OCTOBER 2019

• National Financial Reporting Authority (NFRA) is an Indian body established vide powers conferred under the Companies act,2013 for development and enforcement of accounting and auditing standards and to oversee and regulate the quality of professional services of auditors.
• Section 132 of the Companies act, 2013 has provided for Central Government to constitute a National Financial Reporting Authority, by notification, to provide for matters relating to accounting and auditing standards under this act. Almost 5 years after the Companies act, 2013 was introduced, in November 2018, the NFRA rules, 2018 were notified to lay down the powers, jurisdiction, roles and duties of the Authority.
• After the Satyam Scandal that took place in 2009, the Standing Committee on Finance’s 21st Report on the Companies Bill, 2009 recommended the need for an Independent body to monitor the quality of audit undertaken across the corporate sector in India. Following the recommendation and in consonance with the best global practices, the NFRA was introduced in the new Companies Act,2013 via section 132. The section remained idle for five years until the Supreme Court in Feb 2018 ordered the Central government to constitute a committee to look and deliberate into the audit system in India. The committee was formed in April 2018 and submitted it’s report in October 2018 with recommendations to strengthen the regulatory regime of the auditors and promote development of audit profession in the country. Following the recommendations of the report, in November 2018 the NFRA rules were notified by MCA in 2018.
The objective of NFRA is
• to make recommendations to the Central Government on the formulation and implementation of accounting and auditing principles and standards to be followed by companies
• monitor and enforce compliance of such standards,
• oversee the quality of service of the professions to ensure compliance of such standards and suggest matters required for improvement in quality of services.

As per the NFRA rules, it shall have powers to monitor and enforce compliance with accounting and auditing standards, oversee the quality of service, undertake investigate section of auditors of the following class of companies:



• 1. Companies whose securities are listed in any stock exchange in India or outside India. Thus, it is not limited to Listed Companies in India alone, it has powers to regulate the listed Companies outside India as well.
• 2. Unlisted Public Companies having paid up capital of not less than Rs.500 Crores or having annual Turnover of not less than Rs.1,000 Crores or having outstanding loans, debentures and deposits of not less than Rs.500 crores as on 31st March of immediately preceding financial year.
• 3. Insurance Companies, Banking Companies, Electricity Companies, Companies governed by any special act for the time being in force.
• 4. Any body corporate or person or class of bodies corporate or persons on a reference made by the Central Government in Public Interest.
• Subsidiaries of Companies referred above registered Outside India and subsidiaries registered in India, if the income or net worth of the subsidiary is more than 20% of the consolidated income or net worth of the Companies referred above.

The NFRA shall consist of

• a . A Chairperson, who shall be a person of eminence and having expertise in accountancy, auditing, finance or law to be appointed by the Central Government
• b . Three full time members.
• c . Nine Part Time members. The Authority can have a maximum of fifteen members at a time.

The NFRA is also empowered to penalize in the proven professional or other misconduct cases as follows:

1. Impose penalty of

• Not less than one lakh rupees which may extend to five times of the fees received in case of individuals
• Not less than 10 lakjh rupees which may extend to ten times of the fees received in case of firms

2. Debar the members or the firm from engaging himself or itself from practicing as member of the ICAI for a minimum period of six months or for such higher period not exceeding 10 years as may be decided by the Authority.

General Functions and duties of the authority

• The authority shall maintain details of auditors appointed for the abovementioned class of Companies. The above mentioned class of companies shall inform the authority, the particulars of the auditor appointed in Form NFRA 1. And every auditor shall file annual return with the authority in such form as may be specified by the CG.
• The authority shall receive recommendations from the ICAI for proposals of new accounting standards or auditing standards or for amendments of existing standards, consider such recommendations before making recommendations to the Central government for approval.
• The authority is empowered to review financial statements of the Companies and if so required direct the company or its auditor to provide further information or explanation or any relevant documents relating to such company. The authority shall publish it’s findings related to non compliances on its website and in such manner as it deems fit.
• On the basis of it’s review, the authority may direct an auditor to take measures for improvement of audit quality including changes in their audit processes, quality control and audit reports and specify a detailed plan with time limits. It shall be the duty of the auditor to make the required improvements and send a report to the authority explaining how it has complied with the directions made by the authority. The authority shall monitor the improvements made by the auditor and take such action as it deems fit depending on the progress made by the auditor.

There were continuous objections from ICAI with respect to formation of NFRA as ICAI was of the opinion that there is no need for a new regulator. Until NFRA was formed, only ICAI had the powers to investigate matters of professional misconduct and take disciplinary actions, thus it was a self-regulatory professional accountant body. Number of independent audit regulators worldwide has increased from 18 in 2006 to 51 in 2018. More than 50 countries across the globe have moved away from self-regulatory bodies like ICAI to Independent audit regulators like NFRA. Thus, to protect the public interest and regulate and monitor and investigate and take necessary action to ensure compliance with the standards and best accounting and audit practices, NFRA is mandated and the effectiveness of it’s implementation to be seen in the forthcoming years and especially in the cases of multi layered complex corporate structures.

Prime Minister Narendra Modi proclaimed the Start-up India campaign in 2016 to boost entrepreneurship in India. The action plan aimed at promoting bank financing for start-up’s, simplifying the incorporation of start-up process and grant of various tax exemptions and other benefits to start-up’s.

Eligibility for Start-up India

As per the Start-up India Action plan, the followings conditions must be fulfilled in order to be eligible as Start-up:

• Being incorporated or registered in India for less than seven years and for biotechnology start-up’s up to 10 years from its date of incorporation.
• Annual turnover not exceeding Rs 25 crores in any of the preceding financial years.
• Aims to work towards innovation, development, deployment or commercialization of new products, processes or services driven by technology or intellectual property.
• It is not formed by splitting up or reconstruction of a business already in existence.
• It must obtain certification from the Inter-Ministerial Board setup for such a purpose.
• It can be incorporated as a private limited company, registered partnership firm or a limited liability partnership.

Tax Exemptions

• First three years
  Start-up’s are eligible to 100% exemption of tax excluding the Minimum Alternate Tax (MAT) which will follow the 18.5% of the profit as stated in the books, on earnings for the first three years.
  
  To avail of this benefit, the start-up must be registered under the Department of Industrial Policy and Promotion (DIPP). It must also be one that pushes for innovation and development of new products and services related to intellectual property. Such a benefit helps start-up’s as the cost of setting up is in itself a substantial financial burden on entrepreneurs and hence, getting away without having to pay tax for three years will help them balance out their expenditure and break even sooner, leading to higher profits later on.
• Funds
  Another benefit provided by the government to help start-up is a fund which has an initial corpus of INR 2500 crores and a final corpus of INR 10000 crores lasting four years. This comes under the Funds of Funds (FOF) benefit which will serve as the direct investment under the direction of SEBI and will only apply to startups registered under DIPP. With financial shortage being the most prominent problem faced by companies early on in their journey, such a benefit comes as a welcome relief for many and will serve as a considerable accelerator for the growth of such ventures.
• Exemption from tax on Long-term capital gains:
  A new section 54 EE has been inserted in the Income Tax Act for the eligible start-up’s to exempt their tax on a long-term capital gain if such a long-term capital gain or a part thereof is invested in a fund notified by Central Government within a period of six months from the date of transfer of the asset. The maximum amount that can be invested in the long-term specified asset is Rs 50 lakh. Such amount shall remain invested in the specified fund for a period of 3 years.If withdrawn before 3 years, then exemption will be revoked in the year in which money is withdrawn.
• Funds
  Another benefit provided by the government to help start-up is a fund which has an initial corpus of INR 2500 crores and a final corpus of INR 10000 crores lasting four years. This comes under the Funds of Funds (FOF) benefit which will serve as the direct investment under the direction of SEBI and will only apply to startups registered under DIPP. With financial shortage being the most prominent problem faced by companies early on in their journey, such a benefit comes as a welcome relief for many and will serve as a considerable accelerator for the growth of such ventures.
• FundsTax exemption on investments above the fair market value
  The government has exempted the tax being levied on investments above the fair market value in eligible start-up’s. Such investments include investments made by resident angel investors, family or funds which are not registered as venture capital funds. Also, the investments made by incubators above fair market value is exempt.
• Tax exemption to Individual/HUF on investment of long-term capital gain in equity shares of Eligible Start-up’s u/s 54GB.
  The existing provisions u/s 54GB allows the exemption from tax on long-term capital gains on the sale of a residential property if such gains are invested in the small or medium enterprises as defined under the Micro, Small and Medium Enterprises Act, 2006. But now this section has been amended to include exemption on capital gains invested in eligible start-ups also.
  
  Thus, if an individual or HUF sells a residential property and invests the capital gains to subscribe the 50% or more equity shares of the eligible start-up’s, then tax on long term capital will be exempt provided that such shares are not sold or transferred within 5 years from the date of its acquisition. Thestart-up’s shall also use the amount invested to purchase assets and should not transfer asset purchased within 5 years from the date of its purchase.
  
  This exemption will boost the investment in eligible start-up’s and will promote their growth and expansion.
• Set off of carry forward losses and capital gains allowed in case of a change in Shareholding pattern.
  The carry forward of losses in respect of eligible start-ups is allowed if all the shareholders of such company who held shares carrying voting power on the last day of the year in which the loss was incurred continue to hold shares on the last day of previous year in which such loss is to be carry forward.The restriction of holding of 51 per cent of voting rights to be remaining unchanged u/s 79 has been relaxed in case of eligible start-up’s.

Any closely held company can carry forward and utilise losses in Scenario 1 and Scenario 3 (Scenario 2 involves a change in shareholding beyond 51%). However, an eligible start-up, prior to the said amendment, could carry forward and utilise losses in Scenario 1 and Scenario 2 only as all shareholders continue to be shareholders. However, post the amendment, an eligible start-up shall be entitled to carry forward and utilise losses under either of the scenarios, i.e. Scenario 1, Scenario 2 and Scenario 3.

Angel Investment Tax

• Investments serve as significant sources of funding for entrepreneurs, but when a venture, starts, it might not be able to capture the trust of investors and hence might not be able to find a large number of brokers and investors who are ready to spare their cash. Consequently, entrepreneurs are left with no choice but to approach angel investors who negotiate with the entrepreneur on terms regarding interest and amount payable. The government in a bid to help entrepreneurs gain access to the capital has abolished the taxes, thereby making investments made by angel brokers non-taxable.
• The amendment of Section 56(2) (vii) (b) of the Income Tax Act has also given entrepreneurs the right to issue c higher rate than the value noted in the books helping them raise funds with more ease.

Other Provisions

Apart from such tax benefits, the government has introduced several provisions that helps and supports entrepreneurs in the country. Some of these are as follows.

• Funds up to INR 500 crores have been set aside to help support entrepreneurs who belong to the Schedule Tribe and Scheduled Caste sect and also to help Women Entrepreneurs.
• Lowering of Long-term capital gains from three to two years
• Amendment of the Motor Vehicle Act to encourage entrepreneurship
• Presumptive tax schemes for companies whose turnover falls below INR 2 crores while these schemes were earlier available to businesses whose turnover fell below INR 1 crores.

Conclusion

There is a constant display of the Government's effort to facilitate growth of start-ups, elevate investors' confidence and entrepreneurs' morale. It would be interesting to see how this reflects in the number of start-ups receiving recognition from DPIIT and Inter-Ministerial Board. The recent Ordinance further evidences the Government's intention by offering a reduced corporate tax rate of 15% for new manufacturing companies set-up after 01 October 2019 (subject to not claiming prescribed deductions/ exemptions) irrespective of the above specified conditions for start-ups.

Net Realisable Value (NRV) and Fair Value (FV) are interchangeably used by the common man. However, there exists a clear demarcation in the underlying concept with regard to both the terms and their computation. This article attempts at clarifying the difference between the two terms.

The value of inventory needs to be examined on a regular basis to see if the recorded cost should be modified or adjusted due to the negative impacts of factors such as damage, spoilage, obsolescence and reduced demand from customers.

Further, bringing down inventory value prevents a business from carrying forward any losses for recognition in a future period. Thus, the use of net realizable value is a medium to record inventory following the conservative principle.

NET REALISABLE VALUE

As per Ind AS 2, Net Realisable Value (NRV) means the estimated selling price in the ordinary course of business, less estimated cost of completion and estimated cost necessary to make the sale.

ESTIMATION OF NRV

Ind AS 2 provides for estimation of NRV of materials and other supplies held for use in the production of finished goods as under –

• If finished product in which raw material and supplies used is sold at cost or above cost, then the estimated realisable value of raw material and supplies is considered more than its cost.
• If finished product in which raw material and supplies used is sold below cost, then the estimated realisable value of raw material or supplies is equal to replacement price of raw material or supplies.

Estimation of NRV is made as at each balance sheet date. However, these estimates shall also take into consideration the price fluctuations of price or cost directly relating to events occurring after the end of the period to the extent, such events confirm conditions existing at the end of the period. NRV is estimated on the basis of most reliable evidence at the time of valuation. Estimation of NRV also takes into account the purpose for which the inventory is held.

Steps associated with calculating NRV –

• Compile details of inventory available for sale to customers.
• Determine the expected selling price of each item.
• Subtract the costs required to prepare the item for sale from the expected selling price. The result is the net realizable value of the item in inventory.

Example 1

ACA Ltd. has Product X in inventory with a cost of Rs 50. The market value of the Product X is Rs 130. The cost to prepare the Product X for sale is Rs 20, so the net realizable value is Rs 60 (Rs 130 market value - Rs 50 cost - Rs 20 completion cost).

Since the cost of Rs 50 is lower than the net realizable value of Rs 60, the company continues to record the inventory item at its Rs 50 cost.

In the following year, the market value of Product X declines to Rs 115. The cost is still Rs 50, and the cost to prepare it for sale is Rs 20, so the net realizable value is Rs 45 (Rs 115 market value - Rs 50 cost - Rs 20 completion cost). Since the net realizable value of Rs 45 is lower than the cost of Rs 50, ACA Ltd. should record a loss of Rs 5 on the inventory item, thereby reducing its recorded cost to Rs 45.

Example 2

A Company's inventory has a cost of Rs 15,000. However, at the end of the accounting year the inventory can be sold for only Rs 14,000 after it spends Rs 2,000 for packaging, sales commissions, and shipping. Therefore, the net realizable value of the inventory is Rs 12,000 (selling price of Rs 14,000 minus Rs 2,000 of costs to dispose of the goods). In that situation the inventory must be reported at the lower of the cost of Rs 15,000 orthe NRV of Rs 12,000. In this situation, the inventory should be reported on the balance sheet at Rs 12,000, and the income statement should report a loss of Rs 3,000 due to the write-down of inventory.

FAIR VALUE

As per Ind AS 2, Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date.Fair value is an exit price (e.g. the price to sell an asset rather than the price to buy that asset).

Fair value is measured assuming a transaction takes place in the principal market for the asset orliability (i.e. the market with the highest volume and level of activity). In the absence of a principal market, it is assumed that the transaction would occur in the most advantageous market. This is the market that would maximize the amount that would be received to sell an asset or minimize the amount that would be paid to transfer a liability, taking into account transaction and transportation costs. The most reliable evidence of fair value is a quoted price in an active market.

DIFFERENCE BETWEEN NRV AND FAIR VALUE

Net realisable value is the estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale.

The inventory of a manufacturer rarely consists of just completed products. Inventory will contain the raw materials to make the goods as well as products that are in the process of being made but are not completed.NRV for inventory is the estimated selling price of the inventory once it has all been manufactured into finish products, minus the costs to finish and sell the goods. While both are estimates of an asset’s value, NRV better represents how much a business will profit on a transaction, while fair value describes what revenue a business will generate by selling a good.

In accordance with the above paragraphs, net realisable value refers to the net amount that an entity expects to realise from the sale of inventory in the ordinary course of business. Whereas, fair value reflects the price at which an orderly transaction to sell the same inventory in the principal (or most advantageous) market for that inventory would take place between marketparticipants at the measurement date.

The former is an entity-specific measurement; the latter is market-based measurement. Net realisable valuefor inventories may not be equal to fair value less costs to sell.

Example 1 – An entity holds inventories of 10000 units and it could sell the same in the market at Rs.10 each after selling expenses. The entity has an order inhand to sell the inventories Rs. 11. In this situation, fair value is Rs 10each, but net realisable value is Rs. 11each.