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MODULE 2: CORPORATE GOVERNANCE- OBJECTIVES,
IMPORTANCE AND PRINCIPLES

From the previous chapter we can now understand that the main aim of corporate
governance is to protect the interest of the shareholders of the company. Also, we
would have clearly understood about the dire need for more corporate governance
related reforms to take place in our country.

In this chapter we would deeply examine and study about the objective and scope of
corporate governance in the current economic growth situation of our country.

THE MAIN OBJECTIVES

▪ Properly Organized Board

The Board of directors are the major role players of the company and hence there is a
need for this board to be properly structured and planned according to the short term
and long term plans of the company. Also the members of the board must be
proficient in work and must be skilled enough to hold the pressure and complete the
works efficiently.

A well organised board acts as a great pillar of support and the regulations of the
corporate governance keenly look into this aspect.

▪ Independent decision making

Corporate governance makes sure that the board is capable enough of taking
independent decisions. The board being the main corporate player heading the
functions of the company it must have the ability to independently handle the working
of the company and to come up with decisions that are for the betterment of the
company. The board must contain executives and directors who are capable enough of
taking decisions keeping the interest of the stakeholders in their mind.

▪ Transparency in the procedures

The board must be transparent regarding its functions and whenever required will
have to disclose true and fair financial reports. Corporate Governance is formulated

mainly with this objective so that adequate information can be obtained by the
stakeholders who had taken risk to invest in the companies.

▪ Stakeholders

In business, a stakeholder is any individual, group, or party that has an interest in an
organization and the outcomes of its actions. Common examples of stakeholders
include employees, customers, shareholders, suppliers, communities, and
governments. Different stakeholders have different interests, and companies often
face tradeoffs when trying to please all of them.

CASE STUDY NO. 1

A thoughtful investor to control the management Barracuda (a company providing
security, networking and storage products based on network appliances and cloud
services) grew into becoming one of the great investors during 2006. At one of the
meetings Barracuda’s managing director put forth to the committee that intense steps
were to be undertaken to improve the operating performance and the functioning of
the company.

He also stated that if the management failed to complete this task in an efficient
manner then it would automatically result in the force selling of the Barracuda
Company.

The Board immediately hired FD (a financial consultancy service specialized in
strategic investment relations.

The Board requested FD to hold an exhaustive research on the view or perception of
the stakeholders, on the functioning of the management, predicted voting, proxy
proposals and a comparative analysis on the strategies used ny the Barracuda in its
earlier ventures.

Once this data was collected the Board discussed on the diverse measures to stabilize
the position of Barracuda and to retain the support of its investors.

This case helps us understand the presence of mind of the managing director and his
efficient way of making his subordinates achieve the goal. This case also helps us to

understand the efficiency of subordinates who took the manager’s words seriously
and worked hard to produce results within the stipulated time.

The main aspect of this case is that when the view of the stakeholders was understood
and policies were drafted accordingly, the company was easily able to retain the
support of its investors.

IMPORTANCE OF CORPORATE GOVERNANCE

Before knowing about the importance of the corporate governance it is very important
for us to know that managing of the company is different from the governance of the
company. Management of the company tells about the carrying out the business of the
company whereas governance sees that the works are carried out in an efficient way.

The following are the various importance of the corporate Governance:

▪ Better access to the financial statements:
Corporate Governance, mandates the transparency in the disclosure of the
financial statements and whenever any stakeholder asks for the records of
financial statements must be made available to the person.

▪ Reducing risks, scams and scandals:
By enabling transparency in the disclosure of statements fraudulent activities
in the company can be prevented. When from the base itself these mistakes are
checked and clarified then the company will not have to face any high risks or
get stuck in big scandals and scams that would spoil the company’s goodwill
and reputation.

▪ Independence:

The corporate governance recommends independency in the decision making
of the Board. This is to prevent the influence of other departments in the
decisions taken. The board and its members must have independent thinking
capacity. Also this will enable the company to be fair and just with the
functioning when the decisions are not biased.

▪ Fairness of practices:

All the above importance of the Corporate Governance can help us understand
that the main aim of the Corporate Governance is to ensure there is fairness in
practice and there is no exploitation of any individual through the process.

▪ Provides effective penalties for violation:

When any sort of violations of rules prescribed by Corporate Governance is
violated then the it specifies penalties such as dismissal of shareholder,
disqualification of his share, terminating employees, filing suit against the
person etc.

▪ Management information system:
The corporate governance empowers the Board to take in charge of the
management information system which acts as the data ware house of the
company containing all relevant information of the shareholders, stakeholders,
employees and other people related to the company. Sometimes it even
contains crucial information regarding the finance and audit of the company.

▪ High quality reports:
Corporate Governance speaks mandates the reports to be very professional
and with more clarity. They hire very skilled and efficient accountants to
prepare the financial statements of the company so that no issues related to
misrepresentations arise.

▪ Development of moral ethics and reputation:
When the rules and regulations mentioned in the corporate governance norms
are abided without violations then automatically the firm’s reputation will
increase in the market and it will automatically earn the respect and loyalty of
investors and customers.

▪ Sustainable development of all stakeholders:
When the basic interests of these stakeholders are protected they will be
satisfied and contribute more towards the profitability of the company.

PRINCIPLES OF CORPORATE GOVERNANCE

The principles were developed and endorsed by the ministers of OECD member
countries in order to help OECD and Non-OECD governments in their efforts to
create legal and regulatory frameworks for corporate governance in their countries.

The six OECD Principles are:

✓ Ensuring the basis of an effective corporate governance framework
✓ The rights of shareholders and key ownership functions
✓ The equitable treatment of shareholders
✓ The role of stakeholders in corporate governance
✓ Disclosure and transparency
✓ The responsibilities of the board

Ensuring the basis of an effective corporate governance framework

The corporate governance framework should promote transparent and efficient
markets, be consistent with the rule of law and clearly articulate the division of
responsibilities among different supervisory, regulatory and enforcement authorities.

The rights of shareholders and key ownership functions

The corporate governance framework should protect and facilitate the exercise of
shareholders’ rights.

Basic shareholder rights should include the right to:

▪ Secure methods of ownership registration;
▪ Convey or transfer shares;
▪ Obtain relevant and material information on the corporation on a timely and

regular basis;
▪ Participate and vote in general shareholder meetings;
▪ Elect and remove members of the board; and
▪ Share in the profits of the corporation.

The equitable treatment of shareholders

The 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. The
principles also state that:

▪ All shareholders of the same series of a class should be treated equally
▪ Insider trading and abusive self-dealing should be prohibited
▪ Members of the board and key executives should be required to disclose to the

board whether they, directly, indirectly or on behalf of third parties, have a
material interest in any transaction or matter directly affecting the corporation.

The role of stakeholders in corporate governance

The corporate governance framework should recognize the rights of stakeholders
established by law or through mutual agreements and encourage active co-operation
between corporations and stakeholders in creating wealth, jobs, and the sustainability
of financially sound enterprises.

Disclosure and transparency

The 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.

The responsibilities of the board

The 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.

CORPORATE GOVERNANCE DEVELOPMENT
(TIMELINE)

If we closely notice, we can observe that the corporate governance was
prevalent in our country right from the olden days where the kings and
ministers worked for the welfare of the people in their kingdoms and promoted
trade practices to increase the wealth and availability of commodities in their
kingdoms.

In India during the 1990’s liberalization movement gained importance.
The liberalization policies were mainly aimed at increasing private sectors and
private investments in the country. During this period high economic growth
was achieved and this was exactly when corporate governance gave its entry
and gained high importance. It was during this period that the need for
corporate governance was realised in our country. It was initially introduced
by the Confederation of Indian Industry (CII).

As the Indian economic market was flourishing and growing with time
the need for regulations to protect the interests of stakeholders of the company
raised.

Initially in India all the big establishments were usually family
undertakings and the family spending and company expenditure were both one
and the same. In such cases the other stakeholder’s had tough time to protect
their interests. And when the concept of investors, shareholders and stock
exchange came into existence the dire need for separation of management
from ownership also raised. So keeping all these situations and problems in
mind Corporate Governance gained more momentum in our country.

DID YOU KNOW?

PepsiCo, Infuses, Tata, Wipro, TCS, and Reliance are some of the global
giants which have their flag of success flying high in the sky due to good
corporate governance

1. 1947- India acquired independence and there was a very active market and
manufacturing sectors had golden period and socialist policies were enacted.

2. 1991- Nationalisation of banks. They also became debt and equity providers.

3. 1956- Companies act came into existence and accounting standards were
postulated by the Institute of Chartered Accountants of India.

4. 1991- Fiscal crisis shook the Indian Economy which was immediately
responded with liberalization policies.

5. 1992- Securities Exchange Board of India (SEBI) was formed. The Market,
economic growth became steady and the need for rising of capitals,
shareholders, stakeholders came up which led to the Corporate Governance
reforms.

6. 1998- Confederation of Indian Industry came up with first voluntary code of
corporate governance.

7. 1999- Committee was set up under Kumara Mangalam Birla to promote and
raise the standards of good corporate governance.

8. 2000- The recommendations of Birla Company were accepted and were
included in Clause 49 of listing agreement of stock exchange.

9. 2002- Department of Company Affairs (DCA) appointed Naresh Chandra
Committee to look into the issues related to corporate Governance.

10. 2003- Narayana Murthy Committee did its job to improvise the contents.
11. 2004- J.J. Irani committee was formed to further improve the Corporate

Governance rules and regulations.
12. 2009- Companies bill was introduced by the J.J Irani’s committee
13. 2010- NASSCOM Was formed which was also lead by Narayana Murthy the

great business leader.
14. 2011- Revised Companies Bill and named it Companies Bill,2011.
15. 2013- Companies Act was modernised and was newly enacted as Companies

Act 2013.
16. 2016- Sustainable Accounting Standards Board’s materiality-focused

guidelines—and companies are increasingly providing voluntary information
about their sustainability practices under existing regimes or otherwise and
disclosure of information relating to sustainability matters.
17. 2017- House Bill Regulating Proxy Advisory Firms. The House bill is
intended to enhance transparency in the shareholder proxy system by requiring
proxy advisory firms
18. 2018- Mandating disclosure of cyber security experience at the board level

19. 2019 - California currently has a bill pending if enacted, would require all
public companies (including companies outside of California) with principal
executive offices located in California to have a minimum of one female
director by December 31, 2019.

REGULATORY FRAMEWORK ON CORPORATE GOVERNANCE

The Indian statutory framework has, by and large, been in consonance with the
international best practices of corporate governance. Broadly speaking, the corporate
governance mechanism for companies in India is enumerated in the following
enactments/ regulations/ guidelines/ listing agreement:

1. The Companies Act, 2013 inter alia contains provisions relating to board
constitution, board meetings, board processes, independent directors, general
meetings, audit committees, related party transactions, disclosure requirements in
financial statements, etc.

2. Securities and Exchange Board of India (SEBI) Guidelines: SEBI is a regulatory
authority having jurisdiction over listed companies and which issues regulations,
rules, and guidelines to companies to ensure the protection of investors.

3. Standard Listing Agreement of Stock Exchanges: For companies whose shares are
listed on the stock exchanges.

4. Accounting Standards issued by the Institute of Chartered Accountants of India
(ICAI): ICAI is an autonomous body, which issues accounting standards providing
guidelines for disclosures of financial information. Section 129 of the New
Companies Act inter alia provides that the financial statements shall give a true and
fair view of the state of affairs of the company or companies, comply with the
accounting standards notified under s 133 of the New Companies Act. It is further
provided that items contained in such financial statements shall be in accordance with
the accounting standards.

5. Secretarial Standards issued by the Institute of Company Secretaries of India
(ICSI): ICSI is an autonomous body, which issues secretarial standards in terms of the
provisions of the New Companies Act. So far, the ICSI has issued Secretarial

Standard on "Meetings of the Board of Directors" (SS-1) and Secretarial Standards on
"General Meetings" (SS-2). These Secretarial Standards have come into force w.e.f.
July 1, 2015. Section 118(10) of the New Companies Act provide that every company
(other than one-person company) shall observe Secretarial Standards specified as such
by the ICSI with respect to general and board meetings.

THE KEY LEGAL FRAMEWORK FOR CORPORATE GOVERNANCE IN
INDIA

The Companies Act, 2013

The Government of India has recently notified Companies Act, 2013 ("New
Companies Act"), which replaces the erstwhile Companies Act, 1956. The New Act
has a greater emphasis on corporate governance through the board and board
processes. The New Act covers corporate governance through its following
provisions:

New Companies Act introduces significant changes to the composition of the boards
of directors.

▪ Every company is required to appoint 1 (one) resident director on its board.
▪ Nominee directors shall no longer be treated as independent directors.
▪ Listed companies and specified classes of public companies are required to

appoint independent directors and women directors on their boards.
▪ New Companies Act for the first time codifies the duties of directors.
▪ Listed companies and certain other public companies shall be required to

appoint at least 1 (one) woman director on its board.

New Companies Act mandates following committees to be constituted by the board
for the prescribed class of companies:

▪ Audit committee
▪ Nomination and remuneration committee
▪ Stakeholders relationship committee
▪ Corporate social responsibility committee
▪ Listing agreement – Applicable to the listed companies

SEBI has amended the Listing Agreement with effect from October 1, 2014, to align
it with the New Companies Act.

Clause 49 of the Listing Agreement can be said to be a bold initiative towards
strengthening corporate governance amongst the listed companies. This Clause
intends to put a check over the activities of companies in order to save the interest of
the shareholders. Broadly, cl 49 provides for the following:

▪ Board of Directors

The Board of Directors shall comprise of a such number of minimum independent
directors, as prescribed. In the case where the Chairman of the Board is a non-
executive director, at least one-third of the Board shall comprise of independent
directors and where the Chairman of the Board is an executive director, at least half of
the Board shall comprise of independent directors. A relative of a promoter or an
executive director shall not be regarded as an independent director.

▪ Audit Committee

The Audit Committee to be set up shall comprise of minimum three directors as
members, two-thirds of which shall be independent.

▪ Disclosure Requirements

Periodical disclosures relating to the financial and commercial transactions,
remuneration of directors, etc., to ensure transparency.

▪ CEO/ CFO Certification

To certify to the Board that they have reviewed the financial statements and the same
is fair and in compliance with the laws/ regulations and accept responsibility for
internal control systems.

▪ Report and Compliance

A separate section in the annual report on compliance with Corporate Governance,
quarterly compliance report to stock exchange signed by the compliance officer or

CEO, company to disclose compliance with non-mandatory requirements in annual
reports.

CURRENT-DAY SCENARIO

In the present day situation corporate governance is being given more importance and
more improvements are being made related to the regulations The judicial system in
our country also plays a major role in supporting corporate governance in our country.
In order for the companies to take high risks and develop further it is necessary for
Corporate Governance.

KOTAK COMMITTEE REPORT

SEBI, in its board meeting on 28 March 2018 considered the Kotak Committee report
(Report) on corporate governance. The Kotak Committee (Committee) had submitted
the Report proposing amendments to the SEBI (Listing Obligation and Disclosure
Requirements) Regulations, 2015 (LODR) with the objective of enhancing fairness
and transparency in the corporate governance landscape in India.

SEBI's views on the Report

SEBI has accepted several reforms suggested by the Committee both with and
without modifications. Certain recommendations (such as internal financial controls,
roles of ICAI, adoption of IND-AS etc.) of the Committee have been referred to
various governmental agencies/professional bodies for further deliberations.

The press release issued by SEBI only sets out an indicative list; one should wait for
the fine print for a complete picture of changes to the LODR.

Recommendations without any modifications

▪ Independent director (ID) appointments (From 1 April 2018): Individuals
from the promoter group or appointed pursuant to a 'board inter-lock'
arrangement (i.e., cross directorship arrangements) cannot be appointed as
IDs. Board to certify that each individual appointed as ID fulfils eligibility
criteria mentioned in the LODR. Similarly, IDs are required to provide
declaration to this effect.

▪ Expertise / skills of directors (Initial disclosure without names by 31
March 2019, and detailed disclosure by 31 March 2020): The annual report
is required to contain a matrix setting out the competencies / expertise that the
board believes its directors should possess. Subsequently, a list of skills of
each of the individuals on the board is also required to be disclosed. Greater
awareness and training of the promoters and directors about the benefits of
governance to all the stakeholders is critical to the success of these
measures. The change of mind-set is key to the success of corporate
governance than some of the optical measures accepted by SEBI.

▪ Enhanced role of certain board committees (From 1 April 2018): Audit
committee is required to scrutinise end use of funds raised from primary
issuances. Nomination and remuneration committee is required to recommend
payments of senior management employees (one level below the board). Risk
management committee is required to consider cyber security threats.

▪ Reduction in the maximum number of listed entity directorships:
Reduction in the limit of maximum number of directorships (including
alternate directorships) to 8 listed companies (of which independent
directorships shall not exceed 7) by 1 April 2019 and no more than 7 listed
companies by 1 April 2020.

▪ Permission to related parties to vote against RPTs: The blanket restriction
on related parties from voting on any and all related party transactions has
been removed. Related parties can now cast a negative vote on transactions on
RPT matters.

▪ Increase in disclosures

Disclosure Compliance date

Details of utilisation of capital raised through preferential From 1 April

issues/QIPs in annual report 2018

Half yearly disclosures of RPTs on consolidated basis
(similar to annual disclosure)

Details of transactions with any person (including
promoter group) which holds 10% or more shares in
annual report

Details of credentials, basis of recommendation and fees
payable to auditors in notice seeking auditors' appointment

▪ Unlisted 'material' subsidiaries and Secretarial Audit: Material subsidiary
to now include subsidiaries who account for 10% of the consolidated income
or net worth of the listed company. Further, the listed company is required to
appoint at least one ID as a director on the board of its off-shore material
subsidiaries. In the latter case, the earlier threshold of 20% of the consolidated
income or net worth continues to apply. Further, secretarial audit has been
made mandatory for listed companies and their unlisted Indian material
subsidiaries from 1 April 2018.

Recommendations with Modifications

▪ Separation of key positions: Kotak Committee recommended that all listed
companies with more than 40% public shareholding are required to have
different individuals appointed as chairperson and managing director/CEO by
1 April 2020. SEBI has limited applicability to the Top 500 listed companies
by market capitalisation, meeting the public shareholding criteria.

▪ Woman ID: Kotak Committee recommended appointment of at least one
independent woman director for all listed companies by 1 October 2018. SEBI
has provided for a staggered applicability of this requirement – top 500 listed
companies (by market cap) to comply by 1 April 2019 and top 1000 listed
companies (by market cap) to comply by 1 April 2020.

▪ Royalty/brand payments to related parties: Kotak Committee
recommended that payments made by listed companies to related parties with
respect to brands usage / royalty which exceeds 5% of annual consolidated

turnover, requires a prior approval from the shareholders on a "majority of
minority" basis by 1 October 2018. SEBI while accepting this has taken a
stricter approach and reduced the threshold from 5% to 2%.
▪ Procedural changes on board and shareholder meetings:

Recommendation KOTAK SEBI
Committee

Board of Directors All listed Top 1,000 listed companies
Quorum: Higher of 3 or companies to to comply by 1 April 2019;
1/3 of total strength comply by 1 and Top 2,000 listed
Board size: At least 6 October 2018 companies to comply by 1
directors April 2020

Annual General (i) from FY 2018- (i) after the end of FY
2018-19, i.e., by 31 August
Meetings (AGMs) 19, i.e., applicable 2019
(ii) from FY 2018-19 for
For the top 100 listed from 31 August AGMs

companies, 2018

(i) AGMs to be held within (ii) 1 April 2018

5 months as opposed to 6 for all shareholder

months currently meetings

(ii) one-way live webcast

of the meeting proceedings