conceptual overview of corporate governance -- by mr.rashmiranjan

CORPORATE GOVERNANCE ARYA SCHOOL OF MANAGEMRENT & IT (ASMIT) , BBSR

1MR. RASHMIRANJAN PANIGRAHI, LECTURER IN FINANCE, ASMIT

CONCEPTUAL OVERVIEW OF CORPORATE GOVERNANCE

Rashmi Ranjan Panigrahi- Lecturer, Department of MBA/ MFC (Master of Finance and Control), Education- Arya School of Management & IT, Bhubaneswar, India : E mail-: [email protected], Mob No-: 9778789570

ABSTRACTCorporate governance is a process that aims to allocate corporate resources in a manner that maximizes value for all stakeholders – shareholders, investors, employees, customers, suppliers, environment and the community at large and holds those at the helms to account by evaluating their decisions on transparency, inclusivity, equity and responsibility. The World Bank defines governance as the exercise of political authority and the use of institutional resources to manage society's problems and affairs. Corporate governance is the set of processes, customs, policies, laws, and institutions affecting the way a corporation (or company) is directed, administered or controlled. Corporate governance also includes the relationships among the many stakeholders involved and the goals for which the corporation is governed. In contemporary business corporations, the main external stakeholder groups are shareholders, debt holders, trade creditors, suppliers, customers and communities affected by the corporation's activities. Internal stakeholders are the board of directors, executives, and other employees. This paper highlighted the points on corporate governance: meaning, historical perspective, issues in cg, theoretical basis of cg, cg mechanism, cg system, good cg , Land mark in the emergence of CG: CG Committees, World Bank on CG, OECD Principle, Sarbanes, Oxley act-2002, Indian Committees and guidelines, CII Initiatives.

Corporate Governance: Meaning, Historical Perspective, Issues in CG, Theoretical basis of CG, CG Mechanism, CG System, Good CG. CG Committees, World Bank on CG, OECD Principle, Sarbanes, Oxley act-2002, Indian Committees and guidelines, Agent and Institution in CG: Rights and privileges of shareholder, investor Problems & Protection, CG & other stakeholders

Governance is -----------------------------------

A means whereby society can be sure that large corporations are well-run institutions to which investors and lenders can confidently commit their funds.

Corporate governance are the policies, procedures and rules governing the relationships between the shareholders, (stakeholders), directors and managers in a company, as defined by the applicable laws, the corporate charter, the company’s bylaws, and formal policies.

Primarily it is about managing top management, building in checks and balances to ensure that the senior executives pursue strategies that are in accordance with the corporate mission.

Corporate governance governs the relationship among the many players involved (the stakeholders) and the goals for which the corporation is governed.

Corporate governance is the set of processes, customs, policies, laws, and institutions affecting the way a corporation (or company) is directed, administered or controlled. Corporate governance also includes the relationships among the many stakeholders involved and the goals for which the corporation is governed. The principal stakeholders are the shareholders,



management, and the board of directors. Other stakeholders include employees, customers, creditors, suppliers, regulators, and the community at large.

Corporate governance is a multi-faceted subject. An important theme of corporate governance is to ensure the accountability of certain individuals in an organization through mechanisms that try to reduce or eliminate the principal-agent problem.

Accountability

Fundamental Pillars of Corporate Governance

Corporate Governance

Transparency

Responsibility

Fairness

Accountability

Clarifying governance roles & responsibilities, and supporting voluntary efforts to ensure the alignment of managerial and shareholder interests and monitoring by the board of directors capable of objectivity and sound judgment.TransparencyRequiring timely disclosure of adequate information concerning corporate financial performance..Responsibility-: Ensuring that corporations comply with relevant laws and regulations that reflect the society’s values Fairness-: Ensuring the protection of shareholders’ rights and the enforceability of contracts with service/resource providers.

Principles of corporate governance:

Key elements of good corporate governance principles include honesty, trust and integrity, openness, performance orientation, responsibility and accountability, mutual respect and commitment to the organization of importance is how directors and management develop a model of governance that aligns the values of the corporate participants and then evaluate this model periodically for its effectiveness. In particular, senior executives should conduct themselves honestly and ethically, especially concerning actual or apparent conflicts of interest, and disclosure in financial reports.

Commonly accepted principles of corporate governance include:

Rights and equitable treatment of shareholders: Organizations should respect the rights of shareholders and help shareholders to exercise those rights. They can help shareholders exercise their rights by effectively communicating information that is understandable and accessible and encouraging shareholders to participate in general meetings.



Interests of other stakeholders: Organizations should recognize that they have legal and other obligations to all legitimate stakeholders.

Role and responsibilities of the board: The board needs a range of skills and understanding to be able to deal with various business issues and have the ability to review and challenge management performance. It needs to be of sufficient size and have an appropriate level of commitment to fulfill its responsibilities and duties. There are issues about the appropriate mix of executive and non-executive directors.

Integrity and ethical behaviour: Ethical and responsible decision making is not only important for public relations, but it is also a necessary element in risk management and avoiding lawsuits. Organizations should develop a code of conduct for their directors and executives that promotes ethical and responsible decision making. It is important to understand, though, that reliance by a company on the integrity and ethics of individuals is bound to eventual failure. Because of this, many organizations establish Compliance and Ethics Programs to minimize the risk that the firm steps outside of ethical and legal boundaries.

Disclosure and transparency: Organizations should clarify and make publicly known the roles and responsibilities of board and management to provide shareholders with a level of accountability. They should also implement procedures to independently verify and safeguard the integrity of the company's financial reporting. Disclosure of material matters concerning the organization should be timely and balanced to ensure that all investors have access to clear, factual information.

THEORETICAL BASIS OF CORPORATE GOVERNANCE

There are four broad theories to explain and elucidate corporate governance. These are: (i) Agency Theory (ii) Stewardship Theory (iii) Stakeholder Theory and (iv) Sociological Theory.

A. AGENCY THEORY

The fundamental theoretical basis of corporate governance is agency costs. Adam Smith had identified the agency problem (managerial negligence and profusion). Shareholders are the owners and the principals too. The management, the board, chosen by the shareholders are theagents. Principals may want to carry out the objectives of the company but the agents may not quite exactly match the requirements. The cost of the “dissonance” caused by the agency problem is the agency cost. There are many a way through which the management go counter to the objectives of the shareholders such maximizing shareholder returns. Ostentatious life styles of directors, empire building etc. are examples.

THE BASIS FOR THE AGENCY THEORY IS THE SEPARATION OF OWNERSHIP AND CONTROL.

PRINCIPAL (SHAREHOLDERS) OWN THE COMPANY BUT THE AGENTS (MANAGERS) CONTROL IT.

MANAGERS MUST MAXIMIZE THE SHAREHOLDERS WEALTH.



THE MAIN CONCERN IS TO DEVELOP RULES AND INCENTIVES, BASED ON IMPLICIT EXPLICIT CONTRACTS, TO ELIMINATE OR AT LEAST, MINIMIZE THE CONFLICT OF INTERESTS BETWEEN OWNERS AND MANAGERS.

The Agency problem occurs when:The desires or a goal of the principal and agent conflict and it is difficult or expensive for the principal to verify that the agent has behaved appropriately.Example: Over diversification because increased product diversification leads to lower employment risk for managers and greater compensation Solution: Principals engage in incentive-based performance contracts, monitoring mechanisms such as the board of directors and enforcement mechanisms such as the managerial labor market to mitigate the agency problemMechanisms that help reduce agency costs:1. Fair and accurate financial disclosures2. Efficient and independent board of directors

B. THE STEWARDSHIP THEORYThe theory defines situations in which managers are not motivated by individual goals, but rather they are stewards whose motives are aligned with the objectives of their principals. It assumes that managers are trustworthy and have high reputations. Therefore their behavior will not run counter to the interests of the company. There is a significant emphasis on the responsibility of the board to the shareholders in a corporate governance model that is emboldened by stewardship and trusteeship. These concepts of stewardship and trusteeship are traceable in the scriptures of India and Christendom.Steward is a person who manages other’s property and financial affairs and is entrusted with the responsibility of proper utilization and development of organization’s resources.

MANAGERS AS STEWARDS ASSUMED TO WORK EFFICIENTLY AND HONESTLY IN THE INTERESTS OF COMPANY

AND OWNERS. SELF DIRECTED AND MOTIVATED BY HIGH ACHIEVEMENTS AND RESPONSIBILITY IN

DISCHARGING THE DUTIES. MANAGERS ARE GOAL ORIENTED FEEL CONSTRAINED IF THEY ARE CONTROLLED BY OUTSIDE DIRECTORS

BASIC BEHAVIORAL DIFFERENCES BETWEEN AGENCY & STEWARDSHIP THEORIES



Stewardship theory can be reduced to the following basics:

The theory defines situation in which managers are not motivated by individual goals, but

rather they are stewards whose motives are aligned with the objectives of their principles.

Given a choice between self-serving behaviour and pro-organizational behavior, a

steward’s behaviour will not depart from the interests of his organization.

Control can be potentially counterproductive, because it undermines the pro-

organizational behaviour of the steward, by lowering his motivation.

C. THE STAKEHOLDER THEORY

Managers are responsible to maximize the total wealth of all stakeholders of the firm, rather than only the shareholders wealth. It deals with the common interests of employees, customers, dealers, government, and the society at large and draws all of them into corporate-mix. It is often criticized as “wooly minded liberalism” because it is not applicable in practice by companies. But the defense is that managers can act efficiently only by drawing upon the resources of the stakeholders and as such there is a “contract” between the company and the stakeholders

The primary feature of the stakeholder theory of corporate governance is that those who have a stake in the functioning of the firm are made up of large and diverse groups.

Simply put, stakeholders are those who seek some benefit from the optimum running of the firm. Stakeholders have different goals and seek different benefits from the firm. Workers seek job security, the IRS wants its tax payments, investors want dividends, and the community wants a solid economic base. The stakeholder theory holds that these different interests do, in fact, control the firm in their own specific ways, and none has any better right to have its voice heard than any other.



Function-: The stakeholder theory is both a descriptive and a normative theory. It is descriptive in that it functions as a way of describing how a company is constituted and controlled. In this case, one can see how customers or investors all have their say in how the firm markets its products, for example. It is a normative theory in that it suggests how a firm should be run.

Benefits-: Stakeholder theory is a highly democratic and participatory concept of corporate governance. Under this model, the firm is not merely a profit-making machine for elite investors and major executives. It is a profoundly social institution that is meant to serve more than its shareholders. It is a communal institution that benefits large segments of the local population. Thousands of lives are potentially connected to and dependent upon the proper workings of the firm.

D. SOCIOLOGICAL THEORYThe sociological approach has focused mostly on board composition and implications for power and wealth distribution in the society. Under this theory, board composition, financial reporting, and disclosure and auditing are of utmost importance to realize the socio-economic objectives of corporations.MECHANISMS AND CONTROLSCorporate governance mechanisms and controls are designed to reduce the inefficiencies that arise from moral hazard and adverse selection. For example, to monitor managers' behaviour, an independent third party (the external auditor) attests the accuracy of information provided by management to investors. An ideal control system should regulate both motivation and ability.INTERNAL CORPORATE GOVERNANCE CONTROLSInternal corporate governance controls monitor activities and then take corrective action to accomplish organisational goals. Examples include: Monitoring by the board of directors: The board of directors, with its legal authority to

hire, fire and compensate top management, safeguards invested capital. Regular board meetings allow potential problems to be identified, discussed and avoided. Whilst non-executive directors are thought to be more independent, they may not always result in more effective corporate governance and may not increase performance.[6] Different board structures are optimal for different firms. Moreover, the ability of the board to monitor the firm's executives is a function of its access to information. Executive directors possess superior knowledge of the decision-making process and therefore evaluate top management on the basis of the quality of its decisions that lead to financial performance outcomes, ex ante. It could be argued, therefore, that executive directors look beyond the financial criteria.

Internal control procedures and internal auditors: Internal control procedures are policies implemented by an entity's board of directors, audit committee, management, and other personnel to provide reasonable assurance of the entity achieving its objectives related to reliable financial reporting, operating efficiency, and compliance with laws and regulations. Internal auditors are personnel within an organization who test the design and implementation of the entity's internal control procedures and the reliability of its financial reporting

Balance of power: The simplest balance of power is very common; require that the President be a different person from the Treasurer. This application of separation of power is further developed in companies where separate divisions check and balance each other's actions. One group may propose company-wide administrative changes, another group review and



can veto the changes, and a third group check that the interests of people (customers, shareholders, employees) outside the three groups are being met.

Remuneration: Performance-based remuneration is designed to relate some proportion of salary to individual performance. It may be in the form of cash or non-cash payments such as shares and share options, superannuation or other benefits. Such incentive schemes, however, are reactive in the sense that they provide no mechanism for preventing mistakes or opportunistic behaviour, and can elicit myopic behaviour.

EXTERNAL CORPORATE GOVERNANCE CONTROLS

External corporate governance controls encompass the controls external stakeholders exercise over the organisation. Examples include: competition debt covenants demand for and assessment of performance information (especially financial statements) government regulations managerial labour market media pressure takeovers

CORPORATE GOVERNANCE SYSTEM:The role of the management is to run the enterprise while the role of the board is to see that it is being run well and in the right direction. Corporate governance systems vary around the world. Scholars tend to suggest three broad versions:

The Anglo-American model The German model The Japanese model

THE ANGLO-AMERICAN MODELThis is also known as unitary board model, in which all directors participate in a single board comprising both executive and non-executive directors in varying proportions. This approach togovernance tends to be shareholder oriented. It is also called the ‘Anglo-Saxon’ approach to corporate governance being the basis of corporate governance in America, Britain, Canada, Australia and other Commonwealth law countries including India.

The major features of this model are as follows: The ownership of companies is more or less equally divided between individual

shareholders and institutional shareholders. Directors are rarely independent of management. Companies are typically run by professional managers who have negligible ownership

stake. There is a fairly clear separation of ownership and management. Most institutional investors are reluctant activists. They view themselves as portfolio

investors interested in investing in a broadly diversified portfolio of liquid securities. If they are not satisfied with a company’s performance, they simply sell the securities in the market and quit.

The disclosure norms are comprehensive, the rules against insider trading tight, and the penalties for price manipulations stiff, all of which provide adequate protection to the small investors and promote general market liquidity. They also discourage large investors from taking an active role in corporate governance.



GERMAN MODELCorporate governance in the German model is exercised through two boards, in which the upper board supervises the executive board on behalf of stakeholders and is typically societal oriented. In this model, although shareholders own the company, they do not entirely dictate the governance mechanism. They elect 50 percent of members of supervisory board and the other half is appointed by labour unions, ensuring that employees and labourers also enjoy a share in governance. The supervisory board appoints and monitors the management board.

THE JAPANESE MODELThis is the business network model, which reflects the cultural relationships seen in the Japanese keiretsu network, in which boards tend to be large, predominantly executive and often ritualistic. The reality of power in the enterprise lies in the relationships between top management in the companies in the keiretsu network. In this model the financial institution has accrual role in governance. The shareholders and the main bank together appoint board of directors and the president.The distinctive features of the Japanese corporate governance mechanisms are as follows: The president who consults both the supervisory board and the executive management is

included. Importance of the lending bank is highlighted.

INDIAN MODEL OF GOVERNANCEIndian corporate is governed by the Company’s Act 1956 which follows more or less the UK model. The pattern of private companies is mostly that of closely held or dominated by a founder, his family and associates. India has adopted the key tenets of Anglo-American external and internal control mechanisms after economic liberalization.

ANGLO AMERICAN GERMAN JAPANESE

Share holders Shareholders and employees /unions

Shareholders and banks

Elects Elects Elects

Board of Directors Supervisory Board Supervisory Board appoints President And President

Appoints Appoints Appoints

Officers/Executive Management Board Executive Board



Manage Manage Manage

Company Company Company

INDIAN MODEL = ANGLO AMERICAN MODEL +GERMAN MODEL

ELEMENTS OF GOOD CORPORATE GOVERNANCEGood corporate governance is characterized by a firm commitment and adoption of ethical practices by an organization across its entire value chain and in all of its dealings with a wide group of stakeholders encompassing employees, customers, vendors, regulators and shareholders (including the minority shareholders), in both good and bad times. To achieve this, certain checks and practices need to be whole-heartedly embraced. Good governance deals with certain obligation to society at large, obligation to investors, obligation to employees, obligation to customers & Managerial obligations which are as follow -:

OBLIGATION TO SOCIETY AT LARGEA corporation is a creation of law as an association of persons forming part of a society in which it operates. Its activities are bound to impact the society as the society’s value would have an impact on the corporation. Therefore, they have mutual rights and obligations to discharge for the benefit of each other. National interest: A company (and its management) should ne committed in all its actions to

benefit the economic development of the countries in which it operates and should not engage in any activity that would militate against such an objective.

Political non-alignment: A company should be committed to and support a functioning democratic constitution and system with a transparent and fair electoral system and should not support directly or indirectly any specific political party or candidate for political office.

Legal compliances: The management of a company should comply with all applicable government laws, rules and regulations. Legal compliance will also mean that corporations should abide by the tax laws of the nations in which they operate and these should be paid on time and as per the required amount.

Rule of law: Good governance requires fair, legal frameworks that are enforced impartially. It also requires full protection of rights, particularly those of minority shareholders. Impartial enforcement of laws requires an independent judiciary and regulatory authorities.

Honest and ethical conduct: Every officer of the company including its directors, executives and non executive directors, managing director, CEO, CFO and CCO should deal on behalf of the company with professionalism, honesty, commitment and sincerity as well as high moral and ethical standards.

Corporate citizenship: A corporate should be committed to be a good corporate citizen not only in compliance with all relevant laws and regulations but also by actively assisting in the improvement of the quality of life of the people in the communities in which it operates with the objective of making them self reliant and enjoy a better quality of life.

Ethical behaviour: Corporations have a responsibility to set exemplary standards of ethical behaviour, both internally within the organizations, as well as in their external relationships.



Social concern: The Company should have concerns towards the society. It can help the needy people & show its concern by not polluting the water, air & land. The waste disposal should not affect any human or other living creatures.

Healthy and safe working environment: A company should be able to provide a safe and healthy working environment and comply with the conduct of its business affairs with all regulations regarding the preservations of environment of the territory it operates in.

Competition: A company should market its products & services on its own merits & should not resort to unethical advertisements or include unfair & misleading pronouncements on competitors’ products & services.

Timely responsiveness: Good governance requires that institutions & processes try to serve all stakeholders within a reasonable time frame.

Corporations should uphold the fair name of the country.OBLIGATION TO INVESTORSThe investors as shareholders and providers of capital are of paramount importance to a corporation. A company has following obligations to investors: Towards shareholders: A company should be committed to enhance shareholder value and

comply with all regulations and laws that govern shareholders rights. The boa5rd of directors of the company shall and fairly inform its shareholders about all relevant aspects of the company’s business and disclose such information in accordance with the respective regulations and agreements. Every employee shall strive for the implementation of and compliance with this in his professional environment. Failure to adhere to the code could attract the most severe consequences including termination of employment or directorship as the case may be.

Measures promoting transparency and informed shareholder participation: A related issue of equal importance is the need to bring about greater levels of informed attendance and meaningful participation by shareholders in matters relating to their companies without such freedom being abused to interfere with management decision. An ideal corporate should address this issue and relate it to more meaningful and transparent accounting and reporting.

Transparency means that information is freely available and directly accessible to those who will be affected by such decisions and their enforcement. It also means that enough information is provided and that it is provided in easily understandable forms and media.

Financial reporting and records: A company should prepare and maintain accounts of its business affairs fairly and accurately in accordance with the financial and accounting reporting standards, laws and regulations of the country in which it conducts the business affairs.Wilful material misrepresentation of and/or misinformation on the financial accounts and reports shall be regarded as the violation of the firm’s ethical conduct and also will invite appropriate civil or criminal action under the relevant laws.

OBLIGATION TO EMPLOYEESIn the context of enhanced awareness of better governance practices, managements should realize that they have their obligations towards their workers too. Fair employment practices: An ideal corporate should provide equal access and fair

treatment to all employees on the basis of merit; the success of the company will be improved while enhancing the progress of individuals and companies. The applicable labour and employment laws should be followed wherever it operates.



Equal opportunities: A company should provide equal opportunity to all its employees and all qualified applicants for employment without regard to their race, caste, religion, colour, marital status, sex, age, nationality and disability.

Humane treatment: Companies should treat employees as their first customers and above all as human. They have to meet the basic needs of all employees in the organization. There should be a friendly, healthy and competitive environment for the workers to prove their ability.

Participation: Participation of both men and women is a key cornerstone of corporate governance. Participation could be either direct or through representatives. It needs to be informed and organized. This means freedom of association and expression on one hand and an organized civil society on the other.

Empowerment: Empowerment unleashes creativity and innovation throughout the organization by truly vesting decision making powers at the most appropriate levels in the organizational hierarchy.

Equity and inclusiveness: A corporation is a miniature of a society whose well being depends on ensuring that all its employees feel that they have a stake in it and do not feel excluded from the main stream. This requires all groups, particularly the most vulnerable, have opportunities to improve or maintain their well being.

Participative and collaborative environment: There should not be any form of human exploitation in the company. There should be equal opportunities for all levels of management in any decision-making. The management should cultivate the culture where employees should feel they are secure and are being well taken care of. Collaborative environment would bring peace and harmony between the working community and the management, which in turn, brings higher productivity, higher profits and higher market share.

OBLIGATION TO CUSTOMERSA company’s existence cannot be justified without its catering to the needs of its customers. The companies have an obligation to its employees, without whose assistance they cannot realize their objectives. Quality of products and services: The Company should be committed to supply goods and

services of the highest quality standards, backed by efficient after sales service consistent with the requirements of the customers to ensure their total satisfaction. The quality standards of company’s goods and services should meet not only the required national standards but also should endeavour to achieve international standards.

Products at affordable prices: Companies should ensure that they make available to their customers quality goods at affordable prices while making normal profit is justifiable, profiteering and fattening on the miseries of the poor consumers is unacceptable. Companies must constantly endeavour to update their expertise, technology and skills of manpower to cut down costs and pass on such benefits to customers. They should not create a scare in the midst of scarcity or by themselves create an artificial scarcity to make undue profits.

Unwavering commitment to customer satisfaction: Companies should be fully committed to satisfy their customers and earn their goodwill to stay long in the business. They should encourage the warranties and guarantees given on their products and in case of harmful or sub-standard products should replace them with good ones.

MANAGERIAL OBLIGATIONS



Protecting company’s assets: The assets of the company should not be dissipated or misused but invested for the purpose of conducting the business for which they are duly authorized. These include tangible as well as intangible assets.

Behaviour toward government agencies: A company’s employees should not offer or give any of the firm’s funds or property as donation to any government agencies or their representatives directly or through intermediaries in order to obtain any favourable performance of official duties.

Control: control is a necessary principal of governance that the freedom of management should be exercised within a framework of appropriate checks and balances. Control should prevent misuse of power, facilitate timely management response to change and ensure that business risks are pre-emptively and effectively managed.

Consensus oriented: Good governance requires mediation of the different interests in society to reach a broad consensus on what is in the best interest of the whole community and how this can be achieved.

Gifts and donations: The Company’s employees should neither receive nor make directly or indirectly any illegal payments, remuneration, gifts, donations or comparable benefits which are intended to or perceived to obtain business or uncompetitive favours for the conduct of its business.

Unit- II-: Land mark in the emergence of CG: CG Committees, World Bank on CG, OECD Principle, Sarbanes, Oxley act-2002, Indian Committees and guidelines, CII Initiatives.

Landmarks in the Emergence of Corporate Governance

Over a period of time, a change had come in the perception of people about corporategovernance from the exclusive benefits of shareholders to the benefit of all stakeholders.

Developments in the US -: Corporate governance gained importance in the US after the Watergate scandal that involved US corporate making political contributions and offering bribes to government officials.

Developments in the UK -: In England, seeds of modern corporate governance were sown in the aftermath of the Bank of Credit and Commerce International (BCCI) scandal. BCCI, a global bank was made up of holding companies, affiliates, subsidiaries, banks-with-in-banks. The BCCI entities flagrantly evaded legal restrictions in the movement of capital and goods almost on a daily routine.

Another landmark that heightened people’s awareness and sensitivity on the issue and resolve the rot of corporate misdeeds. Which leads to failure of Barings Bank, Britain’s oldest merchant bank failed because of unhealthy trades on behalf of its customers and lost $1.4 billion and pulled its shutter down.



CG COMMITTEESThroughout the US, UK, and other countries a number of committees got appointed to recommend reforms and regulations in corporate governance. They are all known by the names of the individuals that had chaired the committees.

The Cadbury Committee on Corporate Governance, 1992 - Sir Adrian Cadbury

Stated Objective was “to help raise the standards of corporate governance and the level of confidence in financial reporting and auditing by setting out clearly what it sees as the respective responsibilities of those involved and what it believes is expected of them”.

The Cadbury committee investigated the accountability of the board of directors to shareholders and to the society. The Cadbury Code of best Practices had 19 recommendations in the nature of Guidelines to the board of directors, nonexecutive directors, executive directors and such other officials.

CORPORATE GOVERNANCE COMMITTEES1. Cadbury committee Report

The report was mainly divided into three parts:-A. Reviewing the structure and responsibilities of Boards of Directors and recommending a

Code of Best PracticeB. Considering the role of Auditors and addressing a number of recommendations to the

Accountancy Profession C. Dealing with the Rights and Responsibilities of Shareholders

A. Reviewing the structure and responsibilities of Boards of Directors and recommending a Code of Best Practice

1. Board of directors: meet regularly, retain full and effective control over the company and monitor the

executive management balance of power and authority

2. Non-Executive Directors independent judgment independent of management and free from any business3. Executive Directors full and clear disclosure of directors’ total emoluments4. Financial Reporting and Controls a balanced and understandable assessment of their company’s position should report that the

business should ensure that an objective and professional relationship is maintained with the auditors.B. Considering the role of Auditors and addressing a number of

recommendations to the Accountancy Profession o external and objective checko professional and objective relationship between the board of directors and auditors should be

maintainedo to design audit



o regular rotation of audit partners to prevent unhealthy relationship.

Accountancy Profession should take the lead in:-(i) Developing a set of criteria for assessing effectiveness;

(ii) Developing guidance for companies on the form in which directors should report; and (iii) Developing guidance for auditors on relevant audit procedures and the form in which

auditors should report.

C. Dealing with the Rights and Responsibilities of Shareholders • Elect the directors to run the business on their behalf• Appoint the auditors to provide an external check• Committee's report places particular emphasis on the need for fair and accurate reporting of a

company's progress to its shareholders• TO make greater use of their voting rights and take positive interest in the board functioning• Effectiveness of general meetings could be increased.2. The Paul Ruthman CommitteeThe committee was constituted later to deal with the said controversial point of Cadbury Report. It watered down the proposal on the grounds of practicality. It restricted the reporting requirement to internal financial controls only as against “the effectiveness of the company’s system of internal control” as stipulated by the Code of Best Practices contained in the Cadbury Report.The final report submitted by the Committee chaired by Ron Hampel had some important and progressive elements, notably the extension of directors’ responsibilities to “all relevant control objectives including business risk assessment and minimizing the risk of fraud….”3. The Greenbury Committee 1995 This committee was setup in January 1995 to identify good practices by the Confederation of British Industry (CBI), in determining directors’ remuneration and to prepare a code of such practices for use by public limited companies of United Kingdom.

The committee aimed to provide an answer to the general concerns about the accountability by the proper allocation of responsibility for determining directors’ remuneration, the proper reporting to shareholders and greater transparency in the process.The committee produced the Greenbury Code of Best Practice which was divided into the four sections: Remmuneration Committee, Disclosures, Remuneration Policy and Service Contracts and Compensation. The Greenbury committee recommended that UK companies should implement the code as set out to the fullest extent practicable, that they should make annual compliance statements, and that investor institutions should use their power to ensure that the best practice is followed.4. The Hampel Committee 1995The Hampel committee was setup in November 1995 to promote high standards on Corporate Governance both to protect investors and preserve and enhance the standing of companies listed on the London Stock Exchange. The committee developed further the Cadbury report. And it made the following recommendations.i) The auditors should report on internal control privately to the directors.ii) The directors maintain and review all controls.iii) Companies should time to time review their need for internal audit function and control.It also introduced the combined code that consolidated the recommendation of earlier corporate governance reports (Cadbury Committee and Greenbury Committee).



5. The Combined Code 1998 The combined code was subsequently derived from Ron Hampel Committee’s Final Report, Cadbury Report and the Greenbury Report. The combined code is appended to the listing rules of the London Stock Exchange. As such, compliance of the code is mandatory for all listed companies in UK. The stipulations contained in the Combined Code require, among other things, that the boards should maintain a sound system of internal control to safeguard shareholder’s investments and the company’s assets. The directors should, at least annually, conduct a review of the effectiveness of the group’s system of internal control covering all controls, including financial, operational and compliance and risk management, and report to shareholders that they have done so.

6. The Turnbull Committee The Turnbull Committee was set up by the Institute of Chartered Accountants in England and Wales (ICAEW) in 1999 to provide guidance to assist companies in implementing the requirements of the Combined Code relating to internal control.The committee Provided guidance to assist companies in implementing the requirements of the Combined

Code relating to internal control. It recommended that where companies do not have an internal audit function, the board

should consider the need for carrying out an internal audit annually. The committee also recommended that board of directors confirm the existence of procedures

for evaluation and managing key risks. Corporate Governance is constantly evolving to reflect the current corporate economic and legal environment. To be effective, corporate governance practices need to be tailor to particular needs, objectives and risk management structure of an organization.

WORLD BANK ON CORPORATE GOVERNANCE

The World Bank, involved in sustainable development was one of the earliest economic organization o study the issue of corporate governance and suggest certain guidelines. The World Bank report on corporate governance recognizes the complexity of the concept and focuses on the principles such as transparency, accountability, fairness and responsibility that are universal in their applications.Corporate governance is concerned with holding the balance between economic and social goals and between individual and communal goals. The governance framework is there to encourage the efficient use of resources and equally to require accountability for the stewardship of those resources. The aim is to align as nearly as possible, the interests of individuals, organizations and society.The foundation of any corporate governance is disclosure. Openness is the basis of public confidence in the corporate system and funds will flow to those centers of economic activity, which inspire trust. This report points the way to establishment of trust and the encouragement of enterprise. It marks an important milestone in the development of corporate governance.OECD PRINCIPLES Organization for Economic Co-operation and Development (OECD) was one of the earliest non-governmental organizations to work on and spell out principles and practices that should govern corporate in their goal to attain long-term shareholder value.The OECD were trend setters as the Code of Best practices are associated with Cadbury report. The OECD principles in summary include the following elements.



i) The rights of shareholdersii) Equitable treatment of shareholdersiii) Role of stakeholders in corporate governanceiv) Disclosure and Transparencyv) Responsibilities of the boardi) THE RIGHTS OF SHAREHOLDERSThe corporate governance framework should protect shareholders’ rights.A. Basic shareholder rights include the right to: 1) secure methods of ownership registration; 2) convey or transfer shares; 3) obtain relevant information on the corporation on a timely and regular basis; 4) participate and vote in general shareholder meetings; 5) elect members of the board; and 6) sharein the profits of the corporation.B. Shareholders have the right to participate in, and to be sufficiently informed on, decisions concerning fundamental corporate changes such as:1) amendments to the statutes, or articles of incorporation or similar governing documents of the company; 2) the authorisation of additional shares; and 3) extraordinary transactions that in effect result in the sale of the company.C. Shareholders should have the opportunity to participate effectively and vote in general shareholder meetings and should be informed of the rules, including voting procedures, that govern general shareholder meetings:1. Shareholders should be furnished with sufficient and timely information concerning the date, location and agenda of general meetings, as well as full and timely information regarding the issues to be decided at the meeting.2. Opportunity should be provided for shareholders to ask questions of the board and to place items on the agenda at general meetings, subject to reasonable limitations.3. Shareholders should be able to vote in person or in absentia, and equal effect should be given to votes whether cast in person or in absentia.D. Capital structures and arrangements that enable certain shareholders to obtain a degree of control disproportionate to their equity ownership should be disclosed.E. Markets for corporate control should be allowed to function in an efficient and transparent manner.F. Shareholders, including institutional investors, should consider the costs and benefits of exercising their voting rights.

ii) THE EQUITABLE TREATMENT OF SHAREHOLDERSThe corporate governance framework should ensure the equitable treatment of all shareholders, including minority and foreign shareholders. All shareholders should have the opportunity to obtain effective redress for violation of their rights.A. All shareholders of the same class should be treated equally.1. Within any class, all shareholders should have the same voting rights. All investors should be able to obtain information about the voting rights attached to all classes of shares before they purchase. Any changes in voting rights should be subject to shareholder vote.2. Votes should be cast by custodians or nominees in a manner agreed upon with the beneficial owner of the shares.3. Processes and procedures for general shareholder meetings should allow for equitable treatment of all shareholders. Company procedures should not make it unduly difficult or expensive to cast votes.B. Insider trading and abusive self-dealing should be prohibited.



C. Members of the board and managers should be required to disclose any material interests in transactions or matters affecting the corporation.

iii) THE ROLE OF STAKEHOLDERS IN CORPORATE GOVERNANCEThe corporate governance framework should recognise the rights of stakeholders as established by law and encourage active co-operation between corporations and stakeholders in creating wealth, jobs, and the sustainability of financially sound enterprises.A. The corporate governance framework should assure that the rights of stakeholders that are protected by law are respected.B. Where stakeholder interests are protected by law, stakeholders should have the opportunity to obtain effective redress for violation of their rights.C. The corporate governance framework should permit performance-enhancing mechanisms for stakeholder participation.D. Where stakeholders participate in the corporate governance process, they should have access to relevant information.

iv) DISCLOSURE AND TRANSPARENCYThe corporate governance framework should ensure that timely and accurate disclosure is made on all material matters regarding the corporation, including the financial situation, performance, ownership, and governance of the company.A. Disclosure should include, but not be limited to, material information on:1. The financial and operating results of the company.2. Company objectives.3. Major share ownership and voting rights.4. Members of the board and key executives, and their remuneration.5. Material foreseeable risk factors.6. Material issues regarding employees and other stakeholders.7. Governance structures and policies.B. Information should be prepared, audited, and disclosed in accordance with high quality standards of accounting, financial and non-financial disclosure, and audit.C. An annual audit should be conducted by an independent auditor in order to provide an external and objective assurance on the way in which financial statements have been prepared and presented.D. Channels for disseminating information should provide for fair, timely and cost-efficient access to relevant information by users.

v) THE RESPONSIBILITIES OF THE BOARDThe corporate governance framework should ensure the strategic guidance of the company, the effective monitoring of management by the board, and the board’s accountability to the company and the shareholders.A. Board members should act on a fully informed basis, in good faith, with due diligence and care, and in the best interest of the company and the shareholders.B. Where board decisions may affect different shareholder groups differently, the board should treat all shareholders fairly.C. The board should ensure compliance with applicable law and take into account the interests of stakeholders.D. The board should fulfil certain key functions, including:



1. Reviewing and guiding corporate strategy, major plans of action, risk policy, annual budgets and business plans; setting performance objectives; monitoring implementation and corporate performance; and overseeing major capital expenditures, acquisitions and divestitures.2. Selecting, compensating, monitoring and, when necessary, replacing key executives and overseeing succession planning.3. Reviewing key executive and board remuneration, and ensuring a formal and transparent board nomination process.4. Monitoring and managing potential conflicts of interest of management, board members and shareholders, including misuse of corporate assets and abuse in related party transactions.5. Ensuring the integrity of the corporation’s accounting and financial reporting systems, including the independent audit, and that appropriate systems of control are in place, in particular, systems for monitoring risk, financial control, and compliance with the law.6. Monitoring the effectiveness of the governance practices under which it operates and making changes as needed.7. Overseeing the process of disclosure and communications.The OECD guidelines are somewhat general and both the Anglo-American system and Continental European (or German) system would be quite consistent with it.

SARBANES- OXLEY ACT, 2002 The Sarbanes-Oxley Act (SOX) is a sincere attempt to address all the issues associated with corporate failure to achieve quality governance and to restore investor’s confidence. The Act was formulated to protect investors by improving the accuracy and reliability of corporate disclosures, made precious to the securities laws and for other purposes. The act contains a number of provisions that dramatically change the reporting and corporate director’s governance obligations of public companies, the directors and officers. The important provisions in the SOX Act are briefly given below.

i) Establishment of Public Company Accounting Oversight Board (PCAOB): SOX creates a new board consisting of five members of whom two will be certified public accountants. All accounting firms have to get registered with the board. The board will make regular inspection of firms. The board will report to SEC. The report will be ultimately forwarded to Congress.

ii) Audit Committee: The SOX provides for new improved audit committee. The committee is responsible for appointment, fixing fees and oversight of the work of independent auditors. The registered public accounting firms should report directly to audit committee on all critical accounting policies.

iii) Conflict of Interest: The public accounting firms should not perform any audit services for a publically traded company.

iv) Audit Partner Rotation: The act provides for mandatory rotation of lead audit or co-ordinating partner and the partner reviewing audit once every 5 years.

v) Improper influence on conduct of Audits : According to act, it is unlawful for any executive or director of the firm to take any action to fraudulently influence, coerce or manipulate an audit.

vi) Prohibition of non-audit services : Under SOX act, auditors are prohibited from providing non-audit services concurrently with audit financial review services.



vii) CEOs and CFOs are required to affirm the financials : CEOs and CFOs are required to certify the reports filed with the Securities and Exchange Commission (SEC).

viii) Loans to Directors: The act prohibits US and foreign companies with Securities traded within US from making or arranging from third parties any type of personal loan to directors.

ix) Attorneys : The attorneys dealing with publicly traded companies are required to report evidence of material violation of securities law or breach of fiduciary duty or similar violations by the company or any agent of the company to Chief Counsel or CEO and if CEO does not respond then to the audit committee or the Board of Directors.

x) Securities Analysts: The SOX has provision under which brokers and dealers of securities should not retaliate or threaten to retaliate an analyst employed by broker or dealer for any adverse, negative or unfavorable research report on a public company. The act further provides for disclosure of conflict of interest by the securities analysts and brokers or dealers.

xi) Penalties: The penalties are also prescribed under SOX act for any wrong doing. The penalties are very stiff. The Act also provides for studies to be conducted by Securities and ExchangeCommission or the Government Accounting Office in the following area:i) Auditor’s Rotationii) Off balance Sheet Transactionsiii) Consolidation of Accounting firms & its impact on industryiv) Role of Credit Rating Industryv) Role of Investment Bank and Financial Advisers.

INDIAN COMMITTEES AND GUIDELINES & CII INITIATIVES

Corporate Governance Initiatives in India / Historical Perspective/ Corporate Governance of India Has Undergone A Paradigm Shift

There have been several major corporate governance initiatives launched in India since the mid-1990s. The FIRST was by the Confederation of Indian Industry (CII), India’s largest industry and business association, which came up with the first voluntary code of corporate governance in 1998. The SECOND was by the SEBI, now enshrined as Clause 49 of the listing agreement. The THIRD was the Naresh Chandra Committee, which submitted its report in 2002. The FOURTHwas again by SEBI — the Narayana Murthy Committee, which also submitted its report in 2002. Based on some of the recommendation of this committee, SEBI revised Clause 49 of the listing agreement in August 2003. Subsequently, SEBI withdrew the revised Clause 49 in December 2003, and currently, the original Clause 49. FIFTH was Recent Developments in India CII Taskforce on Corporate Governance – 2009 SIXTH was Corporate Governance Voluntary Guidelines –2009.

1.THE CII CODE- : More than a year before the onset of the Asian crisis, CII set up a committee to examine corporate governance issues, and recommend a voluntary code of best practices. The committee



was driven by the conviction that good corporate governance was essential for Indian companies to access domestic as well as global capital at competitive rates. The first draft of the code was prepared by April 1997, and the final document (Desirable Corporate Governance: A Code), was publicly released in April 1998. The code was voluntary, contained detailed provisions, and focused on listed companies.

2. KUMAR MANGALAM BIRLA COMMITTEE REPORT AND CLAUSE 49-:While the CII code was well-received and some progressive companies adopted it, it was Felt that under Indian conditions a statutory rather than a voluntary code would be more Purposeful, and meaningful. Consequently, the second major corporate governance initiative in the country was undertaken by SEBI. In early 1999, it set up a committee under Kumar Mangalam Birla to promote and raise the standards of good corporate governance. In early 2000, the SEBI board had accepted and ratified key recommendations of this committee, and these were incorporated into Clause 49 of the Listing Agreement of the Stock Exchanges.

3. THE NARESH CHANDRA COMMITTEE REPORT ON CORPORATE GOVERNANCE-: The Naresh Chandra committee was appointed in August 2002 by the Department of Company Affairs (DCA) under the Ministry of Finance and Company Affairs to examine various corporate governance issues. The Committee submitted its report in December 2002. It made recommendations in two key aspects of corporate governance: financial and non-financial disclosures: and independent auditing and board oversight of management.

4. NARAYANA MURTHY COMMITTEE REPORT ON CORPORATE GOVERNANCE-:The fourth initiative on corporate governance in India is in the form of the recommendations of the Narayana Murthy committee. The committee was set up by SEBI, under the chairmanship of Mr. N. R. Narayana Murthy, to review Clause 49, and suggest measures to improve corporate governance standards. Some of the major recommendations of the committee primarily related to audit committees, audit reports, independent directors, related party transactions, risk management, directorships and director compensation, codes of conduct and financial disclosures.

5. CII TASKFORCE ON CORPORATE GOVERNANCE – 2009-:Satyam is a one-off incident - especially considering the size of the malfeasance. The overwhelming majority of corporate India is well run, well regulated and does business in a sound and legal manner. However, the Satyam episode has prompted a relook at our corporate governance norms and how industry can go a step further through some voluntary measures. With this in mind, the CII set up a Task Force under Mr. Naresh Chandra in February 2009 to recommend ways of further improving corporate governance standards and practices both in letter and spirit. The report enumerates a set of voluntary recommendations with an objective to establish higher standards of probity and corporate governance in the country.The recommendations in brief are as under:1. Appointment of Independent Directora. Nomination Committee2. Duties, liabilities and remuneration of independent directorsa. Letter of Appointment to Directorsb. Fixed Contractual Remunerationc. Structure of Compensation to NEDs3. Remuneration Committee of Board

4. Audit Committee of Board5. Separation of the offices of the Chairman and the Chief Executive Officer6. Attending Board and Committee Meetings through Tele-conferencing andVideo conferencing7. Executive Sessions of Independent Director



8. Role of board in shareholders and related party transactions9. Auditor – Company Relationship

10. Independence to Auditors11. Certificate of Independence12. Auditor Partner Rotation13. Auditor Liability14. Appointment of Auditors15. Qualifications of Auditors Report16. Whistle Blowing Policy

17. Risk Management Framework18. The legal and regulatory standards19. Capability of Regulatory Agencies -Ensuring Quality in Audit Process20. Effective and Credible Enforcement21. Confiscation of Shares22. Personal Liability23. Liability of Directors and Employees24. Institutional Activism25. Media as a stakeholder

According to the report, much of best-in-class corporate governance is voluntary – of companies taking conscious decisions of going beyond the mere letter of law.6. CORPORATE GOVERNANCE VOLUNTARY GUIDELINES –2009More recently, in December 2009, the Ministry of Corporate Affairs (MCA) published a new set of “Corporate Governance Voluntary Guidelines 2009”, designed to encourage companies to adopt better practices in the running of boards and board committees, the appointment and rotation of external auditors, and creating a whistle blowing mechanism. The guidelines are divided into the following six parts:1. Board of Directors2. Responsibilities of the Board3. Audit Committee of the Board4. Auditors5. Secretarial Audit6. Institution of mechanism for Whistle BlowingThese guidelines provide for a set of good practices which may be voluntarily adopted by the Public companies. Private companies, particularly the bigger ones, may also like to adopt these guidelines. The guidelines are not intended to be a substitute for or additions to the existing laws but are recommendatory in nature.

Corporate Governance –MFC – 4th Sem.Mr. Rashmiranjan Panigrahi, Lecturer in Finance, ASMIT

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Unit- III -: Agent and Institution in CG: Rights and privileges of shareholder, investor Problems & Protection, CG & other stakeholders, Role of Regulators & Government.

Corporate Governances is needed to create a corporate culture of consciousness, transparency and openness. it refers to a combination of laws, rules, regulations, procedure and voluntary practices to enable companies to maximize the shareholders ‘long term value. It leads to increase customer satisfaction, shareholder value and wealth.

THEORETICAL BASIS - AGENCY COSTS

Fundamental theoretical basis of corporate governance is agency costsShareholders are the owners of the joint-stock, Limited Liability Company and are the principalsThe management directly or indirectly selected by the shareholders pursues the objectives of the company defined by the principalsThough it is presumed that the management may carry out this responsibility, it often may not be the case as the objectives of the management in real practice could differ from those of the shareholders which may lead to agency costs.

Instruments that may reduce the agency costsFinancial and non-financial disclosuresIndependent oversight of management consisting of two aspects:1. The role of the independent statutory auditors


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2. Independent oversight by the board of directors of a company

LONG-TERM SHAREHOLDER VALUEUniversally, it is accepted that the objective of “good” corporate governance is to “maximize the long-term shareholder value”. There have been various committees and boards that have been setup both internationally and in India to improve the quality of corporate governance. We need to at this stage understand the rights of the shareholders laid down by the Indian Companies Act of 1956.

RIGHTS AND PRIVILEGES OF SHAREHOLDERS

Rights of shareholders

The members of the company enjoy various rights in relation to the company. These rights are

conferred on the members of the company either by the Indian Companies Act 1956 or by the

Memorandum and articles of Association of the company or by the general law, especially those

relating to contracts under the Indian Contract Act, 1872.

Some of the more important rights of the shareholders as stressed by these acts are the following:

He has the right to obtain copies of the Memorandum of Association, Article of Association

and certain resolutions and agreements on request, on payment of prescribed fees.

He has the right to have the certificate of shares held by him within 3 months of the

allotment.

He has the right to transfer his share or other interests in the company subject to the manner

provided by the articles of the company.

He has a right to appeal to the Company Law Board if the company refuses or fails to register

the transfer of shares.

He has the right to apply to the Company Law Board for the rectification of the register of

members.

He has the right to apply to the court to have any variation or abrogation to his rights set

aside by the court.

He has a right to inspect the register and the index of members, annual returns, register of

charges and register of investments not held by the company in its own name without any

charge.

He is entitled to receive notices of general meetings and to attend such meetings and vote

either in person or by proxy.


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He is entitled to receive a copy of the statutory report.

He is entitled to receive copies of the annual report of directors, annual accounts and

auditors’ report.

He has the right to participate in the appointment of auditors and the election of directors at

the annual general meeting of the company.

He has the rights to make an application to Company Law board for calling annual general

meeting, if the company fails to call such a meeting within the prescribed time limits.

He is entitled to obtain and inspect the copies of minutes of proceedings of general meetings.

He has the right to participate in the declaration of dividends and receive his dividends duly.

He has a right to demand poll.

He has a right to apply for investigation of the affairs of the company.

He has a right to remove the director before the expiry of the term of his office.

He has a right to make an application to company Law Board for relief in case of oppression

and mismanagement.

He can make a petition to the High Court for the winding up of the company under certain

circumstances.

INVESTOR PROTECTIONInvestor protection focuses on making sure that investors are fully informed about their purchases, transactions, affairs of the company that they have invested in and the like. Investor protection is one of the most important elements of a thriving securities market or other financial investment institution. Simply put, investor protection is the effort to make sure that those who invest their money in regulated financial products are not defrauded by brokers or other parties.

SEBI & INVESTOR PROTECTION

The Securities and Exchange Board of India Act, 1992 (the SEBI Act) was amended in the years 1995, 1999 and 2002, the primary function of which is the protection of the investors’ interest and the healthy development of Indian financial markets.

OBJECTIVES OF SEBI 1. Investor protection, so that there is a steady flow of savings into the Capital Market. 2. Ensuring the fair practices by the issuers of securities, namely, companies so that they can

raise resources at least cost.3. Promotion of efficient services by brokers, merchant bankers and other intermediaries so that

they become competitive and professional. 4. regulating substantial acquisition of shares and takeover of companies


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5. promoting investors’ education and training of intermediaries of securities markets 6. Carry out inspection/ audits of the SEs / intermediaries etc. 7. Call for information from any bank / any authority / corporation / agencies in respect of any

transaction in securities which is under investigation or inquiry by SEBI 8. performing such functions and exercising such powers under the Securities Contracts

(Regulation) Act, 1956 (SCRA) 9. conducting research

INVESTOR PROTECTION MEASURES BY SEBI Section 11(2) of the SEBI Act contains measures available with SEBI to implement the legislated desire of investor protection. The measures available with SEBI include the following:

1. regulating the business in Stock Exchanges (SEs) and any other securities markets

2. registering and regulating the working of intermediaries like stock brokers, sub-brokers,

3. registering and regulating the working of venture capital funds and collective investment schemes, including mutual funds

4. prohibiting fraudulent and unfair trade practices relating to securities markets

5. prohibiting insider trading in securities.

IMPACT OF INVESTOR PROTECTION ON OWNERSHIP AND CONTROL OF FIRMS

In many countries, firms are owned and controlled by promoter families and in such closely

held firms; insiders may use every opportunity to abuse rights of other shareholders and steal

their profits through devious means.

Investor protection also provides an impetus for the growth of capital markets. When

investors are protected from the insider expropriation, they tend to pay more for securities which

makes it attractive for the entrepreneurs to issue securities.

Through investor protection, financial markets can develop with ease and perfection. This

promotes economic growth through:

I.Enhancing savings and capital formation

II.Channelising these into real investments

III.Improving the efficiency of capital allocation since capital flows into more productive uses

CORPORATE GOVERNANCE PROVISIONS IN THE COMPANIES ACT, 2013

The enactment of the companies Act 2013 was major development in corporate governance in 2013. The new Act replaces the Companies Act, 1956 and aims to improve corporate governance standards, simplify regulations and enhance the interests of minority shareholders. The new Act is a major milestone in the corporate governance sphere in India and is likely to have significant


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impact on the governance of companies in the country. Following are the main provisions related to corporate governance that have been incorporated in the Companies Act, 2013.

1. THE COMPANIES ACT, 2013 introduces new definitions relating to accounting standards, auditing standards, financial statement, independent director, interested director, key managerial personnel, voting right etc. For example, the legislation introduces a new class of companies called ‘one person company’ (OPC) to the existing classes of companies, namely public and private. OPC is a new vehicle for individuals for carrying on a business with limited liability.

2. BOARD OF DIRECTORS (CLAUSE 166): The new Act provides that the company can have a maximum of 15 directors on the Board; appointing more than 15 directors, however, will require shareholder approval. Further, the new Act prescribes both academic and professional qualifications for directors. It states that the majority of members of Audit Committee including its Chairperson should have the ability to read and understand the financial statements. In addition, for the first time, duties of directors have been defined in the Act. The Act considerably enhances the roles and responsibilities of the Board of Directors and makes them more accountable. Infringement of these provisions has been made punishable with fine.

3. INDEPENDENT DIRECTOR (CLAUSE 149): The concept of independent directors (IDs) has been introduced for the first time in the Company Law in India. It prescribes that all listed companies must have at least one-third of the Board as IDs. IDs may be appointed for a term of up to five consecutive years. While the introduction of the concept of IDs in the new Act is a welcome move, it does not appear to sufficiently address the enduring challenges related to the effectiveness of IDs in the context of concentrated shareholding pattern in most of the listed companies in India.

4. RELATED PARTY TRANSACTIONS (RPT) (CLAUSE 188): The new Act requires that no company should enter into RPT contracts pertaining to — (a) sale, purchase or supply of any goods or materials; (b) sale or dispose of or buying, property of any kind; (c) leasing of property of any kind; (d) availing or rendering of any services; (e) appointment of any agent for purchase or sale of goods, materials, services or property; (f) such related party's appointment to any office or place of profit in the company, its subsidiary company or associate company. In case such a contract or arrangement is entered into with a related party, it must be referred to in the Board’s Report along with the justification for entering into such contract or arrangement. Further, any RPT between a company and its Directors shall require prior approval by a resolution in general meeting. Violations of these provisions would be punishable with fine or imprisonment or both.

5. CORPORATE SOCIAL RESPONSIBILITY (CSR) (CLAUSE 135): The new Act has mandated the profit making companies to spend on CSR related activities. Every company having net worth of Rs 500 crore or more or turnover of Rs 1000 crore or more or net profit of Rs 5 crore or more during any financial year shall constitute a CSR Committee of the


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Board. In pursuance of its CSR policy, the Board of every such company–through these committees--shall ensure that the company spends (in every financial year) at least 2 percent of the average net profits of the company made during the three immediately preceding financial years.

6. AUDITORS (CLAUSE 139): A listed company cannot appoint or reappoint (a) an individual as auditor for more than one term of five consecutive years, or (b) an audit firm as auditor for more than two terms of five consecutive years. To avoid any conflict of interest, the Act has mentioned the services that an auditor cannot render, directly or indirectly, to the company, which include: accounting and book-keeping services, internal audit, investment banking services, investment advisory services, management services etc.

7. DISCLOSURE AND REPORTING (CLAUSE 92): In the new Act, there is significant transformation in non-financial annual disclosures and reporting by companies as compared to the earlier format in the Companies Act, 1956.

8. SERIOUS FRAUD INVESTIGATION OFFICE (SFIO) (CLAUSE 211): The Act has proposed statutory status to SFIO. Investigation report of SFIO filed with the Court for framing of charges shall be treated as a report filed by a Police Officer. SFIO shall have power to arrest in respect of certain offences of the Act which attract the punishment for fraud. Further, the new Act has a provision for stringent penalty for fraud related offences.

9. CLASS ACTION SUITS (CLAUSE 245): For the first time, a provision has been made for class action under which it is provided that specified number of member(s), depositor(s) or any class of them, may file an application before the Tribunal seeking any damage or compensation or demand any other suitable action against an audit firm. The order passed by the Tribunal shall be binding on all the stakeholders including the company and all its members, depositors and auditors.

(Source- www.nseindia.com)

GUIDELINES FOR INVESTORS/SHAREHOLDERS

The Securities and Exchange Board of India (SEBI), the Indian capital market regulator in its

guidelines to investors/shareholders, titled “Quick reference Guide for Investors” published

recently makes it known that a shareholder of a company enjoys the following rights:

Rights of shareholder, as an individual:

To receive the share certificates on allotment or transfer, as the case may be, in due time.

To receive copies of abridged annual report, the balance sheet and the Profit & Loss account

and the auditors’ report.

To participate and vote in general meetings either personally or through proxies.

To receive dividends in due time once approved in general meeting.


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To receive corporate benefits such as rights, bonus etc. once approved.

To apply to Company Law board (CLB) to call or direct the convening the annual general

meeting.

To inspect the minute books of the general meetings and to receive copies thereof.

To proceed against the company by way of civil or criminal proceedings.

To apply for the winding up of the company.

To demand a poll on any resolution.

To requisition and extraordinary general meeting.

Rights of a Debenture holder: To receive interest/redemption in due time.

To receive a copy of the trust deed on request.

To apply for winding up of the company if the company fails to pay its debts.

To approach the debenture trustee with the debenture holder’s grievance.

Shareholder’s responsibilities:

While a shareholder may be happy to note that one has so many rights as a stakeholder in the

company, it should not lead one to complacency because one also has certain responsibilities to

discharge, such as

To remain informed

To be vigilant

To participate and vote in general meetings

To exercise one’s rights on one’s own or as a group

CORPORATE GOVERNANCE AND OTHER STAKEHOLDERS

A. CORPORATE GOVERNANCE AND EMPLOYEES

An organization needs capital and labour to create wealth. Earlier, the most important need for

an organization to be a success was capital. But today the growing recognition that human capital

is a source of competitive advantage has led to the understanding that labour is more important

than capital. The interest of the employees can be protected through the following:

Trade unions: Trade unions alone can represent the collective interests of employees and

fight for what is rightly due to them from the organization. They could use this as a platform

to negotiate agreements between the organization and labour.


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Co-determination: It a situation where there is employee representation on the board of

directors of the organization.

Profit sharing: Profit sharing motivates the individual worker to put in his best as his efforts

are directly related to the profits of the organization, in which he gets a share. Profit sharing

could be done in many ways, such as

- cash based sharing of annual profits where the annual cash profits of the organization are

shared among the employees,

- Deferred profit sharing where the deferred profits of the organization are shared among the

employees.

The objective of such profit sharing is to encourage employee involvement in the

organization and improve their motivation and distribution of wealth among all the

factors of production.

Equity sharing: Under equity sharing, employees are given an option to buy the

companies shares, identify themselves with, and thus become the owners of the organization.

There are various way sin which equity sharing could be done: employees share

1) Ownership plans, 2) stock bonus plans, 3) stock option plans, 4) employee buyout, and 5)

worker cooperatives.

Team production solution: Team production solution is a situation where the boards of

directors must balance competing interests of various stakeholders and then arrive at

decisions that are in the best interest of the organization.

B. CORPORATE GOVERNANCE AND CUSTOMERS

On 15th March 1962, President John F. Kennedy declared four rights of consumers- the right to

satisfaction of basic needs, the right to safety, the right to be informed, and the right to choose. In

1983, the United Nations recommended that world governments develop, strengthen and

implement a coherent consumer protection policy. In India, the Consumer Protection Act 1986

was passed and the country embarked on strengthening the consumer protection regime.

The explosion of interest in consumer matters is a very recent phenomenon. The reason is

twofold- a combination of new business methods and changing attitudes. The all pervasive

exaggerated and often false claims, made for services and goods, emphasize the imperative need


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for Consumer Protection Legislation and creation of awareness about it among the general

public.

The rights of the consumer are as follows:

The right to safety: The rights to be protected against the marketing of goods and services

which are hazardous to life and property.

The right to be informed: The consumer has the right to be informed about the quality,

quantity, potency, purity, standard and price of goods or services so as to protect them

against unfair trade practices.

The right to choose: The right to be assured, wherever possible, access to variety of goods

and services at competitive prices.

The right to be heard: The right to be assured that consumer’s interests will receive due

consideration at appropriate forums.

The right to seek redressed: the right against unfair trade practices or restrictive trade

practices or unscrupulous exploitation of consumers.

C. CORPORATE GOVERNANCE AND INSTITUTIONAL INVESTORSMost of the reports on corporate governance have emphasized the role which institutional

investors play in corporate governance. In India, there are broadly four types of institutional

investors:

The financial institutions, such as IFCI, ICICI, IDBI, the State Financial Corporation, etc.

Insurance companies such as LIC, GIC, and their subsidiaries.

All banks

All Mutual funds (MF) including UTI.

While an investor decision is under consideration, the key factors to be taken into consideration

are

Financial results and solvency: This is the most important factor among the factors such as

an upward trend in earnings per share and profits, a healthy cash flow and a reasonable level

of dividend payment. All these are considered major indicators of a company’s financial

health and are indicated in the financial results. However, a consistent dividend policy is less

significant.

Financial statements and annual reports: There are two important aspects under this head.


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o Extent of disclosure: The quality of the financial statements is the next most influential factor

when it comes to investment decisions. Institutional investors consider the level of disclosure

of the company’s strategies, initiatives and quality of management’s discussion and analysis

of the year’s results. Financial position in the annual report is equally important. This is a

strong indication of the investing public’s emphasis and preference for clear disclosures in a

company’s annual report, in excess of regulatory requirements.

o Comparability with international GAAP: a significant5 proportion of institutional investors

do not invest in a company if the financial statements are non-comparable to International

Generally Accepted Accounting Principles. Implicitly, this could mean that comparability of

financial statements of companies with International GAAP is important in the eyes of the

investor.

Investor communications: Institutional investors value the willingness of companies to

provide additional information to investors, analysts and other commentators, their prompt

release of information about transactions affecting minority shareholders and the existence of

other transparency mechanisms that help ensure fair treatment to all shareholders.

Composition and quality of the board: The most important aspect within this factor is the

quality and experience of the executive directors on the board. In contrast, investors would

consider investing even though they are dissatisfied with the quality, qualification and

experience of independent non-executive directors and their role in board meetings. In

addition, many investors are not too concerned if there are insufficient independent non-

executive directors on the board.

Corporate governance practices: Investors consider corporate governance practices when

they make investment decisions. The company should follow the principles for corporate

governance being- auditing and compliance, disclosure and transparency and board

processes.

Corporate image: The image of the company in the community is also considered when an

institutional investor is called on to take an investment decision. The image of the

organization should not be bad.

Share price: This is the last factor that is considered by an institutional investor when an

investment decision is made. If the shares of the company enjoy continuously rising prices in

the bourses, investors could be encouraged to invest in them.


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D. CORPORATE GOVERNANCE AND CREDITORSBanks and other creditors have an extremely important role to play in fostering efficiency in

medium and large private firms. Creditors, in turn, rely for their survival on debt repayment by

their borrowers. Without dependable debt collection, no amount of supervision or competition

can make banks run efficiently. Strong creditors are as critical to the efficient functioning of

enterprises as are strong owners.

Creditor monitoring and control

There are three crucial elements in creditor monitoring and control in market economies:

Adequate information: Lenders need information on the creditworthiness or otherwise of

potential borrowers, and depositors and bank supervisors need information on bank

portfolios.

Creditor incentives: The second requirement for debt to serve a control function is the

existence of appropriate market based incentives for creditors, be they banks, trade creditors

or government. These incentives may be in the form of higher margin of profit, high interest

charges from customers and sometimes even reduction in the quantum of Non-Performing

Assets.

Debt collection: without an effective system of debt collection, debtors lose repayment

discipline, the flow of credit is constrained, and creditors may be forced to come to the state

to cover their losses if they are to survive. Well designed and implemented rules facilitate

rapid and low cost debt recovery in cases of default, thereby lowering the risk of lending and

increasing the availability of credit to potential borrowers. Poorly designed and implemented

rules make lending more costly and stifle the flow of credit.

E. CORPORATE GOVERNANCE AND THE GOVERNMENTThe government plays the key role in corporate governance by defining the legal environment

and sometimes by directly influencing managerial decisions. Beyond defining the rules of the

game, the government may directly influence corporate governance. At one extreme, the

government owns the firm, so that the government is charged with monitoring managerial

decisions and limiting the ability of managers to maximize private benefits at the cost of society.


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References …1. In its broadest sense the ‘constituents’ may be thought of as those stakeholders who have a

‘moral interest’ or ‘stake’ in the existence and activities of a corporation. In a more narrow sense it embraces, at the core, shareholders and employees, but also extends to certain customers, suppliers and lenders. It is this loose definition of ‘stakeholders’ which we adopt here.

2. National Foundation for Corporate Governance , Discussion Paper : Corporate Governance in India : Theory and Practice.

3. A.C.Fernando (2006), Corporate Governance, Principles, Policies and Practices. pp 76, Pearson

4. A.C.Fernando (2006), Corporate Governance, Principles, Policies and Practices. pp 77, Pearson

5. Cadbury Committee Report : A report by the committee on the financial aspects of corporate governance. The committee was chaired by Sir Adrian Cadbury and issued for comment on (27 may 1992)

6. Greenbury Committee Report (1994) investigating board members’ remuneration and responsibilities

7. The committee report on corporate governance, The Hampel committee report (1998)8. The combined code of Best practices in Corporate Governance , The Turnbull Committee

Report, (1998)9. Principles of Corporate Governance : A report by OECD Task Force on Corporate

Governance. (1999)10. Patterson Report : The link between Corporate Governance and Performance (2001)11. Sarbanes Oxley Act of 2002 passed by the congress of the United States of America on 23rd

January, 2002.12. Confederation of Indian Industry, (March 1998) Desirable corporate Governance : A Code

(Based on recommendations of the national task forceon corporate governance , chaired by Shri Rahul Bajaj).

conceptual overview of corporate governance -- by mr.rashmiranjan

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