IL&FS Crisis: Bombay High Court Stays Proceedings Against BSR 

The Bombay High Court today stayed proceedings against BSR & Associates, the former auditor of IL&FS Financial Services Ltd., at the National Company Law Tribunal.

This comes after BSR had moved court challenging the constitutional validity of Section 140(5) of the Companies Act, 2013 and the proceedings against it pursuant to the sanction order issued by the central government.

The stay will remain effective till further orders are issued by the court. The tribunal was scheduled to hear the matter on Thursday.

Earlier in May, the Ministry of Corporate Affairs had sought a five-year ban on the auditor alleging that they had colluded with the management in dubious lending practices at the IL&FS Group.

Here are the key arguments made by BSR:

Auditor’s Arguments

Mukul Rohatgi, counsel representing BSR & Associates said:

• Validity of the proceedings against BSR & Associates: The proceedings initiated against BSR & Associates were only on the basis of an interim report filed by the Serious Fraud Investigation Office. Any report issued on an interim basis cannot be a ground for initiation of proceedings against an auditor as it has not attended finality. The apex court had in the past held that a bad initiation leads to a bad outcome in a quasi criminal proceedings. Initiation of action within a day of filing of the interim report is also questionable considering that the report required a thorough investigation, as it ran into 32,000 pages. This indicates that the government had moved hastily in prosecuting BSR and hence the sanction order issued against BSR must be quashed.
• Constitutional validity: Use of the word ‘action’ in the second proviso of Section 140 (5) violates Article 21 and Article 14 of the Constitution as it denotes punishment under Section 447 immediately after a final order is passed by the tribunal without any criminal adjudication process. The Companies Act does not allow adjudication and prosecution independently unlike other laws.
• Lack of intelligible classification: The central government can initiate action against an auditor through multiple provisions under the Act and similarly, the National Financial Reporting Authority is empowered to ban an auditor for a period of 10 years if it is found guilty of professional misconduct. Section 140 (5) fails to make an intelligible classification as it contemplates punishment only against the auditor. In comparison, any other accused would be liable for punishment only under Section 447.
• Jurisdiction of the National Company Law Tribunal: NCLT had no jurisdiction to pass an order against BSR under 140(5), as the section contemplates action only against an existing auditor. No action would lie against BSR as its term had ended as per law before initiation of the proceedings. This section does not specifically mention action against a past auditor and hence the ‘Deeming fiction’ exercised by the Tribunal is without a proper jurisdiction.

Government’s Counter

Aspi Chinoy, counsel representing the central government said:

• The petition filed by BSR is to delay the adjudication process against the auditors. The arguments questioning the constitutional validity of Section 140(5) are invalid as the section is not ultra vires the Constitution.
• The word ‘interim’ does not affect the finality of the SFIO report, which is investigative in nature. The government treats the report as interim only for its internal purpose as investigation for other IL&FS entities are ongoing. All findings by the SFIO against BSR are final in nature.
• BSR must approach the NCLAT as recourse against the order of the tribunal does not lie with the high court.
• Government was required to conduct an expeditious investigation and proceeded quickly to cover the misdemeanors by the auditors considering the nature of problems at IL&FS Financial Services. Therefore, the argument of a hasty trial put forth by BSR deserve no merit.