Union of India and Another vs Deloitte Haskins and Sells LLP & Anr.

Companies Act, 2013 – s.140(5) – Constitutional validity of – s.140(5) empowers the Tribunal (NCLT), either suo motu or on an application made to it by the Central Government or by any person concerned, to take action against the auditor who has acted in a fraudulent manner or is abetting or colluding in fraud with the management of a company – If on completion of an enquiry it is found by the Tribunal that an auditor of a company has, whether 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 auditors – Held: s.140(5) is neither discriminatory, arbitrary and/or violative of Arts. 14, 19(1)(g) of the Constitution – NCLT exercises quasijudicial powers u/s.140(5) with all the powers akin to civil court – Ample opportunity is given by NCLT before passing any final order – Plea that s.140(5) discriminates against the auditors unfairly in comparison to similarly placed alleged perpetrators, such as directors, management etc. not tenable, as the role of auditors cannot be equated with directors and/or management – Acting in a fraudulent manner, directly or indirectly, by an auditor is a very serious misconduct and therefore the necessary consequence of indulging into such fraudulent act shall follow – Merely because the auditor can be removed as an auditor of a company under the other provisions, s.140(5) which has been enacted with a special object and purpose cannot be said to be arbitrary and/or ultra vires – Constitution of India – Arts. 14 and 19(1)(g). Companies Act, 2013 – s.140(5), first proviso – Powers under the first proviso to s.140(5) – Nature of – Held: It can be said to be interim or pro tem measure to prevent an existing auditor from continuing and substitute him with an auditor based on a prima facie satisfaction that a fraud has been perpetrated and when circumstances warrant the substitution – Such an order can be said to be an interim order akin to a temporary suspension during the pendency of the detailed enquiry as provided in s.140(5) and before any final order is passed by the Tribunal.

Companies Act, 2013 – s.140(5), second proviso – Object and purpose of – When attracted –– Held: The object and purpose of second proviso to s.140(5) is to make the provision more stringent and to provide for consequences for an auditor when such an auditor is found to have been perpetrating a fraud and is removed by the NCLT for such fraud – Before second proviso of s.140(5) is attracted, there must be a detailed enquiry against an auditor of a company as per first part of s.140(5) and there must be a finding arrived at by the NCLT that the auditor of a company 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.

Companies Act, 2013 – s.140(5) – Powers conferred upon the Tribunal u/s.140(5) – If without prejudice to any action under the provisions of the Act, 2013 or any other law for the time being in force – Held: Irrespective of any other provisions of the Act, 2013, the Tribunal is vested with powers u/s.140(5) to pass a final order against the auditor on the allegation that such an auditor of the company has, directly or indirectly, acted in a fraudulent manner. Companies Act, 2013 – s.212(14) – Quashing and setting aside of s.212(14) direction issued by Union of India to Serious Fraud Investigation Office (SFIO), by the High Court – Consequently prosecution lodged by SFIO set aside – High Court set aside the s.212(14) direction mainly on two grounds, firstly, that the direction to prosecute was issued within 30 hours of report of the SFIO Report which demonstrates non-application of mind and secondly on ground that SFIO Report was an incomplete report as investigation had not been completed and therefore s.212(14) direction was incompetent – Held: Merely because the direction to prosecute was issued within 30 hours, by that itself, it cannot be presumed that there was a non-application of mind – What was required to be considered was, whether there was any material to prosecute or not and whether the direction to prosecute was properly given or not – High Court also did not properly appreciate that the SFIO Report was a report prepared on completion of investigation into IFIN – one of the companies under investigation – IFIN was one of the subsidiaries in the IL&FS group and the financial services arm – Merely because investigation with respect to other subsidiary companies of IL&FS group might have been going on, cannot be a ground to observe that so far as IFIN was concerned the report was incomplete – High Court materially erred that investigation in respect of IFIN was incomplete – Proceedings before the High Court were at the stage of direction u/s.212(14) to allow the prosecution and the sanction to prosecute – Ample opportunity was available to the concerned accused – Therefore, High Court erred in setting aside the direction u/s.212(14).

Companies Act, 2013 – Chapter X – Audit and Auditors – Held: Role of auditors cannot be equated with directors and/or management.

Words and Phrases – Word “any” used in second proviso to s.140(5) of the Act, 2013 – Meaning – Under second proviso to s.140(5), on the final order being passed by the Tribunal that the auditor/firm 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, he/it shall not be eligible to be appointed as an auditor of any company for a period of five years – Held: The word “any” is significant – On the final order being passed by the Tribunal, such an auditor not only shall be removed or changed as an auditor of a company, but such an auditor/firm shall also be ineligible to be appointed as an auditor of any other company for a period of five years – Companies Act, 2013 – s.140(5). Disposing of the appeals, the Court

HELD:1. The powers of the NCLT in first part of Section 140(5) of the Companies Act, 2013 is quasi-judicial in nature and the Tribunal would have the powers of a civil court to examine the role of auditors and adjudicate on their fraudulent conduct and abdication of their function. The powers under the first proviso to Section 140(5) can be said to be interim or pro tem measure to prevent an existing auditor from continuing and substitute him with an auditor based on a prima facie satisfaction that a fraud has been perpetrated and when circumstances warrant the substitution. Such an order can be said to be an interim order akin to a temporary suspension during the pendency of the detailed enquiry as provided in Section 140(5) of the Act and before any final order is passed by the Tribunal. [Para 5.2][1005D-G]

2. As such, second proviso to Section 140(5) can be said to be a substantive provision and it operates on the final order passed by the Tribunal under Section 140(5) (first part). The second proviso to Section 140(5) was introduced after detailed analysis and after taking into consideration recommendations of the Parliamentary Standing Committee and with a view to make the provision more stringent and to provide for consequences for an auditor when such auditor is found to have been perpetrating a fraud and is removed by the NCLT for such fraud. On passing of the final order by the NCLT under first part of section 140(5) and if an auditor is found to have been indulged into fraudulent activities or abetting or colluding in a fraud with the management of the company, consequences provided under the second proviso to section 140(5) shall follow. Therefore, before second proviso of section 140(5) is attracted, there must be a detailed enquiry against an auditor of a company as per first part of section 140(5) and there must be a finding arrived at by the NCLT that the auditor of a company 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. [Para 5.3][1006-A-G]

3. Subsequent resignation of an auditor after the application is filed under section 140(5) by itself shall not terminate the proceedings under section 140(5). Resignation and/or removal of an auditor cannot be said to be an end of the proceedings under section 140(5). There are further consequences also on culmination of the enquiry under section 140(5) proceedings and passing a final order by the Tribunal on the conduct of an auditor, whether such a 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, as provided under the second proviso to section 140(5) of the Act, 2013. Therefore, the enquiry/proceedings initiated under the first part of section 140(5) has to go to its logical end and subsequent resignation and/or discontinuance of an auditor shall not terminate the enquiry/proceedings under section 140(5). If the interpretation given by the High Court that once an auditor resigns, the proceedings under section 140(5) stand terminated and are no longer further required to be proceeded, in that case, an auditor to avoid the final order and the consequence of final order as provided under the second proviso to section 140(5) may resign and avoid any final order by the Tribunal. That cannot be the intention of the legislature. [Para 6][1007-A-D]

4. The second proviso to section 140(5) of the Act, 2013 is a substantive provision, though it is by way of a proviso, and the same shall operate and/or depend upon the final order to be passed by the Tribunal in the first part of section 140(5). If the interpretation given by the High Court that on subsequent resignation and/or discontinuance of an auditor, proceedings under section 140(5) stand terminated and/or the petition under section 140(5) by the Central Government is no longer maintainable is accepted, in that case, second proviso to section 140(5) would become nugatory and in no case there shall be any action under the second proviso to section 140(5). If such an interpretation, as interpreted by the High Court, is accepted, in that case, the object and purpose of incorporation of second proviso to section 140(5) shall be frustrated. The object and purpose of second proviso to section 140(5) is to make the provision more stringent and to provide for consequences for an auditor when such an auditor is found to have been perpetrating a fraud and is removed by the NCLT for such fraud. Notably, under the second proviso to section 140(5) on the final order being passed by the Tribunal that the auditor/firm 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, he/it shall not be eligible to be appointed as an auditor of any company for a period of five years. The word “any” used in the second proviso to section 140(5) is significant. On the final order being passed by the Tribunal, such an auditor not only shall be removed or changed as an auditor of a company, but such an auditor/firm shall also be ineligible to be appointed as an auditor of any other company for a period of five years. [Para 6.1][1007-E-H; 1008-A-B]

5. On true interpretation and scheme of Section 140(5) of the Act, 2013, once the enquiry/proceedings is/are initiated under first part of section 140(5) of the Act, either suo motu by the Tribunal or on an application made to it by the Central Government or by any person concerned, it must come to its logical end and irrespective of the fact whether during such enquiry/proceedings the auditor has resigned or not, there must be a final order to be passed by the Tribunal on whether such an auditor has, in fact, directly or indirectly, acted in a fraudulent manner or not. Direction to the company to change its auditor as provided in the first part of section 140(5) is only a consequence to the finding recorded by the Tribunal that the auditor has, directly or indirectly, acted in a fraudulent manner. This is the first consequence of the final order under section 140(5) (first part). On passing the final order by the Tribunal that the auditor of a company has, directly or indirectly, acted in a fraudulent manner, the second consequence as mentioned in the second proviso to section 140(5) shall be attracted. Therefore, for any consequence as provided under the second proviso to section 140(5), there shall be a final order by the Tribunal on enquiry as per first part of section 140(5). Therefore, on true interpretation, even on resignation by an auditor of a company even during the enquiry/proceedings under section 140(5) or even prior to that, there shall not be any termination of the proceedings under section 140(5) as observed and held by the High Court. In a given case, an auditor, who in fact has, directly or indirectly, acted in a fraudulent manner, to avoid any further consequence under the second proviso to section 140(5), resigns to avoid any consequence under the second proviso to section 140(5), it cannot be permitted. [Para 7][1008-C-G]

6.1. No so far as the submission that even if section 140(5) would not have been there, in that case also, no auditor can get away with fraud, abetment of fraud or professional misconduct etc. and for that purpose the reliance placed upon sections 132, 141, 147, 245 and 447 of the Act is concerned, it is required to be noted that all the aforesaid provisions and section 140(5) operate in different field. Merely because the auditor can be removed as an auditor of a company including the other provisions, section 140(5) which has been enacted with a special object and purpose cannot be said to be arbitrary and/or ultra vires. [Para 8][1008H; 1009-A, B-C]

6.2. As per the Scheme of the Act, 2013, more particularly Chapter X, the auditor acts as an independent examiner of accounts and cannot be said to be holding an office in the conduct and management of the company. Therefore, the submission that what could be achieved under section 140(5) of the Act, 2013 can be achieved by Section 241(3) even after the auditor has resigned has no substance. [Para 9][1009-G-H]

6.3. In section 140(5), it is specifically mentioned that “without prejudice to any action under the provisions of this Act or any other law for the time being in force”. Therefore, the intention of the legislature while enacting section 140(5) is very clear and the powers conferred upon the Tribunal under section 140(5) shall be without prejudice to any action under the provisions of the Companies Act, 2013 or any other law for the time being in force. Therefore, irrespective of any other provisions of the Act, 2013, the Tribunal is vested with the powers under Section 140(5) of the Act to pass a final order against the auditor on the allegation that such an auditor of the company has, directly or indirectly, acted in a fraudulent manner. [Para 10][1010A-C]

7. Section 140(5) cannot be said to be excessive and/or manifestly arbitrary, as contended. It was the case on behalf of the original writ petitioners on the constitutionality/vires of section 140(5) that section 140(5) is excessive and arbitrary as it provides unguided and untrammelled powers to NCLT for determination of a serious offence of fraud and consequence of mandatory disqualification with grave consequences akin to civil death. The aforesaid has no substance. NCLT shall exercise the quasi-judicial powers under section 140(5) with all the powers akin to civil court. Ample opportunity shall be given by the NCLT before passing any final order. [Para 12][1011-A-C]

8. Insofar as the submission that section 140(5) is violative of Article 14 of the Constitution of India and discriminates against the auditors unfairly in comparison to similarly placed alleged perpetrators, such as directors, management etc. is concerned, it is required to be noted that the role of auditors cannot be equated with directors and/or management. Auditors play very important role in the affairs of the company and therefore they have to act in the larger public interest and all other stakeholders including investors etc. Chapter X of the Act specifically for the “Audit and Auditors” looking to the importance of the auditors. Therefore, section 140(5) cannot be said to be discriminatory and/or violative of Article 14 of the Constitution of India. [Para 13][1011-C-E]

9. It was submitted that penalty in the form of automatic disqualification of auditors and of the entire firm including partners and that too for a period of five years to become the auditor of any other company is highly disproportionate. However, it is ultimately for the legislature/Parliament to provide the debarment. On the principle of joint and severe liability, the auditors and the entire firm including partners shall be liable and therefore can be subjected to section 140(5) and the consequences mentioned in section 140(5) of the Act, 2013. Nobody can be permitted to say that despite acting fraudulently, directly or indirectly, they had a right to continue and/or carrying on their profession. Acting in a fraudulent manner, directly or indirectly, by an auditor is a very serious misconduct and therefore the necessary consequence of indulging into such fraudulent act shall follow. Section 140(5) of the Act has been enacted with the specific object and purpose and the same has been enacted after due deliberations and taking into consideration the recommendations of the Standing Committee as well as the respective stakeholders. Therefore, taking into consideration the object and purpose for which section 140(5) of the Act is enacted, the same cannot be said to be arbitrary, excessive and violative of Article 14 of the Constitution of India and/or violative of fundamental rights guaranteed under Article 19(1)(g) of the Constitution of India, as alleged. [Para 14][1011E-H; 1012-A-C]

10.1. The High Court set aside the direction under section 212(14) terming the same as non-application of mind since it was improbable that report of about 750 pages and 32000 pages of annexures could have been considered in 30 hours. The observations made by the High Court cannot be accepted. Merely because the direction to prosecute was issued within 30 hours, by that itself, it cannot be presumed that there was a nonapplication of mind. A detailed note was prepared by the officer which was ultimately placed before the final authority who ultimately took a decision and issued a direction to prosecute. What was required to be considered was, whether there was any material to prosecute or not and whether the direction to prosecute was properly given or not. During the trial, the accused shall be given ample opportunity to put forward their case. Therefore, on the aforesaid ground, the High Court has materially erred in setting aside the direction to prosecute issued under section 212(14) of the Act. [Paras 15.1 and 15.2][1012-F-H; 1013A-B]

10.2. The High Court has not properly appreciated that the SFIO Report was a report prepared on the completion of the investigation into the IFIN – one of the companies under investigation. IFIN was one of the subsidiaries in the IL&FS group and the financial services arm. Merely because so far as the investigation with respect to other subsidiary companies of IL&FS group is concerned, the same might have been going on, cannot be a ground to observe that at this stage so far as the IFIN is concerned the report was incomplete report and for which the investigation was going on. The High Court materially erred that the investigation in respect of IFIN is incomplete. The proceedings before the High Court were at the stage of direction under section 212(14) to allow the prosecution and the sanction to prosecute. Ample opportunity shall be available to the concerned accused against whom the prosecution was ordered for the offences punishable under section 447 of the Companies Act and other relevant provisions of the IPC. Therefore, the High Court has erred in setting aside the direction under section 212(14). [Para 15.3][1013-D, E-F, H; 1014-B-C]

11. The challenge to the constitutional validity of section 140(5) of the Companies Act, 2013 fails. Section 140(5) is neither discriminatory, arbitrary and/or violative of Articles 14, 19(1)(g) of the Constitution of India, as alleged. The impugned judgment and order passed by the High Court quashing and setting aside the application/proceedings under section 140(5) on the ground that as the auditors have resigned and therefore thereafter the same is not maintainable is hereby quashed and set aside. Consequently, the impugned judgment and order passed by the High Court quashing and setting aside the NCLT order holding that even after the resignation of the auditors, the proceedings under section 140(5) shall be maintainable is hereby quashed and set aside. The application/proceedings under section 140(5) of the Act, 2013 is held to be maintainable even after the resignation of the concerned auditors and now the NCLT therefore to pass a final order on such application after holding enquiry in accordance with law and thereafter on the basis of such final order, further consequences as provided under the second proviso to section 140(5) shall follow. [Para 16][1014-D-G]

Devas Multimedia Pvt. Ltd. v. Antrix Corporation Ltd. & Anr. (2023) 1 SCC 216; An Advocate v. Bar Council of India (1989) Supp 2 SCC 25 : [1988] 3 Suppl. SCR 361; ICAI v. LK Ratna & Ors. (1986) 4 SCC 537 : [1986]

3 SCR 1049; Dharani Sugars and Chemicals Ltd. v. Union of India (2019) 5 SCC 480 : [2019] 6 SCR 307; SEBI v. Sunil Krishna Khaitan (2023) 2 SCC 643; Tolaram Relumal v. State of Bombay [1955] 1 SCR 158; Bhuwalka Steel Industries Ltd & Anr v. UOI (2017) 5 SCC 598 : [2017] 2 SCR 993; Sant Lal Gupta v.

Modern Cooperative Housing Society Ltd. (2010) 13 SCC 336 : [2010] 13 SCR 621; B. Himmatlal Agrawal v. Competition Commission of India AIR 2018 SC 2804: [2018] 4 SCR 496 ; Cellular Operators Association of India v. Union of India (2003) 3 SCC 186 : [2002] 5 Suppl. SCR 222; Pasupuleti Venkateswarlu v. Motor & General Traders (1975) 1 SCC 770 : [1975] 3 SCR 958; Carona Ltd. v. Parvathy Swaminathan & Sons (2007) 8 SCC 559 : [2007] 10 SCR 656; Arun Kumar v. Union of India (2007) 1 SCC 732 : [2006] 6 Suppl. SCR 290; Balram Garg v. SEBI (2022) 9 SCC 425; Serious Fraud Investigation Office v Rahul Modi (2019)

5 SCC 266 : [2019] 5 SCR 91; Mansukhbhai Vithaldas Chauhan v. State of Gujarat (1997) 7 SCC 622 : [1997]

3 Suppl. SCR 705; K.K Mishra v. State of Madhya Pradesh (2018) 6 SCC 676 : [2018] 5 SCR 315;

Anirudhsinhji Karansinhji Jadeja v. State of Gujarat (1995) 5 SCC 302 : [1995] 2 Suppl. SCR 637; T. Takano v. SEBI (2022) 8 SCC 162 and Mohd. Iqbal Ahmed v. State of Andhra Pradesh (1979) 4 SCC 172: [1979] 2 SCR 1007 – referred to.

P.M.C Mercantile Private Ltd. v. The State 2014 (3) MWN (Cr.) 454; Kamal Lochan Sen v. State of Orissa (1982) 54 CLT 509; AV Dharma Reddy v. State of A.P. & Ors. 2011 CriLJ 185 – referred to.

Yusofalli Mulla Noobbhoy v. The King 1949 Cri LJ 889 and Gokulchand Dwarkadas Morarka v. The King,

(1947- 48) 75 IA 30- referred to.