The Companies (Auditor’s Report) Order, 2020, widely known as CARO 2020, is one of the most important regulatory mechanisms under the Indian corporate law framework. It was issued by the Ministry of Corporate Affairs under Section 143(11) of the Companies Act, 2013, and has been made applicable to financial years beginning on or after April 1, 2021. The order replaced the earlier Companies (Auditor’s Report) Order, 2016, and introduced several additional requirements to strengthen transparency in audit reporting.
The purpose of CARO 2020 is to enhance the reliability of financial information and provide stakeholders with detailed insights into a company’s operations, compliance practices, and financial discipline. By expanding the scope of reporting, it imposes greater responsibility on auditors to verify not only the figures presented in financial statements but also the manner in which companies maintain their records and comply with legal requirements.
This article provides a comprehensive discussion on the applicability and scope of CARO 2020, the exemptions available to certain companies, and the responsibilities it places on auditors. The focus here is on understanding the framework and its significance before moving into the clause-wise requirements, which will be discussed in subsequent parts.
Objective of CARO 2020
The Companies Act, 2013 already prescribes a set of duties and responsibilities for statutory auditors. However, past experiences have shown that financial irregularities, fraudulent practices, and weak internal controls can escape detection if audit procedures are limited only to the verification of books and records. To address this concern, CARO requires auditors to provide specific comments on areas that are considered critical for stakeholders.
The main objectives of CARO 2020 can be summarized as:
- To increase the accountability of auditors by compelling them to report on key aspects of business operations
- To ensure that shareholders, creditors, regulators, and other stakeholders receive meaningful disclosures beyond the financial statements
- To improve the quality of corporate governance by requiring detailed confirmation of compliance with statutory provisions
- To act as a deterrent for management against misreporting, mismanagement, and fraudulent activities
Applicability of CARO 2020
CARO 2020 applies to all companies incorporated under the Companies Act, 2013 or any previous company law, including foreign companies as defined under Section 2(42) of the Act. By bringing foreign companies under its ambit, the order ensures that uniform standards of reporting are followed by entities carrying on business in India, regardless of their place of incorporation.
The order is applicable for every statutory audit conducted under Section 143 of the Companies Act, 2013. An auditor of a company covered under the scope of CARO has to include in their audit report comments on each of the matters specified in paragraphs 3 and 4 of the order.
Exemptions from CARO 2020
While the order is broad in scope, certain companies have been exempted from its applicability. These exemptions have been provided to avoid unnecessary compliance burden on entities that either operate under specialized regulatory frameworks or are too small in scale to justify detailed reporting obligations.
Banking Companies
Banking companies are regulated extensively by the Reserve Bank of India, and their financial statements are subject to rigorous scrutiny under the Banking Regulation Act, 1949. Since separate provisions exist for the audit of banks, the government has excluded them from the ambit of CARO.
Insurance Companies
Insurance companies operate under the supervision of the Insurance Regulatory and Development Authority of India (IRDAI). They follow specific accounting, auditing, and disclosure standards designed to address the unique risks and operations of the insurance sector. Accordingly, they are exempted from the order.
Section 8 Companies
Companies formed under Section 8 of the Companies Act, 2013, are established for charitable and not-for-profit purposes such as the promotion of commerce, art, science, education, or social welfare. These entities are exempted because their activities are not profit-driven and the nature of their operations does not justify the extensive compliance burden imposed by CARO.
One Person Companies and Small Companies
One Person Companies, as defined under Section 2(62), and Small Companies, as defined under Section 2(85), are also excluded from the scope of CARO 2020. These entities are relatively simple in structure, limited in scale, and exempted to encourage ease of doing business.
Certain Private Companies
Private limited companies enjoy exemption from CARO if they are not subsidiaries or holding companies of a public company and if they satisfy all of the following conditions:
- Their paid-up share capital and reserves and surplus do not exceed one crore rupees as of the balance sheet date.
- Their borrowings from banks or financial institutions do not exceed one crore rupees at any time during the financial year.
- Their total revenue, including revenue from discontinued operations, does not exceed ten crore rupees during the financial year.
These thresholds have been prescribed to ensure that relatively smaller private companies are not burdened with extensive reporting requirements.
Auditor’s Responsibility under CARO 2020
The role of the statutory auditor has become far more comprehensive under CARO 2020. While the primary objective of an audit remains the expression of an opinion on whether the financial statements present a true and fair view, the auditor must also specifically comment on each of the matters listed under the order.
This requires auditors to perform procedures beyond those required for a standard audit. They must review additional documents, obtain representations from management, perform test checks, and exercise professional judgment while reporting under CARO. Failure to comply with these requirements may expose auditors to regulatory action and disciplinary proceedings.
For instance, the auditor must confirm whether the company maintains proper records of property, plant, and equipment, whether physical verification has been carried out, whether loans have been granted in compliance with Sections 185 and 186 of the Companies Act, and whether deposits have been accepted in line with statutory requirements. These are specific, factual confirmations that go beyond the expression of opinion on financial statements.
Importance of CARO 2020
The introduction of CARO 2020 marks a significant development in corporate reporting standards. Its importance can be understood through the following dimensions:
Strengthening of Audit Reporting
By mandating auditors to provide detailed comments on specific matters, CARO enhances the scope and quality of audit reports. Stakeholders receive information that is both reliable and directly relevant to their decision-making.
Enhancing Investor Confidence
Investors, particularly small shareholders and creditors, rely heavily on the auditor’s report before committing resources. By providing insights on areas like asset ownership, compliance with statutory dues, and utilization of borrowings, CARO helps in building investor confidence.
Supporting Regulatory Oversight
Regulators such as the Ministry of Corporate Affairs, Reserve Bank of India, and Securities and Exchange Board of India can use CARO reports to monitor the health of companies and identify potential non-compliance. The standardized disclosures make it easier for regulators to detect irregularities.
Deterrence Against Mismanagement
The knowledge that auditors are required to report on sensitive matters such as fraud, deposits, and related party transactions discourages management from engaging in unethical practices. This creates an environment of compliance and accountability.
Evolution of CARO
CARO has undergone several revisions since its introduction. Earlier versions of the order were issued in 2003, 2004, 2015, and 2016. Each revision has expanded the scope of reporting in response to emerging challenges in corporate governance and audit practices.
CARO 2020 reflects lessons learned from corporate scandals, mismanagement, and fraudulent practices that came to light in recent years. Issues like diversion of funds, misuse of borrowings, and improper ownership of assets have highlighted the need for more stringent audit reporting. As a result, the order now includes requirements such as verification of benami property proceedings, consistency of returns submitted to banks, and disclosure of revaluation of assets.
Scope of Matters Covered Under CARO
While detailed discussion of each clause will be taken up in the next article, it is important to highlight the broad scope of matters to be reported under CARO 2020. These include:
- Maintenance of records for property, plant, equipment, and intangible assets
- Verification of inventories and consistency of information submitted to banks
- Loans, investments, guarantees, and compliance with provisions relating to directors
- Acceptance of public deposits and deemed deposits
- Default in repayment of borrowings
- Maintenance of cost records where required
- Timely payment of statutory dues and treatment of disputed amounts
- Reporting of fraud and action taken by the company
- Internal audit system and its adequacy
- Transactions with related parties and directors
- Compliance with RBI regulations for non-banking financial activities
- Corporate Social Responsibility obligations under Section 135
- Cases of auditor resignation and concerns about financial stability
The wide scope reflects the comprehensive nature of CARO 2020 and the significant responsibility it places on auditors.
Property, Plant and Equipment and Intangible Assets
The first clause under CARO 2020 addresses property, plant and equipment, including intangible assets. The auditor is required to verify multiple aspects connected with the ownership, maintenance, and valuation of these assets.
Maintenance of Proper Records
The auditor has to confirm whether the company is maintaining adequate records of property, plant, and equipment. These records should include full particulars such as original cost, accumulated depreciation, location of assets, and quantitative details. The order also requires that similar records are maintained for intangible assets like patents, copyrights, software, or goodwill.
Proper maintenance of records ensures that there is accountability for physical assets and that their values are properly reflected in the financial statements. Any absence of such records raises the risk of misappropriation, overstatement, or understatement of assets.
Physical Verification
The auditor is required to report on whether the management has conducted physical verification of property, plant, and equipment at reasonable intervals. Physical verification acts as a safeguard against the existence of fictitious assets and also helps identify discrepancies in records.
If discrepancies are found, the auditor must state whether they were material in nature and whether proper adjustments were carried out in the books. This requirement places a dual responsibility on management and auditors to ensure that assets are not only recorded correctly but also exist physically.
Title Deeds of Immovable Properties
Another important reporting point relates to the ownership of immovable properties. The auditor has to verify whether the title deeds of such properties are held in the name of the company. Exceptions are permitted where properties are taken on lease, provided the lease agreements are valid and executed.
If the title deeds are not in the company’s name, the auditor has to provide details such as the property description, name in which it is registered, and reasons for non-availability. This disclosure is crucial because it directly relates to the ownership rights of the company over its immovable assets.
Revaluation of Assets
The clause requires reporting on whether the company has carried out any revaluation of property, plant, equipment, or intangible assets during the financial year. If so, the auditor must confirm that the revaluation has been conducted by a registered valuer as per statutory requirements.
Additionally, where the revaluation results in changes of 10 percent or more in the net carrying amount of any class of assets, the fact must be disclosed in the financial statements. This ensures transparency in cases where companies revalue assets to strengthen their balance sheet.
Proceedings under Benami Transactions Act
The auditor must also report whether any proceedings are pending or initiated against the company under the Benami Transactions (Prohibition) Act, 1988. If such cases exist, the auditor should check whether the company has made appropriate disclosures in the financial statements.
This requirement has been added to identify cases where companies may be involved in holding assets that are not legally in their name. It further strengthens accountability on matters of asset ownership.
Inventories
The second clause focuses on inventories, which form an important component of current assets for manufacturing and trading companies.
Physical Verification of Inventories
The auditor has to comment on whether the management has conducted physical verification of inventory at reasonable intervals. The scope and frequency of such verification must be adequate to provide assurance about the existence and condition of stock.
Where discrepancies of 10 percent or more in the aggregate for each class of inventory are noticed during such verification, the auditor must report whether they have been properly adjusted in the books of account. This prevents companies from artificially inflating or deflating their stock position.
Working Capital Limits Secured Against Current Assets
An additional reporting requirement under CARO 2020 relates to companies that have been sanctioned working capital limits of more than five crore rupees in aggregate from banks or financial institutions.
In such cases, the auditor must examine whether the quarterly returns or statements filed with lenders are consistent with the books of account. If inconsistencies are noticed, details must be provided. This measure ensures that companies do not misrepresent their financial position to banks to obtain credit facilities.
Loans, Guarantees, Investments and Advances
The third clause of CARO 2020 requires auditors to comment on whether the company has made loans, investments, provided guarantees, or given securities to other entities. This area is sensitive because it often involves related parties or group companies, and improper transactions can lead to diversion of funds.
Grant of Loans and Advances
The auditor must verify whether the company has granted loans or advances in the nature of loans to companies, firms, limited liability partnerships, or other parties. Details such as the amount, terms, and whether such loans are secured or unsecured must be examined.
Reporting on Repayment Terms
Where loans are granted, the auditor must confirm whether the terms and conditions are not prejudicial to the interest of the company. For example, if loans are given without charging interest or without proper repayment schedules, it may indicate siphoning of funds or favoritism towards related parties.
The auditor must also report whether repayments of principal and interest are regular. In case of overdue amounts exceeding ninety days, the auditor has to comment on steps taken by the company for recovery.
Loans Repayable on Demand
If the company has granted loans that are repayable on demand or without specifying repayment terms, the auditor must provide details, including the amount involved and the parties to whom such loans have been given. This disclosure is important because loans without clear repayment terms may be used to park funds outside the company indefinitely.
Compliance with Sections 185 and 186
The fourth clause of CARO requires auditors to verify compliance with Sections 185 and 186 of the Companies Act, 2013. These sections regulate the manner in which companies can provide loans, guarantees, investments, and securities.
Section 185 – Loans to Directors
Section 185 prohibits companies from advancing loans, directly or indirectly, to their directors or to persons in whom the directors are interested. Certain exceptions exist, such as loans given to managing or whole-time directors as part of conditions of service or under a scheme approved by shareholders.
The auditor must check whether any transactions have been entered into in violation of this section. If such loans exist, the auditor must provide details including the amount and the nature of contravention.
Section 186 – Loans and Investments by Company
Section 186 lays down limits and conditions for making loans and investments, and for providing guarantees and security. It prescribes ceiling limits based on the paid-up capital, free reserves, and securities premium account of the company.
The auditor must verify whether transactions during the year were within these prescribed limits and whether necessary approvals of the Board and shareholders were obtained where required.
By enforcing reporting on compliance with these provisions, CARO 2020 ensures that companies do not misuse corporate funds by channeling them to directors or related entities.
Acceptance of Deposits
The fifth clause under CARO deals with acceptance of deposits and deemed deposits. This is a critical area because improper acceptance of deposits from the public has often led to financial scandals in the past.
Verification of Compliance
The auditor must report whether the company has accepted deposits or amounts that are deemed to be deposits under the Companies Act, 2013. If deposits have been accepted, the auditor should verify whether the company has complied with directives of the Reserve Bank of India and the provisions of Sections 73 to 76 of the Act along with relevant rules.
Reporting of Contraventions
Where non-compliance is observed, the auditor is required to report the nature of such contravention. For example, if a company accepts deposits without creating the prescribed deposit repayment reserve, the auditor must highlight this fact in the report.
Orders of Regulators or Tribunals
If any orders have been passed by the National Company Law Tribunal, Company Law Board, Reserve Bank of India, or any court in relation to acceptance of deposits, the auditor must confirm whether the company has complied with such orders.
This reporting requirement helps protect the interests of depositors and ensures that companies follow strict norms when raising money from the public.
Maintenance of Cost Records
Clause 3(vi) of CARO 2020 requires the auditor to report on whether the company is required to maintain cost records as prescribed under Section 148(1) of the Companies Act, 2013.
Applicability of Cost Records
Certain classes of companies engaged in the production of goods or provision of services are required to maintain detailed cost records. These records track the utilization of materials, labor, and overheads in manufacturing or service delivery. The applicability depends on industry classification and notification by the central government.
Auditor’s Role
If the company falls under the category where cost records are required, the auditor must examine whether such accounts and records have been made and maintained. The auditor is not required to perform a detailed audit of cost records but must verify their existence and basic adequacy. The absence of such records when mandated constitutes non-compliance, which must be reported.
Statutory Dues
Clause 3(vii) imposes significant responsibility on auditors to verify compliance with statutory dues such as taxes, contributions, and duties.
Regularity of Payment
The auditor must report whether the company is regular in depositing undisputed statutory dues with the appropriate authorities. These include income tax, goods and services tax, provident fund, employees’ state insurance, customs duty, excise duty, cess, and any other statutory levies.
If the company has been irregular in depositing such dues, the auditor must highlight the nature of the dues, the amount involved, and the period of delay. This ensures that companies are not using statutory liabilities as a means of financing their operations.
Arrears of Statutory Dues
The auditor is also required to report on statutory dues outstanding as of the balance sheet date for more than six months from the date they became payable. Disclosure of such arrears is critical for assessing the company’s financial discipline and credibility.
Disputed Statutory Dues
Another area of reporting involves disputed statutory dues. If any statutory dues have not been deposited due to disputes, the auditor must report the amount, the forum where the dispute is pending, and the period to which it relates. For instance, a company may contest a tax demand before an appellate tribunal. The auditor must provide complete details of such disputes in the report.
This clause enhances transparency by ensuring that stakeholders are aware of potential liabilities arising from ongoing disputes.
Default in Repayment of Loans
Clause 3(viii) relates to defaults in repayment of borrowings.
Verification of Defaults
The auditor has to examine whether the company has defaulted in repayment of loans or borrowings or in payment of interest to any lender, including banks, financial institutions, and government. If defaults exist, details such as the lender’s name, the amount overdue, and the period of default must be disclosed.
Impact on Stakeholders
This reporting requirement is of utmost importance to stakeholders, especially creditors and investors. It allows them to assess the creditworthiness of the company and identify early warning signs of financial distress.
Wilful Defaulter Classification
The clause also requires the auditor to report whether the company has been declared a wilful defaulter by any bank or financial institution. A wilful defaulter classification severely impacts the company’s credibility and ability to raise funds. By mandating disclosure, CARO 2020 prevents concealment of such critical information.
Application of Loan Funds
The auditor must verify whether term loans obtained by the company have been applied for the intended purposes. If funds have been diverted, details must be reported. This provision ensures that borrowings are not misused for unrelated activities or diverted for personal benefit of directors.
Short-term vs Long-term Usage
If funds raised on a short-term basis have been used for long-term purposes, the auditor must disclose such instances. This highlights liquidity mismatches and financial mismanagement that could affect the company’s solvency.
Raising of Funds for Subsidiaries and Associates
Where the company has raised funds to meet obligations of subsidiaries, associates, or joint ventures, the auditor must report such facts. This disclosure prevents companies from hiding the true beneficiaries of borrowings.
Utilization of Public Offer and Private Placement Funds
Clause 3(ix) of CARO 2020 focuses on funds raised through public offers and preferential allotments.
Initial Public Offer and Further Public Offer
The auditor must confirm whether the funds raised through an initial public offer or further public offer have been applied for the purposes for which they were obtained. If funds were diverted, details must be disclosed. This requirement strengthens investor protection by ensuring transparency in the use of funds raised from the public.
Preferential Allotment and Private Placement
In cases where shares or convertible debentures have been issued on a preferential allotment or private placement basis, the auditor must verify whether such issues are in compliance with the requirements of the Companies Act, 2013.
The auditor should also check whether funds so raised have been used for the stated purposes. If non-compliance is identified, the auditor must specify the details.
Fraud Reporting
Clause 3(x) significantly enhances the auditor’s responsibility in detecting and reporting fraud.
Identification of Fraud
The auditor must report whether any fraud by the company or any fraud on the company by its officers or employees has been noticed or reported during the year. Fraud may involve misappropriation of assets, falsification of accounts, or manipulation of financial statements.
Nature and Amount
If fraud exists, the auditor is required to specify the nature of fraud and the amount involved. This provides stakeholders with clear insights into the seriousness of the issue.
Reporting by Auditor in Form ADT-4
Where fraud involves directors or officers, the auditor has an obligation to report the matter to the central government using Form ADT-4. The requirement enhances accountability by ensuring that instances of fraud are brought to the attention of regulatory authorities.
Whistle-blower Complaints
The auditor must also state whether any whistle-blower complaints have been received during the year and whether they were considered during the audit. This ensures that concerns raised internally or by stakeholders are not overlooked.
Nidhi Companies
Clause 3(xi) is specifically directed towards companies functioning as Nidhis. These companies operate on the principle of mutual benefit by borrowing from and lending to members.
Net Owned Funds to Deposits Ratio
The auditor must report whether the Nidhi company has maintained the prescribed ratio of net owned funds to deposits. Non-compliance with this requirement could signal that the company is operating in violation of prudential norms.
Default in Payment of Deposits
The auditor must also comment on whether the company has defaulted in payment of interest on deposits or repayment of principal. This ensures that depositors are aware of risks associated with such companies.
Compliance with Rules
Finally, the auditor should confirm whether the company is in compliance with applicable Nidhi Rules. This includes maintaining minimum membership, proper filing with authorities, and following restrictions on deposit acceptance.
Conclusion
The Companies (Auditor’s Report) Order, 2020, represents a major step toward strengthening corporate governance and ensuring transparency in financial reporting. By imposing detailed reporting responsibilities on auditors, it goes far beyond traditional financial audits and brings under scrutiny areas such as property ownership, inventory management, loan compliance, statutory dues, utilization of borrowings, fraud detection, related party dealings, and deposit acceptance.
The clause-wise requirements ensure that auditors do not merely certify the truthfulness of financial statements but also comment on the company’s overall conduct in managing its resources, complying with statutory obligations, and safeguarding stakeholder interests. This strengthens accountability for both management and auditors, thereby building trust among investors, creditors, regulators, and the public.
Through its exhaustive framework, CARO 2020 bridges gaps in earlier audit practices by addressing critical issues such as diversion of funds, irregularities in deposits, defaults in loan repayment, fraudulent practices, and misuse of corporate structures. The reporting format compels auditors to investigate deeper into operational aspects and provide disclosures that can highlight potential risks early.
For companies, compliance with CARO 2020 means adopting stronger internal controls, maintaining accurate records, and ensuring disciplined financial practices. For auditors, it means heightened vigilance, greater responsibility, and the need for professional skepticism while performing audits.
Ultimately, CARO 2020 is not merely a regulatory requirement but an instrument of corporate discipline and transparency. By enhancing the scope of audit reporting, it contributes to strengthening the financial ecosystem of the country and fostering greater confidence in corporate disclosures.