Read Accounting and Auditing Update January 2011 text version

ACCOUNTING AND AUDITING UPDATE

January 2011

Editorial

First of all, we would like to wish you all a happy new year 2011. It is with immense pleasure we bring forth the January 2011 edition of the Accounting and Auditing Update. The Companies Bill, 2009 (Bill), which seeks to replace the age old Companies Act, 1956 was introduced in the Lok Sabha on 3 August 2009 and subsequently referred to the Standing Committee on Finance of Parliament (Committee) for a detailed examination. The Committee, through its report dated 31 August 2010, has made certain game changing recommendations which include: (1) extending the need to appoint independent directors to certain unlisted companies (2) mandating the selection of independent directors out of a databank to be maintained by the Ministry of Corporate Affairs (3) restricting the tenure of office of an independent director to a maximum of two tenures of six consecutive years each with a cooling-off period of three years between the two tenures (4) prescribing a minimum corporate social responsibility spend of 2 percent of net profits (5) specifying auditor rotation once in five years; (6) recognising the Chief Financial Officer as a key managerial personnel (7) prescribing rules for participation of directors in board meetings through video conferencing and other electronic means (8) abolition of stock options to independent directors and (8) prohibition of a subsidiary from having step-down subsidiaries. The Ministry of Company Affairs and the Law Ministry will incorporate these recommendations, amend the Bill and place it for consideration in the upcoming Budget session of the Parliament. We have attempted to provide our perspective on the benefits and challenges emanating from the recommendations of the Committee in this publication. The IASB and FASB are jointly developing a standard on financial statement presentation to address user concerns that the financial statements are presented in an overly-aggregated fashion and often times inconsistently presented across the various statements within a set of financial statements. In this connection, the boards have issued a Staff Draft which proposes the need to classify assets, liabilities, revenues and expenses under the operating, investing, financing categories with separate sections for taxes and discontinued operations. The Staff Draft also mandates the direct method of preparing the cash flow statements and the need for presenting disaggregated information on costs by function as well as the nature of the financial statements. Preliminary estimates indicate that companies may incur significant implementation costs to conform to the new format, as changes to systems, processes, and internal control policies and procedures are likely to be inevitable. On 21 July 2010, the US President, Barack Obama signed into law the DoddFrank Wall Street Reform and Consumer Protection Act of 2010 which is acknowledged to be a sweeping overhaul of US financial regulation since the 1930s. Despite running into 2,300 pages, it leaves much to be fleshed out by future rule making. Apart from significantly impacting the financial services community, the Dodd Frank Act also enhances protection to whistle-blowers and other informants of the Securities Law violations. Additionally, the Act provides for a claw-back of compensation given to current and former named executive officers in the event of a financial statement restatement irrespective of whether the restatements arose as a result of misconduct. In this publication, we have attempted to summarise the impact of Dodd Frank Act specifically from the perspective of a Foreign Private Issuer. We hope you enjoy reading this publication. We would look forward to receiving your feedback on what you would like us to cover in our future publications at [email protected]

Narayanan Balakrishnan

Executive Director KPMG in India

Contents

Companies Bill 2009

An analysis of the report of Standing Committee 1

Future!

Financial statement presentation 13

Dodd-Frank Act

Snapshot of Implications for Indian Foreign Private Issuers 20 25

Regulatory Updates

An analysis of the report of Standing Committee on Companies Bill, 2009

The Companies Bill, 2009 (Bill) was introduced in Lok Sabha on 3 August 2009 and subsequently on 9 September 2009, it was referred to the Standing Committee on Finance of Parliament (Committee) for its detailed examination and report.1 The report of Standing Committee was presented to the Lok Sabha on 31 August 2010 and laid in the Rajya Sabha on the same date1. A new legislation, rule or regulation in a society usually seeks to ensure orderly, consistent and equitable conduct of its activities. Implementation of any new legislation, rule or regulation may require not only a radical change in the mindset of people to overcome the human mind's resistance to change but it may also require overcoming genuine bottlenecks that arise during the implementation process. Such implementation bottlenecks may either pose challenges cost-wise or unintentionally disturb an existing, well laid out system.

1

Twenty-first report of Standing committee on Finance, August 2010

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2

The essence of the Bill is to facilitate a comprehensive revision of the present Companies Act, 1956 with a view to promote self-regulation, eradicate unwarranted regulatory approvals, vest shareholders with greater powers and encourage greater transparency in the disclosures by corporate entities. Corporate governance is one aspect where heightened emphasis has been given to ensure accountability of individuals at the helm of affairs of a company. In the following paragraphs, we have attempted an analysis of some of the principal changes relating to corporate governance that the Bill, read with the

changes therein as agreed to by the Ministry of Corporate Affairs (MCA), seeks to bring about vis-à-vis the position obtaining as at present. The focus is primarily on proposals which have been significantly amended during the process of the Committee's consideration. The analysis identifies the proposed departures from the existing position, their potential benefits, and the challenges that those changes are likely to create. It may be worthwhile to add that the Report leaves many issues for further consideration of the MCA and therefore, there is a possibility of some further changes.

The report of the Standing Committee on the Bill contains a large number of recommendations. It is not possible to deal with each and every such recommendation due to limitation of space. The following discussion is, therefore, only with reference to some of the major recommendations and is by no means exhaustive.

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3

Appointment of independent directors

Recommendations · It is proposed that every listed public company having prescribed amount of paid-up share capital should have at the least one-third of the total number of directors as independent directors. The Central Government may prescribe the minimum number of independent directors in the case of other public companies and subsidiaries of any public company. · A panel or a databank should be maintained by the MCA, out of which companies may appoint independent directors. Departure from current practice Appointment of independent directors is mandatory only for listed public companies and is made by the company.

Benefits · Independent directors help to counterbalance the natural potential for conflict between the interests of executive directors and shareholders and other stakeholders. · A central databank will provide a readily accessible pool of eminent qualified personnel and professional experts who would be able to share their enriching knowledge and provide valuable insights based on their experience from other reputed companies where they have served, or are serving, as independent directors. This will also facilitate incorporation of best industry practices. · Whilst selection is to take place from the panel, the power to select or choose the independent directors still vests with the company and to this extent, there is no major change/dilution in the company's powers.

Challenges · The proposal seeks to strengthen the independence of independent directors. However, the concept of independence is multifaceted, judgmental and highly subjective. · Maintenance of a panel may give rise to concerns of favouritism and bureaucratic delays unless the empanelment criteria are objective and publicly known and other checks and balances are put in place. · Evaluating a person's competence, integrity and commitment is not always possible on the basis of information available in a databank. · It may so happen that certain highly reputed and eminent individuals fail to register their names either unintentionally or intentionally. This would prevent companies to choose such people because of the statutory requirement. · Considering that the criteria for determining independence have in any case been specified, constitution of a panel may unduly complicate the appointment process.

"Whilst having a panel to choose from provides increased flexibility and facilitates uniformity in the selection process, whether such a benefit justifies a rigid appointment process is open to debate"

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4

Tenure of independent directors

Recommendations Tenure of office of an independent director is proposed to be limited to a maximum of two tenures of six consecutive years each with a cooling-off period of three years between the two tenures. During the cooling-off period, such a person can not be inducted in the same company in any capacity. Departure from current practice · The Corporate Governance Voluntary Guidelines issued by the MCA permit three tenures (with similar conditions) for an independent director. · Clause 49 of the Listing Agreement contains a nonmandatory requirement to the effect that an independent director cannot serve for more than nine years.

Benefits · Having a limit on the tenure of office seems to have merit since the ability of an independent director to act independently may be impaired if the association with a company continues uninterrupted for a significant extended period. However, it is a moot point whether the limit of six years is the appropriate limit. · A new set of people would have a fresh perspective and outlook to company's issues and would also be more likely to objectively evaluate the practices being followed.

Challenges · Having a restricted tenure could prove to be counter-productive since the knowledge gained through experience may not be fully put to use in a shortened tenure. · A restricted tenure could also affect the enthusiasm and effectiveness with which an independent director provides suggestions for high-level decisions to be taken by the Board. · There exists no uniformity in various regulatory guidelines with respect to maximum number of years as tenure by an independent director and there is genuine doubt on what is an appropriate period. · Given that a director would usually take a year or two to be familiar with the dynamics of a company, the functioning of the board etc., a term greater than six years or a term which may be fixed (within reasonable limits) by the company may be more appropriate.

"There is a need to strike balance between maintaining the independence and ensuring effectiveness of an independent director"

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5

Corporate social responsibility (CSR)

Recommendations Every company having net worth of INR 500 crores or more, or turnover of INR 1,000 crores or more or a net profit of INR 5 crores or more during a year shall be required to formulate a policy to ensure that every year at least 2 percent of its average net profits for the three immediately preceding financial years are spent on the CSR activities as may be approved and specified by the company. Appropriate disclosures by directors to be made in this regard in their report to members. In case any such company does not have adequate profits or is not in a position to spend prescribed amount on CSR activities, the directors would be required to give suitable disclosure/ reasons in their report to the members. Departure from current practice As per the Corporate Social Responsibility Voluntary Guidelines, 2009 issued by the MCA, companies are encouraged to allocate specific amount in their budgets for CSR activities. The Guidelines also suggest disseminating information on CSR policy, activities and progress in a structured manner to all stakeholders and public at large. Challenges · Companies do business to create value addition to their shareholders. This has to be the first and foremost objective for any company. Mandating the CSR initiatives could result in conflict between the economic and social objectives of a company. · Companies already cater to the needs of various sections of the society by providing employment, paying taxes to government, sustaining developmental activities in the surrounding areas etc. To thrust more responsibility on them by way of mandatory CSR initiatives could discourage corporate world. · Effectively, this would amount to corporate income tax rate going up by 2 percent. · Mandating a specific budget for CSR initiatives may be counter productive. Companies should be encouraged to voluntarily adopt good governance and corporate social responsibility practices, rather than be legally compelled to do so.

Benefits · This would ensure that a company spreads the benefits generated from its operations across the overall society to which it belongs, thereby achieving a macro level objective of contributing to the society. · This would facilitate effective initiatives by publicprivate enterprises jointly coming together instead of only the state being made responsible for the welfare of society. · The requirement for a company to give adequate disclosures on its CSR initiatives or reasons for noncompliance would keep the shareholders and other users of financial statements sufficiently informed.

"Imperative need to strike a balance between socially responsible behaviour and economic objectives of the corporate world"

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6

Rotation of auditors

Recommendations The Bill originally did not contain any proposal for rotation of auditors. However, it is now proposed that audit partner and firm will be required to be mandatorily rotated once every three and five years respectively with a cooling off period of three and five years for the partner and firm respectively. Departure from current practice · ICAI Quality Control Standards require that an audit firm should set out criteria for determining the need for safeguards to reduce the familiarity threat to an acceptable level when using the same senior personnel on an assurance engagement over a long period of time. For listed entities, it mandates that that the audit partner should be rotated after a pre-defined period, normally not more than seven years. · The voluntary guidelines on corporate governance issued by the MCA require that to maintain independence of auditors, audit partner and firm may be rotated once every three and five years respectively with a cooling off period of three and five years for the partner and firm respectively.

Benefits The proponents of rotation argue that rotation increases auditor's independence and will .provide opportunities to a larger number of accounting professionals. Challenges · Experience with mandatory auditor rotation in practice demonstrates that it reduces audit effectiveness, increases the costs of doing business and diminishes the quality of audit services. Audit firms may lose incentive to develop domain knowledge and may not invest in related resources. Compulsory firm rotation also increases the costs of doing business by distracting non-executive directors and senior company management as new auditors must be familiarised and brought up to speed on company operations. · Professional standards already provide strong safeguards to address the threat of the auditor's over-familiarity with the client, including rotation of the lead partner on an audit as well as other restrictions that enhance audit independence and quality in a more cost-effective manner. · In practice, such a measure may result in auditing firms being split into smaller firms. This will particularly militate against creation of vast knowledge databases and specialised expertise.

· There is no empirical support for the argument that rotation increases auditor independence by removing the incentive to sacrifice current judgments for the promise of long-term revenues from a client. · If implemented, the provision will cause greater difficulty for global corporates, as they will have to change their audit firm for their Indian subsidiary while having a separate auditor for rest of the globe. · Only a handful of countries (notably Indonesia, Italy, Poland, Saudi Arabia and Singapore) currently require some form of audit firm rotation after a predefined period. Numerous examples of countries introducing audit firm rotation only to reverse their positions after implementation of the regime reveal that rotation creates more problems than it solves. · In 2002, the Naresh Chandra Committee on Corporate Audit and Governance had rejected the proposal for rotation of auditors and had instead recommended rotation of audit partners. · The best alternative measure would be to legislate for audit partner rotation according to international norms and to introduce effective and independent auditor oversight, just as it occurs in the EU, the US, and around the world.

"In the absence of a strong case for audit firm rotation, the international experience should be leveraged to introduce alternative mechanisms to safeguard the independence of auditors"

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7

Independence of auditors to be ensured by audit committee

Recommendations The audit committee comprising independent directors be made responsible to ensure that the auditor remain independent and are organisationally and professionally competent to discharge their responsibility. Departure from current practice Whilst the existing law or regulation does not explicitly stipulate this requirement, one of the implied functions of the audit committee is to ensure that auditors remain independent of the company.

Benefits The requirement would ensure that the audit committees develop procedures to regularly review whether the auditor has remained objective and independent in discharge of his duties.

Challenges Independence being a subjective concept is difficult to establish. The ways and means by which audit committee can ensure independence are limited. Many audit committees may just obtain a letter from the auditor regarding compliance with independence requirements.

"Increased emphasis on independence of auditors is a positive signal to the accounting profession and corporate world. However, challenges exist in monitoring such independence" Responsibilities of Chief Financial Officer (CFO)

Recommendations · It is proposed to recognise CFO as a key managerial personnel. Companies belonging to such class or description of companies as may be prescribed must have whole-time key managerial personnel. · The CFO shall be responsible for the proper maintenance of the books of account of the company, and shall ensure proper disclosure of all required financial information indicated in the prospectus or any other document, risk management, internal control Benefits · Mandatory requirement for prescribed classes of companies to have a whole-time CFO is a recognition of importance of finance function. With the aspects of internal control, risk management, finance and accounts brought under the purview of the CFO, a clear-cut definition of roles and responsibilities of the CFO and appropriate reporting structure would emerge in many organisations. · Presence of a whole-time CFO, with clearly defined roles and functions, would provide added comfort to stakeholders. Challenges · Responsibility and authority complement each other. The CFO would need to be adequately empowered mechanism, and also ensure compliance of the provisions relating to preparation and filing of annual accounts of the company. Departure from current practice The present Act does not specifically recognise the position of the CFO. However, the SEBI listing requirements stipulate certain specific functions for the CFO. In practice, CFO is responsible for most of the above activities and reports to the Board. to take decisions instead of merely being an executor of directions given by the Board. It should not so happen that the Board is vested with powers to make decisions and the CFO being held responsible for consequences of such decisions. · Functions such as risk management are areas wherein specialised expertise is required to mitigate the company's business risks, market risks, etc. in addition to financial risks. In large organisations, there exists a separate risk management department headed by an expert who specialises in financial risk management. CFOs often place reliance on the work carried out by the risk management experts of the company based only on a broad overview. The CFO may not be in a position to exercise hands-on control in aspects such as risk management as compared to that of functions like accounting, finance and internal control.

"Striking the right chord between CFO's responsibilities & powers vested in him is a need of the hour"

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8

Auditors' report

Recommendations · The Bill proposes that the audit report should explicitly state compliance with auditing standards. · Further, in case of the listed companies, the auditor should also state whether the company has complied with the internal financial controls and directions issued by the Board. · It is also proposed that the auditor's report should specifically state whether the balances exceeding INR 5 lakh in respect of every debtor, creditor, loan and advance, investment and bank balance have been confirmed by the respective counterparty. Departure from current practice No such requirement exists under the current practice both in terms of usage of language in the audit report on compliance with auditing standards and on financial controls in case of listed companies.

Benefits Listed companies are expected to have robust internal controls in place particularly over financial reporting. By having the auditor report on company's compliance with the financial controls framed by the Board, an independent evaluation of compliance with prescribed internal controls would be done. Challenges · Whilst ensuring compliance by a company with the internal controls framed by the Board of Directors is an effective governance measure, it would be useful if the auditor's are also asked to comment on whether the internal financial controls as prescribed by the Board of Directors are themselves adequate. In other words, the design deficiencies in internal financial controls as laid down by the Board should also be required to be brought out.

· The scope of the expressions `internal financial controls' and `directions issued by the Board' is too wide and needs to be restricted to those relating to financial reporting and any other aspects which are directly relevant to the functions of the auditor. · As regards the proposed assertion relating to confirmation of specified balances, auditing standards (which are now proposed to be recognised in the law itself) already lay down the overall framework within which an audit needs to be conducted. Within this overall framework, the exact methods of obtaining sufficient appropriate audit evidence relating to an item in the particular facts and circumstances of a case should be left to the professional judgement of the auditor rather than being prescribed under law.

"Whilst making the auditors comment on compliance with internal controls by listed companies is a laudable step, scope for improvement does exist to have greater impact"

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9

Participation of directors in the meetings

Recommendations Provision is sought to be made for participation of directors in a Board meeting either in person or through video conferencing or such other electronic means as may be prescribed which are capable of recording and recognising the participation and for recording and storing of such participation. Benefits Participating by video conferencing (or similar means) is a very welcome step and would ensure greater participation of directors and also save time and cost. Departure from current practice At present, participation in a Board meeting can be only by personal attendance.

Challenges The Board meetings are forums where directors carry out numerous discussions on the company, all of which may not be recorded for various reasons.

" Allowing effective use of technology without compromising confidentiality would be a welcome step subject to certain exceptions regarding recording which should be permitted"

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10

No employee stock options for independent directors

Recommendations An independent director shall not be entitled to any remuneration, other than sitting fee, reimbursement of expenses and profit-related commission as approved by the members. Thus, stock options have been removed from the allowable forms of compensation of independent directors. It is proposed to allow payment of higher sitting fee to independent directors and to have Rules to prescribe different slabs/categories for payment of sitting fees to different class or classes of companies on the basis of net worth and/or turnover. Departure from current practice Stock options can be given to directors including independent directors. The SEBI guidelines also permit this subject to shareholders' resolution.

Benefits · Stock-option compensation can have negative effects since it could compromise the independence of independent directors by shifting their focus on short-term stock price movement instead of promoting long-term interests of stakeholders. The mechanism of stock options is such that lower the stock price on the grant date, more likely the recipient would be to gain. This may lead in some cases to time the grants in such a way so as to suit the convenience of directors.

Challenges · The present practice is stringent enough, requiring wide-ranging disclosures in company's financial statements and other public documents, for stock options given to the directors including the independent directors. More importantly, these stock options are subject to approval of the shareholders of the company. · If it is argued that independence is enhanced by preventing independent directors from having stock options, questions arise as to why only independent directors should be prevented from having stock options and why not other directors who form part of the board and who have greater powers in driving the operating policy decisions of the company. · Various countries (USA, UK, Canada, Australia, Singapore, Hong Kong to name some) do not prohibit stock options for independent directors. Considering that stock option consideration is growing in popularity, it may be more appropriate to place restrictions either on the total amount of options or on the manner of vesting and exercise of such options and sale of resultant shares.

·

"Restricting independent directors from being granted stock options needs further debate"

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11

Uniform financial year

Recommendations All companies would have a uniform financial year which would be ending 31 March, with the Company Law Tribunal empowered to grant exemption to a company upon application for following a different period as financial year. Benefits · Brings about uniformity which would facilitate better comparison of financial statements of companies. The Income-tax Act, 1961 has already brought in the concept of a uniform financial year of April ­ March consequent to which most of the companies already have April­March as financial year. Departure from current practice Presently, no requirement of a uniform financial year exists in the Companies Act.

Challenges · Global companies generally follow calendar year as their financial year. Also, Indian companies with subsidiaries across the world could have different financial years across these subsidiaries. The proposed recommendation could lead to problems in consolidation process. · The proposed change allows companies to make an application to Tribunal and seek its approval for following a different period. In today's world, companies look towards support from the state in reducing administrative hassles involved in obtaining approvals from government regulatory bodies. This change would largely be looked upon by the corporate world as increasing their burden.

·

"It would be necessary to lay down procedures whereby applications seeking approval in this regard are processed expeditiously"

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12

Restriction on step-down of subsidiaries

Recommendations With a view to prevent diversion of funds, it is proposed to prohibit a subsidiary company from having its own subsidiary. Departure from current practice There is presently no such restriction on subsidiary having further subsidiaries.

Benefits The intention of the proposed change is to prevent siphoning-off of funds and protect interest of shareholders which should add the comfort level of shareholders.

Challenges · Most companies have already created structures to suit their operational convenience within the framework permitted so far. Foreign companies carry out their operations in India through the concept of step down subsidiaries in many cases. The concept of single tier of subsidiaries could lead to severe administrative hassles for both domestic and foreign players who intend carrying out business in India.

· This could have severe impact on certain industries such as infrastructure industry. The mechanism of investments in infrastructure industry is that a holding company would invest in various projects through various subsidiaries. This ensures separate funding of different projects through a chain of subsidiaries and step-down subsidiaries. · The proposal would create problems for realty companies where there is limitation on holding land beyond a specified limit as per the land regulation statutes in India. · The proposal is too drastic to be enacted without adequate debate. It will have far-reaching consequences on foreign investment and growth of industry. · The proposal would create almost impossible implementation issues particularly because at present, many large companies operate through multiple tiers of subsidiaries.

"Restriction could prove to be counter-productive and act as an impediment to entry of global players into the country"

Summary

Given the likely pervasive impact of the provisions of the Bill, the need of the hour is to strike the appropriate balance to achieve the twin objectives of improving corporate governance without creating undue bottlenecks. It is expected that the benefits and challenges of the new proposals will be appropriately deliberated and addressed prior to enactment of the final legislation.

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13

FUTURE!

FINANCIAL STATEMENT PRESENTATION

Financial statements are a principal means of communicating financial information about an entity to those outside the entity. How an entity displays information in its financial statements is of utmost importance for communicating financial to make decisions on resource allocation. IASB and FASB initiated the joint project on financial statement presentation to address the users' concerns that existing standard permits too many options for presentation and that information in financial statements is highly aggregated and inconsistently presented making it difficult to understand the relationship between the financial statements and the financial results of an entity.

The primary objective of this project is to establish a global standard that will guide the organisation and presentation of information in the financial statements. The boards' goal is to improve the usefulness of the financial information to assist management to better communicate its financial information to the users of its financial statements and to help them in decision making. The financial statement presentation project is being conducted in three main phases as below:

Phases Status

On 1 July 2010 the IASB and the FASB posted to their websites a staff draft of proposed standard that reflect tentative decisions made to date, as a basis for extended stakeholder outreach activities. However, work on the project is continuing, and the proposals are subject to change before the boards decide to publish an exposure draft for public comment.

Phase A: IAS 1 The IASB issued a revised version of IAS 1 in September 2007 Financial Statement Presentation completed Phase B: In Progress It addresses the more fundamental issues relating to financial statement presentation. ? A discussion paper Preliminary Views on Financial Statement Presentation was published in October 2008 ? 2010, the Boards published separately the proposed In May amendments to improve the presentation of items of other comprehensive income (OCI). Next step is the staff draft in the Boards work plan for this project. ? Discontinued operations: To develop a common definition of discontinued operations and require common disclosures related to disposals of components of an entity. In June 2010, the Boards issued a progress report stating their decision for alignment of this with the main financial statement presentation project. The Boards plan to issue in the first quarter of 2011 an exposure draft on a converged definition of discontinued operations and related disclosures. This phase will consider the presentation and display of interim financial information in US generally accepted accounting principles (GAAP). It is also expected to address requirements in IAS 34 Interim Financial Reporting

Q3 2010

Staff Draft

Q1 2011

Exposure Draft

Phase C: yet to be Initiated

Q4 2011

Target date IFRS

(Source: www.ifrs.org ) (Source: www.ifrs.org )

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14

Core principles of financial statement presentation

The staff draft proposes an entity to present information in its financial statements in a manner that:

? a cohesive financial picture of the entity's Portrays

Disaggregation principle The aim of the disaggregation principle is that an entity should separate resources by the activity in which they are used and by their economic characteristics. The entity would consider the following in determining the items to disaggregate and present in the financial statements:

? The function, i.e. the primary activities in which an entity

activities and

? Disaggregates information to explain the components of

is engaged

? The nature, i.e. the economic characteristics or attributes

its financial position and financial performance. The Boards are of the view that both these principles work together to enhance the understandability of an entity's financial statement information. Cohesiveness principle The aim of the cohesiveness principle is that an entity should present information in the financial statements so that the relationship among the items across financial statements is clear and that an entity's financial statements complement each other as much as possible. To present a cohesive set of financial statements, an entity would present disaggregated information in the statements of financial position, comprehensive income and cash flows in a manner that is consistent across those three statements. The cohesiveness principle responds to the existing lack of consistency in the way that information is presented in an entity's financial statements.

that distinguish assets, liabilities and items of income, expense and cash flow that do not respond similarly to similar economic events

? The measurement basis, i.e. the method or basis used to

measure an asset or a liability and

? The materiality of the items given the need to

disaggregate items of dissimilar nature, function or measurement unless they are immaterial. DISAGGREGATION

MEASUREMENT BASIS NATURE FUNCTION

(Source: New on the Horizon: Financial statement presentation)

WORK TOGETHER

COHESIVENESS

DISAGGREGATION

(Source: New on the Horizon: Financial statement presentation)

Our comments: The staff draft proposes disaggregation on a line-by-line basis for the function, nature and measurement basis of the items. This may result in many more line items being disclosed on the face of the financial statements. In addition, there appears to be no limit on the requirements for disaggregation, resulting in possibly excessive information on the face of the financial statements. Some may be concerned about the consistency of the disaggregation of items between similar entities, and whether these will be comparable.

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15

Structure of the financial information

A common structure is proposed for the statements of financial position, comprehensive income and cash flows in the form of required sections, categories or subcategory and related subtotals. An entity's financial statements would include sections, categories and subcategory (if applicable), as shown in the adjacent table.

Statement of financial position Business section Operating category Operating finance subcategory Investing category Financing section - Debt category - Equity category

Statement ofcomprehensive income Business section Operating category Operating finance subcategory Investing category Financing section - Debt category

Statement of cash flows Business section Operating category

Investing category Financing section

Multi-category transaction section Income tax section Discontinued operation section Income tax section Discontinued operation section, net of tax Other comprehensive income, net of tax

(Source: Staff draft)

Multi-category transaction section Income tax section Discontinued operation section

It is not expected that an entity's financial statements would include every section or category or subcategory. An entity includes a section, category or subcategory when its activities meet the criteria for segregation in that section, category or subcategory. The order of presentation of sections or categories in the financial statements would not be prescribed. In selecting the order of presentation of sections and categories, it is expected that the entity would try to align the sectors and categories across the statements. However, an entity shall choose an order that produces the most understandable depiction of its activities and allows for presentation of meaningful subtotals and totals. An entity would also disclose in the notes to financial statements the basis for its classification of line items within the sections, categories and subcategory. In particular, an entity would disclose the relation between the presentation of information in the financial statements and its activities.

includes the interrelated use of its resources (business) and those that generate a return from individual assets (investing). Examples of operating activities include:

? services by a consulting the sale of

subcategory include a net postemployment benefit obligation, a lease obligation, vendor financing and a decommissioning liability. A liability would be presented separately in the operating finance subcategory if it meets all of the following criteria:

? incurred in exchange for a the liability

firm

? production and sale of research,

pharmaceuticals by a pharmaceutical company

? deposit-taking and loan-making

activities of a bank

? customers cash from ? costs associated with producing

service, a right to use or a good, or is incurred directly as a result of an operating activity

? is initially long-term and the liability ? has a time value for the liability

goods and rendering services

? for materials cash paid ? trade accounts receivable and trade

money component that is evidenced by either interest or an accretion of the liability attributable to the passage of time. In its basis for conclusion, the Boards mentioned that some liabilities (e.g., a net post- employment benefit liability and a decommissioning liability) are viewed by many users of financial statements as an alternative source of financing; however, those liabilities are not part of an entity's capital-raising transactions. Although those liabilities can be viewed as having a financing component, the Boards concluded that they should not be classified in the debt category or the financing section. That is because those liabilities are entered into in exchange for a service, a right of use or a good, or are incurred directly as a result of an operating activity.

accounts payable

? plant and equipment, property,

intangibles and other long-term assets that are used as part of an entity's day-to-day business

? depreciation and amortisation

expense Business section An entity's business section would comprise its operating activities and its investing activities, which would be presented separately. This section would include assets and liabilities that relate to an entity's income generating activities. The Boards propose that an entity would segregate its business activities into those that generate revenue through a process that

? commodity-based contracts (e.g.,

forward, option or swap contract) that are related to operating assets or operating liabilities. The operating category would include an `operating finance' subcategory, which would consist of liabilities related directly to operating activities and which some users view as an alternative source of financing. Examples of liabilities that would be classified in the operating finance

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Consistent with the cohesiveness principle, all related effects from those liabilities would be classified in a similar subcategory in the statement of comprehensive income. However, related cash flows would be presented in the operating category in the statement of cash flows which does not include an operating finance subcategory. The investing category would include assets or liability that an entity uses to generate a return and any change in those assets or liabilities. No significant synergies are created for the entity by combining an asset or a liability classified in the investing category with other resources of the entity. An asset or a liability classified in the investing category may yield a return for the entity in the form of, for example, interest, dividends, royalties, equity income, gains or losses.

Financing section The financing section would include items that are part of an entity's activities to obtain (or repay) capital. The financing section is expected to provide transparency about an entity's capital structure and the financing activities in which the entity engages. The financing activities would be grouped into tow categories: debt and equity in the statements of financial position and comprehensive income. However, in the statement of cash flows the financing activities will be separated into debt or equity. The debt category would include: · borrowing arrangements entered into for the purpose of obtaining or repaying capital and the related income effects and · transactions involving an entity's own equity, including the assets, liabilities and related income effects that arise from these transactions. Transactions involving entity's own equity would be presented separately from the borrowing arrangements with the debt category. The equity category would include · all equity items as determined in IFRS in the equity category of the statement of financial position

· all changes in equity in the statement of changes in equity and · all cash flows related to equity transactions in the financing section of the statement of cash flows.

Our comments: It is not clear from the requirements of the staff draft where goodwill should be presented. It seems that goodwill should be classified in the operating category of the business section; however some may argue that it should be classified in the investing category of that section. There is a disconnect in relation to the operating finance subcategory in that it appears in both the statement of financial position and the statement of comprehensive income but not in the statement of cash flows. Some question if finance lease will always be classified as operating finance lease liabilities. For example, if an entity enters into a sale and finance lease back transaction as a means of raising funds or for tax planning purposes and such property is not used in the day-to-day business, would the finance lease liability still be classified in the operating finance sub-category?

Our comments: It is not clear whether transactions under IFRS 2, Share-based Payment would be classified under the debt category. One could understand that cash settled share-based payments should be shown in the debt category whereas it is not clear in which category expenses resulting from equity settled share-based payments should be shown. Further, these transactions may not always be debt and may instead meet the definition of equity in IAS 32, Financial Instruments: Presentation and IFRS 2 for example, by delivering a fixed number of shares which are equity-settled sharebased payments.

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Multi-category section The multi-category transaction section would include the net effects on comprehensive income and cash flows of transactions that result in the recognition or derecognition of assets and liabilities in more than one section or category in the statement of financial position. Statement of changes in equity The statement of changes in equity would not include the sections and categories used in the statements because the statement presents information solely about changes in items classified in the equity category in the statement of financial position.

Cash would be classified in the operating category in the statement of financial position. However, if overdrawn, the balance is presented in the debt category as short-term borrowing. The proposed format would challenge the way many have traditionally viewed the statement of financial position since it would no longer be classified on the basis of elements (assets, liabilities and equity).

Classification as short-term or longterm (which replaces current or noncurrent) would no longer take account of the entity's normal operating cycle. Deferred tax assets and liabilities: Deferred tax assets and liabilities would be classified as short-term or long-term according to the classification of the related asset or liability. Current IAS 1 prohibits classifying a deferred tax asset or liability as current and this proposed classification would be a change in practice. The proposed classification is consistent with US GAAP The IASB concluded that this . change in practice is consistent with the Boards' goal of aligning not only their presentation standards, but also the income tax standards.

Short-term and long-term presentation Within each section, category and subcategory, an entity would continue to have a choice between presenting short-term assets and liabilities separately from long-term assets and liabilities, or presenting assets and liabilities in order of liquidity. An asset or a liability would be classified as short-term if either its contractual maturity or its expected date of realisation or settlement is within on year of the reporting date; if not, the asset or liability is classified as long-term unless specified otherwise in other IFRS or in special guidance for deferred tax and financial liabilities.

Statement of financial position

Presentation An entity would classify its assets and liabilities into the sections, categories and subcategory on the basis of how those items relate to its major activities or functions. Therefore, not all assets would be presented together and not all liabilities would be presented together. In addition, assets and liabilities also would be disaggregated by nature and/or measurement basis.

Classification of financial liabilities IAS 1 and US GAAP include different guidance for the classification of financial liabilities as current or noncurrent. The Boards will consider addressing those differences in a separate project. Consequently, the staff draft retains the guidance in IAS 1 on classification of financial liabilities. The requirements for the classification of financial instruments under IFRS is mostly contained within IAS 32.

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Statement of comprehensive income

Presentation An entity would classify items of income and expense that comprise profit or loss into the section, category and subcategory that are consistent with the classification of the related asset or liability in the statement of financial position and consistent with the related cash flows in the statement of cash flows. An item of income or expense that is not related to an asset or a liability in the statement of financial position would be classified consistently with the activity generating the income, expense or cash flow.

Disaggregation by function and nature Unless it is not useful in understanding the entity's activities and the amounts, timing and uncertainty of future cash flows, an entity would disaggregate its income and expenses by function (i.e., the entity's primary activities, such as selling goods, manufacturing, advertising or administration) in the statement of comprehensive income. An entity would further disaggregate those amounts by nature (e.g., materials, depreciation, employee benefits) and present that information in the statement of comprehensive income or in the notes to financial statements. An entity that does not present its income and expenses disaggregated by function would disaggregate and present its income and expenses by nature in the statement of comprehensive income.

Our comments: Since the classification of income and expenses is driven by the classification of assets and liabilities in the statement of financial position, the profit subtotals may differ from the amounts presented under the existing IAS 1. For example, interest may be classified in three different categories, whereas previously it would have been disclosed as a single line item. This would result in operating profit being calculated differently to its previous method.

Categories within other comprehensive income An entity would indicate for each item of other comprehensive income, except for a foreign currency translation adjustment of a consolidated subsidiary or a proportionately consolidated joint venture, whether the item relates to an operating activity, investing activity, financing activity or a discontinued operation.

related to the ordinary and typical activities of an entity, given the environment in which the entity operates.

Our comments: There could be diversity in the interpretation of unusual, infrequent and material. This may lead to inconsistent application between periods and between similar entities. To avoid divergence in practice, it may be useful to have more detailed guidance.

Separate project on presentation of other comprehensive income Consistent with the proposal in a separate joint project on presentation of other comprehensive income (ED/2010/5), the statement of comprehensive income would be segregated into two parts: profit or loss (net income) and other comprehensive income. Items of other comprehensive income would be grouped into those that in accordance with other IFRSs would be reclassified subsequently to profit or loss when specific conditions are met and those that would not be reclassified subsequently to profit or loss.

Unusual or infrequently occurring items An unusual or infrequently occurring event or transaction would be presented separately in the appropriate section, category or subcategory in the statement of comprehensive income. A description of each unusual or infrequently occurring event or transaction and its financial effects would be disclosed in the statement of comprehensive income or in the notes to financial statements. An entity would present separately a material event or transaction that is unusual or occurs infrequently. A transaction is infrequently occurring when it is not reasonably expected to recur in the foreseeable future given the environment in which an entity operates. An item is unusual if it is highly abnormal and only incidentally

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Statement of cash flows

A statement of cash flows would present information about the change in cash during the reporting period in a manner that relates the cash receipts and cash payments to information presented in the statements of financial position and comprehensive income. An entity would use the direct method to present cash flows in each of its sections and categories, i.e., gross cash receipts and gross cash payments.

Notes to the financial statements

The notes to the financial statements would include new or additional disclosure requirements. An entity would be required to provide an analysis of the changes between the opening balance and closing balance of asset and liability line items that are important for understanding the current period change in the entity's financial position. As part of that analysis, an entity would present separately the change related to cash transactions, non-cash transactions (e.g., reclassifications), accounting allocations (e.g., depreciation), write downs or impairment losses, acquisitions or dispositions, and other remeasurements (e.g., fair value changes).

Conclusion It is evident from the above that the proposals will result in the financial statements being presented very differently to the many alternative types of presentation permitted by the existing requirements. It is also evident that much more disaggregated information will be required than is currently the case. Whilst users of financial statements may find that the enhanced cohesiveness and disaggregation may permit improved analysis, of and insight into, an entity's financial position and performance, preparers may encounter costs and systems challenges in presenting financial statements on the proposed basis and may be concerned that excessive disclosure may obscure important information. As the classification to sections and categories is mainly dependent on the individual activities of the entity, there may be some sacrifice of comparability between entities. The staff drafts have been made available publicly for information of constituents and to form a basis for the Boards' outreach activities. Although the Boards are not inviting formal comments on the staff drafts, they welcome input from interested parties and will consider whether to change any of their tentative decisions in response to the input received. They will review the tentative decisions reached to date in the light of the feedback received with the view to publishing an exposure draft; currently expected in early 2011.

Our comments: There may be implementation issues with regard to the use of the direct method for cash flow statements since an entity will be required to obtain information on a transaction by transaction basis. Further, the proposals are expected to lead to a different classification of items in the statement of cash flows than under the current IAS 7, Statement of Cash Flows. For example, cash flows related to capital expenditures are currently presented in the investing category. An entity would most likely present those cash flows in the operating category using the proposed definitions.

An entity would also be required to reconcile operating income to operating cash flows as an integral part of the statement of cash flows. In the basis for conclusion the Boards mentioned that users of the financial statements observed that having this information as part of the statement is most useful because an analysis of the statement of cash flows would be incomplete without it.

Our comments: This proposed disclosure may have more than financial statement disclosure implications for entities. For instance, there may need to be a change in accounting systems to capture this information, as information on a transactionby-transaction basis is required to properly track the remeasurements for disclosure purposes.

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Dodd-Frank Act

Snapshot of Implications for Indian foreign private issuers

Economic growth results in an inevitable need for legislators to formulate new legislations and laws to adapt to the changing environment and to ensure that its constituents do not attempt to take advantage of lacuna in the prevailing compliance framework. In today's world, cutting edge competition in corporate sector coupled with misplaced priorities on economic values over ethical values have led to numerous corporate scandals being witnessed across the globe. The prevailing laws and legislations in a society get outgrown over time which necessitates introduction of newer and more effective legislation to suit the evolving needs. The introduction of the Dodd-Frank Act is yet another step in this direction in an endeavor to redefine the concept of `regulations and reforms' not only in financial services sector but also in all other sectors both within United States and to a lesser extent outside the US as well. What is Dodd-Frank Act? `Dodd-Frank' to begin with, is the shorter form for the `Dodd-Frank Wall Street Reform and Consumer Protection Act' (the Act or the Dodd Frank Act) introduced as law in July 2010 in the United States of America (US). Like its predecessor, the Sarbanes Oxley Act of 2002 (SOX), this Act has been named after its founders ­ Chris Dodd & Barney Frank. The Act is expected to facilitate sweeping changes to the concept of financial regulations in the US and is expected to have far reaching consequences on the financial services sector in the US. Does this mean Dodd-Frank would only affect financial institutions and US companies? ­ The answer is a big `No'. Whilst the main objective of DoddFrank is to ensure that high level of regulation persists in the financial services sector, it does have implications on companies from all sectors and applicable for foreign private issuers across the globe. Let us first understand who these foreign private issuers are before analysing the impact and implications on such issuers consequent to the Dodd-Frank Act. Foreign private issuer: A foreign private issuer (FPI) is defined in accordance with the Rule 3b-4 of the Securities Exchange Act of 1934 as any foreign issuer other than a foreign government except for an issuer meeting the following conditions as of the last business day of its most recently completed second fiscal quarter:

? 50 percent of the issuer's outstanding voting securities are More than

directly or indirectly held of record by residents of the US and

? following: Any of the ? The majority of the executive officers or directors are the US citizens or

residents

? 50 percent of the assets of the issuer are located in the US More than ? The business of the issuer is administered principally in the US.

For example, a company domiciled in India and listed in the US stock exchange will be referred to as a foreign private issuer if the specified conditions are met.

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Implications of the Dodd-Frank Act on FPIs

Dodd-Frank Act has wide ranging implications for the Companies in US. We have only attempted to highlight certain significant matters impacting the FPIs:

1. Corporate whistle-blower protection

The existing SOX Act intends to extend protection to employees acting as whistle-blowers upon meeting specified conditions laid down by the Act. The Dodd-Frank Act seeks to enhance flexibility at the hands of such whistle-blowers to enable them to report more freely without any fear of retaliatory action by the employer. We have discussed below some of the notable changes carried out consequent to the Dodd-Frank Act on aspects relating to corporate whistle-blower protection mechanism: "Act enhances flexibility in provisions to induce whistleblowers to report without undue hesitation " traded company even though the whistleblower was employed by a subsidiary company of the publicly traded company. Impact of the Dodd-Frank [section 922(b) and 929A] Explicitly includes both public traded companies and "any subsidiary or affiliate whose financial information is included in the consolidated financial statements of such company. Some court rulings in the past have taken a position that the employees of non-publicly traded companies were not to be covered by the SOX Act unless substantial nexus could be established between the parent and subsidiary company. The said amendment would cast the net wide open in terms of coverage of claims which could result in more instances being reported.

A. Grounds of reasonable belief: Current practice The whistle-blower provision under the SOX Act requires `reasonable belief' condition to be fulfilled by individuals acting as whistleblowers to seek protection. i.e., such individual ought to have reasonable belief that the information he/she reports constitutes violation of company's policy on fraud or any other statutory provisions relating to fraud. Impact of the Dodd-Frank [section 922(a)] Unlike SOX, the Dodd-Frank Act extends its protection to whistle-blowers regardless of whether they reasonably believe that the information being reported constitutes violation of fraud related provisions. The Act prohibits any action of retaliation against whistleblowers who (i) provide information to SEC (ii) initiate, testify or assist in any SEC investigation or legal action related to information provided by the whistleblower or (iii) make disclosures that are required or protected under SOX or the Securities Exchange Act of 1934.

C. Bounty provisions: Current practice Currently, the SEC has a monetary reward program to pay rewards to informants in insider trading, which is not very widely publicised or frequently applied by the regulator. Impact of the Dodd-Frank [section 922] The Dodd-Frank Act includes provisions for establishment of bounty program at the SEC to reward those reporting securities law violations based on original information. Such whistle-blowers may be awarded between 10 percent to 30 percent of the fines and penalties received by the US government pursuant to any action brought by the SEC under the securities laws that results in monetary sanctions exceeding USD 1,000,000. Bounty provisions emanating from the Dodd-Frank Act could result in likely abuse since employees would be keen on overlapping the reporting hierarchy set within the organisational authority chain and escalating the matter directly to the regulatory authority. This would affect the fundamentals of authority chain framework set within organisations and would give very little time for organisations to react, even for baseless false claims.

B. Coverage of claims from subsidiary companies: Current Practice There exists a lot of confusion in determining the applicability of provisions relating to whistle-blowing process for an employee of a parent company vis-à-vis a subsidiary company. In the past, there have been claims dismissed because the said whistleblower did not work for a publicly

"Incentivising employees for fraudulent reporting to regulator is a good step but would require companies to revamp their internal compliance reporting framework to balance the requirement of the Act and suitability to their organisation"

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2. Claw-back provisions

The term `claw-back' is used to denote the phenomenon of recovering back the compensation erroneously awarded to executives. Current practice Section 304 of the Sarbanes-Oxley Act provides for recovery of certain compensation from the CEOs and the CFOs (but not from any other officers or employees) in the event of financial restatements resulting from misconduct. Further, such claw-backs were restricted to a period of one year from the date of misstated financial filing. Some companies as a measure of sound corporate governance or on account of pressure from their shareholders include certain other executives under their compensation claw-back policies though not mandated by the SOX Act. However, this varies from company to company in the absence of a uniform requirement. Impact of the Dodd-Frank [section 954] The coverage of the Dodd-Frank Act is much wider in this regard since it includes within its ambit, all present and former executive officers and not merely the CEO and the CFO. Moreover, it applies to restatement due to company's material non-compliance with financial reporting requirements and not just restatements consequent to misconduct. The period has also been extended from one year to three years from the date of mis-stated financial filing. Given that the likelihood of restatements occurring in the financial statements of foreign private issuer companies when compared to domestic issuers are less, these FPIs may be provided with a relief if not an exemption in future. Until then, these companies ought to revisit their executive compensation plans and their nexus with the financial statement numbers. "Expanded coverage beyond the CEOs & the CFOs would imbibe collective responsibility in corporate sector"

The SEC provisionally allowed non-accelerated filers to postpone their compliance with these requirements. Nonaccelerated filers were permitted to defer compliance with the requirement of Section 404(a)'s requirement to provide management's report on ICOFR until their annual report filed for year ending on or after December 15, 2007 . Subsequently, the SEC required all non-accelerated filers to include an auditor's attestation report filed for a fiscal year ending on or after June 15, 2010. Impact of the Dodd-Frank [section 989G] The Dodd-Frank Act provides that a new subsection 404 (C) be added to the SOX Act, which states that the auditor attestation requirement as required by Section 404(b) will permanently apply only to accelerated filers and large accelerated filers. Even though relief from 404(b) is provided consequent to the Act, the requirement to comply with 404(a) still persists. However, this relaxation is expected to result in significant reduction in compliance costs for such non-accelerated filers. "Exemption for non-accelerated filers to result in reduction of compliance costs for such companies"

4. Private placement exemption

Current practice Typically, smaller companies go through the route of the Regulation D offerings to have access to capital markets which otherwise would involve the costs of a normal SEC registration. Most of the hedge funds and private equity funds rely on the Regulation D offerings. These offerings are only made to investors who qualify as `accredited investors' in order to be exempt from specific disclosure requirements which are applicable for unaccredited investors. The determination of `accredited status' is done at the time of investment. Impact of the Dodd-Frank [section 413(a)] The Dodd-Frank Act excludes the value of an individual's primary residence as an asset in calculating whether a natural person meets the threshold of USD 1 million under the net worth test, for qualifying as an `accredited investor' under the Federal Regulation D. Accordingly, the issuer of the Regulation D offerings currently in process should determine whether potential investors and existing investors who choose to make additional investments will qualify as an `accredited investor', resulting in revision in their subscription documents or other disclosures related to an ongoing offering.

3. Exemption for non-accelerated filers from SOX provisions

Current practice Non-accelerated filer, simply defined, is an Exchange Act reporting company with market capitalisation of less than USD 75 million. There are also other conditions laid down under the Rule 12b-2 of the Securities Exchange Act of 1934 which if a company fails to achieve, qualifies it as a nonaccelerated filer. Section 404(a) of the Sarbanes-Oxley Act of 2002 requires annual reports on the Form 10-K filed under the Securities Exchange Act of 1934 to contain a report from management on the effectiveness of a company's internal control over financial reporting (ICOFR). Further to this, Section 404(b) requires the company's regular auditor to attest and report on management's assessment.

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5. Extraterritorial jurisdiction

Section 929P of the Dodd-Frank Act grants US courts jurisdiction over any action or proceeding brought by the SEC or the US government involving: (1) conduct within the US that constitutes significant steps in furtherance of a violation of the anti-fraud provisions of the Securities Act, the Exchange Act or the Investment Advisers Act, even if the securities transaction occurs outside the US and involves only foreign investors or (2) conduct outside the United States that has a foreseeable substantial effect within the US. The Dodd-Frank Act seeks to curtail application of the recent Supreme Court decision in the US in Morrison vs National Australia Bank Ltd., in which it was held by the court that the anti-fraud provisions laid down in the Section 10 of the Exchange Act were not applicable to private actions by foreign investors arising from purchases and sales of securities that occurred outside the US. In essence, this would have considerable effect with respect to foreign cubed cases. i.e., cases involving non-US investors who have purchased non-US securities on non-US stock exchanges, so long as there exists significant steps in furtherance of violation within the US. Thus, the Act could results in extension of the Federal district courts' jurisdiction and allows enforcement actions to be brought in US courts for such foreign cubed cases also if the criteria stipulated in the Act are fulfilled. "Whilst the extraterritorial jurisdiction casts the net wide open across non US countries, practical application remains to be seen as it depends on flexibility provided by statutes of non US countries"

is 10 days.) Copies of such reports and related amendments will also no longer be required to be provided to the issuer or the stock exchange on which the shares are listed.

8. Credit rating agency reforms

The Dodd-Frank Act has also resulted in bringing the nationally recognised statistical rating organisations (NRSRO) under the scope of governance and compliance requirements to be laid down by SEC, considering the pivotal role such organisations play in capital markets. Key provisions relate to setting up of a board to ensure governance, documentation and implementation of effective system of internal controls for determining ratings, requirement for a compliance officer and fixation of their compensation independent of organisation's financial performance, establishment of rules on reporting of employments of senior officers associated with the rating agencies, ensuring greater transparency in rating procedures and methodologies etc. "Provisions in the Act would prevent mushrooming of undesirable practices in such ratings organisations"

9. Independent compensation committee

The Dodd Frank Act has focused on addressing the norm surrounding independence and functions of compensation committees. Even though the Nasdaq/NYSE rules require that executive compensation at listed companies get determined or recommended to the full board for determination solely by independent directors or an independent compensation committee, no provision in the Exchange Act or any SEC rule mandated full independence of compensation committee. Section 952 stipulates that this requirement relating to independent compensation committee is not applicable to FPIs that provide their shareholders with annual disclosure of the reasons why they do not have a fully independent compensation committee. Therefore, to this extent, this amendment by the Dodd-Frank Act has limited applicability to FPIs. "Necessitating independence of compensation committee is a right step in the right direction"

6. Disclosure of internal pay ratio

The Dodd-Frank Act directs SEC to amend Item 402 of Regulation S-K requiring companies to disclose the median of the annual total compensation of all employees of the company (other than the CEO) as well as the annual total compensation of the CEO. Companies must then also provide a ratio comparing those two figures. There exists some bit of confusion on whether this disclosure requirement applies for a foreign private issuer or not. However, the Act directs the SEC to amend Item 402 to require this disclosure in any filings "described in Section 10(a)" which goes beyond proxy statements and annual , reports on Form 10-K. i.e., it also include annual reports filed under Form 20-F by foreign private issuers. "SEC's course of action on this disclosure requirement for foreign private issuers is awaited in this regard "

7 Beneficial ownership reporting .

The Act empowers the SEC to accelerate the deadline by which certain acquisitions of more than five percent of the shares of public companies, including foreign private issuers, must be reported to the SEC. (The current timeline

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10. Broker discretionary voting

The Dodd-Frank Act has introduced additional limits on the ability to vote shares in the absence of direction from beneficial owners. Shares which brokers hold on behalf of beneficial owners are generally voted by such brokers in accordance with the instructions given by the beneficial owners. When such beneficial owners do not provide any instructions on voting, the New York Stock Exchange (NYSE) rule 452 permits member firms to vote in their discretion on certain routine matters. Subsequently, the NYSE rule 452 was amended effective January 2010 to prohibit broker discretionary authority to vote on director elections, even if uncontested.

The Dodd-Frank Act further limits discretionary voting by brokers, by requiring all national securities exchanges to adopt standards prohibiting discretionary broker voting in elections, as well as in connection with executive compensation or any other significant matter, as determined by SEC rulemaking. This empowers the SEC to determine other matters where it would want the brokers to not exercise their discretionary voting rights.

Conclusion

Having discussed some of the significant impact on foreign private issuers pursuant to Dodd-Frank provisions, it is to be seen how future rulemaking will set the tone. The application of provisions laid out by the Dodd-Frank Act would not only require various federal agencies to adopt new rules and amend existing ones, but also might pose implementation challenges. Consequently, the world needs to await whether the rules implementing the Act in the days to come, would also include exemptions and relaxations for specific category of companies such as foreign private issuers and smaller reporting companies to facilitate effective implementation. Even though, there exists shades of difficulties which might be encountered upon implementation of some of the provisions of the Dodd-Frank Act, the larger truth lays in understanding the essence of the Act and the spirit it manifests. Like its predecessor `the Sarbanes-Oxley Act', the Dodd-Frank Act is here to stay for more than one reason and it would augur well for the corporate sector and its participants to understand this not-so bitter truth and welcome it wholeheartedly.

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REGULATORY UPDATES

Audit committee ­ calendar of reviews

The Reserve Bank of India (RBI) vide notification dated 10 November 2010 has consolidated the circulars issued by it on additional reviews by the audit committee of all commercial banks. The notification includes a calendar which outlines the critical minimum requirements of review by the audit committee. The Boards will have discretion to prescribe additional reviews. The notification also emphasises that the audit committee should monitor the work done by concurrent audit, internal audit, statutory audit and compliance of the RBI inspection very closely and should play an active role in the appointment of the statutory auditors. The audit committee reviews should include review of:

? Compliance in respect of the Annual Financial Inspection

An invitation to FII - Investment limits in government securities and corporate bonds increased

The Ministry of Finance has issued a press release, notifying increase in the current limit of Foreign Institutional Investors (FII) investment in the Government Securities and corporate bonds, which is summarised below:

Investments in Amount in USD millions Current limit Government securities Corporate bonds (incremental amount of USD 5 million is required to be invested in the corporate bonds with residual maturity of over five years issued by companies in the infrastructure sector) 5 15 Revised limits 10 20

conducted by the RBI

? and status of achievement thereof Audit plan ? audit findings Significant ? compliance of clause 49 and other guidelines Report on

issued by the Securities and Exchange Board of India (SEBI) from time to time

? compliance of the regulatory requirement of Report on

the Regulators in the host countries in respect of overseas branches

? Material change in accounting policy and practices ? Confirmation that accounting policies are in compliance

with accounting standards and the RBI guidelines

? security audit policy Information ? Transactions with related parties.

The enhancement of the FII investment cap is with the objective to provide avenues for increased FII investments in debt securities, help investment in infrastructure sector and the development of the government securities and corporate bond markets in the country. The policy has been reviewed in the context of India's evolving macroeconomic situation, its increasing attractiveness as an investment destination and need for additional financial resources for India's infrastructure sector while balancing its monetary policy. One may refer to www.pib.nic.in for further details.

(Source: PIB Press release dated ­ 23 September 2010)

The introduction of notice has further enhanced the growing importance of the corporate governance in the banking sector. The notice also suggests a significant shift in the efforts to be made by the members of the audit committee to monitor audits of the bank and compliance with the regulatory requirements. One may refer to www.rbi.gov.in for further details.

(Source: DBS.ARS.BC. No. 4/ 08.91.020/ 2010-11 issued by the RBI dated 10 November 2010)

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SEBI (Issue of Capital and Disclosure Requirements) (Fourth Amendment) Regulations, 2010

Securities Exchange Board of India (SEBI) has introduced a requirement to publish proforma financial statements, if:

? an acquisition

Sale of investments held under Held to Maturity (HTM) category

As per the existing requirements, if the value of sales and transfers of securities to/from HTM category exceeds 5 percent of the book value of investments held in HTM category at the beginning of the year, banks are required to disclose the market value of the investments held in the HTM category and indicate the excess of book value over market value for which provision is not made. With regard to the above, the RBI has clarified that the following would be excluded from the prescribed cap (i.e., five percent of the book value of investments):? transfer of securities to/from HTM category one-time

or divestment is made by the issuer after the end of the latest disclosed annual financial results in the offer document, due to which certain companies become/cease to be direct or indirect subsidiaries of the issuer and

? the financial

statements of such acquired or divested entity is material to the financial statements of the issuer company.

Where the said acquisition or divestment does not fulfil the tests of materiality, the fact of the acquisition or divestment along with the consideration paid/received and the mode of financing such acquisition shall be disclosed. The above information shall be certified by the statutory auditor of the issuer. These Regulations are effective from 12 November 2010. The said disclosure requirement is in the wake of SEBI's hardened stance on disclosure requirements of keeping the prospective investors informed about the significant changes in the financial positions of the company post the date of offer document. This will give additional qualitative factors to the prospective investors for making investments decision before close of the offer. One may refer to www.sebi.gov.in for further details.

(Source: notification dated 12 November 2010 issued by SEBI)

permitted by the Board of Directors to be undertaken by banks at the beginning of the accounting year and

? Reserve Bank of India under pre-announced sales to the

open market operation auctions. The clarification is effective from 1 April 2011. The circular intends to reduce the disclosure requirements of the banks when such transfers are on account of startegic decision made by the Board at the beignning of the accounting year or at the direction of the RBI.

(Source: DBOD. No. BP .BC. 56 /21.04.141/2010-11 issued by RBI, dated 1 November 2010)

Prudential norms on investment in zero coupon bonds ­ a check by RBI

It has come to the notice of the RBI that banks are investing in long term zero coupon bonds (ZCBs) issued by the corporates including those issued by Non-Banking Financial Companies (NBFCs). In the case of ZCBs, the issuers are not required to pay any interest or installments till the maturity of bonds. As a result, the credit risk in such investments would go unrecognized till the maturity of bonds and this risk could especially be significant in the case of long-term ZCBs. Such issuances and investments if done on a large scale could pose systemic problems. Hence, the RBI has decided that banks should henceforth not invest in ZCBs unless the issuer builds up sinking fund for all accrued interest and keeps it invested in liquid investments/securities (Government bonds), and also that banks should put in place conservative limits for their investments in ZCBs. The banks are advised to take immediate action to adhere to the above instructions. The will reduce exposure to credit risk and enhanced transparency. One may refer to www.rbi.gov.in for further details.

(Source: DBOD No. BP .BC. 44/21.04.141/ 2010-11 issued by RBI, dated 29 September 2010)

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