Auditors: Appointment, Rotation, Resignation, Removal and Disqualification

The surviving provisos.

Written consent and a certificate. Before the appointment is made, the written consent of the auditor and a certificate from him that the appointment, if made, shall be in accordance with the prescribed conditions, shall be obtained.

The certificate shall also indicate whether the auditor satisfies the criteria provided in section 141.

Notice. The company shall inform the auditor of his appointment and file a notice with the Registrar within fifteen days of the meeting.

The Explanation provides that "appointment" includes re-appointment.

Rotation: section 139(2)

No listed company, or a company of such class as may be prescribed, shall appoint or re-appoint:

• (a) an individual as auditor for more than one term of five consecutive years; and
• (b) an audit firm as auditor for more than two terms of five consecutive years.

So an individual gets five years and a firm gets ten.

The first proviso: cooling off. An individual who has completed his term shall not be eligible for re-appointment in the same company for five years; and an audit firm which has completed its term is likewise ineligible for five years.

The second proviso: common partners. As on the date of appointment, no audit firm having a common partner or partners with the other audit firm whose tenure has expired in the company in the immediately preceding financial year shall be appointed as auditor of the same company for five years.

That closes the obvious avoidance: a firm cannot hand the audit to a sister firm sharing partners.

The third proviso gave existing companies a transition period, and the fourth preserves the company's right to remove an auditor and the auditor's right to resign, notwithstanding rotation.

Section 139(3): what the members may add. Members may resolve that:

• (a) in the audit firm appointed, the auditing partner and his team shall be rotated at such intervals as the members resolve; or
• (b) the audit shall be conducted by more than one auditor, that is, a joint audit.

Section 139(4). The Central Government may prescribe the manner of rotation.

The Explanation provides that "firm" includes a limited liability partnership incorporated under the Limited Liability Partnership Act 2008.

Government companies: section 139(5) and (7)

Section 139(5). For a Government company, or any other company owned or controlled, directly or indirectly, by the Central Government, or by any State Government or Governments, or partly by both, the Comptroller and Auditor-General of India shall appoint a duly qualified auditor within one hundred and eighty days from the commencement of the financial year, to hold office till the conclusion of the annual general meeting.

Section 139(7) deals with the first auditor of such a company: appointed by the Comptroller and Auditor-General within sixty days of registration; failing which by the Board within the next thirty days; failing which by the members within sixty days at an extraordinary general meeting.

The first auditor and casual vacancies: section 139(6) and (8)

Section 139(6). The first auditor of a company other than a Government company shall be appointed by the Board within thirty days from the date of registration; and on the Board's failure, the Board shall inform the members, who shall appoint within ninety days at an extraordinary general meeting. The first auditor holds office till the conclusion of the first annual general meeting.

Section 139(8): casual vacancies. A casual vacancy shall be filled by the Board within thirty days; but if it results from the resignation of an auditor, the appointment shall also be approved by the company at a general meeting convened within three months of the Board's recommendation, and the auditor holds office till the conclusion of the next annual general meeting. For a company whose auditor is appointed by the Comptroller and Auditor-General, he fills the casual vacancy within thirty days, failing which the Board within the next thirty days.

Section 139(9) and (10). A retiring auditor may be re-appointed unless he is disqualified, has given notice of unwillingness, or a special resolution has been passed appointing somebody else or providing expressly that he shall not be re-appointed. Where no auditor is appointed or re-appointed at an annual general meeting, the existing auditor shall continue.

Removal: section 140(1)

The auditor appointed under section 139 may be removed from his office before the expiry of his term only:

• by a special resolution of the company; and
• after obtaining the previous approval of the Central Government in the prescribed manner.

The proviso: before any action is taken, the auditor concerned shall be given a reasonable opportunity of being heard.

Three requirements, and all three are examined together: special resolution, previous Central Government approval, and a hearing. Note the order: the Government's approval is previous, so it comes before the resolution is acted on.

Resignation: section 140(2) and (3)

Section 140(2). An auditor who has resigned shall, within thirty days from the date of resignation, file a statement in the prescribed form with the company and the Registrar, and, for companies under section 139(5), also with the Comptroller and Auditor-General, indicating the reasons and other relevant facts with regard to his resignation.

The point of that sub-section is the word "reasons". An auditor who resigns because he has been asked to sign something he should not must put the reason on a public file.

Section 140(3): the penalty. On non-compliance, the auditor is liable to a penalty of fifty thousand rupees or an amount equal to the remuneration of the auditor, whichever is less, and in case of continuing failure a further five hundred rupees for each day after the first, subject to a maximum of two lakh rupees.

Replacing a retiring auditor: section 140(4)

Clause (i): special notice. Special notice shall be required for a resolution at an annual general meeting appointing as auditor a person other than a retiring auditor, or providing expressly that a retiring auditor shall not be re-appointed, except where the retiring auditor has completed a consecutive tenure of five years or ten years under section 139(2).

So where the auditor is going because of rotation, no special notice is needed. Where he is being displaced, it is.

Clause (ii). On receipt of notice of such a resolution, the company shall forthwith send a copy to the retiring auditor.

Clause (iii): the auditor's representation. Where the retiring auditor makes a representation in writing, not exceeding a reasonable length, and requests its notification to members, the company shall, unless it is received too late:

• (a) state the fact of the representation having been made in any notice of the resolution; and
• (b) send a copy of the representation to every member to whom notice of the meeting is sent.

And if a copy is not sent because it was received too late or because of the company's default, the auditor may, without prejudice to his right to be heard orally, require that the representation be read out at the meeting.

The first proviso: if a copy is not sent, a copy shall be filed with the Registrar.

The second proviso: if the Tribunal is satisfied, on the application of the company or any other aggrieved person, that the rights conferred by this sub-section are being abused by the auditor, the copy need not be sent and the representation need not be read out.

Compare this with section 111(3) for members' resolutions, where the Central Government stops an abuse. Here it is the Tribunal.

Removal by the Tribunal: section 140(5)

Where the Tribunal, either suo motu or on an application by the Central Government or by any person concerned, is satisfied that the auditor has, directly or indirectly, acted in a fraudulent manner or abetted or colluded in any fraud by or in relation to the company or its directors or officers, it may by order direct the company to change its auditor.

Where the application is by the Central Government and the Tribunal is so satisfied, it may within fifteen days of receipt of the application make an order that the auditor shall not function as an auditor and the Central Government may appoint another. An auditor against whom a final order is passed shall not be eligible to be appointed as an auditor of any company for five years and is liable under section 447.

Disqualifications: section 141(3)

The following persons shall not be eligible for appointment as an auditor:

• (a) a body corporate other than a limited liability partnership registered under the Limited Liability Partnership Act 2008;
• (b) an officer or employee of the company;
• (c) a person who is a partner, or who is in the employment, of an officer or employee of the company;
• (d) a person who, or his relative or partner:
• (i) is holding any security of or interest in the company, or its subsidiary, or its holding or associate company, or a subsidiary of such holding company. Proviso: a relative may hold security or interest of face value not exceeding one thousand rupees or such sum as may be prescribed;
• (ii) is indebted to any of those companies in excess of such amount as may be prescribed; or
• (iii) has given a guarantee or provided any security in connection with the indebtedness of any third person to any of those companies, for such amount as may be prescribed;
• (e) a person or firm who, whether directly or indirectly, has a business relationship with any of those companies of such nature as may be prescribed;
• (f) a person whose relative is a director, or is in the employment of the company as a director or key managerial personnel;
• (g) a person who is in full time employment elsewhere, or a person or a partner of a firm holding appointment as its auditor, if such person or partner is at the date of appointment or reappointment holding appointment as auditor of more than twenty companies;
• (h) a person who has been convicted by a court of an offence involving fraud and a period of ten years has not elapsed from the date of conviction; and
• (i) a person who, directly or indirectly, renders any service referred to in section 144 to the company or its holding company or its subsidiary company.

Section 141(4): disqualification after appointment. Where a person appointed as auditor incurs any of these disqualifications after his appointment, he shall vacate his office, and such vacation shall be deemed to be a casual vacancy.

Section 141(1) and (2) provide that only a chartered accountant may be appointed, that a firm may be appointed only where the majority of its partners practising in India are qualified for appointment, and that where a firm including a limited liability partnership is appointed, only the partners who are chartered accountants shall be authorised to act and sign on behalf of the firm.

A worked example

Wardha Cements Limited, a listed company, is incorporated on 1 May 2027.

The first auditor. The Board must appoint within thirty days of registration, by 31 May 2027; failing which it must inform the members, who appoint within ninety days at an extraordinary general meeting. He holds office till the conclusion of the first annual general meeting: section 139(6).

The appointment proper. At the first annual general meeting the company appoints a firm as auditor, to hold office till the conclusion of the sixth annual general meeting. Before appointment it obtains the firm's written consent and its certificate that the appointment will be in accordance with the prescribed conditions and that it satisfies section 141. It informs the auditor and files notice with the Registrar within fifteen days.

No ratification. The appointment does not have to be ratified at each subsequent annual general meeting. That proviso was omitted with effect from 7 May 2018.

Rotation. Being listed, the company may appoint the firm for two terms of five consecutive years, ten years in all. After that the firm is ineligible for five years, and no firm sharing a common partner with it may be appointed for five years either.

A disqualification appears. In year three a partner of the firm marries the daughter of the company's Chief Financial Officer. The Chief Financial Officer is key managerial personnel, and by section 141(3)(f) a person whose relative is in the employment of the company as a director or key managerial personnel is not eligible. The auditor incurs the disqualification after appointment, so by section 141(4) he vacates office, and that vacation is deemed a casual vacancy.

Filling it. The Board fills the casual vacancy within thirty days: section 139(8). Had the vacancy arisen from resignation, the appointment would also have needed approval at a general meeting within three months of the Board's recommendation.

A resignation. In year five the auditor resigns because he is unwilling to sign the accounts. He must, within thirty days, file a statement in the prescribed form with the company and the Registrar indicating the reasons: section 140(2). If he does not, he pays fifty thousand rupees or his remuneration, whichever is less, plus five hundred rupees a day, capped at two lakh rupees.

A removal. In year seven the Board wants the auditor out before his term ends. That needs a special resolution and the previous approval of the Central Government, and the auditor must first be given a reasonable opportunity of being heard: section 140(1).

A replacement at the annual general meeting. Instead the company proposes at the annual general meeting to appoint a different firm. Because the retiring auditor has not completed a tenure of five or ten years under section 139(2), special notice under section 115 is required, the company must forthwith send a copy to the retiring auditor, and if he makes a written representation of reasonable length and asks for it to be notified, the company must state the fact in the notice and send a copy to every member. If it fails to, he may require it to be read out at the meeting, and a copy must be filed with the Registrar. If the Tribunal finds he is abusing the right, neither need be done.

Fraud. Suppose it emerges that the auditor colluded in concealing borrowings. The Tribunal, suo motu or on an application by the Central Government or any person concerned, may direct the company to change its auditor; on a Central Government application it may within fifteen days order that he shall not function as auditor; and a final order makes him ineligible for any company for five years and liable under section 447: section 140(5).

Distinctions that carry marks

What this does NOT mean

It does not mean the appointment is ratified every year. That proviso was omitted with effect from 7 May 2018.

It does not mean an auditor can be removed by a simple majority. Removal before the term needs a special resolution, the previous approval of the Central Government, and a hearing.

It does not mean rotation applies to every company. Section 139(2) binds listed companies and prescribed classes.

It does not mean a relative may hold no interest at all. The proviso to section 141(3)(d)(i) permits a relative to hold security or interest of face value not exceeding one thousand rupees, or as prescribed.

Quick revision

• 139(1): appointed at the first AGM, holds office till the conclusion of the sixth AGM. Written consent and a certificate including compliance with section 141; company informs the auditor and files notice with the Registrar in fifteen days. Appointment includes re-appointment. The ratification proviso was OMITTED w.e.f. 7 May 2018.
• 139(2): listed and prescribed companies, individual one term of five years, firm two terms of five years; five year cooling off; no firm with a common partner for five years. 139(3): members may resolve on rotation of the audit partner or a joint audit. Firm includes an LLP.
• 139(5) and (7): Comptroller and Auditor-General appoints for Government companies, within one hundred and eighty days of the start of the year, and the first auditor within sixty days of registration.
• 139(6): first auditor of other companies by the Board within thirty days, else members within ninety days; holds office till the first AGM.
• 139(8): casual vacancy, Board within thirty days; if by resignation, also approved by members within three months.
• 140(1): removal before term, special resolution plus previous Central Government approval, after a reasonable opportunity of being heard.
• 140(2) and (3): a resigning auditor files a statement with reasons with the company and the Registrar, and with the CAG where applicable, within thirty days; penalty fifty thousand rupees or his remuneration, whichever is less, plus five hundred a day, max two lakh.
• 140(4): special notice to replace a retiring auditor, except where he has completed five or ten years under section 139(2); copy forthwith to him; his representation stated in the notice and sent to members, else read out, and a copy filed with the Registrar; the Tribunal may stop an abuse.
• 140(5): the Tribunal, suo motu or on application, may direct a change of auditor for fraud or collusion; on a Central Government application, an order within fifteen days; a final order means five years' ineligibility and section 447.
• 141(3), nine disqualifications: a body corporate other than an LLP; an officer or employee; a partner or employee of an officer or employee; holding security or interest, being indebted, or having given a guarantee, in the company or its group, with a one thousand rupee allowance for a relative; a prescribed business relationship; a relative who is a director or KMP; full time employment elsewhere or already auditor of more than twenty companies; conviction for fraud within ten years; and rendering any section 144 service.
• 141(4): a disqualification incurred after appointment means the auditor vacates office, and it is deemed a casual vacancy.

Test yourself

1. For how long does an auditor hold office, and must the appointment be ratified annually? From the conclusion of the first annual general meeting till the conclusion of the sixth annual general meeting, and thereafter till the conclusion of every sixth meeting: section 139(1). No annual ratification is required; that proviso was omitted by the Companies (Amendment) Act 2017 with effect from 7 May 2018.

2. State the rotation rule. A listed company or a company of a prescribed class shall not appoint or re-appoint an individual for more than one term of five consecutive years, or an audit firm for more than two terms of five consecutive years, and each is then ineligible for five years, as is any audit firm having a common partner with the outgoing firm: section 139(2).

3. How may an auditor be removed before his term expires? Only by a special resolution of the company after obtaining the previous approval of the Central Government in the prescribed manner, and only after the auditor has been given a reasonable opportunity of being heard: section 140(1).

4. What must a resigning auditor do? File, within thirty days of resignation, a statement in the prescribed form with the company and the Registrar, and with the Comptroller and Auditor-General in the case of a company under section 139(5), indicating the reasons and other relevant facts: section 140(2).

5. Name five disqualifications for appointment as auditor. Any five from section 141(3), for example: a body corporate other than a limited liability partnership; an officer or employee of the company; a person whose relative is a director or key managerial personnel; a person already holding appointment as auditor of more than twenty companies; and a person convicted of an offence involving fraud within the last ten years.

6. What happens if an auditor becomes disqualified after his appointment? He shall vacate his office, and that vacation shall be deemed to be a casual vacancy in the office of the auditor: section 141(4), which is then filled under section 139(8).