QLCian 2009

MYTH OF CORPORATE GOVERNANCE IN PAKISTAN

Corporate governance has emerged as a key issue in the 'volatile and competitive' local business markets. Taking a retrospective peek, the code of corporate governance was promulgated in the year 2002 by the Securities and Exchange Commission of Pakistan (SECP) after the initial drafting by the Institute of the Chartered Accountants of Pakistan in 1998. Presently, corporate governance primarily falls within the ambit of two entities: the SECP and the State Bank of Pakistan (SBP). The SECP is largely an independent body that regulates the corporate sector and financial markets, on the other hand the SBP is Pakistan's central bank and is responsible for regulating the country's banking and finance sector. In spite of these two regulatory entities the implementation of the corporate governance code has not been an enormous success. The Reason for this being presence of varying obstacles, which have derailed the execution of this code to its optimum level. The most fundamental factor in this regard is the predominance of family controlled corporations. Pakistan's leading business corporations including textile, automotive, tobacco and agriculture sectors have been historically family controlled through generations by means of pyramid structures and cross shareholdings. However a healthy trend of altering family dominance in corporations has emerged, triggered by the awareness on the part of giant corporations to implement good governance and secondly the entrance of fresh graduates from top international universities who understand the gross mistake of ignoring the implementation of corporate governance. However this task of revolutionising corporate structures is daunting and uphill because of the ''old school" of family control and a rubber stamp board. A fundamental misgiving among the majority of family controlled companies is the idea that ceding control and diversifying the board is inimical to their interests. Further education on the advantages of a diversified board structure is necessary to change this misconception. Another contributing factor in the unsuccessful implementation of corporate governance in Pakistan is the lack of focus on the equity culture. In the early 80's high return on government bonds and easy access to bank loans in the 90's all discouraged the development and progress of equity culture in the country. Debt financing is still prevalent which is an enormous obstacle in the flourishing equity culture and as a result equity market is oriented towards handful of major companies. Ironically the giant family corporations are often satisfied with their position in the market and prefer not to risk weakening family control by selling shares to market investors and dilute their own share holding and control. To combat against this current reforms in the government's agenda are the demutualization of the stock exchanges and the creation of over the counter markets, both of which will help increase the depth and volume of equity market. However these efforts will be dented by the fact that equity financing is still not a priority because of lack of competition in various markets. Third and a very important aspect in this regard is the scratchy fact that there are no penal provisions in the Code and hence deterrence is limited. A number of academics believe that the addition of penal provisions would make the Code more effective in

Prof. Haris Zayad Ahmad

The author is graduate of University of London (Ext). Currently visiting faculty member of QLC. Area of expertise includes Corporate law and International Humanitarian Law. He is a regular contributor in daily english national newspapers.

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establishing good corporate governance. Compliance with the Code is construed loosely because all that is necessary is an annual statement of compliance verified by an auditor. In the Code's "comply or explain" regime, an auditor simply verifies a statement provided by the company, which itself indicates what areas of the Code it has followed, without necessarily verifying the accuracy of the information. However, penal provisions are an ex post mechanism that do not protect the interests of Minority shareholders until it is too late. Moreover, penalizing a company will often translate into penalties for the minority shareholders, since they have a stake in that company. More over the Pakistani financial press does not provide active deterrence, and as such fails to provide the additional level of enforcement necessary for good corporate governance. The financial press often plays an important role in promoting good corporate governance, especially where traditional enforcement mechanisms are lacking or are ineffective. Thus, an active financial press that keeps shareholders abreast of company developments is vital to minority shareholder protection. The Pakistani business community feels that the Pakistani financial press is still developing and is not as active as it could be. At least two English financial newspapers are widely circulated among the business community. Although major domestic and international corporate developments are widely reported, a common complaint is the effectiveness of the Pakistani financial press in actively pursuing corporate matters. The papers do not actively provide routine yet important information to shareholders, but rather focus on major stories and scandals. The television media is better at active deterrence than the financial press. Several financial news channels have appeared in Pakistan in the past few years. The competition to get the latest story is fierce and even foreign financial channels have established local channels to stake out a share of this growing sector. The most recent entrant is CNBC Pakistan, which transmits business news from across the country 24/7 in both Urdu and English. These networks provide pertinent and up-to-date information on the markets. The "comply or explain" regime in place in Pakistan does not give the SECP an active monitoring role - listed companies just need their statement of compliance signed by a verified accountant. Accordingly, many companies think of the Code as simply requiring a rubber stamp, not any serious compliance. A more active monitoring system, balanced between too much interference and no monitoring, would help ensure greater compliance with the Code. A major complaint the Case Team heard was that the stock exchanges themselves do not completely follow the Code. Recently, however, the SECP appeared to be moving towards more vigorous enforcement of the Code. Despite the voluntary nature of the requirement for independent directors, many companies, including those that are not required to comply with the Code, have appointed independent directors. However, people willing to serve as independent directors are difficult to find because remuneration is not commensurate with the duties or liabilities of directors. Even though there are qualified candidates, there is little incentive for them to subject themselves to the liability inherent in such a position without being compensated accordingly. A market based remuneration scheme will attract qualified directors who will be willing to take on the responsibilities and

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liabilities of such a position. Although the Code was recently promulgated in 2002, certain corporate governance provisions remain only in the Companies Ordinance.29 The Companies Ordinance deals directly with the protection of minority shareholders. For example, a company can be wound up by the court if it "conduct[s] its business in a manner oppressive to... the minority shareholders." As a result, many corporations initially resisted the Code because there were already several Laws in effect pertaining to corporate governance. Often these laws are more stringent than the Code itself. To facilitate the implementation of sound corporate governance, it may be easier to have the Code cross-reference the Companies Ordinance for certain provisions. In short time is running in favour of the implementation of corporate governance and the next couple of years will witness a 'metamorphosis' in terms of the corporate structures in Pakistan. Compliance to the code of good governance will lead us to competitive and uncompromising edge over the other competitors around the globe. And this is important not only for the economic and social growth of Pakistan but more so because the future is all about corporations and good governance.

Calvin Coolidge, quotes about law: We do not need more intellectual power, we need more moral power. We do not need more knowledge, we need more character. We do not need more government, we need more culture. We do not need more law, we need more religion. We do not need more of the things that are seen, we need more of the things that are unseen... If the foundation is firm, the superstructure will stand.

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