CARO 2020 | Case Studies | FAQs

No, As per Para 1(2)(iv) of CARO, 2020, the Order shall not apply to a One Person Company as defined in section 2(62) of the Act. According to section 2(62), “One Person company” means a company which has only one person as a member.

No, The exemption to OPC, under Para 1(2)(iv) of CARO, 2020, is unconditional without the need to satisfy the conditions for exemption applicable to private limited companies under Para 1(2)(v) of the Order.

Pre-amended provisions of Rule 6 of the Companies (Incorporation) Rules, 2014, provided that OPC shall cease to be entitled to continue as OPC where its paid up share capital exceeds ` 50 lakhs or its average annual turnover during the immediately 3 preceding financial years exceeds Two crore rupees. Within 6 months of ceasing to be OPC as above, the company was required to convert itself within 6 months into either a private company with minimum 2 members and 2 directors or into a public company with minimum 7 members and three directors.

Rule 6, as substituted with effect from 01.04.2021, removes the paid up share capital and average annual turnover limits for OPC and also the obligations to give notice and convert itself into a public company or private company when paid up share capital limit or turnover limit is exceeded.

According to para 12 of ICAI’s Guidance Note on CARO, 2020, status of the company as at the balance sheet date is to be considered for the purposes of exemption from CARO, 2020. The average annual turnover for immediately three preceding financial years is ` 2.10 crores. Rule 6, as substituted with effect from 01.04.2021, removes the paid up share capital and average annual turnover limits for OPC. OPC would certainly be exempt from CARO, 2020 for financial year 2021-22 as the amended Rule 6,with effect from 01.04.2021, does not stipulate any limits of average annual turnover or paid-up capital for an OPC. Exemption under section 1(2)(iv) of the Order to an OPC is unconditional without having to satisfy any threshold limits as to paid up capital and reserves or total borrowings from banks/FIs or total revenue. If company is an OPC, it is unconditionally exempt from the Order under Para 1(2)(iv) without the need to satisfy the conditions applicable to private limited companies for exemption under Para 1(2)(v). Moreover, in the context of exemption from the Order to a small company, Para 12 of ICAI’s Guidance Note on CARO, 2020 (Revised 2022) clarifies that “in case a company is covered under the definition of small company, it will remain exempted from the applicability of the Order even if it falls under any of the criteria specified for private company.” Applying the same analogy, it can be said that an OPC “will remain exempted from the applicability of the Order even if it falls under any of the criteria specified for private company”.

Yes, As per Para 1(2)(iv) of CARO, 2020, the Order shall not apply to a ‘small company’ as defined in section 2(85) of the Act.

According to section 2(85), “small company” means a company which satisfies the following conditions:

(a) It is not a public company;

(b) Its paid-up share capital does not exceed fifty lakh rupees or such higher amount as may be prescribed which shall not be more than ten crore rupees [sub-clause (i) of clause (85)];

(c) Its turnover as per profit and loss account for the immediately preceding financial year does not exceed two crore rupees or such higher amount as may be prescribed which shall not be more than one hundred crore rupees [sub-clause (ii) of clause (85)];

(d) It is neither a holding company nor a subsidiary company,

(e) It is a company registered under section 8, and

(f) It is not a company or body corporate governed by any special Act,

In the Companies (Specification of Definitions Details) Rules, 2014, new clause (t) has been inserted with effect from 01.04.2021 by the Companies (Specification of Definitions Details) Amendment Rules, 2021. The new clause (t) provides that for the purposes of sub-clause (i) and sub-clause (ii) of clause (85) of section 2 of the Act, paid up capital and turnover of the small company shall not exceed rupees two crores and rupees twenty crores respectively.

As the paid-up capital is less than ` 2 crores and turnover for immediately preceding previous year is less than ` 20 crores [new limits applicable for section 2(85) purposes with effect from 01.04.2021], the company is a small company and will be exempt from CARO, 2020 under para 1(2)(iv) of CARO, 2020 for financial year 2021-22.

Para 12 of the Guidance Note on CARO, 2020 (Revised 2022) clarifies that a small company shall be exempt from the applicability of the Order even if it falls under any of the criteria specified for private company. In view of the above, a private company which is a ‘small company’ shall be exempt from CARO, 2020, even if its total borrowings from banks or financial institutions exceed ` 1 crore at any point of time during financial year 2021-22.

As its paid-up share capital does not exceed ` 2 crores and its turnover for immediately preceding financial year does not exceed ` 20 crores, it is a ‘small company’ as defined in section 2(85) of the Act and is unconditionally exempt from applicability of CARO, 2020 for financial year 2021-22. Para 12 of ICAI’s Guidance Note on CARO, 2020 (Revised 2022) clarifies that a small company shall be exempt from the applicability of the Order even if it falls under any of the criteria specified for private company. In view of the above, it is not necessary to compute any of the limits specified in para 1(2)(v) of the Order.

Schedule III of the Act has been amended by Notification No. G.S.R. 207(E), dated 24.03.2021 [See Chapter 1; See Appendix]. These amendments come into force with effect from 01.04.2021. In other words, these amendments shall apply to financial statements of a company for financial year 2021-22 and subsequent financial years. The amended Schedule III requires, inter alia, certain disclosures by company in notes to accounts by way of “Additional Regulatory Information”. Some of these disclosures are disclosures required by certain clauses of CARO, 2020.

The purpose of requiring these disclosures is to send a message to managements of companies that they are obliged to provide information required by auditor to make disclosures required by various clauses of CARO, 2020. They cannot argue that “CARO disclosures are the job of the auditor. We have nothing to do with it.” This will ensure that auditor’s job is made easier as management are obligated to provide the information and auditor can verify the information and reproduce the same in his CARO report or make his comments in CARO report by inviting reference to the relevant note on accounts. Secondly, there is an important difference between CARO report and the new “Additional Regulatory Information” disclosures of Schedule III. Certain companies covered by Para 1(2) of CARO, 2020 are exempted from the reporting requirements of CARO while Schedule III requirements would apply even to companies exempted from CARO. “Additional Regulatory Information” requirements of Schedule III ensure that readers of financial statements of companies exempted from CARO would also get relevant information duly audited by the auditor. One thing must be noted. The auditor is bound to verify the disclosures in notes on accounts whether or not CARO applies to the company.

Also, the Revised 2022 Guidance Note of ICAI clarifies that auditor is bound to report on the relevant clauses in CARO whether or not the company provides the relevant ARI disclosures in notes to accounts.

Needless to say, auditor will have to make suitable modifications to his audit report regarding the non-disclosures of corresponding ARI  information in notes to accounts.

Clause 3(i)(b) of CARO, 2020, inter alia, requires the auditor to state in his audit report whether these property, plant and equipment (PPE) have been physically verified by the management at reasonable intervals. The term “reasonable intervals” has not been defined in the Order.

According to ICAI’s Guidance Note on CARO, 2020 (Revised 2022) what is “reasonable intervals”, it depends on the circumstances of the case, but generally, the following (as per table below) may be treated as reasonable intervals.

In the instant case, as the PPE assets are to the tune of ` 5000 crores and dispersed over 10 locations, annual physical verification(though desirable) may not be practical. So, if management has a phased programme of verification whereby all assets are verified in rotation so that all assets are verified at least once in three years and auditor is satisfied about the frequency of verification, he need not make any adverse comments in this regard though he will have to state that annual verification of all PPE assets is not done.

The sentence “The management is in the process of identifying discrepancies, if any, on such verification” indicates that the physical verification process of even those property, plant and equipment items which were taken up for verification during the year is not complete. This is a lapse on the part of the management of the entity. In view of this lapse, it was inappropriate for the auditor to conclude that there is “regular programme for the physical verification of property, plant and equipment” and opine that the verification programme was “reasonable having regard to the size of the Company and the nature of its assets”.

Para 3(i)(b) of CARO, 2020 casts a duty on the auditor to use his judgment to determine whether the discrepancy noticed on physical verification are material or not. The auditor’s remarks give the impression that the auditor has not used his own judgment but solely relied on management’s explanation to comment in respect of matters covered by para 3(i)(b) of CARO, 2020. This is not as per the requirement of CARO, 2020.

A construction company would have “inventories” in the form of flats/complexes under construction, building materials awaiting use, etc. Therefore, Para 3(ii)(a) appears to apply to inventories of construction companies.

It is not correct to say that para 3(ii)(a) will not apply to inventories of construction companies since these are immovable (e.g. flats) and hence do not require physical verification. An auditor should obtain reasonable assurance about existence and condition of inventories.

No, It has been held by NRA in AQR Report on Statutory Audit of ITNL, FY 2017-18 [File No. NF-11011/10/2019-NFRA] that stock statements of inventory signed by management and audit team member alone do not provide evidence that physical verification of inventory was conducted by management at reasonable intervals and material discrepancies noticed during physical verification were properly adjusted in books of account [See Para 7.7 of  this book]

Clause 3(ii)(a) of CARO, 2020 requires the auditor to state whether physical verification of inventory has been conducted at reasonable intervals by the management. The company ends up verifying only 50% of inventories in a year and ends up covering all items over a period of 2 years. Physical verification of inventory is the responsibility of the management which should verify all material items at least once in a year and more often in appropriate cases. The programme of physical verification is not based on say ABC classification of inventories based on their value and verifies ‘A’ (highest value) items more often, ‘B’ items (moderate value) less often and ‘C’ items (low value) still less often. In case of paucity of resources, the staggering of physical verification should have been done on ABC classification basis which has not been done. Therefore, the auditor will have to conclude and report that physical verification is not done at reasonable intervals.

There is no stipulation in clause 3(iii)(a) to (f) regarding the loan being given in cash or in kind. In the absence of such stipulation, clause 3(iii)(a) to (f) applies to all kinds of loans whether given in cash or in kind.