Union of India and ANR. Vs. Deloitte Haskins and Sells LLP & ANR

Case Number: Criminal Appeal Nos. 2305-2307 of 2022, Criminal Appeal Nos. 2302-2303 of 2022, Civil Appeal No. 793 of 2022, Criminal Appeal No. 2298 of 2022, Civil Appeal No. 801 of 2022, Criminal Appeal No. 2299 of 2022, Civil Appeal No. 877 of 2022, Criminal Appeal No. 2300 of 2022 and Criminal Appeal No. 2304 of 2022

Judges Name: Hon’ble Judges M.R. Shah and M.M. Sundresh, JJ.

Order dated: 03.05.2023

Facts of the Case:

  1. A series of defaults by IL&FS Group Companies in 2018, with a debt burden of over Rs. 91,000 crores, had severe implications for India’s money markets, corporate bond yields, and the stock market. The Ministry of Corporate Affairs requested action under the Companies Act, 2013, due to concerns about corporate governance failures, window-dressed accounts, and the potential catastrophic impact of further defaults. 
  2. The Ministry of Corporate Affairs directed the Serious Fraud Investigation Office (SFIO) to investigate IL&FS and its subsidiaries. A petition was filed before the National Company Law Tribunal (NCLT) seeking the removal of IL&FS’ existing Board of Directors and the appointment of a new one, which was granted by the NCLT. The new Board of Directors submitted a progress report, and the SFIO also submitted an interim report on the individuals in control of IL&FS and the fraud committed by them. 
  3. Based on the interim report, the Ministry of Corporate Affairs filed a petition to attach the properties of the former directors and initiated proceedings to reopen and recast the accounts of IL&FS and its subsidiaries. The auditors of IL&FS’ subsidiary, IFIN, were issued a notice opposing the petition. The Reserve Bank of India conducted an inspection of IL&FS and IFIN, and the SFIO filed a criminal complaint against the auditors. 
  4. Further proceedings were initiated by the Ministry of Corporate Affairs and the SFIO, including a petition seeking the removal of the auditors and a declaration that they are ineligible for future appointments. BSR & Deloitte, the auditors, resigned and filed replies to the petitions challenging their maintainability. 
  5. The NCLT upheld the maintainability of the petition under Section 140(5) of the Companies Act, but BSR(Auditor of  IL&FS) filed a writ petition challenging its validity. The High Court upheld the validity of Section 140(5) but set aside the NCLT’s order, quashing the petition, and canceling the directions and criminal proceedings. 
  6. The submission argues against the interpretation of Section 140(5) of the Companies Act, 2013 made by the High Court. The High Court held that the intention behind the provision was to break the collusion between auditors and companies, and if the auditor resigns, the purpose of the section is fulfilled. However, the submission contends that the High Court’s interpretation is erroneous. 
  7. Section 140(5) empowers the National Company Law Tribunal (NCLT) to inquire into the conduct of an auditor involved in suspected fraud. The provision allows the NCLT, either suo motu or upon application by the Central Government or any concerned person, to examine the auditor’s fraudulent conduct and potentially change the auditor. The Petitioner argues that the focus of Section 140(5) is not merely to induce a change of auditor but to determine fraudulent conduct by auditors. The provision aims to protect the interests of companies, stakeholders, and the public by preventing auditors involved in fraud from undertaking statutory audits for five years. 
  8. Regarding the resignation of an auditor, the submission asserts that it does not automatically end the proceedings under Section 140(5). Even after resignation, the NCLT can pass a final order rendering the auditor ineligible for appointment as an auditor for five years. The second proviso applies to auditors against whom a final order has been passed, not just the changed auditor.The submission further argues that the interpretation of the High Court would render proceedings against fraudulent auditors futile, as they could easily avoid consequences by resigning. It contends that the High Court’s quashing of the NCLT’s order and the maintainability of the petition under Section 140(5) is erroneous. 
  9. In conclusion, the Petitioner requests the court to set aside the High Court’s order and uphold the proceedings under Section 140(5) of the Companies Act, 2013 against the auditors. It argues that the resignation of auditors should not render the proceedings void and that the purpose of the provision is to prevent fraudulent auditors from being appointed in any company. 
  10. The Opposite Party argues various points regarding Section 140(5) of the Indian Companies Act, 2013 and its interpretation. The High Court upheld the constitutionality of Section 140(5) but read it down to only allow for the removal of an auditor, without the power to punish or debar them. The submission that the National Company Law Tribunal (NCLT) can debar an auditor for five years under Section 140(5) was rejected by the High Court. 
  11. The submission also highlights that the NCLT has not determined the merits of a Section 140(5) order and has only upheld the maintainability of proceedings under that section. It argues that the Act provides a holistic scheme for regulating auditors and punishing misconduct, fraud, and abetment of fraud. Therefore, auditors cannot escape liability through resignation or the termination of their tenure. 
  12. The Opposite Party points out that Section 140(5) only serves the purpose of removing an auditor and is not a standalone provision to disqualify auditors. It emphasizes that the heading of Section 140 indicates its purpose as the removal, resignation, and giving of special notice regarding auditors. Other sections of the Act address liability, penalties, and consequences for auditors involved in fraud or misconduct. 
  13. The Opposite Party argues that NCLT’s jurisdiction under Section 140(5) is limited to directing the removal of a company’s existing auditor and allowing for a substitution by the Central Government. The NCLT cannot create a deeming fiction to remove auditors who have already resigned. The submission also questions the NCLT’s power to pass orders against auditors who are no longer holding the position. 
  14. Additionally, the Opposite Party contends that the resignation of auditors renders the Section 140(5) proceedings infructuous, as the purpose of removal and change of auditors has already been fulfilled. It argues against an implied prohibition on auditors resigning after the commencement of Section 140(5) proceedings, as it would be contrary to the plain language of the section and its objective. 
  15. It also raises concerns about the excessive and arbitrary nature of Section 140(5), arguing that it grants unguided and untrammeled powers to the NCLT in a summary proceeding. It considers the penalty of automatic disqualification disproportionate, as similar penalties already exist under Section 141(3)(h) after due process of trial. It contends that Section 140(5) contravenes principles of proportionality and natural justice.

Hon’ble Supreme Court Observed/ Held As Follows:

  • In this case, the Supreme Court reviewed the judgement of the High Court which held that once an auditor resigns, proceedings under Section 140(5) of the Companies Act, 2013 are no longer maintainable. The Supreme Court disagreed with this interpretation and held that the resignation or removal of an auditor does not terminate the proceedings under Section 140(5). The court emphasized that the purpose of Section 140(5) is to determine whether an auditor has acted fraudulently and impose consequences accordingly. 
  • The court clarified that the proceedings initiated under Section 140(5) must reach a logical conclusion, regardless of whether the auditor has resigned during the proceedings. Resignation alone cannot avoid the final order and the consequences provided under the second proviso to Section 140(5), which include a five-year disqualification as an auditor. If resignation could terminate the proceedings, auditors could avoid the consequences by resigning. 
  • The court also addressed the argument that other provisions of the Companies Act, such as Section 132, 141, 147, 245, and 447, can deal with fraud or professional misconduct by auditors. The court stated that these provisions operate in different fields and Section 140(5) has been enacted with a specific purpose to address fraudulent conduct by auditors. 
  • Regarding the challenge to the constitutionality of Section 140(5), the court upheld its validity. It ruled that the provision does not grant unguided or arbitrary powers to the National Company Law Tribunal (NCLT) and that the auditors’ disqualification serves the public interest. 
  • The court also rejected the argument that Section 140(5) discriminates against auditors compared to directors and management. It emphasized the importance of auditors and their role in protecting stakeholders’ interests. 
  • In conclusion, the Supreme Court held that proceedings under Section 140(5) should continue even if an auditor resigns, and the consequences of the final order, including disqualification, should be applied. The court upheld the constitutionality of Section 140(5) and dismissed the challenges raised against it.



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