TaxTMI 
TaxTMI 
TaxTMI 
2019 (9) TMI 592
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....h Mr. Kevic Setalvad, Senior Advocate, Mr. Jayesh Ashar, Mr. Mihir Mody, Ms. Shreya Parikh, Mr. Sushant Yadav and Mr. Tabish Mooman, Advocates i/b K. Ashar & Co., Mr. Ravi Kadam, Senior Advocate with Mr. Kevic Setalvad, Senior Advocate, Mr. Jayesh Ashar, Mr. Mihir Mody, Ms. Shreya Parikh, Mr. Sushant Yadav and Mr. Tabish Mooman, Advocates i/b K. Ashar & Co. JUDGEMENT Per : Justice Tarun Agarwala, Presiding Officer 1. In this group of appeals, the appellants have questioned the legality and veracity of the impugned order passed by the Whole Time Member (hereinafter referred to as, 'WTM') of Securities and Exchange Board of India (hereinafter referred to as, 'SEBI') under Sections 11 and 11B of the Securities and Exchange Board of India Act, 1992 (hereinafter referred to as, 'SEBI Act') which empowers SEBI to issue directions in the nature of remedies in the interest of the securities market and investors in securities. 2. The WTM held that:- (i) Entities / firms practicing as Chartered Accountant (CA) in India under the brand and banner of Price Waterhouse (PW) shall not directly or indirectly issue any certificate of audit of listed companies, compliance of obligati....
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....ifications in diverse fields as Independent Directors. SCSL was very much in the limelight on account of media and Analysts and there were no signs of adverse comments or suspicious remark on its performances or the management came to light. More also PCAOB conducted an oversight inspection on SCSL as a US listed Company in 2006-07 and the inspection team did not find any negative in the performance of SCSL as a whole. 7. In the year 2009, SEBI received an email dated January 7, 2009 from Shri B. Ramalinga Raju, the then Chairman of SCSL stating that the statements of accounts of SCSL were not true and fair. The e-mail basically revealed that there was large scale financial manipulation in the books of accounts of SCSL, namely, that the balance sheet of SCSL as of September 30, 2008 carried inflated / non-existent cash and bank balances. 8. On the basis of this information, SEBI carried out an investigation into the affairs of SCSL. The investigations revealed that the statutory auditor of SCSL was Price Waterhouse Chartered Accountant w.e.f. April 1, 2000. The investigations found that certain directors and employees of SCSL had connived and collaborated in the overstatement, ....
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....ted the decision of millions of investors and induced them to trade in the securities of SCSL; (iv) these act of omission and commission, singly or jointly, in the discharge of their duties and "regardless of whether any criminal intent preceded such omissions or commissions clearly contained the key ingredients of the definition of fraud as laid down in SEBI (Prohibition of Fraudulent and Unfair Trade Practices Relating to Securities Markets) Regulations, 2003 ('PFUTP Regulations, 2003' for short). (v) for selectively obtaining direct confirmations in cases of certain bank accounts of SCSL which had nil or negligible balances while failing to obtain the same with respect to the account of Bank of Baroda, New York (BOB, NY) which showed the largest account balance (i.e. approximately 75% of all current account balances of SCSL) going upto Rs. 1731.88 crore in the quarter ending 30th September 2008. (vi) failure to consider the direct confirmations received from banks with respect to the figures of fixed deposits while blindly relying on the indirect confirmations received from SCSL which showed higher balances. Failure to make further examination or enquiry with respect to....
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....t it cannot be said that SEBI at that stage, had no jurisdiction to issue a SCN simply because the appellants are professional Chartered Accountants. The Bombay High Court, however, set out the scope and extent of SEBI's power under Section 11 and 11B of SEBI Act read with Regulation 11 of the PFUTP Regulations to act against Chartered Accountants and the circumstances under which SEBI could issue direction to Chartered Accountants acting in their professional capacity. The Bombay High Court emphatically held that the jurisdiction of SEBI in the present case would depend upon the evidence which is available during the investigation and that if there was only some omission without any mens rea or connivance with anyone, in any manner, then SEBI could not issue any further direction. 14. The judgment of the Bombay High Court has become final inter se between the parties, as it was not challenged before a higher forum. All the parties thus, acquiesced to the observations / findings / directions given by the Bombay High Court. Much will depend upon the scope and extent of SEBI's power against CAs as provided by the Bombay High Court and therefore it would be necessary to extract the ....
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....t, then such manipulation would have a direct bearing on the securities market for which appropriate action could be taken. It was further asserted that if during the enquiry any evidence is brought to the effect that the auditors had connived and were in collusion with B. Ramalinga Raju and had fabricated the accounts then SEBI could proceed against the CAs and the audit firms. It was asserted that if the CAs had violated the norms and standards of accounting prescribed by the CA Act, SEBI had powers to take regulatory measures for protecting the investor's interest by taking appropriate steps against the CAs by preventing the CA from auditing the books of accounts of such listed Companies. It was thus contended that on the basis of prima facie evidence of fudging the books of accounts SEBI had the power and jurisdiction to issue notices and enquire into the matter. 17. The question whether SEBI as a market regulator could be said to have jurisdiction to pass any of the directions as contained in the SCN was considered by the Bombay High Court. Despite the fact that the CA Act conferred exclusive jurisdiction upon the ICAI to adopt disciplinary misconduct, the Bombay High Court ....
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....e omission without any means rea or connivance with anyone in any manner, then on such evidence, SEBI could not give any further directions. The Bombay High Court was quite specific in holding that the jurisdictional fact would clearly depend upon the evidence that was unearthed during the enquiry. 21. The Bombay High Court held:- "It is true, as argued by the learned counsel for the petitioners, that while exercising powers under the Act, it is not open to the SEBI to encroach upon the powers vested with the Institute under the CA Act. However, it is required to be examined as to whether in substance by initiating the proceedings under the SEBI Act, the SEBI is trying to overreach or encroach upon the powers conferred under the CA Act. and further held:- "In order to safeguard the interest of investors or interest of securities market, SEBI is entitled to take all ancillary steps and measures to see that the interest of the investors is protected. Looking to the provisions of the SEBI Act and the Regulations framed thereunder, in our view, it cannot be said that in a given case if there is material against any Chartered Accountant to the effect that he was instrumental i....
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....nd owe a duty to the shareholders and are required to give a correct picture of the financial affairs of the Company. The Bombay High Court observed:- "An investor is likely to be guided by the audited balance-sheet of the Company and would presume that the facts incorporated in the balance-sheet are true and correct. Considering the said aspect, even though the petitioners may not have direct association in the share market activities, yet the statutory duty regarding auditing the accounts of the Company and preparation of balance-sheets may have a direct bearing in connection with the interest of the investors and the stability of the securities market. In our view, the petitioners in their capacity as auditors of the Company Satyam, which was at one point of time considered to be a blue chip company who had a defining influence on the securities market, can be said to be persons associated with the securities market within the meaning of the provisions of the said Act." 23. On the question whether SEBI can regulate the profession of a CA, the Bombay High Court held:- "As regards the contention of Mr. Dwarkadas that except the Institute, no other body has any power to reg....
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....ny audit norms then whether such CA should be allowed to function as an auditor of a listed Company if by construing such auditor of a listed Company it may hamper the interest of the investors of such a listed Company. The Bombay High Court however held that it is only the ICAI which is the regulating body to consider the professional norms, but in a given case if there is evidence to show that a CA has fabricated the books of accounts etc., then SEBI can issue directions not to utilize the services of such a CA in the matter of audit of a listed Company. The Bombay High Court further went on to hold:- "However, on conclusion of inquiry, if no evidence is available regarding fabrication and falsification of accounts, etc., then naturally SEBI cannot give any direction in any manner and ultimately its jurisdiction will depend upon the evidence which may be available in the inquiry and SEBI has to decide as to whether any directions can be given on the basis of available evidence on record." 25. The Bombay High Court after considering the scheme of the SEBI Act held that in the instant case, on the basis of a show cause notice, SEBI had the jurisdiction to enquire and investiga....
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....ce sheet have been manipulated and/or fabricated. (ii) The manipulation of the books of accounts and balance sheet by the CA and the CA firms was done with their knowledge and intent. (iii) If during investigation and enquiry, if any evidence is brought on record to show that the auditors had connived and were in collusion with B. Ramalinga Raju and had fabricated the books of accounts of balance sheet, then SEBI can proceed in the matter and take appropriate steps against CA by preventing the CA from auditing the books of accounts of such listed Companies. (iv) SEBI can take into consideration the accounting standards provided under the CA Act to see whether a CA has violated any norms but upon conclusion of enquiry, if no evidence is available regarding fabrication, fabrication or fudging the books of accounts etc. then SEBI cannot issue any direction. (v) SEBI would adjudicate whether other Price Waterhouse firms had any role to play and if it is found that there was some omission on their part without any mens rea or connivance with anyone, then on such evidence SEBI cannot issue any further direction. 28. We have heard Mr. Mukul Rohatgi, Senior Advocate along wit....
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....quiry. The Bombay High Court in its judgment has consistently used the words "false", "fabricated", "fabrication", "falsification", "concocted" and "fudge" in relation to the books of account of SCSL. The Bombay High Court has also used the words "indulged", "instrumental", "intention", "knowledge", "connived", "collusion", "manipulation", "fraud" and "mens rea" in the fabrication or falsification of the books of account. These words speak volumes of the intent, scope and extent of the enquiry to be conducted under the SEBI laws. 31. Black's Law Dictionary 8th Edition, defines "false" as untrue, deceitful, lying, not genuine. What is false can be so by intent. The term "fabricate" means to invent, forge or devise falsely. To fabricate a story is to create a plausible version of events that is advantageous to the person relating those events. The term is softer than a lie (Black's Law Dictionary 7th Edition). "Falsification" means to counterfeit or forge; to make something false; to give a false appearance to anything. To make false by mutilation, alteration, or addition; to tamper with, as to falsify a record or document (Black's Law Dictionary 7th Edition). The word "falsify" ma....
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....that, under the circumstances, amounts to assertion not in accordance with the facts; an untrue statement of fact; an incorrect or false representation that which, if accepted, leads the mind to an apprehension of a condition other and different from that which exists. Colloquially, it is understood to mean a statement made to deceive or mislead (Black's Law Dictionary, 6th edition). "Negligence" means the omission to do something which a reasonable man, guided by those ordinary consideratiosns which ordinarily regulate human affairs, would do, or the doing of something which a reasonable and prudent man would not do. Negligence is the failure to use such care as a reasonably prudent and careful person would use under similar circumstances; it is the doing of some act which a person of ordinary prudence would not have done under similar circumstances or failure to do of a person of ordinary prudence would have done under similar circumstances (Black's Law Dictionary, 6th edition). "Omission" means the neglect to perform what the law requires. The intentional or unintentional failure to act which may or may not impose criminal liability depending upon the existence, vel non, of a du....
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.... bank balance and fixed deposits was not in accordance with Auditing and Assurance Standards (AAS) issued by ICAI which was a mandatory requirement. (a) as per AAS 13, the auditors had a duty to obtain direct bank confirmation as a preliminary validation procedure which the appellants failed to do so. (b) as per AAS 30, the responsibility of sending the letters seeking external confirmation was upon the auditor which the firm failed to adhere to the said audit process. (c) as per AAS 30, the auditors were mandated to verify the source of contents of confirmation letters by additional audit procedures viz. telephonic calls, email, etc. which the appellants failed to do so. (vii) having failed to comply with the audit procedures as mandated under AAS, the appellants failed to fulfill these basic professional duties of an auditor. (viii) the auditors have relied upon the monthly bank statement of Bank of Baroda which turned out to be forged and manipulated. (ix) bank statement was obtained from SCSL instead of obtaining it directly from the bank. (x) by not seeking external confirmation of the current account balance of SCSL with Bank of Baroda, New York, the audi....
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....ide and involvement on their part. (xix) the accumulated omission on the part of the auditors over eight years is an act of gross negligence and amount to an act of commission of fraud for the purposes of SEBI Act and SEBI PFUTUP Regulations. (xx) mens rea in the criminal sense is not relevant and is not required to be established in a violation alleged under PFUTP Regulations read with the SEBI Act in view of the Supreme Court decision in the case of Securities and Exchange Board of India vs. Shri Kanaiyalal Baldevbhai Patel & Others, (2017) 15 SCC 1. Thus reliance on the judgment of the Bombay High Court by the appellants was unnecessary and misplaced. 34. In a nutshell, the WTM held that failure to seek external confirmation of the bank balances, fixed deposits, failure to detect fake invoices without adopting the rigorous procedure mandated by AAS draws an inference of gross negligence and inference of involvement in the fudging of the accounts. This gross negligence amounts to an act of commission of a fraud for the purposes of SEBI Act and SEBI PFUTP Regulations for which mens rea is not required to be proved beyond a reasonable doubt but could be based on a preponder....
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.... communicate such material or non-public information to any other person, in a manner which is in contravention of the provisions of this Act or the rules or the regulations made thereunder; (f) acquire control of any company or securities more than the percentage of equity share capital of a company whose securities are listed or proposed to be listed on a recognised stock exchange in contravention of the regulations made under this Act." "PFUTP Regulations "Definitions 2.(1) In these regulations, unless the context otherwise requires,- ................. (b) "dealing in securities" includes an act of buying, selling or subscribing pursuant to any issue of any security or agreeing to buy, sell or subscribe to any issue of any security or otherwise transacting in any way in any security by any person as principal, agent or intermediary referred to in section 12 of the Act. (c) "fraud" includes any act, expression, omission or concealment committed whether in a deceitful manner or not by a person or by any other person with his connivance or by his agent while dealing in securities in order to induce another person or his agent to deal in securities, whether or n....
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....e a fraudulent or an unfair trade practice if it involves fraud and may include all or any of the following, namely:- (a) indulging in an act which creates false or misleading appearance of trading in the securities market; .............. (e) any act or omission amounting to manipulation of the price of a security; (f) publishing or causing to publish or reporting or causing to report by a person dealing in securities any information which is not true or which he does not believe to be true prior to or in the course of dealing in securities;" ............ (k) an advertisement that is misleading or that contains information in a distorted manner and which may influence the decision of the investors; ................ (r) planting false or misleading news which may induce sale or purchase of securities." 37. In Securities and Exchange Board of India vs. Pan Asia Advisors Limited and Another, (2015) 14 SCC 71 the Supreme Court has set out the scope of Section 12A of the SEBI Act. The Supreme Court held:- "78. Section 12-A of the SEBI Act, 1992 creates a clear prohibition of manipulating and deceptive devices, insider trading and acquisition of securities. S....
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....y manipulative and deceptive devices, insider trading and substantial acquisition of securities or control by ANY PERSON either directly or indirectly. If SEBI's allegation listed out earlier as well as all the other allegations fall under Sections 12-A(a), (b) and (c), there will be no escape for the respondents from satisfactorily explaining before the Tribunal as to how these allegations would not result in fully establishing the guilt as prescribed under sub-clauses (a), (b) and (c) of Section 12-A. Similar will be the situation for answering the definition under Regulations 2(1)(b), (c), 3, 4(1), (2)(a), (b), (c), (d), (e), (f), (k) and (r) of the 2003 Regulations, apart from taking required penal action against those who are involved in any fraud being played in the creation of securities." 38. In N. Narayanan vs Securities and Exchange Board of India, (2013) 12 SCC 152 the Supreme Court held:- "33. Prevention of market abuse and preservation of market integrity is the hallmark of securities law. Section 12-A read with Regulations 3 and 4 of the 2003 Regulations essentially intended to preserve "market integrity" and to prevent "market abuse". The object of the SEBI ....
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....on of Financial Assets and Enforcement of Security Interest Act, 2002; (id) units or any other such instrument issued to the investors under any mutual fund scheme; (ii) Government securities; (iia) such other instruments as may be declared by the Central Government to be securities; and (iii) rights or interest in securities;" 40. "Dealing in securities" have been defined under Regulation 2(1)(b) of PFUTP Regulations, 2003 which has already been extracted above, includes an act of buying and selling of any security or otherwise transacting in any way in any security. The term security has been defined under Section 2(h) of the SCR Act to include shares, scrips, stocks, bonds, etc. Thus, Section 12A becomes applicable only when a person deals in securities either directly or indirectly and indulges in manipulative and deceptive devices, etc. 41. The scope of PFUTP Regulations, 2003 has been set out by the Supreme Court in Kanaiyalal's case (supra). The Supreme Court held:- "10. The 2003 FUTP has three chapters, namely, "Preliminary", "Prohibition of fraudulent and unfair trade practices relating to securities market" and "Investigation". Regulation 1 contains the....
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.... so that the same induces another person or his agent to deal in securities; 4. whether or not there is any wrongful gain or avoidance of any loss. The second part of the definition includes specific instances: (1) a knowing misrepresentation of the truth or concealment of material fact in order that another person may act to his detriment; (2) a suggestion as to a fact which is not true by one who does not believe it to be true; (3) an active concealment of a fact by a person having knowledge or belief of the fact; (4) a promise made without any intention of performing it; (5) a representation made in a reckless and careless manner whether it be true or false; (6) any such act or omission as any other law specifically declares to be fraudulent; (7) deceptive behaviour by a person depriving another of informed consent or full participation; (8) a false statement made without reasonable ground for believing it to be true; (9) the act of an issuer of securities giving out misinformation that affects the market price of the security, resulting in investors being effectively misled even though they did not rely on the statement itself or anything derive....
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....be committed, even without any deceit if such act or omission has the effect of inducing another person to deal in securities. Certainly, the definition expands beyond what can be normally understood to be a "fraudulent act" or a conduct amounting to "fraud". The emphasis is on the act of inducement and the scrutiny must, therefore, be on the meaning that must be attributed to the word "induce". 55. The dictionary meaning of the word "induced" may now be taken note of: Black's Law Dictionary, 8th Edn., defines "inducement" as "The act or process of enticing or persuading another person to take a certain course of action". * * * Merriam-Webster Dictionary defines "inducement" as "a motive or consideration that leads one to action or to additional or more effective actions". 56. A person can be said to have induced another person to act in a particular way or not to act in a particular way if on the basis of facts and statements made by the first person the second person commits an act or omits to perform any particular act. The test to determine whether the second person had been induced to act in the manner he did or not to act in the manner that he proposed, is ....
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....nducement" becomes more significant where 'fraud' is required to be proved. The Supreme Court held that mens rea is not an indispensible requirement and fraud can be inferred on a preponderance of probabilities. However, the inferential conclusion must be arrived at from proven and admitted facts. 44. From the aforesaid, it becomes apparently clear that Regulation 3 and 4 of PFUTP Regulations applies only on persons dealing in securities. The applicability can be extended to persons who are associated with the securities directly or indirectly. Admittedly, the appellants are not dealing in the securities either directly or indirectly. They are auditors of listed companies. In order to bring them culpable within the four corners of Section 12A and Regulation 3 and 4 of PFUTP Regulations, fraud has to be proved on the basis of evidence. The Supreme Court in Kanaiyalal's case (supra) extended the applicability of the provisions of Regulation 3 and 4 of PFUTP Regulation on a "tippee" only when a charge against him was proved. In the instant case, there is no shred of evidence to show that the auditor / audit firm had fabricated or falsified or fudged the books of account of SCSL in c....
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....x fraud was perpetuated by the management of SCSL which deceived the naked eye of the auditors. The fake sale invoices as in the case of genuine sale invoices had a perfect document trail like purchase orders, time sheets, master software, service agreements, etc. and therefore very difficult to detect. 47. The scope of the enquiry as directed by the Bombay High Court was restricted only to the charge of conspiracy and involvement in the fraud and not to any charge of professional negligence. The charge of conspiracy or connivance was required to be established by the respondent on the basis of the material available pursuant to the investigation. The Bombay High Court while passing the order was conscious of the fact that Chartered Accountants were not amenable to SEBI Act. The order of the Bombay High Court was thus passed in the peculiar facts and circumstances of the given case wherein jurisdiction was conferred upon SEBI only if it proved that on the basis of the material the Chartered Accountant was instrumental in preparing false and fabricated accounts or had connived in the preparation and falsification of the books of accounts. 48. In our view, action against a Charte....
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....roadly construed and recklessness should be equated to be a part of the term "mens rea" is erroneous. On this issue, reliance by the respondents in the case of Naresh Giri vs. State of M.P. (2008) 1 SCC 791 is misplaced as it was dealing with Sec. 304A of the Indian Penal Code where it was observed that a person is reckless if he carried out a deliberate act knowing that there is some risk of damage resulting from that act but nevertheless continues in the performance of that act. It was also stated that there are only two states of mind which contributes mens rea, namely, "intention" and "recklessness". In the instant case, both elements are missing. No such finding to this extent has been given by the WTM. The said decision is thus not applicable. Contention that proof of intention is not required and that standard of proof can be based on preponderance of probabilities is also misplaced Reliance on this issue in Securities and Exchange Board of India vs. Rakhi Trading P. Ltd. 2018(13) SCC 753 is wholly erroneous. In the case of Rakhi Trading (supra) the standard of proof was based on preponderance of probability in synchronized trading under the PFUTP Regulations. That principle....
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.... is any finding of actual collusion or connivance by the engagement partners and / or by the audit firm with the management of SCSL. 54. In this regard Section 11(4)(b) of the SEBI Act provides that the Board may by an order for reasons to be recorded in writing, in the interest of investors or securities market, take measures to restrain persons from accessing the securities market and prohibit any person associated with the securities market to buy, sell or deal in securities. Taking this provision into consideration, the Bombay High Court accordingly laid down the parameters by which SEBI could issue a direction against a Chartered Accountant while certifying the books of accounts of SCSL. The provisions of the SEBI Act cannot be construed to take into its sweep any professional who is remotely connected with the securities market by way of certifying the books of accounts. Such inclusion would necessarily expand the scope and ambit of the SEBI Act and simultaneously encroach upon the powers of the ICAI under the Chartered Accountants Act. 55. The impugned order deals at length with the non-adherence to the auditing standards issued by ICAI. These auditing standards cannot b....
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....ements, the auditor follows procedures designed to satisfy himself that the financial statements reflect a true and fair view of the financial position and operating results of the enterprise. The auditor recognizes that because of the test nature and other inherent limitations of an audit, together with the inherent limitations of any system of internal control, there is an unavoidable risk that some material misstatement may remain undiscovered. While in many situations the discovery of a material misstatement by management may often arise during the conduct of the audit, such discovery is not the main objective of audit nor is the auditor's programme of work specifically designed for such discovery. The audit cannot, therefore, be relied upon to ensure the discovery of all frauds or errors but where the auditor has any indication that some fraud or error may have occurred which could result in material misstatement, the auditor should extend his procedures to confirm or dispel his suspicion. 58. Under AAS 4, the primary responsibility for the prevention and detection of fraud and error rests with both those charged with the governance and the management of an entity. The respe....
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....egrity and enables them to override the formally established control procedures. Certain levels of management may be in a position to override control procedures designed to prevent similar frauds by other employees, for example, by directing subordinates to record transactions incorrectly or to conceal them. Given its position of authority within an entity, management has the ability to either direct employees to do something or solicit their help to assist management in carrying out a fraud, with or without the employees' knowledge. The auditor's opinion on the financial statements is based on the concept of obtaining reasonable assurance; hence, in an audit, the auditor does not guarantee that material misstatements, whether from fraud or error, will be detected. Therefore, the subsequent discovery of a material misstatement of the financial statements resulting from fraud or error does not, in itself, indicate: (a) failure to obtain reasonable assurance, (b) inadequate planning, performance or judgment, (c) absence of professional competence and due care, or, (d) failure to comply with auditing standards generally accepted in India. This is particularly th....
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....termine the appropriate accounting principles and methods used in preparation of the financial statements. This determination will be made in the context of the financial reporting framework that management chooses, or is required to use. In contrast, the auditor's responsibility is to audit these financial statements in order to express an opinion thereon. The auditor's report should describe the audit as including: (a) examining, on a test basis, evidence to support the amounts and disclosures in financial statements;......... The report should include a statement by the auditor that the audit provides a reasonable basis for his opinion. 61. Further, considering the auditing practices adopted by the ICAI, the Bombay High Court in Tri-Sure India Ltd. vs A.F. Ferguson and Co. and Others 1985 SCC OnLine Bom 342 : (1987) 61 Comp Cas 548, held:- "In "Statement on Auditing Practices" published by the Institute of Chartered Accountants of India in the year 1968, it is pointed out that it is the directors of a company who are primarily responsible for the preparation of the annual accounts and for the information contained in it. The duty of safeguarding the assets of a company....
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....are and skill must depend upon the circumstances of each case. 62. In Re Kingston Cotton Mill Company, 1896 2 Ch 279 the Court of Appeals examined the role of auditors and held that an auditor is not an insuror and that in the discharge of his duty, he is only bound to exercise a reasonable amount of care and skill depending on the circumstances of that case. The notion that the auditor is bound to be suspicious as distinguished from reasonably careful would lead to a serious error. 63. In Institute of Chartered Accountants of India vs P.K. Mukherjee, AIR 1968 SC 1104, the Supreme Court held:- "In other words, the auditing was intended for protection of the beneficiaries and the auditor was expected to examine the account maintained by the trustee with a view to inform the beneficiaries of the true financial position. The auditor is, in such as case, under a clear duty towards the beneficiaries "to probe into the transactions" and to report on their true character." 64. In Deputy Secretary to the Government of India, Ministry of Finance Vs S.N. Das Gupta , AIR 1956 Cal 414, the Calcutta High Court while examining whether a Chartered Accountant was guilty of negligence in t....
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....the shareholders of the investors especially when alternate procedure as per para 39 of AAS-30 was adopted and no fault was found in following such procedure. It may be noted here that SCSL enjoyed a good reputation for corporate governance and thus there was nothing wrong in accepting the bank statements and fixed deposits provided by SCSL. The same were on the letterhead of the Bank and there was no reason to suspect that the bank statement or the fixed deposits were not genuine. Merely saying that the norms laid down in AAS were not followed leads to an inference of gross negligence is misplaced. The auditor is required to employ reasonable skill and care and is not required to proceed in the manner of trying to detect a fraud. When the bank statements were presented by SCSL, the auditor was entitled to accept the document as genuine. Subsequent discovery of a material misstatement does not in our opinion amounts to gross negligence or recklessness amounting to fraud or complete failure to comply with the auditing standards. At best, it amounts to a lapse. The audit could have been conducted with more care and prudence. 66. The contention that the auditor should proceed with t....
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....hed which creates suspicion. What is reasonable care and skill must depend upon the circumstance of each case. The auditor is not required to perform the functions of a detective. The auditor is a watchdog and not a blood hound. The duty of an auditor is verification and not detection. 69. Audit regulators around the world have identified certain themes, such as the need to exercise more professional skepticism in difficult audit areas. The circumstances may indicate a need for deeper examination of how the firms can improve audit quality so that the audit can serve as reliable and useful for shareholders and investors. There is a need to maintain a high quality audit on a consistent basis. In the Indian Courts, the audit oversight mechanism is still evolving. The Companies Act, 2013 now mandates constitution of a separate National Financial Reporting Authority which would, inter alia, also review quality of services provided by the member of the ICAI which has already been set up in 2018. Complaints against auditors could be considered by this authority but professional skepticism in isolation cannot be considered under SEBI Laws. Under Section 28B of the CA Act, a Quality Revie....
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....th the objective of discovering all frauds. When an action is taken against the auditor, one has to look at the facts which have been subjected to scrutiny and explained by the auditors. The duty of the Tribunal is to endeavour and ascertain what was the problem presented to the auditor and what was the knowledge available to them at the time of audit. In our opinion it would not be fair to consider the case with hindsight and hold that the auditor was grossly negligent or reckless in the discharge of their duties. One must keep in mind the facts available at the time of the alleged negligence by the auditors and one should not be cowed down by the facts that emerged after a scrutiny was carried out by the special audit. So also the standard of care, while assessing the practice as adopted is justified in the light of knowledge available at the time of incident and not at the time of trial. The law requires that a professional man lives up in practice to the standard of the ordinary skilled man exercising and preferring to have special professional skill. He need not possess the highest expert skill; it is enough if he exercises the ordinary skill of an ordinary competent man exerc....
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.... Limited and Others (2015) 14 SCC 77, the Supreme Court held:- "75. On a reading of the above statutory provisions, we find under Section 11(1) of the SEBI Act, 1992, a duty has been cast on SEBI to protect the interest of the investors in securities and also to promote the development of the securities market as well as for regulating the same by taking such measures as it thinks fit. The paramount purpose has been shown as protection of interest of investors on the one hand and also simultaneously for promoting the development as well as orderly regulation of the security market. By way of elaboration under Sections 11(2)(a) to (e) it is stipulated that the duty of SEBI would include regulating the business in the stock exchanges and any other securities market which would include the working of stockbrokers, share transfer agents and similarly placed other functionaries associated with securities market in any manner, registering and regulating the working of the depositories, participants of securities including foreign institutional investors in particular to ensure that fraudulent and unfair trade practices relating to securities markets are prohibited and also prohibiting....
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....investors in securities, to promote the development of the securities market, and to regulate the securities market, "by such measures as it thinks fit". It is therefore apparent that the measures to be adopted by SEBI in carrying out its obligations are couched in open-ended terms having no prearranged limits. In other words, the extent of the nature and the manner of measures which can be adopted by SEBI for giving effect to the functions assigned to SEBI have been left to the discretion and wisdom of SEBI. It is necessary to record here that the aforesaid power to adopt "such measures as it thinks fit" to promote investors' interest, to promote the development of the securities market and to regulate the securities market, has not been curtailed or whittled down in any manner by any other provisions under the SEBI Act, as no provision has been given overriding effect over sub-section (1) of Section 11 of the SEBI Act." 78. Thus, the powers conferred on SEBI under Section 11 and 11B is to protect the interests of investors in securities and to promote the development of and to regulate the securities market. Therefore, the measure to be adopted by SEBI is remedial and not p....
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....CA comprising several partners having their head office at various places in India. The said ten firms are registered with the Institute of Chartered Accountants of India (ICAI) established under the CA Act. The said ten firms does not deal in securities either directly or indirectly. Further, the ten firms were never the statutory auditor of Satyam Computer Services Ltd. (SCSL). 80. The charge against the said ten firms is that they are entities / firms practicing as CA in India under the brand and banner of Price Waterhouse (PW) and are liable for the audit of SCSL on the basis of them being a member of network of firms under the banner Price Warehouse (PW). 81. As regards the liability of the firms in the PW Network, the following facts, as revealed during the investigation, are relevant for consideration: (i) SCSL had appointed 'PW' (branch office being in Hyderabad) as its auditors and PW Bangalore is stated to have taken up the assignment. Persons deployed for the SCSL Audits were sourced from various firms/offices of PW. The audits thus involved personnel from various firms linked to the PW Network. (ii) The core engagement team who worked on the audit of SCSL wa....
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....and banner PW and further directed the listed companies and intermediaries registered with SEBI not to engage any one firm forming part of the PW network for issuing any certificate with respect to compliance of statutory obligations with SEBI. The reasoning and finding of the WTM leading to the passing of the impugned order was based on the following reasons:- (a) The webpage of PWC India indicates that PWC has offices at Ahmedabad, Bangalore, Chennai, Delhi, Hyderabad, Kolkata, Mumbai, Pune etc. and that the webpage that PWC Global describes PWC as the brand under which member firms of Price Waterhouse Coopers International Limited (PWCIL) operate and provide professional services which member firms include the ten firms in question. (b) The settlement order of Securities and Exchange Commission, USA (SEC) has imposed remedial sanctions and a cease and desist order against five of the ten firms of PW in India in the context of fraud at SCSL, namely, Lovelock & Lewes, PW Bangalore, PW & Co. Bangalore, PW Calcutta and PW & Co. Calcutta. (c) Similar findings were also given by Public Company Accounting Oversight Board (PCAOB), USA imposing similar sanctions. (d) Institut....
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....order there were 98 partners in the ten firms out of which 70 are new partners who were not partners of the firms during the period 2000 to 2009 and thus banning them from doing audit work of listed Company merely because those are presently partners in PW firms is wholly arbitrary and illegal. Further, 90% of the staff engaged in the "engagement team" are different now and debarring them for no fault of theirs was thus also arbitrary and illegal. 87. It was thus contended that vicarious liability of a CA cannot be extended to the firm and other firms other than the audit firm nor the vicarious liability could be fastened upon the new partners who admittedly had no role in the audit of SCSL as they were not partners at the relevant moment of time. 88. It was contended that the WTM has failed to consider the provisions of The Partnership Act, 1932 which governs the appellant firms. The learned counsel submitted that under Section 31(2) of The Partnership Act, 1932 a partner is not liable for any act of the firm before he became a partner and thus submitted that the present partners who were not partners at the relevant moment of time could not be held liable for any act of the f....
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....unts. It was urged that failure to comply with the basic auditing standards constituted fraud and thus it was vital to uphold the directions in the impugned order against all PW entities. 95. It was contended that even though PW Bangalore is stated to have taken up the audit assignment of SCSL, the audit assignment was accepted on behalf of PW. The letterhead did not mention PW Bangalore. In fact, the letter of acceptance was issued on the letterhead of PW Hyderabad and thus an irresistible inference can be drawn that all PW CA firms were one and the same under a common brand and network. This is further fortified that persons deployed for the audit were sourced from other PW firms of PW network. 96. The learned senior counsel submitted that the PW network enabled the PW entities to set up and maintain standards of auditing which were grossly deficient as per accounting norms prescribed by ICAI. The PW entities were projecting themselves as a brand value under the banner PW. Since the auditing standards across PW entities were deficient, it became imperative to issue directions against all the PW entities network. It was contended that since partners and staff were sourced from....
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....n our opinion, the approach adopted by the WTM is patently erroneous and is flawed. 100. In the absence of any finding of connivance or collusion or intention or knowledge on the part of the ten firms in the audit of SCSL, and in view of the clear cut directions of the Bombay High Court, no directions could have been issued by the WTM against the ten firms. The reasoning adopted by the WTM in relation to the resource sharing agreement, the brand PW and the networking of the PW cannot be accepted. 101. The ten firms have entered into a resource sharing agreement in which resources are shared pursuant to an agreement and on the basis of consideration and without liability being transferred. For facility, the contents of the agreement is extracted hereunder:- "WHEREAS the firms of chartered accountants are engaged mainly in providing audit and other related services. WHEREAS the firms employ qualified and trained resources for the purpose of providing audit and other related services to their respective clients. WHEREAS the Firms have agreed to work together and maintain certain standard and best business practices. WHEREAS in view of the growing volume of business of ....
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....le arbitrator to be appointed by mutual consent in accordance with the Arbitration and Conciliation Act, 1996 IN WITNESS whereof this agreement has been duly executed the day and year abovewritten." 102. The resource sharing agreement makes it clear that the firms could draw collective resources employed amongst the firms on an "as necessary" basis in order to ensure rendering of quality services to their respective clients in the field of audit, etc. For the services rendered consideration would be paid to the said firm. Clause (E) of the agreement makes it apparently clear that the responsibility and liability will remain with the audit firm relating to the professional assignment executed by such firm and the firm which is providing any kind of resources would not be made liable or responsible. Clause (F) further amplifies that firms providing resources would not give any authority in favour of that firm to represent on behalf of other firms of the firm which has been given the audit. Further, the resource sharing agreement would not constitute a partnership between them and the sharing of resources would be purely on a principal-to-principal basis. 103. The WTM on the ba....
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....urnover, infrastructures manpower location for execution of Professional services of one or more type. [Explanation - 1. An affiliation as referred to above shall also include: (i) Having an association with an accounting entity within or outside India such that it results directly or indirectly in a common professional economic of beneficial interest. (ii) One or mode of the entities holding out that it so affiliated or networked. 2. An entity shall not be treated as an affiliated of another merely for the reason that they (a) Share professional knowledge and data base. (b) Refer certain professional assignment or authorize the other to represent certain specific matters. 3. If different Indian firms are network with a common Multi‐National Accounting Firms (MAF) then irrespective of the presence/absence of any affiliate relationship between the Indian firms inter‐set they shall be considered as part of a network) (ii) Formal Network - Formal network means a network amongst two or more firms registered with The Institute of Cost Accountants of India (ICAI) where the object of network is to use the collective resources of the affiliates for ex....
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....partnership firms(s)/Individual Member constituting the Network would be answerable. 106. From the aforesaid, it is clear that the Rules of Network provide that two or more firms can form a network. Such network share includes the formal network to use the collective resources such as turnover, infrastructure, manpower, etc. Formal network means a network amongst two or more firms registered with ICAI where the object of the network is to use the collective resources of the affiliates for execution of professional services. The resources would include financial, technical and other logistical support required to execute the professional assignments. Common resources could be posted and exhibited together. Further, the network would have a distinct name which has to be approved by ICAI. The Network is distinguished from a "firm" of CA. If the network is approved by ICAI, then the firm shall use the word "& Affiliates" instead of the words "& Co" or "& Associates". Accordingly, standards as prescribed by ICAI under the CA Regulations, 1988 would be applicable to the Network. Under Clause (4) of the Rules, a network is required to be registered with ICAI. Clause (6) prescribes ethic....
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....rs, correspondence issued by auditors, minutes of board meetings, in order to make a point that the firms were holding out to the market as one entity and that the various letters and balance sheets showed that they were being signed in the name "Price Waterhouse" and not any particular firm like the appellant in Appeal No. 7 of 2019. SEBI thus contended that it is the network which represents SCSL and that the audit is conducted by the network when it uses the term "Price Waterhouse". The contention of SEBI is completely misconceived and false. In our opinion the audit opinion is signed by the appellant in Appeal No. 7 and not by the network. Further, the letterhead used for the audit opinions as well as engagement letter is the letterhead of "Price Waterhouse", i.e. the firm which conducted the SCSL audit and not the network of firms. The address of Hyderabad mentioned on the letterhead is the address of the Hyderabad branch of the firm which conducted the audit. We further find that AAS 28 of ICAI provides for the following: "The report should be signed by the auditor in his personal name, where the firm is appointed as the auditor; the report should be signed in the personal....
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....nly the person appointed as auditor of the company, or where a firm is so appointed in pursuance of the proviso to sub-section (1) of section 226, only a partner in the firm practising in India, may sign the auditor's report, or sign or authenticate any other document of the company required by law to be signed or authenticated by the auditor." 112. The definition of "engagement partner" under the ICAI Code of Ethics means the partner or other person in the firm who is a member of the ICAI and is in full time practice and is responsible for its engagement and its performance and its report that is issued on behalf of the firm and, who, where required, as an appropriate authority from a professional, legal or regulatory body. Much stress has been laid by the WTM on the engagement letter to mean that the audit was given to the PW network. The approach adopted is erroneous. The engagement letter is addressed by the firm which was appointed as the auditor viz., the appellant in Appeal No. 7 and not by the network of firms. Clause 12 of the Code of Ethics by ICAI states that- "However, the Council has decided that where a Chartered Accountant while signing a report or, a financ....
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....d and untenable. There has to be a specific finding that the ten firms were in collusion and that there was intention and knowledge to play fraud in the audit of SCSL. 116. The webpage of PWC or PWC global does not identify that PW entities are working closely with each other under the same brand and identify themselves with the said brand. Even if the PW brand is being used by the ten firms, it does not lead to an inference that these ten firms are PWC and the same entity. Using the brand PW, does not make the ten firms liable for the act done by one PW firm. The liability for acts or omissions is certified to individual firms and cannot be passed on to the network firms using PW brand. The resource sharing agreement between the firms relates to sharing of certain types of resources. It was nothing to do with the brand PW. The ten firms have been allowed to use the PW name from the PWCIL UK. The mere fact that PW firms in India are members of PWCIL UK and are allowed to use the brand PW does not make them into a "loose knit network arrangement as one consolidated entity" and thus be made liable. If any advantage is gained by using the brand PW, it does not mean that all the PW....
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..... Lovelock, PW Bangalore, PW Co. Bangalore, PW Co. Calcutta, and PW Calcutta are member firms of PricewaterhouseCoopers International Limited, a United Kingdom-based private company. 12. PW India, along with five other India-based PwC network Firms, operate as a domestic Indian network of related audit firms. As such, these firms share common audit and other assurance and assurance risk management leadership and follow common audit and other assurance policies and procedures, including in the areas of audit and assurance risk management, training and supervision. 13. PW India and the five other India-based PwC Network Firms operate their audit practices under resource sharing arrangements that facilitate the provision of audit services as a network of related firms. ... PW India partners typically are affiliated with several firms within the domestic network of audit firms simultaneously. During the relevant period, PW India and the other domestic India-based firms shared resources and settled inter-firm balances at the end of each fiscal year. 14. PW India and the five other India-based PwC Network Firms operate in a manner that generally does not make any distinctions am....
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....t each firm was adopting the same accounting standards as adopted by the audit firm which audited SCSL. Thus, reliance by the WTM on the SEC & PCAOB orders does not prove connivance or collusion, nor leads to a conclusion that these firms do not meet with the prescribed accounting standards as per ICAI. 122. The decision in S. Sukumar vs. Secretary, Institute of Chartered Accountants of India, (2018) 14 SCC 360 relates to possible violation of Section 25 and Section 29 of CA Act and FEMA Regulations. The observations given are only prima facie. In fact the Supreme Court directed the Union of India to constitute a three member Committee of experts to look into the statutory framework of Sections 25 and 29 of the CA Act and to bring appropriate legislation for oversight of the profession of auditors, etc. In the instant case, the jurisdiction of SEBI to pass orders against CA is governed by the Bombay High Court order which provides that SEBI has to establish intention, knowledge, connivance, collusion, mens rea on the part of a CA. The order of Bombay High Court is binding on SEBI. 123. There is one other aspect which nails the issue and this is Section 31(2) of the Indian Partn....
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....filings are done as per Regulation 190(4) and 190(7) of CA Regulations, 1988. 128. In this regard the appellants have taken a specific plea in paragraphs 6.20 and 6.24 of the memo of appeal, namely, that a majority of the current partners of the ten firms became partners only after 2009. This fact has not been denied by the respondent. As on the date of the impugned order there were 98 partners in the ten firms out of which 70 are new partners who were not partners of the PW firms during the period 2000 to 2009. Thus banning them from doing audit work of listed Company merely because they are presently partners in PW firm is in complete violation of Section 31(2) of the Partnership Act. Specific arguments were raised by the ten firms on this issue before this Tribunal which was not countered by the respondent. However, in the written submission a feeble assertion was made to the effect that the SEBI Act is a standalone statute and the direction issued under the SEBI Act cannot be tested on the basis of the provisions of the other Acts. It was asserted that securities fraud is unique and must be viewed in the context of the securities market and innocent investors which cannot be ....
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....or enjoys a juristic personality in that sense. The firm name is only a collective name for the individual partners. But each partnership is a distinct relationship. The partners may be different and yet the nature of the business may be the same, the business may be different and yet the partners may be the same. An agreement between the partners to carry on a business and share its profits may be followed by a separate agreement between the same partners to carry on another business and share the profits therein. The intention may be to constitute two separate partnerships and therefore two distinct firms. Or to extend merely a partnership, originally constituted to carry on one business, to the carrying on of another business. It will all depend on the intention of the partners. The intention of the partners will have to be decided with reference to the terms of the agreement and all the surrounding circumstances, including evidence as to the interlacing or interlocking of management, finance and other incidents of the respective businesses." 130. The aforesaid makes it clear that partners may be different even though the business may be same, still it would constitute two sep....
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....udit quality met with the requisite standards. Thus looking from this angle also, the order of debarment was not the appropriate choice. 135. Thus, considering the aforesaid we are of the view that the order of WTM debarring the PW firms to audit listed company on the ground of PW network or projecting it as a PW brand cannot be sustained. 136. There is no doubt that there has been a professional lapse on the part of the auditors in conducting the audit especially their failure to seek direct confirmation from the Bank relating to Bank Balances and fixed deposits. These lapses amounted to negligence. Action has already been taken by ICAI against the auditors. Negligence is the breach of duty caused by omission to do something which a reasonable man is guided by these considerations to do something which a prudent and reasonable man would not do so. Negligence becomes actionable on account of a lapse or omission amounting to negligence. In the concept of negligence amounting to an offence, the element of mens rea must be shown to exist, but under Torts, negligence becomes actionable on account of lapse or omission. Once you breach your duty, negligence becomes actionable as th....