The Audit Committee plays a pivotal role in enhancing the accountability and strengthening the integrity of a company’s financial reporting and corporate governance framework. The Companies Act, 2013, and the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 ("SEBI LODR Regulations") govern the regulatory requirements for Audit Committees. This blog aims to provide a detailed understanding of the applicability, composition, functions, and importance of the Audit Committee in the Corporates.

What are the provisions related to the applicability of the Audit Committee?

The Companies Act, 2013: Section 177 of the Act mandates the constitution of an Audit Committee for:

• Every listed public company,
• Every Public company with:
  • Paid-up share capital of Rs. 10 crore or more, or
  • Turnover of Rs. 100 crore or more, or
  • Outstanding loans, debentures, and deposits exceeding Rs. 50 crore.

As per estimates, more than 15,000 companies in India meet these thresholds and are required to constitute an Audit Committee under the Act.

The SEBI LODR Regulations, 2015: Regulation 18 of the Regulations mandates the formation of an Audit Committee by all listed entities. As of March 2025, there are about 7,500 listed companies. They are all subject to SEBI’s stricter governance norms regarding Audit Committees.

What should be the composition of the Audit Committee?

The Ministry of Corporate Affairs (MCA) has a growing pool of Independent Directors. Over 34,000 individuals are registered as Independent Directors with the MCA. Thus, the companies have access to a wide database to appoint competent & talented independent directors.

What are the role and responsibilities of the Audit Committee?

The roles and functions of the Audit Committee are defined under both the Companies Act and the SEBI Regulations. Some of the key responsibilities include:

1. Review of Financial Statements:
   • Review quarterly and annual financial results before submission to the Board for approval.
   • Ensuring that the financial statements comply with applicable accounting standards and regulatory requirements.
   • Monitoring the financial reporting process to ensure the accuracy and integrity of financial statements.

2. Review of the Internal Control System and Audit Mechanism:
   • Evaluate internal financial controls and risk management systems.
   • Review the adequacy of the internal audit function, scope of audit, reporting structure, and frequency of audit.

3. Monitoring Related Party Transactions:
   • Approval of transactions with related parties and any subsequent modification to transactions.
   • Ensuring transparency in related party transactions, such as reasonability, arm's length pricing, etc., and these transactions are in the interest of the company.

4. Appointment and oversight of Audit functions:
   • Recommending appointment, reappointment, removal, remuneration, and terms of appointment of auditors.
   • Reviewing the independence, performance, and effectiveness of the statutory auditors.
   • Approving any non-audit services provided by the statutory auditor to ensure that the auditor’s independence is not compromised.

5. Monitoring Vigil Mechanism:
   • Establishing and overseeing a whistle-blower mechanism for directors and employees.
   • Ensuring that concerns regarding unethical behaviour or fraud are addressed appropriately

6. Review of Loan & Investments
   • Scrutiny of inter-corporate loans and investments to ensure compliance with the applicable provisions and that the terms of such transactions are appropriate and reasonable.
   • Monitoring the end use of funds raised through public offers, etc., to ensure that the fund is utilised for the purpose for which it is raised.

7. Ensuring Compliance with Legal and Regulatory Requirements:
   • Reviewing statutory compliances and ensuring that the company complies with all applicable legal and statutory requirements.
   • Examination of the auditor’s report and management responses on compliance and any legal matters that could significantly impact the financial statements.

What is the importance of the Audit Committee in Corporate Governance?

The Audit Committee is a cornerstone of Corporate Governance of a company. It brings transparency, accountability, and integrity in a company’s financial & operational processes. An efficient & strong Audit Committee strengthens the overall credibility and reliability of a company’s financial disclosures. Its independent oversight helps in mitigating financial misstatements and fosters a transparent, accountable environment. Its significance is underscored by various regulatory frameworks like the Companies Act, SEBI’s clause 49, and guidelines issued by the Institute of Chartered Accountants of India.

Audit Committees can contribute to good corporate governance by:

• Enhancing Board Oversight: By acting as a bridge between management and auditors.
• Strengthening Transparency: Through periodic review of financial statements and audit observations.
• Ensuring Ethical Conduct: Through monitoring related party transactions and promoting whistleblower protection.
• Risk Mitigation: By evaluating risk management and internal control frameworks at regular intervals.

What are the major challenges in the functioning of the Audit Committees?

Despite their significance and powers, Audit Committees often face challenges such as:

• Lack of adequate financial or sector-specific expertise among members.
• Inadequate time and information for effective decision-making.
• Dependence on management for data and disclosures.
• Difficulty in detecting complex financial fraud without expert support.

These challenges can be mitigated through continuous training, access to independent counsel, and a robust internal control framework.

What are the best practices to ensure the effective functioning of the Audit Committee?

1. Comprehensive Charter: A well-defined scope of responsibilities and authority for the Audit Committee is essential, as it provides clear direction and helps avoid any confusion regarding the Committee's functioning..
2. Regular Meetings: The Committee's meetings should be held regularly with clear and specific agendas, enabling focused discussions on matters within its purview and avoiding digression into unrelated topics.
3. Access to Experts: There may be areas requiring consultation with subject matter experts; therefore, having the capability and ready access to external expert advice when necessary is crucial.
4. Transparent Communication: Open lines of communication with management, the internal auditor, and the statutory auditors are essential to establish clear expectations for the Committee and provide guidance to both management and the auditors.
5. Continuous Training: As the Audit Committee is responsible for ensuring statutory compliance, it must stay updated about the latest regulatory changes. Periodic updates and training on regulatory developments, financial matters, and industry trends can greatly help the Committee members to remain abreast of all the latest changes and discharge their duties effectively.

Conclusion

The Audit Committee is not just a statutory requirement, it is a foundation of corporate governance in any organisation. Its independence, financial acumen, and strategic oversight play a pivotal role in building stakeholders’ trust and maintaining long-term business integrity. It is well recognised that companies that invest in a proactive, empowered, and well-functioning Audit Committee are better positioned to navigate regulatory complexities, manage risks, and deliver sustainable value to shareholders.

Frequently Asked Questions (FAQs)

1. Is the formation of an Audit Committee mandatory for private companies?

No, the formation of an Audit Committee under Section 177 of the Companies Act, 2013, is not mandatory for private companies unless they meet the prescribed financial thresholds applicable to public companies.

2. Can an executive director be a member of the Audit Committee?

Technically, it is permissible under the Companies Act. However, the executive directors (who are part of management) should not become members of the committee. Appointing such an executive director as a member of the committee may compromise the independence of the committee.

3. How often should the Audit Committee meet?

As per SEBI LODR Regulations, the Audit Committee should meet at least four times a year with a gap of not more than 120 days between two meetings.

4. What is the role of the Audit Committee in fraud detection?

The Audit Committee plays a preventive and supervisory role in fraud detection by evaluating internal controls, reviewing audit reports, and ensuring prompt action on suspected fraudulent activities.

5. Can the Audit Committee recommend the removal of the statutory auditor?

Yes, the Audit Committee can recommend the removal or replacement of the statutory auditor to the Board, who in turn takes the matter to the shareholders for final approval, subject to regulatory compliance.

How can we assist you?

At Jayesh Sanghrajka & Co. LLP, we are a team of experienced Chartered Accountants with expertise in Corporate Laws and SEBI LODR compliance. Our professionals are well-equipped to guide companies in understanding and effectively implementing the regulatory provisions related to Audit Committees. Our advisory services can help ensure alignment with best practices and statutory requirements, developing stronger governance and risk management frameworks.