In a landmark ruling, the Supreme Court has made it clear that legal proceedings under the company law against any fraudulent auditors cannot get terminated on the grounds of their subsequent resignation post the initiation of enquiry.

In its order in the IL& FS Financial Services Limited (IFIN) auditors’ matter, the apex court has also upheld the constitutional validity of Section 140(5)— a provision under which NCLT can suo motu or on application filed by the Centre initiate action against fraudulent auditors—and ruled that this provision is neither discriminatory, arbitrary and/or violative of Article 14, 19(1)(g) of the Constitution of India as alleged.

Giving out a ruling that was largely on the technical interpretation of the scope of Section 140(5), the Single judge M R Shah also set aside the Bombay High Court (HC) order quashing and setting aside the proceedings under Section 140(5) in the IFIN auditors (Deloitte, Haskins & Sells LLP (DHS) and BSR & Associates LLP (BSR)) matter on the ground that it is not maintainable as the auditors have resigned.

The apex court’s ruling also makes it clear that it has not expressed anything on the merits of allegations against the auditors (DHS and BSR) and it is up to the NCLT/Tribunal to pass a final order on the application filed by the Central Government under Section 140(5) of the Companies Act 2013.

The Supreme Court (SC) has also set aside the Bombay HC order quashing and setting aside the Centre’s direction to Serious Frauds Investigation Office (SFIO) to investigate the matter. 

Also read: Auditors under fire

Now the concerned trial court will proceed on the SFIO’s criminal complaint in accordance with law and its own merits, the SC ruling said.

The apex court has ruled that proceedings initiated against auditors under Section 140(5) have to be taken to its logical end. Even after the resignation of the concerned auditor, the NCLT has to pass a final order on such an application (by the Centre) after holding enquiry in accordance with the law. On the basis of this final order, further consequences such as barring the auditor (including the firm) for five years will follow, the SC said.

MCA’s appeal

The Corporate Affairs Ministry (MCA) had filed an appeal before the SC against a 2020 order of the Bombay HC granting relief for the two audit firms (DHS and BSR), which moved the High Court against the government’s decision to invoke Section 140 (5) to ban them from auditing activities for five years. 

Both DHS and BSR had challenged before NCLT the maintainability of proceeding under Section 140(5) on the ground that they were no longer the auditors of IFIN. The NCLT passed an order upholding the maintainability of Section 140(5) petition, but this was challenged by BSR before the Bombay HC.

Although the Bombay HC upheld the validity of Section 140(5) of the Act, 2013, it had interpreted the section and set aside the order passed by the NCLT upholding the maintainability of Section 140(5) petition. It had quashed the petition and has set aside/quashed the directions issued by the MCA and the SFIO and also quashed/set aside criminal proceedings instituted by the SFIO.  This was appealed by the Government before the apex court.

Reacting to the SC judgement, a spokesperson of DHS said, “The judgment is of a technical nature and deals with the interpretation of certain provisions of the law. As a result of this ruling, the matters will now continue to be heard by the original judicial/quasi-judicial forums. The Firm will continue to present its position supported by the facts and necessary context before the relevant judicial forums. DHS LLP’s ability to continue to provide professional services to its clients is not restricted in any manner.”

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