3.18 Query
Interpretation of some provisions of Schedule VI to the Companies Act, 1956-4. An industrial development corporation is a Private Ltd. Co. registered under the Companies Act, 1956.
The main objects of the company are: -
(i) Financial assistance to industry; and
(ii) Direct promotion of selected industries. In pursuance of its objectives of financial assistance to industry, the company has been rendering assistance to Industrial Undertakings in a specific area, by way of participation in share capital, underwriting of issues of share capital, debentures etc and also by way of advancing loans. The underwriting commission and brokerage earned by the company in respect of its underwriting operations are treated as income of the company and taken credit for in the Profit and Loss Account every year, under the following circumstances: -
(1) This income accrues as a result of the Company’s obligations arising from underwriting contracts and as such is to be shown as income in the Profit and Loss Account to comply with the provision of Part II of Schedule VI to the Companies Act, 1956.
(2) This is treated as Income by the Income-tax Department and tax is levied on this income.
(3) Similar Financial Institution in the country like I.C.I.C. of India Ltd., Industrial Finance Corporation of India, State Financial Corporations and Industrial Development Corporations in other states whose objects and functions are similar to those of this company are also treating this income as their income in their Profit and Loss Accounts. This procedure is being objected to by the Government Auditors as according to them, this income should not be taken credit for in the Profit and Loss Account but is to be deducted from the cost of the Investments which the Company is forced to make to fulfil the terms of the underwriting contracts.
The opinion of the Committee is solicited as to whether, in the circumstances of the case, the underwriting commission and brokerage can be correctly deducted from the cost of investments instead of showing them as income in the Profit and Loss Account as required by the provisions of Part II of Schedule VI to the Companies Act, 1956.
Opinion October 29, 1969
1.It is emphasised that the answer to this query is based upon the facts and circumstances of the case as indicated by the querist. In answering the query, the Committee was also influenced by the purpose for which the State Industrial Development Corporation entered into underwriting transactions as indicated in the papers submitted by the querist. It is therefore, emphasised that the answer to this query is not to be considered as a general statement of accounting principles relating to the question of treatment of underwriting commission and the valuation of investments in the hands of an underwriter. The Committee recognises that there are alternative methods of dealing with these matters in the accounts, and that each case has to be considered on its own facts and circumstances. 2.According to the facts submitted by the querist, it is one of the primary objects of the State industrial development Corporation, to develop industries. The methods adopted for this purpose include investment in, as well as underwriting the public issues of, industrial companies. 3. Having regard to these primary objects and the facts and circumstance indicated in the query, the Committee is of the opinion that it would not be wrong for the Corporation to account for underwriting commission in the manner adopted by it in its accounts. In arriving at this opinion, the Committee has taken into consideration the fact that the various establishment expenses of the Corporation have been debited to revenue. One of the purposes for which the establishment expenses are incurred is the performance of the underwriting functions of the Corporation and it is therefore appropriate-on the accounting principle of matching costs with revenues-that the income from such underwriting transactions should go to the credit of revenue account. The committee also felt that, since one of the purposes of the Corporation is investment in industrial equities, this purpose is duly reflected by stating the shares acquired by the Corporation at their cost value without any reduction for the underwriting commission earned by the Corporation. At the same time, the Committee felt that care should be taken to ensure that the aggregate market value of the quoted investments is not significantly lower than their cost, so that the value of investments at the gross cost thereof without any deduction for underwriting commission cannot be regarded as unreasonable have regard to the market value of these investments. In arriving at this conclusion, the Committee had a regard to the figures relating to the aggregate cost and aggregate market value of quoted investments as submitted by the querist and it is therefore again emphasised that the opinion expressed in this paragraph is based on the facts of the case submitted by the querist. 4.In arriving at its opinion, the Committee also had regard that there are no special provisions in the Articles of Association of the corporation or in the statute on the treatment of underwriting commission and the valuation of investments obtained through the process of underwriting. Obviously, if there were any such provisions in the Articles or Statue, they would have to be taken into consideration. 5.It is also emphasised that the Corporation should give adequate recognition to the need for suitable disclosure in its financial statements relating to the mode of valuation of its investments. 6.Since the Committee has expressed the opinion that it is not wrong or the Corporation to take credit in its revenue account for the underwriting commission earned by it, having regard to the facts, and circumstances of the case as disclosed by the querist, it follows that the brokerage earned by the Corporation through introducing public applications for shares is clearly an item of income which should, a fortiori, be taken to the credit of revenue.
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