Sucheta Dalal

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March 25, 2009

COVER STORY (MoneyLIFE Issue, 9th April 09)

In June 1997, when asked about a move to have an age limit for corporate directors, Minoo R Shroff asked a newspaper, “Why should there be such restrictive provisions regarding the age of persons who run companies when there was no retirement age for people who run the country?” Quite true, if one makes that comparison. However, Mr Shroff must be regretting all his directorships, especially that of Nagarjuna Finance Ltd (NFL) which has been accused of defaulting on repayment to depositors. Mr Shroff had resigned from NFL in 2000. On 6th March this year, when the Andhra Pradesh (AP) High Court rejected the anticipatory bail plea for former directors of NFL, his distraught daughter called to tell me, “I don’t understand what is going on. My father is 80, he has done no wrong and was not even a director of Nagarjuna Finance when it began to default. Yet, he is sitting in London, scared and lonely and the court has rejected his anticipatory bail. I am told it is political, but I don’t understand what we have to do with the politics or how he is concerned with it. Do you have any idea what is going on?”
As bizarre as it sounds, Minoo Shroff, ex-vice-chairman of Raymond Limited, a prominent office bearer of the Bombay Parsi Panchayat and now heading the Forum of Free Enterprise (started by his uncle, the fearless and legendary financial wizard, AD Shroff) is on the run like a fugitive in a case with which he has, at best, a remote connection.
Shroff, Nimesh Kampani (chairman of JM Financial – see MoneyLIFE, 29 January 2009, pg 50), AP Kurian (who heads the Association of Mutual Funds of India) and LVV Iyer (a top Hyderabad-based corporate lawyer), were all independent directors of NFL for a brief spell until the year 2000. Mr Kampani, in fact, resigned in 1999. Until then, NFL, which had raised Rs100 crore from 85,000 depositors, had not defaulted on its repayment obligations.
Then, in September 2000, the debts of NFL were sold to Mahalakshmi Factoring Services, which later began to default on redemption and interest payment. Andhra Pradesh and Tamil Nadu are among the few states that have a tough legislation to protect depositors (see Box). Such a statute is both necessary and welcome, but the sinister manner in which it has been twisted to target Shroff, Kampani, Kurian and Iyer hardly seems to have depositors’ interest in mind.
The Nagarjuna case, after the Satyam saga, has put the role and liability of independent directors on the front burner. But the most alarming aspect of the whole case is that almost nobody wants to go on record to discuss it.
The vicious turn to the NFL story began in December 2008 with the AP police arresting NFL’s former chairman & managing director, KS Raju, and a former director PK Madhav. They had nothing to do with the company for eight long years. After languishing in jail for several weeks, they were released on bail at the end of January 2009 on the grounds that they had resigned in 2000 and were no longer connected with the company when it began to default. Surprisingly, even after this, the AP High Court refused to grant anticipatory bail to Kampani, Kurian and Shroff on 8th March.
Initially, Nimesh Kampani was the sole independent director to be issued summons and made to face the threat of arrest. A look-out notice was also issued to the airports as though he was a notorious criminal or scamster on the run. He avoided arrest only because he had left for Dubai on business and remains abroad. Minoo Shroff is away in London where he has remained for three months. Mr Kurian is apparently travelling incessantly and only Mr Iyer has decided to take his chances and stay put. Now that the AP High Court has refused their anticipatory bail plea, they will approach the Supreme Court in the coming week and their legal advisors are confident that at least a part of their torment will end.
MoneyLIFE spoke to over a dozen prominent industrialists, CEOs, bankers, lawyers, management consultants, fund managers, investment bankers, heads of industry associations and finance experts about the implications of the Nagarjuna affair. None of them wanted to be quoted on the issue. In fact, only Rahul Bajaj (chairman of Bajaj Auto), Deepak Parekh (chairman of HDFC) and Hemendra Kothari (chairman of DSP BlackRock) have openly criticised the Andhra action. The Confederation of Indian Industry (CII) said that it has made no public comment on the issue because it was ‘sub judice’; so did CB Bhave, chairman of the Securities and Exchange Board of India (SEBI). But the harassment of independent directors through a variety of cases at the lowest level of the police and judiciary is not at all sub judice. It is only an example of the reluctance to address the issue out of fear or indifference. The finance ministry did not comment, despite repeated efforts to contact Dr KP Krishnan, joint secretary, capital markets division.
Meanwhile, everyone else who we spoke to referred to a ‘political angle’ or ‘political vendetta’ as the reason for the warrant and look-out notice issued to Nimesh Kampani. They said it was connected to his decision to invest in Eenadu, a newspaper group that is apparently critical of Andhra’s powerful political leaders.
If true, it is an outrage. Investors and depositors in India have been systematically looted over the decades by hundreds of companies, mainly because of the apathy of regulators and government agencies. From plantation companies to finance companies (remember the collapse of the CR Bhansali group?), government agencies merely file civil action, that too, long after promoters have stripped all value and assets from such companies. Even in this case, the depositors’ interest is only an excuse; we will wait and see if depositors get their money back as a result of this action. If corporate India is correct, the state is using a convenient law for political vendetta against Kampani, while the other independent directors are suffering what the Americans would call ‘collateral damage’.
The anger among businessmen and industrialists we spoke to is publicly mute but palpable. “We are already a banana republic, how else can you explain what is happening to Kampani, Shroff and Kurian,” said a director of several leading Indian companies. Another pointed to how an overzealous municipal officer had filed criminal proceedings in a magistrate’s court against Anand Mahindra and the board of directors of a small private limited group company in the publishing business. Its crime: failure to put up a Marathi signboard as required under the Shops & Establishments Act. The court issued summons against Mr Mahindra and the board, without bothering to serve any notice for demand for the fine that is payable under the same Act. “It has reached a stage where petty officials and constables, who cannot see the difference between a head clerk and an independent director, have the powers to throw people in jail,” says an upright, no-nonsense, former bank chairman.
The real worry is that these are no longer isolated examples of overzealousness. In fact, policymakers and bureaucrats deliberately refuse to scrap outdated regulations and statutes, because they would like to retain the power to apply them selectively. In some cases, there are officially available monetary incentives that the public has not even heard about. As any legal expert would tell you, India continues to use laws and regulations, enacted by the British, which were framed primarily to keep Indians in check. All those powers are now in the hands of a venal political establishment and bureaucracy. A leading lawyer says, “There is monumental ignorance of corporate jurisprudence at the magistrates’ level. That has to change if India wants to make progress.”
In the past, independent directors have been routinely harassed and hounded in cheque-bouncing cases (Section 138 of the Negotiable Instruments Act). The Supreme Court’s interpretation of when directors can be held culpable in bounced cheques is now clear after dozens of important cases, but often the lower courts neither know of these judgements nor do they care much about them.
What does this signal to corporate India about the risk and liabilities attached to their role as watchdogs on behalf of minority shareholders? The ignominy suffered by Satyam’s high-profile independent directors after Ramalinga Raju’s astounding confession has created serious doubts about the integrity of top management. After the Nagarjuna episode, the directors wonder whether the perks, prestige and sitting fees attached to important directorships are worth the fear of harassment and even arrest if the management falls foul of the political establishment. Clearly, many think it is not. According to the Directors Database of Prime, 115 independent directors in almost a 100 companies have resigned in the past couple of months. This number may appear unusually large, since each of Saytam’s independent directors has relinquished multiple directorships. Former cabinet secretary, TR Prasad, has resigned from six directorships including GMR, Nelcast, Taj GVK Hotels & Resorts, TVS Motors and Suven Life Sciences, while Prof M Rammohan Rao, former dean of the International School of Business, has resigned from three companies. Dr Krishna Palepu and Vinod Dham have resigned from two companies each and there have been resignations from the Maytas companies as well. A senior Tata director expects that many independent directors will refuse to seek re-election at the Annual General Meetings that will begin in a few weeks.
Ironically, Mr Iyer, who is being persecuted in the Nagarjuna case, is an expert on corporate law and has authored several books and is a much-wanted speaker on the role and responsibilities of independent directors. A copy of his presentation, available with MoneyLIFE makes interesting points. It says that a director is personally liable, only when he “acts beyond the memorandum of association of the company and beyond the authorisation of a director.” Even in India, the Supreme Court held, in the UP Pollution Board case, that a director would not be vicariously liable for the company’s actions, unless he is in charge of and responsible for the running of the company.
On the other hand, in the Uphaar Cinema case, the Delhi High Court lifted the corporate veil and accepted the prosecution’s contention that the Ansals were, in fact, controlling and running the cinema house that was burnt down and could not be absolved of violation of rules and lack of maintenance which led to the fire that killed so many people. Mr Iyer says, “Law and judicial pronouncements are yet to keep pace with the requirements of a competitive business environment and a strict governance code. In the Indian context, duties of directors seem a myth in law rather than a reality.” And therein lies the problem. Unfortunately, only the Indian Merchants’ Chamber (IMC) seems to have thought along these lines leading to its past president and member of Rajya Sabha, YP Trivedi, moving a private member’s bill to offer fairly strong protection to directors. Such protection for independent directors acting in good faith exists in most developed countries, but a similar suggestion by the JJ Irani committee (that independent director should not be held liable for contravention of any provisions of law that happens without his knowledge or consent or connivance) in 2006 was ignored. However, in the recent past, the minister for corporate affairs, Prem Chand Gupta, alluded to the proposed changes in the Companies Act, including the introduction of a precise definition of ‘independent directors’. But any such amendment can only be passed when a new government is formed and if industry keeps up the pressure for reform.
One reputed person who sits on a dozen Indian and MNC boards says, “I find it surprising that the chambers of commerce are silent instead of protesting vociferously. I feel especially sorry for the directors and their families.” It is not as though corporate India is ignoring the issue. Many powerful individuals whose voice is usually heard in Delhi have spoken to everyone who matters in the political establishment – the prime minister, chairman of the Planning Commission, the Congress leadership as well as the Andhra government. They have drawn a blank and that is what has the corporate world turning worried, scared and speechless.
Some say that NFL began to default because the new management siphoned off money that was available with the company; but by not chasing those responsible, the case is only hurting genuine depositors at a time when a global recession has increased the threat of corporate defaults.
A Private Member’s Bill
IMC is the only business association to have offered a concrete proposal for safeguarding independent directors from needless persecution. It has proposed to protect independent directors through an amendment to the Companies Act. YP Trivedi, a past president of the Chamber and prominent tax consultant, who is now a Rajya Sabha member, moved a Bill in February 2009, proposing two amendments. First, it seeks to introduce Section 312 A to the Companies Act, on Liability of Independent Directors which offers fairly sweeping protection to independent directors on all corporate actions for which they are not personally responsible. Essentially, it says, “An independent director shall not be liable or punishable for any act or omission by the company or any officer of the company, which constitutes a breach or violation of any of the provisions of this Act or any other law for the time being in force.” Secondly, it says, “No arrest warrant shall be issued against an Independent Director without authorization by a judge of the rank of the District Judge, who shall give the Independent Director an opportunity of being heard before issuing such authorization.” It, however, clarifies that this protection will not be available to an independent director if he is guilty of gross or wilful negligence or fraud or was directly involved in or responsible for a breach or violation, or it was committed with his knowledge or consent.
Mr Trivedi’s proposed amendment bill was the result of an IMC meeting where many directors expressed their agitation about the mindless persecution and harassment of independent directors. Members pointed out that unless such harassment was stopped, it would be impossible to attract eminent people with professional knowledge and integrity to be independent directors. The Companies (Amendment) Bill 2009 already proposes a precise definition of ‘independent directors’ through the insertion of Section 255 A, which is necessary to establish who exactly would be protected under
YP Trivedi’s suggested amendments.
Tools of Trade
The Andhra Pradesh Protection of Defaulters of Financial Establishments Act (better known as the AP Depositors' Act), used to seek the arrest of former directors of Nagarjuna Finance, was borrowed from a similar statute in Tamil Nadu. However, the Tamil Nadu legislation excludes entities that are governed by a Central statute. The Maharashtra government also tried to introduce similar legislation, but it was struck down as unconstitutional. Andhra Pradesh introduced the law in 1999 and expanded its scope in 2003 to cover listed companies and non-banking finance companies which are primarily governed by the Ministry of Corporate Affairs and the Reserve Bank of India, respectively.

-Sucheta Dalal



-- Sucheta Dalal