When it comes to corporate governance in India, it has always been a tug-of-war between the regulator – the Securities and Exchange Board of India (SEBI) and the promoters of companies. Typically, SEBI will come out with new regulations to take governance to the next level while the companies would make a hue and cry on the grounds that it is either a regulatory over-reach or bemoan the additional compliance costs the new rules impose on them.
Eventually, the regulator will succeed, even if it means that the implementation of the changes took longer than expected. This was the case when SEBI implemented norms that stipulated, for listed companies, at least 50 per cent of the directors in the Board be independent or insisted on Board diversity or mandated that at least 25 per cent of the shareholding should be with the public.
Kotak committee
Of late, the promoters appear to be gaining an upper hand. The way SEBI capitulated when it came to the bifurcation of Chairman and Managing Director post is a case in point. In June 2017, the regulator had set up a committee on corporate governance under the chairmanship of Uday Kotak, Managing Director (MD) and Chief Executive Officer (CEO) of Kotak Mahindra Bank to further enhance the corporate governance norms for the listed companies. The Kotak Committee comprised diverse stakeholders — large corporates, industry bodies, proxy advisory firms, academicians, stock exchanges and so on.
One of the many recommendations of the committee was separating the role of chairman and MD/CEO of listed companies. By doing so, it argued, companies will have a “better and more balanced governance structure” that will enable “more effective and objective supervision” of the management.
The regulator saw merit in it and in March 2018, the SEBI Board approved the proposal. It was announced that from April1, 2020, top 500 listed companies (based on market capitalisation) will have a Chairperson who is a non-executive director and more importantly, not related to the managing director or the CEO. In January 2020, SEBI extended the deadline by two years to April 1, 2022 to give more time for the companies to prepare for the transition based on various representations made by them.
On February 5, less than two months before the rules were to take effect, India Inc at the Post-Budget discussion organised by the Confederation of Indian Industry (CII) sought Finance Minister Nirmala Sitharaman’s intervention on bifurcation of the CMD post on the grounds that, you guessed it right, it is a regulatory over-reach. The Finance Minister responded to the request by saying that SEBI should hear corporate India’s concern about the proposal.
To the surprise of many, 10 days later, SEBI announced that it will make bifurcation of CMD post voluntary. What was even more shocking was the reason it gave to justify its change of mind. “Considering rather unsatisfactory level of compliance achieved so far, with respect to this corporate governance reform, various representations received, constraints posed by the prevailing pandemic situation, SEBI Board at this juncture, decided that this provision may not be retained as a mandatory requirement and instead be made applicable to the listed entities on a voluntary basis.”
What precedence is the regulator setting if it withdraws a proposal on the grounds that compliance is poor? It is akin to the Centre withdrawing income tax simply because direct tax to GDP ratio is very low in India and people are not forthcoming when it comes to paying their fair share of the tax.
If compliance is low, the regulator should crack the whip. Instead, the message that SEBI is sending out to companies and their promoters is that if they are not comfortable with a regulation, do not act on it and the regulator will roll them back. If the regulator is still receiving representations from the companies on this issue four years after it was proposed, it does not speak well of its consultation process. Regulators around the world employ a robust consultation process before rolling out a regulation. And finally, blaming the pandemic is laughable. SEBI should have warned the non-complying companies and given a final extension. Making it voluntary meant that it gave in to the pressure.
India Inc pushback
Having tasted success with CMD post bifurcation, India Inc is now trying to roll back another important regulation pertaining to related party transaction (RPT). SEBI, in a bid to plug loopholes and block siphoning of funds, has tightened the definition of what constitutes a RPT and widened its scope. The new norms take effect from April 2022. Promoters are trying to scuttle these norms on the grounds that they will significantly increase the compliance cost and delay decision making.
In India governance is still seen as a burden and this explains why there is strong resistance to changes that improve them. This is true with large family-run companies with high promoter stake. Such companies would not mind investing large sums of money and time to improve their productivity and branding but will shy away from investing a little in raising governance standards. They do not mind working overtime to deliver an important order but paper work related to compliance is seen as a higher work load. It is because the management of such companies do not perceive or appreciate the higher valuations better corporate governance deliver. In fact, a study by proxy advisory firm IiAS has established that companies with better corporate governance standards get a higher valuation.
Some experts have called for more tangible benefits or incentives to get companies to embrace governance. Linking interest rates to level of governance (akin to credit rating) is one such idea. Companies with higher governance rating can borrow at a lower rate of interest. The other benefit could be in the form of lesser procedures for a better governed company, for instance, when it wants to access capital markets or issue ESOPs.
As Madhabi Puri Buch takes over as the new chief of SEBI, it is time for the regulator to think out of the box when it comes to strengthening the level of corporate governance in India. It should explore carrots discussed earlier but also use the stick when necessary. A watchdog which only barks and backs away from biting will fail in doing its dharma.