Delhi High Court Upholds NFRA’s Powers, Calls For Fairness In Disciplinary Actions

In a significant ruling, the Delhi High Court has upheld the constitution of the National Financial Reporting Authority, or NFRA. NFRA was established in 2018 as the nodal body to oversee and monitor compliance with auditing standards in the country.

The authority was constituted under section 132 of the Companies Act 2013 and is empowered to undertake investigations, initiate disciplinary proceedings, and impose hefty penalties against chartered accountancy firms or their auditors.

The high court also rejected the argument that since the authority also investigates audits completed prior to its constitution, it is therefore arbitrary in nature as it impacts rights that may have been perfected or completed.

The high court said that NFRA does not create a new species of misconduct nor does it create a liability that was earlier not contemplated under the law.

In short, the court meant that since audits conducted by individuals or firms were liable to be enquired even before 2018, the constitution of NFRA merely filled a gap in enforcement and did not create a new set of ‘misdemeanours.’

The court further held that proceedings undertaken by the authority do not have to confirm the requirement of guilt being proved beyond reasonable doubt, which is a test primarily applied to criminal trials. The statute provides enough guidance for the NFRA to ensure that the disciplinary proceedings are conducted in a manner that is fair, transparent and in consonance with the principles of natural justice, it said.

While the court upheld the constitution of NFRA and its accompanying powers, it stated that the same batch of people that render initial findings of alleged professional misconduct cannot thereafter sit upon that very opinion to take disciplinary action.

“A decision-making process that fails to satisfy the test of real possibility of bias is not saved merely because it is likely that a different decision maker may have reached the same conclusion,” the high court said.

The court brought this issue to light as accounting firms Deloitte Haskins & Sells LLP, Ernst & Young's affiliate, and a few other CAs argued that NFRA had not adhered to the statutory scheme when issuing show cause notices.

The argument was that the same group of individuals who had previously reviewed their audit reports decided to start disciplinary actions against them.

The court categorically stated that NFRA acted contrary to the law in these cases, as the legislation clearly mandates a separation of roles between divisions reviewing audit reports and divisions undertaking disciplinary proceedings.

As a result, it set aside the show-cause notices that were issued on the heels of this skewed process and asked the authority to consider the cases afresh.