Life in a Fish Bowl

Being transparent doesn’t mean being vulnerable to threats from

competitors. It means creating a stronger and more reliable business

environment. With shaky stock markets, diminishing investor confidence and a

never-ending series of scams, corporate governance is today’s need of the hour

Once valued as high as $28 billion, Enron seemed to be the investors’ dream

come true... only till they discovered to their utmost shock that the company

had gone bankrupt. What went wrong with this energy giant that was once loved by

analysts, praised by markets and lured by state governments? It was not that

Enron lacked substance, but in the end the hype got the better of it. The

company had fudged figures, disguised liabilities and projected unrealistic

revenues to meet the unrealistic expectations of wishful thinkers.

Enron’s ugly demise demonstrates a breakdown of corporate values that has

given way to skepticism and mistrust worldwide. India has had its own share of

scams–the Harshad Mehta, Ketan Parikh, UTI, ‘vanishing companies’, CRB

(Chain Roop Bhansali) and so on. A series of such cases has brought home the

fact that even the seemingly successful businesses can collapse if they are not

rooted in strong values. The need to create a strong and efficient organization

that generates investor confidence through transparency and accountability has

become more pronounced in recent times.

It is increasingly being realized that a company has to put its house in

order by following internationally accepted practices of corporate governance.

"Cases of fraud have become common. In a global context, an enterprise will

be able to flourish only if it is able to retain the confidence of customers.

This is not possible unless there is absolute honesty," says Central

Vigilance Commissioner N Vittal.

Compelling case for Indian IT



Increased economic liberalization, the emergence     of

a large number of institutional investors, strategic alliances, WTO initiatives

in breaking barriers for a level playing field and advancements in IT and

e-commerce have forced corporates to think global. "The failure of large

corporates and institutions, volatility and instability in emerging markets has

affected the faith of investors in the capital market. Hence corporates feel the

need for benchmarking against global standards both in management and

governance," says Manoj Tirodkar, Chairman, GTL Limited.

Many Indian IT companies have already adopted these global best practices.

Infosys and Wipro for instance, have been recognized for their high standards of

corporate governance. These companies figured among the top 10 companies in

corporate governance in a survey of 495 emerging market companies by CLSA

(Credit Lyonnais Security Asia). The report grades companies according to seven

key criteria–discipline, transparency, independence, accountability,

responsibility, fairness and social responsibility. Azim Premji of Wipro had

identified ‘vision, values, leadership, innovation, and social commitment’as

the key factors while delivering a talk on how we can build world-class

enterprises in India.

Whether it is driven by an urgency to compete with multinationals or the

commitment towards investors and stakeholders, most IT companies today try and

adhere to international disclosure norms. The annual reports released each year

are not only increasing in length but are also more valuable in terms of the

amount of information they carry about the company’s performance. "The

need for good governance policies is even greater in the case of IT companies as

most of them are operating in the global market. Many have also been listed on

the NASDAQ so there is an added legal compulsion too," points out Satyavati

Berara, partner, PriceWaterhouse Coopers. Berara points out that given that the

information technology industry is mainly people-driven, companies cannot

survive if they are not transparent. The compulsion to raise the level of

transparency is also driven by an increasing dependence on the financial markets

for capital. There is an urgency to bring in effective market discipline as

well.

Investor activism



Although investor activism and rise in shareholders’ demands are more

dominant in the developed nations, expectations from developing countries have

also increased in the recent past. According to the UNCTAD (UN Conference on

Trade and Development), foreign investment in 44 of the poorest countries in the

world has risen steadily over the past decade. Investors and stakeholders are

closely monitoring the performance of companies. "Investors also want to

put their money in enterprises, which are not only run competently but also

governed effectively," says Vittal. It is estimated that over 60% of public

stock is in the hand of institutional investors, who are quick to criticize and

influence management policies.

Marrying Integrity with Affluence

Why has corporate governance become more relevant today? The management of any company is the trustee of shareholder funds and it has a fiduciary relationship with its shareholders. Corporate governance will ensure that company managements effectively fulfill this relationship. Corporate governance has become more relevant today because there is increased competition among companies to access capital, increase market-share and enhance their brands. Investors prefer companies with superior corporate governance standards thereby mitigating their investment risk. Companies with superior corporate governance standards generally gain easier access to capital at lower costs due to lower risk perception. Moreover, customers prefer companies with good corporate governance. So do vendors who perceive a lower risk of non-settlement. Therefore corporate governance is seen as a significant tool to enhance business efficiency. It has become a key differentiator for success. But most companies still seem very apprehensive about adopting it… This is mainly a reflection of management mindset. Companies are afraid of adopting high standards of corporate governance. They fear that availability of enhanced information on the company’s business may help competitors. They are unsure of getting similar information from competing companies and in fact, losing the competitive advantage in the process. Moreover, by being more transparent, they feel they are more vulnerable to risk, as if they are living in a ‘fish bowl.’ Why do Indian companies rank so low on international standards of transparency? This is more of a general perception and does not reflect facts. In a recent CLSA survey on corporate governance in emerging markets, Infosys was ranked the highest among 100 companies. Moreover, two Indian companies were in the top 10 and three companies in the top 15. India was ranked fourth among 23 markets. So, it would not be correct to say that Indian companies rank low on global standards. Infosys is among the few Indian companies that have been recognized for good corporate governance. What are the main principals that you follow ? We have always sought to maintain the highest standards of corporate governance. We believe that shareholders are the true owners of the company and the management is their trustee. We always keep shareholders informed of all events that affect the operations of the company, irrespective whether the news is bad or good. All the shareholders have the right to information and we provide them with as much info as possible so that they can judge the company by the performance of its management. We always distinguish between personal and corporate funds and do not use corporate funds for personal use. The company is also conscious of its responsibilities towards all its stakeholders and we ensure that there is no conflict of interest. l What role can the government and regulatory bodies play in bringing about corporate governance? Have they taken adequate measures so far?  The government and other regulatory bodies can play a vital role in improving disclosure and transparency standards. They should protect the interest of investors and introduce standards that allow investors to take appropriate investment decisions based on performance. The government has to be stronger in implementing laws. It should recognize good companies and should introduce penal provisions for errant companies. SEBI has already taken several progressive steps to improve the transparency and quality of disclosures. The Birla Committee report, which promotes the principals of corporate governance, has been made mandatory for large listed companies. The government has also instituted an award for good corporate governance and that will act as a motivator for companies to improve their existing practices. Sarita Rani in Bangalore

Simply put, corporate governance is a system or process by which companies

are governed or controlled. The primary aim is to address the inherent conflict

of interest between the shareholders of a company and its managers by sharing

valuable and timely information. Driven by the pressures of globalization,

Indian companies are also beginning to see merit in the principals of corporate

governance. "Companies are slowly beginning to realize that investors are

taking note of companies that are not only garnering profits but also those that

are well managed and are responsive to their needs," says Muralikrishnan

CFO, Aztec Software.

Cracks on the glass pane



"We can afford to lose money–even a lot of money. We cannot afford to

lose reputation–even a shred of it," wrote Berkshire Hathaway Inc

chairman Warren Buffet in a memo to his top lieutenants. The maxim holds true

for all times. The top management today has to face numerous risks on the

strategic, technology, operational, market and credit front. But among all the

risks an organization has to take for effective functioning, the risk of losing

one’s reputation is perhaps the greatest. The market is becoming less and less

tolerant of even the slightest whiff of bad news–rumors of which could wipe

out millions of dollars of market value at a stroke. The recent debacle of Enron

only proves this.

The credibility of accounting and audit practices that exist today is under

question. Business plans are increasingly being shaped by the nature of rules

and the extent to which they can be bent. As accounting rules drive business

models, accounting firms have become an integral part of the system. For

example, Enron paid Andersen $52m in 2000–$25m for auditing and $27m for

consulting services. The success of Andersen and the size of its pay packets

depended crucially on Enron, its biggest single client until Enron sacked

Andersen in January this year. Accountants face the same temptation to play

games as their clients. And these often prove to be dangerous.

It has been seen that many company boards focus more on compensation rather

than transparency in their financial accounting practices. This is a direct

result of the composition of the board of directors of that particular company.

Members might have vested interest in maintaining a system that is beneficial to

them. Apart from having an independent board that keeps a watchful eye on the

management, it is also crucial to have committed auditors who will honestly

review the company’s accounting practices.

Dilemma of transition



With the integrity of an organization becoming such an issue, the need for

corporate values becomes even greater. While some modern Indian business leaders

such as Narayana Murthy and Azim Premji emphasize on values, the mindset of the

traditional Indian businessman is yet to change. "Apart from a handful of

them, most Indian business heads are hypocrites. They only talk about corporate

governance, most of them don’t even understand what it means. And why should

they even bother about ethics when the entire system is so corrupt. You have to

be a crook to get ahead in India," says Vittal.

Traditionally, businesses in India were controlled either by the government

or by large family-owned business houses, where the board comprised primarily of

family members. Thus with less number of shareholders (family), in a controlled

market, the need for disclosure of information for the benefit of stakeholders

was not so high. The modern principles of corporate governance are based on

transparency and openness, with flat or team oriented organizations, as opposed

to the earlier school of thought with rigid hierarchies. And this is causing the

classic dilemma. "There is a fear that too much transparency or giving away

information may actually jeopardize business interests," says Padmaja

Krishnan, VP, HPS.

Besides the traditional mindset, there are a number of other challenges.

"Since corporate governance standards are still evolving, auditors across

the world are still unclear on what exactly they have to report. This is a great

challenge since operating processes and internal audit functions will have to be

redefined to ensure compliance," says Muralikrishnan. As a result, even the

companies that follow corporate governance practices are doing it more because

of legal compulsions rather than a willingness to adopt them. "As of now,

they only want to comply with the minimum required norm. I would say India is in

the phase of transition. Most managements are gradually learning to cope with

modern standards of governance," says Berara of PWC.

Clean up the system



As the cases of corporate fraud and abuse of legal loopholes go up, it

becomes imperative for the government to re-evaluate the existing system. A

strong legal and regulatory framework is extremely important to ensure effective

implementation of corporate governance. The Indian government has already

brought about certain amendments in the Companies Act of 1956 for enhancing

financial reporting. SEBI has set certain disclosure norms for adherence to

corporate governance practices by listed companies. The Institute of Chartered

Accountants has also brought out certain accounting standards on consolidation,

segment reporting, related party transactions, deferred taxation etc to align

with international accounting practices.

‘Punishments are not Severe Enough to Scare’

On the significance of ethics and values for an economy Corporate governance represents the moral, ethical and value framework under which an enterprise takes decisions. When financial capital moves across national borders, it becomes necessary for investors to ensure that the enterprises or the markets in which they are investing are not only managed but also governed properly. The collapse of the South East Asian tiger economies like Thailand, South Korea, Malaysia and Indonesia in 1998 brought home the fact that if there is no proper corporate governance in the financial sector, it leads to crony capitalism and corruption. This in turn, leads to unsound investments that are speculative and finally, the investors lose. PLAINSPEAK: N Vittal, chief vigilance commissioner On the nexus between public governance and corporate governance Corporate governance depends upon two factors namely, the attitude and the values cherished by the management of the business enterprise and the external environment in which the business operates. The external environment includes the legislation relating to the functioning of business enterprises, covering the entire spectrum from registration of companies, their structure, and settlement of disputes, laws relating to the capital market and punishment for bad practices like insider trading and so on. Public governance is broadly connected with the running of the government of a country and ensuring that the rule of law prevails. There has to be fairness and transparency in the system of justice. If public governance is not conducted on healthy lines and if there is corruption, then corporate governance also becomes difficult. Public governance can bring in greater discipline by nurturing the appropriate external environment. In India, we have the Securities Exchange Board of India (SEBI) to regulate the stock exchanges and the Companies’ Act for governing the operations of business enterprises. On improving the regulatory mechanism Apart from the commitment displayed by individuals, public governance can lay the framework for better corporate governance. Right now, a Joint Parliamentary Committee is looking into the issue the Ketan Parikh stock market scam. I would suggest that the JPC function can be taken as opportunity to bring in a systematic change and foster economic growth. It can help in building a healthy capital market which will be scam free and which will correct itself quickly if scams do occur. When it comes to the functioning of capital markets, perhaps the US model is the best to follow. We lack effective punishment systems. Leeson of Barings in Singapore who was involved in disastrous speculation was punished within two years. In our country, it took seven years for Harshad Mehta to be punished.

However, market experts warn that we should not approach the corporate

governance issue in India merely from the point of view of the Companies’ Act

or the guidelines which can be issued like the Kumaramangalam code or the Bajaj

code. One has to look at the entire network of regulations impinging on business

so that there is an integrated holistic system created for ensuring that

transparency and good corporate governance prevail.

"India’s policy on economic reforms does not have a broad transparent

road map and is mostly driven by pressures from organizations like the WTO. This

coupled with recession and high expectation on disclosure is putting Indian

companies under tremendous pressure," says GTL chairman Manoj Tirodkar.

"The implementation in most cases exists only in letter and probably not in

spirit," says KR Radhakrishnan, company secretary, HCL Infosystems.

In order to gain the confidence of investors, it is first important to

restore faith in the public governance system, which stinks of corruption.

"The legal and administrative environment in India provides excellent scope

for corrupt practices in business. Our banking system is such that if you borrow

a lakh of rupees, you are afraid of the bank but if you borrow ten crore rupees,

the bank is afraid of you!" says Vittal.

Honesty’s still the best policy



The pressure to get more and more competitive to survive in the global

market is forcing Indian companies to revamp their business models and do away

with outdated practices. This means Indian companies will eventually have to

comply with international disclosure policies and corporate governance

standards. Some leading IT companies have already taken the lead by

demonstrating high standards of corporate governance. Others are also gradually

following suit.

While adherence to international accounting practices such as US GAAP

(General Accepted Accounting Principals) is an affirmative step in this

direction, there are several other facets to corporate governance that companies

need to put in place. Monitoring systems that allow a firm’s constituencies to

gather and analyze information about the firm need to be in place. Similarly,

decision systems, remuneration systems as well creditor and ownership structures

need to be defined and adhered to. Indian companies will also need to

internationally certify their process, quality and management initiatives to be

able to compete globally.

Corporate governance today has become an issue of worldwide importance. The

need for integrity, honesty and ethics is being rediscovered in the 21st century

in the context of business enterprises once again. Fashions and buzzwords may

change, but these values will stay on forever.

SHWETA VERMA in New Delhi