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CORPORATE GOVERNANCE IN BANKS

INTRODUCTION

Corporate governance is the set of processes, customs, policies, laws and


institutions affecting the way a corporation 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. The principal stakeholders are the shareholders, management and the
board of directors. Other stakeholders include employees, suppliers, customers,
banks and other lenders, regulators, the environment and the community at
large.

Corporate governance is a multi-faceted subject. An important part of corporate


governance deals with accountability, fiduciary duty, disclosure to shareholders
and others, and mechanism of auditing and control. In this sense, corporate
governance players should comply with codes to the overall good of all
constituents. Another important focus is economic efficiency, both within the
corporations ( such as the best practice guidelines) as well as externally
(national institutional frameworks ). In this” economic view, the corporate
governance system should be designed in such a way as to optimize results, as
well as to detect and prevent frauds. Some argue that the firm should act not
only in the interest of the shareholders but also off all the other stakeholders.

Governance makes decisions that the define expectations, grant power, or


verify performance. It consists either of a separate process or of a specific part
of the management or leadership processes. Sometimes people setup a
government to administer these processes and systems. In the case of a business
or a non profit organization, governance develops and manages consistent,
cohesive policies, processes and decision-rights for a given area of
responsibility. For example, managing at a corporate level might involve
evolvic policies on privacy, on internal investment, and on the use of data.

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WORD- ORIGIN
The word Governance derives from Latin origins that suggest the notion of
“steering”. One can contrast this sense of “steering” a group or society with the
traditional “Top-Down” approach of governments “driving” society.
Distinguish between governance’s “power to” and governments “power over”.

DEFINITION
“Corporate Governance deals with the ways in which suppliers of finance to
corporations assure themselves of getting a return on their investment”

(Shleifer and Vishny)

“Corporate Governance is about is about promoting corporate fairness,


transparency and accountability.”

(J Wolfensohn)

(President of the World Bank quoted by an article in Financial Times, June 21st
1999)

1. The OCED has defines corporate governance as involving ‘an asset of


relationships between a company’s management, its board, its
shareholder and other stakeholders. Corporate governance also provider
the structure through the objectives of the company are set, and the means
of attaining those objectives and monetary performance. Good
governance should provide proper incentives for the board management
to pursue objectives that are in the interest of the company and
shareholders and should facilitate effective monitoring thereby
encouraging firms to use resources efficiently.

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WHAT IS CORPORATE GOVERNANCE?

Corporate governance is typically perceived by academic literature as dealing


with ”problems that results from the separation of ownership and control”. From
this perspective, corporate governance would focus on: the internal structure of
BOD; the creation of independent committee’s rules for disclosures of
information to shareholders and creditors; and control of the management.

An adequate institutional and legal framework is in place in India for effectively


implementing a code of sound corporate governance in banks. The statutes have
build-in legal provisions that prohibit or strongly limit activities and relationship
that diminish the quality of corporate governance in banks, they have been
advised to place before their board of directors the report of consultative group
of directors of banks and setup to review the supervisory role of boards of
banks. The recommendations include the responsibility of the BOD, role and
responsibility of independent and non- executive directors, fit and proper norms
for nomination of directors in private sector banks, etc. The banks were advised
to adopt and implement the recommendations on the basis of the decisions taken
by their board.

Transparency and disclosures standards are also important constituents of a


sound corporate governance mechanism. Transparency and accounting
standards in India have been enhanced to align with international best practices.
However, there are many gaps in the disclosures in India vis-a-vis the
international standards, particularly in the areas of risk management strategies
and practices, risk parameters, risk concentrations, performance measures,
component of capital structure, etc. Hence, the disclosure standards need to be
further broad-based in consonance with improvements in the capability of
market players to analyze the information objectively.

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TYPES OF GOVERNANCE:-
1) Global Governance 2) Project Governance

3) Information Technology Governance 4) Fair Governance

History

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.
Berle and Means' monograph "The Modern Corporation and Private Property"
(1932, Macmillan) continues to have a profound influence on the conception of
corporate governance in scholarly debates today.

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, Arthur Andersen, Global Crossing, Tyco, and, more
recently, Fannie Mae and Freddie Mac, led to increased shareholder and
governmental interest in corporate governance. This culminated in the passage
of the Sarbanes-Oxley Act of 2002. But, since then, the stock market has greatly
recovered, and shareholder zeal has waned accordingly.

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Parties to corporate governance

Parties involved in corporate governance include the regulatory body (e.g. the
Chief Executive Officer, the board of directors, management and shareholders).
Other stakeholders who take part include suppliers, employees, creditors,
customers and the community at large.

All parties to corporate governance have an interest, whether direct or indirect,


in the effective performance of the organisation. Directors, workers and
management receive salaries, benefits and reputation, while shareholders
receive capital return. Customers receive goods and services; suppliers receive
compensation for their goods or services. In return these individuals provide
value in the form of natural, human, social and other forms of capital.

A key factor in an individual's decision to participate in an organisation e.g.


through providing financial capital and trust that they will receive a fair share of
the organisational returns. If some parties are receiving more than their fair
return then participants may choose to not continue participating leading to
organizational collapse.

OBJECTIVES
1) To build an environment of trust and confidence amongst these having
competition and conflicting interest.

2) To enhance shareholders value and protect the interest of stakeholders by


enhancing the corporate performance and accountability.

3) To have system and procedures which are transparent and which inform
the stakeholders about the working of corporations.

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CORPORATE GOVERNANCE TODAY?


1. INTRODUCTION
Corporate governance has become a powerful force in American business over
the short span of the past two decades. Perhaps the movement may best be
described as the prudent exercise of ownership rights, toward the goal of
increased share value.

“The defining tension in corporate governance today is between deference to


director’s decisions and the scope of judicial review. The essence of the
business judgment rule is that the directors’ business decisions will be respected
if they are made by directors who are disinterested, independent, and who act
with the requisite due care, and if decision can be attributed to any rational
business purpose.”

Corporate governance came to the center of the international development


agenda following the East Asian financial crisis. Increased privatization and
financial market liberization also contributed to increased scrutiny of corporate
behavior, management and policies. Governance of banking sector has received
particular attention due to the sector’s enormous influence on developing
economies, especially where stock markets are underdeveloped. Recent , high-
profile corporate failures have brought renewed focus on the importance of
good corporate governance, and have broadened interest in the topic to a
broader audience. The resulting international debate has shown that underlying
principles of fairness, transparency, accountability and responsibility reflect
minimum standards necessary to provide legitimacy to the corporate sector,
reduce financial crisis vulnerability, and broaden and deepen access to capital.

The resources gathered here explore:

• the general corporate and legal environment of corporate governance


policy”;

• tools and mechanisms for implementing corporate governance;

• steps taken to enforce and regulate corporate governance standards; and

• bank governance and creditor rights.

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BENEFITS
1) Enhancing overall companies performance.

2) Preparing a small enterprise growth so helping to secure new business


opportunities when they arise

3) Increasing attractiveness to investors and lenders which enables faster


growth.

4) Increasing companies ability to identify and mitigate the risk, manage


crisis and respond to changing market trend.

5) Increasing market confidence as a whole.

6) All company suffers from corporate scandals which scare potential


investor away from the market.

Good Governance can be understood as a set of 8 major


characteristics:-
• Participation Rule of law

• Transparency Responsiveness

• Consensus orientation Equity and inclusiveness

• Effectiveness and Efficiency Accountability

KEY ELEMENTS FOR GOOD CORPORATE GOVERNANCE


PRINCIPLES:
1) Honesty 2)Trust and Integrity

3) Openness 4)Responsibility and accountability

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5) Commitment to Organisation 6)Role and Responsibility of board

7) Integrity and ethical behavior 8)Disclosure and Transparency

Principles

Key elements of good corporate governance principles include honesty, trust


and integrity, openness, performance orientation, responsibility and
accountability, mutual respect, and commitment to the organization.

Of importance is how directors and management develop a model of


governance that aligns the values of the corporate participants and then evaluate
this model periodically for its effectiveness. In particular, senior executives
should conduct themselves honestly and ethically, especially concerning actual
or apparent conflicts of interest, and disclosure in financial reports.

Commonly accepted principles of corporate governance include:

• Rights and equitable treatment of shareholders: Organizations should


respect the rights of shareholders and help shareholders to exercise those
rights. They can help shareholders exercise their rights by effectively
communicating information that is understandable and accessible and
encouraging shareholders to participate in general meetings.
• Interests of other stakeholders: Organizations should recognize that they
have legal and other obligations to all legitimate stakeholders.
• Role and responsibilities of the board: The board needs a range of skills
and understanding to be able to deal with various business issues and
have the ability to review and challenge management performance. It
needs to be of sufficient size and have an appropriate level of
commitment to fulfill its responsibilities and duties. There are issues
about the appropriate mix of executive and non-executive directors. The
key roles of chairperson and CEO should not be held by the same person.
• Integrity and ethical behaviour: Ethical and responsible decision making
is not only important for public relations, but it is also a necessary
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element in risk management and avoiding lawsuits. Organizations should


develop a code of conduct for their directors and executives that promotes
ethical and responsible decision making. It is important to understand,

though, that reliance by a company on the integrity and ethics of


individuals is bound to eventual failure. Because of this, many
organizations establish Compliance and Ethics Programs to minimize the
risk that the firm steps outside of ethical and legal boundaries.

• Disclosure and transparency: Organizations should clarify and make


publicly known the roles and responsibilities of board and management to
provide shareholders with a level of accountability. They should also
implement procedures to independently verify and safeguard the integrity
of the company's financial reporting. Disclosure of material matters
concerning the organization should be timely and balanced to ensure that
all investors have access to clear, factual information.

INTERNAL CORPORATE GOVERNANCE CONTROLS

Internal corporate governance controls monitor activities and then take


corrective action to accomplish organizational goals. Examples include:

• Monitoring by the board of directors: The board of directors, with its


legal authority to hire, fire and compensate top management, safeguards
invested capital. Regular board meetings allow potential problems to be
identified, discussed and avoided. Whilst non-executive directors are
thought to be more independent, they may not always result in more
effective corporate governance and may not increase performance.[5]
Different board structures are optimal for different firms. Moreover, the
ability of the board to monitor the firm's executives is a function of its
access to information. Executive directors possess superior knowledge of
the decision-making process and therefore evaluate top management on

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the basis of the quality of its decisions that lead to financial performance
outcomes, ex ante. It could be argued, therefore, that executive directors
look beyond the financial criteria.

• Remuneration: Performance-based remuneration is designed to relate


some proportion of salary to individual performance. It may be in the
form of cash or non-cash payments such as shares and share options,
superannuation or other benefits. Such incentive schemes, however, are
reactive in the sense that they provide no mechanism for preventing
mistakes or opportunistic behavior, and can elicit myopic behavior.

EXTERNAL CORPORATE GOVERNANCE CONTROLS

External corporate governance controls encompass the controls external


stakeholders exercise over the organization. Examples include:

• competition
• debt covenants
• demand for and assessment of performance information (especially
financial statements)
• government regulations
• managerial labour market
• media pressure
• takeovers
• telephone tapping

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OVERVIEW OF BANK CORPORATE GOVERNANCE

Corporate governance for banking organizations is arguably of greater


importance than for other companies, given the crucial financial intermediation
role of banks in an economy, the need to safeguard depositors’ funds and their
high degree of sensitivity to potential difficulties arising from ineffective
corporate governance. Effective corporate governance practices, on both a
system-wide and individual bank basis, are essential to achieving and
maintaining public trust and confidence in the banking system, which are
critical to the proper functioning of the banking sector and economy as a whole.
Bank failures can pose significant public costs and consequences due to their
potential impact on deposit insurance mechanisms and the possibility of broader
macroeconomic implications, such as contagion risk and impact on payment
systems. Indeed, banks and other financial companies may lose large amounts
of money in a short period in the case of events such as fraud. In addition, poor
corporate governance can lead markets to lose confidence in the ability of a
bank to properly manage its assets and liabilities, including deposits, which
could in turn trigger a liquidity crisis or a run on deposits. Banks also typically
have access to confidential customer information, which can potentially be
misused by employees for personal gains.

Moreover, review and analysis of the investments, activities, risk exposures and
financial statements of banks may in some cases be more complex than such
reviews of other companies for several reasons, including the unrated,
borrower-specific nature of a bank’s loan portfolio, as well as valuation
challenges. In light of these sensitivities, minimum standards of corporate
governance for banks should therefore be more ambitious than for non-financial
firms.
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The OECD principles define corporate governance as involving “a set of


relationships between a company’s management, its board, its shareholders, and
other stakeholders. Corporate governance also provides the structure through
which the objectives of the company are set, and the means of attaining those
objectives and monitoring performance are determined. Good corporate
governance should provide proper incentives for the board and management to
pursue objectives that are in the interests of the company and its shareholders
and should facilitate effective monitoring. The presence of an effective
corporate governance system, within an individual company and across an
economy as a whole, helps to provide a degree of confidence that is necessary
for the proper functioning of a market economy.”

From a banking industry perspective, corporate governance involves the


manner in which the business and affairs of individual institutions are governed
by their boards of directors and senior management, which affects how banks:

• Set corporate objectives (including generating economic returns to owners);

• Run the day-to-day operations of the business;

• Meet the obligation of accountability to their shareholders and take into


account the interests of other recognised stakeholders

• Align corporate activities and behaviour with the expectation that banks will
operate in a safe and sound manner, and in compliance with applicable laws and
regulations; and

• Protect the interests of depositors.

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WHY CORPORATE GOVERNANCE IN BANKS

If we examine the need for improving corporate governance in banks, two


reasons stand out:

1) Bank exist because the are willing o take on and manage risk. Besides,
with the rapid pace of financial innovation and globalization, the face of
banking business is going a sea change. Banking business is becoming
more complex and diversified. Risk taking and management is less
regulated competitive market will have to be done in such a way that
investors confidence is not enforced.

2) Even in a regulated setup, as it was in India prior to 1991, some big


banks in the public sector and a few in the private sector had incurred
substantial losses. This along with the massive failures of Non Banking
Financial Companies(NBFC’S) had adversely impacted investors
confidence.

3) Moreover, protecting the interest of the depositors become a paramount


importance to banks. In other corporates, this is not and need not be so
for two reasons; The depositors collectively entrust a very large sum of
their hard earned money to the care of the banks. It is found that in
India, the depositors contribution was well over 15. % times the
shareholder’s stake in banks as early as in March 2001. this is bound to
be much more now. The depositors are very large in number and are
scattered and have a little say in the administration of the banks. In
other corporates, big lenders do exercise the right to direct the
management in any case; the lender’s stake in them might not exceed 2
or 3 times the owners stakes.

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4) Bank’s deal in peoples fund and should therefore act as trustees of the
deposit. Regulators t world over has recognized the vulnerability of
depositors to the whims of the managerial misadventures in banks and
therefore, has been regulating banks more tightly than other corporates.

To sum the objective of governance in banks should be protection of depositors


interest and then be to optimize the shareholder’s interest. All other
considerations would fall in place once these two are achieved.

Banking supervision cannot work effectively if sound corporate governance is


not in place and consequently banking supervisors have a strong interest in
ensuring that there is effective corporate governance at every banking
organization. Supervisory experience underscores the necessary of having the
appropriate level of accountability and checks the balances within each banks.
Put. Plainly sound corporate governance makes the work of supervisors
infinitely easier. Sound corporate governance can contribute to a collaborative
working relationship between bank management and bank supervisors.

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CORPORATE GOVERNANCE IN BANKS – INDIAN


CONEXT

In the content of corporate governance, the Indian banking sector has a special
role to play, not only because of the critical nature of the business but because it
is the sector that has had large public ownership- which is one in the process of
being divested historically, banks has been used for government policy
implementation. The differences and criticalities of the sector arise out of the
following factors:

A) In the case of banks and financial intermediaries, interest of other


stakeholders, namely the depositors, appear to be more important as
compared to other corporate to other corporate.

B) The risk in baking institutions is many( for example credit risk, counter
party risk, liquidity risk etc) and these have systematic implication. The
East Asian crisis of the 1990’s is a case in point.

Corporate governance in general is a systematic process for enhancing wealth


generating capacity, ‘meeting stakeholders’ and social expectations. In this
context, governance in banks and financial institutions (FI’s) has been attracting
special attention in India during the past few years for a number of reasons.
Firstly with Liberalizations and Globalizations, the Indian economy, while the
global markets, on the other hand the development outside the country are also
affecting the domestic markets.

It is well understood that vulnerable, unstable and opaque banking and financial
system can severely system can severely disrupt macro economic performance
of that country. It is therefore necessary to strengthen both supervisory and
regulatory framework pf of the banking and financial system. Further, with

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increasing deregulation, inspite of the fact that the banking and financial
system all over the globe including India, are required to meet certain
international benchmark or standard as per regulation, particularly in the areas
of supervision, accounting and disclosures.

However, the issues are complex and merely meeting these standards would not
be sufficient by themselves for stability in the long run unless there are well
established governance processes permitting throughout an organization
through a system proper conduct and professional management.

When referring to a banking institution it should a read as meaning both on a


solo and a consolidated basis a banking institutions must have a satisfactorily
level of corporate governance related to its size and nature of its business and
activities undertaken corporate governance of banks in any is important for
several reasons.

1) Banks have an overwhelmingly dominant position in economies


financial system and are extremely important engines of economic
growth.
2) As financial market usually are underdeveloped banks in economies
are typically the most important source of finance for the majority of
firms.
3) As well as providing a generally accepted means of payment, banks in
countries are usually the main depository of economy’s savings.
4) Many developing economies have recently liberalized their banking
system through privatization or disinvestment and reducing the role of
economic regulation consequently, managers of banks in these
economies have obtained greater freedom in how they run their banks.

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CORPORATE GOVERNANCE AND THE WORLD


BANK :-

The world bank report on corporate governance is a landmark in the evolution


of the theory and its implications of this concept of best corporate behavior.
Governance in relation to a business organization concerns with the intrinsic
nature, purpose, integrity and identity of the organization and focuses primarily
on the relevance continuity and the fiduciary aspects of the organization. It
involves monitoring and overseeing strategic direction, socio-economic and
cultural context, externalities and constituencies of the organization. Hence,
corporate governance can be called as an umbrella term encompassing specific
issues arising from interactions among senior management personnel,
shareholders, board of directors, depositors, borrowers, other constituencies and
the society at a large. It deals with the exercise of power over the direction of
enterprise, the supervision of executive actions, acceptance of duty to be
accountable and regulation of the affairs of the corporation.

The world bank report on corporate governance recognizes the complexity of


the very concept of corporate governance and therefore focuses on the principle
on which it is based. These principles such as transparency, accountability,
fairness and responsibility are universal in their application. The way they are
put into practice have to be determined by those with the responsibility for
implementing them. Corporate governance is concerned with holding the
balance between economies and social goals and between individual and
community goals. The governance framework is there to encourage the efficient
use of resources and equally to require accountability for the corporations and
the society. The World Bank report points the way to the establishment of trust
and the encouragement of he enterprises. It marks and important milestone in
the development of corporate governance

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THE CHALLENGES OF ADOPTING BETTER


CORPORATE GOVERNANCE NORMS

The recent growth in corporate governance literature has focused on ways that
corporations work. Firm behavior was earlier modeled on the argument of the
neo classicist who ascertained that firms are nothing more than production
counters. All activities of the firm were geared so as to maximize profit.
Finance literature in particular came a long way in explaining the various
financial theories of firms and the behaviors associated with them. With the
increasing understanding that mere economic and production based
explanations do not exhaustively describe the motivations for governance.
Researchers have focused on the behavioral side of firms performance to justify
the economic rationale of such critical behaviors.

The foundational argument of corporate governance as seen by both academic


as well as other independent researchers can be traced back to the pioneering
work of Berle and Means (1932) who observed as early as 1930’s, that the
modern corporations having acquired a very large size can create the possibility
of the separation of control over the firm from its direct ownership. Earstwhile
promoters who largely controlled and managed their organizations increasingly
needed specialized skills. Professionals with the required skill sets were to be
hired. Berle and Means observations of the departure of the owners from the
actual control of the corporations led to a renewed emphasis on the behavioral
dimension of the theory of the firm.

The modern day uproar over corporate governance problems of insider trading,
excessive executive compensation, managerial expropriations of shareholders
wealth, false reporting, non disclosure of certain accounting and governance
malpractises and self dealing among others, are assumes to be related to the
theory of separation of ownership and control. Theoretical interest in corporate

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governance in india is a recent phenomenon. It is a result of a spate of corporate


scandals that shook the country during the early liberalization era. Obscure
companies quickly listed on the exchanges during the stock market boom of
1993-94 only to disappear siphoning off public fund funds and leaving the retail

investors with illiquid stock. The sudden appearance of fly-by-night operators


during the period coupled with the emergence of a new breed of shareholders
like the foreign investors, mutual funds and private equity placement
companies and their demand for better governance practices has compelled the
policy makers to think of the governance in corporate India.

The demand of financial liberalization, it appears, have help in imparting


greater control in the banks in their operations Responsibility has now been
totally fixed upon them for any likely loan losses. This has led to banks now
extending external finance in lieu of some control rights, apart from there
pecuniary priorities. Since the structure of corporate finance in India is highly
dependent on banks financial resources, some authors argue that the legal
structure should be so developed that banks are free from excessive portfolio
restrictions and governance mechanisms be so revised that banks
representations on board become a reality. This would enable banks to maintain
proper checks and balances apropos of expropriations of shareholder value by
the managers.

Varied opinions were articulated in India in response to wide ranging corporate


scam\scandals like violations of foreign exchange regulations, making
clandestine payments to politicians, involvement in illegal activities and
unethical deals by the top industrial houses. While some suggested that the
investigations might scare away the foreign investors and the economy would
once again be in tatters, others stressed on the importance os social
responsibilities of business. The code was prepard with the view that Indian
companies had to adopt the best of corporate practices if they were to access
domestic as well as foreign capital at competitive rates. The code agreed that
there was no unique way of understanding corporate governance. Different

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structures established in different countries might not be pertinent to local


conditions. With increased exposure to global markets it became imperative on
corporations to focus on transparency and adopt

a) That government, set government companies, societies and local


authorities owned or controlled by the Central Government or otherwise;

b) Exercise superintendence over the vigilance administration of the various


Ministries of the Central Government or corporations established by or
under any Central Act, Government companies and Societies, local
authorities owned or controlled by that government.

The persons referred in Clause (c) of subsection (1) are as follows:-

a) Group “A” Officers of the Central Government.

b) Such level Officers of the corporations established by or under any


Central Act, Government companies, societies and other local authorities,
owned or controlled by the Central Government, as that Govt. may, by
notification in the Official Gazette, specify in this behalf.

c) Provided that till such time a notification is issued under this clause, all
officers of the said corporations, companies, societies and local
authorities shall redeem to be the persons referred to clause(c) of the
subsection (1)

While there are 5 cause for corruption in our system, there are 4 key players in
the country. These are the Neta( the corrupt Politician), the Babu( the corrupt
bureaucrat ), the Lala( the corrupt businessman) and the Dada ( the criminal)
who have combined together in different formulations, permutations and
combinations. They have made our countries one of the most corrupt countries
in the world, to tackle these players and it is necessary to look at the psychology
which breeds corruption.

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CADBURY COMMITTEE REPORT

The stated objective of the Cadbury committee was to help raise the standards
of corporate governance and level of confidence in financial reporting and
auditing by setting out clearly what it sees as the respective responsibility of
those involved and what it believes is expected of them.

The committee investigated accountability of the board of directors to


shareholders and to the society. It submitted its report and associated code of
best practices in December 1992. Wherein it spelt out the methods of
governance needed to achieve balance between essential powers of the board of
directors and heir accountability. The resulting report, and associated the Code
of best practices published in Dec 1992 was generally well received while e the
recommendations themselves were not mandatory. The companies listed on the
London Stock Exchanges were required to clearly state in their accounts
whether or not code has been followed. The companies who did not comply
were requires to explain the reason for that.

The Cadbury Code for best practices at 19 recommendations being the


pioneering on corporate governance it would in order to make brief references
to them the recommendations are in the nature of guidelines relating to board of
directions, co-executive directors, executive directors and tose on reporting and
control.

Relating to board of directors these are:-

The board should meet regularly, retain full and efficient control over the
company and monitor the executive management.

Reserved to it for decision to ensure direction and control of the company is


firmly in its hand. There should be an agreed procedure for directors in the
furtherance of their duties to take independent professional advise of necessary
at the company expenses.

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All directors should have to the advise and services of the company secretary
who is responsible to the board for ensuing that board procedures are followed
and that applicable rules and regulations are complied with any question of the
removal of company secretary should be matter for the board as a whole.

For the executive directors the recommendations in the Cadbury Code of


practices is

1) Director service contracts should not exceed 3 years without


shareholders.

2) There should be full disclosure of their emoluments and those chairman


and the highest paid uk directors including pension contributions and
stock option separate figures should be given for salary and performance
relating elements and the basis on which performance is measured
should be explained.

3) Executive director should be subject pay to the recommendations of


remunerations committee made up wholly or wholly of non-executive
directors.

On reporting and controls the Cadbury Code of best practices stipulated that

It is the boards duty o present a balanced and understandable assessment


companies position that board should ensure that an objective and professional
relationship is maintain with the auditors the board should establish an audit
committee of at least three non-executive directors with return terms reference
which deal authority and duties.

The directors should explain there responsibility for preparing the accounts next
to the statement by the auditors about there reporting responsibility. The
directors should report on the effectiveness of the company system of the
company. The director should report that the business is the going concern with
the supporting assumptions or qualifications as necessary.

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CORPORATE GOVERNANCE IN BANKS

BASIL COMMITTEE PUBLICATION ON CORPORATE


GOVERNANCE FOR BANKING ORGANIZATIONS

Basil committee published paper on corporate governance for banking


organizations in September 1999. Let me share with you some of the issues
shared in that paper the committee feels that it is the responsibility of the
banking supervision to ensure there is effective CG in banking industry
supervisory experience underscores the need having appropriate accountability
and cheques and balances with each bank to ensure sound corporate
governance which in turn lead to effective and more meaningful supervision cg
could also contribute to a collaborative working relationship with banks
management and supervisors.

Basil committee underscores the need for banks to set strategies for their
operations. The committee also insists banks to establish accountability for
executing the strategies unless there is transparency of information related to
decision and action. It would be difficult for stakeholders to make managements
to more accountable.

From the perspective of banking industry, CG also includes also in its ambit the
manner in which there BOD’s govern the business and affairs of individual
institutions and there functional relationship in the senior management this
determines hoe banks.

It has have highlighted the fact that CG should have, as its basis, the following
strategies and techniques:

1) The corporate values code of comfort and other standards of appropriate


behavior and the system use to ensure compliance with them.

2) A well articulated corporate strategy against which the success of overall


enterprise and the contributions of individuals can be measured.

3) The clear assignment of responsibilities and decision making authorities


incorporating hierarchy of required approvals from individuals to the
board of directors.

4) Establishment for mechanism for the interaction and cooperation among


the BOD, senior management and the auditors.

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5) Strong internal control system, including internal external audit functions,


risk management functions, independent of business lines, other checks
and balances.

6) Special monitoring of risk exposures where conflicts of interest are likely


to be particularly great, including business relationship with borrowers
affiliated with the bank, large shareholders, senior management or key
decision makers within the firms.

7) The financial and managerial incentives to act in an appropriate manner


offered to senior management, business line management and employees
in the form of compensation promotion and other recognition

8) Appropriate information flows internally and to the public.

For ensuring good CG, the importance of overseeing various aspects of


corporate functioning needs to be properly understood appreciated and
implemented

There are 4 important forms of oversight that should be included in the


organizational structure of any bank in order to ensure the appropriate checks
and balances:

1) Oversight by Board of Directors or supervisory board

2) Oversight by the individuals not involved in day to day by running


various business areas.

3) Direct line supervision of different business areas.

4) Independent risk management and audit functions.

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REPORT OF THE KUMAR MANGALAM BIRLA


COMMITTEE ON CORPORATE GOVERNANCE

Preface

1.1 It is almost a truism that the adequacy and the quality of corporate
governance shape the growth and the future of any capital market and economy.
The concept of corporate governance has been attracting public attention for
quite some time in India. The topic is no longer confined to the halls of
academia and is increasingly finding acceptance for its relevance and
underlying importance in the industry and capital markets. Progressive firms in
India have voluntarily put in place systems of good corporate governance.
Internationally also, while this topic has been accepted for a long time, the
financial crisis in emerging markets has led to renewed discussions and
inevitably focussed them on the lack of corporate as well as governmental
oversight. The same applies to recent high-profile financial reporting failures
even among firms in the developed economies. Focus on corporate governance
and related issues is an inevitable outcome of a process, which leads firms to
increasingly shift to financial markets as the pre-eminent source for capital. In
the process, more and more people are recognizing that corporate governance is
indispensable to effective market discipline. This growing consensus is both an
enlightened and a realistic view. In an age where capital flows worldwide, just
as quickly as information, a company that does not promote a culture of strong,
independent oversight, risks its very stability and future health. As a result, the
link between a company's management, directors and its financial reporting
system has never been more crucial. As the boards provide stewardship of
companies, they play a significant role in their efficient functioning.
1.2. Studies of firms in India and abroad have shown that markets and investors
take notice of well-managed companies, respond positively to them, and reward
such companies, with higher valuations. A common feature of such companies
is that they have systems in place, which allow sufficient freedom to the boards
and management to take decisions towards the progress of their companies and

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to innovate, while remaining within a framework of effective accountability. In


other words they have a system of good corporate governance.

1.3 Strong corporate governance is thus indispensable to resilient and vibrant


capital markets and is an important instrument of investor protection. It is the
blood that fills the veins of transparent corporate disclosure and high-quality
accounting practices. It is the muscle that moves a viable and accessible
financial reporting structure. Without financial reporting premised on sound,
honest numbers, capital markets will collapse upon themselves.

1.4 Another important aspect of corporate governance relates to issues of insider


trading. It is important that insiders do not use their position of knowledge and
access to inside information about the company, and take unfair advantage of
the resulting information asymmetry. To prevent this from happening,
corporates are expected to disseminate the material price sensitive information
in a timely and proper manner and also ensure that till such information is made
public, insiders abstain from transacting in the securities of the company. The
principle should be ‘disclose or desist’. This therefore calls for companies to
devise an internal procedure for adequate and timely disclosures, reporting
requirements, confidentiality norms, code of conduct and specific rules for the
conduct of its directors and employees and other insiders. For example, in many
countries, there are rules for reporting of transactions by directors and other
senior executives of companies, as well as for a report on their holdings, activity
in their own shares and net year to year changes to these in the annual report.
The rules also cover the dealing in the securities of their companies by the
insiders, especially directors and other senior executives, during sensitive
reporting seasons. However, the need for such procedures, reporting
requirements and rules also goes beyond corporates to other entities in the
financial markets such as Stock Exchanges, Intermediaries, Financial
institutions, Mutual Funds and concerned professionals who may have access to
inside information. This is being dealt with in a comprehensive manner, by a
separate group appointed by SEBI, under the Chairmanship of Shri Kumar
Mangalam Birla.
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1.5 The issue of corporate governance involves besides shareholders, all other
stakeholders. The Committee's recommendations have looked at corporate
governance from the point of view of the stakeholders and in particular that of
the shareholders and investors, because they are the raison de etre for corporate
governance and also the prime constituency of SEBI. The control and reporting

functions of boards, the roles of the various committees of the board, the role of
management, all assume special significance when viewed from this
perspective. The other way of looking at corporate governance is from the
contribution that good corporate governance makes to the efficiency of a
business enterprise, to the creation of wealth and to the country’s economy. In a
sense both these points of view are related and during the discussions at the
meetings of the Committee, there was a clear convergence of both points of
view.

1.6 The Committee recognised that India had in place a basic system of
corporate governance and that SEBI has already taken a number of initiatives
towards raising the existing standards. The Committee also recognised that the
Confederation of Indian Industries had published a code entitled "Desirable
Code of Corporate Governance" and was encouraged to note that some of the
forward looking companies have already reviewed or are in the process of
reviewing their board structures and have also reported in their 1998-99 annual
reports the extent to which they have complied with the Code. The Committee
however felt that under Indian conditions a statutory rather than a voluntary
code would be far more purposive and meaningful, at least in respect of
essential features of corporate governance.

1.7 The Committee however recognized that a system of control should not so
hamstring the companies so as to impede their ability to compete in the market
place. The Committee believes that the recommendations made in this report
mark an important step forward and if accepted and followed by the industry,
they would raise the standards in corporate governance, strengthen the unitary
board system, significantly increase its effectiveness and ultimately serve the

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objective of maximizing shareholder value.

The Constitution of the Committee and the Setting for the Report

2.1 There are some Indian companies, which have voluntarily established high
standards of corporate governance, but there are many more, whose practices
are a matter of concern. There is also an increasing concern about standards of
financial reporting and accountability, especially after losses suffered by
investors and lenders in the recent past, which could have been avoided, with
better and more transparent reporting practices. Investors have suffered on
account of unscrupulous management of the companies, which have raised
capital from the market at high valuations and have performed much worse than
the past reported figures, leave alone the future projections at the time of raising
money. Another example of bad governance has been the allotment of
promoter’s shares, on preferential basis at preferential prices, disproportionate
to market valuation of shares, leading to further dilution of wealth of minority
shareholders. This practice has however since been contained.

2.2 There are also many companies, which are not paying adequate attention to
the basic procedures for shareholders’ service; for example, many of these
companies do not pay adequate attention to redress investors’ grievances such
as delay in transfer of shares, delay in despatch of share certificates and
dividend warrants and non-receipt of dividend warrants; companies also do not
pay sufficient attention to timely dissemination of information to investors as
also to the quality of such information. SEBI has been regularly receiving large
number of investor complaints on these matters. While enough laws exist to
take care of many of these investor grievances, the implementation and
inadequacy of penal provisions have left a lot to be desired.

2.3 Corporate governance is considered an important instrument of investor


protection, and it is therefore a priority on SEBI’s agenda. To further improve
the level of corporate governance, need was felt for a comprehensive approach
at this stage of development of the capital market, to accelerate the adoption of
globally acceptable practices of corporate governance. This would ensure that

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the Indian investors are in no way less informed and protected as compared to
their counterparts in the best-developed capital markets and economies of the
world.

2.4 Securities market regulators in almost all developed and emerging markets
have for sometime been concerned about the importance of the subject and of
the need to raise the standards of corporate governance. The financial crisis in
the Asian markets in the recent past have highlighted the need for improved
level of corporate governance and the lack of it in certain countries have been
mentioned as one of the causes of the crisis. Indeed corporate governance has
been a widely discussed topic at the recent meetings of the International
Organisation of Securities Commissions (IOSCO). Besides in an environment in
which emerging markets increasingly compete for global capital, it is evident
that global capital will flow to markets which are better regulated and observe
higher standards of transparency, efficiency and integrity. Raising standards of
corporate governance is therefore also extremely relevant in this context.

2.5 In the above mentioned context, the Securities and Exchange Board of
India (SEBI) appointed the Committee on Corporate Governance on May 7,
1999 under the Chairmanship of Shri Kumar Mangalam Birla, member SEBI
Board, to promote and raise the standards of Corporate Governance. The
Committee’s membership is given in Annexure 1 and the detailed terms of the
reference are as follows:

a. to suggest suitable amendments to the listing agreement executed


by the stock exchanges with the companies and any other measures
to improve the standards of corporate governance in the listed
companies, in areas such as continuous disclosure of material
information, both financial and non-financial, manner and
frequency of such disclosures, responsibilities of independent and
outside directors;
b. to draft a code of corporate best practices; and
c. to suggest safeguards to be instituted within the companies to deal
with insider information and insider trading.

2.6 A number of reports and codes on the subject have already been published
internationally – notable among them are the Report of the Cadbury Committee,
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the Report of the Greenbury Committee, the Combined Code of the London
Stock Exchange, the OECD Code on Corporate Governance and The Blue
Ribbon Committee on Corporate Governance in the US. In India, the CII has
published a Code of Corporate Governance. In preparing this report, while the

Committee drew upon these documents to the extent appropriate, the primary
objective of the Committee was to view corporate governance from the
perspective of the investors and shareholders and to prepare a Code to suit the
Indian corporate environment, as corporate governance frameworks are not
exportable. The Committee also took note of the various steps already taken by
SEBI for strengthening corporate governance, some of which are:

• strengthening of disclosure norms for Initial Public Offers following the


recommendations of the Committee set up by SEBI under the
Chairmanship of Shri Y H Malegam;
• providing information in directors’ reports for utilisation of funds and
variation between projected and actual use of funds according to the
requirements of the Companies Act; inclusion of cash flow and funds
flow statement in annual reports ;
• declaration of quarterly results;
• mandatory appointment of compliance officer for monitoring the share
transfer process and ensuring compliance with various rules and
regulations;
• timely disclosure of material and price sensitive information including
details of all material events having a bearing on the performance of the
company;
• despatch of one copy of complete balance sheet to every household and
abridged balance sheet to all shareholders;
• issue of guidelines for preferential allotment at market related prices; and
• issue of regulations providing for a fair and transparent framework for
takeovers and substantial acquisitions.

2.7 The Committee has identified the three key constituents of corporate
governance as the Shareholders, the Board of Directors and the Management
and has attempted to identify in respect of each of these constituents, their roles
and responsibilities as also their rights in the context of good corporate
governance. Fundamental to this examination and permeating throughout this
exercise is the recognition of the three key aspects of corporate governance,

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namely; accountability, transparency and equality of treatment for all


stakeholders.

2.8 Adequate financial reporting and disclosure are the corner stones of good
corporate governance. These demand the existence and implementation of
proper accounting standards and disclosure requirements. A separate committee
appointed by SEBI under the Chairmanship of Shri Y. H. Malegam (who is also
a member of this Committee) is examining these issues on a continuing basis.
This Committee has advised that while in most areas, accounting standards in
India are comparable with International Accounting Standards both in terms of
coverage and content, there are a few areas where additional standards need to
be introduced in India on an urgent basis. These matters are discussed in greater
detail in para 12.1 of this report.

2.9 The Committee’s draft report was made public through the media and also
put on the web site of SEBI for comments. The report was also sent to the
Chambers of Commerce, financial institutions, stock exchanges, investor
associations, the Association of Merchant Bankers of India, Association of
Mutual funds of India, The Institute of Chartered Accountants of India, Institute
of Company Secretaries of India, academicians, experts and eminent
personalities in the Indian capital market, foreign investors. A copy of the draft
report was also sent to Sir Adrian Cadbury who had chaired the Cadbury
Committee on Corporate Governance set up by the London Stock Exchange, the
Financial Reporting Council and the Accountancy Bodies in the U. K. in 1991.

2.10 The Committee puts on record its appreciation of the valuable inputs and
painstaking efforts of Shri Anup Srivastava, Vice-President Corporate Strategy
and Business Development of the Aditya Birla Group, Shri P K Bindlish,
Division Chief, SEBI, Shri Umesh Kumar, and other officers of the SMDRP
department of SEBI, in the preparation of this report.

The Recommendations of the Committee

3.1 This Report is the first formal and comprehensive attempt to evolve a Code
of Corporate Governance, in the context of prevailing conditions of governance
in Indian companies, as well as the state of capital markets. While making the

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recommendations the Committee has been mindful that any code of Corporate
Governance must be dynamic, evolving and should change with changing
context and times. It would therefore be necessary that this code also is

reviewed from time to time, keeping pace with the changing expectations of the
investors, shareholders, and other stakeholders and with increasing
sophistication achieved in capital markets.

Corporate Governance –the Objective

4.1 Corporate governance has several claimants –shareholders and other


stakeholders - which include suppliers, customers, creditors, the bankers, the
employees of the company, the government and the society at large. This Report
on Corporate Governance has been prepared by the Committee for SEBI,
keeping in view primarily the interests of a particular class of stakeholders,
namely, the shareholders, who together with the investors form the principal
constituency of SEBI while not ignoring the needs of other stakeholders.

4.2 The Committee therefore agreed that the fundamental objective of


corporate governance is the "enhancement of shareholder value, keeping in
view the interests of other stakeholder". This definition harmonises the need for
a company to strike a balance at all times between the need to enhance
shareholders’ wealth whilst not in any way being detrimental to the interests of
the other stakeholders in the company.

4.3 In the opinion of the Committee, the imperative for corporate governance
lies not merely in drafting a code of corporate governance, but in practising it.
Even now, some companies are following exemplary practices, without the
existence of formal guidelines on this subject. Structures and rules are important
because they provide a framework, which will encourage and enforce good
governance; but alone, these cannot raise the standards of corporate governance.
What counts is the way in which these are put to use. The Committee is thus of
the firm view, that the best results would be achieved when the companies begin
to treat the code not as a mere structure, but as a way of life.

4.4 It follows that the real onus of achieving the desired level of corporate
governance, lies in the proactive initiatives taken by the companies themselves

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and not in the external measures like breadth and depth of a code or stringency
of enforcement of norms. The extent of discipline, transparency and fairness,

and the willingness shown by the companies themselves in implementing the


Code, will be the crucial factor in achieving the desired confidence of
shareholders and other stakeholders and fulfilling the goals of the company.

Applicability of the Recommendations

Mandatory and non mandatory recommendations

5.1 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.

5.2 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 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.

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Applicability

5.3 The Committee is of the opinion that the recommendations should be made
applicable to the listed companies, their directors, management, employees and
professionals associated with such companies, in accordance with the time table
proposed in the schedule given later in this section. Compliance with the code
should be both in letter and spirit and should always be in a manner that gives
precedence to substance over form. The ultimate responsibility for putting the
recommendations into practice lies directly with the board of directors and the
management of the company.

5.4 The recommendations will apply to all the listed private and public sector
companies, in accordance with the schedule of implementation. As for listed
entities, which are not companies, but body corporates (e.g. private and public
sector banks, financial institutions, insurance companies etc.) incorporated
under other statutes, the recommendations will apply to the extent that they do
not violate their respective statutes, and guidelines or directives issued by the
relevant regulatory authorities.

Board of Directors

6.1 The board of a company provides leadership and strategic guidance,


objective judgement independent of management to the company and exercises
control over the company, while remaining at all times accountable to the
shareholders. The measure of the board is not simply whether it fulfils its legal
requirements but more importantly, the board’s attitude and the manner it
translates its awareness and understanding of its responsibilities. An effective
corporate governance system is one, which allows the board to perform these
dual functions efficiently. The board of directors of a company, thus directs and
controls the management of a company and is accountable to the shareholders.

6.2 The board directs the company, by formulating and reviewing company’s
policies, strategies, major plans of action, risk policy, annual budgets and
business plans, setting performance objectives, monitoring implementation and

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corporate performance, and overseeing major capital expenditures, acquisitions


and divestitures, change in financial control and compliance with applicable

laws, taking into account the interests of stakeholders. It controls the company
and its management by laying down the code of conduct, overseeing the process
of disclosure and communications, ensuring that appropriate systems for
financial control and reporting and monitoring risk are in place, evaluating the
performance of management, chief executive, executive directors and providing
checks and balances to reduce potential conflict between the specific interests of
management and the wider interests of the company and shareholders including
misuse of corporate assets and abuse in related party transactions. It is
accountable to the shareholders for creating, protecting and enhancing wealth
and resources for the company, and reporting to them on the performance in a
timely and transparent manner. However, it is not involved in day-to-day
management of the company, which is the responsibility of the management.

Composition of the Board of Directors

6.3 The Committee is of the view that the composition of the board of directors
is critical to the independent functioning of the board. There is a significant
body of literature on corporate governance, which has guided the composition,
structure and responsibilities of the board. The Committee took note of this
while framing its recommendations on the structure and composition of the
board.
The composition of the board is important in as much as it determines the
ability of the board to collectively provide the leadership and ensures that no
one individual or a group is able to dominate the board. The executive directors
(like director-finance, director-personnel) are involved in the day to day
management of the companies; the non-executive directors bring external and
wider perspective and independence to the decision making. Till recently, it has
been the practice of most of the companies in India to fill the board with
representatives of the promoters of the company, and independent directors if
chosen were also handpicked thereby ceasing to be independent. This has
undergone a change and increasingly the boards comprise of following groups

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of directors - promoter director, (promoters being defined by the erstwhile


Malegam Committee), executive and non executive directors, a part of whom

are independent. A conscious distinction has been made by the Committee


between two classes of non-executive directors, namely, those who are
independent and those who are not.

Independent directors and the definition of independence

6.5 Among the non-executive directors are independent directors, who have a
key role in the entire mosaic of corporate governance. The Committee was of
the view that it was important that independence be suitably, correctly and
pragmatically defined, so that the definition itself does not become a constraint
in the choice of independent directors on the boards of companies. The
definition should bring out what in the view of the Committee is the touchstone
of independence, and which should be sufficiently broad and flexible. It was
agreed that "material pecuniary relationship which affects independence of a
director" should be the litmus test of independence and the board of the
company would exercise sufficient degree of maturity when left to itself, to
determine whether a director is independent or not. The Committee therefore
agreed on the following definition of "independence".Independent directors are
directors who apart from receiving director’s remuneration do not have any
other material pecuniary relationship or transactions with the company, its
promoters, its management or its subsidiaries, which in the judgement of the
board may affect their independence of judgement.Further, all pecuniary
relationships or transactions of the non-executive directors should be disclosed
in the annual report.

6.6 The Blue Riband Committee of the USA and other Committee reports have
laid considerable stress on the role of independent directors. The law however
does not make any distinction between the different categories of directors and
all directors are equally and collectively responsible in law for the board’s
actions and decisions. The Committee is of the view that the non-executive
directors, i.e. those who are independent and those who are not, help bring an
independent judgement to bear on board’s deliberations especially on issues of
strategy, performance, management of conflicts and standards of conduct. The

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Committee therefore lays emphasis on the calibre of the non-executive


directors, especially of the independent directors.

6.7 Good corporate governance dictates that the board be comprised of


individuals with certain personal characteristics and core competencies such as
recognition of the importance of the board’s tasks, integrity, a sense of
accountability, track record of achievements, and the ability to ask tough
questions. Besides, having financial literacy, experience, leadership qualities
and the ability to think strategically, the directors must show significant degree
of commitment to the company and devote adequate time for meeting,
preparation and attendance. The Committee is also of the view that it is
important that adequate compensation package be given to the non-executive
independent directors so that these positions become sufficiently financially
attractive to attract talent and that the non executive directors are sufficiently
compensated for undertaking this work.

6.8 Independence of the board is critical to ensuring that the board fulfils its
oversight role objectively and holds the management accountable to the
shareholders. The Committee has, therefore, suggested the above definition of
independence, and the following structure and composition of the board and of
the committees of the board.

6.9 The Committee recommends that the board of a company have an


optimum combination of executive and non-executive directors with not less
than fifty percent of the board comprising the non-executive directors. The
number of independent directors (independence being as defined in the
foregoing paragraph) would depend on the nature of the chairman of the board.
In case a company has a non-executive chairman, at least one-third of board
should comprise of independent directors and in case a company has an
executive chairman, at least half of board should be independent.

6.10 The tenure of office of the directors will be as prescribed in the


Companies Act.

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Chairman of the Board


7.1 The Committee believes that the role of Chairman is to ensure that the
board meetings are conducted in a manner which secures the effective
participation of all directors, executive and non-executive alike, and encourages
all to make an effective contribution, maintain a balance of power in the board,
make certain that all directors receive adequate information, well in time and
that the executive directors look beyond their executive duties and accept full
share of the responsibilities of governance. The Committee is of the view that
the Chairman’s role should in principle be different from that of the chief
executive, though the same individual may perform both roles.

7.2 Given the importance of Chairman’s role, the Committee recommends that
a non-executive Chairman should 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. This will enable him to discharge the responsibilities
effectively.

This is a non-mandatory recommendation.

Audit Committee

8.1 There are few words more reassuring to the investors and shareholders than
accountability. A system of good corporate governance promotes relationships
of accountability between the principal actors of sound financial reporting – the
board, the management and the auditor. It holds the management accountable to
the board and the board accountable to the shareholders. The audit committee’s
role flows directly from the board’s oversight function. It acts as a catalyst for
effective financial reporting.

8.2 The Committee is of the view that the need for having an audit committee
grows from the recognition of the audit committee’s position in the larger
mosaic of the governance process, as it relates to the oversight of financial
reporting.

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8.3 A proper and well functioning system exists therefore, when the three main
groups responsible for financial reporting – the board, the internal auditor and
the outside auditors – form the three-legged stool that supports responsible

financial disclosure and active and participatory oversight. The audit committee
has an important role to play in this process, since the audit committee is a sub-
group of the full board and hence the monitor of the process. Certainly, it is not
the role of the audit committee to prepare financial statements or engage in the
myriad of decisions relating to the preparation of those statements. The
committee’s job is clearly one of oversight and monitoring and in carrying out
this job it relies on senior financial management and the outside auditors.
However it is important to ensure that the boards function efficiently for if the
boards are dysfunctional, the audit committees will do no better. The
Committee believes that the progressive standards of governance applicable to
the full board should also be applicable to the audit committee.

8.4 The Committee therefore recommends that a qualified and independent


audit committee should be set up by the board of a company. This would go a
long way in enhancing the credibility of the financial disclosures of a company
and promoting transparency.

This is a mandatory recommendation.

8.5 The following recommendations of the Committee, regarding the


constitution, functions and procedures of audit committee would have to be
viewed in the above context. But just as there is no "one size fits all" for the
board when it comes to corporate governance, same is true for audit
committees. The Committee can thus only lay down some broad parameters,
within which each audit committee has to evolve its own guidelines.

Composition

8.6 The composition of the audit committee is based on the fundamental


premise of independence and expertise.

The Committee therefore recommends that

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• the audit committee should have minimum three members, all being non
executive directors, with the majority being independent, and with at least
one director having financial and accounting knowledge;

• the chairman of the committee should be an independent director;


• the chairman should be present at Annual General Meeting to answer
shareholder queries;
• the audit committee should invite such of the executives, as it considers
appropriate (and particularly the head of the finance function) to be
present at the meetings of the Committee but on occasions it may also
meet without the presence of any executives of the company. Finance
director and head of internal audit and when required, a representative of
the external auditor should be present as invitees for the meetings of the
audit committee;
• the Company Secretary should act as the secretary to the committee.

Frequency of meetings and quorum

8.7 The Committee recommends that to begin with the audit committee should
meet at least thrice a year. One meeting must be held before finalisation of
annual accounts and one necessarily every six months.
8.8 The quorum should be either two members or one-third of
the members of the audit committee, whichever is higher and
there should be a minimum of two independent directors.

Powers of the audit committee

8.9 Being a committee of the board, the audit committee derives its powers
from the authorisation of the board. The Committee recommends that such
powers should include powers:

• To investigate any activity within its terms of reference.

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• To seek information from any employee.


• To obtain outside legal or other professional advice.
• To secure attendance of outsiders with relevant expertise, if it considers
necessary.

Functions of the Audit Committee


8.10 As the audit committee acts as the bridge between the board, the statutory
auditors and internal auditors, the Committee recommends that its role should
include the following

• 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.
• Recommending the appointment and removal of external auditor, fixation
of audit fee and also approval for payment for any other services.
• Reviewing with management the annual financial statements before
submission to the board, focussing primarily on:
o Any changes in accounting policies and practices.
o Major accounting entries based on exercise of judgement by
management.
o Qualifications in draft audit report.
o Significant adjustments arising out of audit.
o The going concern assumption.
o Compliance with accounting standards
o Compliance with stock exchange and legal requirements
concerning financial statements.
o Any related party transactions i.e. transactions of the company of
material nature, with promoters or the management, their
subsidiaries or relatives etc. that may have potential conflict with
the interests of company at large.
• Reviewing with the management, external and internal auditors, the
adequacy of internal control systems.
• Reviewing the adequacy of internal audit function, including the structure
of the internal audit department, staffing and seniority of the official
heading the department, reporting structure, coverage and frequency of
internal audit.
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• Discussion with internal auditors of any significant findings and follow-


up thereon.
• Reviewing the findings of any internal investigations by the internal
auditors into matters where there is suspected fraud or irregularity or a
failure of internal control systems of a material nature and reporting the
matter to the board.
• Discussion with external auditors before the audit commences, of the
nature and scope of audit. Also post-audit discussion to ascertain any area
of concern.
• Reviewing the company’s financial and risk management policies.
• Looking into the reasons for substantial defaults in the payments to the
depositors, debenture holders, share holders (in case of non-payment of
declared dividends) and creditors.

Accounting Standards and Financial Reporting

9.1 Over time the financial reporting and accounting standards in India have
been upgraded. This however is an ongoing process and we have to move
speedily towards the adoption of international standards. This is particularly
important from the angle of corporate governance. The Committee took note of
the discussions of the SEBI Committee on Accounting Standards referred to
earlier and makes the following recommendations:

Consolidation of Accounts of subsidiaries companies should be required to


give consolidated accounts in respect of all its subsidiaries in which they hold
51 % or more of the share capital. The Committee was informed that SEBI was
already in dialogue with the Institute of Chartered Accountants of India to bring
about the changes in the Accounting Standard on consolidated financial
statements. The Institute of Chartered Accountants of India should be requested
to issue the Accounting Standards for consolidation expeditiously.

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Segment reporting where a company has multiple lines of business.

Equally in cases of companies with several businesses, it is important that


financial reporting in respect of each product segment should be available to
shareholders and the market to obtain a complete financial picture of the
company. The Committee was informed that SEBI was already in dialogue with
the Institute of Chartered Accountants of India to introduce the Accounting
Standard on segment reporting. The Institute of Chartered Accountants of India
has already issued an Exposure Draft on the subject and should be requested to
finalise this at an early date.

Disclosure and treatment of related party transactions.

This again is an important disclosure. The Committee was informed that the
Institute of Chartered Accountants of India had already issued an Exposure
Draft on the subject. The Committee recommends that the Institute of Chartered
Accountants of India should be requested to finalise this at the earliest. In the
interim, the Committee recommends the disclosures set out in Clause 7 of
Annexure-4

Treatment of deferred taxation

The treatment of deferred taxation and its appropriate disclosure has an


important bearing on the true and fair view of the financial status of the
company. The Committee recommends that the Institute of Chartered
Accountants of India be requested to issue a standard on deferred tax liability at
an early date.

Shareholders

10.1 The shareholders are the owners of the company and as such they have

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certain rights and responsibilities. But in reality companies cannot be managed


by shareholder referendum. The shareholders are not expected to assume

responsibility for the management of corporate affairs. A company’s


management must be able to take business decisions rapidly. The shareholders
have therefore to necessarily delegate many of their responsibilities as owners
of the company to the directors who then become responsible for corporate
strategy and operations. The implementation of this strategy is done by a
management team. This relationship therefore brings in the accountability of the
boards and the management to the shareholders of the company. A good
corporate framework is one that provides adequate avenues to the shareholders
for effective contribution in the governance of the company while insisting on a
high standard of corporate behaviour without getting involved in the day to day
functioning of the company.

Responsibilities of shareholders

10.2 The Committee believes that the General Body Meetings provide an
opportunity to the shareholders to address their concerns to the board of
directors and comment on and demand any explanation on the annual report or
on the overall functioning of the company. It is important that the shareholders
use the forum of general body meetings for ensuring that the company is being
properly stewarded for maximising the interests of the shareholders. This is
important especially in the Indian context. It follows from the above, that for
effective participation shareholders must maintain decorum during the General
Body Meetings.

10.3 The effectiveness of the board is determined by the quality of the directors
and the quality of the financial information is dependent to an extent on the
efficiency with which the auditors carry on their duties. The shareholders must
therefore show a greater degree of interest and involvement in the appointment
of the directors and the auditors. Indeed, they should demand complete
information about the directors before approving their directorship.

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10.4 The Committee recommends that in case of the appointment of a new


director or re-appointment of a director the shareholders must be provided with
the following information:

• A brief resume of the director;


• Nature of his expertise in specific functional areas; and
• Names of companies in which the person also holds the directorship and
the membership of Committees of the board.

This is a mandatory recommendation

Shareholders’ rights

10.5 The basic rights of the shareholders include right to transfer and
registration of shares, obtaining relevant information on the company on a
timely and regular basis, participating and voting in shareholder meetings,
electing members of the board and sharing in the residual profits of the
corporation.

10.6 The Committee therefore recommends that as shareholders have a right to


participate in, and be sufficiently informed on decisions concerning
fundamental corporate changes, they should not only be provided information
as under the Companies Act, but also in respect of other decisions relating to
material changes such as takeovers, sale of assets or divisions of the company
and changes in capital structure which will lead to change in control or may
result in certain shareholders obtaining control disproportionate to the equity
ownership.

10.7 The Committee recommends that information like quarterly results,


presentation made by companies to analysts may be put on company’s web-site
or may be sent in such a form so as to enable the stock exchange on which the
company is listed to put it on its own web-site.

This is a mandatory recommendation.

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10.8 The Committee recommends that the half-yearly declaration of financial


performance including summary of the significant events in last six-months,
should be sent to each household of shareholders.

10.9 A company must have appropriate systems in place which will enable the
shareholders to participate effectively and vote in the shareholders’ meetings.
The company should also keep the shareholders informed of the rules and
voting procedures, which govern the general shareholder meetings.

10.10 The annual general meetings of the company should not be deliberately
held at venues or the timing should not be such which makes it difficult for
most of the shareholders to attend. The company must also ensure that it is not
inconvenient or expensive for shareholders to cast their vote.

10.11 Currently, although the formality of holding the general meeting is gone
through, in actual practice only a small fraction of the shareholders of that
company do or can really participate therein. This virtually makes the concept
of corporate democracy illusory. It is imperative that this situation which has
lasted too long needs an early correction. In this context, for shareholders who
are unable to attend the meetings, there should be a requirement which will
enable them to vote by postal ballot for key decisions. A detailed list of the
matters which should require postal ballot is given in Annexure 3. This would
require changes in the Companies Act. The Committee was informed that SEBI
has already made recommendations in this regard to the Department of
Company Affairs.

10.12 The Committee recommends that a board committee under the


chairmanship of a non-executive director should be formed to specifically look
into the redressing of shareholder complaints like transfer of shares, non-receipt
of balance sheet, non-receipt of declared dividends etc. The Committee believes
that the formation of such a committee will help focus the attention of the
company on shareholders’ grievances and sensitise the management to redressal
of their grievances.

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10.13 The Committee further recommends that to expedite the process of share
transfers the board of the company should delegate the power of share transfer
to an officer, or a committee or to the registrar and share transfer agents. The
delegated authority should attend to share transfer formalities at least once in a
fortnight.

Institutional shareholders

10.14 Institutional shareholders have acquired large stakes in the equity share
capital of listed Indian companies. They have or are in the process of becoming
majority shareholders in many listed companies and own shares largely on
behalf of the retail investors. They thus have a special responsibility given the
weightage of their votes and have a bigger role to play in corporate governance
as retail investors look upon them for positive use of their voting rights.

10.15 Given the weight of their votes, the institutional shareholders can
effectively use their powers to influence the standards of corporate governance.
Practices elsewhere in the world have indicated that institutional shareholders
can sufficiently influence because of their collective stake, the policies of the
company so as to ensure that the company they have invested in, complies with
the corporate governance code in order to maximise shareholder value. What is
important in the view of the Committee is that, the institutional shareholders put
to good use their voting power

10.16 The Committee is of the view that the institutional shareholders

• Take active interest in the composition of the Board of Directors


• Be vigilant
• Maintain regular and systematic contact at senior level for exchange of
views on management, strategy, performance and the quality of
management.
• Ensure that voting intentions are translated into practice
• Evaluate the corporate governance performance of the company

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Suggested List Of Items To Be Included In The Report On Corporate


Governance In The Annual Report Of Companies

1. A brief statement on company’s philosophy on code of governance.


2. Board of Directors:

• Composition and category of directors for example promoter, executive,


non-executive, independent non-executive, nominee director, which
institution represented as Lender or as equity investor.
• Attendance of each director at the BoD meetings and the last AGM.
• Number of BoD meetings held, dates on which held.

3. Audit Committee.

• Brief description of terms of reference


• Composition, name of members and Chairperson
• Meetings and attendance during the year

4. Remuneration Committee.

• Brief description of terms of reference


• Composition, name of members and Chairperson
• Attendance during the year
• Remuneration policy
• Details of remuneration to all the directors, as per format in main report.

5. Shareholders Committee.

• Name of non-executive director heading the committee


• Name and designation of compliance officer
• Number of shareholders complaints received so far
• Number not solved to the satisfaction of shareholders
• Number of pending share transfers

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6. General Body meetings.

• Location and time, where last three AGMs held.


• Whether special resolutions
o Were put through postal ballot last year, details of voting pattern
o Person who conducted the postal ballot exercise
o Are proposed to be conducted through postal ballot
o Procedure for postal ballot

7. Disclosures.

• Disclosures on materially significant related party transactions i.e.


transactions of the company of material nature, with its promoters, the
directors or the management, their subsidiaries or relatives etc. that may
have potential conflict with the interests of company at large.
• Details of non-compliance by the company, penalties, strictures imposed
on the company by Stock Exchange or SEBI or any statutory authority,
on any matter related to capital markets, during the last three years.

8. Means of communication.

• Half-yearly report sent to each household of shareholders.


• Quarterly results
o Which newspapers normally published in.
o Any website, where displayed
o Whether it also displays official news releases; and
o The presentations made to institutional investors or to the analysts.

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THE CORRUPTION IN CORPORATE GOVERNANCE

(Address in ASCI Conference on 'Governance in Banking and Finance' at


Mumbai on 14.06.99,)

N. Vittal, Central Vigilance Commissioner

1) Corporate governance has been attracting a lot of attention and debate in the
last few years. As I see it, this is directly related to the increasing pace of
globalisation and investments made in emerging markets by foreign investing
institutions. The collapse of South East Asian countries' economies from mid-
1997 brought home the fact that when as a process of globalisation, investment
takes place in foreign countries, investing institutions want to be sure that
enterprises in which they invest are not only managed competently but also
ethically. Corporate governance represents the ethical framework in which
management decisions are taken.

2)At another level corporate governance is viewed as a method of ensuring that


shareholder value is enhanced. After all the investors are interested in seeing
that their returns are enhanced through better market capitalisation. This process
of enhancement of shareholder value probably is facilitated if there is greater
transparency and hence the whole focus on norms about disclosures and so on.
In other words, we go back to the fundamental issue that when we talk of
investment in enterprises and particularly in the banking and financial sector,
trust is of utmost value. After all, the whole business is based on trust. The
element of trust is an important input in assessment of risks involved in any
enterprise. The element of trust becomes vital as greater the trust, greater also
will be willingness to risk larger investments. While at one level investment
decisions in business enterprises involve the hard headed and hard-nosed
accountant's approach in terms of costs and return on investment, when the
really critical investment decisions are taken, the softer non-financial aspects of
trust and assessment of risk become significant. We can therefore see the close
relationship between the need for corporate governance and the measures for
transparency and other structural arrangements to instil a sense of confidence in
investment decisions.

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3) Where does corruption come in corporate governance? Corruption as we


know is basically an aberration. Corruption is basically dishonesty. When we
talk about corruption in corporate governance, we are referring to the corrupt
practices, which go to harm the interests of the shareholder and stakeholders.
The management of enterprises, which come in the way of corporate
governance, becomes relevant in his context. Perhaps we can simplify the whole
concept of corruption in corporate governance by saying that if we are able to
make an enterprise work in a transparent and honest manner, to that extent,
automatically there will be less corruption. If there is less corruption,
automatically there will be good corporate governance. After all, corruption
flourishes if there is no transparency. In fact, the well-known anti-corruption
NGO in Germany is called Transparency International. We can look at the issue
of governance in the banking and financial sectors from two different angles.
The first is the straightforward issue of corruption in these sectors and the basic
assumption that if corruption can be checked in these sectors, automatically
corporate governance will improve. Of course, corporate governance has its
own significance in terms of increasing the element of trust attracting
investment, enhancing shareholder value and also protecting interests of the
stakeholders. This apparently also has the focus on transparency as a method of
building trust and the steps taken to combat the likelihood of lack of
transparency in the banking and financial sector may also be studied. This is the
second aspect.

4)We may begin with the first aspect of corruption in the banking and financial
sector. Ever since I became the Central Vigilance Commissioner, I have been
trying to understand the roots and the dynamics of corruption and explore what
should be done to tackle the issue of corruption? Basically, the level of
corruption in any organisation depends on three aspects. The first is the
individual executive's sense of values. This goes back to the values inculcated in
the individual due to his family background, religion, upbringing and so on.
That is why we find that there are corrupt people among those who are earning
substantially and who are very rich and there are honest people who are poor

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and who are not tempted. This goes back to the basic issue of the values of the
individual. Social norms are the second important factor in deciding the level of
corruption. In our country, today there is no shame in being corrupt. In fact, it is
the honest person who has to worry and justify why he is honest in many of our
organisations. The social norms depend upon the prevailing values in a society.
These can be modified by a process of intensive education. There have been
successful cases where systematic efforts have been made to turn round
societies and make them less corrupt. Two classic examples are Singapore
under Lee Kwan Yew. The second is Hongkong after 1974, thanks to the
Independent Commission Against Corruption (ICAC) which is celebrating its
silver jubilee this year. In both cases, starting with a base where the corruption
was rampant, effective measures have been taken to bring a healthy respect for
honesty and create cleaner societies. We must be able to emulate this experience
in our country. The third important aspect determining the level of corruption is
the system, which includes rules, laws, procedures and administrative set up. In
our country, our system itself encourages corruption because of the following
factors -

• Scarcity of goods and services


• Red tape and delay
• Lack of Transparency
• Cushions of safety we have built by way of elaborate procedures to
ensure that while 100 guilty people may escape, one innocent should not
suffer
• Tribalism or biradri among the corrupt who protect each other. After all
"thick as thieves" is an expression, which is well known. There is no
expression like "thick as honest people".

5) So, if we want to tackle corruption therefore, we will have to address each of


these weaknesses in our system and remove the same. After becoming the
Central Vigilance Commissioner on 3.9.98, I have been systematically trying to
handle this whole issue of corruption as anybody would handle Malaria. Malaria
can be treated by giving medicine to affected individuals. Alternatively we can
take action to prevent the breeding of mosquitoes. There are stagnant pools in

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our system, which breeds the corruption mosquitoes, and this is what I am
trying to tackle. Under the powers vested in me under Section 8 of the Central
Vigilance Commission Ordinance, I have initiated orders to ban post tender
negotiations except with L1, and also insist on computerisation of banks at least
to the extent of 70% of their business by 1.1.2001. Incidentally Section 8 of the
Ordinance gives the following powers to the Central Vigilance Commissioner.

The functions and power of the Commission shall be to

a. exercise superintendence over the functioning of the Delhi Special Police


Establishment in so far as it relates to the investigation of offences
alleged to have been committed under the Prevention of Corruption Act
1988;
b. inquire or cause an inquiry or investigation to be made on a reference
made by the Central Government wherein it is alleged that a public
servant being an employee of the Central Government or a corporation
established by or under any Central Act, Government Company, Society
and any local authority owned or controlled by that Government, has
committed an offence under the Prevention of Corruption Act 1988;
c. inquire or cause an inquiry or investigation to be made into any complaint
against any official belonging to such category of officials specified in
sub-section (3) wherein it is alleged that he has committed an offence
under the Prevention of Corruption Act 1988;
d. review the progress of investigations conducted by the Delhi Special
Police Establishment into offences alleged to have been committed under
the Prevention of Corruption Act 1988;
e. review the progress of applications pending with the competent
authorities for sanction of prosecution under the Prevention of Corruption
Act 1988;
f. tender advice to the Central Government, corporations established by or
under any Central Act, Government Companies, societies and local
authorities owned or controlled by the Central Government on such
matters as may be referred to it by that Government, said Government
companies, societies and local authorities owned or controlled by the
Central Government or otherwise;

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g. exercise superintendence over the vigilance administration of the various


Ministries of the Central Government or corporations established by or
under any Central Act, Government companies, societies, local
authorities owned or controlled by that Government.

The persons referred to in clause ( c ) of sub-section (l) are as follows:-

a. Group "A" Officers of the Central Government


b. Such level officers of the corporations established by or under any
Central Act, Government companies, societies and other local authorities,
owned or controlled by the Central Government, as that Government
may, by notification in the Official Gazette, specify in this behalf.

Provided that till such time a notification is issued under this clause, all officers
of the said corporations, companies, societies and local authorities shall be
deemed to be the persons referred to in clause ( c ) of sub-section (l).

6) While there are five causes for corruption in our system, there are four key
players in our corruption scene in the country. These are the neta (the corrupt
politician), the babu (the corrupt bureaucrat), the lala (the corrupt businessman)
and the dada (the criminal), who have combined together in different
formulations, permutations and combinations. They have made our country one
of the most corrupt countries in the world. We will therefore have to tackle
these players and for this we will have to look at the psychology which breeds
corruption

7) So with empowered public who is informed about transparent practices in


government, we should be able to bring in better check over corruption.
Nevertheless there is still one sticking point. There should be effective
punishment of the corrupt people. Today in our system only three things are
effective. The first is the "Bhramastra" of the judiciary called contempt of court.
Court orders can be appealed against and there can be endless litigation. But
once a contempt of court order is issued, everyone knows they have to obey it
because otherwise they will have to spend time in jail. The second are the
criminals who are able to impose their will by using sheer violence and
terrorism. The third effective lubricant in our system is bribe. Many offices have

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a notorious reputation for corruption. It is only the grease, which probably


makes the wheels of the various institutions move. And it is this we have to
fight against.

8) The Chairman of the Law Commission, Justice Jeevan Reddy has drafted an
act the Corrupt Public Servants (Forfeiture of Property) Act 1998. I have sent
this to the government with the request to enact such a law as urgently as
possible. Under this law the CVC will be empowered to confiscate ill-gotten
wealth of the corrupt public servants. There may still be a doubt that after all
today also laws that are not effective. How can the CVC be effective even with
the above law? The best method is that the CVC can issue a seizure order
against which I understand there can be no stay and then start the process of the
whole investigation and show cause notices etc. In this way, the corrupt person
will be effectively prevented from enjoying and using his ill-gotten wealth itself
to engage the best legal brains and escape punishment.

9) It was brought to my notice that there is another law The Benami


Transaction Prohibitions Act 1988. I have requested the government to
empower the CVC under this act. You will be interested to know that even
thought the act was passed in 1988 and it provides for confiscation of benami
properties as per rules prescribed, in the last ten years, no rules have been
prescribed at all. I have therefore requested government for an urgent decision
on this issue.

10) It will thus be seen that if the CVC is empowered and we are able to bring
an atmosphere in this country by which corruption will not be tolerated and the
people are empowered, then by going in for confiscation of the ill-gotten
wealth, we must be able to make the corrupt people in this country realise that
corruption is a high risk business. Hopefully, corruption may then come under
control.

11)Coming specifically to the banking sector, the CVC has issued specific
orders which may be seen the Instructions. They are designed to ensure that
there is greater transparency introduced in the system. Exchanging information

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about willful defaulters and system improvement by going in for massive


computerization are examples of this type. An equally important aspect in
ensuring better corporate governance in the banking sector is encouraging

honest people and punishing simultaneously the dishonest people. The entire
exercise launched to have a separate chapter on the banking in the vigilance
manual, which has come into force from 1st January 1999, is based on this
healthy principle. The chapter has been drafted taking into account the inputs
from the Indian Banks' Association, Reserve Bank of India, Central Vigilance
Commission and the Central Bureau of Investigation. I hope that this will go a
long way in nurturing a culture of honesty in our banks and indirectly help in
better corporate governance.

12)The second aspect of corruption in corporate governance relates to


transparency and improving the ethical level by organisations systems and
procedures. Recently, the Khan Committee had also gone into the issue of better
corporate governance. UTI has also been trying to look into this aspect. In this
context the observations made by Shri Swaminathan in the 'Hindu' dated the 21st
of April 1999 seem to be relevant.

13) As in the banking and financial sector we are concerned with the financing
of corporates. The banks have to particularly ensure that they don't finance
corporates or enterprises, which are having poor corporate governance. So, in
the case of the banks, therefore, not only is there an internal corporate
governance ensuring shareholder value enhancement becoming important, but
also an alertness to ensure that they are able to force better corporate
governance in the enterprises, which are funded by them, becomes equally
necessary to ensure that the corporate governance in the banking and financial
sector does not become corrupt.

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CASE STUDY:-

HDFC BANK CORPORATE GOVERNANCE INITIATIVES

The bank believes in adopting and adhering to the best recognized corporate
governance practices and continuously benchmarking itself against each such
practice. The bank understands and respects its fiduciary role and responsibility
to shareholders and strives hard to meet their expectations. The bank believes
the best board practices, transparent disclosures and shareholder empowerment
are necessary for creating shareholder value.

The bank has infused the philosophy of corporate governance into all its
activities. The philosophy on corporate governance is an important tool for
shareholder protection and maximization of their long term value. The cardinal
principals such as independence, accountability, responsibility, transparency,
fair and timely disclosures, credibility etc. serve as the means for implementing,
the philosophy of corporate governance In letter and spirit.

The code of ethics/conducts intends to ensure adherence to highest business and


ethical standards while conducting the business of the bank and compliance
with the legel and regulatory requirements, including the compliance of the
section 406 of the Sarbanes-Oxlety Act of 2002 and the rules and regulations
framed there under by the Securities and Exchange Commission of USA and
other statutory and regulatory authorities in India and USA. The bank values the
ethical business standard very highly and intends adherence thereto in every
segment of the business.

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ONE POSSIBLE SOLUTION:-

1) Banks have an overwhelming dominant position in developing economy


financial systems and are extremely importance engines of economic
growth.

2) As financial markets are usually underdeveloped banks in developing


economies are typically the most important source of finance of majority
of the firms.

3) As well as providing a generally accepted means of payment, banks in


developing countries are usually the main depository for the economy’s
savings.

4) Many developing economies have recently liberalized their banking


system through privatization disinvestment and reducing the role of
economies regulation. Consequently, managers of banks’ in these
economies have obtains greater freedom in how they run their banks.

5) Due to the unique nature of the banking firms, whether in the developing
or developed world, requires that the board view of corporate governance,
which encapsulates both shareholder and depositors, to be adopted for
banks’. In particularly, the nature of banking firm is such that regulation
is necessary to protect depositors as well as the overall financial system.

6) The separation of ownership and control has given rise to agency problem
whereby management operate the firm in their own interest, not those of
shareholders.

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CONCLUSION

Corporate governance plays a highly significant role in banks.


It is seen that the corporate governance revolves around the enhancing value,
accountability at all levels; transparent and enhancing the image of the
organization would be the major ingredients of good corporate governance.
After Globalisation and financial sector reforms, corporate governance has been
receiving a lot of attention in the banking sector.

Banks in a broad sense, are institutions whose business is


handling other peoples money. A joint stock bank also known as the
commercial bank, is a company whose business is banking. There are more
particularly institutions that deal directly with the general public, a opposed to
the merchant and other institutions more with trade and industry. These banks
specialize in business connected with Bills of Exchange, especially the
acceptance of foreign bills. A Merchant banker is thus a financial intermediary
who helps in transferring capital from those who possess it to those who need it.
Merchant banking includes wide range of activities management of customer
securities, portfolio management project and counseling and appraisal,
underwriting of shares and debentures, acting as banker for refund order,
handling interest and dividend warrants etc. Thus, a merchant banker renders a
host of services to corporate and promotes industrial development in the
country.

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Sometimes banks are setup to handle some specialized


functions for particular industries such as the IDBI (Industrial Development
Bank of India) , NABARD ( National Bank for Agricultural and Rural
Development ) and EXIM Bank ( Export Import Bank ).

There has been a great deal of attention given recently to


the issue of corporate governance in various national and international forums.
In particular, the OECD has issued set of corporate governance standards and
guidelines to help

Government in their efforts to evaluate and improve the


legal institutional and regulatory framework for corporate governance in their
countries and to provide guidance and suggestion for stock exchanges,
investors, corporations and other parties that have a role in the process of
developing good corporate governance.

“Profits cannot earn by hook or Crook cannot be the sole criteria for judging the
success of the business. The success of liberalization requires a steady
development of a new corporate ethic.”

AB Vajpayee ( former Prime Minister of India )