directors but now implementation of such policies would be more critically examined.

 

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REFERENCES:-

  • Annual Report2013-14 of M/s. HUL
  • (http://www.hul.co.in/Images/HUL-Annual-Report-2013-14_tcm114-391926.pdf)
  • Companies Act, 2013 (http://www.mca.gov.in/MinistryV2/companiesact.html)- Companies Act, 1956
  • (http://www.mca.gov.in/Ministry/pdf/Companies_Act_1956_13jun2011.pdf)
  • Avtar Singh, Company Law, Eastern Book Company, 2014
  • www.mca.in
  • www.sebi.in