INSTITUTE O~' CHARTERED ACCOUNTANTS OF INDIA A v.

P. K. MUKHERJI AND ANR. ·

F elYruary 26, 1968

[J. C. SHAH, V. RAMASWAMI AND 0. K. MITTl!R, JJ.J B

Chartered Accountants Act 38 of 1949-S. 21 and Schedule, itent.r (o),. (p) and (q)-Chcrtered accountant appointed by company und1r Provident Fund Rules to audit accounts of the Fund-Writi1111 to company dpprovlng certain 1ransac1lons in contravention of Rule.r. but not cone. ,,..ntl1tf( on them in hir report on. the account:t-lf RUilt; v of profmll1fllll misconduct-Whether owt!d duty only to company who appointed him or C al.Jo to beneficiaries of provident fund.

A joint stock company had an employees provident fund scheme which wu being manaae<J by a board of trustees. The tint reepondent, a cbar- 'lered accountant, was appointed by the board of directors of the company

to audit the accounts of the Provident Fund for the years 1953 and 1954.

During 1954 the trustees of the Fund made certain advances of over rupeea six lakhs to the company in c<intraventioo of the Rules of the Fund.

The company issued various cheques in yment of the ad".lll!Ce$ but, Ill the request of the company, tho cheques were not cashed and were bpt by the trustees.

After receiving the cheques the trumade book en- .:tries showing repayment of the advances though the cheqlies were un-

<:aShed. On May 25, 1955, the first respondent wrote to the compeny -disapproving the advances aa not being m accordance with the Rules as well as the fact that the cheques iSSUed by the company in repayment were

not cashed promptly. At a meeting of the Trustees on May 27, 1955 it wu regretted that the cheques, were not cashed at he company's request and resolved that they should be returned to the company and interest char.,.t

from the date of issue of the cheques.

The first respondent signed the statements of accounts of the Prorideot Fund for 1953 on May 14, 1954 and for 1954 on June 30, 1955 and

certified them as "checked with the books and accounts produced and found correct". 1be second respondent filed a complaint against him with the. Institute of Chartered Accountants of India alleging that as the auditor, he had failed to disclose in his certificate on the statement of

acc:ounts that advances were made to the company in contraventioo of.

Rules of the Fund or to draw attention to the fact that a large amount of. cash was. shown as cash in hand in the statements of accounts also iD <:ontraverition of the Rules. After an enuiry under a. 21 of the Chartered Accountant• Act, 1949. the Disciplinary Committee of the Institute fOIUld the flnt respondent guilty of professional misconduct und" items (o), (p) and ( q) of the Schedule to the Act and the Council of the Institute confirmed this finding and referred the case to the High Court for final orders. The High Court set aside these findinp and absolved the Ont reepondent of the cr&jlllS of misconduct.

On appeal to this Court,

HBLD : Allowing the appeal : H (!) On June 30, 1955, when the first respondent signed the statement of accounts for 1954 he fully knew that a loan had been. granted by the tnistees to the company in violation of the Rules; and furtll", that chequa ·

A received in repayment were not cashed and, indeed, were not intended to ht: cashed, and were issued by the Company for a false indication of ad- ent at the end of the accounting year. Jn these circumstances it WIS the duty of the first respondent to point out in the statement of acc:ounL•

that a maj<lr pan of the cash in hand represooted uncashed cheques,. that the cheques were apparently given by the company for repayment of the loan and that the transaction was in violatioo of the Rules of the Provident 8 Pond. His failure in not pointing out these facts constituted professional

mil; conduct falling within cl. (o) of the Schedule to the Act. (336 A. E-OJ

(ii) It was no defence for the first respondent to say that he had di,.. closed the irregularity to the company by his Jetter dated M•Y 5. 1955 and that he owed a duty only to the company which appointed him to audit the accoun!s of the Provident Fund but not to the beneficiaries of the Fund.

On the tontraryt a breach of duty on his part not to have made a disclosure to the eficiaries of the Provident Fund in the statement of accounts. The mary object of auditing the Fund was to apprise the beneficiaries othe true financial position of the accounts and investments_ made from titn.e to time and in such a case the auditor is under a clear duty towards the beneficiaries. "to probe into the transac!ion" and to repon on their true character. [338 A-Bl

CIVIL APPELLATE JURISDICTION : Civil Appeal No. 426 of 1965.

Appeal by special leave from the judgment and order dated December 5, 1962 of the Calcutta High Court in Matter No. 78 of 1959.

H. R. Gokhale, R. K. P. Shankardas, H. K. Puri and K. K.

Jain for the appellant.

M. C. Chag/a, S. V. Gupte and K. Ba/dev Mehta, for respondent No. 1.

£. Udayarathnam, for respondent No. 2.

The Judgment of the Court was delivered by Ramaswaml, J. This appeal is brought, by special leave, from the judgment of the Calcutta High Court dated December 5, 1962 in matter No. 78 of 1959.

Ananda Bazar Patrika Limited is a Joint Stock Company, ltereinafter referred to as the 'Company' and has got an employees' Provident.Fund Scheme which was ing managed by a Board of Trustees. Respondent No. 1 is a Chartered Accountant and wa.• appointed by the Board of Directors of the Company to audit the accounts of the Provident Fund for the years 1953 and 1954. It appears that in the year 1954 the Trustees of the Fund had made certain advances ainounting to about Rs. 6,21,864/- to the Company in contravention of the Rules of the Fund. The Director of the O>mpany issued various cheques in repayment of the advance, but at the request of the management of the Company the cheques were kept with the Trustees of the Fund uncashed and not credited in the account of the Fund. After receipt of the cheques

the Trustees of the Fund made book entries showing the repayment of the loan so granted to the Company, though in fact note of these cheques had been cashed when such entries were made.

In his letter dated May 25, 1955 respondent No. 1 wrote to the Company as follows :

"It appears that certain loans were granted_ by the Trustees of the Fund to the Compy in 195~ which although adjusted within the_ accounting year; does not appear to be in accordanee with the Provident Fund Rules.

We disapprove such transaction and believe it will not recur in future. Cheques issued by you to .the Fund should also be cleared promptly."

After receipt of the letter from respondent No. 1 a meeting of the Board of Trustees was held on May 27, 1955 when a resolution was passed to the following effect :

"This meeting records with regret that the cheques amounting to Rs. 6,21,864/- could not be presented to the bank on the verbal request of the management of the Anand Bazar Patrika Ltd., this meeting considering all the relevant facts resolves that all the cheques be returned to the Company to the debit of the loan account bearing an interest of 6% per annum with effect from the date of issue of the cheques."

Respondent No. 1 signed the statement of Accounts ending December 31, 1953 on May 14, 1954 and the statement of Accounts ending December 31, 1954 on June 30, 1955. The statement was signed by the Trustees of the Fund and respondent No. 1 after signing the statements gave the following ertificate :

"Checked with the books and accounts produced and found correct."

Though respondent No. 1 pointed out in his letter dated May 25, 1955 that loans were granted and adjustment was made during the accounting year, he did not disclose this fact in his note when he signed the statement of account on June 30, 1955 knowing fully well that the cheques were not only uncashed but were returned to the Company in pursuance of the resolution of the Trustees dated May 27, 1955. Respondent No. 1 also failed to point out in the statement of account that adjustment of loans was made by showing in a very vague manner cash in hand (Cheques and cash) as Rs. 6,21,864 and the proportion of the cheques to the cash was not specified.

Later on Kishori Lal Dul'ta, respondent No. 2, President of the Employees' Union filed a complaint against respondent No. 1 before the Institute of Chartered Accountants of India, hereinafter referred to as the 'Institute'. It was alleged in

l.C.A. v. MUKHERJJ (Ramaswami, J.) 333

the complaint that (1) the loan granted to the Company was in contravention of Rule 12 of the Provident Fund Rules and the auditor failed to disclose this in the statement of account, and (2) the auditor failed to invite attention to the fact that huge amount was shown as cash in band in. the financial statement for the years 1953 and 1954 in contravention of Rule 11 of the Fund. The complaint was referred by the Council of the Institute to the Disciplinary Committee for an inquiry under s. 21 of the_ Chartered Accountants Act (Act 38 of 1949), hereinafter calied the 'Act', read with regulation made thereunder. The Disciplinary Committee made a report on September 13, 1958. The Disciplinary Committee found that the loans were admittedly granted by the Trustees in contravention of the Provident Fund Rules and respondent No. J should have brought out this fact in his report and that respondent No. 1 was guilty of not disclosing the fact that a large amount of loan was given out of the fund of the Provident Fund to the Company and that the cheques received in payment of these loans and shown as cash in hand "Cheques and cash" were not encashed at least upto the day on which be wrote the Jetter to the Directors i.e., May 25, 1955 and the non-disclosure of this material information was an act of misconduct on the part of respondent No. 1.

The Disciplinary Committee held that the Joans were given in contravention of the Rules of the Provident Fund and failure to report on the default in clearing the cheques received in repayment of the loans amounted to a failure to report on a material mis-statement known to respondent No. I. Accordingly the Disciplinary Committee held that respondent No. 1 was guilty of misconduct under items (o), (p) and (q) of the Schedule to the Act. The Council of the Institute agreed with the report of the Pisciplinary Committee and held respondent No. 1 guilty of professional misconduct.

Under s. 21 of the Acf the matter was referred to the Calcutta High Court for final orders. By its judgment dated December 5, 1962 the High Court set aside the findings of the Disciplinary Committee as confirmed by the Council of the Institute and absolved respDndent No. 1 of the charges of misconduct.

It is necessary at this stage to examine the scheme of the material provisions of the Act.

Section 2 (I )(b) of the

ct defines a "Chartered Accountant" as meaning "a person who rs a member of the Institute and who is in practice." Section 6 Jays down that no member of the Institute shall be entitled to practise unless he has obtained from the Council a certificate of practice. Section 8 deals with disabilities. Any person who incurs any one of the disablities enumerated in sub-els. (i) to (vi) of s. 8 shall not be entitled to have his name entered in or borne of the Register.

Sub-clause (vi) deals with the disability in case where the chartered accountant is found on an inquiry to be guilty

of conduct which renders him unfit to be a member of the Institute.

Under s. 20(2) it is provided that the Council shall remove from the Register the name of any member who has been found by the High Court to have been guilty of conduct which renders him unfit to be a member of the Institute. Chapter V deals with the question of misconduct. It consists of ss. 21 and 22.

Section 21 deals with the procedure of enquiries relating to misconduct of members of the Institute. It reads thus :

"21. ( 1 ) Where on receipt of information or on receipt of a complaint mde to it, the Council is of opinion that any member of the Institute has been guilty of conduct which, if proved, will render him unfit to be a member of the Institute, or where a complaint against a member of the Institute has been made by or on behalf of the Central Government, the Council 11hall cause an inquiry to be held in such manner as may be prescribed, and the finding of the Council shall be forwarded to the High Court. ( 2) Ort receipt of the finding, the High Court shall fix a date for the hearing of the case and shall cause notice of the day so fixd to be given to the member of the Institute concerned, the Council and to the Central Government, and shall afford such member, the Council and the Central Government an opportunity of being heard before orders are passed on the case.

(3) The High Court may, thereafter, either pass such final orders on the case as it thinks fit or refer it back for further inquiry by the Council and upon receipt of the finding after such inquiry, deal with the case in the manner provided in sub-section (2) and pass final orders thereon.

" .......................................

Section 22 defines misconduct. It reads thus :

"For the purposes of this Act, the expression 'conduct which, if proved, will render a person unfit to be a member of the Institute' shall be deemed to include any act or omission specified in the Schedule, but nothing in this section shall be construed to limit or abridge in any way the power conferred on the Council under subsection ( 1) of section 21 to inquire into the onduct of any member of the Institute under any other circumstances.'' Clauses ( o), ( p) and ( q) of the Schedule read as follows :

"A charteredaccountant shall be deemed to be guilty of conduct rendering him unfit to be a member of the institute, if he-......... .

( o) fails to disclose a material fact known to him which is not disclosed in a financial statement, but dis~ closure of which is necessary to make the financial statement not misleading; ( p) fails to report a material misstatement known to him to appear, in a financial statement with which he is concerned in a professional capacity; ( q) is grossly negligent in the conduct of his professional duties;" Rules 11 and 12 of the Ananda Bazar Patrika Provident Fund provide as follows :

"11. The Manager shall from time to time pay into the Bank approved by the trustees to the credit of an account to be styled 'The Ananda Bazar Patrika Provi. dent Fund Account' all moneys received by him. All moneys to the credit of such account shal! be dealt with only in accordance with these rules and regulations and any or all portion of such moneys shall be withdrawn from such account only by cheques bearing the signatures of the Manager and one of the trustees."

"12. All moneys not immediately required for the purpose of the fund shall from time to time be invested by the trustees at their discretion in any of the following securities, that is to say, of the rupee securities of the Government of India or any securities, the interest on which is or shall be guaranteed by the Government of India or in bonds, debentures, securities of or issued by Public municipal or local body or authority in India, with a power' for the trustees at their discretion from time to time to vary or to transpose such investment or for others of any nature hereinbefore authorised. So however, that the securities in which the contn'butions ade / by the subscribers, after the date of recognition of the Provident Fund and the interest on the accumu-· lated balance of such contributions are invested are payable both in respect of capital and of interest in India." Rule 28 states :

''The accounts of the Fund shall be audited yearly by an auditor appointed by the Company." The question to be considered in this appeal is whether respondent No. I was guilty of professional misconduct falling within els. ( o), ( p) or ( q) of the Schedule to the Act. It is the admitted position in this case that respondent No. 1 signed the statement of aecount for 1954 on June 30, 1955, At the time when he signed

the statement he was aware that Joans were granted by the trustees of the Fund to the Company in 1954 and cheques had been issued in repa}'ment of the loan. This is apparent from the Jetter of respondent No. 1 dated May 25, 1955 addressed to the Company in which he pointed out that the loans granted by the trustees do not appear to be in accordanee with the Provident Fund Rules and the cheques issued by the Company should be cleared promptly.

As a sequel to this letter the trustees passed a resolution on May 27, 1955 that the cheques amounting to Rs. 6,21,864/- and odd were not presented to the Bank on the verbal req11est of the Com pany and that the cheques should be returned to the Company and the amount should be debited to the loan account bearing interest at 6% p.a. with effect from the issue of the cheques. It is manifest therefore that on June 30, 1955 when respondent No. I signed the statement of accounts he fully knew that a loan had been granted by the trustees to the Company in violation of Rules

11 and 12 anti further that cheques received in repayment of the loan were not cashed and, indeed, were not intended to be cashed.

In other words, the 'cheques were issued by the Company not with the intention of repayment of the loan by their being cashed but they really represented acknowledgement of the loan by the Company. In fact, the cheques had been returned to the Company uncashed by virtue of the resolution of the Board of trustee.' dated May 27, 1955 before the statement of account was signed

by respondent No. 1. To put it differently, the cheques were apparently issued by the Company not so much for repayment of E the loan as for a false indication of adjustment at the end of the accounting year.

We are of opinion that in these circumstances it was the duty of respondent No. 1 to point out in the statement of account that a major part of the cash in hand represented uncashed cheques and that the cheques were apparently given by the Company for repayment of the loan and the transaction was in violation of Rules 11 and 12 of the Provident Fund Rules. We accordingly consider that the failure of respondent No. 1 in not pointing out these facts in the statement of acco11nts for the year 1954 constituted professional misconduct falling within cl. ( o) of the Schedule to the Act. It is not necessary for us to express any opinion on whether the case also falls within els. (p) and (q) of the Schedule.

On behalf of respondent No. 1 Mr. Chala put forward th~ argument that since the cheques had already been given by the Company .the loans stood cleared and, in any event, respondent

No. 1 had already informed the Com!)anv of the irregularity in his letter dated May 25. 1955. It was therefore contended that there H was no professional misconduct on the part of respondent No. 1.

We are unable to accept this argument as correct. It is true that the cheques had been given by the Company before the close of

the year 1954. but respondent No. 1 knew that the cheques were

not really intended to be encashed by the trustees. Respondent No. 1 also knew of the resolution of the trustees dated May 27, 1955 that the cheques were to be returned to the Company and tllc amount was ordered by the trustees to be entered and. carried oYer to the loan account. It was also maintained by Mr. Chagla that respondent No. 1 owed a duty only to the Company which appointed him to audit the accounts of the Provident Fund and there was no duty owed by respondent o. 1 to the beneficiaries of the Fund. It is not possible for us to accept this argument.

Respondent No. 1 owed a duty to all the subscribers of the Provident Fund who were in the position of beneficiaries. It is not correct to say that respondent No. 1 owed a duty only to the Company which had appointed him to perform the auditing. The contributors to the Provident Fund had a beneficial interest in the Fund and the primary object of auditing the Fund wlls to appraise them of the true financial position of the accounts and investments made from time to time. Respondent No. 1 therefore owed a duty to the contributors to the Provident Fund for making a true report to them of the financial position. In other words, the auditing was intended for protection of the beneficiaries and the auditor was expected to examine the accounts maintained by the trustees with . a view to inform the beneficiaries of the true financial position.

The auditor is, in such a case, under a clear duty towards the beneficiaries "to probe into the transactions" aµd to report on their true character. In our opinion, the legal position of the auditor in the present case is similar to that of the auditor under the Indian Companies Act, 1956. In such a case the audit is intended for the protection of the shareholders and the auditor is expected to examine the accounts maintained by the Directors with a view to inform the shareholders of the true financial position of the Company. The Directors occupy a fiduciary position in relation to the shareholders and in auditing the accounts maintained by the Directors the auditor acts in the interest of the shareholders who are in the position of beneficiaries. In London Oil Storage Co. Ltd.

v. Seear, Hasluck & Co., (1 ) Lord Alverstone stated as follows :

"He must exercise such reasonable care as would satisfy a man that the accounts are genuine, assuming that !here is nothing to arouse his suspicion of honesty and 1f he does _that he fulfils his duty; if his suspicion is aroused, his duty is to 'probe the thing to the bottom• and tell the director8 of it and get what information he can." ( Vide also the observations in-'ln re : London General Bank (No. 2)';(')-'ln re: Kingston Cotton

Mill Co. (No. 2)'(8 ) and-'ln re: City Equitable Fire.Insurance Co. Ltd.'(')".

(1) Dick,.. on Auditing., 17th Edn., p. 632.

(3) (1896) 2 Ch. 279.

(2) (1895) 2 Ch. 673.

(4) (1925) Ch. 407.

. It was therefore no defence for respondent No. 1 in this case to say that he had disclosed the irregularity to the Company by hi.~ letter dated May 25, 1955. On the contrary it was a breach of duty on. his part not to have made a disclosure th.:reof to the beneficiaries of the Provident Fund in the statement of accounts for the year 1954 which he signed on June 30, 1955.

For these reasons we hold that the eharge of professional misconduct is established against respondent No. 1 falling under cl. ( o) of the Schedule to the Act. The only question which now remains is the final order to be passed against respondent No. 1.

In our opinion, the conduct of respondent No. 1 is wholly unworthy of a Chartered Accountant who is eitpected--to maintain a high

standard of professional conduct. The proper punishment woiJld have. been the removal of the respondent No. l's name from the Register for a limited period but in view of the fact that the proceedings have been pending against respondent :No. 1 for a Jong time, we think that the ends of justice will be served in this particulat case if respondent No. I is severely reprimanded for his mis

con\fuc~ under s. 21(2) of the Act. We also direct respondent No. I to pay the cost of the appellant in this Court and in the High Court.

We accordingly set aside the order of the High Court dated December 5, 1962 and allow this appeal with costs.

R.K.P.S.

Apptal a/low.td.