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Corporate Governance

An OECD Definition

Dr. Sangeeta Yadav

Corporate

governance involves a set of relationships

between a companys management, its board, its
shareholders and other stakeholders ..also the
str ct re thro
structure
through
gh which
hich objecti
objectives
es of the compan
company
are set, and the means of attaining those objectives
and monitoring performance are determined.
Preamble to the OECD Principles of Corporate Governance, 2004

Separation of Ownership and Managerial Control

An Indian Definition

"Corporate governance is maximizing

shareholder value while ensuring there is
fairness, transparency and accountability to
every stakeholder of a corporate and that is
customers, employees, investors, the
government of the land and the society.

Historically, firms managed by founder-owners and descendants

Small Firms - less separation between ownership and management
control
Family owned Business - As they grow need skills and capital.
Large firms
Separation of ownership and managerial control allows each group to
focus on what it does best:

Shareholders bear risk

Managers formulate and implement strategy

Narayan Murthy

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Separation of Ownership and Managerial Control

Separation of Ownership and Managerial Control

Shareholders

An Agency relationship

Shareholders (Principals)
- Owners

Managers

Hire
Shareholders purchase stock
Entitled to income (residual
returns)
Risk bearing by shareholders
firms expenses may exceed
revenues
Investment risk is managed
through a diversified investment
portfolio

Professional managers
contracted to provide decision
making
Strategy development and
decision making by managers

Managers (Agents)
- Decision Makers
and
Create

An agency relationship
- Risk bearing specialist (principal) paying
compensation to
- A managerial decision-making specialist (agent)
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Separation of Ownership and Managerial Control

Why Corporate Governance?

AGENCY RELATIONSHIPS Information Asymmetry

Managerial opportunism: seeking self-interest with guile
Opportunism: an attitude and set of behaviors
Decisions in managers best interests, contrary to shareholders best
interests
Decisions such as these prevent maximizing shareholder wealth
(diversification, M&A, cash flows, succession planning, remuneration.)
Principals establish governance and control mechanisms to prevent
agents from acting opportunistically.

Corporate Performance

Enhanced Investor Trust

Better Access To Global Market

Combating Corruption

Easy Finance From Institutions

Enhancing Enterprise Valuation

Reduced Risk of Corporate Crisis and Scandals

Accountability

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Ultimately Corporate Governance

Various CG Failures across the World

Ahold NL - earnings overstated

is important for overall market confidence

Enron-USA - inflated earnings, hid debt in SPEs

the efficiency of capital allocation

Tyco USA -looting by CEO, improper share deals, evidence of tampering and
falsifying business records

the growth and development of countries

countries industrial bases,
bases

WorldCom USA- expenses booked as capital expenditure

Ultimately the nations overall wealth and welfare.

Satyam- India

Why has CG gained importance?

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Principles of Corporate Governance

Proliferation of financial scandals and crisis

Corporate governance is based on principles such as:

Loss of trust of investors

Conducting the business with all integrity and fairness,

Globalization - cross-border investment opportunities -investors may not

have knowledge about the regulatory framework.

Being transparent with regard to all transactions,

Making all the necessary disclosures

Investors - not willing to invest in countries/companies that are corrupt,

prone to fraud, poorly managed and lacking sufficient protection for
investors rights

decisions, complying with all the laws of the land, accountability and

responsibility towards the stakeholders

Securities and company law protection may help, but not enough
Corporate Governance supplements the legal framework

Commitment to conducting business in an ethical manner.

Need for those in control to be able to distinguish between what are

personal and corporate funds while managing a company.

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Who should corporate governance really represent?

The outsider or Market Based model

Whether a company should be run solely in the interest of the shareholders

- Outsider (shareholders) model Finance View of Governance maximise
shareholder wealth.
or

Whether it should take account the interest of all constituents - Insider

(stakeholders) model

neoclassical economists

American or British model - based on outside control.

A priority to market regulation

Financial markets reward efficient performance with a rise in share

price.
p

The existence of an active `market for corporate control - takeovers,

particularly hostile ones

The primacy of shareholder rights over those of other organisational

groups

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The insider model

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Global Financial Crisis and CG Failure

Prevalent in Japan and Germany - conception of the company as a social

Systemic Failures of Corporate Governance

institution - priority to stakeholders control

failure of the whole set of regulatory, market, stakeholder and internal governance.

The stakeholders of firms tend to have an enduring interest in the company

Searching for a balance among the distinct company interest groups

1.Regulatory governance failure

Substantial deregulation and lack of regulation in the finance industry in pre crisis
era.

shareholders, workers, clients, suppliers, banks, subsidiaries, local

2.Market governance failure

communities, pressure groups and the like- on part of the executive board.

Joseph E. Stiglitz, a Nobel laureate in economics, points out that when information
is imperfect, markets do not often work well and information imperfections are
central in finance (Stiglitz, 2009, p. 9).

The existence of formal rights for employees to influence key managerial

decisions

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Global Landmarks in the Emergence of Corporate

Governance

Global Financial Crisis and CG Failure

3.Stakeholder governance failure

Developments in USA
Sarbanes- Oxley Act, 2002 - fundamental changes in every aspect of
corporate governance in general and auditor independence, conflict of
interests, corporate responsibility, enhanced financial disclosures and
severe penalties for wilful default by managers and auditors, in particular.

In German and Japanese corporations where banks, employees, suppliers and

major customers exert significant influence on corporate decision-making.
No formal stakeholder governance system in the Anglo-American model.
4. Internal governance failure

Developments in UK

Shareholders are largely reluctant to monitor corporations and passive in attending

shareholder general meetings. Both institutional and individual shareholders do not
behave like owners.

Cadbury Committee
World Bank on Corporate Governance
focuses on the principles such as transparency, accountability, fairness and
responsibility

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Corporate Governance in practice

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Four Pillars of Corporate Governance

1

Accountability - management is accountable to the Board and Board

is accountable to Shareholders

What do the investors expect?

Fairness - Treat all shareholders including minorities, equitably,

redress for violations
violations.

the Code of Corporate Governance Practices

Transparency- Ensure timely, accurate disclosure on financial

situation, performance, ownership and corporate governance.

Independence - Independent Directors and Advisers free from the

influence of others, avoid conflicts of interest

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The Corporate Board

Dimensions of Board Responsibility

Direction involves:
Formulation & Review of Company Policies, Strategies, Budgets and
Plans, Risk Management Policies, Top Level HR Policies, etc.

Central to Corporate Governance

Juxtaposed between Shareholders on the one hand, and on the other,

Managers of the Entity

Follows Distancing between Ownership and Control

Trustee for All Shareholders

Loyalty & Commitment Always to Company

Setting Objectives & Monitoring Performance

Oversight of Acquisitions, Divestitures, Projects, Financial and Legal

Compliance, etc.
Be Accountable at all times to All Shareholders

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Board Composition

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Role of Board of Directors

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Regular meetings

Active participation

Freedom to include items in agenda

Sufficient notice for board meetings

g

Access to advice and services of company secretary and independent

professional advice

Independent non-executive directors should be present at board meetings to

discuss matter involving conflict of interest

Abstain from voting if conflict of interest exists

Insurance coverage in respect of legal action against directors

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2. Chairman and CEO

Chairman of Board

Segregation of the management of the board and the day-to-day

Provide leadership for the board

management of the corporates business

Ensure the board works effectively and discharges its responsibilities

Ensure good corporate governance practices and procedures are in place

Ensure all directors are properlyy briefed on issues arising

g at board meeting
g

Responsible for ensuring appropriate information received by directors

Encourage full and active contribution to the boards affair

Division of responsibilities between Chairman and CEO clearly laid down

Ensure effective communication between board and the shareholders

in writing

Hold annual meetings with non-executive directors

Ensure constructive relationships between executive and non-executive

directors

Balance of power at board level to avoid concentration of power in a

single individual

Separation of Chairman and CEO

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25

Board Composition

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Independent Directors

Balance

Balance of skills and experiences

the often conflicting interests of the stakeholders.

Facilitate

Balanced composition of executive and non-executive directors

withstanding and countering pressures from owners.

Fulfill a useful role in succession planning.

Non-executive directors should be of sufficient caliber

Independent non-executive directors should be expressly identified

Act
A t

List of directors updated and their respective role and function identified

Provide

as a coach,
h mentor
t and
d sounding
di B
Board
d ffor th
their
i ffullll titime colleagues.
ll
independent judgment and wider perspectives.

Lead Independent Director

Internationally, it is considered a good practice to designate an independent
director as a lead independent director or senior independent director.

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Independent Directors

Information access by directors

Corporate Governance Voluntary Guidelines, 2009 recommend that all

Independent Directors should provide a detailed Certificate of Independence at
the time of their appointment, and thereafter annually. This certificate should be
placed by the company on its website also on the website of the stock exchange(s)
(if a listed company).
Clause 149(7) of Companies Bill, 2012 states that every independent director
shall at the first meeting of the Board in which he participates as a director and
thereafter at the first meeting of the Board in every financial year or whenever there
is any change in the circumstances which may affect his status as an independent
director, give a declaration that he meets the criteria of independence.

Directors should be provided with accurate and appropriate information to

discharge their responsibilities

Agenda and board papers should be sent in full in a timely manner to

directors

Information supplied must be complete and reliable

Directors should have access to the senior management for information

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Remuneration of directors and senior management

Remuneration Committee

Remuneration committee to be formed, mainly from non-executive directors

Remuneration should be sufficient but not excessive

Access to professional advice, market comparable information

Each director not to involve in deciding his/her own remuneration

Make recommendation on policy and structure of remuneration

Determine specific remuneration packages of all executive directors and senior

Transparency of directors remuneration policy

management

Review and approve performance-based remuneration

Review and approve compensation arrangement in connection with loss or

termination of office, dismissal or removal of directors for misconduct

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Communication with Shareholders - Effective

communication

Appointment, re-election and removal of directors

Maintain on-going dialogue with shareholders and make use of annual

general meetings or other general meetings to communicate with
shareholders

Re-election at regular intervals

Encourage shareholders participation

Proper explanation for resignation/removal of directors

Ch i
Chairman
off th
the b
board
d and
d chairman
h i
off each
hb
board
d committees
itt
b
be
present in general meetings to answer questions at any general meeting

All directors subject to retirement by rotation at regular interval

Formal and transparent procedure for appointment

Succession plan

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Communication with Shareholders

- Voting by Poll

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Company Secretary

Acts

as a vital link between the company and its Board of Directors, shareholders
and other stakeholders and regulatory authorities

Inform shareholders about procedure for voting by poll

Ensure proper compliance to regulatory requirement about voting by poll

Plays a key role in ensuring that the Board procedures are followed and regularly
reviewed

Provides

the Board with guidance as to its duties

duties, responsibilities and powers
under various laws, rules and regulations

Acts

as a compliance officer as well as an in-house legal counsel to advise the

Board and the functional departments of the company on various corporates,
business, economic and tax laws

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Accountability and Audit - Financial Reporting

Board Committees

The board should present comprehensive assessment of the corporates

performance, position and prospects in annual and interim reports,
price-sensitive announcements and other financial disclosures

Conduct regular reviews of the effectiveness of the internal control

y
, covering
g financial,, operational,
p
, compliance
p
and risk
system,
management control functions

Prevent fraud, corruption, and malpractices

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37

Audit Committee

Composition of Audit Committee

Oversight of the companys financial reporting process and the disclosure

of its financial information to ensure that the financial statement is correct,
sufficient and credible.
Monitor the effectiveness of the audit process, ensuring auditors
independence and objectivity

Full minutes of audit committee to be kept

Provided with sufficient resources to discharge its duties

Independent from external auditors

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The audit committee shall have minimum three directors as members. Two-thirds
of the members of audit committee shall be independent directors.

All

members of audit committee shall be financially literate and at least one

member shall have accounting or related financial management expertise.

The

Chairman of the Audit Committee shall be an independent director;

The

audit committee may invite such of the executives, as it considers

appropriate (and particularly the head of the finance function) to be present at the
meetings of the committee

The

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Company Secretary shall act as the secretary to the committee.

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Corporate Governance - The Indian Perspective

Regulator of Corporates in India

Corporates (MCA)

Unique challenges for corporate governance.

Capital Market and Stock Exchanges (SEBI)

The institutional environment in India characterised by family and

government ownership,

Money Market and Banking (RBI)

Weak legal investor protection

Insurance Life and Non life ((IRDA))

Lack of active market for corporate control

Foreign business (FIPB)

Imports and Exports (FEMA, DGFT)
Intermediaries, Banking Companies and Insurance business (FIU-India)
Professions (Professional Institutes like ICSI, ICAI etc.)

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Various Measures on corporate governance

Companies

Act, 1956

Confederation

Mangalam Birla Committee report (1999)

Naresh

Chandra Committee report (2002)

N.R.

Narayan Murthy Committee report (2003)

Voluntary

Code of Corporate Governance Guidelines 2009

Companies

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of Indian Industries Code (1998)

Kumar

Act 2013

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Confederation of Indian Industry (CII)- Desirable Corporate

Governance: A Code - 1998

KUMAR MANGALAM BIRLA COMMITTEE (2000)

SEBI set up a Committee under Kumar Mangalam Birla to promote and raise
standards of corporate governance.
Led to inclusion of Clause 49 in the Listing Agreement in the year 2000.
These recommendations were divided into mandatory and non-mandatory
recommendations
recommendations.
Companys annual report to shareholders should contain a Management Discussion
and Analysis (MD&A) section

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NARESH CHANDRA COMMITTEE (2002) Appointed by

MCA

Clause 49- Introduced mandatory CG

Indian Code of Corporate Governance, approved by the Securities and Exchange Board of
India (SEBI) in early 2000 especially Clause 49 of the Listing Agreement.

Prior to adoption of Clause 49, India corporate governance mechanisms were not at par with
world standards.

Clause 49 is modelled on the basis of the Sarbanes Oxley Act of 2002 which was introduced
by the Securities Exchange Council (SEC) for companies listed in the US Stock Exchanges.

The key features of Clause 49 regulations deal with:

Composition of the board of directors

Composition and functioning of audit committee

Governance and disclosures regarding subsidiary companies

Chief executive officer / chief financial officer certification and

Reporting on corporate governance as part of annual report

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In the wake of the Enron scandal and the adoption of the Sarbanes-Oxley Act in the
United States, SEBI formed the Narayana Murthy Committee .
This committee laid down strict guidelines defining the relationship between
auditors and clients.
The committee focused heavilyy on the role and structure of corporate boards and
strengthened the director independence definition in the then-existing Clause 49,
particularly to address the role of insiders

Main difference between the Sarbanes Oxley legislation and Clause 49 is the power to
prosecute.
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N.R. NARAYANA MURTHY COMMITTEE (2003) by SEBI

In the year 2002, SEBI analyzed the statistics of compliance with the clause 49 by
listed companies and felt that there was a need to look beyond the mere systems
and procedures if corporate governance was to be made effective in protecting the
interest of investors.

C II Co de re com m end ation s

(19 98 )

B irla Co m m itte e (SEB I)

rec om m end ations (199 9)

N ara ya na M urth y com m ittee

(SE B I) rec om m e nd ations (200 3)

( a ) C o mp an ie s sho u ld in fo rm t hei r
s hare h o lde rs a b o ut t he h ig h an d
l o w mo n th ly a ve ra g e s o f t heir
s hare p rice s a nd a bo u t sha re ,
p e rfo rm an c e a n d
p ro sp e c ts of m a j or b u si n ess
s eg m e n ts (exce e d in g 1 0% o f
t u rn ov er).

(a) C o mp a n ies sho u ld pr ov id e

co n so lid a ted a c co un ts fo r
sub sid ia ri es w h ere th ey h a ve
maj or ity shareh o ld in g.

( a )M an a ge m e n t sh ou ld exp lai n an d
j u st ify any de v ia t io n fro m
ac co u nt ing sta n da r ds in
f in an cia l st at emen ts

(b) D isc lo sur e l ist p erta in in g t o

r el ate d p arty tran sacti o ns
pro v id e d b y co m m it te e t ill IC A I
no rm s are es tabl ish ed .

( b) C o mp a n ie s sh ou ld m ov e to w a rds
a re g im e o f un q ua li fied fin an c ial
s ta tem ent s.

( b) C o nso li da ti on o f gro u p
ac co u nt s o p tio n al a nd su bj ec t t o
F Is an d IT dep a rtm e n ts
assessm en t n or ms. If a c om p an y
co n sol id a te s, no nee d to an n ex
s ub sid ia ry acco u nt s bu t th e
d e fi nit io n o f gr ou p sh o u ld
i n cl ud e pa re n t a n d su b sid ia ries

(c)A m a nd a to ry M a n a gem en t
D isc u ssio n & A n a ly sis se gm e n t o f
an n u al repo rt th a t i nc lu d e s
di sc ussio n of i nd u stry stru ctu re
an d dev e lo p men t, o pp o rtu n iti es ,
th re at s, o u tlo o k, ri sks e tc . as w e ll
as fi nan c ial a n d o p er at io nal
( c )St oc k Ex c ha n ge s sh o ul d re q ui re pe rfo rm a n ce an d m a n a geri a l
co m p lia n ce c e rti fica te fro m C EO s de v e lo pm en ts in H R / IR
an d C F O s on com p any a c cou n ts
(d) M a n agem e n t sh ou ld in fo rm
( d) F o r c om p a ni e s w ith paid -u p
bo ard of all po ten tial c o n flic t o f
ca p it al ex c ee di ng R s. 2 0 c ro re ,
in te rest situ a ti on s
d i scl osu re n or ms fo r d o me st ic
i ssu es sh o ul d b e sam e a s th os e fo r (e) O n (r e) ap p o int m en t o f
G D R issu e s.
di re ct or s, sh a re h ol ders m u st b e
in for med o f th e ir re su me ,
ex p e rtise , an d n a m es o f com p an ies
w he re th e y a re d ire cto rs.

Role and responsibility of audit committee and quality of financial disclosure.

Board members should also receive training in the companys business model
Quarterly reports on business risk and risk management strategies

( c )M an a ge m e n t sh ou ld p rov id e a
cl e ar d e sc rip tio n , fol lo w ed b y
au d ito r s co mm e n ts,
o f e a ch m a teri al c on tin g e nt l ia b ilit y
an d its risk s.
( d) C EO / C F O cert ifica ti on of
k n ow le d ge , ve ra cit y an d
co m p rehen siv e ne ss o f fin a nc i al
s ta tem ent s an d di rec t ors re p o rts
an d affi rm at io n o f m a in ta in in g
p ro p e r in te rn al co n tro l as w e ll a s
ap p ro pr iate di scl osu re to aud it ors .
( e ) Se c ur ity an a ly sts m u st d isclo se
t h e rela ti o nsh ip of t he ir em p lo y e rs
w ith th e cl ie nt co m p a ny a s w e ll as
t h ei r ac t ual o r in te n d ed
s hare h o ldi n g in th e c l ient co m p an y.

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Accounting Standards Framework

Revised Clause 49 by SEBI 20014

Made major changes:
Definition

of independent directors,

strengthening
Improving

The Institute of Chartered Accountants of India (ICAI) plays a pivotal role in laying
down Accounting Practices and Standards for Indian corporates to follow.

the responsibilities of audit committees

Although corporate accounting principles are moving towards harmonised

international accounting practices and disclosure is improving
improving, certain gaps still
need to be filled in.

quality of financial disclosures,

requiring

Boards to adopt formal code of conduct,

requiring

CEO/CFO certification of financial statements and for improving

Indian Accounting Standards though differ from IFRS (International Financial

Reporting Standards) in many ways are inspired by the US GAAP.

disclosures to shareholders.
Certain

non-mandatory Clauses like whistle blower policy and training of board

members have also been included

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Companies Law 2013

India Board Report 2015-16

The Companies Act is the single most important legislation regarding corporate

According to Board Effectiveness and Corporate Governance in India:

India. It encompasses most functional aspects of public limited companies. The

independent directors.

recommendations of various committees on corporate governance have also aimed

at reforming this Act to incorporate specific governance provisions related to

About 25 per cent of listed public sector companies in India do not have

Nearly 97.5
97 5 per cent of independent directors don't have roles defined at the time
of appointment.

independent directors and audit committees.

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International comparison

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Latest

To safeguard minority shareholders' interests and promote capital markets as a key

According to a World Bank study Doing Business 2014, India ranks 34th

platform to raise funds, G20 and OECD in September 2015 came out with new

worldwide in terms of investor protection an important indicator of corporate

corporate governance principles for listed companies and regulators in all member

governance--across all countries considered.

considered

countries,, including
g India.

It has fared better than China, Brazil and Russia

Consequently, regulators and policymakers across the world, including SEBI in

India, will update their regulations for the listed firms in line with the new code.

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The Way Forward

A good corporate governance system in a free market economy is a systemic

integration of regulatory governance, market governance, stakeholder governance
and internal governance, with sufficient flexibility for dynamic variations of governing
modes and mechanisms in different times and contexts.
cur-rent corporate governance reforms must break up the established and
entrenched paradigmatic constraints set by neo-liberal economic and political
ideology and transform the conventional modes of thinking in corporate governance
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