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Disastrous Corporate Governance

Omkar Goswami


Those involved in India’s corporate governance know of the regulatory wars between the Ministry of Corporate Affairs (MoCA) and the SEBI. Till recently, with listed entities dominating corporate India, and with SEBI defining their corporate governance and public financial disclosure norms through its Listing Agreement, MoCA played second fiddle. The ministry hated it. Despite being the guardian of the mother act — The Companies Act, 1956 — it was being finessed by the Mumbai’s regulators. MoCA wanted to level the field.

That opportunity arrived in January 2009, with Satyam. Everyone was stunned that half a dozen crooks led by an executive chairman systematically stole huge piles of company funds, with neither the auditors nor the non-executive directors having a clue. The balance shifted. MoCA played the lead role with the investigators, politicians and the press. SEBI was relegated to the sidelines. Since then, MoCA is determined to hold the aces.

The Companies Bill, 2009, is such an example. Substantive modifications suggested by MoCA have been passed by the Parliamentary Standing Committee (PSC) chaired by Mr. Yashwant Sinha, and presented to the Lok Sabha on 31 August 2010. The bill will be debated in the winter session. Given that little debate takes place these days, especially on corporate laws, it will surely be passed as law before the end of the session.

None doubt that we need a new Companies Act. Many of the statutes are outdated. The problem is with some of the corporate governance clauses that feature in the bill, which are retrograde, counter-productive, and exhibit excessive over-reach of law. For the want of space, here are but two.

Size of the Board. According to Clause 132(1), every public limited company must have a minimum of three and a maximum of 15 directors, excluding nominees from lending institutions. However, a company may appoint more than 15 directors after obtaining prior approval of Central Government and passing a special resolution. There is no problem with a minimum. But why should law prescribe a maximum? That is a matter for the company and its shareholders to decide. If the shareholders agree, why does a company need “prior approval of Central Government” to increase its Board size beyond 15? Example No.1 of legislative over-reach.

Tenure of an independent director. According to a new clause 132(7) introduced by MoCA and approved by the PSC, (i) no independent director shall have a tenure exceeding, in the aggregate, a period of six consecutive years on the Board of a company; (ii) three years must elapse before such a person is inducted in the same company in any capacity, and (iii) no individual shall have more than two tenures as independent director in any company in the manner provided in this clause.

Here’s a story of subterfuge. Clause 132(7) was not in bill that originally went to the PSC. In December 2009, MoCA released a booklet, Corporate Governance: Voluntary Guidelines. On the tenure of independent directors, it stated:

a) An individual may not remain as an independent director in a company for more than six years.

b) A period of three years should elapse before such an individual is inducted in the same company in any capacity.

c) No individual may be allowed more than three tenures as an independent director in the manner suggested in (a) and (b) above.

Almost identical words, right? When various bodies across India severely critiqued this provision, MoCA’s answered that it is a ‘voluntary code’, no different in spirit to the voluntary recommendation in SEBI’s Clause 49 that an independent director ought not to serve for more than nine consecutive years.

In its deliberations with the PSC, MoCA successfully slipped it into The Companies Bill, 2009 as a new sub-clause. The PSC has not only agreed, but has also stated that it “would like the Government to formulate a code of Independent Directors [to]… include their mode of appointment, role and responsibilities… their remuneration and extent of their liability”. MoCA has thus convinced the PSC that various elements of its ‘voluntary’ code should be incorporated in the Bill. The ‘voluntary’ code was a ruse to create the entry that MoCA wanted with PSC so that its provisions got appended to The Companies Bill, 2009 — so making it mandatory!

No corporate legislation in any major country states the maximum number of years that a director can serve on a Board. Not in the USA; in the UK; in Australia; in Canada; in Singapore; in Hong Kong; and many more. Such a ceiling, if it exists at all, is in the domain of the Memorandum and Articles of Association of a company, or as a practice of a Board.

Does law state the maximum number of terms for an elected Lok Sabha member? It doesn’t, and rightly so. If political fiduciaries have no ceilings on the number of terms that they can be elected, why is it imposed on corporate fiduciaries? How can law decide the maximum tenure of an elected appointee of the shareholders? It is for a company’s shareholders to choose, not the State. Example No.2 of inexcusable over-reach.

Such a clause vitiates the real world of Boards and governance. Consider multi-product, multi-location, multi-service companies, or businesses with substantial regulatory overhang such as banks and insurance. Even with serious induction-level training, it takes a new independent director a year and a half to properly understand nuances of the business. Thus, the effective tenure of being an informed and sensible fiduciary will be four and a half years. After which the Board will have to look for a replacement. What great corporate governance is this?

I could go on about number of board positions and counter-productive restrictions on auditors. But let’s end with a tailpiece. The PSC has stated that maximum political contributions in a year be raised to 7.5% from 5% of average net profits during the three immediately preceding financial years. Because “the number of political parties in the country has increased and such donations are not made every financial year”.

Published: Business Standard, September 2010


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