Indian CEOs must behave as if they hold their companies in trust

Written by SL Rao | Updated: Dec 21 2012, 06:53am hrs
Management books advocate that there are some essentials for achieving competitiveness in business. Businesses must invest in research and development, brand building, nurturing human capital at all levels, paying attention to what employees have to say and focusing on cost improvement programmes. But the most important is to identify and appoint the most suitable persons to lead the company and to ensure that there are backups who can take over.

Most people assume that professionals cannot include members of the controlling family. So, by definition, the Tatas, Ambanis, Singhanias, Wadias, Goenkas, and others belonging to the families of the founders of the business are not counted as professionals. This is a false argument. Family inheritors many times are as bright as outsiders. They can afford to take time and spend money to earn the best qualifications. They might even gain experience for some years in the best consultancy firms or other companies. Many second or third-generation inheritors today are highly educated, experienced and capable.

Many outsider recruits to family businesses are not satisfied with high-sounding designations and compensation packages. They want to run the whole company. So they leave when they find that the top slots are reserved for the family. Even the few family-run companies that place outsiders in top positions have a control mechanism. They do not for long tolerate performance slippages. All enterprises, whether businesses or non-governmental social organisations (even the business of politics!), are started by individuals. Each of them has a dream, a vision, and a passion to build something. With some businesses the individual has no choice but to start an enterprise. The refugee entrepreneurs after Partition left all their property and possessions behind, like Mahindra, Raunaq Singh of Apollo, Nanda of Escorts, Munjal of Hero and others. In the south, the Chettiar families similarly left property in Burma and Malaysia after the war and built again in India. Others like Dhirubhai Ambani were men driven by vision and passion to do something special and different. JN Tata, Narayana Murthy, Anji Reddi and others are in this group. Yet others started businesses that were a hotchpotch of enterprises that were put together because their contacts and connections got them the required licences and permits. Some have survived after drastic pruning; others have declined. In todays competitive world, enterprises are not created as much by contact and connection. But individuals build enterprises and fortunes, (equally so with political families) as inheritance for their near and dear ones and as their monuments for posterity. They think that the best people to grow the monuments are their kin. With controlling shareholdings in India vesting, in most companies, with promoter families, there is little challenge from other shareholders or regulators to control passing of ownership to family members. When Ratan Tata was chosen by his uncle to succeed him as the head of the Tata group, Tatas business experience had been in running a failing company called Nelco. No objective recruiter would have catapulted him into a position to succeed JRD Tata. But he was family and shareholders had to assent.

In India, our regulatory environment, and concentration of shareholding, make controlling families virtual dictators of their businesses. There is no one to question their decisions on succession. It is only the good sense of the patriarch that might decide to hand over to someone more capable in the family than the genetically immediate successor. Another reason for keeping control with the family is rampant tax avoidance, hawala for keeping money overseas through illegal commissions on purchases, and over and under-invoicing of imports or exports. The government made it easier by providing the Mauritius route for investments that would not be subject to long-term capital gains tax. The government in this way provided an incentive for money laundering. These illegalities gave another reason for keeping the top jobs with family members.

In other countries also, there were families that handed over the business to the next generation. Liberalisation and the opening of the economy brought intense competition and pressure to go for volume, reduce costs and prices, improve design and quality and look for new markets. Companies like Dabur, Eicher, Sri Ram Fibres and the Murugappa Group were some companies that consciously handed over full managerial control to paid employees, not to paid family members. But in some form, the family control remained. Though data is lacking, it is doubtful whether in the long run, employee CEOs have performed better than family members in running enterprises. However, it is certain that a family top manager can afford to make big mistakes and lose his company money. He need not fear losing his job. The outsider CEO has no such safety net. He must perform, or he loses his job.

Ratan Tata took many years to clean up the organisational structure and staffing in the Tata group. Some of the strategic mistakes made were expensive. Others paid off. Those that paid off included the investment in the automotive business, purchase of Tetley Tea and JLR, to name the principal ones. Those that have not paid off and have brought down returns include the telecom business, purchase of Corus Steel, the Nano car, Mundra power plant based on imported coal, among others. The group has halved its return on capital since he took over. No non-family member would have survived any of this.

Management does not have a professional guild like doctors or accountants or lawyers. It has no barriers to entry and self-regulation. A successful entrepreneur may not even have had a college education, while a highly-rated MBA might fail as CEO. There are many examples of both. The US has shown that non-family CEOs can be greedy and steal from their companies, that some do fudge accounts and cheat shareholders, that they can play favourites, be nepotistic, indulge in insider trading and commit illegalities (like HSBC). Employee CEOs commit many crimes which are usually associated with family managers.

The larger question is one of governance. When there are other shareholders in a company, they are supposed to have approved the appointment of the CEO at the AGM. But the majority rule has always prevailed and even after permitting proxy votes, the chances are that the largest shareholder even without majority share ownership will run the company.

The attempt in recent times has been to legislate good governance. Listing rules of Sebi predate the proposed legislation. It is doubtful though, that appointing independent directors, audit committees, nomination and remuneration committees, shareholder grievance committees, can ensure it. The CEO must be open and transparent. He must place all information before the board committees. A much stronger regulatory framework in the US, with a far more alert and watchful media and other organisations, has been unable to prevent abuse of the trust placed in the CEOs. We can make violations painful, and towards this, a strong regulator with ample investigative powers and staff will certainly help. So will severe penalties including jail and very high fines for violators. We can make more owners and controllers of businesses be honest.

Perhaps we must revisit Gandhiji. Professional managers would be those who behave as if they hold the enterprise in trust and not as owners. This must be applicable for bothwhether they belong to families that own shares enabling control of the company, or they are mere employees.

The author is former director general, NCAER, and was the first chairman of CERC