Unit- II

Corporate Governance &

Business Ethics
OBLIGATION TO INVESTORS, CUSTOMERS, EMPLOYEES,
SUPPLIERS, GOVERNMENT AND SOCIETY

 Obligations Towards Owners or Shareholders- In the case of sole

trader ship and partnership concerns, the owners can look after their
interest themselves. Where as in the case of the company, the
directors have the following responsibilities towards the
shareholders:
 A. Reasonable Dividend: shareholders are a source of funds for the
company. They Management and Society expect a high rate of
dividend on the money invested by them and also the maximization
of the value of their investment in the company.
 B. Protection of assets: The assets of the company are purchased
with shareholders funds. Therefore the company is responsible to
safeguard these assets.
 C. Information: It is the responsibility of the management to keep
the shareholders informed about the financial position as well as the
progress of the company.
Obligations towards Customers

 Customer’s satisfaction is the ultimate aim of all economic activity.

Therefore, it is, the duty of management
 a. To make goods of the right quality available to the right people at the
right time and place and at reasonable prices.
 b. The business should not indulge into unfair practices such as black
marketing, hoarding, adulteration etc.
 c. To provide prompt and courteous service to customers.
 d. To handle customers grievances carefully.
 e. To distribute the goods and services properly so that the customers do
not face any difficulty in purchasing them.
Obligations towards Employees

 Employees should be treated as human beings and their co-operation

must be achieved for the realization of organizational goals. The
business should fulfill the following obligations towards their employees.
 a. Fair wages: Business should pay reasonable salaries so that their
employee’s may lead a good life and satisfy their needs.
 b. Adequate benefits: Employees should be provided benefits like
housing, insurance cover, medical facilities and retirement benefits.
 c. Good Working Conditions: Good working conditions are necessary to
maintain the health of the workers.
 Therefore they must be provided with good working conditions.
 d. Opportunity for Growth: Business should give their employees
opportunity to develop their capabilities through training and education.
 e. Recognition of Worker’s Rights: The business should recognize the
worker’s right to fair wages, to form trade unions, to collective
bargaining etc.
 f. Co-operation: The business must win the co-operation of the workers
by creating the conditions in which workers are willing to put forward
their best efforts towards the common goals of the business.
Responsibility towards Suppliers:-

 The business must create healthy relations with the supplier.

Management should deal with them judiciously. They should be
provided with fair terms and conditions regarding price, quality,
delivery of goods and payment.
 Obligations towards Government:- It is the duty of every
business enterprise to manage its affairs according to the laws
affecting it. It should pay taxes and other dues honestly. It should not
encourage corruption,black marketing and other social evils. It should
discourage the tendencies of concentration of economic power and
monopoly and should encourage fair trade practices.
Obligation towards Society -

 Every business owes an obligation to the society at large. The

following are the important obligations of business towards society.
 a. Socio-Economic Objectives: A business should not indulge in any
practice which is not fair from social point of view. The business
should use the factors of production effectively and efficiently for the
satisfaction of the needs of the society.
 b. Employment Opportunities: It is the responsibility of
management to help increase direct and indirect employment in the
area where it is functioning.
 c. Efficient use of Resources: The resources at the command of
business belong to the society. Therefore, the business should make
the best possible use of the resources at its disposal for the well being
of the society.
 d. Business Morality: The business should not indulge into anti-social
and unfair trade practices such as adulteration, hoarding and black
marketing.
 e. Improving local environment: Business should take preventive
measures against water and air pollution. It can develop the
surrounding area for the well being of the employees and the general
Managerial Obligations to Society

 Society contributes its resources to a company. It becomes duty of

the corporate to give back to society. In today’s world no company
can afford to ignore its social obligations. Otherwise the company will
lose its trust and faith in the society.
 As the company makes profit, grows financially and progresses the
same way the society should also more forward. If there is an oasis of
affluence in a desert of neglect, it will call for dangers ahead.
 A company is part and parcel of a society hence it cannot isolate or
close its eyes.
 The society is a stakeholder. Indian companies are allocating funds or
part of their net profits for social development and taking active part
in uplifting the needy and down trodden.
 Companies have taken up social work in the areas of:
 (i) Primary education,
 (ii) Providing education facilities,
 (iii) Building large university,
 (iv) Giving medical facilities to rural areas,
 (v) Creating human capabilities,
A LAND MARK IN INDIAN CORPORATE HISTORY:
Enactment of New Company Law with changes

 As corporations increasingly access global pools of financial and

human capital, partner with vendors on mega collaborations, and are
required to function in harmony with the community, corporate
governance becomes imperative.
 India is close to having one million registered companies, and the
need for a strong company legislation is even greater. The new
Companies Act intends to bring governance standards as par with
those in developed nations through several key provisions.
 The companies in our country are formed, registered and regulated
mainly by the Companies Act, 2013. The erstwhile Companies Act
1956 was completely revamped in 2013 and new Act was framed
which is landmark legislation with regard to improving corporate
governance of companies. The Companies Act, 2013 clearly indicates
focus of regulators toward enhancing the responsibility and
accountability of boards. The Act outlines various requirements for
Governance, disclosures and enhanced roles, responsibilities and
liabilities of the board, its committees and independent directors.
Some of the Provisions of Companies Act, 2013 related to Corporate
New Provisions:-

 Appointment and maximum tenure of Independent Directors;

 Appointment of Woman Director;
 Appointment of Whole time Key Managerial Personnel;
 Performance Evaluation of the Directors and Committee & Board as a
whole;
 Enhanced disclosures and assertions in Board Report and Annual Return
with regard to Managerial Remuneration, risk management, internal
control for financial reporting, legal compliance, Related Party
Transactions, Corporate Social Responsibility, shareholding pattern, public
money lying unutilised, etc.
 Stricter yet forward-looking procedural requirements for Secretarial
compliances and Secretarial Standards made mandatory;
 Enhanced compliances of Related Party Transactions and introduction of
concept of arm’s length pricing;
 Enhanced restrictions on appointment of Auditors and mandatory rotation
of Auditors;
 Separation of role of Chairperson and Chief Executive Officer;
 Mandatory provisions regarding vigil mechanism;
 Constitution of Audit Committee and Nomination and Remuneration
Committee;
 Constitution of CSR Committee
 Secretarial Audit
 Constitution of NFRA
 Mandatory provision of E-voting by certain class of Companies
 Class Action Suits
 Registered Valuer
 All such provisions of new Company Law are instrumental in
providing a good Corporate Governance structure.
ISSUES IN CORPORATE GOVERNANCE
PRACTICES IN INDIA

 In the last decade, the frequencies of corporate frauds and governance

failures that have dotted the global corporate map have witnessed
comparably vigorous efforts of improving corporate governance practices.
 India has liberalized the regulatory fabric of the country to align its
corporate governance norms with those of developed countries. And yet,
achieving good governance and ensuring results of such governance
practices continue to remain one of the top priorities of stakeholders even
today. Set out below are top ten issues affecting corporate governance
practices in India.
1. Getting the Board Right

 Enough has been said on board and its role as the cornerstone for good

corporate governance. To this end, the law requires a healthy mix of

executive and non-executive directors and appointment of at least one

woman director for diversity.

 There is no doubt that a capable, diverse and active board would, to

large extent, improve governance standards of a company. The

challenge lies in ingraining governance in corporate cultures so that

there is improving compliance “in spirit”.

 Most companies’ in India tend to only comply on paper; board
 appointments are still by way of “word of mouth” or follow board
member recommentions. It is common for friends and family of
promoters (a uniquely Indian term for founders and controlling
shareholders) and management to be appointed as board members.
 Innovative solutions are the need of the hour – for instance, rating
board diversity and governance practices and publishing such results
or using performance evaluation as a minimum benchmark for
director appointment.
2. Performance Evaluation of Directors

 Although performance evaluation of directors has been part of the

existing legal framework in India, it caught the regulator’s attention

recently. In January 2017, SEBI, India’s capital markets regulator,

released a ‘Guidance Note on Board Evaluation’. This note elaborated

on different aspects of performance evaluation by laying down the

means to identify objectives, different criteria and method of

evaluation. For performance evaluation to achieve the desired results

on governance practices, there is often a call for results of such

evaluation are made public. Having said that evaluation is always a

 ..sensitive subject and public disclosures may run counter-productive.
In a peer review situation, to avoid public scrutiny, negative feedback
may not be shared. To negate this behavior, the role of independent
directors in performance evaluation is key.
3. True Independence of Directors

 Independent directors’ appointment was supposed to be the biggest

corporate governance reform. However, 15 years down the line,

independent directors have hardly been able to make the desired

impact.
 The regulator on its part has, time and again, made the norms tighter

– introduced comprehensive definition of independent directors,

defined a role of the audit committee, etc.

 However, most Indian promoters design a tick-the-box way out of the

regulatory requirements.
 The independence of such promoter appointed independent
directors is questionable as it is unlikely that they will stand-up for
minority interests against the promoter.
 Despite all the governance reforms, the regulator is still found
wanting. Perhaps, the focus needs to shift to limiting promoter’s
powers in matters relating to in independent directors.
4. Removal of Independent Directors

 While independent directors have been generally criticized for playing a

passive role on the board, instances of independent directors not siding
with promoter decisions have not been taken well – they were removed
from their position by promoters.
 Under law, a independent director can be easily removed by promoters or
majority shareholders.
 This inherent conflict has a direct impact on independence. In fact, earlier
this year, even SEBI’s International Advisory Board proposed an increase in
transparency with regard to appointment and removal of directors.
 To protect independent directors from vendetta action and confer
upon them greater freedom of action, it is imperative to provide for
additional checks in the process of their removal – for instance,
requiring approval of majority of public shareholders.
5. Accountability to Stakeholders

 Empowerment of independent directors has to be supplemented

with greater duties for, and accountability of directors. In this regard,

Indian company law, revamped in 2013, mandates that directors owe

duties not only towards the company and shareholders but also

towards the employees, community and for the protection of

environment. Although these general duties have been imposed on

all directors, directors including independent directors have been

complacent due to lack of enforcement action.

 To increase accountability, it may be a good idea to require the entire
board to be present at general meetings to give stakeholders an
opportunity to interact with the board and pose questions.
6. Executive Compensation

 Executive compensation is a contentious issue especially when

subject to shareholder accountability. Companies have to offer
competitive compensation to attract talent. However, such executive
compensation needs to stand the test of stakeholders’ scrutiny.
Presently, under Indian law, the nomination and remuneration
committee (a committee of the board comprising of a majority of
independent directors) is required to frame a policy on remuneration
of key employees. Also, the annual remuneration paid to key
executives is required to be made public.
 Is this enough? To retain and nurture a trustworthy relationship
between the shareholders and the executive, companies may
consider framing remuneration policies which are transparent and
require shareholders’ approval.
7. Founders’ Control and Succession Planning

 In India, founders’ ability to control the affairs of the company has the

potential of derailing the entire corporate governance system. Unlike

developed economies, in India, identity of the founder and the company is

often merged. The founders, irrespective of their legal position, continue to

exercise significant influence over the key business decisions of companies

and fail to acknowledge the need for succession planning. From a governance

and business continuity perspective, it is best if founders chalk out a

succession plan and implement it. Family owned Indian companies suffer an

inherent inhibition to let go of control.

 The best way to tackle with this is widen the shareholder base - as PE
and other institutional investors pump in capital, founders are forced
to think about a succession plan and step away with dignity.
8. Risk Management

 Today, large businesses are exposed to real-time monitoring by

business media and national media houses. Given that the board is

only playing an oversight role on the affairs of a company, framing

and implementing a risk management policy is necessary. In this

context, Indian company law requires the board to include a

statement in its report to the shareholders indicating development

and implementation of risk management policy for the company. The

independent directors are mandated to assess the risk management

systems of the company.

 For a governance model to be effective, a robust risk management
policy which spells out key guiding principles and practices for
mitigating risks in day-to-day activities is imperative.
9. Privacy and Data Protection

 As a key aspect of risk management, privacy and data protection is an

important governance issue. In this era of digitalization, a sound
understanding of the fundamentals of cyber security must be
expected from every director. Good governance will be only achieved
if executives are able to engage and understand the specialists in
their firm. The board must assess the potential risk of handling data
and take steps to ensure such data is protected from potential
misuse. The board must invest a reasonable amount of time and
money in order ensure the goal of data protection is achieved.
10. Board’s Approach to Corporate Social
Responsibility (CSR)

 India is one of the few countries which has legislated on CSR.

Companies meeting specified thresholds are required to constitute a
CSR committee from within the board. This committee then frames a
CSR policy and recommends spending on CSR activities based on
such policy. Companies are required to spend at least 2% of the
average net profits of last three financial years. For companies who
fail to meet the CSR spend, the boards of such companies are
required to disclose reasons for such failure in the board’s report.
 During the last year, companies which failed to comply received
notices from the ministry of corporate affairs asking for reasons why
they did not incur CSR spend and in some cases questioning the
reasons disclosed for not spending. In these circumstances, increased
effort and seriousness by the board towards CSR is necessary. CSR
projects should be managed by board with as much interest and
vigour as any other business project of the company.
Thank You