Sucheta Dalal :Corporate governance should begin at home - (23 May 1999)
Sucheta Dalal

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Corporate governance should begin at home - (23 May 1999)  

Last week Unit Trust of India (UTI), held a round table on corporate governance. Apart from bankers, heads of institutions, chosen chartered accountants, lawyers and sundry friends of UTI, the conference was attended by top bureaucrats of the finance ministry and the department of Company Affairs. The official reason for the round table was that having instituted an award for corporate governance following the union budget this year, UTI felt the need to debate the issue.

The discussion on corporate governance should have ended after members of the Confederation of Indian Industry (CII) adopted the CII code at the end of a year long debate on the subject – it was now time to practice better governance. Annual reports trickling in this year show that some top companies have included statements regarding the extent of compliance with the CII code. But the adoption of a best practices code has hardly led to a dramatic improvement in accountability of the corporate sector – the better managed and ethical companies continue to operate with transparency and investors have demonstrated their approval through high share prices. The corporate black sheep continue to hide facts, dodge investigations, lobby for politically engineered bailout of their large and beleaguered operations and languish on the stock market. So what was the UTI debate expected to achieve?

Clearly, the unstated agenda at this `closed door’ meeting was to debate Ute’s demand for board representation on the 100 top company boards and its plans to insist on a supervisory board for Infrastructure Leasing & Financial Services (IL & FS). Both moves had led to angry protests, which were powerful but privately conveyed to government. The bureaucracy clearly wanted a first hand evaluation of the issue. However, as is usually the case at such meetings, there was very little discussion and very limited frankness--most of the time was given over to speeches and at least four comprehensive presentations.

The corporate sector of course, opposed UTI’s demand for board representation. A day after the meeting, UTI decided not to press its case with at least two major corporate houses and has announced that it would not insist on representation if it is convinced that the management is protecting their interest as investors. However, the round table raises several related issues—

The first is regarding UTI’s own commitment to good governance. While UTI has been making demands for board representation on companies and asking for presentations on their performance, UTI itself was reluctant to follow the same rules. The Parekh report was released only a day after the `closed door’ round table. The full report, first disclosed by this paper, only demonstrated how much UTI has left hidden in the three-page summary released to the press earlier. The summary was not, as is the practice, an executive summary of the report, but facts chosen by UTI, even though most of the Parekh committee findings were merely an official confirmation of criticism about UTI over the years. The reason for suppressing the full report was apparently a fear that the disclosures would lead to another run on units before the book closure.

Clearly the logic is suspect. The massive Rs 4800 crore bailout through the Special unit scheme 98, the generous tax breaks which have revived the entire mutual fund industry and the availability of a line of credit from the Reserve Bank of India were adequate protection against a run on units. UTI, still felt the need to hide the Rs 1200 crore plus gap that remained after the bailout and the detailed analysis of the true state of its debt and equity portfolio until the sensitive index had zoomed a huge 400 points.

Even today, UTI’s announcement of restructuring measures is far from adequate. The appointment of independent directors on its board of trustees; strengthening of its asset management company for unit 64 and its willingness to comply with Securities and Exchange Board of India (SEBI) regulations is only a beginning. It still needs to disclose the exact state of its ``questionable’’debt portfolio, as demanded by the Parekh report. It needs to appoint separate and independent teams of fund managers of every single scheme and decentralise its operations – the announcements made so far do not indicate a comprehensive change. UTI is expected to cut repurchase price and dividends, but it is still not clear how it will tackle the outflow of corporate holdings when that happens. Finally, UTI has yet to appoint an independent professional firm to review its asset management processes including back office, inter-scheme transfers etc. It has only appointed a couple of chartered accountants on its board of trustees.

Having said that, what can be done to take the issue of corporate governance a little beyond the adoption of the CII code? The issue of appointing institutional nominees, as suggested by UTI is fraught with problems. A senior former institutional executive says that employee nominees are no solution. Firstly, there aren’t enough senior managers to be appointed on all boards, secondly, more junior managers, if appointed, neither carry weight on the boards nor are they able to forcefully argue issues. Moreover such nominees do not even have the incentive of meagre sitting fees paid to other directors. As for independent directors, the institutions’ experience is that they rarely take serious interest in the affairs of a company or submit detailed reports, because they are not paid. The sitting fees of Rs 2000 per meeting are no incentive. While some companies such as Housing Development Finance Corporation do pay their independent directors fairly well, the practice is not yet wide spread. The increased compensation to independent directors will also have to be accompanied by some restriction on the number of directorships. Papers circulated at the seminar indicate that opinion about the number of directorships that a person can hold varies from 2.6 to 10.

A simpler way of improving corporate governance is to empower shareholders. So far, companies only pay lip service to the rights of shareholders; in practice they have opposed any increase in their influence over decisions. The demand for postal ballots is a good example. The working group on revising the companies act had initially dropped the demand for a vote by postal ballot on major issues. This was later included in the draft bill but only in with respect to some specific decisions by companies. Investor associations have demanded that all special resolutions by companies should be decided by postal ballot, even if it is time consuming. This would ensure that companies do not pass catchall resolutions, which empower it to merge, divest, expand into unrelated areas and make investments, which have badly eroded shareholder value.

Finally, another area that needs careful examination is with regard to the on-going disclosures by companies to stock exchanges, under the listing rules. Fires, accidents, shutdown of production, adverse credit ratings, internal scams and regulatory action against companies and other matters, which have a material bearing on the stock prices, continue to be suppressed by a large number of companies. Sometimes these are revealed only through media exposes and stock exchanges do not have adequate powers to initiate disciplinary action. Empowering stock exchanges would also force better disclosure and practices by companies.

Finally, corporate governance is all about the attitudes of individual managements. The practices of a Hindustan Lever or Infosys Technologies are never going to be adopted by thousands of others. Ultimately, the market valuation of companies will always highlight the difference.
-- Sucheta Dalal