Corporate Governance

CORPORATE GOVERNANCE :

MEANING “Corporate Governance is the system by which companies are directed and controlled” ---- Cadbury Committee (U.K)

“Fundamental objective of corporate governance is the ‘enhancement of the long-term value while at the same time protecting the interests of other stakeholders.” ---- Kumar Mangalam Birla Committee (India)

Necessity1. Too much of power with few individual

2. Large scale diversion of funds to associated companies & risky ventures

3. Unfocussed business decisions leading to losses

4. Preferential allotment of sweat equity at low prices

5. Spinning off profitable business operations to subsidiary companies

Recent Happenings

World Com – Improper accounting of $3.9bn in expenses leading to bankruptcy

Enron – Off balance sheet deals used to hide the debt

AOL Warner – AOL division accused of improperly accounted for some advertising revenues

XEROX – Financial Fraud UTI – Indiscriminate investment by UTI

CORPORATE GOVERNANCE: ORIGIN

INTERNATIONAL

NATIONAL

The seeds of modern Corporate Governance were probably sown by the Watergate scandal in the United States. As a result of subsequent investigations, US regulatory and legislative bodies were able to highlight control failures that had allowed several major corporations to make illegal political contributions. This led to the development of the Foreign and Corrupt Practices Act of 1977 in USA .In May 1991, the London Stock Exchange set up a Committee under the chairmanship of Sir Arian Cadbury in an attempt to prevent the recurrence of such business failures

The Confederation of Indian Industry (CII) published India’s first comprehensive code on corporate governance (Desirable Corporate Governance: A Code) in 1998. This was followed by the recommendations of the Kumar Mangalam Birla Committee on Corporate Governance. This committee was appointed by the Securities and Exchange Board of India (SEBI). The recommendations were accepted by SEBI in December 1999, and are now enshrined in Clause 49 of the Listing Agreement of every Indian stock exchange. SEBI also instituted a committee under the chairmanship of Mr. N. R. Narayana Murthy which recommended enhancements in corporate governance. SEBI has incorporated the recommendations made by the Narayana Murthy Committee on Corporate Governance in Clause 49 of the listing agreement. The revised Clause 49 has been made effective fromJanuary 1, 2006

Origin

The Sarbanes – Oxley Act, 2002, a recent enactment in USA which deals with the Corporate Governance & Corporate Social Responsibilities has emphasized audit functions & financial disclosures.

Indian Context

Kumara Mangalam Birla Committee on Corporate Governance (2000) (SEBI Sponsored)

Naresh Chandra Committee on Corporate Governance (2002)

Narayana Murthy Committee on Corporate Governance

Clause 49 – Corporate Governance

SEBI has advised all stock exchanges to amend their listing agreements by inserting new clause 49 which deals with good corporate governance practices to be adopted by all listed private & public sector banks.

Contd…. Corporate governance implies that the

company would manage its affairs with diligence, transparency, responsibility and accountability, and would maximise shareholder wealth.

Companies are needed to at least have policies and practices in conformity with the requirements stipulated under Clause 49 of the Listing Agreement.

Board of Directors1. The Board of Directors should be composed

of Executive and Non-Executive Directors meeting the requirement of the Code of Corporate Governance.

Contd…. Audit Committee

1. The appointment of the Audit Committee is mandatory, and it’s a very powerful instrument of ensuring good governance in the financial matters

(The new section 292A incorporated in the Companies Act, 1956 made it obligatory for a company having paid up capital of rupees 5 crore or more to have an ‘audit committee’ comprising at least three directors & two third of the total members shall be non-executive directors)

Contd….

Shareholders’/Investors’ Grievance Committee

1. As a part of corporate governance, companies should form a Shareholders’/Investors’ Grievance Committee under the Chairmanship of a non-executive independent director.

Contd…. Remuneration Committee

1. The company may appoint a Remuneration Committee to decide the remuneration and other perks etc. of the CEO and other senior management officials as the Companies Act and other relevant provisions.

Management Analysis

1. Management is required to make full disclosure of all material information to investors.

Contd…. Communication

1. The quarterly, half-yearly and annual financial results of the Company must be sent to the Stock Exchanges immediately after they have been taken on record by the Board.

Auditors’ Certificate on Corporate Governance

1. The external auditors are required to give a certificate on the compliance of corporate governance requirements.

MAIN ISSUES IN CORPORATE GOVERNANCE

Role of Board of Directors

Composition of the Board

Audit Committee

Shareholder’s Committee

MANDATED CG GUIDELINES &DISCLOSURESBOARD OF DIRECTORS: FREQUENCY OF MEETINGS &

COMPOSITION

Board must meet at least at least four times a year

If the chairman of the Company is a non-executive then one-third of

the board should consist of independent directors, else 50%

Disclose the frequency of board meetings with their dates

Disclose the attendance record of all directors in board meetings

Full and detailed remuneration of each director (salary, sitting fees,

commissions, stock options and perquisites) must be fully disclosed

Loans given to executive directors must be fully disclosed to

shareholders in the annual report of the company

BOARD OF DIRECTORS: INFORMATION THAT MUST BE SUPPLIED

Operating plans, budgets and updates

Quarterly results of company

Minutes of the audit committee and other board committees

Recruitment and remuneration of senior officers

legal notices and claims, as well as any accidents, hazards,

pollution issues and labor problems

Details of joint ventures and collaborations

Transactions involving payment towards goodwill, brand equity

and intellectual property

BOARD OF DIRECTORS : AUDIT COMMITTEE

Must have minimum of three members

Chairman must be an independent director

Must have at least three meetings per year

Audit Committee functions

Oversight of the company’s financial reporting process

Appointment / removal of external auditor

Reviewing the annual financial statements

Discussion about scope and design of audits

Reviewing financial and legal risks

DISCLOSURES TO SHAREHOLDERS

Board composition

Qualifications and experience of directors

Information about directors

Warning against insider trading

Details of grievances of shareholders

Stock price data over the reporting year

Financial effects of different situations

Chapter reporting corporate governance practices

INDIA W.R.T SARBANES-OXLEYSarbanes-Oxley Indian situation What might be needed

Certification of annual accounts by CEO, CFO

At least two directors must sign, of whom one must be the Managing Director

Need to change to have MD/CEO plus Finance Director/CFO to sign

Fully independent audit committees

Fully non-executive, majority independent audit committees

Need to consider (i) fully independent (ii) tighter definition of independence

Disgorgement of CEO/CFO compensation in event of restatement

Accounts and profits once published cannot be re-stated

Need to see if ESOP payments need to be disgorged if there is a restatement

Prohibition of insider trading Prohibits insider trading Nothing is needed

Real time disclosure concerning changes in financials and operations

Listing agreement mandates companies to report quarterly results and material changes

Nothing is needed

Mandatory periodic review of company’s filings once every three years

No such provision Need to consider how this can be done without creating administrative hassles

Auditors prohibited from nine types of non-audit services to audit clients

These services are already prohibited in India Nothing is needed

Auditors to report to Audit Committee on critical accounting policies

Mandated by the listing agreement and the Companies

Nothing is needed

Rotation of audit partners every five years

No such provision exists A committee is considering such a change

Prohibition of insider loans to directors

Strict cap on insider loans to directors; requires prior government approval

Caps are stringent enough to prevent insider abuse

questionnaireS.No QUESTION RESPONSE

1 Current level of Corporate Governance in India Inc. (1-5)

2 Are you satisfied with Corporate Governance Control structure in India?

(Y/N)

3 To what extent Corruption & Bureaucracy responsible for cases of poor Corporate Governance?

(1-5)

4 To what extent our Rules & Regulations are capable to implement the Corporate Governance?

(1-5)

5 Is meeting the ends of company’s goals on the cost of Corporate Governance & Corporate social responsibility justified?

(Y/N)

6 How should be violations w.r.t Corporate Governance treated?a) Imprisonment & penalties b) Cancellation of

professional certificates

(a)/(b)

7 How much are you satisfied with the Corrective Steps taken by SEBI after “Satyam” case?

(1-5)

8 Is the role of Independent Director in the Company Board justified enough?

(Y/N)

9. Is it “The Inadequate Transparency” or “The Ignorance” that the small investors suffer the most when a case like “Satyam” opens up?

______________________________________________________________________________________________________________________________________________________

10. In the Case of Satyam both Internal & External Auditors failed to ensure True & Fair view of statement of Accounts. Suggest Parameters to ensure the same. ________________________________________________________________________________________________________________________________________________

 

CASE STUDY:ENRON case v/s SATYAM case

 ENRON CaseThe Company discloses that it overstated its earnings by $567 million since 1997. Two company officials are fired. Enron, once one of the world's largest electricity and natural gas traders, files for Chapter 11 bankruptcy protection. Sloppy board oversight, imaginative accounting, off-balance sheet financing, and a criminal CFO are some of the reasons which was by the media. But it is more of come to mind. But those are superficial, not decisive, at root more consequences than causes according to an analyst. Enron did not fail because of creative bookkeeping, for instance, but was creative in bookkeeping because it was failing. Enron collapsed chiefly because its managers were paid to aim at the wrong financial measures, and consequently, its internal system of financial controls was a shambles.

SATYAM SagaOn January 7, Ramalinga Raju tendered his resignation and confessed to a close to Rs 7,800-crore accounting fraud. The episode has international ramifications. Satyam serves as the back office for some of the largest banks, manufacturers, and healthcare and media companies in the world, handling everything from computer systems to customer service. Shareholders have lost Rs 13,600 crore in Satyam shares in less than a month. The market capitalization fell to Rs 1,607.04 crore on January 9, 2008, from Rs 15,262 crore at the end of trade on December 16, 2008, the day when Satyam had announced the Rs-8,000 crore acquisition deal of two firms promoted by the kin of the IT firm’s former chairman Ramalinga Raju. According to the recent New York Times report, “Investigators looking into the fraud have found a maze of about 300 companies related to Raju that were used to siphon as much as $1 billion in cash from Satyam. From the very latest investigation news from Andhra Pradesh police who has Raju(Satyam CEO) in custody revealed a more interesting tactic used to loot the money. Out of 53,000 employees, 10,000 employees were fake and money was laundered thru the fake 10,000 paychecks every month. Also they found some involvement by external accounting company which helped to route this looted money to the proper place.It is the corruption and scamming mentality drove satyam scandal except the technique is different.