In this earnings season, there is hardly any board of listed companies which did not pause in their deliberations to discuss the ramifications of corporate governance matters arising out of a prominent promoter’s towering dominance. This upheaval in India’s corporate world came to a temporary truce last Monday when former chairman of one of India’s most-trusted holding companies resigned from the board of group companies, preventing an all-out showdown in the upcoming general meetings.
In most of the developing world, business owners own, control, manage and operate their companies—even those which are publicly traded—with very little gap between ownership and management. They exercise de facto control over key decision-making processes in their companies as a norm. But, how does a promoter entity influence decision-making of the board of a company in which it has minority share, particularly in areas that concern minority shareholders and public stakeholders?
Whose interest do directors protect—the company or the group?
Directors, by law, need to primarily act in the interests of company. At times, they review and approve transactions creating beneficial interests of the dominant shareholder, so long as these are consistent, aligned or furthers the interests of the company. In case of a conflict of interest between a group and its companies, the director must give primacy to the company on whose board she sits. This duty is derived from the principle of loyalty—towards the company, and not its owners.
There are many instances where aligning with the group brings synergies and value to the company and its shareholders. For instance, support of a group might be advantageous to a company while raising finances, developing supply-chain, procurement, sharing of talent and other resources, etc. Equally, being a part of the group may be a hindrance if the interests are divergent or the company is being used by the group to further self-interests of the promoter. This is where the independent directors through the committees and board exercise oversight and determine fairness of these transactions.
The boardroom saga holding the nation’s interest has thrown up issues related to primacy of interests for directors, especially independent directors who are supposed to uphold a neutral viewpoint. Are boards to consider the company’s interest as subservient to the group? As the story unfolds, spilling of battles of the board room into partly owned subsidiaries puts out significant governance challenges across the group and for directors, especially independent directors. These directors are expected to voice their views, including dissent to resolutions which they see contrary to the best interests of the company, opposed to minority shareholders, and divergent to long-term company goals. The institution of independent directors is a key construct of a company’s corporate governance framework. Such directors are the vanguards of protection of minority shareholders and hence are expected to act independently, irrespective of the directives or motivations of the controlling shareholders.
We have seen in recent times diverse manifestations of corporate behaviour emanating from the group in question. In some companies the dictum of the holding company was followed without a murmur while in others the boards turned down the writ for removal of directors with reasoned explanations and logic. There was an instance of an independent non-executive chairperson of a company publicly extolling the virtues and benefits that a partly owned subsidiary derives through its association to a common brand and the need to align itself with the group even if it means removing one of its directors.
A promoter exercises control through majority ownership or through majority voting rights, and in such cases, the owner has significant decision-making power over the company and the board. As a consequence, the company consolidates the subsidiary into itself. The other form of control is by having the power to appoint majority directors, including controls over their appointment or removal. In such a case, the company becomes a subsidiary without majority ownership and is subject to principles of consolidation. Groups often influence, exercise control over the boards of their subsidiaries and associates but rarely consolidate the associates over whom they have a de facto control. Our challenge of governance in India is profound when the holding company of one of most trusted groups makes governance overreach and exercise de facto control over the board for removal of directors in companies in which they do not have controlling stake and the entire board of eminence hold themselves accountable to a privileged few and not to all stakeholders.
The board and the directors also face a quandary in a case when they overturn decisions taken in their previous meetings while rating performance of directors, whom they seek to remove from a scale of high performance to failure—all within a few months without any significant change in macro or industry variables. This demonstrates vulnerability of some of the strongest boards in India when faced with pressure from the promoter groups.
Institutional shareholders also play a key role in such times of corporate conflict, who by virtue of their expertise, knowledge and research can determine the best alternative for the company and define its future path. Because of their shareholding, they can affect positive changes in boards and act as a balancing factor. We have seen cases when large institutions, especially the government-owned behemoths, abstain from voting; this tilts the balance in favour of the promoter group. Institutional shareholders by abstaining do not have a stated position and do not influence corporate governance in India, unless their actions were derived from business interests within the group and they aligned with the dominant shareholder.
The critical lesson that manifested from these turn of events is that corporate governance in India is hostage to the dominant powers even in evolved and trusted groups who easily override principles of equity and governance in their partly-held companies and voice of other shareholders, who can make themselves count, continue to be muted. Hopefully, this will not set the tune for tragic consequences for governance for Indian corporates.
Dutta is a director in Thought Arbitrage Research Institute, a think-tank working in areas of corporate governance, public policy and economics, and the author of Handbook for Independent Directors and Corporate Governance—Myth to Reality