The Regulatory Norms of Corporate Governance in India Dimple Grover1, Amulya Khurana2, Ravi Shankar3 1. Assistant Professor, IILM, PhD Student IIT Delhi. 2. Professor, IIT Delhi 3. Associate Professor, IIT Delhi.
Abstract: India, with its vast population has emerged as one of the most attractive country for the multi nationals as they scourge around the world to woo the customer. Offering every lucrative kitty from their basket these organizations in their attempt to attract the customer have engaged in number of malpractices damaging the geo, socio, and political climate of the destination (new) country. The governments’ worldwide are building norms and regulations to curb their malpractices. India, too in order to protect its stakeholders from falling into the trap of these companies is gearing up its norms keeping in mind the international benchmarks. Though, having a long history but a short past these regulations have been a part of Indian policies ever since the trading began in an organized form. Right from the time of arrival of East India Company to the Coca Cola, there have been partnerships, mergers, acquisitions and they call for strict and stringent norms to bring ethical behavior of these companies. The present paper talks about the regulatory frameworks since its inception from 1650 onwards.
1. Introduction: The ethical climate of Indian organizations is soaring. The market dynamics and WTO led norms have led a new battle of consumerism on Indian Turf. No more considered to be a part of the third world country, India is rapidly moving the ladder to become super economic power. According to BRIC report (Global Paper 99) India has the potential to raise its per capita ( US dollar) to 35 times in 2050 compared to its current levels thus making it one of the most attractive market for the FDI’s and MNC’s. China on the other hand will be the largest world economy by 2041. The following table represents the projected real GDP growth.
Table 1 Projected Real GDP Growth (BRIC Report – Global Economics Paper – 99) Year
Brazil
China
India
Russia
2000
4.2
8.0
5.4
10
2001
1.5
7.3
4.2
5
2002
1.5
8.2
4.7
4.3
2003
1.1
8.1
5.6
6.1
2004
3.5
8.4
5.9
4.4
2005
4.2
7.9
6.2
5.8
2006
4.1
7.6
6.2
5.3
2007
4.1
7.3
6.1
4.8
2008
4.1
7.1
6.1
4.5
2009
4.2
6.9
6.1
4.3
2010
4.2
6.1
6.1
4.1
The increase in GDP, the transcending boundaries and easy flow of communication have motivated these FDI’s making India as one of the favorite destination. Its’ huge population and virgin territories have lured the companies, who in turn are leaving no stone unturned to woo the new consumer. Coca – Cola predicts that the BRICs will contribute 41 percent of company’s carbonated soft drinks growth by 2008 (Chakravarty, 2004). Ford Motor expects emerging markets , led by Asian countries, to drive 80 percent of its growth in automotive sales volume over the coming decade. Although, India has been fortunate in not having to go through the pains of massive corporate failures such as Enron and World.com, yet it has alerted the Indian corporations enough to build on sound regulatory frameworks to curb the malpractices of the companies.
Strong corporate governance practices are indispensable to resilient and vibrant capital market and are an important instrument of investor protection. In the present context, the governments’ world wide is playing a facilitators role in the market led economies by creating the parameters of good governance for the ethical functioning of the companies. In India, SEBI (Security Exchange Board of India) has taken up the task of building the regulatory norms for the smooth functioning of the companies. The present paper is a
review of literature since the inception of laws till the present framework as it facilitates the functioning of the companies by giving those clear guidelines on the one hand and protects the stakeholders on the other. It also makes an attempt to build a road map for the future. 2. Corporate Governance The issue has risen to prominence in last few years only. The call for CG became strong as even the giant conglomerates trespassed the limits of moral, ethical and legal entities leading to crisis in financial market. Cadbury (1992) defined corporate governance as a system by which companies are directed and controlled. One of the most classic definition, it talks about a system (not concentrating on individual), direction (board) and control (by shareholder) of business.
Giving a very comprehensive definition on corporate governance, OECD (1999) defined it as ‘a set of relationships between a company’s management, its board, its shareholders and other stakeholders. Through these relationships it provides a structure for setting the objectives of the company, the means for attaining them and monitoring performance. Good corporate governance should provide incentives to the board and management to pursue objectives which are in interests of the company and shareholders and it should also facilitate effective monitoring.
The above definition encompasses the entire network of formal and informal relations in a company and provides a base for the linkages to be established to build the efficacy of a company internally and externally.
Moving from board rooms to common parlance, Corporate Governance refers to adapting to best practices to ensure,
i) Fairness to customers, employees, investors, vendors, government and the society at large. ii) Sharing free information with the share holders. iii) Shareholders value addition.
iv) Self policing and self regulation. v) Conflict resolution between minority and majority shareholders.
3 The Indian Scenario…..
3.1 Pre Liberalization.....
The existence of the first few companies in India can be tracked down to 1650 AD in the Southern part of the country. There has been evidence of cotton trade existing with European countries. To avoid the small suppliers, European Traders entered into joint stock companies with Indian merchants. However, it was much later in 1850 that factory production of Cotton textile and Jute started. The British East India Company monopolized trade between India and other countries till 1834 after which it was open to other British traders. The first managing company in India was British. Established in 1809, Carr, Tagore & Company (1834) is known as the first equal partnership between Indian and European Businessman initiating the managing agency system in India. In1850, the act was passed for the registration of the companies with limited liabilities. Thus, the year 1850 marked a point of departure in the history of Indian business. Indian companies since then have achieved many milestones.
The following corporate management models reflect the mood of the social context and practices adopted by the Indian Traders in the past. The decade of 70’s saw tumultuous environment due to insurgency in the political environment.
3.1.1 Corporate management model
1866 -1955
During the initial years Indian organizations were binded by colonial rules and most of the rules and regulations catered to the whims and fancies of the British Employers. The companies act was introduced in the year 1866 and was gradually revised in 1882, 1913 and 1932.
Indian Partnership act was introduced for the first time in 1932. The various agendas which were on its focus were managing agency model to corporate affair as individuals / business firms entered into legal contract with joint stock companies. It was characterized by abuse / misuse of responsibilities by managing agent due to dispersed ownership. The issues of profit generation and control were dilapidated leading to various conflicts. 3.1.2Corporate Management Model – 1956 – 1999 The first stage was the decade 50's and 60's. This was a period of setting up of industrial activities and cost plus regime. The genesis was the demand for very many products for which the Government administered Fair Prices. This was the time when the Tariff Commission and the Bureau of Industrial Costs and Prices were set up by the Govt. 1951 – India’s development Regulation Act 1956 – Companies Act came into existence. Development and Banking institutions came into existence. The period between 70's to mid eighties was an era of Cost, Volume and Profit analysis, as an integral part of the Cost Accounting function. This was the time when we were in a Sellers' market. 1970’s – Managing Agency system abolished, nationalization, state controlled. -
Entry Barriers
-
Import/ Export Restrictions
-
Family Promoters / Conglomerates retaining Corporate Control
3.2 Post Liberalization…..
After liberalization, India has been keenly looked upon by the organizations/ companies worldwide for the purpose of creating new markets. Progressive firms in India have made an attempt to put the systems of good corporate governance in place. There have been number of discussions and events leading to the development of Corporate Governance. The basic minimal code for corporate governance was proposed by the Chamber of Indian Industries (CII), 1998.The guiding definition proposed by CII, “Corporate Governance deals with laws, procedures, practices and implicit rules that determines a company’s ability to take managerial decisions vis- a vis its claimants – in particular its shareholders, creditors, customers, the state and the employees.”
The following reports 1998 - Confederation of Indian Industry (CII) - Desirable Corporate Governance – A Code In 1996, CII took a special initiative on corporate governance – the first institutional initiative in Indian Industry. The objective was to develop and promote a code for companies – be in private sector, public sectors, Banks or financial Institutions, all of which are corporate entities. The initiatives by CII flowed from Public concerns regarding the protection of investor interest, especially the small investor; the promotion of transparency within business and industry ; the need to move towards international standards in terms of disclosure of information by the corporate sector, and through all of this to develop a high level of public confidence in business and industry. The completed final draft of this code came out in April 1998. 1999- Report of the Committee (Kumar Manglam Birla) on Corporate Governance SEBI, appointed Kumar Manglam Birla – as chairman to give a comprehensive view of the issues related to insider trading to protect the rights of various stakeholders. The heart of the committee’s report is the set of recommendations which distinguishes the
responsibilities and obligations of the board and the management in instituting the systems for good corporate governance and emphasizes the rights of shareholders in demanding corporate governance. Many of the recommendations are mandatory. These recommendations are expected to be enforced on the listed companies for initial and continuing disclosures in a phased manner within specified dates, through the listing agreement. The companies will also be required to disclose separately in their annual reports, a report on corporate governance delineating the steps they have taken to comply with the recommendations of the committee. These will enable shareholders to know, where the companies, in which they have invested, stand with respect to specific initiatives taken to ensure robust corporate governance. Nov. 20th, 2000- Report of the task force on Corporate Excellence through Governance: Department of company affairs, prepared a report on achieving corporate excellence through governance. Depending upon the size and capabilities of the companies as well the requirements of the market place, the task force recommended phased implementations of the essential measures. March 24th, 2001 – RBI – Report of the advisory group on Corporate Governance: Standing Committee on International Financial Standards and Code The governance mechanism differs in each country and is shaped by its political, economic, and social history as also by its legal framework. With keen interest shown by organizations like World Bank, Asian Development Bank etc, OECD developed a set of principles which are internationally recognized to serve as good benchmarks. The advisory group on CG attempted to compare the status of corporate governance in India vis a vis the internationally recognized best standards and suggested to improve corporate governance standards in India.
April, 2002 – RBI – Report of the consultative Group of Directors of Banks/Financial Institutions The Consultative group of directors of banks and financial institutions was set up by reserve bank to review the supervisory role of boards of banks and financial institutions and to obtain feedback on the functioning of the boards vis a vis compliance, transparency, disclosures, audit committees etc and make recommendations for making the role of board of directors more effective with a view to minimizing risks and over exposure. Following the best international practices as recommended by Basel Committee on Banking Supervision, the committee recommended a review of the existing framework governing the constitution of the boards of banks and financial institutions. December 23, 2002 –Report of the committee (Naresh Chandra) on Corporate Audit and Governance Committee The department of company affairs (DCA) under the ministry of finance and company affairs appointed a committee under the chairmanship of Naresh Chandra to examine various corporate governance issues. The committee took upon the task to analyze, and recommend changes in diverse areas like: the statuary auditor – company relationship, procedure for appointment of auditors and determination of audit fee, restrictions- if required on non auditory fee, measures to ensure that management and companies put forth a ‘true and fair’ statement of financial affairs of company. It also reflected on other measures such as certification of accounts, and financial statement by the management and directors. The committee intended to study and build upon its report following the benchmarks set by Sarbanes Oxley Law (SOX). February 8th, 2003 (N. R. Narayan Murthy) – SEBI report on Corporate Governance The Securities and Exchange Board of India (SEBI), in its effort to improve the governance standards constituted a committee to study the role of independent directors, related parties, risk management, directorship and director compensation, codes of
conduct and financial disclosures. The committee based its recommendations on various parameters like fairness, accountability, transparency, ease of implementation, verifiability and enforceability. July, 2003 (Naresh Chandra Committee II) Report of the committee on regulation of private companies and partnerships The companies act, 1956 had its base in environment encompassing the license and permit raj in India. The act has undergone amendments more than two dozen occasions, keeping in view the various changes in the business environment. As large number of private sector companies was coming into picture there was a need to revisit the law again. In order to build upon this framework, government constituted a committee in January,2003 , to ensure a scientific and rational regulatory environment. The main focus of this report was on a) The Companies Act; 1956 b) The Indian Partnership Act, 1932. The final report was submitted in July 23, 2003.
Table 2: At a glance: Reports on Corporate Governance S.No 1
Report CII Desirable Code - 1998
Issues Covered Protection of Investor Interest Promotion of transparency Building International standards in terms of disclosure of information
2
Report of the Committee(Kumar
Responsibilities and Obligations of the
Mangalam Birla ) on Corporate
board and the management in instituting
Governance (SEBI, May 7, 1999)
the systems for good corporate governance.
Disclosures to be made mandatory and to be published in the annual report 3
Report of the task force on Corporate Excellence through
i) Corporate Governance in India: A status report
Governance
(ii) Best Practices in Corporate
( Department of Company Affairs,
Governance : An Indian and International
Nov.20, 2000)
Position Review (iii) Corporate Citizenship and Social Responsiveness (iv) Legislation, Regulation and Voluntary Initiatives : Recommendations relating to Corporate Governance matters (v) Proposal for setting up a Centre for Corporate Excellence
4
Report of the Advisory Group on
The comparison of the status of corporate
Corporate Governance: Standing
governance in
Committee on International
India vis- a vis the internationally
Financial Standards and Codes
recognized best standards.
5
Reports of the Consultative Group
Supervisory Role of Board of Banks and
of Directors of Banks/ Financial
Financial Institutions
Institutions (RBI, April,2002)
Feedback on the functioning of the boards vis – a –vis compliance, transparency, disclosures, audit committee etc
6
Report of the Committee(Naresh
The statuary auditor company relationship,
Chandra) on Corporate Audit and
rotation of statutory audit firms/partners,
Governance Committee(Report 1)
procedure for appointment of auditors and
(SEBI, Dec.23, 2002)
determination of audit fees, true and fair statement of financial affairs of companies
7
Report of SEBI Committee on
Audit Committees, Audit Reports,
Corporate Governance
Independent Directors, Risk Management. Directorships and Financial Disclosures
8
Report
of
the
committee
on The companies Act, 1956
Regulation of Private Companies The Indian Partnership Act, 1932 and Partnership (Naresh Chandra Committee-II, July,2003
Source: Economica India Info Services
SEBI (Security Exchange Board of India) along with the other financial institutional bodies is constantly engaged in building a regulatory framework to guide and assist the companies. However, analytical reviews of these frameworks reflect that there is a need to build a framework aligning the current tumultuous business environment. The key focus mirrored in these reports is that of financial disclosures, transparency, and accountability of board of directors. The company act of 1932 has undergone number of amendments, which renders and reflects a slow and lethargic “tortoise” walk. With the multinationals reaching even in the remotest corner of the country there needs to be a wake up call for regulatory bodies to establish new frameworks keeping in mind the
present status of alluring India. SEBI, though has made an attempt to bring in sweeping changes, namely in Clause 49 by benchmarking the SOX (Sarbanes Oxley Law), yet it falls short of matching international standards.
Emerging Challenges Above attempts made by the various regulating bodies show a rising level of concern in the manner in which the corporate manage themselves and their geo political environment. As more and more multi nationals chip in to utilize cheap Indian labors – the regulating bodies will not have the only onus of task building, but will also have to ensure means to implement the regulations. Not only this, as more and more stakeholders make an attempt to maximize their profits, the investors (especially the smaller ) will have to be wary of the crafty speculators who can ruin the market confidence and decimate them. Investor training therefore is an important area of immediate action. Organizations cannot create long term value without having appropriate corporate governance policies in place, as the need of the hour is to not only manage earnings, but also to create value. It becomes of utmost importance especially for a country like India, as it comprises of the various odd sections of the society standing at juxtaposition to each other. Moreover, with the change in the context there is also a need to evolve the governance policies suiting the geo political, social and economical environment of that state.
References:
Cadbury, A. Report of the committee on the Financial Aspects of Corporate Governance, December, 1992. Gee& Company Ltd
Chakravarty, C.(2004) “Coca Cola looks at India, China for the fizz”, The Economic Times, 15th November.
Goldman Sachs. (2003) “Dreaming with BRICs: the path to 2050”, Global Economics Paper, No 99, October.
Joshi, V. (2004) Corporate Governance : The Indian Scenario. Foundation Books.
Organization for Economic Development and Co-operation, Code on Corporate Governance, OECD, Paris September, 1999.
Reports on Corporate Governance, (2004), Economica India Info Services. Academic Foundation.
Notes Ford Motor’s 2003/4 Corporate Citizenship Report, pg 14.
