VALUATION STANDARDS: ANALYSIS OF THE UNEXPLORED PROVISIONS OF REGISTERED VALUERS

Companies Act 2013 (“the Co’s Act”), introduced a new section
(i.e. section 247) to legislate valuations done under the requirements of the
said Act. While most of the other provisions of the statute were made
enforceable from September 2013 or April 2014, this provision dealing with
registered valuers remained latent for over four years. Like a slumbering
volcano it was forgotten.

While the other provisions became immediately applicable and
were analysed and tested, the provisions of section 247 were left behind and
not scrutinised for its implications. Now, vide notification dated October 18,
2017 the government has made these provisions effective with immediate effect.
Along with the bringing into effect of these provisions, new rules for
valuations by registered valuers were also notified from the same date.

This development should be closely understood by
professionals who carry out valuations under the provisions of the Co’s Act.
Some professionals take any new rule or regulation as a new opportunity. And I
often hear such exuberant remarks for the regulations.

So it is pertinent to understand if these provisions open up
more opportunities or would they actually curtail our practise? Would this
create a more transparent atmosphere conducive to investors? Will they give
rise to excessively controlled atmosphere for valuers? It is therefore,
imperative that we understand what these provisions hold for us. The purpose of
this article is to examine the new provisions threadbare and prepare ourselves
for an unbiased view on what awaits us.

We can start by looking at the
instances that require a valuation to be carried out under various statutes and
the special discipline for which they are reserved:

Valuation
required under the Co’s Act:

Valuation
required under other statutes:

From the
foregoing it can be observed that it is currently only for valuations required
under the Co’s Act that the valuer needs to be a registered valuer (“RV”).
These provisions of the Co’s Act became effective much before October 2017,
when section 247 the special provision that was enacted under the Co’s Act to
specifically deal with the code relating to the Registered Valuers and the new
Registered Valuers Rules (“RVR”) u/s.247 were notified. Therefore, in the
interim, while the RVR had not seen the light of the day it was provided in
Explanation to Rule 13(2) of Companies (Share Capital and Debentures) Rules,
2014 (inserted by Companies (Share Capital and Debentures) Amendment Rules,
2014 w.e.f. 18-6-2014) that a Chartered Accountant having ten years of
experience or an independent merchant banker registered with SEBI would be
treated as a registered valuer for the purposes of the Co’s Act. The
transitional arrangement under the RVR has also provided that persons who are
providing valuation services under the act on the date when the rules got
notified can continue to act as valuers without obtaining a certificate of
registration till March 31, 2018, which date is currently extended till
September 30, 2018.

The following part lists out some
key highlights that emerge from the RVR

The Authority that has
been granted the power to regulate the registered valuers is the Insolvency and
Bankruptcy Board of India

Qualification and Eligibility

Some of the key eligibility
criteria for a person to be a Registered Valuer (“RV”) are:

1.  He should be a member of a Registered Valuers
Organisation (“RVO”).

2.  He should have passed the valuation exam
specified under the RVR.

3.  He should possess qualification as required
under the RVR.

4.  He should be a person resident in India as per
section 2 of Foreign Exchange Management Act.

5.  No penalty u/s. 271J of the Income Tax Act has
been levied on him which he has not appealed against or where it has been
confirmed by the Appellate Tribunal at least 5 years have elapsed from the date
of levy of penalty.

6.  Is a fit and proper person.

Besides the foregoing
requirements, the person should not be a minor or a bankrupt or of unsound
mind.

For a firm or a company to be an
RV, three of its partners or directors as the case may be should be RVs. Also,
the entity should be set up exclusively for the objects of rendering
professional or financial services. The entity should also ensure that one of
its partners is registered for the asset class that the entity seeks to value.
Besides, none of its partners should be disqualified under the foregoing
criteria that apply to an individual.

On a perusal of the qualification
criteria specified under the RVR one finds a number of disciplines recognised
for different types of valuations. Valuation of asset class of land and
buildings is reserved for graduates or post graduates in civil engineering or
architecture and of plant and machinery is reserved for graduate or post
graduates in mechanical or electrical engineering. On the other hand, for
valuation of financial assets or securities, one of the qualifications
recognised is graduation in any field. This means that while a commerce
graduate cannot undertake valuation of asset classes of land, building, plant
and machinery; an engineer or architect can undertake valuation of financial
assets.

Further, when one looks at the
post qualification experience requirement, one would observe that a Chartered
Accountant requires at least a three years’ experience post qualification to be
a member of an RVO. A graduate requires five years’ experience for such
membership. An analysis of this shows that a Chartered Accountant would have a
six years work experience if the period of articleship training was to be
considered. It is also beyond doubt that the curriculum and training of a
Chartered Accountant is rigorous and is highly competitive. So effectively,
while an RV who is a Chartered Accountant will have a six years’ of work
experience, a graduate in any stream with a five years’ work experience could
also be an eligible member of the RVO. The thought process that has gone
into this kind of unequal treatment meted out to Chartered Accountants needs
some clarification.

Process of registrations of RV

The process of registration of an
RV broadly involves the individual who desires to become RV to first take
membership of an RVO. Amongst the various documents that are required to be
filed, the individual needs to also file the copies of his income tax returns
of past three years. The only inference one could draw from this requirement is
that this could possibly be required for the RVO to ascertain that the applicant
is not insolvent at the time of making the application. After becoming a member
of the RVO, the applicant has to attend fifty hours of training, which is given
by the RVO, after completion of the training he should pass an examination
conducted by the Authority viz. IBBI. Upon passing the exam, the RVO where the
person is registered would make a recommendation to the Authority to recognise
him as an RV. For a firm or a company to be registered as RV, first three of
its partners or directors would need to be registered and after their
registration the firm or company has to make an application to the Authority
for recognising it as an RV.

This entire process of
registration would involve substantial time as can be seen from the following:

1.  If the authority is satisfied after the
abovementioned process, it may grant a certificate of registration as an RV in Form-C
of Annexure-II within 60 days.

2.  If the authority is not satisfied, it shall
communicate the reasons for forming such an opinion within 45 days of receipt
of the application, excluding the time given as above (21 days).

3.  The applicant shall submit an explanation as
to why its application should be accepted within 15 days of the receipt of the
communication

4.  After considering the explanation, the
authority shall either accept or reject the application and communicate its
decision to the applicant within 30 days of receipt of explanation.

Conduct of valuation and Valuation standards

Before the advent of these rules,
valuations in India did not need to comply with any valuation standards.
However, the RVR requires that valuations should comply with valuation
standards that will be notified under the same. And in the interim the RV
should either follow the international valuation standards or standards issued
by any RVO.

Currently, the RVO formed by
Institute of Chartered Accountants of India has prescribed the following ICAI
Valuation Standards (“IVS”).

These standards were published on
May 25, 2018 and are effective for valuation reports issued on or after July 1,
2018. Thus, any valuation done post July 1, 2018 should be in compliance with
these standards.The ICAI Valuation Standards will be effective till Valuation
Standards are notified by the Central Government under Rule 18 of the Companies
(Registered Valuers and Valuation) Rules, 2018.

Under the RVR, the Central
Government is required to notify standards and for this purpose it would be
advised by a committee which will be composed as follows:

Composition of Committee

The Chairperson and Members of
the Committee shall have a tenure of three years and they shall not have more
than two tenures.

From the foregoing it can be
observed that the committee will have upto 14 members. Of these upto a maximum
of 4 members can be from all the RVOs. Also, there is no cap on the number of
RVO that could be recognised by the Government. So it can be observed that 4
representations will be out of all the RVOs put together. This implies that
each RVO may not be able to represent on the committee.

Reporting requirements

Till now there was no statutory
guideline mandating the minimum requirements for a valuation report. The RVR
now specifies this framework, which is a welcome move. However, one of the
disclosures required is that of valuer’s interest or conflict. A question,
therefore, arises whether the disclosure should be detailed. But considering that
most of the services rendered by professionals is confidential in nature,
giving a very detailed description of all the other involvements would be a
breach of confidentiality. Considering this balancing act of maintaining
confidentiality of client information it should be in order to make a general
disclosure statement of involvements in various areas of professional services.

Another important requirement
under disclosure is a restriction on the RV from specifying a limitation that
restricts his responsibility for the valuation report. This restriction would
however, only operate within the ambit of the purpose and scope of valuation.
Thus, the limitations that limit the ambit of the report only to the scope
would still continue to be valid.

Code of conduct to be followed by RVs

The RVR has laid down an
elaborate code of conduct to be followed by RVs.This is given at Annexure I to
the RVR.The same requires the valuer to follow certain ethical code which
requires the RV to have high level of integrity, be straightforward, forthright
in all professional relationships, make truthful representation of facts, take
care of public interest etc.

The RV is expected to exercise
due diligence, use independent professional judgment, follow professional
standards, stay updated on knowledge. The RV should not disclaim liability for
his expertise except to the extent the assumptions are based on statements of
facts provided either by the company being valued or its auditors or consultant
and or from public domain, i.e., it is not generated by the RV.This is a very
important carve out from the responsibility on the RV as he cannot be held
liable for professional misconduct if he has relied on the information that he
has not generated. Though he should use due diligence in analysing such data.

Further, the valuer is required
to maintain complete objectivity and should not take up assignments where
either he or his relatives or associates are not independent. Here the term
relative should mean as what is defined in the Co’s Act. The term associate is
not defined under the RVR. Therefore, the meaning of this term can be taken
from the accounting standards that are prescribed under the Co’s Rules. The
term ‘associate’ is defined in Accounting Standard 23 to mean an enterprise in
which an investor has significant influence and which is neither a subsidiary
nor a joint venture of the investor. The term significant influence is defined
in that standard to mean the power to participate in financial and/ or
operating policy decisions of the investee but not control over those policies.
Thus, even if an associate of a relative of the RV has a conflict or a material
relationship with the company being valued it could be viewed as a situation
where the RV is deemed to be not independent. In connection with this it would
be pertinent to note the relevant provision of section 247 which debars a
valuer from undertaking a valuation if he has any direct or indirect interest
at any time within three years prior to his appointment and three years after
the valuation. It may be noted that the statute does not define the meaning of
the term interest.This would lead to a situation where if an RV purchases
shares of a company two years after he undertook valuation of its shares, then
the valuation would be considered void, since he could not have undertaken such
valuation. This restriction is not merely on the RV, but because of the
provisions of the RVR, also applicable to all the relatives and associates of
the RV. This would lead to absurd results whereby, if the RV undertakes a
valuation then he will need to take a clearance even from his relatives [as
defined under the Co’s Act] that they have not had any interest in the asset
for past three years as also will not have any interest in the asset for the
future three years. This is not a viable condition. Ideally, the statute should
have defined what should be considered as interest. Merely holding shares of a
company as a retail investor should be kept out of the purview of the
application of the section. There could be many other instances apart from
holding of shares which is just one absurd situation which is more likely, that
could disqualify a valuer.  

Further, the Code of Conduct also
requires an RV to maintain documents and make them available to certain persons
for inspection. The RV is required to maintain back up for all the decisions
taken and the documents must be maintained for at least three years. These are
to be maintained in case their production is required by a regulatory authority
or for peer review.

The Code also considers accepting
of gifts and giving gifts by RVs as a violation of the code. However, it would
be considered as a violation only if such action could have an effect on the
independence of the RV. Therefore, if an RV accepts small gifts which are
customary then such gifts should not be construed as a violation of the code of
conduct. The Code requires that the RV should not accept any fees other than
what is agreed contractually. Thus, an RV will now have to ensure that he
executes a contract with the client. It may also be noted that the valuation
standards on documentation requires that the RV should specify his scope of
work and his and his client’s responsibilities in the contract. This also
requires the RV to execute a contract with the client. Further, section 247 of
the Co’s Act requires appointment of RV to be done by the audit committee.
Thus, the contract of engagement should be approved by the audit committee. The
Code requires the RV to charge at a consistent level. The thought behind this
could be to prevent situation where an RV would compromise independent
assessment for an unreasonably high compensation. This would necessitate that
the RV should maintain adequate documentation to show that contemporaneous
assignments involving similar level of work and responsibility are charged in a
similar manner.

The Code also requires an RV to
accept only as many assignments which he can handle with adequate time.
Currently, there is no upper limit on the number of assignments. Also, adequate
time would depend on the infrastructure, resources and techniques available
with the RV. Therefore, generalisation of maximum number would anyway be
impractical.

Cancellation or suspension of registration

The authority is bestowed with
the power to cancel or suspend registration that is granted to an RV or an RVO
under Rule 15 of the RVR. The action of cancellation will necessarily have to
flow from a complaint filed with the Authority. Thus, it can be interpreted
that the cancellation of the registration of either the RV or the RVO can only
be upon a complaint.

However, the Rule does not
specify the triggers for the complaint. Considering that the complaint is
against the RV or the RVO, legally it can only stem from any violation of the
Act or the Rules which in turn would also include the bye-laws issued by the RVOs
which are also required to be adhered by the RVs.However, when one looks at the
contents of the show cause notice prescribed under Rule 17, it can be observed
that the show cause notice should state the provisions of the Act or Rules or
certificate of registration allegedly violated or the manner in which public
interest is allegedly affected. Now, if one were to see the code of conduct
given in Annexure I of the RVR or the model bye-laws for RVO given under Part
II to Annexure III to the RVR or the eligibility given under Rule 3 of the RVR,
we will find no reference to public interest. In this connection, it is
worthwhile to note the provisions of section 247 of the statute under which the
Rules are framed. Under s/s. 3 of the said section a penalty shall be imposed
on the RV if a valuer contravenes the provisions of this section or the rules
made thereunder he shall be punishable with a fine which shall not be less than
twenty-five thousand rupees but which may extend to one
lakh rupees. 

Further, if the valuer has
contravened such provisions with the intention
to defraud the company or its members, he shall be punishable with
imprisonment and would also be fined. Thus, the statute provides for punishment
only if the valuer has intended to defraud the company or its members. Whereas,
the RVR provides for action if public interest is affected. The meaning that
can be attributed to the term “public interest” is very wide and subjective.
Thus the rules have gone beyond the statutory framework. In this connection
attention is invited to the following judgments where it was held that rules
framed under the statute cannot go beyond the requirements spelt out in the
statute.

Case laws on this law

•    CIT vs. Sirpur Paper Mills [(1999) 237 ITR 41 (SC)];

•    CIT vs. Taj Mahal Hotels [(1971) 82 ITR 44 (SC)];

•    Avinder Singh vs. State of Punjab [AIR 1979 SC 321];

•    Harishankar Bagla vs. State of Madhya Pradesh [AIR 1954 SC 465]

Thus, to the extent the rules
overstep the statute, they could be considered as ultra vires.

Now, Rule 17 further provides
that if based on the findings of inspection, investigation or complaint
received, or material otherwise available, the authorised officer is of
the prima facie opinion that there exists sufficient cause to cancel or
suspend the registration of the RV, then he shall issue a show cause notice. On
a combined reading of Rule 15 and Rule 17 it is fair to interpret that the
authority can only cancel or suspend registration if it has received a
complaint and upon receipt of the complaint it will have to first form a prima
facie opinion based on information that it may obtain on its own or based
on complaint received. Thus, the power of the authority should not be construed
as expanded by Rule 17 so as to interpret that the authority can even take suo
moto action even if there is no complaint made against the RV or the RVO.

If a complaint lies against the
RVO then the authorised officer is required to seek information from the RVO
and is not required to carry out an investigation on its own. It is further
provided that if sufficient and satisfactory information is not received from
the RVO then the authority can initiate proceedings under Rule 17 or direct the
matter to the Central Government for directions. This process would thus ensure
that the RVOs will have the benefit of being asked their version of information
before any show cause notice is issued on them. Whereas this benefit will not
be available to RVs, who can be issued show cause notice by the authorised
officer for forming a prima facie opinion against them. It is only upon
getting the show cause notice that the RVs would get an opportunity to explain
their case.

Interestingly, Rule 16 provides
that in case of a complaint against a director of a company or a partner of a
firm, the authority may refer the complaint to the relevant RVO and such
complaint is to be dealt with by the RVO in accordance with its bye laws. Thus,
there are two important observations to draw out from this provision viz;

1)  If the complaint is against an individual RV
then the complaint may be transferred to the RVO where he is registered. This
can be linked to the position that only an individual can be a member of an
RVO.

2)  However, it can be observed that the proviso
carves out the exception only for individuals. Therefore, if a complaint lies
against the partnership firm or a company which is an RV, then the complaint
will be dealt with at the level of the Authority.

From the foregoing one can
envisage that if a complaint is filed against a firm which is an RV then it
would be only dealt with by the Authority. However, if it is against the
individual partner of the said firm then it would be handled from the RVO. If
the complaint is filed against both the firm and the partner who has carried
out the valuation then the power to deal with the complaint would lie with two
regulators. In a situation of this type it is possible that the term may/could
be interpreted as an option with the Authority and not a mandatory requirement.
In such a situation, the Authority could step in to deal with the complaint and
the case of the individual member may not be transferred to the relevant RVO.

The authorised officer is
required to dispose of the show cause notice following the principles of
natural justice, which should entail giving reasonable opportunity and time to
respond to the notice. The order of disposal of the show-case notice could
provide any one of the following; 1) no action; 2) warning; 3) suspension or
cancellation of registration or recognition; 4) change in any partner or
director of the RVO.

For all of the above, the powers
vest with the authorised officer, who will be ‘specified’ by the Authority.
Currently, no such authorised officer is specified. Further, it is provided
that the appeal against the order of the authorised officer would lie before
the Authority. Thus, if the authorised officer does not act independent of the
Authority, then the appeal to the Authority against the order of the authorised
officer will violate the principle of natural justice. [Refer ICAI vs. L.K.
Ratna& Others[1987 AIR 71 (SC)].

Further, it can be noted that,
there is no provision for appeal to the higher courts. However, following the
principles of natural justice, the aggrieved person should have a natural right
to challenge such an order of the Authority before higher courts.

Thus, it may be observed that
the RVR needs to address several open issues. Also, the RVR should not exceed
the regulatory ambit laid down in the statute. It should be also noted that the
area of valuation was always open to anyone who had the requisite knowledge to
carry out that work. Historically Chartered Accountants were preferred for this
service as they have the requisite educational training through their
curriculum to carry out valuations as also have good knowledge of various
statutes to understand implications flowing from the regulatory framework. They
are trained in their domain i.e., accounting, and so have excellent ability to
understand and analyse financials, which is the foundation of this service.
Therefore, a Chartered Accountant has always been a natural choice for this
service. Through, section 247 of the Co’s Act this area of service has actually
been abrogated. It is therefore upon us to consider this regulation as an
“opportunity” as some, in ignorance of the true implication of the provisions,
may portray.