The Goa Bench of the Bombay High Court has asserted that an auditor’s remark stating that the company has an internal audit system which “needs to be strengthened” is merely generic and advisory in nature and does not amount to a “reservation”, “qualification” or “adverse remark” within the meaning of Section 217(3) of the Companies Act, 1956. Hence, the failure to furnish explanation on such remark does not attract penal liability under Section 217(5) of the Companies Act.
The Court further held that Section 217(3) contemplates explanations in the Board’s report for the benefit of shareholders and not a separate satisfaction of the Registrar of Companies, and prosecution cannot be sustained merely because the Registrar found the reply to the show cause notice unsatisfactory. In addition, where no statutory sanction is required under Section 217, limitation cannot be extended on the basis of an alleged sanction, and a complaint filed beyond the prescribed period is barred.
A Single Judge Bench of Justice Ashish S. Chavan observed on a plain reading of Section 217 of the Companies Act, that the obligation under Section 217(3) is to give the fullest information and explanations in the Board’s report, or addendum thereto, on every reservation, qualification or adverse remark contained in the auditor’s report, and that this requirement is directed toward the shareholders of the company and is to be complied with through the Board’s report placed before the annual general meeting. The provision does not envisage furnishing such explanations to the Registrar of Companies.
The Bench further observed that the entire complaint was founded only on paragraph 7 of the annexure to the auditor’s report, namely that “The Company has an internal audit system which needs to be strengthened.” The Bench found that the first part of the remark was a positive statement, and the second part was at best a general observation or recommendation for improvement of internal processes. Such a generic and advisory remark could not, by any stretch of interpretation, be construed as a “reservation”, “qualification” or “adverse remark” for the purposes of Section 217(3).
On limitation issue, the Bench rejected the respondents’ case that prior sanction was a mandatory pre-condition for launching prosecution under Section 217 and that limitation should run from the date of receipt of such sanction. The Bench held that there is no statutory requirement for obtaining sanction to launch prosecution under Section 217 of the Companies Act, 1956, and the circulars/notifications relied upon by the respondents could not be treated as sanction in law. The Bench therefore accepted the petitioners’ contention that the complaint filed in 2014 in respect of auditor’s reports for financial years 2006-07, 2007-08 and 2008-09 was barred by limitation.
The Bench also observed that the roznama entries dated December 11, 2014, June 22, 2015 and June 25, 2015 only recorded receipt of complaint, issuance of notice, and issuance of summons, without any reflection of judicial application of mind to the facts of the complaint. Reiterating that taking cognizance for issuing process is not a mechanical exercise, the Bench held that both the order taking cognizance and the order issuing process were without application of mind.
Briefly, the petitioners, who were directors of M/s. Timblo Private Limited, challenged the order dated December 11, 2014 taking cognizance and the summoning order dated June 25, 2015 passed by the JMFC, D Court, Panaji in Labour Case, along with all consequential proceedings. The complaint had been filed by the Registrar of Companies under Section 217(3) of the Companies Act, 1956 for an offence punishable under Section 217(5).
