Securities Laws
(1) The Confederation of Indian Industry (CII) has issued a
draft Corporate Governance Code (‘the Code’). The Code has importance for
certain reasons. The fact that the topmost of thinkers, who are usually
associated with drafting of such Codes or law, makes it almost certain that it
will receive wide acceptance and get included in forthcoming amendments in law.
Those thinkers amongst others include Naresh Chandra, Dr. J. J. Irani, our past
President Y. H. Malegam.
(2) The Code represents a fresh and innovative approach and
after almost a decade of trial and error where mostly foreign models were
adopted, this Code now takes into account some essential unique features of
Indian listed companies.
(3) The Code however, comes at a time when the concept of
corporate governance is being viewed with cynicism. Both Enron and Satyam were
perfect and award-winning companies for adopting best corporate governance
model. Everything was done right in having the finest and reputed persons as
Independent Directors, members of Audit Committee, to having top audit firms,
etc. — and everything went horribly wrong.
(4) What I find special is that the Code finally recognises
that India has unique features. Most of Indian companies are promoter-controlled
and managed with the Promoters having either
substantial or majority holding. This is in contrast with US and other Western
companies where the holding of the management is often in single digit and even
this holding is not concentrated in a single family
or group but is often dispersed. The Code specifically comments that in India,
typically, the Promoter Group/family holds at least 50% of the voting capital.
With such dominant promoter holding and control the problems and issues of
governance are very different from companies where the Promoter holding is
barely a small percentage. Hence, if the problems are different, the solutions
have to be different. Adopting Western Corporate Governance models and concepts
make them not only inappropriate in the Indian context, but creates resistance
and results only in paper acceptance. This ‘box-ticking’ acceptance, in the
author’s view creates a false sense of assurance. A good example of such
difference relates to the recom-mendation of having separate offices of Chairman
and CEO. In Western countries, the CEO typically does not belong to a Promoter
group and there is a need to have a check on him, since it is often found that
malpractices originate from this office. If the CEO is also the Chairman,
considerable power gets concentrated in one person as compared to other
directors and officers. In India, the power is concentrated with the Promoters
and the CEO and Chairman are often from the Promoter group and, if not, they are
often effectively nominated by such group. Requiring that these two offices are
separated in India, firstly, does not serve any purpose and, secondly, creates
practical problems of requiring a non-promoter as ‘Chairman’ which could be
counter-productive. Take an example of, say, a company such as Bajaj Auto or
Reliance Industries. The company would be forced to have a Chairman
from the non-promoter group. The CII Code recog-nises this anomaly and unique
Indian conditions and notes that this does not make total sense in India. At the
end, though, it makes a compromise and instead of recom-mending that the present
requirement be wholly dropped, it only suggests that wherever possible, the two
offices should be separated.
(5) Having said that, the CII Code strangely contradicts
itself and instead of consistently taking a total Indian approach, the Code, for
several important requirements, recognises the Indian differences but still,
recommends following of foreign models.
(6) Let us now examine some important requirements of the
Code.
(f) The Code recognises the present problem that while a relatively new concept of Independent Director has been introduced for adoption by all listed companies, there are no special provisions for their rights, duties, and remuneration.
g) Perhaps realising that the law may or may not make provisions for these matters and makes a unique suggestion of making the obligations, duties, etc. contractual by appointment letters. The Code further makes an interesting requirement that the details of this appointment letter be disclosed to the shareholders at the time of their appointment.
h) Thus, the duties and obligations will not only be transparent, but to a certain degree can even be enforced, albeit through the Company. In a way, this requirement fills in the lacuna in law.
Remuneration of Independent Directors :
i) The Code recognises a special problem in India and that is the statutory limits on managerial remuneration. As may be recollected, in India, the maximum remuneration is linked as a percentage of profits, though certain minimum remuneration can be paid under certain circumstances. This archaic requirement creates problems even for Independent Directors since particularly for loss-making companies or companies with inadequate profits, payment of reasonable remuneration may become difficult. The Code recommends that the law be amended to make suitable exceptions.
j) Of course, the remuneration issue is anomalous from a different angle. Pay too less remuneration and the Independent Director is not available even for appointment. Pay too much and the Independent Director loses his independence! Actually, the root problem also is that the remuneration is effectively decided by the Promoters, but this issue is not seriously addressed by the Code.
Audit Committee :
The Code rightly says that the recent amendment in clause 49, whereby only the majority of the Audit Committee members need to be Independent Directors, is unwarranted. Thus, the Code makes a valid suggestion that the Audit Committee should consist only of Independent Directors.
Another important recommendation is that all related party transactions should be pre-approved by the Audit Committee.
Auditors :
There are several recommendations in respect of Auditors that may be found radical but realistic also. There are numerous requirements made and a more detailed study would be required. A few of the requirements are highlighted.
The Code recognises audit firms often have networking arrangement or relations with group or other entities that render non-audit services. When such group entities render non-audit services, the independence of the audit firm may be compromised and at the very least, the fees paid to such firms should be taken into account while determining whether the audit firm is independent and for disclosure and limits on such other revenue by such related entities.
The Code also recognises that if the audit firm is unduly dependent on one group for its fees, then its independence could be lost. The Code places, however, a fairly low benchmark of 10% of the total revenues of the audit firm for calculation whether the firm is dependent on a group.
The Code also suggests a requirement of ‘audit partner rotation’ and also of the audit team.
The Code makes the radical requirement of creating unlimited auditor liability and also specifically makes the requirement that all the partners of the audit firm and not merely the signing partner should have unlimited liability. If the audit firm is a limited liability partnership, still, the Code says, the audit partner should have unlimited liability for at least the audit under question. One will have to see how far this recommendation will be effective unless statutory provisions and not mere corporate governance codes or even contractual terms seek to create such unlimited liability.
Then the Code raises issue regarding the numerous disclaimers and varying drafting of qualifications in the audit report. The Code recommends that the ICAI involve outside nominees, particularly government representative, and come out with requirements to avoid this.
There are several other recommendations in the Code. While suffering on some counts, the Code attempts to inject some fresh life and practical use-fulness in corporate governance requirements.
