Earlier this month, in a landmark decision, the Delhi High Court held that the Comptroller and Auditor General of India (CAG) had the power to audit the accounts of licensed telecom companies in India. The CAG is a Constitutional body mandated to audit the accounts of the central and state governments. This decision is significant given concerted efforts in the last couple of years towards closer scrutiny and greater transparency in the Indian telecom sector, following the 2G scam that eventually led to the cancellation of 122 telecom licenses by the Supreme Court of India.

Indian telecom licensees are granted licenses on the condition that licensees will share a certain percentage of their revenue with the Government. Presently, telecom companies are required to submit quarterly financial statements audited by their own auditors and self-certify the accuracy of the same. At the heart of the dispute before the Delhi High Court is Rule 5 of the Telecom Regulatory Authority of India, Service Providers (Maintenance of Books of Accounts and other Documents) Rules, 2002 (TRAI Rules), which provides that licensees must make their financial statements and information available to the CAG for audit.

While Rule 5 of the TRAI Rules has only been used sparingly since it was introduced, the DoT recently issued letters to two prominent telecom companies, Reliance and Tata, directing them to produce their books of accounts for a verification of revenues by the CAG. These companies challenged the order of the DoT before the Delhi High Court claiming that Rule 5 of the TRAI Rules was ultra vires the Constitution of India since the right of the CAG to audit must be limited to government bodies and cannot extend to private entities.

The Delhi High Court interpreted Article 149 of the Constitution of India strictly, and held that the legislature was free to decide which bodies would be audited by the CAG. While analyzing Rule 5 of the TRAI Rules along with Section 16 of the CAG Act, the Court held that it was the role of the CAG to audit all revenues and receipts payable to the government, and this included any revenues to the government through telecom licenses. While holding that Rule 5 of the TRAI Rules was constitutional and within the ambit of Section 16 of the CAG Act, the Court did, however, sound a note of caution – that Rule 5 cannot be read to mean that the CAG can audit all accounts of the telecom companies – merely those accounts and such information that pertain to receipts by the Government.

This judgment paves the way for a greater role for the CAG in the regulation of private companies in regulated sectors. Similar audits have also been mooted in the power sector. With the revenue sharing model in the offing for the tower industry, it is likely that the ailing tower industry will now come under the scanner of the CAG. Despite the court’s restrictive reading of Rule 5 of the TRAI Rules, given the CAG’s aggressive approach to the review of the operations of these companies, there is real apprehension among telecom companies that this ruling could have dire consequences. If the CAG were to interpret its role widely, it is likely that, in particular, various intra-group arrangements entered into by telecom companies, such as interconnection agreement and bandwidth agreements – often at less than market value – could be strictly scrutinized by the CAG on the grounds of loss of revenues to the government. However, with the telecom operators associations challenging the order of the Delhi High Court in the Supreme Court of India, the final word on this matter remains to be said.

Disclaimer: This article has been authored by Mr. Rahul Matthan, who heads the TMT practice at Trilegal and is based out of Bangalore. The contents of this article are intended for informational purposes only and do not constitute legal opinion or advice. Readers are requested to seek formal legal advice prior to acting upon any of the information provided herein.