Accounting Standards
Schedule VI of the Companies Act, 1956, prescribes the format
of financial statements and disclosure requirements for corporate entities in
India. Considering the economic and regulatory changes that have taken place
globally, and being as old as the Act itself (1956), Schedule VI had completely
outlived its utility. The Ministry of Corporate Affairs (MCA) has issued two
drafts of revised Schedule VI for comments, namely, Saral Schedule VI for Small
and Medium Companies (SMCs) and the other for Non-Small and Medium Companies
(Non-SMCs). The revised draft aims at eliminating numerous statistical and
statutory disclosure requirements which are not relevant from an investor
perspective. Accordingly, capacity details, expenditure/income in foreign
currency, details of debts/advances due from companies under the same
management, quantitative information on inventories are done away with.
In May 2008, MCA issued a press release in which it has
committed to convergence with International Financial Reporting Standards (IFRS)
by April 1, 2011. Recently, at the G20 Summit on Financial Markets and the World
Economy, the then Finance Minister also committed to have convergence with IFRS in India. One aim of revising Schedule VI was to
attain compatibility and convergence with IFRS as well as Indian Accounting
Standards. Accordingly, the draft does not require capitalisation of exchange
gain or loss relating to fixed assets acquired from outside India. More
importantly, assets and liabilities are required to be classified as current and
non-current, which would help stakeholders in analysing the liquidity and
solvency status of a company.
Though the revision of Schedule VI aims at convergence with
IFRS, it would be far better to notify IAS 1, Presentation of Financial
Statements (or an Indian equivalent that will be issued in the near term),
in the Companies Accounting Standards Rules, rather than rewriting Schedule VI.
This is because accounting standards and disclosure requirements are dynamic in
nature and need to be updated frequently to keep pace with changes in economic
and regulatory environment. If these formats are contained in
an accounting standard, it would be easier to amend, add or delete the
requirements. However, if it is con-tained
in an Act, the process of amending will become very excruciating and difficult,
if not impossible.
Draft revised Schedule has suggested specific format
for profit and loss account. For Non-SMCs functional classification is required
and for SMCs, classification based on nature of expense is required. Considering
industry-specific requirements, IAS 1 provides entities with a choice to either
adopt the function of expense method or the nature of expense method. The
functional classification required in the draft Schedule VI would involve a
tedious process of allocating various expenses to functional heads like cost of
sales, selling and marketing expenses and administrative expenses, which is not
hitherto required. As regards Cash Flow Statement, draft Schedule VI has
mandated the use of indirect method only. This is a deviation from IAS 7
Statement of Cash Flows as well as AS-3 Cash Flow Statements which
permit both the direct and indirect method. It is rather unfortunate that
choices available to global companies are not being provided to Indian
companies.
IAS 1 is very prescriptive and sets out elaborate
requirements on presentation of financial statements. Draft Schedule VI, even
though modelled on lines of IAS 1, does not set out such important
requirements. For example, disclosures required under IAS 1, such as critical
judgements made in application of accounting policies; assumptions made about
the future and other major sources of estimation uncertainty that have a
significant risk of resulting in a material adjustment to the carrying amounts
of assets and liabilities within the next financial year are not required under
draft Schedule VI.
As per IAS 1, Statement of Changes in Equity (SOCIE) and
Statement of Comprehensive Income (SOCI) also form part of complete set of
financial statements. SOCIE includes all changes in equity arising from
transactions with owners in their capacity as owners, whereas SOCI includes
profit or loss for the period and other non-owner changes in equity. Draft
revised Schedule VI does not incorporate the concept of SOCIE and SOCI in the
financial statements. This would make revised Schedule VI out of sync with IFRS
(or an Indian equivalent that will be issued in the near term) even before it is
issued. Interestingly, in the general instructions contained in the draft
Schedule VI, an override clause allows accounting standards to override any
conflicting requirement of Schedule VI. If that be so, the point really is, do
we really need Schedule VI ?
Globally, the task of drafting accounting standards including
the format of financial statements and the disclosure requirements is carried
out by a specialised professional body, for example, in the United States the
task is carried out by FASB (Financial Accounting Standard Board). Accounting
standards and disclosure requirements is a specialised job, and the role of
regulators in this area is very limited. In light of various arguments, the
author believes that abandoning rather than revising Schedule VI is a step in
the right direction. This will also bring us in line with the global trend.
