Conceptual framework of corporate governance

Corporate Governance – Introduction

Corporate Governance is a concept and administrative framework to introduce basic
directions and viewpoints for managing a business unit with best interest. It shows and
determine a new and creative vision of business, where a set of core values, better
managerial control, compassing human rights, making better coordination between
business and society may be possible.

Q1) What is corporate governance?

Definition of Corporate Governance Sir Adrian Cadbury ; “Corporate Governance is
concerned with holding the balance between economic & social goals and between
individual and communal goals. The CG framework is there to encourage the
efficient use of resources and equally to require stewardship of those resources.

History of corporate form and models:

Corporate form::

Corresponding to corporation, e.g., any group of persons treated by the law as an

individual or unity having rights or liabilities, or both, distinct from those of the
persons composing it.

Corporate Governance Models

The Corporate governance models are broadly classified into following categories:

1. Anglo-American Model
2. The German Model
3. The Japanese Model

Anglo-American Model

Under the Anglo-American Model of corporate governance, the shareholder rights

are recognised and given importance. They have the right to elect all the members of
the Board and the Board directs the management of the company. Some of the
features of this model are:

 This is shareholder oriented model. It is also called Anglo-Saxon approach to

corporate governance being the basis of corporate governance in Britain,
Canada, America, Australia and Common Wealth Countries including India
 Directors are rarely independent of management
 Companies are run by professional managers who have negligible ownership
stake. There is clear separation of ownership and management.
 Institution investors like banks and mutual funds are portfolio investors. When
they are not satisfied with the company’s performance they simple sell their
shares in market and quit.
 The disclosure norms are comprehensive and rules against the insider trading
are tight
 The small investors are protected and large investors are discouraged to take
active role in corporate governance.

German Model

This is also called European Model. It is believed that workers are one of the key
stakeholders in the company and they should have the right to participate in the
management of the company. The corporate governance is carried out through two
boards, therefore it is also known as two-tier board model. These two boards are:

1. Supervisory Board: The shareholders elect the members of Supervisory

Board. Employees also elect their representative for Supervisory Board which
are generally one-third or half of the Board.
2. Board of Management or Management Board: The Supervisory Board
appoints and monitors the Management Board. The Supervisory Board has the
right to dismiss the Management Board and re-constitute the same.

Japanese Model
Japanese companies raise significant part of capital through banking and other
financial institutions. Since the banks and other institutions stakes are very high in
businesses, they also work closely with the management of the company. The
shareholders and main banks together appoint the Board of Directors and the
President. In this model, along with the shareholders, the interest of lenders is
recognised.

Corporate Governance Important objectives

The foremost objectives of corporate governance are to make efficient management as
well as inspire and strengthen the trust and confidence of the people by ensuring
business’s commitment to higher growth and development. 
It seeks to achieve the objectives as stated here: 
1. To develop better and most efficient management of business organisation, 
2. To develop more applicable criteria towards performing the task, 
3. Holding the balance between social and economic goals, 
4. To encourage the efficient use of scarce resources, 
5. To ensure perspective work place management, 
6. To develop the business transactions to be based on values, 
7. To develop the confidence and interest among the business men and society at large
towards the social reforms,
8. To develop a better working environment to get some patterns of democratic style, 
9. The managerial cadres are required to create wealth legally and ethically, 
10. To bring a high level of satisfaction to customers, employees, investors and the
society at large, 
11. To determine the level and composition of accountabilities, 
12. To make balanced representation of adequate number of non-executives and
independent executive in the board of directors who will take care of the interest and
well-being of all the stakeholders, 
13. To adopt transparent procedures and practices and arrive at decisions on the
strength of adequate information,

Corporate Governance – Principles 

Issues involving corporate governance principles include: 
1. Oversight of preparation of the entity’s financial statements. 
2. Internal controls and independence of the entity’s auditors. 
3. Review of the compensation arrangements for the chief executive officer and other
senior executives. 
4. The way in which individuals are nominated for positions on the board. 
5. The resources made available to directors in carrying out their duties. 
6. Oversight and management of risk. 
7. Dividend policy. 
The aim of corporate governance principles is to align the interest of
individuals and community goals, corporations and society in the following
ways: 
1. Transparency: 
Companies have to be transparent. Transparency means accurate, adequate and timely
disclosure of relevant information to stakeholders. Transparency and disclosure provide
information to the stakeholders that their interests are being taken care of. 
2. Accountability: 
Chairman, board of directors and chief executive of the company should fulfil
accountability to the shareholders, customers, workers, society and the Government.
Since they have considerable authority over company’s resources, they should accept
accountability for all their decisions and actions. 
3. Independence: 
For ethical reasons, corporate governance seems to be independent, strong and non-
participatory body where all decision-making is based on business and not personal
biases. 
4. Reporting: 
Good corporate governance involves adequate reporting to shareholders and other
stakeholders, for example, a company should publish quarterly, half yearly and yearly
performance and operating results in newspapers. It should also report functioning of
various committees set by the board of directors for efficient administration. It is
important on ethical grounds of the society. 

Corporate Governance – Top 3 Theories: The Agency

Theory, The Stewardship Theory and The
Stakeholder Theory
Various theories of corporate governance are described below: 

1. The Agency Theory: 

According to this theory there exists agency relationship between the shareholders and
management of a company. Under a contract of agency, one party (the principal)
appoints another party (the agent) to perform some functions on its behalf. Shareholders
of a corporation delegate the decision making authority to the board of directors. As an
agent, the board of directors is expected to exercise its authority on behalf of and in the
best interests of the shareholders (the principal). 
In reality, however, board of directors and chief executives may promote their own
interests rather than the interests of shareholders. In other words, there can be a
divergence of interests between shareholders and managers. Effective governance
system is needed, therefore, to safeguard the interests of shareholders. 
Agency theory presents a narrow view of corporate governance as it suggests that a
company is responsible only to its shareholders. It does not consider the interests and
rights of other stakeholders like employees, customers, suppliers, creditors, distributors,
government, media, and the community. 

2. The Stewardship Theory: 

This theory is based on the assumption that the top managers of a company will act on
their own as responsible stewards of the assets under their control. They work diligently
to achieve high levels of profits which yield good returns to shareholders. 
The interests of the company and its owners are aligned with those of managers when
they work towards collective goals. The interests of shareholders are automatically
served when the company’s performance is maximised. Therefore, board of directors,
and chief executives should be given adequate authority, and discretion to act as good
stewards. A proper governance structure is required for this purpose. 
Stewardship theory is based on the assumption that board of directors will always work
for corporate performance and will use such performance in the interests of
shareholders. This may not always hold true. Moreover, the theory overlooks the
interests of stakeholders other than shareholders. 

3. The Stakeholder Theory: 

This theory suggest that a company must be run in the interests of all the stakeholders.
The interests of stakeholders are numerous and may often be contradictory. Therefore, a
harmony or compromise is required between them. A board of directors consisting of the
representatives of various Stakeholder groups could be entrusted with this task. 
The stewardship theory recognises the rights of shareholders as well as other
stakeholders. But in practice, board of directors may not always be able to maintain
equity. It is likely to overstress the interests of some stakeholders and underemphasize
those of other stakeholders. It is a very difficult tight rope walk and a very effective
system of governance is needed for this challenge. 

The ownership pattern of corporate enterprises can be broadly of three

types:
(i) Widely dispersed, ownership particularly amongst large number of
individual shareholders;
(ii) Promotors' dominated shareholding pattern where promoters may be
owning 30% to 80% or more vis-a-vis individual shareholders who own
less then 

COMMON ISSUES THAT ARISE IN CORPORATE

GOVERNANCE

Corporat governance is the term used to describe the balance among participants in the corporate structure
who have an interest in the way in which the corporation is run, such as executive staff, shareholders and
members of the community. Corporate governance directly impacts the profits and reputation of the
company, and having poor policies can expose the company to lawsuits, fines, reputational damage, and
loss of capital investment. Here are five common pitfalls your corporate governance policies should avoid.

1) CONFLICTS OF INTEREST
Avoiding conflicts of interest is vital. A conflict of interestwithin the framework of corporate governance
occurs when an officer or other controlling member of a corporation has other financial interests that
directly conflict with the objectives of the corporation. For example, a board member of a solar company
who owns a significant amount of stock in an oil company has a conflict of interest because, while the
board he or she serves on represents the development of clean energy, they have a personal financial stake
in the success of the oil industry. When conflicts of interest are present, they deteriorate the trust of
shareholders and the public while making the corporation vulnerable to litigation.

2) OVERSIGHT ISSUES
Effective corporate governance requires the board of directors to have substantial oversight of the
company’s procedures and practices. Oversight is a broad term that encompasses the executive staff
reporting to the board and the board’s awareness of the daily operations of the company and the way in
which its objectives are being achieved. The board protects the interests of the shareholders, acting as a
check and balance against the executive staff. Without this oversight, corporate staff might violate state or
federal law, facing substantial fines from regulatory agencies, and suffering reputational damage with the
public.  

3) ACCOUNTABILITY ISSUES
Accountability is necessary for effective corporate governance. From the top-level executives to lower-tier
employees, each level and division of the corporation should report and be accountable to another as a
system of checks and balances. Above all else, the actions of each level of the corporation is accountable to
the shareholders and the public. Without accountability, one division of the corporation might endanger the
success of the entire company or cause stockholders to lose the desire to continue their investment.

4) TRANSPARENCY
To be transparent, a corporation must accurately report their profits and losses and make those figures
available to those who invest in their company. Overinflating profits or minimizing losses can seriously
damage the company’s relationship with stockholders in that they are enticed to invest under false
pretenses. A lack of transparency can also expose the company to fines from regulatory agencies.

5) ETHICS VIOLATIONS
Members of the executive board have an ethical duty to make decisions based on the best interests of the
stockholders. Further, a corporation has an ethical duty to protect the social welfare of others, including the
greater community in which they operate. Minimizing pollution and eschewing manufacturing in countries
that don’t adhere to similar labor standards as the U.S. are both examples of a way in which corporate
governance, ethics, and social welfare intertwine.

What Are the Key Elements of Corporate Governance?

The key principles of good corporate governance differ depending on the country,
industry, regulator and stock exchange. However, most codes of governance
include several major characteristics:

Independent leadership: Companies should have an independent leadership to

oversee and guide management, such as an independent chairperson or a lead
independent director. An owner who selects friends and family members to sit on
the board with him runs the risk of nepotism and prejudice. Independent judgement
is almost always in the best interest of the company and its stakeholders.

Transparency: One of the fundamental objectives of corporate governance is for

organizations to develop transparent business practices and a solid structure and
organization so that it can trace all the company's dealings effectively. Another
aspect of transparency is the company should provide free and easy-to-understand
information to everyone who may be affected by the company's corporate
governance policies, such as clear financial reports. That way, everyone can
understand the company's strategies and track its financial performance.

Consensus building/ stakeholder relations: The company should consult with

the different categories of stakeholders in an ongoing discourse to reach a
consensus of how it can best serve everyone's needs sustainably.

Accountability: Consensus building goes hand-in-hand with the principle of

accountability, which says the company must be accountable to those who are
affected by its decisions. Precisely who is accountable for what should be written
down in the company's code of conduct. Large companies often keep corporate
governance web pages that indicate specific things the company is doing to meet
the expectations of each stakeholder group.

Inclusion or corporate citizenship: The principle of inclusion and corporate

citizenship maintains, enhances or generally improves the well-being of all the
stakeholder groups. This element of corporate governance typically includes an
aspect of social and environmental responsibility, such as using the company's
human, technological and natural resources responsibly and acting for the benefit
of the community as a whole. Corporate citizenship provides a compelling message
regarding the company's value to society.

-: What is agency theory?

Agency theory is used to understand the relationships
between agents and principals. The agent represents the principal in a
particular business transaction and is expected to represent the best
interests of the principal without regard for self-interest. ... This leads to the
principal-agent problem.

1) Business loss

2) Direct agency cost.

Indirect agency cost
- Which benefits. – when management lost or deny any
the management. Opportunity.
On the cost of owner
- If owner receives a dividend from
the remaining profit.

The origins of the report

The Committee on the Financial Aspects of Corporate Governance, forever
after known as the Cadbury Committee, was established in May 1991 by
the Financial Reporting Council, the London Stock Exchange, and the
accountancy profession. The spur for the Committee's creation was an
increasing lack of investor confidence in the honesty and accountability of
listed companies, occasioned in particular by the sudden financial
collapses of two companies, wallpaper group Coloroll and Asil Nadir's Polly
Peck consortium: neither of these sudden failures was at all foreshadowed
in their apparently healthy published accounts.

Even as the Committee was getting down to business, two further

scandals shook the financial world: the collapse of the Bank of Credit and
Commerce International and exposure of its widespread criminal
practices, and the posthumous discovery of Robert Maxwell's
appropriation of £440m from his companies' pension funds as the Maxwell
Group filed for bankruptcy in 1992. The shockwaves from these two
incidents only heightened the sense of urgency behind the Committee's
work, and ensured that all eyes would be on its eventual report.

The effect of these multiple blows to the perceived probity and integrity of
UK financial institutions was such that many feared an overly heavy-
handed response, perhaps even legislation mandating certain boardroom
practices. This was not the strategy the Committee ultimately suggested,
but even so the publication of their draft report in May 1992 met with a
degree of criticism and hostility by institution which believed themselves
to be under attack. Peter Morgan, Director General of the Institute of
Directors, described their proposals as 'divisive', particularly language
favouring a two-tier board structure, of executive directors on the one
hand and of non-executives on the other.

The Cadbury Report

Sir Adrian Cadbury’s 1992 report on corporate governance is still recognised around
the world as the starting point on how companies should be managed is no surprise.
It bore his hallmarks – clarity of analysis, attention to detail, moral certainty and an
expectation that people will behave well if properly encouraged – which marked out
an exceptional business career which turned a family chocolate business into a
worldwide empire.

Cadbury, who has died aged 86, kept close to his roots, fostering Midlands industry
and commerce, promoting local charities in the family’s Quaker tradition and, as a
long-serving chancellor, helping build the new Aston university  into a rival of its
older neighbour in Birmingham.

The suggestions which met with such disfavour were considerably toned
down come the publication of the final Report in December 1992, as were
proposals that shareholders have the right to directly question the Chairs
of audit and remuneration committees at AGMs, and that there be a
Senior Non-Executive Director to represent shareholders' interests in the
event that the positions of CEO and Chairman are combined. Nevertheless
the broad substance of the Report remained intact, principally its belief
that an approach 'based on compliance with a voluntary code coupled
with disclosure, will prove more effective than a statutory code'.

The central components of this voluntary code, the Cadbury Code, are:
  that there be a clear division of responsibilities at the top, primarily
that the position of Chairman of the Board be separated from that
of Chief Executive, or that there be a strong independent element
on the board;

 that the majority of the Board be comprised of outside directors;

 that remuneration committees for Board members be made up in

the majority of non-executive directors; and

 that the Board should appoint an Audit Committee including at least

three non-executive directors.

The provisions of the Code were given statutory authority to the extent
that the London Stock Exchange required listed companies to 'comply or
explain'; that is, to enumerate to what extent they conform to the Code
and, where they do not, state exactly to what degree and why. The detail
of this explanation, and the level of implied censure on companies which
do not adhere to the Code, have both varied over time, but the basic
'comply or explain' principle has endured over the intervening years and
become the cornerstone of UK corporate governance practice.

The Cadbury Report, titled Financial Aspects of Corporate Governance, is

a report issued by "The Committee on the Financial Aspects of Corporate
Governance" chaired by Adrian Cadbury that sets out recommendations
on the arrangement of company boards and accounting systems to mitigate
corporate governance risks .

Hampel Report
The Hampel Committee was formed in 1996 under the chairmanship of Sir Ronald Hampel.
Committee was formed in 1996 and its final report was generated in 1998.The Hampel
report reviewed the recommendations of the Cadbury report and Green bury report. The Hampel
Committee also suggested that the recommendations of all three committees should be combined
together and a single code should be generated from in the form of Combined Code. The Hampel
report  was the one of final report that gives importance to principles of good governance over explicit
rules. And Hampel also admired the shareholder involvement in the company matters.

Main Recommendations of Hampel Report

 Companies should include in their annual reports the extent to which they applied the board
principles and how they applied it.
 Complain should also explain their Corporate governance policies and they should also justify
them.
 Directors of the Companies should receive proper training.
  The Majority of Non-executive directors should be independent and companies should
disclose in their annual reports that how many executive are independent
 In every company there should at least one senior non-executive director to whom reports
should be transferred
 In any company if there is duality they should justify it because the separation of the role of
chairman of board of directors and chief executive is preferred.   
 Companies that do not have before the internal audit committee should form an audit
committee who should keep the review of the financial relationship between the company and
its auditors.
 For directors remuneration an remuneration committee should be formed that should be
consisting of wholly non-executive directors and remuneration committee should advise and
the directors should approve.
 The Hampel report also recommended that the shareholder should also make a use of their
voting right and give their votes in the important decisions of the company.
 And the report also recommended that the directors should promote the dialogues between
the company and the shareholders.

What Is the Sarbanes-Oxley (SOX) Act of 2002? 

 The Sarbanes-Oxley Act of 2002 is a law the U.S. Congress passed on
July 30 of that year to help protect investors from fraudulent financial
reporting by corporations.1 Also known as the SOX Act of 2002 and the
Corporate Responsibility Act of 2002, it mandated strict reforms to
existing securities regulations and imposed tough new penalties on
lawbreakers.
 The Sarbanes-Oxley Act of 2002 came in response to financial
scandals in the early 2000s involving publicly traded companies such as
Enron Corporation, Tyco International plc, and WorldCom.2 The high-
profile frauds shook investor confidence in the trustworthiness of
corporate financial statements and led many to demand an overhaul of
decades-old regulatory standards.

OECD Corporate Governance Committee

 
The OECD Corporate Governance Committee:

 oversees the implementation  and the OECD Guidelines on Corporate Governance of State-Owned

Enterprises
 co-ordinates and guides the Organisation's work on corporate governance and related corporate affairs
issues, including state-owned assets, market integrity, company law, insolvency and privatisation
 guides and supports OECD's dialogue with non-member economies in the area of corporate governance..

The Corporate Governance Committee meets 2 times a year and is composed of representatives from the 36 OECD member
countries, participants and associates. It is led by Masato Kanda (Chair, Japan), Gabriela Figueiredo Dias (Vice-chair,
Portugal), Carmine Di Noia (Vice-chair, Italy) and Carl Westphal (Vice-chair, the United States), and serviced by the
Corporate Governance and Corporate Finance Division in the OECD Directorate for Financial and Enterprise Affairs.
The Sarbanes-Oxley Act of 2002 is a federal law that established sweeping auditing and
financial regulations for public companies.

Lawmakers created the legislation to help protect shareholders, employees and the
public from accounting errors and fraudulent financial practices.

The legislation, commonly referred to as SOX, sought to both improve the reliability of
the public companies' financial reporting as well as restore investor confidence in the
wake of high-profile cases of corporate crime. Former U.S. President George W. Bush,
who signed the act into law on July 30, 2002, called the act "the most far-reaching
reforms of American business practices since the time of Franklin Delano Roosevelt."

SOX primarily sought to regulate financial reporting and other business practices at
publicly traded companies. However, some provisions apply to all enterprises, including
private companies and not-for-profit organizations.

Additionally, SOX established penalties for noncompliance with its provisions.

Key provisions

The Sarbanes-Oxley Act is arranged into 11 sections, or titles. Two sections of particular
note are Section 302 and Section 404.

Section 302 pertains to "Corporate Responsibility for Financial Reports." It established,

in part, that CEOs and CFOs must review all financial reports and that the reports are
"fairly presented" and don't contain misrepresentations. This section also established
that CEOs and CFOs are responsible for the internal accounting controls.

Section 404 deals with "Management Assessment of Internal Controls" and requires
companies to publish details about their internal accounting controls and their
procedures for financial reporting as part of their annual financial reports. Section 404
requires corporate executives to personally certify the accuracy of their company's
financial statements and makes them individually liable if the SEC finds violations.

Other key provisions under SOX include:

 mandated disclosure of transactions and relationships that are off-balance

sheet that could impact financial status;
  near-ubiquitous prohibition of personal loans from a corporation to executives;
 establishment of fines and terms of imprisonment for tampering or destroying
documents in events of investigations or court action; and
 requirements for attorneys who represent public companies before the SEC
to report security violations to the CEO.

Whistleblower Protection Act

Protection for whistleblowers  is another significant provision in the Sarbanes-Oxley Act.

SOX states that employees (and even contractors) who report fraud and/or testify about
fraud committed by their employers are protected against retaliation, including dismissal
and discrimination.

Auditing under SOX

SOX also created new requirements for corporate auditing practices.

Among its many requirements, SOX requires public corporations to hire independent
auditors to review their accounting practices.

SOX also created rules for separation of duties by detailing a number of nonaudit
services that a company's auditor cannot perform during audits.. These rules are
designed to further guard against fraudulent financial practices.

Furthermore, SOX led to the creation of the Public Company Accounting Oversight
Board (PCAOB), which sets standards and rules for audit reports. Under SOX, all
accounting firms that audit public companies are required to register with the PCAOB.
The PCAOB investigates and enforces compliance at the registered accounting firms.

Whistle blowing
Definition: A whistleblower is a person, who could be an employee of a company, or a
government agency, disclosing information to the public or some higher authority about any
wrongdoing, which could be in the form of fraud, corruption, etc.

Whistleblowing can take various forms and examples of qualifying disclosures of

information can include reporting any of the following:
  A criminal offence;
 Danger to health and safety;
 The breach of a legal obligation;
 Non-compliance with the law (failure to comply with any legal
obligation or regulatory requirement);
 Risk of, or actual, environmental damage;
 A miscarriage of justice; or
 The belief that somebody is covering up wrongdoing

Types of whistle blowing:

 What is Internal Whistleblowing?

 So what is an “internal” whistleblower? That is not really a defined term, but it
generally means an individual who reports suspected misconduct up the chain
of command at the person’s workplace. This can involve going to an audit
department, a compliance officer, a supervisor, in-house legal counsel or
even an internal “hot line” or “tip line.”
 The misconduct that is reported can be financial wrongdoing, environmental
violations, false claims, defective products, harmful medical practices,
discrimination  – practically anything that someone believes is wrong or illegal.
The hope is that the internal company personnel will address the problem
responsibly and correct or stop any actual wrongdoing.
 When someone only reports misconduct internally, there is no government
investigation or actual litigation. Any action that is taken is done by the
company, internally, and generally without any penalties or settlements with
outside parties.
 In some instances, however, internal whistleblowing might lead to a company
voluntarily reporting its corporate misconduct to an appropriate government
entity in order to minimize the consequences of having the conduct picked up
by that government entity and result in harsher sanctions.
 What is External Whistleblowing?
 External whistleblowing refers to an individual who observes misconduct by
an entity or individual – generally an employer, customer, supplier or
competitor – and reports that misconduct to an outsider, generally a private
attorney. Whistleblowers might report directly to a government agency or
prosecutor or utilize a public hotline designed for reporting fraud or abuse by
private companies. If the reported conduct involves false or fraudulent claims
on state or federal government programs, a private attorney is likely to
recommend that the whistleblower file litigation under the False Claims Act.

Features of whistle blowing:

  The Act seeks to protect whistle blowers, i.e. persons making a public interest
disclosure related to an act of corruption, misuse of power, or criminal offense by a
public servant.
 Any public servant or any other person including a non-governmental organization
may make such a disclosure to the Central or State Vigilance Commission.
 Every complaint has to include the identity of the complainant.
 The Vigilance Commission shall not disclose the identity of the complainant except to
the head of the department if he deems it necessary. The Act penalizes any person
who has disclosed the identity of the complainant.
 The Act prescribes penalties for knowingly making false complaints.

Developments in corporate governance in india:

 The enactment of the companies Act 2009 was major development
in corporate governance in 2013. The new Act replaces the
Companies Act, 1956 and aims to improve corporate
governance standards, simplify regulations and enhance the
interests of minority shareholders.

CII has identified key areas that are disrupting the MSME sector viz.
disruptions in cash flows, wage bills and payments, and inventory
management, among others. It has drafted recommendations in two key
areas which are, cash flow and working capital, and welfare measure, that
could safeguard the sector.

The CII Report on Corporate Governance enumerates a set of voluntary

recommendations with an objective to establish higher standards of probity
and corporate governance in the country. It enunciates additional
principles that can improve corporate governance in spirit and in practice. 

The recommendations outlined in this report are aimed at listed companies

and wholly owned subsidiaries of listed companies. 

Board of Directors 
1. Appointment of Directors – recommended by Nomination Committee An
active, well-informed and independent Board is necessary to ensure highest
standards of corporate governance.
Getting the right people is crucial; as is the process of seeking, vetting and
appointing such people. The report thus recommends constitution of the
Nomination Committee comprising a majority of independent directors,
including its chairman to search for, evaluate, shortlist and recommend
appropriate independent directors, NEDs as well as executive directors.

2 Issue of formal Letter of Appointment to NEDs and Independent

Directors The Letter of Appointment should specify the expectation of the
Board from the appointed director; the fiduciary duties that come with such
an appointment; the liabilities that accompany such a fiduciary position,
including whether the concerned director is covered by any Directors and
Officers (D&O) insurance; and the remuneration, including sitting fees and
stock options.
The letter should be disclosed to shareholders at the time of the ratification
of director’s appointment or re-appointment to the Board.

3. Fixed Contractual Remuneration for non-executive directors The law

should have the option of giving a fixed contractual remuneration to NEDs
and independent directors, which is not linked to the net profit or lack of it.
Companies should have a choice between paying a commission on profits
or paying fixed contractual remuneration.
Whether it is from net profits or as a fixed contractual payment, the
structure of remuneration to NEDs and independent directors needs to be
transparent, well specified and made available to shareholders in the
annual report of the company. 

4. Structure of Compensation to NEDs The Task Force recommends that

listed companies use the following template in structuring their
remuneration to NEDs and independent directors

• Fixed component: This should be relatively low, so as to align NEDs and

independent directors to a greater share of variable pay. Typically, these are
not more than 30% of the total cash remuneration package.

• Variable Component: Based on attendance of Board and Committee

meetings (at least 70% of all meetings should be an eligibility pre-
condition)

• Additional payment for being the chairman of the Board, especially if

he/she is a non-executive chairman

• Additional payment for being the chairman of the Audit Committee

• Additional payment for being the chairman of other committees of the
Board

• Additional payment for being members of Board committees: Audit,

Shareholder Grievance, Remuneration, Nomination, etc.

Any such structure of remuneration, which is adopted by the Board should

be disclosed to the shareholders in the annual report of the company.

5. Remuneration Committee of the Board

• The Remuneration Committee should comprise at least three members,

majority of whom should be independent directors.

• It should have delegated responsibility for setting the remuneration for all
executive directors and the executive chairman, including any
compensation payments, such as retiral benefits or stock options. It should
also recommend and monitor the level and structure of pay for senior
management, i.e. one level below the Board.

• The Remuneration Committee should make available its terms of

reference, its role, the authority delegated to it by the Board, and what it
has done for the year under review to the shareholders in a separate section
of the chapter on corporate governance in the annual report.
6. Audit Committee Constitution

Listed companies should have at least a three-member Audit Committee

comprising entirely of non-executive directors with independent directors
constituting the majority.

7. Separation of Offices of Chairman & Chief Executive Officer

The Task Force recognised the ground realities of India. Keeping these in
mind, it has recommended, wherever possible, to separate the office of the
Chairman from that of the CEO.

8. Board Meetings through Tele-conferencing

If a director cannot be physically present but wants to participate in the

proceedings of the board and its committees, then a minuted and signed
proceeding of a tele- conference or video conference should constitute proof
of his or her participation. 

9. Executive Sessions of the Independent Directors

While the independent directors are kept updated of all business-related
issues and new initiatives by the management, it is imperative that the
independent directors have executive sessions (as their internal discussion
and debating process to evolve a consensus among independent directors).

To empower independent directors to serve as a more effective check on

management, the independent directors could meet at regularly scheduled
executive sessions without management and before the Board or
Committee meetings discuss the agenda.

The Task Force also recommends separate executive sessions of the Audit
Committee with both internal and external Auditors as well as the
Management.

10. The role of the board and shareholders in related party transactions
Audit Committee, being an independent Committee, should pre-approve all
related party transactions which are not in the ordinary course of business
or not on “arms length basis” or any amendment of such related party
transactions. All other related party transactions should be placed before
the Committee for its reference.

11. Auditors’ Revenues from the Audit Client

No more than 10% of the revenues of an audit firm singly or taken together
with its subsidiaries, associates or affiliated entities, should come from a
single corporate client or group with whom there is also an audit
engagement.

12. Certificate of Independence

Every company must obtain a certificate from the auditor certifying the
firm’s independence and arm’s length relationship with the client company.
The Certificate of Independence should certify that the firm, together with
its consulting and specialised services affiliates, subsidiaries and associated
companies or network or group entities have not / has not undertaken any
prohibited non-audit assignments for the company and are independent
vis-à-vis the client company, by reason of revenues earned and the
independence test are observed.

13. Audit Partner Rotation

The partners handling the audit assignment of a listed company should be

rotated after every six years. The partners and at least 50% of the audit
engagement team responsible for the audit should be rotated every six
years, but this should be staggered so that on any given day there isn’t a
change in partner and engagement manager.
A cooling off period of 3 years should elapse before a partner can resume
the same audit assignment.

14. Auditor’s Liability

The firm, as a statutory auditor or internal auditor, has to confidentially

disclose its net worth to the listed company appointing it. Each member of
the audit firm is liable to an unlimited extent unless they have formed a
limited liability partnership firm or company for professional services as
permitted to be incorporated by the relevant professional disciplinary body
(ICAI). Even in the case of a limited liability firm undertaking audit in the
future, under the new law, the individual auditor responsible for dereliction
of duty shall have unlimited liability and the firm and its partners shall
have liability limited to the extent of their paid-in capital and free or
undistributed reserves.

15. Appointment of Auditors

The Audit Committee of the board of directors shall be the first point of
reference regarding the appointment of auditors. The Audit Committee
should have regard to the entire profile of the audit firm, its responsible
audit partner, his or her previous experience of handling audit for similar
sized companies and the firm and the audit partner’s assurance that the
audit clerks and / or understudy chartered accountants or paralegals
appointed for discharge of the task for the listed company shall have done a
minimum number of years of study of Accounting Principles and have
minimum prior experience as audit clerks.

To discharge the Audit Committee’s duty, the Audit Committee shall:

• discuss the annual work programme and the depth and detailing of the
audit plan to be undertaken by the auditor, with the auditor;
• examine and review the documentation and the certificate for proof of
independence of the audit firm, and
• recommend to the board, with reasons, either the appointment/re-
appointment or removal of the statutory auditor, along with the annual
audit remuneration. 16. 

Qualifications in Auditor’s Report

ICAI should appoint a committee to standardise the language of disclaimers

or qualifications permissible to audit firms. Anything beyond the scope of
such permitted language should require the auditor to provide sufficient
explanation.

17. Institution of Mechanism for Whistle Blowing

The Task Force recommends institution of a mechanism for employees to
report concerns about unethical behaviour, actual or suspected fraud, or
violation of the company’s code of conduct or ethics policy. It should also
provide for adequate safeguards against victimization of employees who
avail of the mechanism, and also allows direct access to the Chairperson of
the audit committee in exceptional cases.

18. Risk Management

The Board, its audit committee and its executive management must
collectively identify the risks impacting the company’s business and
document their process of risk identification, risk minimisation, risk
optimization as a part of a risk management policy or strategy. The Board
should also affirm that it has put in place critical risk management
framework across the company, which is overseen once every six months by
the Board.

19. Harmonization of Corporate Governance Standards

The Task Force suggests that the Government and the SEBI as a market
Regulator must concur in the corporate governance standards deemed
desirable for listed companies to ensure good corporate governance.

20. Audit Oversight Mechanism

In the interest of investors, the general public and the auditors, the Task
Force recommends that the Government intervenes to strengthen the ICAI
Quality Review Board and facilitate its functioning of ensuring the quality
of the audit process through an oversight mechanism on the lines of Public
Company Accounting Oversight Board (PCAOB) in the United States.

21. Effective & Credible Enforcement

The Task Force recommends that instances of investigations of serious

corporate fraud must be coordinated and jointly investigated. Joint
investigations / interrogation by the regulators for example, the SFIO and
the CBI should be conducted in tandem. On the lines of the
recommendations of the Naresh Chandra Committee Report on Corporate
Audit and Governance, a Task Force should be constituted for each case
under a designated team leader and in the interest of adequate control and
efficiency, a Committee each, headed by the Cabinet Secretary should
directly oversee the appointments to, and functioning of this office, and
coordinate the work of concerned department and agencies. Civil recovery
for acts of misfeasance, malfeasance, nonfeasance and recovery from the
wrongdoers and criminal offences and penalties and punishments should
be adjudicated appropriately, without conflicting reports and opinions, and
disposed off between 6 to 12 months.

22. Cancellation of Fraudulent Securities

A provision of confiscation and cancellation of securities of a person who

perpetrates a securities fraud on the company or security holders ought to
be prescribed for the protection of capital markets.

23. Liability of Directors & Employees

Personal penalties should be imposed on directors and employees who seek
unjust enrichment and commit offence with such intentions. Such
punishments should be commensurate with the wrongful act and be
imposed in addition to disgorgement of wrongful gains. Further, non-
executive directors cannot be made to undergo the ordeal of a trial for
offence of non-compliance with a statutory provision unless it can be
established prima facie that they were liable for the failure on part of the
company.

24. Shareholder Activism

Long term institutional investors, pension funds or infrastructure funds can

help to develop a vibrant state of shareholder activism in the country. The
oversight by such investors of corporate conduct can be facilitated through
internal participation of their nominees as directors or external
proceedings for preventing mis-management. Such institutional investors
should establish model codes for proper exercise of their votes in the
interest of the company and its minority shareholders, at general meetings,
analyze and review corporate actions intended in their investee companies
proactively and assume responsible roles in monitoring corporate
governance and promoting good management of companies in which they
invest.

25. Media as a stakeholder

Capacity building in the area of corporate governance, has assumed critical

importance in India, given the renewed emphasis on the subject in the light
of the recent events. Media has an important part to play in raising general
awareness and understanding of corporate governance and potentially as a
watch dog in the area of corporate governance.

The Task Force recommends that media, especially in the financial

analytics and reporting business should invest more in analytical, financial
and legal rigour and enhance their capacity for analytical and investigative
reporting.

Kumar mangalam narayanmurthy

Securities and Exchange Board of India (SEBI) in 1999 set up a committee under Shri
Kumar Mangalam Birla, member SEBI Board, to promote and raise the standards of
good corporate governance.

The primary objective of the committee was to view corporate governance from the
perspective of the investors and shareholders and to prepare a ‘Code’ to suit the Indian
corporate environment.

The committee divided the recommendations into two categories,

namely, mandatory and non- mandatory.
 The recommendations which are absolutely essential for corporate governance
can be defined with precision and which can be enforced through the amendment
of the listing agreement is classified as mandatory.
 Others, which are either desirable or which may require change of laws be
classified as non-mandatory.
Contents
• Mandatory recommendations
• Non- mandatory recommendations

Mandatory Recommendations
 The mandatory recommendations apply to the listed companies with paid up
share capital of 3 crore and above.
 Composition of board of directors should be optimum combination of executive &
non-executive directors.
  Audit committee should contain 3 independent directors with one having
financial and accounting knowledge.
 Remuneration committee should be setup
 The Board should hold at least 4 meetings in a year with maximum gap of 4
months between 2 meetings to review operational plans, capital budgets,
quarterly results, minutes of committee’s meeting. 
 Director shall not be a member of more than 10 committee and shall not act as
chairman of more than 5 committees across all companies
 Management discussion and analysis report covering industry structure,
opportunities, threats, risks, outlook, internal control system should be ready for
external review
 Any Information should be shared with shareholders in regard to their
investments.
  
Non-Mandatory Recommendations
The committee made several recommendations with reference to:

 Role of chairman
 Remuneration committee of board
 Shareholders’ right for receiving half yearly financial performance.
 Postal ballot covering critical matters like alteration in memorandum
 Sale of whole or substantial part of the undertaking
 Corporate restructuring
 Further issue of capital
 Venturing into new businesses

Naresh Chandra Committee

In June 2011, government of India had announced setting up a high-powered task force to review
the defense management in the country and make suggestions for implementation of major
defense
projects. The 14-member task force was headed by Naresh Chandra, a former bureaucrat who has

held top administrative jobs in the Ministry  of Defence and Prime Minister’s Office. The
committee was formed after a decade of the Kargil Review Committee and a Group of Ministers
that attempted the first major revamp of defence management in the country, during the NDA
Government. The Naresh Chandra Committee was to try to contemporaries the KRC’s
recommendations in view of the fact that 10 years have passed since the report was submitted. It
was also expected to examine why some of the crucial recommendations relating to border
management and restructuring the apex command structure in the armed forces have not been
implemented, especially in view of the fact that the KRC had stated: “The political, bureaucratic,
military and intelligence establishments appear to have developed a vested interest in the status
quo.” Naresh Chandra Committee has submitted its final report on national security to the prime
minister in May 2012. The salient recommendations are as follows:

 Creation of a new post of Intelligence Advisor  to assist the NSA and the National

Intelligence Board on matters relating to coordination in the functioning of intelligence

committee

 Amendment to Prevention of Corruption Act to reassure honest officers, who take

important decisions about defence equipment acquisition, so that they are not harassed

for errors of judgement or decision taken in good faith.

 A permanent Chairman of the Chiefs of Staff Committee

 Expediting the creation of new instruments for counter-terrorism, such as the National

Intelligence Grid and National Counter Terrorism Centre.

 Deputation of officers from services up to director’s level in Ministry of Defense

 Measures to augment the flow of foreign language experts into the intelligence and

security agencies, which face a severe shortage of trained linguists

 Promotion of synergy in civil-military functioning to ensure integration. To begin with, the

deputation of armed services officers up to director level in the Ministry of Defence should

be considered.

 Early establishment of a National Defence University (NDU) and the creation of a separate

think-tank on internal security.

DR J.J. IRANI COMMITTEE REPORT ON

COMPANY LAW, 2005
The Government of India constituted an expert committee on
company law on 2 December 2004 under the chairmanship of Dr
J.J. Irani to make recommendations on

(i) responses received from various stakeholders on

the concept paper;
(ii) issues arising from the revision of the Companies
Act, 1956;
(iii) bringing about compactness by reducing the size
of the Act and removing redundant provisions;
(iv) enabling easy and unambiguous interpretation by
recasting the provisions of the law
(v) providing greater flexibility in rule making to enable
timely response to ever-evolving business models.
(vi) protecting the interests of the stakeholders and
investors, including small investors.