Corporate Governence -III

7/31/2019 Corporate Governence -III

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MODULE III

Role players

By

Prangya Paramita


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Corporate management structure :

Elect Form

Appoints

Shareholders

Board of directors

Chief executives and senior executive

Executive

committee


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Who is a director?

Section 2 (3) of the companies Act defines a

director as follows- A director includes any

person occupying the position of directors by

whatever name called.

Kinds of directors

Full time director

Non executive director

Shadow directors


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Qualifications of directors

A director must :

1. Be an individual

2. be competent to enter into a contract3. hold a share qualification if so required by the Article of

association.

Disqualified

1. A person of unsound mind.2. An un-discharged insolvent or one whose position for declaring

himself so is pending in a court.

3. a person who has been convicted by a court for any offenceinvolving moral turpitude.

4. A person whose calls in respect of shares of the company are heldfor more than 6 months have been in arrears.

5. A person who is disqualified for appointment as director by anorder if the court on grounds of fraud or misfeasance in relation tothe company. And of course, directors can be removed from office.


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Board of directors/ board of trustees/ board of

governors/ board of manager/ executive board

A board of directors is a body of elected or

appointed members who jointly oversee the

activities of a company or organization.

Role of board of director

small size of the board

Independence of the board

Diversity of the board

A well informed board

The board should have a longer vision and

broader responsibility


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Market forces and competition

Accountability disclosures Customer service andsatisfaction

Empowerment and Continuing relationship

pressure to perform

Regulatory compliance Compliance of business ethics

Organizations welfare Providers of service & supplies

Career advancement

& job satisfaction Transparency & fairness in dealings

environmental preservation

Social responsibility

Board

of directorPolicy Compliance

and

Accountability

Top management

Depositors,

borrowers and

other customers

All other stakeholders

Shareholder

Employees


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Who is an independent director?

An independent directors is defined as a nonexecutive directors who is free from any businessor other relationship which could materiallyinterfere with the exercise of his independentjudgment.

The Cadbury Report identifies two areas wherenonexecutive directors can make an importantcontribution to the governance process as a

consequence of their independence from executiveresponsibility. First, reviewing the performance ofexecutive management and 2nd, taking the leadwhere potential conflicts of interest.


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Who are Independent Directors

As per Clause 49 of the Listing Agreements an independent

director shall mean non-executive director of thecompany who

a. apart from receiving directors remuneration, does not

have any material pecuniary relationships or transactions

with the company, its promoters, its senior management orits holding company, its subsidiaries and associated

companies;

b. is not related to promoters or management at the boardlevel or at one level below the board;

c. has not been an executive of the company in the

immediately preceding three financial years;


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d. is not a partner or an executive of the

statutory audit firm or the internal audit firm

that is associated with the company, and has

not been a partner or an executive of any

such firm for the last three years.

e. is not a supplier, service provider or

customer of the company.


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Role of Independent Directors Role Of Independent Directors

The non-executive directors should:

* Contribute to and constructively challenge development of company

strategy.

* Scrutinize management performance.

* Satisfy them that financial information is accurate

* Meet at least once a year without the chairman or executive directors -

and there should be a statement in the annual report saying whether such

meetings have taken place.* Be prepared to attend AGMs and discuss issues relating to their roles.

* Have a greater exposure to major shareholders (particularly the senior

independent director).

Effectiveness of the board as the oversight body to oversee what the managementdoes

Is there a better way to do it, in view of

Recent scandals of disclosures and audits

Size and scope of present day enterprise

Complexity of operations


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Independent Directors under Listing Agreement in India

Composition of the Board:

Not less than 50% of the board to be non-executive directors

Independent Directors:

If the chairman executive:

At least half of the board should comprise of independent directors

If Chairman non-executive:

At least one- third of the board should comprise of independentdirectors

Non-executive directors remuneration to be approved by shareholders

Board meetings to meet at least 4 times, with gap not exceeding 3 months.Minimum information for board meetings laid down

Committees of Directors

Audit Committee:

shall have minimum 3 members all of them being non-executive andmajority of them being independent

Chairman of the committee shall be an independent director To meet at least thrice a year

Company Secretary to act as secretary to the committee

Remuneration Committee

Shareholders/Investors Grievance Committee

Limits on committee memberships and chairmanships


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Auditors

Introduction:Auditors who are expected to be the watchdog ofthe organization are often bought in bymanagements through some profitable

assignments.

The objective of an audit:

An auditor express an opinion on financial

statements which are prepared within aframework of recognized accounting policies andpractices and relevant statutory requirements.


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Types of audit

1. Financial audit

2. compliance audit

3. Operational audit

1.Financial audit-

The financial statements commonly audited

are balance sheet, the income statement, the

cash flow statement and the statement of

stockholders responsibility.


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2. Compliance audit

Whether the auditee is following specific

procedures, rule or regulations set down by

some higher competent authority.

3.Operational audit

An operational audit is a review of any part of

an organizations operating procedures and

methods for the purpose of evaluating

effectiveness and efficiency.


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Definition of auditor

An auditor is defines as a person appointed by

a company to perform an audit. An auditor is a representative of the

shareholders, forming a link betweengovernment agencies, stockholders, invertors

and creditors.

Types of auditors

1. Internal auditors

2. Independent auditors

3. Government auditors


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Duties of auditor:

whether loans and advances made by the

company on the basis of security have beenproperly secured.

whether loans and advances made by the

company have been shown as deposits.

whether the personal expenses have been

charged to revenue account

Verifying that the statements of accountsdrawn up on the basis of the books exhibits a

true and fair state of affairs of the business.


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Composition of audit committee:

1. The audit committee should have minimum 3

members, all being independent directors with themajority being independent and with at least 1director having financial and accounting knowledge.

2. the chairman of the audit committee should be anindependent director.

3. The chairman should be present at annual generalmeeting to answer shareholder queries.

4. the audit committee should be invite such of the

executives as it considers appropriate to be present atthe meetings.

5. the company secretary should be act as the secretaryto committee.


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Responsibilities Overseeing the financial reporting and disclosure

process.

Monitoring choice of accounting policies andprinciples.

Overseeing hiring, performance and independence ofthe external auditors.

Oversight of regulatory compliance, ethics, andwhistleblower hotlines.

Monitoring the internal control process.

Overseeing the performance of the internal auditfunction. Discussing risk management policiesand practices with management.
http://en.wikipedia.org/wiki/Internal_audithttp://en.wikipedia.org/wiki/Risk_managementhttp://en.wikipedia.org/wiki/Risk_managementhttp://en.wikipedia.org/wiki/Internal_audit


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Objectives:

1. Audit committee ensures that published

financial statement are not misleader.

2. Audit committee ensures that internal

control are adequate.

3. To recommend the selection of external

auditors.

4. To follow up allegation of material financial,

ethical and legal irregularities


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Powers of the audit committee

1. To investigate any activity within its terms of

reference.2. To seek information from any employee.

3. To obtain outside legal ot other professional

advice.4. To secure attendance of outsiders with relevant

expertise, if it considers necessary.

The committee should meet at least 2 a year.

One meeting must be held before finalization ofannual accounts and one necessarily every 6months.


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Generally the major Functions of Audit Committee are asfollows:

overseeing the Companys financial reporting process anddisclosure of financial information to ensure that thefinancial statements are correct, sufficient and credible,

* recommending the appointment and removal of externalauditor, fixation of audit fee and approval for payment ofany other services,

* reviewing with the Management the annual financialstatements before submission to the Board,* reviewing with the Management the annual financialstatements of the subsidiary companies,* reviewing with the Management and the external andinternal auditors, the adequacy of internal control systems,


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* reviewing the adequacy of internal audit function,* discussing with internal auditors any significant findingand follow up on such issues,* reviewing the findings of any internal investigations by

the internal auditors in matters where there is suspectedfraud or irregularity, or a failure of internal control systemsof a material nature, and then reporting such matters tothe Board,

* discussing with external auditors before the audit

commences on the nature and scope of audit, as well ashaving post-audit discussion to ascertain any area ofconcern,* reviewing the Companys financial and risk managementpolicies; and

* examining reasons for substantial default in the paymentto depositors, debenture holders, shareholders (in case ofnon-payment of declared dividends) and creditors, if any.


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SEBI1. Audit committees

Audit committees of publicly listed companies should berequired to review the following information mandatorily:

Financial statements and draft audit report, including

quarterly / half-yearly financial information;

Management discussion and analysis of financial conditionand results of operations;

Reports relating to compliance with laws and to risk

management;

Management letters / internal auditors; and

Records of related party transactions


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2. Financial literacy of members of the audit committee:

All audit committee members should be financially literate and

at least one member should have accounting or related financial

management expertise. It was also suggested that all audit committee members should be

able to read and understand financial statements at the time of

their appointment rather than within a reasonable period.

3. Audit Reports In case a company has followed a treatment different from that

prescribed in an accounting standard, management should justify

why they believe such alternative treatment is more

representative of the underlying business transaction. Management should also clearly explain the alternative

accounting treatment in the footnotes to the financial statements.


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4. Related Party Transactions

A statement of all transactions with related parties including

their bases should be placed before the independent audit

committee for formal approval / ratification.

If any transaction is not on an arms length basis,

management should provide an explanation to the audit

committee justifying the same.


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5. Risk Management

a. Board disclosure

Procedures should be in place to inform Board membersabout the risk assessment and minimization procedures.

These procedures should be periodically reviewed to ensure

that executive management controls risk through means of a

properly defined framework. Management should place a report before the entire Board of

Directors every quarter documenting the business risks faced

by the company, measures to address and minimize such

risks, and any limitations to the risk taking capacity of thecorporation.

This document should be formally approved by the Board.

b Training of Board member


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b. Training of Board member

Non-mandatory recommendation

Companies should be encouraged to train their Board members inthe business model of the company as well as the risk profile of thebusiness parameters of the company, their responsibilities asdirectors, and the best ways to discharge them.

6. Proceeds from Initial Public Offerings (IPO)

Companies raising money through an Initial Public Offering (IPO)should disclose to the Audit Committee, the uses / applications offunds by major category (capital expenditure, sales and marketing,working capital, etc), on a quarterly basis.

On an annual basis, the company shall prepare a statement of

funds utilized for purposes other than those stated in the offerdocument/prospectus.

This statement should be certified by the independent auditors ofthe company.

The audit committee should make appropriate recommendations

to the Board to take up steps in this matter.


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7. Code of Conduct

it should be obligatory for the Board of a company to lay

down the code of conduct for all Board members and senior

management of a company.

This code of conduct shall be posted on the website of the

company.

All Board members and senior management personnel shall

affirm compliance with the code on an annual basis.

The annual report of the company shall contain a

declaration to this effect signed off by the CEO and COO.


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8. Nominee directors

Where an institution wishes to appoint a director on theBoard, such appointment should be made by the

shareholders.

An institutional director, shall have the same responsibilities

and shall be subject to the same liabilities as any other

director.


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9. Non-Executive Director Compensation

The Committee discussed the following issues relating to

compensation of independent directors:1. Whether limits should be set for compensation paid to

independent directors and how should these limits be

determined

2. What are the disclosures to be made to ensure transparency;

3. In case of stock-based compensation, the vesting timeframe of

the options and the parameters that trigger vesting such as

average return on capital employed, turnover criteria, etc.


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10. Independent Directors

1. Apart from receiving director remuneration, does not haveany material pecuniary relationships or transactions with the

company, its promoters, its senior management or its holding

company, its subsidiaries and associated companies;

2. is not related to promoters or management at the board level or

at one level below the board;

3. has not been an executive of the company in the immediatelypreceding 3 financial years;


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4. is not a partner or an executive of the statutory audit firm or the

internal audit firm that is associated with the company, and has

not been a partner or an executive of any such firm for the last

3 years.5. is not a supplier, service provider or customer of the company.

6. The considerations as regards remuneration paid to an

independent director shall be the same as those applied to anon-executive director.


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11. Whistle Blower Policy

Personnel who observe an unethical or improper practice

(not necessarily a violation of law) should be able toapproach the audit committee without necessarily

informing their supervisors.

Companies shall take measures to ensure that this right

of access is communicated to all employees throughmeans of internal circulars, etc.

The employment and other personnel policies of the

company shall contain provisions protecting whistle

blowers from unfair termination and other unfairprejudicial employment practices.


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Whistle blower policy

Companies shall annually affirm that they have not denied

any personnel access to the audit committee of the company(in respect of matters involving alleged misconduct) and that

they have provided protection to whistle blowers from

unfair termination and other unfair or prejudicial employment

practices.

The appointment, removal and terms of remuneration of the

chief internal auditor must be subject to review by the Audit

Committee.

the Board report on Corporate Governance that is required to

be prepared and submitted together with the annual report.


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12. Subsidiary Companies

Audit committee requirements

It should be recommended to the Central Government

that the Companies Act, 1956 should be amended to

exclude common directorships in holding and subsidiary

companies, in computing the limits on directorships that

an individual may hold;

The provisions relating to the composition of the Board

of Directors of the holding company shall also be made

applicable to the composition of the Board of Directors

of subsidiary companies;


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Cont

At least 1/3rd of the Board of Directors of the subsidiary

company shall be non-executive directors of the parent

company;

The Audit Committee of the parent company shall also review

the financial statements of the subsidiary company;

The minutes of the Board meeting of the subsidiary company

shall be placed for review at the Board meeting of the parent

company; and

The Board report of the parent company should state that theyhave reviewed the affairs of the subsidiary company also.


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13. Analyst Reports

SEBI should make rules for the following:

Disclosure in the report issued by a security analyst whetherthe company that is being written about is a client of the

analysts employer or an associate of the analysts employer,

and the nature of services rendered to such company, if any;

and

Disclosure in the report issued by a security analyst whether

the analyst or the analysts employer or an associate of the

analysts employer hold or held (in the

12 months immediately preceding the date of the report) or

intend to hold any debt or equity instrument in the issuer

company that is the subject matter of the report of the

analyst.


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Role of the Government in C.G.

C&AG of India as the govt. auditor plays an

important role in effective public sectorgovernance.

The principles of accountability, transparency,probity, equity and fairness are reviewed by C &

AG and audit observations thereon are reportedin the various Audit Repots.

C.G. legislations

Important amendments introduced in the year2000 to sections 217 and 292 of the co. Act ,1956set the tone for C.G.


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1) Directors Responsibility statement:-

Directors which should affirm the following:

annual accounts have been prepared in accordancewith applicable accounting standards with properexplanation relating to material departures.

The selection and application of Accounting policies

by Directors is consistent and prudent so as to give atrue and fair view of the state of affairs of thecompany.

Proper and sufficient care has been taken by theDirectors for the maintenance of adequate accountingrecords for safeguarding the assets of the companyand for preventing and detecting frauds andirregularities.


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2) Formation of audit committee:

Sec. 292A of the companies Act. 1956 requires

every public limited company having paid upcapital up not less than Rs. 5 crore toconstitute at the board level.

The Audit committee should have a minimum

pf 3 Directors and 2/3rd of the total number ofmembers of Audit committee shall be directorsother than managing or whole time directors.

The terms of reference of the Audit Committeeinclude all matters related to financialreporting and the audit thereof includingefficacy of the internal control system.


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3) Guidelines of department of publicEnterprises (DPE)on C.G. of central publicsector enterprises.

The DPE issued guideline on the composition ofboard:

The guideline requires at least 1/3rd of the

directors on the board of Central public sectorEnterprises (CPSEs) to be non official Directors.

The number of independent directors should

be at least 1/3rd

of the Board if the chairman isnonexecutive and not less than.

50 % if the Board has an executive chairman.


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4) SEBIS guidelines on C.G. for listed Co.s:-

Clause 49 of the Listing Agreement specifies among other things,the following:

1) Composition of the Board of Directors of listed GovernmentCo.s:

Where the chairman of the Board is a non-executive director, atleast 1/3rd of the Board should comprise of independentdirectors and in case he/she is an executive director, at least 1/2

of the Board should comprise independent directors.2) Audit Committee in listed govt. Co.s:-

A qualified and independent Audit Committee shall be set up,giving the terms of reference.

The audit committee shall have minimum 3 directors as

members and 2/3rd of the members of Audit committee shallbe independent directors.

All members of Audit Committee shall be financially literate andat least one member shall have accounting or related financialmanagement expertise.


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5) Constitution and composition of Audit Committee inlisted Govt. Co.s:

the following compliance were notices with respect tocomposition of Audit committee:

the 7 govt. co.s , the Audit committee didnt consist ofrequired number of independent directors like, IndianTourism Development corporation Ltd., NationalFertilizer Ltd., Mangalore Refinery and PetrochemicalsLtd. etc

In case of Neyveli Lignite Corporation Ltd. There wasonly 1 independent director, as on 31 March 2007, on

the Audit Committee of 4 members. The compliancewith Clause 49 of the Listing agreement was made onlyon 1 June 2007 by induction of 3 independent directorson the Audit committee.


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6) Constitution and composition of Audit Committee inunlisted Govt. Co.s:

sec. 292 A of the Companies Act 1956, every public limited

companies having paid up capital of not less than Rs. 5crore shall constitute an Audit committee at the Board levelconsisting of minimum of 3 directors and 2/3rd of whichshall be directors other than managing or whole timedirectors.

The following instances of noncompliance were noticed No audit committee was formed by the following

companies like- HMT M achines Tools Ltd., HMT WatchedLtd., Bharat Heavy Plated and Vessels ltd. etc.

Audit committee formed by Indian Renewable Energy

Development Agency Ltd. Consisted of 2 directors asagainst the requirement of minimum 3. The committee didnot consist of 2/3 of directors as directors other thanmanaging or whole time directors as there was only onesuch director.


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Central Public Sector Enterprises

The government-owned corporations play a

pivotal role in the economic development ofemerging economies because theirparticipation is higher in the industrial andcommercial activities of these economies.

Resource constraints and limited scope of theprivate sector in the early stages ofdevelopment and planning have set the stagefor predominance of the public enterprises inthese economies.

Thus, public sectors in the leading developingcountries of the world play a very important

role.


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Q. Critically examine the role played by Govt. in

promoting corporate Governance in India?


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Growth of corporate governance in India / Corporategovernance of India has undergone a paradigm shift

In 1996, Confederation of Indian Industry (CII), took aspecial initiative on Corporate Governance.

The objective was to develop and promote a code for

corporate governance to be adopted and followed byIndian companies, be these in the Private Sector, thePublic Sector, Banks or Financial Institutions, all ofwhich are corporate entities.

This initiative by CII flowed from public concernsespecially the regarding the protection of investorinterest, small investor, the promotion of transparencywithin business and industry

S i i d E h B d f I di


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Securities and Exchange Board of India

The Government of India's securities watchdog ,

Securities Board of India, announced strict corporategovernance norms for publicly listed companies in India.

The Indian Economy was liberalized in 1991 . In order toachieve the full potential of liberalization and enable the

Indian Stock Market to attract huge investments fromforeign institutional investors (FIIs), it was necessary tointroduce a series of stock market reforms.

SEBI, established in 1988 and became a fully autonomousbody by the year 1992 with defined responsibilities to coverboth development and regulation of the market.

SEBI


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SEBI

On April 12, 1988, the Securities and Exchange Board of India

(SEBI) was established with a dual objective of protecting therights of small investors and regulating and developing the stockmarkets in India.

In 1992, the Bombay Stock Exchange (BSE), the leading stock

exchange in India, witnessed the first major scam mastermindedby Harshad Mehta.

Analysts unanimously felt that if more powers had been given toSEBI the scam would not have happened.

As a result the Government of India (GoI) brought in a separate

legislation by the name of SEBI Act 1992 and conferred statutorypowers to it.

Since then, SEBI had introduced several stock market reforms.These reforms significantly transformed the face of Indian Stock

Markets.


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SEBI and Clause 49

SEBI asked Indian firms above a certain size to

implement Clause 49, a regulation that

strengthens the role of independent directors

serving on corporate boards.

On August 26, 2003, SEBI announced an

amended Clause 49 of the listing agreement which

every public company listed on an Indian stock

exchange is required to sign.

The amended clauses come into immediate effect

for companies seeking a new listing.


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Clause 49

Clause 49, which has recently been revised by the

SEBI, of the listing agreement between listedcompanies and the to enhance the corporatestock exchanges is all set governance (CG)requirements, primarily through increasing theresponsibilities of the Board, consolidating the

role of the Audit Committee and makingmanagement more accountable

These changes are aimed at moving Indiancompanies rapidly up the evolutionary path

towards business processes and managementoversight techniques.


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The major changes to Clause 49

1. Independent Directors 1/3 to depending whether the

chairman of the board is a non-executive or executive position.

2. Non-Executive Directors ----The total term of office of non-

executive directors is now limited to three terms of three years each.

3. Board of Directors-----The board is required to frame a code of

conduct for all board members and senior management and each ofthem have to annually affirm compliance with the code.

4. Audit Committee---- Financial statements and the draft audit report

/ reports of management discussion and analysis of financial condition

and result of operations/ report of compliance with laws conditionand result of operations/ reports of compliance with laws and riskmanagement / management letters and letters of weakness ininternal controls issued by statutory and internal auditors/appointment, removal and terms of remuneration of the chiefinternal auditor.


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Clause 49..

5. Whistleblower Policy ---- This policy has to be communicated to allemployees and whistleblowers should be protected from unfair

treatment and termination.

6. Subsidiary Companies-----50% non-executive directors & 1/3 &

independent directors depending on whether the chairman is non-

executive or executive.

7. Disclosures---- Contingent liabilities / Basis of related partytransactions./ Risk management/ Proceeds from initial publicoffering /Remuneration of directors .

8. Certifications----reviewed the necessary financial statements anddirectors report; established and maintained internal controls, and

disclosed to the auditors and informed the auditors and audit

committee of any significant changes in internal control and/or ofaccounting policies during the year.


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Clause 49 amended

The Clause 49 of the Listing agreement of SEBI

Act is the outcome of Narayana MurthyCommittee, which has come into effect

January 1st 2006.

Amended Clause 49 of the Listing Agreement. Aid to Corporate Governance

1. Control Environment

2. Risk Assessment and Management.

I d i l li


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Industrial policy

Industrial policy--- The governments liberalization andeconomic reforms programme aims at rapid and substantialeconomic growth, and integration with the global economy in

a harmonized manner. The industrial policy reforms haveremoved the industrial licensing requirements, removedrestrictions on investment and expansion, and facilitated easyaccess to foreign technology and foreign direct investment.

Foreign Direct Investment Government wishes to facilitate

foreign direct investment (FDI) and investment from Non-Resident Indians (NRI)s including Overseas Corporate Bodies(OCBs), that are predominantly owned by them, tocomplement and supplement domestic investment.Investment and returns are freely repatriable, except wherethe approval is subject to specific conditions such as lock inperiod on original investment, dividend cap, foreign exchangeneutrality etc. as per the notified sectoral policy.

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Corporate Governence -III