ROLE OF GATEKEEPERS

ON THE
EFFECTIVENESS OF
CORPORATE GOVERNANCE

PRASAD PARAB
NEHA SINGH

EMAIL ID: [email protected]

[email protected]

CONTACT NO: 8424895288

8096866521
 ROLE OF GATEKEEPERS ON THE
EFFECTIVENESS OF CORPORATE GOVERNANCE

We all are aware of Satyam scam which is the India’s Biggest corporate scam.
The scam is all about corporate governance and it is regarded as the ‘Debacle of the
Indian Financial System’. Ever since this scam took place, the concern for good
corporate governance has increased phenomenally. The Cadbury Committee has
defined Corporate Governance as “the system by which companies are directed and
controlled” in its report called Financial Aspect of Corporate Governance published in
the year 1992. In general words Corporate Governance encapsulates a set of rules and
regulations by which an organization is governed, controlled and directed.
The new Companies Law contains many provisions related to good corporate
governance like Composition of Board of Directors, Admitting Woman Director,
Admitting Independent Director, Directors Training and Evaluation, Constitution of
Audit Committee, Internal Audit, Risk Management Committee, SFIO Purview,
Subsidiaries Companies Management, Compliance center etc who play the role of
gatekeepers in providing a good Corporate Governance structure.
Few of these provisions are:
 Section 134, which mandates to attach a report to every Financial statement by
Board of Directors containing all the details of the matter including the statement
containing director’s responsibility.
 Section 177, which requires Board of Directors of every listed company or any
other class of committee to constitute an Audit Committee. It also provides the
manner to constitute the committee.
 Section 184, which mandates the Director disclose his interest in any company
or companies, body corporate, firms, or other association of Individuals. The
director is required to disclose any such interest at the first meeting of the board
and if there is any change in the interest then the first meeting held after such
change.
Enron and WorldCom are recent instances of corporate failures demonstrating
conduct that undermines confidence in the democracy of companies and the openness
and transparency expected from good ethical governance and its regulation.
ROLE OF INDEPENDENT DIRECTORS
Independent Directors (ID) are expected to be independent from the management
and act as the trustees of shareholders. This implies that they are obligated to be fully
aware of and question the conduct of organizations on relevant issues. After the break,
out of some of the largest corporate scams in the country in recent times there has been
a heightened focus on their role and responsibilities as custodians of stakeholders’
interests. The proposed Companies Bill, 2011, the Corporate Governance Voluntary
Guidelines 2009 and General Circular No. 08/2011 issued by Ministry of Corporate
Affairs have further stepped up their interest in this subject. IDs may not be in a position
to stop fraud at the highest level, but with a high level of commitment and due-diligence,
they may be well placed to identify signals that indicate that everything is not as it
should be. The IDs can play the crucial role of bringing objectivity to the decisions
made by the board of directors by playing a supervisory role. While they need not take
part in the company’s day-to-day affairs or decision making, they should ask the right
questions at the right time regarding the board’s decisions. Raising the appropriate red
flags at the right time would help them in avoiding the occurrence of unwanted
situations and their consequences to a great extent.
ROLE OF COMPANY SECRETARIES
“Company Secretaries, once known as secretaries to the board and
management, have transformed themselves into key managerial and governance
professionals. Today they are recognised for their importance on corporate landscape
and have become gatekeepers of corporate governance,” said Ajay Tyagi, chairman,
SEBI.
Company Secretaries assist in developing law abiding culture and sustainable
frame work for the company. On board, the CS acts as a principal advisor to the board
and ensures good governance standards for the company. It is now necessary that not
only shareholders but other stakeholders become gatekeepers of corporate governance
of the company. The responsibility of secretary is to detect instances of non-compliance
and concentrate on taking corrective measures.

ROLE OF AUDITORS
External auditors serve as one of the primary protectors of corporate governance
in any organization. One of the primary roles of external auditors in corporate
governance is protecting the interests of shareholders as external audition reports are
conducted independent of the company’s influence. External auditors report the state of
a company's finance and attest to the validity of financial reports that may have been
released. They ensure that the board receives accurate and reliable information. External
auditors may introduce measures and policies designed to compel accountability in the
workplace. Auditors can recommend penalties for officers who manipulate financial
statements by inflating figures or cooking accounting numbers. Auditors review the
security measures that a company has in place against corporate fraud or corruption.
 IL&FS’s annual report for financial year 2017-18 indicated that the group held
assets of around Rs 1,65,000 crore, across holding company, with 175 subsidiaries and
66 joint ventures and associates. The auditors SRBC & Co certified that the financial
report is correct and did not doubt IL&FS’ ability to be a going concern. But after the
government takeover of the company, the chairman of the newly-constituted board,
Uday Kotak, indicated that there are actually 348 entities as IL&FS’ subsidiaries and
associates. The statutory auditors failed to see the complete picture of the company’s
subsidiaries. The enormity of the failure of the statutory auditors is not fully unveiled
yet; more skeletons are still tumbling out of the closet.
ROLE OF CREDIT RATING AGENCIES
Credit Rating Agencies acts as catalysts for corporate governance by either
directly factoring corporate governance into their scoring systems, or by
complementing their financial scoring systems with corporate governance. It gives an
assessment of a company's policies and practices benchmarked against international
codes and guidelines and governance best practices. Scores are based on ownership
structure and influence, financial stakeholder rights and relations, financial
transparency and information disclosure, and board structure and process. It evaluates
companies only upon their request, and hence the companies pay for the rating which
can influence the scores. Proxy advisory firms can also be considered gatekeepers as
they play a vital role in analysing management resolutions put up for voting in the
shareholders’ meetings and make recommendations.
The gatekeepers in the financial market include credit rating agencies that
evaluate a company’s creditworthiness, external auditors who provide independent
assurance that the company’s financial condition is portrayed fairly, and securities
analysts who assess its business prospects.
All the information intermediaries have a major role in assessing the financial
status of the company and passing on only the right information to the external
investors. It is these gatekeepers who failed in the case of Infrastructure Leasing &
Financial Services (IL& FS). The company made an operating profit of Rs 5,087 crore
in 2014-15. During the same period, its consolidated debt stood at Rs 48,671.30 crore,
and the interest payment outgo was Rs 3970.70 crore. During the financial year 2017-
18, its operating profit rose to Rs 7,267.3 crore. However, debt increased at a much
faster pace to Rs 91,091.3 crore. As a result, interest outgo touched Rs 7,922.8 crore
during 2017-18. By 2018, the company was not even making enough profit to take care
of its interest expense. Hence the default happened. While the board’s failure is
apparent, the gatekeepers whose vigilance could have averted the crisis also failed in
the case of IL&FS.
Credit rating agencies ignored the rising debt levels at IL&FS group, while
assessing its creditworthiness. Rating agencies, ICRA, India Ratings and CARE had
rated it AAA, indicating the highest level of creditworthiness and these ratings were in
place till June 2018. This, despite the fact that as early as September 2016, one of the
listed IL&FS group companies, IL&FS Engineering and Construction Company,
having defaulted on the redemption of optionally convertible cumulative redeemable
preference shares. It was only in July 2018, after group company IL&FS Transportation
Networks (ITNL) defaulted on its repayment/redemption obligations under a
commercial paper tranche that India Rating downgraded ITNL’s long-term borrowings
to sub-investment grade. But it continued to accord good risk grades to ITNL’s short-
term paper and also affirmed its excellent long-term credit rating for IL&FS, the parent
company.
Even in August 2018, ICRA downgraded IL&FS just by one notch, from AAA
to AA+. Only after the IL&FS defaulted on a series of loan payments in September
2018, did the rating agencies downgrade IL&FS multiple notches. For example, ICRA
downgraded IL&FS by nine notches at one go, from AA+ to BB on September 8, 2018.
This was a major failure on the part of the rating agencies.
ROLE OF REGULATORY BODIES
SEBI is a regulatory authority in India established on April 12, 1992. SEBI was
established with the main purpose of curbing the malpractices and protecting the interest
of its investors. Its main objective is to regulate the activities of Stock Exchange and at
the same time ensuring the healthy development in the financial market. In order to
ensure good corporate governance SEBI came up with detailed Corporate Governance
Norms.
As per the new rules the companies are required to get shareholders’ approval
for RPT (Related Party Transactions), it established whistle blower mechanism, clear
mandate to have at least one-woman director in the Board and also elaborated
disclosures on pay packages.

 HKMA penalizes JPMorgan Chase $1.6 million for AML failings

Hong Kong’s financial regulator penalized a local branch of the largest bank in
the United States nearly HK13 million for a host of financial crime compliance failures,
including lax customer screening and monitoring and a lack of client details in wire
transfers over a roughly two-year period. The Hong Kong Monetary Authority (HKMA)
fined the JPMorgan Chase branch HK$12.5 million, or $1.6 million, for breaches of
anti-money laundering (AML) rules, in particular, for the depth and accuracy of
customer due diligence and cross-referencing those findings with wire transfers and
related entities. The settlement also requires that JPMorgan submit to an outside monitor
to ensure the branch effectively remediates past deficiencies and brings the entire
problem up to current standards. The penalty takes into consideration several
aggravating and mitigating factors, according to the HKMA: