Solvency clause spikes buyback plans

Their contention, which has found favour in legal circles as well, is that there is no way in which an auditor can certify that a company will not go bust in thenext 12 months. "There can be a war or an earthquake or a drastic change in policy which could dramatically alter the fortunes of a company. How can an auditor ensure solvency of a company in the event of any of these events taking place," said a leading chartered accountant. Sources said that SEBI has already been petitioned by the Institute of Chartered Accountants to take a look at the problems associated with the solvency clause.

SEBI sources said that ICAI has asked the regulator to clearly outline the parameters under which a solvency certificate would be issued. "They feel that they cannot issue such a blanket solvency certificate. They can issue it only under certain conditions and things like natural calamities would need to be excluded. We are studying the recommendations of the ICAI," said a top SEBI source.

The idea behind having the solvency clause was to ensure that a company does not undertake buyback if it is in a precarious financial position. "The money that the company spends to buybackits shares should not result in it going insolvent. This could cause great harm to the shareholders who stay on with the company," said a source. Sources in VSNL, which has lined up a 7-million share buyback plan which might be undertaken after its on-going GDR issue, said that the solvency certificate is proving to be a stumbling block.

"We are almost through with most of the requirements for effecting the buyback of shares but the solvency certificate is proving to be a stumbling block. We plan to take up the issue with SEBI," said a source close to Essel Packaging, one of the few companies which is close to making a buyback offer.

However, certain clauses, like the one which does not allow a company to issue any fresh equity for a period of 24 months from the date of buyback and now the solvency certificate issue, have ensured that not a single company has been able to make a buyback issue despite the fact that over a 100 companies had already sought their shareholders nod.

The guidance Note on TermsUsed in Financial Statements (Guidance Note 1) explains Going Concern Assumption as "an accounting assumption according to which an enterprise is viewed as continuing in operation for the foreseeable future. It is assumed that enterprise has neither the intention nor the necessity of liquidation or of curtailing materially the scale of its operations." If, as is claimed, the possibility of an earthquake or similar natural calamity stands in the way of "carte blanche" certificate, how is it that the auditors certify sales tax deferment loan or for that matter every other item including deferred expenses and debtors/creditors also? Deferred loan is for a period longer than a year. Even credit-rating agencies rate instruments for a period longer than a year.