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3 cheers for corporate governance

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By Asish K Bhattacharyya

The past week was an eventful week in corporate governance. The cabinet approved the Companies Bill; Successor to Mr Ratan Tata was announced; and Mr Akula had to exit SKS Microfinance Limited, a company founded by him.

All the three events are important in the arena of corporate governance because they signify a change in corporate governance practices in India.

The Companies Bill has been approved by the cabinet and will be placed before the Parliament in its current session. The Bill has several corporate governance and disclosure norms. The new Companies Act will be contemporary and will improve corporate governance practices, if implemented effectively.

Succession planning is an important issue in corporate governance. Investors suffer when the board of directors fails in its responsibility to identify the successor well in time.

The process for selecting the successor of Mr Ratan Tata demonstrates how difficult it is to identify the right successor. The committee, which was responsible for identifying the successor, had to meet 18 times. It also shows how much care is required to choose the right successor to ensure continuity and new ideas to take the company to a new trajectory. Usually, it is the practice in many large successful corporations that the outgoing CEO indicates his/her choice to the board committee. It is quite possible that Mr Cyrus was the first choice of Mr Ratan Tata and that might also be one of the factors that were taken into consideration in choosing Mr Cyrus. The selection of Mr Cyrus Mistry signifies a significant change in the Indian corporate culture. Age is no more a consideration in selecting the CEO of a large conglomerate.

Another significant change is that the management is delinked with shareholding. About 66 per cent of the equity capital of Tata Sons is held by philanthropic trusts endowed by members of the Tata family. Therefore, those Trusts together can always play the role of the majority shareholder. Family businesses can use this model to professionalise the management, while maintaining family control as the largest shareholder of the company. This model has the potential to improve corporate governance.

Exit of Mr Akula from SKS Micro finance Limited, the only listed micro finance company, provides some lessons in corporate governance. The first is that holding of majority voting rights by institutions does not necessarily improve corporate governance. The company’s shareholding pattern as at September 2011 was: Promoters: 37%, FII 19%, Indian Financial Institutions: 6%, Indian Bodies Corporate: 14%, Foreign Bodies Corporate: 12 % and others: 12%. Effective corporate governance requires institutions to play their role effectively. That has not happened in the case of SKS. Second is that the corporate governance system comes under stress when a company deviates from its stated vision and mission. The web site of the company articulates the mission as:

“Our purpose is to eradicate poverty. We do that by providing financial services to the poor and by using our channel to provide goods and services that the poor need”; and vision as: “Our vision is to serve 50 million households across India and other parts of the world and also to create a commercial microfinance model that delivers high value to our customers”. The company started as a NGO and later transformed itself as a commercial venture. It achieved huge growth in a short period, and in the process focused on creating wealth for shareholders by sacrificing the interest of poor. Its mission became lending as much as possible ignoring the need to ensure that the poor people put the money for productive use. The ‘livelihood idea’ and the mission of ‘poverty eradication’ were lost. The Board did not pay attention to the same and could not anticipate how the society will react to the business model.

The government curbed the wings of micro finance companies. The result was that the company’s business model did not work in the new legal environment.

The last learning from the SKS episode is that the Board should intervene immediately when it senses rift in the management. It cannot take the approach of ‘wait and watch’. Such an approach delays the intervention and causes huge damage to the company. The board has to take harsh decisions well in time before the damage is done. I believe that the three events of the previous week signals a ‘new dawn’ in the Indian corporate governance.

(Ashish K Bhattacharyya is the The Director, International Management Institute, D.H. Road, Joka, Kolkata – 700104. He can be reached at Email: asish.bhattacharyya@gmail.com )

(Sourced from Business Standard, 28 Nov 2011)

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