INDIAN INSTITUTE OF

PLANNING & MANAGEMENT

(MUMBAI)

A PROJECT ON

CORPORATE GOVERNANCE
PRINCIPLES

PREPARED BY:
RICHA S.K DUBE (41).
URMI PANDYA ().
SUNITA NAIR ().

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 INTRODUCTION
Corporate governance is the set of processes, customs, policies, laws, and
institutions affecting the way a corporation (or company) is directed, administered or
controlled. Corporate governance also includes the relationships among the many
stakeholders involved and the goals for which the corporation is governed. In simpler
terms it means the extent to which companies are run in an open & honest manner.

Corporate governance has three key constituents namely: the Shareholders, the
Board of Directors & the Management. Other stakeholders include employees,
customers, creditors, suppliers, regulators, and the community at large. The concept of
corporate governance identifies their roles & responsibilities as well as their rights in the
context of the company. It emphasises accountability, transparency & fairness in the
management of a company by its Board, so as to achieve sustained prosperity for all the
stakeholders.

Corporate governance is a synonym for sound management, transparency &

disclosure. Transparency refers to creation of an environment whereby decisions &
actions of the corporate are made visible, accessible & understandable. Disclosure refers
to the process of providing information as well as its timely dissemination.

In A Board Culture of Corporate Governance, business author Gabrielle

O'Donovan defines corporate governance as “An internal system encompassing policies,
processes and people, which serves the needs of shareholders and other stakeholders, by
directing and controlling management activities with good business savvy, objectivity,
accountability and integrity”. Sound corporate governance is reliant on external
marketplace commitment and legislation, plus a healthy board culture which safeguards
policies and processes.

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 However, the concept of corporate governance is not just restricted to the notion
of transparency & accountability alone but also concerns itself about independence of all
those charged with the governance. Corporate governance stipulates rules for the
composition of the governance team & defines the relationship primarily between those
governing & those on whose behalf governance is being carried out. Hence although it is
important that prosperity must be created for stakeholders, but at the same time it is also
necessary to do the same while conforming to the laws, rules & regulations established
by the society.

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 BACKGROUND
As mentioned earlier, the term ‘corporate governance’ is related to the extent to
which the companies are transparent & accountable about their business. Corporate
governance today has become a major issue of interest in most of the corporate
boardrooms, academic circles & even governments around the globe.

In the 19th century, state corporation laws enhanced the rights of corporate boards
to govern without unanimous consent of shareholders in exchange for statutory benefits
like appraisal rights, to make corporate governance more efficient. Since that time and
because most large publicly traded corporations in the US are incorporated under
corporate administration-friendly Delaware law and because the US's wealth has been
increasingly securitized into various corporate entities and institutions, the rights of
individual owners and shareholders have become increasingly derivative and dissipated.
The concerns of shareholders over administration pay and stock losses periodically has
led to more frequent calls for corporate governance reforms.

In the 20th century, in the immediate aftermath of the Wall Street Crash of 1929,
legal scholars such as Adolf Augustus Berle, Edwin Dodd, and Gardiner C. Means
pondered on the changing role of the modern corporation in society. From the Chicago
school of economics, Ronald Coase's "The Nature of the Firm" (1937) introduced the
notion of transaction costs into the understanding of why firms are founded and how they
continue to behave. Fifty y`ears later, Eugene Fama and Michael Jensen's "The
Separation of Ownership and Control" (1983, Journal of Law and Economics) firmly
established agency theory as a way of understanding corporate governance: the firm is
seen as a series of contracts. Agency theory's dominance was highlighted in a 1989 article
by Kathleen Eisenhardt ("Agency theory: an assessement and review", Academy of
Management Review).

The expansion of US after World War II through the emergence of multinational

corporations saw the establishment of the managerial class. Accordingly, the following
Harvard Business School management professors published influential monographs

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studying their prominence: Myles Mace (entrepreneurship), Alfred D. Chandler, Jr.
(business history), Jay Lorsch (organizational behavior) and Elizabeth MacIver
(organizational behaviour). According to Lorsch and MacIver "Many large corporations
have dominant control over business affairs without sufficient accountability or
monitoring by their board of directors."

Since the late 1970’s, corporate governance has been the subject of significant
debate in the U.S. and around the globe. Bold, broad efforts to reform corporate
governance have been driven, in part, by the needs and desires of shareowners to exercise
their rights of corporate ownership and to increase the value of their shares and, therefore,
wealth. Over the past three decades, corporate directors’ duties have expanded greatly
beyond their traditional legal responsibility of duty of loyalty to the corporation and its
shareowners.

In the first half of the 1990s, the issue of corporate governance in the U.S.
received considerable press attention due to the wave of CEO dismissals (e.g.: IBM,
Kodak, Honeywell) by their boards. The California Public Employees' Retirement
System (CalPERS) led a wave of institutional shareholder activism (something only very
rarely seen before), as a way of ensuring that corporate value would not be destroyed by
the now traditionally cozy relationships between the CEO and the board of directors (e.g.,
by the unrestrained issuance of stock options, not infrequently back dated).

In 1997, the East Asian Financial Crisis saw the economies of Thailand,
Indonesia, South Korea, Malaysia and The Philippines severely affected by the exit of
foreign capital after property assets collapsed. The lack of corporate governance
mechanisms in these countries highlighted the weaknesses of the institutions in their
economies.

In the early 2000s, the massive bankruptcies (and criminal malfeasance) of Enron
and Worldcom, as well as lesser corporate debacles, such as Adelphia Communications,
AOL, Qwest, Arthur Andersen, Global Crossing, Tyco, etc. led to increased shareholder
and governmental interest in corporate governance. Because these triggered some of the

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largest insolvencies, the public confidence in the corporate sector was sapped. The
popular perception was that corporate leadership was fraught with greed & excess.
Inadequancies & failure of the existing systems, brought to the fore, the need for norms
& codes to remedy them. This resulted in the passage of the Sarbanes-Oxley Act of
2002, (popularly known as Sox) by the United States.

In India however, only when the Securities Exchange Board of India (SEBI),
introduced Clause 49 in the Listing Agreement, for the first time in the financial year
2000-2001, that the listed companies started embracing the concept of corporate
governance. This clause was based on the Kumara Mangalam Birla Committee
constituted by SEBI. After these recommendations were in place for about four years,
SEBI, in order to evaluate & improve the existing practices, set up a committee under the
Chairmanship of Mr. N.R. Narayana Murthy during 2002-2003.At the same time, the
Ministry of Corporate Affairs set up a committee under the Chairmanship of Shri. Naresh
Chandra to examine the various corporate governance issues. The recommendations of
the committee however, faced widespread protests & representations from the industry,
forcing SEBI to revise them.

Finally, on the 29th October, 2004, SEBI announced the revised Clause 49, which
was implemented by the end of the financial year 2004-2005. Apart from Clause 49 of
the Listing Agreement, corporate governance is also regulated through the provisions of
the Companies Act, 1956. The respective provisions have been introduced in the
Companies Act by Companies Amendment Act, 2000.

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 SOME DEFINITIONS OF CORPORATE
GOVERNANCE

"Corporate governance is a field in economics that investigates how to secure/motivate

efficient management of corporations by the use of incentive mechanisms, such as
contracts, organizational designs and legislation. This is often limited to the question
of improving financial performance, for example, how the corporate owners can
secure/motivate that the corporate managers will deliver a competitive rate of
return" - www.encycogov.com, Mathiesen [2002]. This definition can be
illustrated as a transaction cost based theory of the managerial agency problem.

“Corporate governance deals with the ways in which suppliers of finance to

corporations assure themselves of getting a return on their investment”.

-The Journal of Finance, Shleifer and Vishny [1997, page 737].

"Corporate governance is the system by which business corporations are directed and
controlled. The corporate governance structure specifies the distribution of rights
and responsibilities among different participants in the corporation, such as, the
board, managers, shareholders and other stakeholders, and spells out the rules and
procedures for making decisions on corporate affairs. By doing this, it also provides
the structure through which the company objectives are set, and the means of
attaining those objectives and monitoring performance". -OECD April 1999.
OECD's definition is consistent with the one presented by Cadbury [1992, page 15].

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"Corporate governance - which can be defined narrowly as the relationship of a
company to its shareholders or, more broadly, as its relationship to society".
- From an article in Financial Times [1997].

"Corporate governance is about promoting corporate fairness, transparency and

accountability". - J. Wolfensohn, (President of the Word bank, as quoted by an
article in Financial Times, June 21, 1999).

“Some commentators take too narrow a view, and say it (corporate governance) is the
fancy term for the way in which directors and auditors handle their responsibilities
towards shareholders. Others use the expression as if it were synonymous with
shareholder democracy. Corporate governance is a topic recently conceived, as yet
ill-defined, and consequently blurred at the edges…corporate governance as a
subject, as an objective, or as a regime to be followed for the good of shareholders,
employees, customers, bankers and indeed for the reputation and standing of our
nation and its economy” Maw et al. [1994, page 1].

 Sir Adrian Cadbury in his preface to the World Bank publication –

‘Corporate Governance: A framework for implementation’, said, “Corporate
governance is holding the balance between economic & social goals and between
individual & community goals. The aim is to align as nearly as possible, the
interests of individuals, corporations & society”.

 The Cadbury Committee U.K, defined corporate governance as follows:

“It is a system by which companies are directed & controlled”. It may also be
defined as a system of structuring, operating & controlling a company with the
following specific aims:

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1. Fulfilling long-term strategic goals of owners.
2. Taking care of the interests of the employees.
3. A consideration for the environment & local community.
4. Maintaining excellent relations with the customers & suppliers and
5. Proper compliance with all the applicable legal & regulatory requirements.

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 SCOPE & IMPORTANCE OF
CORPORATE GOVERNANCE
Corporate governance is all about ethics in business. It is about transparency,
openness & fair play in all aspects of business operations. The key aspects to corporate
governance include:
1. Accountability of Board of Directors & their constituent responsibilities to the
ultimate owners- the shareholders.
2. Transparency, i.e. right to information, timeliness & integrity of the information
produced.
3. Clarity in responsibilities to enhance accountability.
4. Quality & competence of Directors and their track record.
5. Checks & balances in the process of governance.
6. Adherence to the rules, laws & spirit of codes.

An active & involved board consisting of professional & truly independent directors
plays an important role in creating trust between a company & its’ investors and is the
best guarantor of good corporate governance.

Good corporate governance is integral to the very existence of a company. It is

important for the following reasons:
1. Corporate governance ensures that a properly structured Board, capable of taking
independent & objective decisions is at the helm of affairs of the company. This
lays down the framework for creating long-term trust between the company &
external providers of capital.
2. It improves strategic thinking at the top by inducting independent directors who
bring a wealth of experience & a host of new ideas.

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3. It rationalizes the management & monitoring of risk that a corporation faces
globally.
4. Corporate governance emphasises the adoption of transparent procedures &
practices by the Board, thereby ensuring integrity in financial reports.
5. It limits the liability of top management & directors, by carefully articulating the
decision making process.
6. It inspires & strengthens investors’ confidence by ensuring that there are adequate
number of non-executive & independent directors on the Board, to look after the
interests & well-being of all the stakeholders.
7. Corporate governance helps provide a degree of confidence that is necessary for
the proper functioning of a market economy, as it contemplates adherence to
ethical business standards.
8. Finally, globalisation of the market place has ushered in an era wherein the
quality of corporate governance has become a crucial determinant of survival of
corporates. Compatibility of corporate governance practices with global standards
has also become an important constituent of corporate success. Thus, good
corporate governance is a necessary pre-requisite for the success of Indian
corporates.

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 THE SARBANES-OXLEY ACT
The Sarbanes-Oxley Act (often referred to as Sox) is a legislation enacted in
response to the high-profile financial scandals like Enron, WorldCom, Tyco, AOL, etc.
so as to protect the shareholders & general public from accounting errors & fraudulent
practices in the enterprise. The Act is administered by the Securities & Exchange
Commission (SEC), which sets deadlines for compliance & publishes rules on
requirements. The Act is not a set of business practices & does not specify how a
business should store records; rather it defines which records are to be stored & for how
long. The legislation not only affects the financial side of corporations but also the IT
Departments of these, whose job is to store their electronic records. The Sarbanes-Oxley
Act states that all business records, including electronic records & electronic messages
must be saved for not less than five years. The consequences of non-compliance are fines,
imprisonment or both.

The following sections of the Act contain three rules that affect the management of
electronic records.
1) The first rule deals with destruction, alteration & falsification of records.

Sec 802 (a) states that, “Whoever knowingly alters, destroys, mutilates, conceals, covers
up, falsifies or makes a false entry in any record, document or tangible object with the
intent to impede, obstruct or influence the investigation or proper administration of any
matter within the jurisdiction of any department or agency of the United States or any
case filed under Title 11, or in relation to or contemplation of any such matter or case,
shall be fined under this title, imprisoned not more than 20 years, or both.

2) The second rule defines the retention period for storage of records. Best practices
indicate that corporations securely store all business records using the same guidelines as
set for public accountants.

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 Sec 802 (a) (1) states that, “Any accountant who conducts an audit of an issuer of
securities to which section 10 A (a) of Securities Exchange Act of 1934 [15 U.S.C
78j- 1 (a)] applies, shall maintain all audit or review work papers for a period of 5
years from the end of the fiscal period in which the audit or review was
concluded”.

3) The third rule refers to the type of business records that need to be stored, including all
business records & communication, which includes electronic communication also.

Sec 802 (a) (2) states that, “The Securities & Exchange Commission shall
promulgate within 180 days , such as rules & regulations, as are reasonably
necessary relating to the retention of relevant records such as work papers,
documents that form the basis of an audit or review, memoranda, correspondence,
other documents & records (including electronic records), which are created, sent
or received in connection with an audit or review & contain conclusions,
opinions, analyses or financial data relating to such an audit or review”.

Sarbanes–Oxley Act contains 11 titles that describe specific mandates and requirements
for financial reporting. Each title consists of several sections, summarized below.

1. Public Company Accounting Oversight Board (PCAOB)

Title I consists of nine sections and establishes the Public Company Accounting
Oversight Board, to provide independent oversight of public accounting firms
providing audit services ("auditors"). It also creates a central oversight board
tasked with registering auditors, defining the specific processes and procedures
for compliance audits, inspecting and policing conduct and quality control, and
enforcing compliance with the specific mandates of SOX.

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2. Auditor Independence

Title II consists of nine sections and establishes standards for external auditor
independence, to limit conflicts of interest. It also addresses new auditor approval
requirements, audit partner rotation, and auditor reporting requirements. It
restricts auditing companies from providing non-audit services (e.g., consulting)
for the same clients.

3. Corporate Responsibility

Title III consists of eight sections and mandates that senior executives take
individual responsibility for the accuracy and completeness of corporate
financial reports. It defines the interaction of external auditors and corporate audit
committees, and specifies the responsibility of corporate officers for the accuracy
and validity of corporate financial reports. It enumerates specific limits on the
behaviors of corporate officers and describes specific forfeitures of benefits and
civil penalties for non-compliance. For example, Section 302 requires that the
company's "principal officers" (typically the Chief Executive Officer and Chief
Financial Officer) certify and approve the integrity of their company financial
reports quarterly [3]

4. Enhanced Financial Disclosures

Title IV consists of nine sections. It describes enhanced reporting requirements

for financial transactions, including off-balance-sheet transactions, pro-forma
figures and stock transactions of corporate officers. It requires internal controls
for assuring the accuracy of financial reports and disclosures, and mandates both
audits and reports on those controls. It also requires timely reporting of material
changes in financial condition and specific enhanced reviews by the SEC or its
agents of corporate reports.

5. Analyst Conflicts of Interest

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 Title V consists of only one section, which includes measures designed to help
restore investor confidence in the reporting of securities analysts. It defines the
codes of conduct for securities analysts and requires disclosure of knowable
conflicts of interest.

6. Commission Resources and Authority

Title VI consists of four sections and defines practices to restore investor

confidence in securities analysts. It also defines the SEC’s authority to censure or
bar securities professionals from practice and defines conditions under which a
person can be barred from practicing as a broker, advisor, or dealer.

7. Studies and Reports

Title VII consists of five sections and requires the Comptroller General and the
SEC to perform various studies and report their findings. Studies and reports
include the effects of consolidation of public accounting firms, the role of credit
rating agencies in the operation of securities markets, securities violations and
enforcement actions, and whether investment banks assisted Enron, Global
Crossing and others to manipulate earnings and obfuscate true financial
conditions.

8. Corporate and Criminal Fraud Accountability

Title VIII consists of seven sections and is also referred to as the “Corporate and
Criminal Fraud Act of 2002”. It describes specific criminal penalties for
manipulation, destruction or alteration of financial records or other interference
with investigations, while providing certain protections for whistle-blowers.

9. White Collar Crime Penalty Enhancement

Title IX consists of six sections. This section is also called the “White Collar
Crime Penalty Enhancement Act of 2002.” This section increases the criminal
penalties associated with white-collar crimes and conspiracies. It recommends

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 stronger sentencing guidelines and specifically adds failure to certify corporate
financial reports as a criminal offense.

10. Corporate Tax Returns

Title X consists of one section. Section 1001 states that the Chief Executive
Officer should sign the company tax return.

11. Corporate Fraud Accountability

Title XI consists of seven sections. Section 1101 recommends a name for this title
as “Corporate Fraud Accountability Act of 2002”. It identifies corporate fraud
and records tampering as criminal offenses and joins those offenses to specific
penalties. It also revises sentencing guidelines and strengthens their penalties.
This enables the SEC the resort to temporarily freeze transactions or payments
that have been deemed "large" or "unusual".

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CLAUSE 49 OF THE LISTING AGREEMENT
Clause 49 of the listing agreement
SEBI revise Clause 49 of the Listing Agreement pertaining to corporate governance vide
circular date October 29th, 2004, which superseded all other earlier circulars issued by
SEBI on this subject. All existing listed companies were required to comply with the
provisions of the new clause by 31st December 2005.

The major provisions included in the new Clause 49 are:

• The board will lay down a code of conduct for all board members and senior
management of the company to compulsorily follow.

• The CEO an CFO will certify the financial statements and cash flow statements of the
company.

• If while preparing financial statements, the company follows a treatment that is different
from that prescribed in the accounting standards, it must disclose this in the financial
statements, and the management should also provide an explanation for doing so in the
corporate governance report of the annual report.

• The company will have to lay down procedures for informing the board members about
the risk management and minimization procedures.

• Where money is raised through public issues etc., the company will have to disclose the
uses/ applications of funds according to major categories ( capital expenditure, working
capital, marketing costs etc) as part of quarterly disclosure of financial statements.

Further, on an annual basis, the company will prepare a statement of funds utilized for
purposes other than those specified in the offer document/ prospectus and place it before
the audit committee.
The company will have to publish its criteria for making its payments to non-executive
directors in its annual report. Clause 49 contains both mandatory and non mandatory
requirements.

Mandatory requirements refer primarily to:

1. Board of Directors with respect to their composition, independence, procedures, code of
conduct and disclosures;

2. Audit Committee and its composition, powers, role and responsibilities;

3. Subsidiary Companies to ensure their better control and supervision;

4. Disclosures in the context of related party transctions, risk management and minimization
procedures, utilization of proceeds from Initial Public Offerings, inverstor education and
protection;

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 5. CEO/CFO certification regarding the correction of the financial statement and
compliance with prescribed Accounting Standards

6. Separate report on corporate Governance in the annual reports with respects to

compliance of mandatory and non mandatory requirements; and

7. Compliance certificate obtained either from the auditors or practicing company

Secretaries

Non mandatory requirements refer to those requirements which are not compulsory and
can be adopted at the discretion of the company.
These include requirements:
1. Regarding the maximum tenure of the independent directors,

2. Formation of a remuneration committee for determining the remuneration packages for

executives directors,

3. Moving towards a regime of unqualified financial statements,

4. Training of board members,

5. Evaluation of non – executive board members, and

6. Establishing a mechanism for employees to report unethical behavior to the management

under a Whistle Blower Policy.

CLAUSE 49 – MANDATORY REQUIREMENTS

I. BOARD OF DIRECTORS

A. Composition of Board:

1. The Board of directors of the company shall have an optimum combination of

executive and non-executive directors with not less than fifty percent of the board
of directors comprising of non- executive directors .

2. Where the Chairman of the Board is non- executive directors, at least one third of
the Board should comprise of independent directors and in case he is an
executive directors, at least half of the Board should comprise of independent
directors.

3. For the purpose of sub – clause (ii) the expression ‘independent director’ shall
mean a non executive director of the company who:

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 a. Apart from receiving director’s remuneration , does not have any material
pecuniary relationships or transactions with the company, its promoters, its
directors its senior management or its holding company, its subsidiaries and
associated which many affects independence of the director.

b. Is not related to promoters or persons occupying managements positions at

the board level or at one level below the board;

c. It not been executive or was not partner or an executive during the

preceding three years, of any of the following:

d. Is not a partner or an executive or was not partner or an executive during the

preceding three years, of any of the following:

i. The statutory audit firm or the internal audit firm that is associated
with the company, and ;

ii. The legal firm(s) and consulting firm(s) that have a material
association with the company

e. Is not a material supplier, service provider or customer or a lessor or lessee of

the company, which may affect independence of the directors; and

f. is not a substantial shareholder of the company i.e owning two percent or

more of the block of voting shares.

4. Nominee directors appointed by an institution which has invested in or lent to the

company shall be deemed to be independent directors. However if the Dr. J.J.
irani Committee recommendations on the proposed new company law are
accepted, then directors, nominated by financial institutions and the government
will not be considered independent.

B. Non executive directors compensation and disclosures: all fees/ compensation and
disclosures: all fees/ compensation , if any paid to non executive directors, including
independent directors, shall be fixed by the Board of Directors and shall require
previous approval of shareholders in general meeting. The shareholders’ resolution
shall specify the limits for the maximum number of stock options that can be granted
to non- executive directors, including independent directors, in any financial year and
aggregate. However as per SEBI amendment made vide circular SEBI/
CFD/DIL/CG dated 12/1/06 sitting fees paid to non-executive directors as authorized
by the Companies Act 1956, would not require the previous approval of shareholders.

C. Other provisions as to Board and Committees:

1. The board shall meet at least four times a year, with a maximum time gap of
three months between any two meetings. However SEBI has amended the clause
40 of the listing agreement vide circular SEBI/CFD/DIL/CG dated 12-1-06 as per

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 which the maximum gap between two board meetings has been increased again
to 4 months.

2. A director shall not be a member in more than 10 Audit and / or Shareholders

grievance Committee or act as chairman of more than five Audit Shareholders
Grievance committee across all companies in which he is a director.
Furthermore it should e mandatory annual requirement for every director to
inform the company about the committee positions he occupies in other
companies and notify changes as and when they take place.

D. Code of conduct:

1. The Board shall lay down a code of conduct for all Board members and senior
management of the company. The code of conduct shall be posted the website of
the company,

2. 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 declaration to this effect signed by CEO.

II. AUDIT COMMITTEE.

A. Qualified and Independent Audit Committee: A qualified and independent audit

committee shall be set up, giving the terms of reference subject to the following:

1. The audit committee shall have minimum three directors as members. Two
thirds of the members fo audit committee shall be independent directors.

2. All members of audit committee shall be financially literate an at least one

member shall have accounting or related financial management expertise.

3. The chairman of the Audit Committee shall be an independent director.

4. The chairman of the Audit Committee shall be present at annual General

Meeting to answer shareholder queries;

5. The audit committee may invite such of the executives, as it considers

appropriate (and particularly the head of the finance function) to the present
at the meetings of the committee. The finance director, head of internal audit
and representative of the statutory auditor may be present as invitees for the
meeting of the audit committee;

6. The Company Secretary shall act as the secretary to the committee.

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B. Meeting of Audit Committee: the audit committee should meet at least four times in
a year and not more than four months shall elapse between two meetings. The
quorum shall be either tow members or one third of the members of the audit
committee whichever is greater, but there should be minimum of two independent
members present.

C. Powers of Audit Committee: the audit committee shall have powers:

1. To investigate any activity within the terms of reference;

2. To seek information from any employee;

3. To obtain outside legal or other professional advice;

4. To secure attendance of outsiders with relevant experts, if any.

D. Role of audit committee: the role for the audit committee shall include the following:

1. Oversight of the company’s financial reporting process and the disclosure of its
financial information to ensure that the financial statement is correct, sufficient
and credible.

2. Recommending to the Board, the appointment re- appointment and if required the
replacement or removal of the statutory auditor and the fixation of audit fees.

3. Approval of payment too statutory auditors for any other services rendered by the
statutory auditors.

4. Reviewing, with the management the quarterly and annual financial statements
before submission to the board for approval with reference to Director’s
Responsibility statement under section 217 (2AA)k, significant adjustments
made in financial statements, compliance with listing requirements, disclosure of
any related pending transaction etc.

5. Reviewing with the management performance of statutory and internal auditor

and adequacy of the internal control systems.

6. Discussion with internal auditors regarding any significant findings including

suspected frauds or irregularities and follow up thereon.

7. Reviewing the findings of any internal investigation by the internal auditors into
matters where there is suspected fraud or irregularity or a failure of internal
control system of a material nature and reporting the matter to the board.

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 8. Discussion with statutory auditors before the audit commence, about the nature
and scope of audit as well as post- audit discussion to ascertain any area of
concern.

9. To look into the reason fo substantial defaults in the payments to the depositors,
debenture holders, shareholders (in case of nonpayment of declared dividends)
and creditors.

10. To review the functioning of the Whistle Blower mechanism, in case the same is
existing.

11. Carrying out any other function as it mentioned in the terms of reference of the
Audit Committee.

III. SUBSIDARY COMPANIES

1. At least one independent director on the Board of Director of the holding company
shal be a director on the Board of Directors of a material non listed Indian subsidiary
company.

2. The audit committee of the listed holding company shall also review the financial
statements, in particular, the investment made by the unlisted subsidiary company.

3. The minutes of the Board meeting of the unlisted subsidiary company shall be placed
at the Board meeting of the listed holding company, the management should
periodically bring to the attention of the Board of Directors of the listed holding
company, a statement of all significant transaction and arrangements entered into by
the unlisted subsidiary company.

IV. DISCLOSURES

A. Basis of related party transactions:

1. A statement in summary form of transactions with related parties shall be placed

periodically before the audit committee.

2. Details of material individual transactions with related parties which are not in
the normal course of business shall be placed before the audit committee.

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B. Disclosure of Accounting Treatment: where in the preparation of financial
statements, a treatment different from that prescribed in an Accounting Standard has
been followed, the fact shall be disclosed in the financial statements, together with
the management’s explanation as to why it believes such alternative treatment is
more representative of the true and fair view of the underlying business transaction in
the Corporate Governance Report.

C. Board Disclosure- Risk Management: the company shall lay down procedures to
inform Board members about the risk assessment and minimization procedures.

D. Proceeds from public issues, rights issues , preferential issues etc. : When money is
raised through an issue (public issues rights issues, preferential issues etc.), it shall
disclose to the Audit committee, the uses/ applications of funds by major category
(capital expenditure,, sales and marketing, working capital, etc.), on a quarterly and
annual basis.

E. Remuneration of Directors :

1. All pecuniary relationship or transactions of the non- executive directors vis-à-vis

the company shall be disclosed in the Annual Report.

2. Further, certain prescribed disclosures on the remuneration of directors shall be

made in the section on the corporation governance of the Annual Report;

3. The company shall disclose the number of shares and convertible instruments
held by non-executive directors in the annual report.

4. Non executive directors shall be required to disclose their shareholding (both

own or held by/ for other persons on a (beneficial basis) in the listed company in
which they proposed to be appointed as directors, prior to their appointment.
These details should be disclosed in the notice to the general meeting called for
appointment of such directors.

F. Management: As part of the directors’ report or as an addition there to a

Management Discussion and Analysis report, the following should form part of the
Annual Report to the shareholders. This includes discussion on:

1. ;industry structure and developments.

23
 2. Opportunities and threats.

3. Segment wise or product wise performance

4. Outlook

5. Risks and concerns.

6. Internal control systems and their adequacy

7. Discussion on financial performance with respect to operational performance.

8. Material developments in Human resources/ industrial Relations front including

number of people employed.

G. Shareholders:

1. In case of the appointment of a new directors or reappointment of a director the

shareholders must be provided with the following information:

a. A brief resume of the director

b. Nature of his expertise in specific functional areas;

c. Names of companies in which the persons also holds directorship and the
membership Committees of the Board; and

d. Shareholding of non – executive directors.

2. A board committee under the chairmanship of a non- executive director shall be

formed to specifically look into the redressal of shareholder and investor
complaints like transfer of shares, non receipt of declared dividends etc. this
committee shall be designated as ‘Shareholders/Investors Grievance Committee’.

3. To expedite the process of share transfer, Board of the company shall delegate
the power of share transfer to an officer or a committee or to the registrar and
share transfer agents. There delegated authority shall attend to share transfer
formalities and least once in a fortnight.

V. CEO/CFO CERTIFICATION

24
 Through the amendment made by SEBI vide circular SEBI /CFD/DIL CG DATED 12-1-
06, in Clause 49 of the Listing Agreement, certification of intedrnal controls and
internalcontrol system

CFO/CEO would be for the purpose of financial reporting. Thus the CEO, i.e. the
Managing Direcctor or Manager appointed in terms of the Companies Act, 1956 and the
CFO i.e. the whole – time Finance Director or any other Person heading the finance
function discharging that function shall certify to the Board that:

1. They have reviewed financial statements and the cash flow statement for the year and
that to the best of their knowledge and belief:

i. These statements do not contain any materially untrue statement or omit any
material fact or contain statements that might be misleading;

ii. These statements together present a true and fair view of the company’s
affairs and are in compliance within existing accounting standards,
applicable laws and regulations.

2. There are, to the best of their knowledge and belief, no transactions entered into by
the company during the year which fraudulent, illegal or violative of the company’s
code of conduct.

3. They accept responsibility for establishing and maintaining internal controls and they
have evaluated the effectiveness of the internal control system of the company
pertaining to financial reporting and they have disclosed to the auditors and the Audit
Committee, deficiencies in the design or operation of internal controls, if an, of
which they are aware and the steps they have taken or propose to take to rectify these
deficiencies

4. They have indicated to the auditors and the Audit Committee significant changes in
internal control over financial reporting during the year, significant fraud of which
they have become aware and the involvement there in if any, of the management or
an employee having a significant role in the company’s internal control system over
financial reporting.

VI. REPORT ON CORPORATE GOVERNANACE

25
 1. There shall be separate section on Corporate Governance in Annual Reports of
Company with a detailed compliance report on Corporate Governance. Non
compliance of any mandatory requirement of this clause with reason there of and the
extent to which the non- mandatory requirements have been adopted should be
specifically highlighted.

2. The companies shall submit a quarterly compliance report to the stock exchange
within 15 days from the close of quarter as per the format given in

3. Annexure IB. the report shall be signed either by the Compliance Officer or the
Chief Executive Officer of the company.

VII. COMPLIANCE

1. The company shall obtain a certificate from either the auditor or practicing company
secretaries regarding compliance of conditions of corporate governance as stipulated
in this clause and annex the certificate with the directors’ report, which is sent
annually to all the shareholders of the company. The same certificate shall also be
sent to the Stock Exchanges along with the annual report filed by the company.

2. The non- mandatory requirements may be implemented as per the discretion of the
company. However, the disclosures of the compliance with mandatory requirements
and adoption / non- adoption of the non mandatory requirements shall be made in the
section on corporate governance of the Annual Report.

NON MANDATORY REQUIREMENTS

1. The Board : A non – executive Chairman man be entitled to maintain a chairman’s

office at the company’s expense and also allowed reimbursement of expenses
incurred in performance of his duties Independent
directors may have a tenure not exceeding,, in the aggregate, a period of nine years,
on the Board of a company.

26
2. Remuneration Committee:

i. The board may set up a remuneration committee comprising of at least three

directors all of whom shall be non-executive director, with the chairman
being an independent director, t determine on their behalf and on behalf of
the shareholders with agreed terms to reference, the company’s policy
remuneration packages for executive directors including pension rights and
may compensation payment

ii. The chairman of the remuneration committee could be present at the Annual
General Meeting to answer the shareholders queries

3. Shareholder Rights: A half yearly declaration of financial performance including

summary of the significant events in last six months, may be sent to each household
of shareholders,

4. Audit qualifications: Company many move towards a regime of unqualified financial

statements,

5. Training of Board Members : A company may train its Board members in the
business model of the company as well as the risk profile of the business parameters
of the company, their responsibilities as directors, and the best ways to discharge
them. It should be noted that originally training and updating of knowledge of
directors was a mandatory requirements of the Murthy Committee. But in the face of
strong opposition from the industry it was made non mandatory

6. Mechanism for evaluation non – executive Board Members: the performance

evaluation of non – executive directors could be done by a per group comprising the
entire Board of Directors, excluding the director being evaluated and Peer Group
evaluation cold be the mechanism to determine whether the extend/ continue the
terms of appointment of non-executive directors.

7. Whistle Blower Policy: the concept behind introducing a Whistle Blower Policy is
that there are many employees at various levels in an organization who feel that
something is going wrong- eg. Corruption, violation of law, wastages, unethical
practices etc. they feel helpless and frustrated as they are unable to do anything since
they have no access to top management. They either remain silent or leave the job.
Sometimes they may write anonymous letters to various inside and outside
authorities, leak news to newspapers or may even act as informants to Government/
statutory agencies. It is felt that such employees should be allowed to talk about their
concerns internally, so that management can take timely action before it is too late.
This termed as ‘blowing the whistle’.

Therefore Clause 49 provides that the company may establish a mechanism for
employees to report to the management concern about unethical behavior, actual

27
or suspected fraud or violation of the company’s code of conduct or ethics policy.
The mechanism could also provide for adequate safeguards against victimisation
of employees who avail of the mechanism and also provide for direct access to the
Chairman of the Audit committee in exceptional cases. Once established, the
existence of the mechanism may be appropriately communicated within the
organization.

STEPS IMPLEMENTED BY COMPANIES ACT WITH REGARD TO

CORPORATE GOVERNANCE

The Ministry of Company Affairs appointed various committees on the subject of

corporate governance which lead to the amendment of the companies Act in 2000.
These amendments aimed at increasing transparency and accountabilities of the
Board of Directors in the management of the company, thereby ensuring good
corporate governance. The dealt with the following:

1. COMPLIANCE WITH ACCOUNTING STANDARDS – SECTION 210A

As per this subsection inserted by the Companies Act, 1999 every profit and loss
account and balance sheet of the company shall comply with the accounting
standards. The compliance of Indian Accounting standards was made mandatory and
the provisions for setting up of National Committee on accounting standards were
incorporated in the Act.

2. INVESTORS EDUCATION AND PROTECTION FUND – SECTION 205C

This section was inserted by the Companies Act 1999which provides that the central
government shall establish a fund called the Investor Education and protection Fund
and amount credited to the fund relate to unpaid dividend, unpaid matured deposits,
unpaid matured Debenture, unpaid application money received by the companies for
allotment of securities and due for refund and interest accrued on above amounts.

3. DIRECTOR’S RESPONSIBILITY STATEMENT- SECTION 217(2AA)

Subsection (2AA)added by the Companies Act, 2000 provides that the Boards report
shall also include a Director’s Responsibility statement with respect to the following
matters:

a. Whether accounting standards had been followed in the preparation of annual

accounts and reasons for material departures, if any;

28
 b. Whether appropriate accounting policies have been applied and on consistent
basis;

c. Whether directors had made judgments and estimate that are reasonable prudent
so as to give a true and fair view of the state of affair and profit and loss of the
company;

d. Whether the directors had prepared the annual accounts on a going concern basis.

e. Whether directors had taken proper and sufficient care for the maintenance of
adequate accounting records for safeguarding the assets of the company.

4. NUMBER OF DIRECTORSHIPA- SECTION 275

As per this section of Companies Act, 2000 a person cannot hold office at same time
as director in more than fifteen companies.

5. AUDIT COMMITTEES – SECTION 292A

This section of the companies Act, 2000 provides for the constitution of audit
committees by every public company having a paid- up capital of Rs. 5 crores or
more. Audit Committee is to consist of at least 3 directors. Two of the members of
the Audit Committee shall be directors other than managing or whole time director.
Recommendation of the Audit Committee on any matter related to financial
management including audit report shall be binding on the Board.

6. PROHIBITION ON INVITIN OR ACCEPTING PUBLIC DPOSIT

The Companies Act, 2000 has prohibited companies to invite/accept deposit from
public.

7. SMALL DEPOSITOR- SECTIONS 58AA AND 58AAA

The Companies Act, 2000 had added two new sections, viz, section a 58AA and
58AAA, for the protection of small depositors. These provisions are designed to
protect depositors who have invested upto Rs. 20, 000 in a financial year in a
company.

29
 8. CORPORATE IDENTITY NUMBER

Registrar of Companies is to allot a Corporate Identity Number to each company

registered on or after November 1, 2000 (Valid circular No.)12/2000 dated 25-10-
2000)

9. POWERS TO SEBI – SECTION 22A

This section added Companies Act, 2000 empowers SEBI to administer the
provisions contained in section 44 to 48, 59 to 84, 10, 109, 110, 112, 113, 116, 117,
118, 119, 120, 121, 122, 206, 206A and 207 so far as they relate to issue and transfer
ofsecurities and non payment of dividend. However, SEBI’S power in this regard is
limited to listed companies.

10. DISQUALIFICATION OF A DIRECTOR- SETION 274 CLAUSE (G)

Clause (g) of Section 2i7i4, added by the companies Act, 200 disqualifies a person
who is already director of a public company which (a) has not filed the annual
accounts and annual returns for any continuous three financial years commencing on
and after the first day of
April 1999; or (b) has failed or repay its deposit or interest thereon on due date or
redeem its debentures on due date or pay dividend and such failure to continues for
one year or more, however, the aforesaid disqualification will last for five years
only.

11. SECRETARIAL AUDIT – SECTION383A

12. Secretarial Audit Section 383A was amended to provide for secretarial audit with
respect to companies having a paid up share capital of Rs. 10 lakhs or more but less
than, present Rs. 2 crores. As per the Companies Act, 2000 a whole time company
secretary has to file with ROC a certificate as to whether the company has complied
with all the provisions of the Act. A copy of this certificate shall also be attached
with the report of Board of Directors.

Thus, the importance of codification of good Corporate governance practices having

mandatory force cannot be mitigates. But in order to ensure implementation and
compliance in true spirit, Corporate Governance practices need to be legislated by one
regular or body so as to avert duplicity, confusion and uncertainty.

CONCLUSION
In conclusion, we can say that corporate governance is a way of life and not a set of rules,
a way of life that necessitates talking into account the stakeholder’s interest in every

30
business decision.

COMMITTEES RELATED TO CORPORATE

GOVERNANCE IN INDIA
I) Kumar Mangalam Birla Committee Report [2000]:
Following CII’s initiative, SEBI set up a committee under Kumar Mangalam Birla to
design a mandatory-cum-recommendatory code for listed companies. The Birla
Committee Report was approved by SEBI in December 2000.

Mandatory and non mandatory recommendations

The Committee debated the question of voluntary versus mandatory compliance of its
recommendations. The Committee was of the firm view that mandatory compliance of
the recommendations at least in respect of the essential recommendations would be most
appropriate in the Indian context for the present. The Committee also noted that in most
of the countries where standards of corporate governance are high, the stock exchanges
have enforced some form of compliance through their listing agreements.

The Committee felt that some of the recommendations are absolutely essential for the
framework of corporate governance and virtually form its core, while others could be
considered as desirable. Besides, some of the recommendations may also need change of
statute, such as the Companies Act, for their enforcement. In the case of others,
enforcement would be possible by amending the Securities Contracts (Regulation) Rules,
1957 and by amending the listing agreement of the stock exchanges under the direction of
SEBI. The latter, would be less time consuming and would ensure speedier
implementation of corporate governance. The Committee therefore felt that the
recommendations should be divided into mandatory and non- mandatory categories and
those recommendations which are absolutely essential for corporate governance, can be
defined with precision and which can be enforced through the amendment of the listing

31
agreement could be classified as mandatory. Others, which are either desirable or which
may require change of laws, may, for the time being, be classified as non-mandatory

II) Naresh Chandra Committee Report [2002:]

In August 2002, DCA appointed Naresh Chandra Committee to examine various
corporate governance issues. The Committee was entrusted to analyse and recommend
changes, to the issues related to the statutory auditor-company relationship, certification
of accounts and financial statements by the management and directors; and role of
independent
directors.
Corporate governance is the acceptance by management of the inalienable rights of
shareholders as the true owners of the corporation and of their own role as trustees
on behalf of the shareholders. It is about commitment to values, about ethical
business conduct and about making a distinction between personal and corporate
funds in the management of a company.
It was the belief of the Securities and Exchange Board of India (“SEBI”) that efforts to
improve corporate governance standards in India must continue. This is because
these standards themselves were evolving in keeping with market dynamics.
Accordingly, the Committee on Corporate Governance (the “Committee”) was
constituted by SEBI, to evaluate the adequacy of existing corporate governance
practices and further improve these practices. The Committee comprised members
from various walks of public and professional life. This includes captains of industry,
academicians, public accountants and people from financial press and from industry
forums.
The issues discussed by the Committee primarily related to audit committees, audit
reports, independent directors, related parties, risk management, directorships and
director compensation, codes of conduct and financial disclosures. The Committee’s
This report contains 30 pages and two enclosures
Enclosures consist of 10 pages
recommendations in the final report were selected based on parameters including

32
their relative importance, fairness, accountability, transparency, ease of
implementation, verifiability and enforceability.
The key mandatory recommendations focus on strengthening the responsibilities of
audit committees; improving the quality of financial disclosures, including those
related to related party transactions and proceeds from initial public offerings;
requiring corporate executive boards to assess and disclose business risks in the
annual reports of companies; introducing responsibilities on boards to adopt formal
codes of conduct; the position of nominee directors; and stock holder approval and
improved disclosures relating to compensation paid to non-executive directors.
Non-mandatory recommendations include moving to a regime where corporate
financial statements are not qualified; instituting a system of training of board
members; and the evaluation of performance of board members.
The Committee believes that these recommendations codify certain standards of
“good’ governance into specific requirements, since certain corporate responsibilities
are too important to be left to loose concepts of fiduciary responsibility. When
implemented through SEBI’s regulatory framework, they will strengthen existing
governance practices and also provide a strong incentive to avoid corporate failures.
Some people have legitimately asked whether the costs of governance reforms are
too high. In this context, it should be noted that the failure to implement good
governance procedures has a cost beyond mere regulatory problems. Companies that
do not employ meaningful governance procedures will have to pay a significant risk
premium when competing for scarce capital in today’s public markets.

III) Narayana Murthy Committee Report [2003]:

SEBI Committee on Corporate Governance was constituted under the Chairmanship of
N. R. Narayana Murthy, to look into:
governance issues / review Clause 49,suggest measures to improve corporate
governance standards.

33
With the belief that the efforts to improve corporate governance standards in India must
continue because these standards themselves were evolving in keeping with the market
dynamics, the Securities and Exchange Board of India (SEBI) had constituted a
Committee on Corporate Governance in 2002 , in order to evaluate the adequacy of
existing corporate governance practices and further improve these practices. It was set up
to review Clause 49, and suggest measures to improve corporate governance standards.

The SEBI Committee was constituted under the Chairmanship of Shri N. R. Narayana
Murthy, Chairman and Chief Mentor of Infosys Technologies Limited. The Committee
comprised members from various walks of public and professional life. This included
captains of industry, academicians, public accountants and people from financial press
and industry forums.

The terms of reference of the committee were to:

 review the performance of corporate governance; and

 determine the role of companies in responding to rumour and other price sensitive
information circulating in the market, in order to enhance the transparency and
integrity of the market.

The issues discussed by the committee primarily related to audit committees, audit
reports, independent directors, related parties, risk management, directorships and
director compensation, codes of conduct and financial disclosures.

The committee's recommendations in the final report were selected based on parameters
including their relative importance, fairness, accountability, transparency, ease of
implementation, verifiability and enforceability.

The key mandatory recommendations focused on:

 strengthening the responsibilities of audit committees;

 improving the quality of financial disclosures, including those related to related
party transactions and proceeds from initial public offerings;

34
  requiring corporate executive boards to assess and disclose business risks in the
annual reports of companies;
 introducing responsibilities on boards to adopt formal codes of conduct; the
position of nominee directors; and
 stock holder approval and improved disclosures relating to compensation paid to
non-executive directors.

Non-mandatory recommendations included:

 moving to a regime where corporate financial statements are not qualified;

 instituting a system of training of board members; and
 evaluation of performance of board members.

As per the committee, these recommendations codify certain standards of 'good

governance' into specific requirements, since certain corporate responsibilities are too
important to be left to loose concepts of fiduciary responsibility. Their implementation
through SEBI's regulatory framework will strengthen existing governance practices and
also provide a strong incentive to avoid corporate failures.

The Committee noted that the recommendations contained in their report can be
implemented by means of an amendment to the Listing Agreement, with changes made to
the existing clause 49.

Revised Clause 49 [2004]

• In October 2004, SEBI amended Clause 49 of the listing
agreement in alignment with the Narayana Murthy Committee
recommendations. These changes primarily strengthened the
requirements in the following areas:
� Board composition and procedure
� Audit committee responsibilities
� Subsidiary companies

35
� Risk management
� CEO/CFO certification of financials and internal controls
� Legal compliance
� Other disclosures
• The revised Clause 49 was effective 1 January 2006.

CASE STUDIES RELATED TO CORPORATE

GOVERNANCE

I) Enron Scam:
Enron was America’s energy based company founded in the year 1985. It was the
result of merger between two well established brands Houston natural gas and
Ohama-based Internorth Inc. Basically it carried out business in producing natural gas
and pipeline operations for the same. It decided to expand its’ bases further in late
1980’s and early 1990 at the places like U.K, Europe, South America and India. In
1999 it launched its’ broadband service unit and Enron online. Over time, eventually,
Enron claimed 90% of its’ trades through Enron online. In August 2000, Enron
claimed all time high with profits of more than $90 US. It was ranked 6th largest
energy company in the world. However February 2001 reported to be start of
downfall of Enron’s downfall. It had increased on its debt levels to $37.7 billion
which was almost 91% higher compared to previous 12 months period. Inspite of this,
Enron assets increased to 19.03%. In August, Enron’s Chief Executive and Vice-
President Mr. Skilling resigned and Mr. Ken Lay was replaced as Chief Executive
Officer (CEO). Further in October, the company reported its’ first quarterly loss of
$618 million US and reduction in shareholder equity of over $1 billion in four years.
Subsequently, it was reported that U.S. Securities and Exchange Commission is
looking into Enron’s transactions with Mr. Fastow for partnership. It was then
reported that Fastow had been replaced as CEO by the head of Enron’s industrial
market units, Mr. Jeff McMahon. However, the company’s share prices continued to

36
decline. In November 2001, J.P. Morgan and Solomon Barney agreed to provide $1
billion in secured credit.
Eventually Enron’s market cap tumbled down to $8.9 billion that is 26% drop in
just 1 week. Its’ asset volatility remained to 20%. In November, Enron reported that it
overstated its’ earnings dating back to 1997 to almost $600 million. On 9th November
2001, the company reported to deal with its smaller rival Dynegy Inc. to buy Enron’s
stock at $9 billion. Chevron Texaco agreed to inject $ 1.5 billion fresh capital
immediately. Enron then disclosed that a deterioration of its’ credit ratings could
accelerate repayment of the $690 million loan. However, major credit rating agencies
downgraded its’ bonds & as a result Dynegy terminated to buy Enron. Enron
temporarily suspended all its payments other than those necessary to maintain core
operations. In December 2001, Enron finally filed for Chapter 11 bankruptcy and hit
Dynegy with a $10 billion breach of contract lawsuit.

II) WordCom Scandal:

WorldCom was a US based telecommunications company. It had reported to
misrepresent the financial statements to the extent of $4 billion. The company
admitted to resort to fraudulent accounting practices for five quarters, which includes
four quarters of 2001 and the first quarter of 2002. WorldCom was started by Bill
Fields in Hattiesburg, Mississippi, in 1983 under the name 'Long Distance Discount
Services' (LDDS), providing long distance telecommunication (telecom) services.
Later in the year 1992, LDDS acquired Advanced Telecommunications Corp. In
1995, LDDS changed its’ name to WorldCom as it thought it could achieve
consistency along with global presence thereby acquiring telecom-related companies
across the world. In 1998, WorldCom bought the network units of America Online
and CompuServe. However WorldCom’s biggest deal was acquiring Microwave
Communication Inc at an estimated price of $ 40 billion. On October 1999, Sprint
Corporation and MIC WorldCom announced the merger of $129 million between the
two.

37
Details of the fraud:
CEO Bernard Ebbers became wealthy from the increasing price of his holdings in
WorldCom common stock. In the year 2000, WorldCom suffered a serious slowdown
when U.S. Justice Board asked them to abandon the merger with Sprint Corporation. By
that time, WorldCom’s stock started declining and Ebbers was in immense pressure from
the banks to cover margin calls on his WorldCom stock. Later in 2002, Ebbers was
replaced by Mr. John Sidgmore. After Ebbers resignation, it got revealed that under his
direction, Mr. Scott Sullivan (CFO), Mr. David Myers (Controller) and Mr. Buford Yates
(Director of General Accounting) & the company used fraudulent accounting practices
from 1999 to year 2000.

The fraud was accomplished primarily in two ways:

1) Under-reporting ‘line costs’ (interconnection expenses with other telecommunication

companies) by capitalizing these costs on the balance sheet rather than properly
expensing them.

2) Inflating revenues with bogus accounting entries from "corporate unallocated revenue
accounts".

The U.S. Securities and Exchange Commission (SEC) launched an investigation into
this matter on June 26, 2002 and on the basis of which it was estimated that company’s
total assets were inflated at the rate $11 billion. On July 21, 2002, WorldCom filed for
Chapter 11 bankruptcy protection.

III) Satyam Scam:

38
 Satyam Computers services limited was a consulting and an Information Technology
(IT) services company founded by Mr. Ramalingam Raju in 1988. It was India’s fourth
largest company in India’s IT industry, offering a variety of IT services to many types of
businesses. Its’ networks spanned from 46 countries, across 6 continents and employing
over 20,000 IT professionals. On 7th January 2009, Satyam scandal was publicly
announced & Mr. Ramalingam confessed and notified SEBI of having falsified the
account.

Raju confessed that Satyam's balance sheet of 30 September 2008 contained:

• Inflated figures for cash and bank balances of Rs 5,040 crores (US$ 1.04 billion)
[as against Rs 5,361 crores (US$ 1.1 billion) reflected in the books].
• An accrued interest of Rs. 376 crores (US$ 77.46 million) which was non-
existent.
• An understated liability of Rs. 1,230 crores (US$ 253.38 million) on account of
funds which were arranged by himself.
• An overstated debtors' position of Rs. 490 crores (US$ 100.94 million) [as against
Rs. 2,651 crores (US$ 546.11 million) in the books].

The letter by B Ramalinga Raju where he confessed of inflating his company’s revenues
contained the following statements:

"What started as a marginal gap between actual operating profit and the one reflected in
the books of accounts continued to grow over the years. It has attained unmanageable
proportions as the size of company operations grew significantly [annualised revenue run
rate of Rs 11,276 crores (US$ 2.32 billion) in the September quarter of 2008 and official
reserves of Rs 8,392 crores (US$ 1.73 billion)]. As the promoters held a small percentage
of equity, the concern was that poor performance would result in a takeover, thereby
exposing the gap. The aborted Maytas acquisition deal was the last attempt to fill the
fictitious assets with real ones. It was like riding a tiger, not knowing how to get off
without being eaten.”

39
The Scandal:

The scandal all came to light with a successful effort on the part of investor’s to
prevent an attempt by the minority shareholding promoters to use the firm’s cash reserves
to buy two companies owned by them i.e. Maytas Properties and Maytas Infra. As a
result, this aborted an attempt of expansion on Satyam’s part, which in turn led to a
collapse in price of company’s stock following with a shocking confession by Raju, The
truth was its’ promoters had decided to inflate the revenue and profit figures of Satyam
thereby manipulating their balance sheet consisting non-existent assets, cash reserves and
liabilities.

The probable reasons:

Deriving high stock values would allow the promoters to enjoy benefits allowing
them to buy real wealth outside the company and thereby giving them opportunity to
derive money to acquire large stakes in other firms on another hand. There could be the
reason as to why Raju’s family build its shareholding and shed it when required.

After the scandal, on 10 January 2009, the Company Law Board decided to bar the
current board of Satyam from functioning and appoint 10 nominal directors. On 5th
February 2009, the six-member board appointed by the Government of India named A. S.
Murthy as the new CEO of the firm with immediate effect. The board consisted of:
1) Banker Deepak Parekh.

2) IT expert Kiran Karnik.

3) Former SEBI member C Achuthan S Balakrishnan of Life Insurance Corporation.

4) Tarun Das, chief mentor of the Confederation of Indian Industry and

5) T N Manoharan, former President of the Institute of Chartered Accountants of

India.

40
 WHISTLE BLOWER POLICY
Whistleblowing occurs when an employee or worker provides certain types of
information, usually to the employer or a regulator, which has come to their attention
through work. The whistleblower is usually not directly & personally affected by the
danger or illegality. Whistleblowing occurs when a worker raises a concern about danger
or illegality that affects others, for example members of the public. Both employers and
employees may have a lot at stake when whistleblowing occurs. Where malpractice is
shown to have occurred, this may reflect badly on management systems, or on individual
managers. Whistleblowers may fear that management will be tempted to 'shoot the
messenger'. A clear procedure for raising issues will help to reduce the risk that serious
concerns are mishandled, whether by the employee or by the organisation. But it is also
important for workers to understand that there will be no adverse repercussions for
raising cases with their employer. In addition, in some sectors there are separate legal
requirements requiring a whistleblowing policy and employers who do have a policy are
less likely to be taken to an employment tribunal. Many organisations have reported a
positive benefit from their whistleblowing procedures. For example, Great Britian
Treasury’s Annual Fraud Reports record a marked increase in the number of Whitehall
frauds discovered and stopped by staff raising concerns following the introduction of
whistle blowing policies since the PIDA (Public Interest Disclosure Act, 1998) came into
force. The cost-benefit analysis section of the Financial Services Authority’s policy paper
concludes that respondents all agreed that the costs in implementing or reassessing
whistleblowing procedures were minimal.

Employers should make clear to employees what to do if they come across

malpractices in the workplace. This should encourage employees to inform someone with
the ability to do something about the problem. Guidance will need to reflect the
circumstances of individual employers, but it should make clear:

• The kinds of actions targeted by the legislation are unacceptable and the employer
attaches importance to identifying and remedying malpractice (specific examples
of unacceptable behaviour might usefully be included).

41
 • Employees should inform their line manager immediately if they become aware
that any of the specified action is happening (or has happened, or is likely to
happen).
• In more serious cases, (e.g. if the allegation is about the actions of their line
manager), the employee should feel able to raise the issue with a more senior
manager, bypassing lower levels of management.
• Whistleblowers can ask for their concerns to be treated in confidence and such
wishes will be respected.
• Employees will not be penalised for informing the management about any of the
specified actions.

Laws related to Whistleblowing concept :

A) In U.S, Whistleblower law is part of Employment Law, as well as Employment

Discrimination,

Whistleblower law- US

• Sarbanes – Oxley Act of 2002

A landmark whistleblower law also called the corporate and criminal Fraud
Accountability Act of 2002. It protects employees of publicly- traded
corporations from retaliation for reporting alleged violations of any rule or
regulation of the Securities and Exchange Commission, or any provision of
Federal law relating to fraud against shareholders.

• Whistleblowe4r disclosures – Us Office of Special Counsel

OSC’s Disclosure Unit (DU) serves as a safe conduit for the receipt and
evaluation of whistleblower disclosures from federal employees, former
employees, and applicants for federal employment. 5 U. S. C. and 1213

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 • Whistleblower Protection Act of 1989

Act that amend title 5, United States Code, to strengthen the protections available to
Federal employees against prohibited personnel practices, and for other purposes.

• Whistleblower Protection Enhancement Act of 2007

to amend title 5, United States Code, to clarify which disclosures of information

are protected from prohibited personnel practices; to require a statement in non
disclosure policies, forms, and agreement to the effects that such policies, forms,
and agreements to the effects that such policies, forms and agreements are
consistent with certain disclosure protections, and for other purposes.

• Whistle blower Protection Program – US Department of Labour

The occupational safety and health Act is designed to regulate employment

conditions relating to occupational safety and health and to achieve safer and
more healthful workplaces throughout the nation. The Act provides for a wide
range of substantive and procedural rights for employees and representatives of
employees.

• Whistleblower Protections- US department of Labor

The Occupational Safety and Health Act (OSH Act ) and a number of other laws
protect worker against retaliation for complaining to their employers, union, the
Occupational Safety and Health Administration (OSHA), or other government
agencies about unsafe or unhealthful conditions in the workplace, environmental
problems, certain public safety hazards, and certain violations of federal
provisions concerning securities fraud, as well as for engaging in other relates
protected activities. Whistleblowers may not be transferred, denied a raise, have
their hours reduced, or be fired or punished in any other way because they have

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 exercised any right afforded to them under one of the laws that protect
whistleblowers.

B) In India, laws related to whistleblowing concept are:

1) Clause 49 of the Listing Agreement

2) Limited Liability Partnership Act, 2008.

Case for whistleblowing law in India

The term `whistle-blowing' is a relatively recent entry into the vocabulary of public and
corporate affairs, although the phenomenon itself is not new. It refers to the process by
which insiders go public with their claims of malpractices by, or within, organisations -
usually after failing to remedy the matters from the inside, and often at great personal risk
to themselves. Sometimes the cost of such valiant efforts is just too high to pay.

Satyendra Dubey, was one of those rare young men who was completely and
uncomplicatedly honest. He didn't know he was a hero. An engineer from Indian
Institute of Technology, Kanpur and working for National Highway Authority of India
probably never knew the word but died for simply doing the right thing. Gunned down
by the mafia in Gaya on early November 27 morning, nearly a year after he had
complained of corruption on the Golden Quadilateral project to the Prime Minister's
office. Knowing the dangers that surround honest people bucking the whole corrupt
system, in his letter, Dubey had requested that his name be kept secret, a request that
wasn't honoured-the letter was sent from the PMO to the Ministry of Road, Transport
and Highways and then to the National Highway Authority of India, with which
Dubey was working as Deputy General Manager. His death speaks volumes about the
growing nexus between politicians and mafia and also highlights the illegal
procedures/ways involved in awarding contracts and also the allegedly fraudulent pre-
qualification bids in connection to big development projects.

India has recently passed a federal Freedom of Information Bill in 2003 however it
does not have a Whistleblowers Act recommended by the Constitution Review
Commission in 2002. Moreover a draft bill on public disclosures recommended by the

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Law Commission lies in cold storage. Satyendra Dubey's death merits attention and a
subsequent Public Interest Litigation urges the Supreme Court to direct the Centre to
evolve a system to ensure protection to anybody who complains to the Government
against corruption.

Corruption exists all over the world and thrives at all layers of government. Officers
who refuse to enter the bandwagon are victimized. In India, the Tehelka expose
involving defense deals had not only victimized the reporters involved in the
undercover operation but also harassed virtually anybody associated with the portal. In
this case, the owner of the Global capital who owned a share in the portal was
imprisoned without any concrete charges framed against him. All this was due to the
fact that the expose had caught some of the high ups in the ruling coalition taking
bribes on camera! More recently, the Labour Government in England had found a
scapegoat in Dr David Kelly who was considered a 'mole' in the Ministry of Defence
inorder to draw public attention away from the Iraq war. He was named as the source
of a disputed BBC report claiming the Downing Street had "sexed up" evidence of
Iraqi weapons of mass destruction so as to drive the country into the war with Iraq.

The need and urgency of a whistleblowing act cannot be overemphasized even as

Satyendra Dubey's death sparked off widespread public protest. Both in unlettered
societies with meager resources as also in the developed world, there is an urgent need
both for access to information by the public along with an act that would provide
protection to all those who blew the whistle. It is time that the authorities took
cognizance of the fact that money associated with development works that usually
comes from the tax payers pocket lands up in corrupt hands. In the process
development takes the back seat. India cannot afford to lose its money nor its
resources. The real heroes of today's world are honest people. They are few and far
between. They are the ones society is longing to follow. But everywhere it sees them
fail. Yet the world, and developing countries especially cannot afford to loseits honest
officers who stand up against all odds and risk their lives. It is time the government
thinks about cleaning its system by providing protection to all those ordinary people
who dares to bare open facts and has a stake at country's future. Mere assurance from
the Prime Minister that the guilty wouldn't be spared is not enough---either to the
citizens or to Dubey's family. If the government really means business it has to go
about demonstrating that there are systems in place for good people to rely on. We
need a fast and efficient judiciary to handover judgments in fair and impartial manner
with or without political and social pressure, and a clean and unbiased police that will
come to the aid of those working on the right side of the law; we also need public
knowledge about the constitution and rule of law; and laws that will encourage people
in both urban and rural areas to come forward without any fear to usher in an era of
transparency, accountability and participation in the governance of the country. We
need a system, a society where a person can do its duty without fear and the head held
high. If the government really intends to deliver such a nation, then it is time the
government pulled up its sleeves and makes concrete efforts to pass a whistleblowers
act. It follows that no measure to curb government and corporate transgressions in

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India or elsewhere will bear fruit unless legal immunity and protection against
retaliation is given to responsible and conscientious whistleblowing.

Conclusion:
In today’s age corporatisation business has advanced and become complicated, there
becomes a need that rules and regulations build in an organisation and executed by the
government in an economy are put to practise effectively. In India particularly as we are
still at a ripening process towards our growth so it becomes essential that we adapt the
concept of corporate governance so that we atleast we are on safer side when we develop
further in future. This would allow us to monitor our business transactions in most
efficient way possible and would ensure that there is less chances on our part as far as
fraudulent cases and manipulation of accounting practises is concerned. This will ensure
us that atleast harshad mehta or ketan parekh scenario or any other satyam scam doesn’t
repeat itself. We should get more stringint in our functioning and manage our businesses
in most planned and well-admistered way possibile. And that’s the reason as to why
Corporate Governance should be practised in most efficient way possible. To ensure this
government should come up with more consumer and employee protections acts to
enable transperancy in the working of organisations

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