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1(Rev)-CORPORATE GOVERNANCE.

INTRODUCTION TO CORPORATE GOVERNANCE.

INTRODUCTION TO CORPORATE
GOVERNANCE.
The Success of Capitalism created opportunities for Business to grow larger. One driver of this growth for Investors was to unite their Capital (Money) to Fund Extensive Projects and Massive Enterprises. These Investors became Owners of the Business in which they invested, and have come to be known as Shareholders. The Larger Businesses that were created could not be governed effectively by Proprietors and Partnerships for many reasons. Consequently, in the Twentieth Century, the Publicly owned Corporation (Limited Company) emerged as the Dominant form for Business Enterprises. The Corporation has Three Distinctive Features that make it an Attractive Form for defining the Legal Entity of Business: 1) Its Unlimited Life. 2) The Limited Liability of Owners. 3) The Divisibility of Ownership that permits Transfer of Ownership without disrupting the Structure of the Organization.
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INTRODUCTION TO CORPORATE GOVERNANCE (Contd).


Today, the Public Corporation (Limited Company) operates itself as a form of Representative Form of Government. The Owners (Shareholders) Elect Directors as their Representatives to Manage the Affairs of the Business. The Directors, who, as a Group are referred to as the Board of Directors, then Delegate Responsibility to the Chief Executive Officer (CEO), whom they hire. The CEO is Accountable to the Board of Directors, which collectively and individually is Accountable to the Shareholders. In addition to its Role in Selecting the CEO, the Board also advises him on and consents to the Selection of Businesses and Strategies of the Firm as well as Oversees Results. In Sum, this System of Authoritative Direction or Government is known as Corporate Governance.

CORPORATE GOVERNANCE MAKES A DIFFERENCE


CORPORATE GOVERNANCE HAS A PROFOUND EFFECT ON HOW WELL A BUSINESS PERFORMS. WE HAVE OBSERVED THAT BUSINESSES THAT HAVE PROSPERED AND REMAINED PROSPEROUS ARE THOSE THAT HAVE FOUND WAYS TO GOVERN THEIR AFFAIRS EFFECTIVELY SIMILARLY, WITH COMPANIES THAT HAVE PERFORMED POORLY IT IS COMMON TO TRACK PROBLEMS TO BOARDS THAT HAVE NOT EFFECTIVELY ADDRESSED THE ISSUE CONFRONTING THEIR BUSINESS. THE GOVERNANCE MODEL OF A SUCCESSFUL CORPORATION TYPICALLY INCLUDES THE FOLLOWING:1. AN EFFECTIVE BOARD OF DIRECTORS THAT CARRIES OUT ITS

RESPONSIBILITIES WITH INTEGRITY AND COMPETENCE.


2. A COMPETENT CEO HIRED BY THE BOARD OF DIRECTORS AND GIVEN THE AUTHORITY TO RUN THE BUSINESS.
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3.

SELECTION BY THE C.E.O. OF A GOOD BUSINESS (OR BUSINESSES) IN WHICH TO OPERATE WITH THE BOARDS ADVICE AND CONSENT. THIS MEANS A BUSINESS IN WHICH THE FIRM CAN COMPETE EFFECTIVELY AND PROFITABLY IN AN INDUSTRY THAT IS REASONABLY ATTRACTIVE. IT ALSO IMPLIES THAT THE COMPANY HAS THE SKILLS AND RESOURCES NECESSARY FOR COMPETITIVE SUCCESS. A VALID BUSINESS CONCEPT CREATED BY THE CEO AND HIS OR HER MANAGEMENT TEAM, AND AGAIN WITH THE BOARDS ADVICE AND CONSENT .A BUSINESS CONCEPT ENCOMPASSES THE DEFINITION OF THE CUSTOMER(S) TO BE SERVED, THE GOODS AND OR SERVICES TO BE DELIVERED AND THE MEANS OR PROCESSES BY WHICH THESE GOODS AND SERVICES WILL BE DELIVERED. A VALID BUSINESS CONCEPT IS ONE THAT MEETS THE NEEDS OF THE CUSTOMER IN A SUPERIOR AND OFTEN UNIQUE WAY THAT WILL ALLOW THE FIRM TO BECOME AND/OR REMAIN PROFITABLE. APPROPRIATE IMPLEMENTATION OF THE BUSINESS CONCEPT, WHICH NORMALLY REQUIRES THAT: THERE ARE BROAD GOALS THAT SET THE DIRECTION FOR THE ORGANIZATION. THE CEO HAS PLANS AND RESOURCES TO ACHIEVE THE ORGANIZATIONS GOALS AND EFFECTIVELY EXECUTES THE PLANS. THE INTERESTS OF THE BOARD AND MANAGEMENT ARE ALIGNED WITH THOSE OF THE SHAREHOLDERS.
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4.

5.

6.

SYSTEMS TO ENSURE THAT THE ORGANIZATIONS OBLIGATIONS TO ITS MAJOR STAKEHOLDERS CUSTOMERS, EMPLOYEES, CREDITORS, SUPPLIERS, DISTRIBUTORS, THE COMMUNITY AND THE OWNERS ARE MET WITH INTEGRITY AND IN COMPLIANCE WITH APPLICABLE LAWS AND REGULATIONS.

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FULL AND TIMELY DISCLOSURE OF THE PERFORMANCE OF THE BUSINESS TO ITS OWNERS AND TO THE INVESTMENT COMMUNITY AT LARGE.
A BOARD OF DIRECTORS THAT FAILS TO GUARANTEE THAT A SOUND GOVERNANCE MODEL IS IN PLACE AND IS EXECUTED CONSCIENTIOUSLY AND EFFECTIVELY, INVITES THE FAILURE OF THE ENTERPRISE IT OVERSEES. IT IS IMPORTANT TO REMEMBER, HOWEVER, THAT SUCCESS IS NOT JUST A MATTER OF CONFORMING TO THE LEGALITIES OF GOVERNANCE. EQUALLY IMPORTANT IS THE CREATION AND EFFECTIVE EXECUTION OF A VALID BUSINESS CONCEPT.
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THE STAKEHOLDER CONCEPT

THE TEST OF EFFECTIVENESS OF GOVERNANCE IS THE DEGREE TO


WHICH AN ORGANIZATION IS ACHIEVING ITS PURPOSE OUR FOCUS IS TO ADDRESS THE GOVERNING OF PUBLICITY OWNED BUSINESSES (LIMITED COMPANIES), WHOSE PURPOSE IS TO CREATE

AND SERVE CUSTOMERS, THE REWARD FOR WHICH, IF DONE WELL, IS


PROFITABILITY AND ACCOMPANYING INCREASE IN SHAREHOLDER VALUE. ALL BUSINESS ORAGANISATIONS HAVE MULTIPLE STAKEHOLDERS WHOSE NEEDS MUST BE CONSIDERED TO ACHIEVE SUSTAINABLE SUCCESS. IN OUR CURRENT SYSTEM, CORPORATE DIRECTORS ARE LEGALLY, REQUIRED TO REPRESENT THE BEST INTERESTS OF THE COMPANYS SHAREHOLDERS, NOT THOSE OF ALL THE VARIOUS STAKEHOLDERS.

WE FREQUENTLY SEE IN ANNUAL REPORTS AND PRESS RELEASES


THE MANTRA THAT COMPANYS GOAL IS TO INCREASE THE SHAREHOLDER VALUE.
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IT IS TRUE THAT SHAREHOLDERS GENERALLY INVEST IN A BUSINESS TO MAKE MONEY ON THEIR INVESTMENT, BUT THE PURPOSE OF THE INVESTORS SHOULD NOT BE CONFUSED WITH THE PURPOSE OF BUSINESS. IT IS SERVING THE NEEDS OF ITS STAKEHOLDER THAT MOST BUSINESSES FIND THEIR PURPOSES. THE NEEDS OF THE STAKEHOLDERS OF A CORPORATION MIGHT BE VIEWED AS A HIERARCHY, AS DESCRIBED BELOW. 1) AT THE TOP OF THE HIERARCHY OF STAKEHOLDERS IS THE CUSTOMER, WHOSE NEEDS MUST BE MET WITH GOODS AND OR SERVICES THAT DELIVER COMPETITIVE VALUE. IDEALLY BUSINESS SHOULD TREAT THEIR CUSTOMERS IN A FASHION SUCH THAT A MUTUALLY BENEFICIAL AND VALUED RELATIONSHIP IS ESTABLISHED AND MAINTAINED. CUSTOMER SATISFACTION CHARACTERISTICALLY COMES ABOUT BECAUSE A FIRMS BUSINESS PROCESSES ARE DESIGNED TO CONSISTENTLY PRODUCE AND DELIVER THE GOODS AND SERVICES DESIRED BY THE CUSTOMER. THESE PROCESSES INCLUDE THE COMBINATION OF EQUIPMENT AND SYSTEMS (TECHNOLOGY), EMPLOYEES, AND MATERIALS THAT COME FROM SUPPLIERS.
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2)

CONSEQUENTLY, NEXT LEVEL OF HIERARCHY CONSISTS OF THE EMPLOYEES, WHO DEVELOP AND OPERATE THE BUSINESS

PROCESSES.
KEEPING THE EMPLOYEES FULLY SATISFIED AND MOTIVATED IS VERY IMPORTANT, SINCE ONLY SUCH FULLY SATISFIED AND MOTIVATED EMPLOYEES CAN SATISFY THE CUSTOMERS AND RETAIN THEM, WHICH IS THE KEY TO SUCCESS OF A BUSINESS.

3)

EMPLOYEES NEED JOB SATISFACTION, IN ADDITION TO GOOD SALARY, PERQUISITES AND OPPORTUNITIES FOR GROWTH.
THE THIRD LEVEL OF STAKEHOLDERS, WHOSE NEEDS SHOULD BE CONSIDERED CONSISTS OF SUPPLIERS, DISTRIBUTORS & CREDITORS.

4)

THIS GROUP SHOULD TREATED APPROPRIATELY IF THEY ARE TO BE RELIABLE AND COMMITED.
FURTHERMORE, THE BUSINESS MUST MEET THE NEEDS OF THE COMMUNITIES IN WHICH IT OPERATES : THE NEXT LEVEL OF STAKEHOLDERS. THE BUSINESS SHOULD BE A GOOD CITIZEN, HONOURING THE LAWS, PAYING TAXES, PRESERVING ENVIRONMENT, DOING SOCIAL COMMUNITY WELFARE ACTIVITIES. IT FOLLOWS THAT IF THE BUSINESS FULFILLS NEEDS OF ALL THE STAKEHOLDERS, THE INTEREST OF SHAREHOLDERS WILL BE
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WELL SERVED.

UNLIKE OTHER ASIAN COUNTRIES, THE INITIAL THRUST FOR MORE DISCLOSURE AND BETTER GOVERNANCE CAME IN INDIA MAINLY DUE TO THE 1992 STOCK MARKET SCAM AND THE ONSET OF INTERNATIONAL COMPETITION RESULTING FROM THE POLICY OF LIBERALIZATION OF THE ECONOMY IN 1991. IN FACT, THE CONFEDERATION OF THE INDIAN INDUSTRIES (CII) WAS THE FIRST TO APPOINT A COMMITTEE UNDER THE CHAIRMANSHIP OF MR. RAHUL BAJAJ IN 1998 AS A NATIONAL LEVEL PRIVATE INITIATIVE TO EVOLVE DESIRABLE RULES FOR CORPORATE GOVERNANCE.

SUBSEQUENTLY, THE SUBJECT WAS HOTLY DEBATED AMONGST INDUSTRY AND TRADE ASSOCIATIONS, GOVT, AND ACADEMIA.
THIS WAS FOLLOWED BY APPOINTMENT OF AS MANY AS FOUR MORE NATIONAL LEVEL COMMITTEES TWO APPOINTED BY SEBI, NAMELY KUMARA MANGALAM BIRLA COMMITTEE IN 1999 AND N.R. NARAYANA MURTHY COMMITTEE IN 2003, ANOTHER COMMITTEE ON FINANCIAL SECTOR GOVERNANCE, POPULARLY KNOWN AS GANGULY COMMITTEE REPORT IN 2002, AND THE FOURTH COMMITTEE APPOINTED BY THE GOVT. OF INDIA KNOWN AS REPORT OF THE NARESH CHANDRA COMMITTEE ON CORPORATE AUDIT AND GOVERNANCE, IN DECEMBER 2002.
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THIS SHOWS BEYOND DOUBT THAT BOTH INDUSTRY ASSOCIATIONS AND THE GOVT. OF INDIA, ON THE ONE HAND, AND THE BANKING REGULATOR [THE RESERVE BANK OF INDIA] AND COMPANY REGULATOR (SEBI) ON THE OTHER, ARE EQUALLY INTERESTED IN PUTTING CORPORATE GOVERANCE PRACTICES IN INDIA ON AN EVEN PEDESTAL WITH ANYWHERE IN THE WORLD. KEEPING IN VIEW THE ABOVE DEVELOPMENTS AND ALL ROUND AWARENESS OF CORPORATE GOVERNANCE ISSUES IN THE COUNTRY, WE PROPOSE TO BRIEFLY PRESENT THE CURRENT THINKING OF THE CONCERNED AUTHORITIES AND THE GOVERNMENT ON ALL THESE ASPECTS OF CORPORATE GOVERNANCE AS MENTIONED ABOVE.

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CURRENT RULES FOR CORPORATE GOVERNANCE IN INDIA


1. SIZE OF THE COMPANYS BOARD AND ITS TENURE:THE MINIMUM SIZE OF THE BOARD OF DIRECTORS OF ALL LISTED AND UNLISTED COMPANYS WITH PAID UP SHARE CAPITAL AND RESERVES (NET WORTH) OF RS 10 CRORES AND ABOVE OR TURNOVER OF RS. 50 CRORE AND ABOVE SHOULD BE ATLEAST 7 MEMBERS OUT OF WHICH ATLEAST 4 (>50%) SHOULD BE INDEPENDENT DIRECTORS. THE TENURE OF THE BOARD OF DIRECTORS, AS PER K.M. BIRLA COMMITTEE SHOULD BE AS PER INDIAN COMPANYS ACT.

2. i. ii. iii.

INFORMATION TO BE PLACED BEFORE THE BOARD / AUDIT COMMITTEE ANNUAL OPERATING PLANS/BUDGETS AND UPDATES. CAPITAL BUDGETS AND UPDATES. QUARTERLY RESULTS OF THE COMPANY, BY DIVISION, AND BUSINESS SEGMENTWISE. iv. MINUTES OF PRECEDING MEETING MUST BE CONFIRMED IN THE NEXT BOARD MEETING v. DATA ON RECRUITMENT AND PAY OF SENIOR OFFICERS BELOW THE BOARD LEVEL, INCLUDING THE CFO AND COMPANY SECRETARY vi. SHOW CAUSE NOTICES IF ANY vii. FATAL AND SERIOUS ACCIDENTS viii. MATERIAL DEFAULT IN FINANCIAL OBLIGATIONS ix. ANY ISSUE INVOLVING LIABILITY CLAIMS OF SERIOUS NATURE x. DETAILS OF ANY JOINT VENTURE / COLLABORATION AGREEMENT. xi. LABOUR PROBLEMS, SIGNIFICANT SALE OF ASSETS, PROPERTY ETC. xii. QUARTER DETAILS OF FOREX EXPOSURE xiii. NON COMPLIANCE OF ANY STATUTORY OBLIGATIONS. 12 xiv. ANY MATERIAL INFORMATION OTHER THAN ABOVE, LIKE PRESS RELEASES ETC, STATING HOW THE COMPANY IS PROJECTING ITSELF TO OUTSIDERS.

3) PLACE AND PRESIDING OF BOARD MEETINGS :


MOSTLY THESE MEETINGS ARE HELD AT CORPORATE HEADQUARTERS WHERE THE OFFICE OF CEO IS LOCATED. HOWEVER, IF THE BOARD DECIDES TO HOLD SOME MEETINGS OUTSIDE THE HEADQUARTERS THE C.E.O. MAY SO DECIDE IN CONSULTATION WITH OTHER BOARD MEMBERS. OTHER RULES RELATE TO DISCLOSURE ON DURATION OF BOARD MEETINGS/AUDIT COMMITTEE MEETINGS, TELE CONFERENCING AND VIDEO CONFERENCING OF DIRECTORS, ADDITIONAL DISCLOSURE TO DIRECTORS ETC.

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THREE TYPES OF CORPORATE MODELS


THERE ARE THREE TYPES OF CORPORATE MODELS: 1) ANGLO AMERICAN MODEL: PRE-1990 PEROD OWNERSHIP PATTERN WAS DOMINATED BY A LARGE NUMBER OF RETAIL SHAREHOLDERS SCATTERED ALL OVER THE COUNTRY. THERE USED TO BE FULL DIVORCE BETWEEN OWNERSHIP AND MANAGEMENT WITH SERIOUS AGENCY PROBLEMS. POST 1990 PERIOD OWNERSHIP OF COMPANIES WHICH IS GENERALLY EVENLY BALANCED BETWEEN BOTH INDIVIDUAL AND INSTITUTIONAL SHAREHOLDER WITH LESS AGENCY PROBLEM. COMPANIES RUN BY PROFESSIONAL CEOS AND MANAGERS WITH NEGLIGIBLE OWNERSHIP STAKES EXCEPT IN THE FORM OF EMPLOYEE STOCK OPTION. THE INSTITUTIONAL INVESTOR ARE GENERALLY PORTFOLIO INVESTORS LIKE BANK AND MUTUAL FUND WHICH ARE INTERESTED IN QUICK EXIT AFTER BOOKING PROFIT AT THE RIGHT TIME. 2) GERMAN JAPANESE MODEL: IN BOTH THESE COUNTRIES THE INSTITUTIONAL INVESTORS ARE (BANKS & FINANCIAL INSTITUTIONS ARE LONG TERM INVESTORS AND PLAY QUITE AN ACTIVE ROLE IN MANAGEMENT. IN BOTH THESE COUNTRIES THE DISCLOSER NORMS ARE LAX AND CHECKS ON INSIDER TRADING IS NEITHER COMPREHENSIVE NOR EFFECTIVE. SIMILARLY 14 HOSTILE TAKE OVER ARE GENERALLY UNHEARD OF.

3.

THE INDIAN SOUTH ASIAN MODEL : PROMOTER SHAREHOLDERS ARE DOMINANT OWNERS OWNING 33% TO 85% OF THE TOTAL SHARE CAPITAL. THE PROMOTER GROUP HEAD IS GENERALLY THE CEO. THE DISTINCTION BETWEEN OWNERS AND MANAGER IS BLURRED. CAPITAL MARKET REGULATORS (SEBI IN INDIA ) ARE THUS REQUIRED TO TAKE ADDITIONAL SAFE GUARDS, FOR PROTECTING THE INTEREST OF SHAREHOLDER.

OWNERSHIP PATTERN OF SOME SELECTED COMPANIES AS ON 30.6.03

PERCENTAGE HOLDINGS RELIANCE


PROMOTERS HOLDINGS INSTITUTIONAL INVESTORS

TISCO 26.30 32.85

RANBAXY 32.05 36.91

WIPRO 83.95 3.77

ZEE TV 50.49 34.77

HINDALCO 24.37 38.15

GRASIM 20.42 38.23

46.68 28.35

INDIAN PUBLIC
OTHERS ETC) (NRI, OCB

16.56
8.40

32.16
8.69

19.45
11.59

7.03
5.25

9.35
5.39

14.84
22.64

20.98
20.98

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CORPORATE MANAGEMENT & CORPORATE GOVERNANCE.


THE CORPORATE MANAGEMENT OBJECTIVE IS MAXIMIZATION OF SHAREHOLDERS WEALTH OR SHARE HOLDERS VALUE. CORPORATE DIRECTORS ARE LEGALLY REQUIRED TO REPRESENT THE BEST INTERESTS OF THE COMPANYS SHARE HOLDERS. IT IS TRUE THAT SHAREHOLDERS GENERALLY INVEST IN A BUSINESS TO MAKE MONEY ON THEIR INVESTMENT, BUT THE PURPOSE OF THE INVESTORS SHOULD NOT BE CONFUSED WITH THE PURPOSE OF THE BUSINESS. IT IS IN THE NEEDS OF ITS STAKE HOLDERS THAT MOST BUSINESSES FIND THEIR PURPOSES.

A REAL TEST OF GOOD CORPORATE GOVERNANCE IS WHEN THE STAKEHOLDERS WHO ARE LAST IN THE LINE ARE FULLY COMPENSATED AND THEIR WEALTH IS OPTIMIZED IN LINE WITH THE PREVAILING RISK IN THAT INDUSTRY.
THIS CAN HAPPEN ONLY WHEN THE FOLLOWING CONDITIONS ARE SATISFIED.

IMAGE ENVIORNMENT OF A COMPANY IF A BUSINESS FULFILLS THE NEEDS OF ALL MAJOR STAKEHOLDERS, THE INTERESTS OF THE FINAL LEVEL-OWNERS [SHAREHOLDERS] WILL BE AUTOMATICALLY WELL SERVED. 16