Presentation on Corporate Governance and Independent Directors (Companies Act, 2013)

1. Corporate Governance & ID’s
By CS Mamta Binani
Past Chairperson (Year 2010), EIRC of ICSI
At ASSOCHAM
mamtab@mamtabinani.com
dated : 14.01.2014
Room No.6, 4th Floor, Commerce House
2A, Ganesh Chandra Avenue, Kolkata 700013
Connect me @ : (033) 3028 8955-57; (033) 3002 5630-33; 98310 99551
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2. Corporate Governance
………………No More a Style
Statement

3. • India’s
Ancient Proverb
situation is best explained by
the proverb, “A fish rots from the head
down.”
• When
the head is putrid, the body
politic/ company cannot be healthy.

4. Let us straight go to real and live
cases-erstwhile SATYAM
• IT
•
•
company Mahindra Satyam had filed a lawsuit
against founder and former Chairman of Satyam
Computer, Ramalinga Raju along with some exemployees and former auditor Price Waterhouse in
Hyderabad court seeking damages for committing
fraud, breach of fiduciary responsibility, obligations
and negligence in performance of duties
Top corporate lawyers had termed that as “first of its
kind”
According to media reports, the damages sought was
estimated to be as high as $200 million

5. Continued…
• Leading corporate tax lawyer and Supreme
Court
advocate,
Mr
H.P.
Ranina,
told Business Line that the main reason
behind the suit seemed to be the new
management's (led by the Mahindra Group)
interest in recouping the losses incurred by
the company due to the alleged accounting
fraud.

6. WILL WE LIKE TO BE THE SCAPE
GOAT!!??
• To quote further-Significantly, the other fall-out would
•
be on directors. “Due to the possibility of such civil
suits, not many people will now be ready to take up the
offer of joining the board of companies as directors as
these liabilities will be much more than the negligible
amount that they are offered as fees.”
Another corporate lawyer, speaking on condition of
anonymity, said the case seems to be ‘unprecedented',
adding that nothing in law stops the company from
ensuring that it recovers all its money from the
‘fraudsters'.

7. Still find it SHOCKING!!
• The scale of irregularities was and is indeed a shock
•
•
from which the financial world did take some
considerable time to recover.
Here was a company with more than 50,000
employees, offices in more than 60 countries, a multilayered professional management, more than 650
clients (one third of which were Fortune 500
companies), a pedigreed Board
A company that was very well tracked by sell-side and
buy-side analysts, a stock listed in multiple global
exchanges and to top it all, one that had Price
Waterhouse as its auditor.

8. • The
Companies Act, 2013
new Companies Act promises greater share-holder
democracy and stricter corporate governance norms. The Act
introduces for the first time in India the concept of class action
suits, which would empower investors to sue a company for
“oppression and mismanagement” and claim damages.
• The Act also proposes to tighten the laws for raising money
from the public. It also seeks to prohibit insider trading by
company directors or key managerial personnel by treating
such activities as a criminal offence. Listed companies to have
mandatory 33% independent directors and formation of a One
Person Company has found its way, empowering the
government to have a simpler compliance regime for small
companies.

9. Independence-Truly??
• Definition of Independence
• The
definition of an ID has been considerably
tightened. For example, if a director is a chief executive
of an NGO that receives funding from the company to a
certain extent, the person would not qualify as an
independent director.
• Moreover, the definition now includes positive
attributes of independence (that was not the case
under clause 49): the candidate must be “a person of
integrity and possess the relevant expertise and
experience” in the opinion of the board.

10. What is the incentive….
• Remuneration
• Under the new Act, IDs are entitled only to
fees for attending meetings of the board,
and commissions within certain limits.
• The new Act expressly disallows IDs from
obtaining stock options in companies.
• Attempts to achieve a proper balance may be
fraught with difficulties under the present
dispensation.

11. Should we call it a Small
Breather….??
• In order to balance the extensive nature of functions
•
and obligations imposed on IDs, the Act seeks to limit
their liability to matters directly relatable to them. The
Act limits the liability of an ID “only in respect of acts
of omission or commission by a Company which had
occurred with his knowledge, attributable through
board processes, and with his consent or connivance or
where he had not acted diligently.”
This again seems to be a reaction to specific instances
in the recent past where IDs were subject to legal
action for no fault of their own, as evident from the
Nagarjuna Finance episode that occurred in 2009.

12. Some figures!
• In 2009, the pendulum swung both the ways for
India Inc.
• 620 ID’s resigned from the Board of Indian
Companies in 2009-a figure that was by far
without precedent globally.
• The exodus of ID’s highlighted a deep discomfort
within Corporate India with the very institution of
ID, specially in the context of companies
controlled, directly or indirectly, by corporate
founders, or promoters.

13. Role of an ID
• What exactly is the appropriate role of
an
ID. The academic literature suggests 2 (two)
distinct roles:
a. ID may be seen as watchful monitors of
promoters and management on behalf of
public shareholders or
b. ID may be viewed as reservoirs of
strategic advice intended to aid promoters &
managers in maximising overall company
value

14. • The
Added confidence
ID’s definitely aids to maintain
standards of professionalism within the
boardroom & promote adherence to best
practices of Corporate Governance.
• This additional monitoring boosts public
shareholders
confidence
that
the
company is not run informally and
casually at the behest of the controlling
shareholder.

15. The other angle…
• The ID’s have the power to make public
any wrongdoing and while the
controlling shareholder could remove
the director or take other retributive
measures, such actions would likely
cause unwanted public scrutiny.

16. Value of ID’s
• In the US, studies have often found little to
no effect of board independence on firm
value.
• In fact, some studies even demonstrate
negative correlations.
• But for India, US centered studies may be of
limited value because of the pre-ponderance
of dispersely held firms in the US as
compared to typically promoter-dominated
companies in India.

17. Continued…..
• In Russia & Korea, it appears that board
independence is important to firm
value.
• In India, studies have so far provided
either somewhat or weakly positive or
inconclusive results.
• In Brazil, it appears, there is either no
effect or perhaps even a negative effect.

18. What does it suggests!
• This
suggests that one needs to
examine the institutional and cultural
context of a country before deciding
what roles and liabilities ID’s should
have and how ID’s may be of value to
the companies.

19. A point that comes for thought!
• Role of Institutional Investors
The Satyam promoters effectively controlled
the company with only approx. 8%
ownership of the company’s equity.
• This may have been enabled by a lack of
pressure
or effective
oversight by
institutional investors, while dispersed
shareholders generally have little incentive
to invest the significant resources required
effectively to monitor managements.

20. Goes hand in hand!
• When we assert our rights, we should
see to it that others rights are also
protected.
• It is good to be strong, when we
connect
ourselves
with
the
responsibilities associated with the
concept of being strong.
• Social responsibility is not just for the
profit-making corporations, it applies
to all of us who are capable and strong.

21. We are one family!!
•‘Vasudhaiva Kutumbakam’
We should think and live like a
family, which would require us to
treat each other with equality and
dignity, following the true spirit of
democracy!

22. Hon’ble Ex-Minister said….it all
• It becomes a prime focus for the share
holders. We need to build corporate
governance in the country, otherwise
there is no future,” he warned.

23. Corporate Rating Index
• He said the government, for the first time,
was working on developing corporate rating
index. “We need to get to work in new area.
We are working on our own Corporate
Rating Index.” At present, India is following
the Corporate Rating Index developed in
other countries.
• India is ranked 163 in the Global Corporate
Rating Index (2012) and 94 (out of 176
nations) on Corruption Perceptions Index
(2012).

24. Greatest Obstacle!
• Goldman Sachs, ranks, ‘Governance’ as the
greatest obstacle to India’s reaching its
economic potential.
• Corruption in its many forms costs India an
estimated $170 billion annually (using the
Asian Development Bank Guidelines of 17%
of nation’s GDP)
(Just to mention 1 billion=more than
Rs.6000 crores)

25. FOCAL SHIFT IN THOUGHT
• In this context, Prof. O’Brien spoke of
the
need to shift from:
a. government to governance
b. to accountability
c. to responsibility
d. finally to integrity, a process which
requires inter-disciplinary collaboration and
an application of behavioural economics.

26. SATYAM WAS KILLING
• The unraveling of the Satyam scam, India’s fourth
largest IT company, has put a big question mark on
not only the role of corporate entities but also the
urgent need for re-examining the issue of
corporate governance and the role of the company
auditors. Clearly, with competitiveness and the
need for rapid growth becoming crucial better
corporate governance has become imperative.
• Plainly, at Satyam the governance framework had
not been effectively implemented

27. Hold the Balance
• In fact, Cadbury Chief
Sir Adrian Cadbury
captured the spirit of corporate governance
by stating: “Corporate governance is holding
the balance between economic and social
goals and between individual and
communal goals.

28. Not only Satyam….but many
• Take the case of Nagarjuna Finance where its head
was eventually arrested but that did not mean
more than 85,000 depositors recovering their
savings of Rs.100 crores.
• At Duncan Industries too, the depositors are
running from pillar to post trying to make sense of
the repayment scheme which is intended to fool
them and inordinately defer payment.

29. SEBI-Review Audit
• SEBI has vide its circular no.CIR/CFD/DIL/7/2012
dated August 13, 2012 mentioned about carrying
out the review audit of listed companies and laid
out guidelines in this regard.
• The investor protection funds to be used to carry
out this review audit.
• The review audit could also be funded by the
companies themselves.

30. • According
•
•
This is startling!!
to a report prepared by the Pune-based
Indiaforensic Consultancy Services (ICS) at least 1200
companies listed on the domestic stock exchanges had
forged their financial results in recent times.
The ICS study had alleged that such improper
accounting includes deferring revenue and inflating
expenses. The figure includes 20-25 firms whose stocks
make the benchmark Sensex.
Obviously keeping this in view, the Government had
decided to inspect the books of as many as 150
companies under section 209A of the Companies Act
to review whether the accounts are in order.

31. UK Bribery Act, 2010
• A leap in the right direction!
• The UK Bribery Act has come into force on 1
July, 2011.
• It amends and reforms the UK criminal law
and provides a modern legal framework to
combat bribery in the UK and
internationally.

32. TRUE, Believe it!
• The Bribery Act creates the following offences:
• Active bribery: promising or giving a financial or
other advantage.
• Passive bribery: agreeing to receive or accepting a
financial or other advantage.
• Bribery of foreign public officials.
• The failure of commercial organisations to prevent
bribery by an associated person (corporate
offence).

33. • Penalty
Some more details
Imprisonment for up to ten years with unlimited fine will
increase.
• Jurisdiction
The scope of the law is extra-territorial. Under the Bribery
Act, a relevant person or company can be prosecuted for
the above crimes if the crimes are committed abroad.
• Application
The Bribery Act applies to UK citizens, residents and
companies established under UK law. In addition, non-UK
companies can be held liable for a failure to prevent
bribery if they do business in the UK.

34. Some of the bold steps taken in
the new Companies Act, 2013
• If
•
•
•
a Company, with intent to defraud, issues a
DUPLICATE Certificate of shares, the Company shall
be punishable with fine:
Which shall not be less than 5 times the face
value of the shares involved
But which shall extend to 10 times the face value
of such shares or Rs.10.00 crores, whichever is higher.
Stringent penalties have also been imposed for
defaulting officers of the Company.

35. Quantification to be done
Where the Financial Statements do not comply with
the applicable AS as specified in section 129(1), the
Company will have to disclose:
- the deviation from the AS
- the reasons for such deviation
- financial effects, arising out of such deviation
After obtaining approval of the Tribunal, provision of
voluntary revision of financial statements or Board’s
Report has been included in the Bill (section 131)

36. Directors’ Report various
• The Director’s Report shall have to provide
•
•
•
types of additional information:
number of meetings of the Board
company’s policy on directors’ appointment and
remuneration
formal annual evaluation of its own performance (listed
company and other public company having a paid up share capital of
Rs.25 crores or more, calculated as at the end of the preceding FY shall
incl a statement indicating the manner in which evaluation made)
• risk management policy
• explanation by the Board on every qualification etc.
•
•
made by the CS in its secretarial audit report and in
the auditors report
particulars of loans, guarantees or investments etc.
specify reasons for not spending specified amt in CSR

37. New provision for D/Report
 Every listed Company shall disclose in the
Board’s Report, the ratio of the remuneration of
each director to the median employee’s
remuneration and such other details as may be
prescribed
 The Directors responsibility statement in case of
listed company shall also include additional
statement related to internal finance control and
compliance of all applicable laws.

38. CSR-Creative Capitalist Solution
• Provisions
related to Corporate Social Responsibility
(CSR). Activities that can be undertaken given in Schedule
VII.
• For CSR, Net worth
•
•
•
criteria >= Rs.500 crore or
Turnover criteria >= Rs.1000 crore or
Net profit criteria >= Rs.5 crore or more during any
financial yr.
In every financial yr, atleast 2% of the average NP made
during the 3 immediately preceding financial years
Preference to local areas where it operates
Average NP shall be in accordance to section 198

39. Auditor’s Appointment
• Appointment of Auditor in listed and specified class of
companies
• Appointment
Individual
Audit Firm
Period of appointment
1 term of 5 consecutive years
2 terms of 5 consecutive years
• Cooling off period of 5 years before next appointment

40. Additional disqualifications for
Auditors
•
i. Holding any Security, by himself/ his relative/
partner/ in the Company, its Subsidiary/ Holding/
Associate Company/ a Subsidiary of such Holding
Company
But the relative may hold security or interest in
the Company of face value not exceeding Rs.1,00,000
ii. Clause of Indebtedness, in excess of Rs.1.00 lac
iii. Clause of giving Guarantee or providing any
security in connection with the indebtedness of any
third person for an amount excess to Rs.1.00 lac;

41. Continued…
iv. Clause of business relationship
v. A person whose relative is a Director or is in the
employment of the Company as a director or KMP
vi. Clause of conviction by Court for an offence
involving fraud and a period of 10 years has not
elapsed from the date of such conviction

42. • (a)
Internal Audit
Every listed company; (b) every public company
having paid up share capital >= Rs.10 crores; (c) every
public company which has any outstanding loans from
banks or public financial institutions >= Rs.25 crores; (d)
which has accepted deposits >= Rs.25 crore at any point of
timeduring the last FY
• To conduct internal audit of the functions and activities of
the Company
 This internal auditor could be a CA or a Cost Accountant
or such other professional, as may be decided by the
Board
 Appointmentto bedone by the Board

43. Duties of Directors-Carved
• In line with the UK Companies Act, 2006
• In accordance with the Company’s AoA
• To act in good faith, to promote objects of
the company for benefit of members and the
best interest of the company, employees,
community and environment
• To exercise duties with due & reasonable
care, skill and diligence
• Not to achieve any undue gain/advantage

44. Independent Directors
• Listed companies to have 1/3 ID’s
• Central Government to prescribe for others
• Nominee Director/ Representative Director not to
be considered as ID’s (in conflict with existing
clause 49)
• ID’s to abide by a detailed code (Schedule IV)
• Issue of letter of appointment to ID mandatory
• Letter to contain terms of appointment, Board’s
expectations, fiduciary duties etc.
• Will not retire by rotation

45. • ID’s
Independent Directors
to hold 1 separate meeting in a year
without other directors and management
• Tenure restricted to 2 terms (5+5)
• Second term to require Special Resolution
• Then cooling period of 3 years
• Tenure served by ID before commencement
of new Act not to be counted
• Stock options not permitted for ID
(inconsistent with Listing Agreement)
• Profit related commission and sitting fees allowed

46. Prior notice-Board Meeting
(written)
 Atleast 7 days notice is required
 The notice may be sent by electronic means
 Meeting may be called at shorter notice
 Condition that atleast 1 independent director, if
any, shall be present at the meeting
 In the absence of the independent director from
such a meeting, decisions of the meeting will be
final only on ratification by atleast 1 independent
director

47. Remodel the Corporate Structure
• It
is seen how discreetly Companies route their
investments by forming a myriad matrix
• The
Act restricts the number of layers of
investment Companies to 2. This will help in
identifying the ultimate beneficiary

48. Case for study
• Chintamani Agrotech
• 2 Companies – Jinbhuvish
Power and Aarya
Agrotech owned a majority stake in Chintamani,
but the ultimate beneficiary of these Companies
was very hard to determine
• Upto 3 layers, the ownership was tried to be traced
but only to encounter new corporate entities at
every level

49. Class Action Suits
• Aminimumof:
-100membersor (evendepositors)
-notlessthan10%ofthetotalnumberofitsmembers(whicheverisless)or
-any member(s) singly or jointly holding not less than 10% of the issued
sharecapital;canjoinhandstoclaimdamagesagainstthe:
*Company
*Auditors
*Consultants
*Experts or Advisors
forany‘wrongful,fraudulentorunlawful’conduct!!
• Aweaponinthehandsoftheinvestorstosavetheircommoninterest.

50. Case for reference
• Satyam Computer Services now known as Mahindra
•
•
Satyam paid $125 million to settle ‘class-action’ suits
filed by shareholders in the US, where its shares were
listed.
Its auditors shelled out $25 million to do the same in
the US.
Indian shareholders did not receive a penny from any
such settlement as the Country did not allow classaction suits.

51. • Broadly:
‘Fraud’ defined
‘Any omission or concealment with an INTENT to
deceive and gain undue advantage from
shareholders or creditors, whether or not there is
any wrongful gain or loss’
So, for example, if the 2 former executives of
Reebok India are found guilty of falsification of
documents, under the proposed new law, they
could face arrest and pay fines.