Naresh Chandra Committee

Report on Corporate Audit and

Governance
Contents
 Introduction
 Prohibition of non-audit services
 Independence of auditors
 Disclosures
 Qualification in Audit Report
 Replacing auditors
 Formation of board for monitoring audit
process
 Penalties
Corporate Governance is the system of rules,
practices and processes by which a company is
directed and controlled.
 Introduction
 While SEBI was making efforts to introduce
corporate governance standards among Indian
corporates, the Department of Company Affairs
(now MCA) took another initiative in this direction.
 The Naresh Chandra Committee was apppointed as
a high level committee to examine various corporate
governance issues by the department of company
affairs on August 21, 2002.
 It has taken forward the recommendations of
Kumar Mangalam Birla Committee on Corporate
Governance which was setup by the SEBI.
 Recommendations
Set-up against the background of massive
accounting frauds in companies abroad, the
Committee on corporate audit and governance
headed by the former Cabinet Secretary, Naresh
Chandra, has recommended the CEOs and CFOs of
listed companies and public limited companies with
paid-up capital and free reserves exceeding
Rs.10cr. or turnover exceeding Rs.50cr.
should certify the correctness of the annual audited
accounts of such companies
 should be rotated every 5 years.
 Other recommendations
 compulsory audit partner rotation
 partners and atleast 50 percent of the engagement
team (excluding article clerks and trainees) are
responsible for the audit
If required, such rotated personnel could be allowed
to return after a break of 3 years.
 a special resolution, disclosing the reasons, be
required whenever an auditor, who is otherwise
eligible for re-appointment, is proposed for that
client.
Prohibition of Non-audit Services
It is recommended that auditors should be
prohibited from providing non-audit services
concurrently with audit review services. Non-audit
services include book keeping, internal audit,
investment advice, legal advice and financial and
information system design.
Independence of Auditors
All the committees insisted upon independence of
auditors, but this committee insisted much on
auditor’s
independence in the following lines:
Prohibition of
 direct financial interest in the audit client by the
audit firms
 receiving any loan and/or guarantees from or on
behalf of the audit client by the audit firm
 audit partners and other associated persons from
joining an audit client or key personnel of the audit
client wanting to join the audit firm, for a period of 2
years from the time they were involved in the
preparation of accounts and audits of the client.

 undue dependence on audit client by ensuring that

fees received by a firm from any client and its
subsidiaries should not exceed 25% of the total
revenue of the audit firm, providing certain
exceptions in case of small audit firms.
 business relationship with the audit client by the
audit firms, its partners or any member of the
engagement team and their direct relatives.
 audit firms from performing certain non-audit
services.
 Disclosures
Full disclosures of accounts and decisions of
management involving the funds of the
company to all its stakeholders is a need of good
corporate culture.
 The auditors should disclose implications of
contingent liabilities so that investors and
shareholders have a clear picture of contingent
liabilities.
Qualification in Audit Report
In addition to the existing provisions in the
Companies Act regarding qualifications in audit
reports, the committee has made further
recommendations that the auditor should read out
the qualifications with explanations to shareholders
at the company’s AGM and audit firm is mandated
to send separately a copy of the qualified report to
the ROC, SEBI and Principal Stock Exchange
with a copy of the letter of the management of the
company.
Replacing Auditors
In the event of an auditor being appointed in the
place of a retiring auditor, the committee has
recommended that Section 225 of the Companies
Act be amended to require a special resolution for
the purpose and that an explanatory statement
giving reasons for such replacement be provided.
The outgoing auditor will have the right to
comment on the statement.
Formation of Board for
Monitoring Audit Process
 The committee has suggested setting up of the
Corporate Serious Fraud Office with specialists
inducted into a multi-disciplinary team that not only
uncovers the fraud but is able to direct and supervise
prosecutions under various economic legislations
through appropriate agencies.
 Three independent quality review boards be
constituted, one each for the ICAI, ICSI and
ICWAI to periodically examine and review the
quality of audit and cost accounting firms and
pass judgment and comments on the quality and
sufficiency of systems and practices.
Penalties
According section 539 of the Companies Act,
1956, if
an auditor is found to be involved in unethical
practices
he will be punishable with
 imprisonment , which may extend to 7 years
 also be liable to a fine.

u/s 21 of Chartered Accountants Act, such an

auditor
will be prevented from exercising his duty and his
License will be cancelled by the ICAI.
End Note
 It was suggested that corporate governance
practices should be followed by companies
should be rated using rating models.
 Companies should be rated, based on the
parameters of wealth generation, maintenance as
well as on corporate governance.
 There are several corporate structures available
in the developed world, but there is no one
structure, which can be singled out as being
better than the others.
 The committee’s recommendations are not, therefore,
based on any one model, but, are designed for the
Indian environment.
 Its fundamental objective is not mere fulfillment of
the requirements of law, but, in ensuring commitment
of the Board in managing the company in a
transparent manner for maximizing long-term
shareholder value.
Abbreviations used-
i. CEO - Chief Executive Officer
ii. CFO - Chief Financial Officer
iii. AGM - Annual General Meeting
iv. ROC - Registrar of Companies
v. SEBI - Securities and Exchange Board of
India
vi. ICAI - Institute of Chartered Accountants of
India
vii. ICSI - Institute of Company Secretaries
viii. ICWAI - Institute of Cost and Works
Accountants of India