The ongoing drama at Satyam Computers has stirred up the corporate governance issue once again in India and at the same time it has presented in no uncertain terms the reality of successful shareholder activism. Just like well functioning democracies need voters to hold governments accountable, a well functioning free market system needs shareholders to hold management responsible for their actions.
Recall the Satyam episode. The board decides unilaterally to take a $1.6 billion decision to invest in a promoter owned company and turn a cash rich company into a net borrower. Normally, such decisions would have sailed through with a little bit of flutter with analysts putting a ?downgrade? label on their reports. But the widening shareholder participation, especially from overseas funds, has meant that such dubious decisions won?t fly. Satyam had an unusually large share of FIIs as shareholders who ultimately led the revolt against the Board?s decision.
That said, in most other cases, promoters and owners in India are used to making such decisions even in the face of conflict-of-interest. Satyam may have suffered because the markets were low and shareholders were in no mood to compromise.
The dubious actions of the promoters in India are well chronicled. While promoters of Satyam Computers look like villains wanting to fleece the shareholders of their wealth, they are not the only ones who have been doing this.
It is not uncommon to see promoters have three companies in the same line of business, coming to tap the capital market. And then the listed company suddenly starts bleeding while the other non-listed, promoter-owned company is thriving. Then there are inter-group transfer sale of assets that are extremely common place.
Of course, much of this was a legacy of the license raj when there were irrational restrictions on the size of a unit and also the operational scope. This meant that promoters would have to have three to four units in the same line of business. For example, you had three companies in the Tata group that generated power and were listed as three separate companies. However, these were merged later on when more pragmatic regulations were created. But then Tatas follow more ethical norms than others.
Then there are the multinational companies, which ought to follow best practices. Still, some of them haven?t always followed corporate governance norms and the shareholders haven?t always been effective at chaotic AGMs. In the 1990s, when several multinational companies were allowed to increase their stake, many promoters did so by issuing shares at steep discount to ruling market prices. Foreign companies would often have two units in India and then the critical brand ownership would be transferred to the unit with a larger ownership.
It isn?t only the private sector which suffers from low standards of corporate governance. There is the curious case of the state owned companies where most of the decisions are taken by the government and often large payouts are made to shore up government coffers. ?Why should the investors in state owned oil marketing companies suffer for the vote bank strategies of the government? Is this sound corporate governance?? said a fund manager of an overseas fund. Many public sector giants are not compliant with Sebi guidelines for a minimum number of independent directors on their board. Only the requisite number of independent directors can protect the interests of minority shareholders against government?s diktats. PSUs, at least those whose shares are publicly traded, must be subject to the best practice rules of corporate governance.
The situation with public sector boards is however quite dismal. J R Varma, professor at IIM Ahmedabad observes in a paper published in IIMB Management Review, the journal of the Indian Institute of Management, Bangalore, ?It is interesting however to observe how totally irrelevant the board really is in the governance of the PSUs today. The board has very little say in the selection of the CEO or in the composition of the Board. The government as the majority shareholder takes these decisions through the concerned ministry with the help of the Public Enterprises Selection Board. The board cannot fire the CEO nor can it vary his compensation package.?
Even though corporate governance is far from top rate in India, shareholder activism has not really taken off because of various reasons. ?Who will want to battle the management with deep pockets and take on long drawn cases in the courts,? says Dilip Prabhu an avid investor who runs an investment club. The legal hassles are the biggest roadblocks.
While there are regulatory issues that need to be tackled there is an urgent need for the culture of shareholder activism to step in. Speaking with the author once, Chandrakant Sampat, a legendary value investor in Mumbai who invests on the lines of Warren Buffet, said, ?I don?t do much of charity. I ensure that companies that I invest are using capital productively and in a manner that generates returns for all stakeholders. This is my contribution to the society.? Sampat is known to question management decisions that could be potentially against shareholder interests.
It is also time for the domestic institutional investors to wake up and start taking action. Today the maximum shareholding in Indian Inc is through domestic institutions who are often seen sitting on the fence where major issues are concerned. J R Varma notes, ?So passive have they been that in the few cases where they did become involved in corporate governance issues, they were widely seen as acting at the behest of their political masters and not in pursuance of their financial interests. So long as the financial institutions play a passive role, the promoters are effectively dominant shareholders and are able to get general body approval for all their actions.?
In India there are several investor protection clubs and associations. They are either political in nature or do not have the power to rabble rouse. Recently the well known shareholder activist in the US, Carl Icahn started an association to battle mismanagement of companies. He says, ?Clearly, much of the meltdown occurred as a result of the failure of boards to properly clamp down on managements who took excessive risks that brought down their companies, particularly those in financial services. This is unacceptable and must be changed. This is why I have founded United Shareholders of America ? to give shareholders more power over the companies they own. It is only when large numbers of stockholders unite that we can push back against the entrenched and unresponsive boards and managements in this country.?
In 2004 Mylan Laboratories had announced a deal to acquire another company King Pharmaceuticals in the same business. Icahn, who had a shareholding in the company, threatened a proxy to fight the acquisition. His contention was that the deal was over priced, the CEO was overpaid and the company?s corporate governance was flawed. It was in 2005 that Mylan called off the King Pharma bid. Similarly, in 2005 a small set of MCI Inc shareholders created an online petition to protest the MCI Inc and Verizon merger and were successful in making their voice heard.
There are various ways and means of shareholder activism. And with technology and media making strong inroads, activism should be rising. The instances of Satyam Computers pulling off their deal and Vedanta Resources cancelling their restructuring in September based on ?investor feedback? will certainly have sent signals to promoters to not take their shareholders for granted. At the same time, shareholders now need to question management decisions with greater vigour and organisation.