Professional Documents
Culture Documents
1.study On Corporate Governance in Indian Banking Sector
1.study On Corporate Governance in Indian Banking Sector
GOVERNANCE IN INDIAN
BANKING SECTOR
By
Pushkar GUPTA
2007 – 2008
1
ACKNOWLEDGEMENTS
My sincere appreciation is extended to many people who helped and supported me through
this dissertation.
First and Foremost, I would like to thank Professor David Owen for his invaluable advice and
comments. Without his support this study would not have been possible.
I would also like to thank the interview participants for their sincere feedback and
suggestions.
Last but not the least; I would like to thank my parents for always being there for me. They
have constantly guided and encouraged me through this study.
2
ABSTRACT
Corporate Governance has fast emerged as a benchmark for judging corporate excellence in
the context of national and international business practices. From guidelines and desirable
code of conduct some decade ago, corporate governance is now recognized as a paradigm for
improving competitiveness and enhancing efficiency and thus improving investors’
confidence and accessing capital, both domestic as well as foreign. What is important is that
corporate governance has become a dynamic concept and not static one.
Banks form a crucial link in a country’s financial system and their well-being is imperative
for the economy. The significant transformation of the banking industry in India is clearly
evident from the changes that have occurred in the financial markets, institutions and
products. While deregulation has opened up new vistas for banks to augment revenues, it has
entailed greater competition and consequently greater risks. Cross-border flows and the entry
of new products have significantly influenced the domestic banking sector, forcing banks to
adjust the product mix, as also to effect rapid changes in their processes and operations in
order to remain competitive in the globalized environment. These developments have
facilitated greater choices for consumers who have become more discerning and demanding
compelling banks to offer a broader range of products through diverse distribution channels.
In such scenario, implementation of good corporate governance practices in banks can ensure
them to cope with the changing environment. Today’s corporate governance means to do
everything better and provides for risk assessment, risk cover, early warning systems against
failure as well as prompt corrective action.
This research examines the practices of corporate governance attributes in banking sector and
how they adhere to corporate governance practices. The results of this research indicate the
practice of corporate governance is at nascent stage although corporate governance practices
by Indian Banking Sector is more than a decade. Both private and public sector banks are
adhering to mandatory requirements of corporate governance attributes as a result it is
bringing more transparency and minimizing the chances of fraud and malpractices. However,
hope is looming large for the proper implementation of corporate governance principles in
Indian Banking Sector.
3
TABLE OF CONTENTS
Chapters Page
1. INTRODUCTION
Introduction… 1
Background of the Research….........................................................................................................5
Need of Corporate Governance........................................................................................................8
Research Objectives..........................................................................................................................9
Research Questions9
Scope of the Research….................................................................................................................10
1.5 Organization of the Research…......................................................................10
2. LITERATURE REVIEW
Introduction… 11
Corporate Governance: Definitions................................................................................................11
History of Corporate Governance in India......................................................................................12
Governance in Banks......................................................................................................................17
Role of Governance in Banks.........................................................................................................21
Areas of Concern: Ownership….......................................................................22
Composition of Board….................................................................................................................23
Governance through Committees...................................................................................................24
Critical Analysis of Literature.........................................................................................................25
3. METHODOLOGY
Introduction… 27
Research Approach….....................................................................................................................27
The Research Method….................................................................................................................28
Research Design… 30
Reliability and Validity of the Research….....................................................................................31
Limitations of the Research…........................................................................................................31
4
4. ANALYSIS AND INTERPRETATION
Introduction… 32
Analysis from secondary Research….............................................................................................32
Analysis of Primary Research….....................................................................................................51
5. CONCLUSION............................................................................................................66
6. REFERENCE LIST.....................................................................................................70
7. APPENDIX
5
CHAPTER-1
Introduction
The subject of corporate governance has attracted worldwide attention with a series of
collapse of high profile companies like Enron, WorldCom, HIH insurance group etc. These
failures have shattered the trust of investors worldwide. Some of the scandals which made
headlines all around the world were somewhere related to poor corporate governance. These
include the $18 billion meltdown of Parmalat Finanziaria, SpA in 2003. Parmalat was among
the largest food-based companies in the world .The Parmalat case was one of the biggest
scandals to hit Europe and many analysts called this fraud as 'Europe's Enron'. The
company’s corporate governance structure could not keep up to some of the key existing
Italian corporate governance standards of best practice (Melis, 2004). Another classic
example of a corporate house collapsing due to poor decision making and weak corporate
governance was the HIH insurance group of Australia. This collapse resulted in a deficiency
up to $5.3 billion, “making it the largest corporate failure” in Australia (Lipton, 2003). The
collapse of the China Aviation Oil (CAO) also created certain doubts regarding the standard
of corporate governance in China. This collapse came at a time when many companies were
trying to get internationally listed and foreign investors were becoming more and more eager
to buy them out (Economist Intelligence Unit, 2004).
Poor corporate governance in banks is not a new subject. This inefficiency has been around
for a very long time. Since the beginning of Banking in Nigeria in 1914, almost “75 banks
were lost primarily because of factors related to poor corporate governance”. The banks did
not fail due to lack of customers but due to how they were managed and governed. According
to a study by the Nigerian Deposit Insurance Corporation, the main reason for these failures
was interference of board members (www.allafrica.com). Moreover, the recent subprime
crises highlighted many issues of corporate governance in banks world over. The main issue
was that of independent directors. For e.g., UBS, one of the world’s largest banks was among
the biggest losers in the subprime crisis. It suffered a loss of about $38 billion. As a result it
replaced four of its directors. The departing members included “three outsiders with
6
experience respectively in rail equipment, chemicals and information technology”. This
shows that banks should definitely use experts on their boards (Economic Times, 2008).
According to Zabihollah Rezaee (2005), there may be seven reasons behind these high profile
failings. These include lax regulations, overconfident and egoistic management, inappropriate
business conduct by top level management, deficiency of alert oversight functions,
unproductive audit functions, poor financial disclosures and negligent shareholders. The
above frauds adversely affect corporate governance, auditors’ creditability and the quality of
financial statements.
A good thing that came out of these corporate scandals was the global acceptance of the need
for necessary checks and balances. Worldwide, it has now become necessary for big
corporate houses to address the issue of corporate governance as investor demands fluctuate.
Responsibility, transparency, fairness and accountability are the four vital pillars for strong
corporate governance. Large and trusted companies across the globe realized the significance
of corporate governance and subsequently took drastic steps to ensure practice of corporate
governance. These days corporate governance is a reality which can’t be overlooked by any
financial institution who wants to be successful. There are a number of factors which force a
company to adhere to a set of corporate governance principles. These may include stern
regulators, vigilant and smart investing community, alert customers and the awareness among
companies to be good corporate citizens. Companies should ensure a constant flow of profits
but without crossing moral and ethical boundaries.
However, some bad experiences in the past have exposed the fact that big corporate houses
which have committed frauds have tacit support from banks. Questions have arisen thick and
fast as to how people entrusted with governance of these corporate/banks, had failed to detect
and stem the rot, before it was too late. Banks are constituted as companies under the
companies act and they should be concerned with good governance Corporate governance
has always been closely monitored by Asian regulators and this term has been a top priority
for them in recent times. This is happening because of the fact that most of the markets have
introduced a wide range of regulations. This particular research “Corporate Governance in
Indian Banking Sector” will try to unfold the cause and effect of governance principles on
banks. This research also studies the effectiveness of its so-called objectives to control the
misgovernance in Indian Corporate sector. Next, this research analyses the upcoming
evidence on which government policies improve the governance of banks and describes
tentative guidelines for future modification of its principles.
The corporate governance is therefore a systematic approach where the connective members,
management and employees are expected to cooperate in the decision making process of the
company. Based on some fundamental reasons, the corporate governance holds its premise
that the business should be conducted by the desires of shareholders. It identifies the
distribution of rights and responsibilities among a variety of stakeholders in the company. It
also briefly outlines the structure and process for judgment on matters related to the company
dealings. In the context of the above, the following are the broad objectives on which
corporate governance can be measured: i) Suggested model code of best practices, ii)
Preferred internal systems, iii) Recommended disclosure requirements, iv) Board members’
role, v) Independent director, vi) Key information to the board/committee, vii) Committees of
board, viii) Policies to be established by the board and ix) Monitoring performance. (Buxi,
2005)
As per Basel committee Report 1999, Banks have to display the exemplary of corporate
governance practices in their financial performance, transparency in the balance sheets and
compliance with other norms laid down by section 49 of corporate governance rules. Most
importantly, their annual report should disclose accounting ratios, relating to operating profit,
return on assets, business per employee, NPAs, maturity profile of loans, advances,
investments, borrowings and deposits. Similarly the audit reports of bank should highlight
those disclosures which are in line with corporate governance rules. Hence, auditors should
have the complete know how about all the features of the latest guidelines given by Reserve
Bank of India (RBI) and ensure that the financial statements are made in a fraud free manner
and should mirror the implementation of corporate governance. Apart from auditor’s
seriousness to bring those requirements appropriately in audit report, there should be
adequate internal control systems in the operational activities of banks. It is very much
essential for banks to devote adequate attention on internal control system so as to maximize
their returns on each unit of capital inducted through an effective funds management strategy
and mechanism. (Basel Committee Report, 1999)
Corporate governance has, of course, been an important subject of discussion since many
years. Scholars and researchers from finance fields have actively investigated the importance
and efficacy of corporate governance for at least a quarter of century (Jenson and Meckling,
1976). There have been intense brainstorming and debates over the practices of corporate
governance practices particularly in the developed nations. However, the effectiveness of
corporate governance practices in the developed nations tells an ironical story from the CG
(corporate governance) practices point of view. The volume of scandals and lack of
transparency in governance in the developed nations nullifies its true commitment to
governance practices compared to the developing world (Shleifer et al., 1997). Therefore,
much prior to the recent wave of corporate frauds in developed economies, corporate
governance has been a fundamental subject in emerging economies.
Korea
India
Philippines
Malaysia
Thailand
China
Indonesi
Singapor
Taiwa
CLSA/ACGA Country" Ranking Criteria
Hong
Kong
n
a
e
Rules and Regulations
Corporate governance has been on the top priority of Asian countries with most markets
introducing comprehensive regulations. Although it cannot be called a fully satisfied
accomplishment from the evidence of its achievements, but the ethos of corporate governance
is yet to come out fully. During the same period, the need for corporate governance was also
felt in line with the international trend. The first initiative for ensuring corporate governance
among Indian companies came from the corporate sector itself. The Confederation of Indian
Industry (CII) came up with the Code of Desirable Corporate Governance in 1998. Then the
Securities Exchange Commission of India (SEBI) which is the regulator of Indian financial
market, appointed 'Kumaramangalam Birla Corporate Governance Committee'. Most of the
recommendations made by the Committee were accepted and implemented by SEBI in the
year 2000.
Another important factor in banking industry in developing countries is that banks are mostly
owned by government. In such situation, banks are mostly guided by government bodies and
many laws based on stereotype procedures. The accountability idea is less apparent as the
concept of government job discourages the spirit of competition. The need for corporate
governance in developing, emerging and transitional economies not only arises from
resolving problems of ownership and control, but also from ensuring transparency in
achieving the desired goal of corporate governance. In many cases, developing and emerging
economies are beset with issues such as the lack of property rights, the abuse of minority
shareholders, contract violations, asset stripping and self-dealing.
Ownership pattern, regulatory environment, societal pressure (on the developmental role of
banks) and the broad structure would be the key elements in the design of a governance
framework of banking. While government ownership does provide core strength to banks, the
structural inefficiencies and lack of management autonomy appears to have weakened the
ability of our banks (Public sector) to compete effectively in the current market situation
(Ravisankar, 1999).
Banks and financial institutions have been making pivotal contributions over the years to
nation’s economic growth and development. Government-owned (Public Sector) banks have
played a major role in economic development. During the last few years, these institutions are
slowly getting “corporatized” and consequently corporate governance issues in banks
assumes greater significance in the coming years. Considering the importance of banking
sector the practice of corporate governance and how it helps banking industry in India in
terms of bringing more transparency and overall growth of banking sector. So the research
will identify the attributes of corporate governance and to what extent it is being implemented
in India’s banking sector.
Research Objectives
The research aims at studying the attributes of corporate governance in Indian banking sector.
The research maintains following objectives to study in this research:
▪ How the implementations of corporate governance attributes bring changes in banking
sector in terms of transparency and economic growth?
▪ Does the compliance with corporate governance attributes by banks ensure protection of
stakeholders’ (particularly, the shareholders') rights and interests?
▪ Can corporate governance be mandatory in banking sector so that curbing malpractices and
fraud can be minimized?
Research Questions
The proposed research will ask some fundamental questions on corporate governance in
banking sector and will try to identify how it helps banks to ensure transparency and growth.
The questions are:
▪ How the attributes of corporate governance help banking sector to create a situation, which
can minimize fraud/malpractices in financial matter in banking sector?
▪ Whether ownership pattern influences the effective governance and functioning of a bank?
▪ Does the declaration of corporate governance in annual report bring more transparency in
their business and how it pays in terms of business? Can it be mandatory in all sector of
banking?
▪ Does the proper implementation of corporate governance principles create more public trust
and acceptability of a bank as a result give boost to share price?
▪ Is there any difference in corporate governance practices between Private sector and Public
sector banks?
▪ To what extent Indian Banking sector has accepted/implemented corporate governance
principles compared to international norms?
▪ What are suggestions to banking industry in regards attributes of corporate governance?
Introduction
The term “Corporate Governance” which was rarely encountered before the 1990s has now
become an all-pervasive term in the recent decade. In today’s scenario this term has become
one of the most crucial and important concepts in the management of companies. The root of
corporate governance dates back to Adam Smith but its popularity is of recent origin. The
concept of corporate governance can be understood as “the system through which
shareholders are assured that their interest will be taken care of by management”. In a much
wider term, corporate governance was defined as “the methods by which suppliers of finance
control managers in order to ensure that their capital cannot be expropriated and that they
earn a return on their investment” (Parekh, 2003).
The literature on corporate governance in its wide subtext covers a variety of aspects, such as
protection of shareholder’s rights, improving shareholders’ value, board matters etc.
However, the importance of corporate governance in banking sector weighs very much due to
very nature of banking transactions. Banking is the crucial factor effecting economic
development of an economy. It is the life-blood of a country. It is responsible for the flow of
credit and for maintaining the financial balances of the economy. In India, since the
nationalization process banks emerged as a tool of economic development along with social
justice. Corporate Governance has become very important for banks to perform and remain in
competition in this era of liberalization and globalization.
According to the Economist and Noble Laureate Milton Friedman, “Corporate Governance is
to conduct the business in accordance with owners or shareholders’ desires, while
conforming to the basic rules of the society embodied in law and local customs”(Economic
Times, 2001). In nutshell, it can be said that corporate governance means doing everything
better to improve relationships between companies and their shareholders, to improve quality
of outside directors, to encourage people to think long-term and to ensure that information
needs of all stakeholders are met. The discussion on governance has been dated back more
than decade in different economies. Traveling through the pre-1992 American discussions on
disassociation of power and money (emanating from the Watergate Scandal), post-1992
Cadbury Report on governance codes and OECD principles (1998 & 1999), and corporate
governance has not yet settled at any universally accepted definition.
Blue Ribbon Committee was formed under the direction of the United States Securities and
Exchange Commission. It was constituted to develop recommendations to enable “audit
committees to function as the ultimate guardian of investors’ interests and corporate
accountability”. The committee recommended enclosing ‘Statement of Disclosure by Audit
Committee to the shareowners’, and certificate of Statutory Auditors regarding
Independence’. Euroshareholders Corporate Governance Guidelines 2000 are more specific
and detailed. It has given ten recommendations on disclosure of information in the annual
reports. It states that “a company should aim at maximizing shareholders value in the long
term. Companies should clearly state (in writing) their financial objectives as well as their
strategy, and should include these important ones in the Annual Report”. Some of the
important recommendations are: (1) Shareholder’s approval is required for major decisions
which can affect the standing of shareholders within the company. This approval is also
necessary for important decisions which may deeply affect the risk profile, organization, size
and the nature of the business. These decisions can also be approved by the AGM. (2) There
should be no bias involved in electing the auditors. The entire process of election should be
very transparent. Auditors should be independent and elected by the general meeting. (3)
Shareholders should be provided price sensitive information through regular as well as
electronic means.
Corporate governance has assumed great significance in India in the recent past. Despite the
Companies Act, 1956, outlining a structure for Corporate Governance, defining the board’s
authority and responsibility, and creating an arrangement of checks and balances with penalty
for breaking the law, a need was felt for a comprehensive code of corporate governance. In
India, the confederation of Indian Industry (CII) tried to fill in this gap by outlining a code of
corporate governance in April 1988 followed by the Ramakrishna Commission on PSU
corporate Governance and the recommendations of the Kumar Mangalam Birla Committee
on Corporate Governance in December 1999. CII’s code – Desirable Corporate Governance
in India- emphasized the frequency of board meetings, removal of Financial Institutions (FI)
from the management where shareholding is less than 10%, withdrawal of FI’s nominees
from the board of companies which are not defaulting in loan payment, transparency in credit
ratings of financial instruments, removal of restrictions on the takeover of companies and
debarring companies from accepting further deposits (CII Report, 2003).
A significant amount of research has been done on corporate governance practices in the
Indian context. Mukherjee (2002) argues that India has been moving closer to taking on an
Anglo-American (Anglo-Saxon) form of corporate governance. But the author questions the
usefulness of the Anglo-American model. She answers this question through an assessment
of the "development impact" of the new model as pointed out by measures such as growth,
employment and respect for shareholder rights. The results suggest that the Anglo-American
model is not very effective in meeting the objectives of the social system in India.
Rajesh Chakrabarti (2005) said that the problem of corporate in India is different from that of
the Anglo-Saxon environment. In India, the problem is the exploitation of minority
shareholders by the dominant shareholders, whereas in the Anglo-Saxon environment, it is
exploitation of shareholders by the managers. The author argues that in the Indian context,
the capital market is more capable of disciplining the majority shareholders than the
regulators. The regulator can just facilitate the market to ensure corporate governance. It
cannot enforce corporate governance effectively, since it involves micro-management.
Sarkar and Sarkar (2000) provided evidence on the role of large shareholders in monitoring
company value in the Indian context, whose corporate governance system is a hybrid one.
Similar to other studies, this study also found that after a definite level of block holdings by
directors the company value enhances. But it did not find any substantial proof that
institutional investors, normally mutual funds, are active in corporate governance. The
outcome advocates that lending institutions start supervising the corporation efficiently only
after the equity holding cross a considerable value and this supervision is reinforced by the
level of liability of these corporations. The study provides substantial proof that company
value is enhanced by foreign equity ownership. In general, the analysis supports the view
emerging from developed country studies that the Identity of large shareholders matters in
corporate governance.
The study by Mohanty (2003) suggests that companies with good corporate governance
measures are easily able to borrow money from financial institutions as compared to
companies with poor corporate governance measures. Moreover, there is evidence that
mutual funds have invested money in companies with a good corporate governance track
record as compared to companies with a poor CG track record. By making use of a
simultaneous equation approach, this study wraps up by saying that this positive relationship
is a result of the “mutual funds (development financial institutions) investing (lent money) in
companies with good governance records” and also because “their investments have helped
to enhance the financial performance of such companies” (Mohanty, 2003).
Irrespective of the business goal considered, effective governance guarantees that the
administration (managers and the board) are responsible for achieving it. The job of
successful corporate governance is of immense significance to society as a whole. In the first
place it promotes efficient use of scarce resources both within the organization and the larger
economy. Secondly, it makes the resources flow to those sectors or entities where there are
efficient production of goods and services and the return is adequate enough to satisfy the
demands of stakeholders. Thirdly, it provides a broad mechanism for choosing the best
managers to administer the scarce resources. Fourthly, it helps the managers to constantly
focus on enhancing the company performance, ensuring that they are sacked when they don’t
succeed in doing so. Fifthly, it puts pressure on the corporation to abide by the law as well as
achieve what the society expects from it. And last but not least, it assists the supervisors in
regulating the entire economic sector without partiality and nepotism.
Governance in banks
It’s impossible for one to think about financial organizations including banks without proper
corporate governance. Since banks have a very crucial role to play in the economy (financial
and economic system) of any developing country, hence any fault on their part due to
immoral practices creates a situation which may adversely affect not only the shareholders
but the people who have deposited money and the economy at large.
The effectiveness of sound banking system can be recognized by the standard of transparency
in their performance and the increased role of government and regulatory agencies to verify
their actions (Topalova, 2004). The lack of transparency tempts the management to resort to
unethical practices as well as siphon off funds. Inadequate action by regulatory agencies put
blanket on the omission and commission of such unethical practices, thus leads to bank
failure and loss of public faith.
The prevalence of banking system failure has been a common phenomenon in developing and
transition countries as in the industrial world (Honohon and Daniela, 2000). The structural
changes in the banking industry in the form of development of latest technologies, main
industry consolidation, globalization, and deregulation have got the banking industry at a
strategic junction. Hence, banks face a more competitive and volatile global environment
than so called stereotype situation of management. They are engaged in a number of
innovative services like providing required finances to commercial projects, fundamental
financial services to majority of the population and key to all the “payment systems in micro
environment”. Other than this, some banks provide additional credit in times of market crisis.
The banking sector may be closely monitored by the public due to its nature of transactions
and some bad precedents in the past. This sector is very sensitive as a small mistake can
easily attract negative publicity. It is a part of corporate governance with most of its
management obligations enclosed in regulatory regulations. In the light of the above
statement governance issues in banks, more particularly in Public Sector Banks (PSBs),
assume immense significance, but unfortunately these are less discussed and deliberated
upon.
Although the primary reason identified for it is the prevalence of government ownership
across the institutions, another important reason can be attributed to the multiplicity of
regulatory and supervisory legislations. For instance, in India there are 5 legislations, e.g.
RBI Act, SBI Act, Bank Nationalization Act, Banking Regulation Act and Companies Act,
which govern the banking sector. Because of this multiplicity of Acts and their enforcing
agencies, i.e. RBI and GoI, any concrete form of principles on bank governance is yet to
emerge.
The full applicability of corporate governance principles in Indian Banking sector is less
apparent. Firstly, there are definitional issues of serious nature, which should be strictly
adhered by Indian banking sector. Secondly, there are issues of temporal, sect oral and
structural nature that have bearing on their relationship. More specifically, the literature on
bank performance and corporate governance is scanty in India as well as abroad. Although
the literature on corporate governance in developing countries has lately got a lot of interest
from the scholars in their previous research (Oman, 2001; Goswami, 2001; Lin, 2001;
Malherbe and Segal, 2001), the execution of corporate governance characteristics of banks in
developing countries has been almost unnoticed by researchers (Caprio and Levine, 2002).
Even research studies on corporate governance in banks are rarely found in the literature in
developed economies (Macey and O’Hara, 2001).
Coming to a developing country like India, all attributes of governance mechanism can be
easily implemented due to many complexities involved in it. In a developing economy such
as India, the growth of efficient corporate governance principles in banks has been partly held
back due to weak legal protection, poor disclosure prerequisites and overriding owners (Arun
and Turner, 2002a). Moreover, the private banking sector is purposely opting to ignore
certain corporate governance ethics as it has vested interest of some parties (Banaji and
Mody, 2001).
The economic liberalization in India created many genuine corporate governance issues for
government owned bank. On the one hand, government encouraged private players to come
up and compete with government owned banks, on the other hand, not giving a cushion to
protect them from unfortunate misgovernance. If privatization is the slogan of the day, then
there must be sufficient deposit insurance proposals and supervisory provisions instituted so
as to safeguard the interest of people who deposit money and avoid a financial collapse (Arun
and Turner, 2002b). Therefore, the pertinent question arises, can the government guarantee
that it would facilitate all mechanisms to private capital owners for smooth operation of
banking.
In spite of over 10 years of financial reforms in India, the Indian government is yet to play a
crucial part in many aspects like board member appointment. However, they have given some
power to public sector banks to make them competitive. The impact of these reforms has
been that the private sector banks now have more independence in formulating strategies for
different sectors of business which include setting up branches and introducing innovative
products (Muniappan, 2002) but yet this autonomy is limited, as they have to abide by the
rules and regulations given by the government and central bank (AGCG, 2001).
Based on statistical report, it can be aptly said that greater state ownership of banks, lesser the
chance of good financial performance (Barth et al 2000). Agreeing on the same line, World
Bank (2002) also voiced the same concern on state ownership and political interference. In its
report it observed that: i) Recent studies indicate that state ownership of banks is inversely
related to bank competence, saving and borrowing, productivity and growth; ii) However,
there is no proof which suggests that state ownership reduces the chances of banking crisis;
iii) The evidence clearly states that state bankers are subject to political clash that usually
leads to weak performance; and iv) Privatization is perhaps the only way to guarantee that
freedom from political decision making can enhance governance in banks.
The report of the Advisory Group of Corporate Governance (AGCG, 2001) recommended
that depositors being the major stakeholders in banks, whose interests may not always be,
recognized, sound corporate governance should consider their interests and ensure that
individual banks are conducting their business in such a way as not to harm interests of
depositors.
A discussion above clearly brings out the fact that the government wants to hold some kind of
control in ‘privatized’ public enterprises. This shows the government’s concern that those
enterprises might pursue shareholder’s objectives (other than government), even by ignoring
interests of the community and other stakeholders. It is also possible that the government is
unsure whether it would be required to use those enterprises as instruments as ‘model
corporate citizens’. Institutional investors would like those enterprises to play the game as is
being played by other private sector enterprises. Therefore, it will be difficult to avoid the
conflict between interests of two major shareholders namely, the government and the
strategic partner in a privatized public enterprise.
The government should resolve these issues and come out with clear policy guidelines.
Government’s effort to push privatization without resolving these issues might do irreversible
harm to the economy. We must accept that there is still a need to build infrastructure, to
create employment and to promote balanced regional development. In all likelihood, market
forces will not allow the government to use privatized public enterprises to achieve these
objectives.
Disciplined financial disclosure, which is the hallmark of good governance enhances the
information environment for the mangers and ultimately leads to better economic
performance. There are three channels through which financial accounting information
improves economic performance, better identification of good vs. bad projects by managers
and investors, governance role of financial accounting information, and reduction in
information asymmetries among investors (Bushman and Smith, 2003).
Kumar Mangalam Committee (1999) clearly states that “the fundamental objective of
corporate governance is the enhancement of shareholders values, keeping in view the
interests of other stakeholders”. The above survey of literature highlights some issues related
to corporate governance and stakeholder’s interest which provide inkling to the ultimate goal
of a bank i.e. the enhancement financial wealth of different stakeholders, which can only be
done through the improvement of performance.
From the banking industry perspective, the attributes of corporate governance provide
guidelines to the directors and the top level managers to govern the business of banks. These
guidelines relate to how banks establish corporate aims, carry out their daily activities, take
into account the interest of stakeholders and making sure that the corporate activities are in
tune with the public expectations that banks will function in an ethical and legal manner
thereby protecting the interest of its depositors (Basel Committee, 1999). All these broad
issues relating to governance apply to other companies also, but they assume more
significance for banks because they deal with public deposits directly.
Many international bodies have formulated a clear set of guidelines for the implementation of
corporate governance principles, however the reality prevalent in various countries shows
that there is no universally correct solution to structural problems and that the rules and
regulations need not be constant in different countries. As a result of this, sound governance
practices were formulated by Basel committee. Recognizing the diversity in the structure of
governance mechanism across the countries the Basel Committee (1999) recommended four
important forms of oversight that should be included in the organizational structure of any
bank in order to ensure appropriate checks and balances : (i) oversight by the board of
directors or the supervisory board; (ii) oversight by individuals not involved in the day-to-day
running of the various business areas; (iii) direct line supervision of different business areas;
and (iv) independent risk management and audit functions. In addition, the committee also
emphasizes the significance of the main employees being mentally and physically healthy for
their work.
The state control of PSBs has thus belied the expectation of the nation as well as landed the
financial sector in more trouble. It is aptly said that on average, greater state ownership of
banks tends to be associated with a more poorly operating financial system (Barth et al 2000).
Similar doubts for state ownership and political interference were also raised by The World
Bank in one of its reports in 2002. The management bodies of PSBs do alter the strategies
and objectives of the bank as well as the internal structure of governance. This also prevents
cutthroat forces, restricts the efficiency of government monitoring in the financial division,
and tends to raise the opacity of banks’ business. The government uses state-owned
institutions to sustain too much spending and to support less-than-creditworthy borrowers.
All these tendencies dampen overall economic growth. In addition, the government often
operates establishments, or the regulatory procedure that manage them, in ways that reduce
the growth of vibrant private sector contenders. (Barnier, 2001)
The core of governance depends on transparency and disclosure. The most important
committee, audit committee, being the watchdog, provides adequate stuff for achieving this
most important objective. An audit committee provides overseeing the selection and removal
of auditors, evaluating and endorsing the extent of audits, deciding upon the regularity of
audits, obtaining audit reports and making sure that management is taking corrective
measures in time to control failures. Audit committee also supervises the banks internal and
external auditors. Autonomy of this committee can be primarily increased by appointing
external board members with expertise in banking or finance and accounts.
This committee needs independent, qualified leadership and membership, which are lacking
in PSBs. A key determinant of the effectiveness of an audit committee is the independent,
competence, dedication and leadership skills of the audit committee chair (Blue Ribbon
Commission, 1999). Financial literacy among its members and their independence of the
owner are very crucial to its effective functioning. Since in PSBs the members of this
committee are drawn from the pool of representative directors, there is always a question
mark hanging over their effectiveness.
Table 1: Committees set up by Indian banks
Committees set up by banks SBI ICICI Bank UTI
ALM Y Y Y
Audit Y Y Y
Compensation/ Remuneration N Y N
Risk Management N Y N
Investor’s Grievances Y Y N
Credit N Y N
Business Strategy N Y N
Nomination N N N
Y – Yes, N – No Source: Latest Annual Reports
Risk management, being the backbone of any financial institution, is also very crucial to
banks. They face a gamut of risks which are complicated in nature and require specialized
hands to handle. These include credit risk, exposure concentration risk, connected exposure
risk, interest rate risk, exchange rate risk, equity risk, legal risk, operational risk, liquidity
risk, reputation risk, payment system interface risk and business continuity risk. Only a well-
manned risk management committee can identify these risks and manage them properly. As
per the latest annual reports, most of the PSBs have not yet established any risk management
committee, which exposes them to the risk of taking faulty decisions in many operational
areas resulting in serious trouble. Most of the PSBs have established the first two committees,
as listed in Table 1. But merely forming these two does not come handy when many of them
have already raised capital from the capital market. Besides, business-related committees,
investor protection committee and nomination committee are of vital importance.
With the rapid pace of financial innovation and globalization, the face of banking is
undergoing a sea change. Banking business is becoming more complex and diversified. In the
changed scenario, it is essential that the Boards of banks are fully geared to govern the banks
well. The objective of governance in banks should first be protection of depositors’ interest
and then be to optimize the shareholder’s interests. While doing so, the foremost
responsibilities should be to ensure fair and transparent dealing without giving a chance of
mis-governance.
The governance issues in banks cannot be understood independently. The regulatory
framework has significant implications for the corporate governance of banks. There is a
growing realization that the corporate governance arrangements of banks are significantly
different in comparison to firms in other sectors. The corporate governance of banks is a
complex issue. It has been observed that the legal and regulatory framework, in which banks
operate, makes the governance mechanism of hostile takeovers ineffective as a method of
corporate governance. Thus, governance issues in banks have to be discussed in an
environment where a bank’s management has a considerably reduced threat perception from
the market for corporate control.
Chapter – 3
RESEARCH METHODOLOGY
Introduction
Since the focus of the research is on evaluating corporate governance in Indian Banking
sector, the focus is on corporate governance outcomes rather than on corporate governance
mechanisms. Specifically, the author examine the effectiveness of corporate governance in
Indian banking sector in achieving economic growth, curbing malpractices, bringing
transparency of banking transactions, and how it can be mandatory. As reflected from
previous research Jalan (2001) and Reddy (2001), there has been growth in the Indian
banking sector during the post liberalization period, can be attributed to good governance.
This research throws light on the efficacy of corporate governance in achieving transparency
and good banking growth in India The research philosophy for the underlying topic reflects
the principles of interpretivism. This reason why this approach is taken is because
interpretivism calls for finding and extracting “the details of the situation to understand the
reality or perhaps a reality working behind them” (Saunders et al, 2003). Hence, the research
methodology was prepared meticulously to identify the effectiveness of corporate
governance.
This chapter deals with research design, collection of the data and methodology used for the
research purpose. This section of the dissertation has been developed to explain the logic and
rationale behind the research methods used. The idea is to demonstrate that the chosen
approach has been appropriate and the findings of the research are both applicable and
dependable. From the perspective of time horizon, this research will be classified as
longitudinal research (Saunders et al, 2003). This is because the research will be studying the
developments and the changes that taken place in the Indian Banking sector over the past
years.
Research Approach
Approach can be classified according to their purpose and research strategy used. The
classification most often in three folds one of exploration, description, and explanation.
Exploratory Research
Exploratory research is “valuable means of finding out what is happening; to seek new
insight; to ask questions and to assess phenomena in a new light”. This research in general is
quite flexible in nature. The main purpose behind this research was to identify the potential
opportunity existing in the market. Like descriptive research, exploratory causal research is
also based on a planned and structured design. Exploratory research emphasizes on the
discovery of new ideas. It deduces large and unclear problem statements into more accurate
sub-problem research propositions and hypotheses. “Exploratory research is characterized by
support from secondary data with lot more flexibility and it tends to based on subjective
evaluation of survey results’’ (Tull D.S. & Hawkins, D.I. 1990).
Explanatory Research
A clear statement of the decision problem, specific research objectives and detailed
information are the highlights of this research. It is quite structured and statistical in nature. It
describes the commitment of banks in adhering corporate governance principles taken from
their annual report. This research will explore and explain how the Indian banking sector is
doing its business in post implementation period.
A. Primary Research
The main objective of primary research was to elicit the valuable opinion of senior bank
professionals who can provide valuable insight and information about the implementation of
corporate governance practices in the recent past. Considering these objectives and literature
review, the questionnaire was prepared in a manner to derive the opinion of bank
professionals regarding attributes of corporate governance principles and its contribution to
the banking business.
Qualitative data
Qualitative research is called so “because its emphasis lies in producing data that is rich in
insight, understanding, explanation and depth of information, but which cannot be justified
statistically” (Crouch S & Housden M, 2003). Since the banks were an important source of
information, interview method of data collection along with their opinion on the attributes
through questionnaire survey with senior manager of different banks in Delhi were arranged.
B. Secondary Research
Secondary research was very important and was helpful in aligning the findings of the
primary research to the facts derived from the secondary research. Many national and
international journals have been used to collect the necessary facts and figures on Indian
banking industry. Reports of the RBI (Reserve Bank of India) were also used.
Research Design
A research design was devised in a more traditional fashion specifying the research
strategy. The research strategy will use the multi- methods approach to dig in and gather
more information about corporate governance. The growth of banking business in India is
phenomenal as it is being reflected by the entry of private banks and foreign banks. However,
the growth of banking business is linked with successful implementation of corporate
governance principles.
The following steps were done in order to make research design successful.
Data collection
Sampling criteria
Data analysis
A. Data Collection
The interview/questionnaire mechanisms were used very systematically to elicit views on
corporate governance attributes. The preparation of such mechanism was quite meticulous
bearing in mind each question should make contributions to the research objective (Proctor T,
2003). Since this research required lot of secondary data to complete the analysis, the
websites of banks and their annual reports were extensively used.
Selecting a sample procedure for this dissertation was never an easy task because it is tough
to get a chance to interview senior bank professional and easy access to fill up questionnaire
through senior officials. The sample procedure used in the questionnaire is non-probability
sampling due to the nature of data available. The use convenience sampling is made; as the
questionnaires have been, send to senior banking professionals. The sample size for the
questionnaire was 10 respondents.
CHAPTER-4
Analysis and Interpretation
Introduction
This current research tries to study the attributes of corporate governance practices which
exist in the Indian Banking sector within the strict authoritarian structure. It tries to evaluate
the implementation of corporate governance attributes by bank (private and public sector).
Also the author tries to assess the competence of these banks in terms of substance and
quality of reporting in their annual reports. For this purpose an empirical study has been
undertaken on ten banks (six public sector bank, three private sector bank and one foreign
bank) operating in India. The research has been undertaken to assess the level of compliance
of key governance parameter in these banks in tune with statutory and non-mandatory
requirements given by SEBI (Securities Exchange Board of India) under clause 49 of the
listing agreement.
2. Analysis: After getting the corporate governance attributes from bank’s annual report, the
analysis is prepared in two separate parts: a) Shareholding pattern in Public and Private sector
banks, b) Key governance parameters and their compliance status in these banks.
Table 2- Share Holding Pattern of Private and Public sector Banks in India
PUBLIC SECTOR BANK PRIVATE SECTOR BANK
ATTRIBUTES OF SBI Canara Allahabad Bank Bank Punjab ICIC AXIS HDFC Standard
CORPORATE Bank Bank of Of National I Bank Bank Chartered
GOVERNANCE Baroda India Bank Bank Bank
President of India 59.7 57.80
3
Government of India 73.17 55.23 53.81 64.4
7
Life Insurance Corporation 5.81 10.40 2.57
of India
Deutsche Bank Trust 28.52
company Americans
FIIs/NRIs/OCBs/FB/FC/FN 41.21
Insurance Companies 1.74 5.05 7.50 10.75
Banks & Financial 7.17 3.05 0.29 1.30 1.56 10.29 0.70
Institutions
Mutual Funds 4.45 2.73 1.80 11.50 2.77 6.36 5.66
Bodies Corporate 1.24 2.85 1.22 1.26 5.88
NRIs/OCBs 0.04 0.08 0.63
Resident Individuals/HUF / 5.84 5.77 13.68 6.16 7.34 4.72 7.22
Trust etc.
Foreign Institutional 14.00 18.52 19.77 15.1
investors 0
Domestic 3.22 0.76
Companies//Trusts
NRIs/OCBs/FIIs/GDRs 19.5 20.07
9
Employees 0.24
Banks 0.19
HUF/Clearing 0.121
Members/Trusts
SUUTI 27.18
HSBC IRIS Investment 4.95
Orient Global Tamrind Ltd. 4.51
ICICI prudential Life 4.08
Insurance Company
Limited
The Bank of New York 3.64
General Insurance 2.28
Corporation of India
Other Banks/Investment 9.53
Company
JP Morgan Chase Bank 21.61
(Depository for ADS)
Housing Development 14.80
Finance Corporation
Limited
HDFC Investments Limited 8.46
DBS Bank Ltd 3.28
Bennett, Coleman & Co 2.50
Ltd
The Growth Fund of 1.87
America
Euro Pacific Growth Fund 1.67
JP Morgan Asset 1.43
Management (Europe)
J P Morgan Advisors 1.12
Source: Annual Report Survey, 2007-08. Shareholding pattern of Standard Chartered Bank is not showing in
their annual report.
Observation from table: The maximum stake in Public sector banks is kept by government
whereas private sector banks are predominantly controlled by foreign promoters.
Management and control of private sector banks is delegated to professional managers under
the governance of board controlled by the foreign promoters whereas all public sector banks
are managed by their banking board under the control of government of India. FIIs have
considerable shareholdings in both public as well as private sector banks. The insurance
companies also hold shares in both public and private sector banks.
▪ Board of Directors
Various aspects were analyzed from annual reports regarding board of directors’ viz., board
structure, board strength and size, director’s attendance etc.
Table 3: Board Structure, strength and Size of Private and Public sector Banks in India
PUBLIC SECTOR BANK PRIVATE SECTOR BANK
Particulars SBI Canara Allahabad Bank Bank Punjab ICIC AXIS HDFC Standard
Bank Bank of Of National I Bank Bank Chartered
Baroda India Bank Bank Bank
1. Total Number of 9 13 11 14 15 8 16 11 12 14
Directors:
a) No. of Executive
Directors (EDs)
i) Promoters 2 3 3 3 3 3 3 3 3 4
ii) Others
b)No. of Non-Executive 7 10 8 11 12 5 13 8 9 10
Directors (NEDs)
2. Total Number and
Percentage of:
i) Executive Directors (EDs) 22 23 27 21 20 38 19 27 25 28
ii)Non-Executive Dir. 78 77 73 79 80 62 81 73 75 72
(NEDs)
Source: Annual Report Survey, 2007-08
As far as board structure is concerned Public sector banks are following Banking Companies
Act 1970 as the Board of the Bank has been constituted under Section 9(3) of the Banking
Companies {Acquisition & Transfer of undertaking} Act 1970 and Nationalized Bank
(Management & Miscellaneous Provision) Scheme 1970. Similarly in private sector banks,
Board of Directors have been constituted in compliance with the Banking Regulation Act,
1949, Companies Act, 1956 and listing agreements entered into with stock exchanges and in
accordance with best practices in corporate governance. The Board functions either as a full
Board or through various committees constituted to oversee specific operational areas. The
practice of dual charge Managing Director and Chairman is seen in all the banks as it can
help to remove the rivalry between the two positions and ensure governance function
independently. The view of K.N. Dayton, (1984) seems to exist in board structure.
Private sector banks have complied with the requirement of the Clause 49 of the Listing
Agreement in regard to the requirement of minimum number of independent directors, while
the chairman is a non-executive director. However, some public sector banks have deviated a
little bit to comply with the conditions of the Clause 49 of the Listing Agreement in this
regard. Clause 49 I (A) of the Listing Agreement requires that not less than 50% of the board
of directors of the company (having chairman as executive director) should comprise of non-
executive directors being independent. As suggested by many scholars and recommendation
by various research that good corporate governance implementation entails clear division of
responsibilities at the top management level like Chairman and managing director, which can
ensure a balance of power and authority such that no individual has unfettered powers of
decision. However, study of annual report of ten leading banks and practical difficulties faced
by them in normal management practice conclude that combination of the posts of chairman
and CEO/MD in one person should be publicly justified.
The purpose of audit committee is to oversee the bank's financial reporting process and
ensuring correct, adequate and credible disclosure of financial information. Considering the
aim of audit committee, the following objectives were laid down
▪ Reviewing with the management, the financial statements as per accounting policies and
practices, compliance with accounting standards.
▪ Review the adequacy, quality and effectiveness of external and internal audit, internal control
system.
▪ Audit Committee reviews the position with regard to issues raised in the Long Form Audit
Report (LFAR).
▪ It follows up on all the issues / concerns raised in the Inspection Report of RBI.
▪ Audit committee also makes a review of reports received from Compliance Cell, Inter-
Branch Account Reconciliation (IBAR) section, etc.
Table 4: Status of Audit Committee in Public sector & Private Sector Banks
Serial Particulars Private Sector Banks Public Sector Banks
No.
1. Members and other Committee consists of As per provisions laid down
composition of the mostly 6 Directors, of by section 49 of the listing
committee. whom 2 whole-time agreement.
directors, 2 official
directors, 2 non-executive
director.
2. Information about Clearly mention as per Clearly mention as per
members of guidelines of Section 49 of guidelines of Section 49 of
committee listing agreement. listing agreement.
meetings.
3. Information ICICI and HDFC held 6 In Public sector banks the
meeting attends of meetings and Axis Bank average meetings were 6 in
committee held 12 meetings. Almost a year except some
members. majority members attended deviation. Maximum
all meetings. members attended every
time.
4. Information about Mentioned in annual Mention in annual report.
audit committee report. But details are missing.
report.
Source: Annual Reports 2007-08
Audit committee report is the important ingredients of corporate governance report. Both
private and public sector banks have complied with audit committee laid down by section 49
of the listing agreements. However minute study of audit committee report of all the banks
revealed that private sector banks do comply in better way than public sector banks.
Table 5: Status of Investor Grievances Committees in Public sector & Private Sector
Banks
Table 6: Status of Remunerations Committee in Private Sector Banks and Public Sector
Banks.
Particulars Private Sector Banks Public Sector Banks
Information about the Committee Committee consists of 5 Committee consists of
Directors, of whom 1 4 Directors; of whom
director is executive and 2 are executive and
other 4 are independent, the other 2 are
chairman being an NED/independent,
independent director. chairman being an
independent director.
Information about Remuneration of Clearly mentioned in Clearly mention in
Directors annual report. annual report in some
banks.
Information about number of Clearly mention with Although mentioned
committee meetings. number of members in annual report, some
attended. banks don’t have
remuneration
committee since it is a
non-mandatory
requirement.
Source: Annual Reports 2007-08
As advised by the Listing Agreement, private as well as the public sector banks have
succeeded in giving general shareholder information and accepting a range of communication
means every year.
As per clause 49 of the Listing Agreement CEO and CFO certification is compulsory for the
BOD’s of a listed company relating to some precise matters. However, this must be disclosed
in the CG report. After evaluation it’s clear that both private and public sector banks have
fulfilled this requirement. They have succeeded in publishing this certificate in their CG
report.
The central issue highlighted here is the disclosure of many proposals by private and public
sector banks in their annual reports. This also focuses on the action taken by these banks on
the following matter so as to fulfill their obligation towards their stakeholders.
Table 8: Items of Non-mandatory Disclosures/ Requirements and their Status of
Compliance in Private sector banks and public sector banks
It is observed that private sector banks like ICICI and HDFC have disclosed in brief, the
initiatives and measures taken by the bank on the above issues in the annual report 2007-08.
Some public sector banks like Allahabad bank, Bank of Baroda, Bank of India & Punjab
National Bank explained in details, various initiatives and measures taken by them to
facilitate governance mechanism. But the fact remains that none of these banks disclosed
their policies in regard to EHS, HRD, and CSR & IR in the annual reports.
Months
MOVEMENT
Series1
1439
1330 1316
1257 1217
1063 1024
964 950 955 1005
915
Months
AXIS BANK SHARE PRICE
Market Price of Sh MOVEMENT
Series1
1439
1291
Months
MOVEMENT
Series1
Months
MOVEMENT
Series1
421
340
313 324
300 287 299
280 277 280 272
232
Months
BANK OF INDIA SHARE PRICE
Market Price of Sha MOVEMENT
Series1
465
416
388 381 387
352
276 280
260
236
206 217
Months
MOVEMENT
Series1
143
125 126 122
107 110 112 108
98
90 88
82
Months
MOVEMENT
Series1
501
465
435
407
353 360
319 322 331
292 284
251
Months
STATE BANK OF INDIA SHARE PRICE
Market Price of Sh MOVEMENT
Series1
20498 21206
20238 20204
18895
17361 17227
15868 15542
14383 14576 14683
Months
From the graph of share price movement of both private and public sector banks, it is quite
clear that the share price of private sector banks are doing better than public sector banks.
Private sector banks like ICICI and HDFC are very much in growth path as reflected from its
share price movements.
6. Disclosures:
(i) Related Party transactions 100 100
(ii) Compliance by the CO 100 100
7. Means of Communication:
(i) Half yearly Report sent 83.33 0
(ii) Publishing Quarterly results in newspaper 100 100
(iii) Publishing Quarterly results in websites 100 100
(iv) Displaying official news releases 100 100
(v) Are MD & A parts of the Reports of Directors? 100 100
8. Director’s Remuneration 83.33 92.85
9. Compliance to clause 49 of Listing Agreement 75 100
10.Compliance to CII code on corporate governance 83.33 71.42
Private sector is at little advantage than public sector. Means of communication is another
important item of corporate governance. The analysis of this item reveals that none of the
public sector banks is sending half yearly report to its shareholders. In both the sectors, 100
percent banks are publishing quarterly and half yearly results in newspaper and their web-
sites. For the year 2007-08, 100 percent banks of both the sectors have reported MD&A as a
part of the director’s report and displaying official news releases. Shareholder’s information
has been disclosed by 100 percent banks in both the sectors. Further, compliance to clause 49
of listing agreement has been reported by 100 percent banks of both the sectors. The
percentage of banks disclosing corporate governance has improved due to the reason that
compliance to clause 49 has become mandatory. The position to voluntary compliance on CII
code on corporate governance is impressive whereas global code on corporate governance is
far from satisfactory.
It is also clear from the analysis of results that percentage of banks in both the sectors
disclosing items corporate governance as Management Review and Responsibility is low and
hence not satisfactory. Similarly adherence to global code on corporate governance is also
extremely poor. On evaluation the result shows that the governance standards and practices in
these private and public sector banks are encouraging in many respects except on some
attributes. It also reveals that the country’s banking industry represented by these two major
groups has an overall score of , thus showing merely an ‘very good average’ performance in
maintaining the standards and attaining the quality of governance practices.
Considering the paucity of time and convenience of interviewee, the format of interview was
prepared in a systematic manner so that the opinions of bank professionals were correctly
depicted. Later on it was converted into mean score (based on likert’s scale), that could be
presented in a suitable bar diagram. Only 10 interviews could be taken out of 10 banks. It was
due to the practical difficulties to get an appointment with senior bank manager (Assistant
General Manager onward), who can say something about corporate governance.The
outcomes of the interviews were connected with research objectives and research questions.
Since time allotted by interviewee was limited, interview procedure was organized in some
specific question format based on literature survey. Interviewees were requested to score on
those attributes after giving their valuable opinion.
The outcome of the interview with senior professionals of different banks helped the research
analysis as their views supported many secondary researches. Most importantly, corporate
governance in Indian banking is not a new phenomenon, but the outcomes of the
effectiveness of its attributes are not known to many bank professionals. So the author
interviewed those senior people who could say something substantial about corporate
governance. Though Indian banking has been opened up for private participation a major
chunk of banking pie is still controlled by public sector banks. These banks owing to their
government ownership had no need to adopt all principles of corporate governance practices.
Mr. Raj Kumar, Assistant General Manager, Canara Bank points out that the “concept of
governance itself is an altogether a new cup of tea for public sector bank even though there is
a mandatory requirement of it in annual report”. Mr. Sailesh Goel, AGM, Industrial Finance
Branch, State Bank of India points out that “these banks are burden with ‘social
responsibilities’ which is another burden for healthy business policies”. The lack of
accountability and transparency gave enough leeway for the public sector banks, which we
see, transformed into crores of NPAs. Though the boards were constituted with great care
with nominees from both the RBI and central government adorning the board, the
performance remained lackluster and it is only due to the lack of any competition that they
got away with it. As K S Bajwa, deputy general manager, Punjab National Bank, rightly
says, “ Many senior executives of Bank have complained that mostly these RBI nominees
(who are not always senior in cadre), do not get involved in the framing of strategic policies,
but confine merely to acting as watchdog against the blatant breach of the more quantitative
guidelines. In other words, their contribution to qualitative aspects of governance is open to
questions.” After liberalization, the sector has been opened up leading to intense competition.
Private sector banks forayed and carved niches for themselves. These banks are listed
corporate and were market-driven that forced them to maintain transparency and
accountability to take the place of tight-lipped secrecy. Though the regulations are stringent
and entry norms strict private sector players still pose an additional risk than public sector
banks.
In a bid to win the trust and the confidence of the investors, private sector banks were
outspoken about their plans and their achievements. They were very happy to compare their
advances with those of the Public sector banks. Higher growth rates, lower NPAs, expanded
business opportunities, tech-savvy nature, etc, all put together made the private sector banks
look like the heavens of investment as compared to lack luster public sector banks (taken
from the statement of Puneet Mathur, Deputy GM, HDFC Bank). But most of these success
signals are a result of the budding state of these banks. And misunderstanding them as the
signal of better and improved performance would only mean assuming the wrong things and
missing out on the challenges of the real world. The previous stock market scam that shook
the market inside out brings to the fore our shallow assumptions of healthy environment and
well-governed companies given the unique nature of banking business, which deals
essentially with the money of others. The adherence to strict ethical standards is of great
importance to banks. As G.C. Tewari, General Manager, Bank of India emphasizes, “In
banking it is the trust of depositors that drives the industry. It is the duty of the bank to see
that the money entrusted to it is safe and secure”. But that realization is absent in most of the
banks which is quite evident from the fact that corporate governance practices in Indian
banks are conspicuous by their absence. As Sailesh Goel, State Bank of India, puts it “the
bankers who are coming face-to-face with the harsh realities of competition are now feeling
the need for awareness. Existence of more disclosure norms, transparency and accountability
is limited to what is required under the law rather than taking initiative to set new standard”.
Key Findings
Other notable findings from secondary research analysis reflect that corporate governance in
banks is in a formative state. It is fast evolving and long way to go. While setting
accountability standards for Board, there is need for enhanced transparency and disclosure in
respect of various aspects of board constitution and functioning. Both private and public
sector banks are not practicing completely the corporate governance code in spite of its
mandatory in nature. Still, the outcome is very much satisfactory.
Q1. How do you score on these key attributes of good corporate governance in Indian
Banking Sector?
1) Transparency of Financial Statements
2) Ensuring ethical Practices by banks
3) Protecting minority shareholder rights
4) Adhering to all legal compliance of governance
5) Ensuring shareholder value
6) Sound risk management practices.
(Rank them in the order of importance. 6 for maximum importance; 1 for minimum
importance).
Series1
Key Attributes of Corporate Governance
Mean Score
3
5.1
2 3.9 4.2 4.1 3.9 3.6
1
6 5.5 5.6
Mean Score
4.9 5.1
5 4.3 4.3
4
3
2
1
0
1) High level of 2) Shareholding 3) Appropriate 4) Presence of a 5) Adequate 6) Means of
disclosures patterns strong and Committee
governance independent Communication
structure Board of Structure
Directors
Variables
Adequate committee structure, governance structure and strong independent board are some
major variables where the mean score is more than 5. From this score it revealed that the
attributes of corporate governance can be properly implemented with the help of adequate
committee structure and presence of strong and independent board. The outcome of
respondents matches with the literature survey emphasizing on committee and board
structure. Secondary research analysis from annual report also corroborates this stand to full
extent as banks have emphasized on board structure and committee.
Q3. How do you score on some concerns from the point of view of management of banks
which necessitates implementation of Corporate Governance in banking sector?
1. Unethical practices adopted by banks
2. Practice of Insider trading and selective leak of sensitive information
3. Deviation from standard accounting practices
4. Neglecting for minority shareholders
5. Excessive Promoter Control in Management
6. Unrelated Policies & Risk
(Rank each objective in the order of importance. 6 for maximum importance; 1 for minimum
importance).
Series2
Problems of Corporate Governance
6 5.4
Mean Score
5.1 5
4.9
5 4.7
3
2.1
2
0
1) Unethical 2) Practice of 3) Deviation 4) Neglecting 5) Excessive 6) Unrelated
practices Insider trading from standard for minority Promoter Policies &
adopted by and selective accounting Control in Risk
banks leak of shareholders Management
sensitiv practices
e
information
Factors
Practice of insider trading, unrelated risk undertaken by banks and excessive promoters’
control in public sector banks are some of major problems highlighted by respondents which
necessities implementation of corporate governance in banking sector. The banking scams in
Asian countries are some of the glaring examples. From the secondary research analysis, it
was revealed that government holds maximum stake in public sector banks as a result there is
greater possibilities of neglecting minority shareholders.
Q4. What is your opinion about those measures that can ensure a high level of transparency
& disclosures?
1. Proper means of Communication to interested parties.
2. Speedy dissemination of sensitive information.
3. Presentation of all relevant details in Annual Report.
4. High quality of Management Discussion and Analysis (MDA).
5. Responsiveness to investor’s queries.
6. Periodic review of Analyst meeting.
(Rank each objective in the order of importance. 6 for maximum importance; 1 for minimum
importance).
6
Mean Score
3
4.9 5.1 5.2 4.8
2 3.8 3.7
1
0
1) Proper means 2) Speedy 3) Presentation of 4) High quality of 5) Responsiveness 6) Periodic
review to investor’s of Analyst
of Communication
to interested dissemination
sensitive of all relevant details
in Annual Report.Management
Discussion queries. meeting.
parties. and
information. Analysis (MDA).
Attributes
Since transparency and disclosure are two important pillars of corporate governance
measures the top executives of banks were requested to score on those variables. This
question is aimed at taking opinion from bank’s executives how to ensure transparency and
disclosure. From the response, it is clear that proper disclosure of information in annual
report, speedy dissemination of sensitive information and satisfying investors’ queries are
some important variables which can bring more transparency in governance. The mean score
is nearly 5, justifying their opinion about those variables.
Q.5 How do you score the importance of various committees from Corporate Governance
point of view?
1. Audit Committee
2. Remuneration Committee
3. Management Committee
4. Investor’s Grievance Committee
5. Fraud Management Committee
6. Risk Monitoring Committee
5.9 5.85
6 5.4 5.6
5.2
4.8
5
0
Audit Remuneration Management Investor’s Fraud
Risk Committee Committee
Committee Grievance Management Monitoring
Committee
Committee
Committee
Committee's Name
Study of literature and annual report revealed that formation of committee is very important
for corporate governance implementation. Among all the committees audit committee,
remuneration committee, investors’ grievance committee are some of the mandatory
requirements, the outcome of this question support the efforts of banks in implementing this
decision through various committees. Except management committee, all other committees
are being almost set up by various banks, where the average score is more than 5. Thus, it can
be correctly said that formation of those committees are very much important for corporate
governance implementation.
Q 6 What is your opinion about the importance of Segment reporting to ensure a high level of
transparency and disclosure?
(Rank them in order 1) very important, 2) Moderate Important, 3) Not important.)
This question was put to senior bank’s executives in order to know the importance of
segment reporting. Segment reporting is a non-mandatory requirements of governance
principles, but 90% respondents are in opinion that segment reporting is very much necessary
to ensure good corporate governance. So, the authorities should ponder over to make segment
reporting as a mandatory requirement for good corporate governance.
Q.7 What according to you are the most desirable characteristic of the Board of Directors?
1. Presence of skilled and effective Independent Directors
2. Majority of Independent Directors
3. Separate MD and Chairman
(Rank each objective in the order of importance. 6 for maximum importance; 1 for minimum
importance).
Desirable Character of BOD Series1
Separate MD and
2.8
Chairman
Majority of
Independent 3
Directors
Presence of skilled
and effective 5.2
Independent
Directors
0 1 2 3 4 5 6
Mean Scores
Q. 8. What do you think regarding the effectiveness of audit committee in preventing fraud?
(Ranking 1) Greatly effective, 2) somewhat effective, 3) Ineffective)
Audit committee is considered very important as reflected from secondary research analysis.
Both public and private sector banks were having their audit committee as mentioned in
primary research analysis. However, the respondents were not in the same opinion about the
efficacy of audit committee. When asked about the efficacy of preventing fraud, more than
50% respondents were of opinion that it is somewhat effective, because there is a provision of
fraud monitoring committee to ensure non-happening of fraud in banking sector.
Q. 9. Will you try to achieve the maximum effectiveness in terms of good corporate
governance in your Bank?
(Rank them in order 1) Yes 2) Sometime Yes 3) No 4) Only in exceptional case 5) Never.
Senior Bank executives participate in decision making process. Hence, this question was
asked to find out their role in achieving good corporate governance. Nearly 90% executives
expressed their opinion to do effort in order to achieve corporate governance.
Q (10) What percentage of good corporate governance practices can you expect to achieve in
your bank?
(Rank them in order 1) more than 20% 2) 10%-20% 3) Less than 10% 4) difficult to quantify
Although it is not easy to quantify, nearly 50% respondents were of opinion that they should
try to achieve good corporate governance practices.
The findings from primary research were quite satisfactory because the respondents were
quite categorical in highlighting the attribute of good corporate governance. It was a
qualitative analysis that reflects the prevalence of corporate governance practices in Indian
Banking sector. The outcome of secondary research analysis has already established the fact
that good corporate governance is a reality and Indian Banking sector has left no stone
unturned to achieve this. Corroborating this outcome of secondary research, primary research
was aimed at to draw significant insight into it. The outcome of primary research also
reflected the sheer sincerity of senior bank’s executive to take this mission forward to the
zenith of success. However, while Corporate Governance has emerged as a potential force
for the success of banking sector, most of the executives find it difficult to specify the degree
of implementation of good Corporate Governance practices. Not surprisingly, the executives
are very much concerned about the integrity of accounting statements and quality of
transparency and disclosures and feel that selective leak of sensitive information and dubious
accounting practices have been the biggest concerns from the Corporate Governance
perspective.
Chapter-5
CONCLUSION
The research on corporate governance in Indian Banking Sector produced some important
results. Banking has become complex and it has been recognized that there is a need to attach
more importance to qualitative standards such as internal controls and risk management,
composition and role of the board and disclosure standards. Corporate Governance has
become very important for banks to perform and remain in competition in the era of
liberalization and globalization. The success of corporate governance rests on the awareness
on the part of the banks of their own responsibilities. While law can control and regularize
certain practices, the ultimate responsibility of being ethical and moral remains with the
banks. It is this enlightenment that would bring banks closure to their goals. However, while
all this looks good on paper, it runs into considerable difficulty during implementation. The
difficulty is compounded given the fact that there are easier ways, which give faster returns
that are no less valuable because they are acquired through questionable means.
The outcome of the present research in achieving the objectives of the research establishes
some important facts: The first objective of the research was to examine the effectiveness of
attributes of corporate governance in Indian Banking sector in bringing transparency and
economic growth. The outcome of the study indicated that corporate governance on Indian
Banking Sector is at formative stage compared to developed nations. There should be more
transparency and disclosure mechanism in order to avoid even the slightest of financial scam.
So far as economic growth is concerned, there is certainly economic growth registered by
private sector in terms of penetration and share price rise and establishing strong footing in
banking sector. The compliance of certain non-mandatory requirements by ICICI, AXIS and
HDFC justifies that they are quite serious in bringing about the effectiveness of
implementation of corporate governance attributes.
Coming to second objective, it is very much clear that the regulatory framework of Corporate
Governance in India has given sufficient thought to ensure good governance practices in
Banking sector so as to protect the interest of stakeholders. Even though all the international
code of corporate governance principles is not thoroughly observed, CII code and clause 49
of mandatory requirement have put sufficient ingredient to ensure good corporate governance
in Indian banking sector. However the shareholding pattern of public sector banks was loaded
with government share, where good corporate governance can be implemented with
difficulty.
Apropos third objective, the proper implementation of corporate governance attributes can
minimize fraud and malpractices in banking sector. There are provisions of fraud monitoring
committee, risk management committee, investors’ grievance committee which can minimize
the chance of fraud. Normally such type of misgovernance is perpetuated when transparency
of financial statement is missing or proper disclosure of information is not made. However,
both private and public sector banks are observing all mandatory requirements of corporate
governance mentioned under section 49 of the listing agreement. The opinion of senior
executives of different banks were very much optimistic was also in the same direction of
attaining perfection irrespective of our little deficiency in adhering such compliances.
It has been recognized that there should be separation of the role of Chairman and
CEO. Cadbury Committee on corporate governance states that there should be a clearly
accepted division of responsibilities at the head of the company level, which will ensure a
balance of power and authority, such that no one individual has unfettered powers of
decision-making. At present in India, in most of the banks, the CEO and the chairman’s
positions are combined. The government appoints the chief executives of public sector banks
and has preferred the composite position of chairman and managing director.
Responsibility of the Board
According to the Board of International Settlement (BIS) code, bank boards should establish
strategic objectives and set corporate values that will direct the ongoing activities of the bank.
The board should ensure that senior management implements policies that prohibit activities
and relationships that diminish the quality of corporate governance, such as conflicts of
interests, self-dealings and preferential dealings with related parties. Keeping in view their
oversight role board of directors should feel empowered to recommend sound practices,
provide dispassionate advice and avoid conflicts of interests.
Accountability to Shareholders/Stakeholders
The Securities and Exchange Board of India (SEBI) guidelines state that the Board should be
accountable to shareholders for creating, protecting and enhancing wealth and resources for
the company and reporting them on the performance in timely and transparent manner.
However, the present scenario is that in majority of banks, Boards do not enforce clear lines
of responsibility and accountability for themselves.
Election
The Organization for Economic Co-operation and Development (OECD) principles state that
the Board should ensure a transparent Board nomination process. In terms of the provisions
of section 9 of the Banking Companies (acquisition and Transfer of Undertakings) Act, the
government constitutes the Boards of Directors of nationalized banks. The Boards comprise
of two whole-time directors, a nominee each of the Government of India and the Reserve
Bank of India, nominees of workmen and non-workmen unions, and a chartered accountant.
Besides this, six non-official directors with specialized knowledge in agriculture and rural
economy, banking, co-operation, economics, finance, law, etc. are appointed. So, the current
scenario is that the bank boards consist mainly of nominated members and not the elected
members. Moreover, banks do not have nomination committees for nominating directors of
Boards of banks.
Audit Committee
According to BIS the Audit Committee of banks should provide an oversight of the banks’
internal and external auditors, approving their appointment and dismissal, reviewing and
approving audit scope and frequency, receiving their reports and ensuring that management is
taking appropriate corrective actions in a timely manner. The independence of this committee
can be enhanced when it is comprised of external Board members who have banking and
financial expertise. In India, the banks are required to set-up an Audit Committee of Board of
Directors to oversee and provide direction to the internal audit/ inspection function in banks
in order to enhance its effectiveness as a management tool.
Corporate Governance calls for a paradigm shift in the role of the Board and corporate
directors. They need to be “evolutionary” and “revolutionary” constantly moving the banks
toward higher level of creativity. While corporate governance is an important element of
affecting the long term financial health of banks, it is only a part of larger economic context
in which bank operate. The Corporate Governance depends upon legal and institutional
framework. It will be rightly to conclude with the remarks that the road to efficacy lies in
minimizing regulatory prescription and maximizing voluntary codes to ensure excellence in
corporate governance among financial intermediaries. Corporate Governance is the only
royal road to the portal of corporate success and there is no short cut to achieve the same.
REFERENCE LIST
Arun, T.G and Turner, J. D. (2002b), “Financial Sector Reform in Developing Countries: The
Banaji, J and Mody, G (2001) “Corporate Governance and the Indian Private Sector”, QEH
Barnier, R J (2001), Good Corporate Governance in Australia, Report presented at the 2001
James, B.R., Gerad, C. and Ross, L. (2000), “Banking Systems Around the Globe: Do
Regulation and Ownership Affect Performance and Stability?” World Bank Policy Research
Paper No 2325.
Bhasin, Madan Lal, (2006),Corporate governance Scenario in Asian Countries: The Problem
p.6
Blue Ribbons Committee Report, 1999 adapted from Smith, M., 2006, “Audit Committee
International Journal of Accounting, Auditing and Performance Evaluation, Vol. 3, No. 2, pp.
240-251, 2006
Bushman. R.M., and Smith, J.A., (2003), Transparency, Financial Accounting Information,
and Corporate Governance, FRBNY Economic Policy Review, April, pp. 65-87.
Buxi, C.V. (2005), “The Current Context of Corporate Governance in India”, Global
and Challenges.
www.acgs.asia.org.
Crouch, S., Housden, M. (2003), Marketing Research for Managers, 3rd ed., Butterworth-
Heinemann, Oxford,
Das, S.C. (2007), Corporate Governance Standards & Practice in India”, The Management
Dayton, K.N. (1984), “Corporate Governance; The Other Side of the Coin”, Harvard
http://www.indiainfoline.com/content/news/htm/2002/10/30102002/news30102002145352.ht
Economist Intelligence Unit Ltd., 2004. China energy: The CAO derivatives fiasco,
na%20energy_The%20CAO%20derivatives%20fiasco%20(13%20Dec).pdf
Euro shareholders Corporate Guidelines, 2000 adapted from Claessens, S. (2003), Corporate
Fernando A.C., (2002), Corporate Governance: The Dire Need of the Hour, Management
Matters, September.
Finkelstein, S. and D’ Aveni, R.A. (1994), “CEO Duality as a Double-Edged Sword: How
Goswami, O. (2001), “The Tide Rises, Gradually: Corporate Governance in India”, OECD
Honohon, Patyrick and Daniela, Klingebiel (2000), “Controlling Fiscal Costs of Banking
Crisis”, World Bank Policy Research Paper No. 2441, World Bank.
http://economictimes.indiatimes.com/Opinion/Columnists/T_T_Ram_Mohan/Bankings_gove
rnance_disaster/articleshow/msid-3216040,curpg-1.cms
Banking’s governance disaster 10th july 2008 : Economic times Bureau. Sited on 28th July
2008.
http://www.ciionline.org/_vti_bin/shtml.dll/busserv/corporate/cgform.htm
August 2008.
Jalan, B (2001), “Corporate Governance & Financial Sector”, Inaugural Address at NIBM
Jenson, M C and W H Meckling, (1976), Theory of the Firm: Managerial Behaviour, Agency
King, R. G. and Levine, R. (1993a), “Finance and growth: Schumpeter might be right”,
King, R.G and R. Levine (1993b), “Finance, Entrepreneurship and Growth: Theory and
Kumar Mangalam Birla Committee Report on Corporate Governance, (1999), SEBI cited on:
http://www.sebi.com/press/corpgov.html
Kumar, Sunil and Verma, Satish (2003), “Technical Efficiency, Benchmarks and Targets: A
Case Study of Indian Public Sector Banks”, Pranjan, Vol. XXXI, No. 4, Jan-Mar, pp. 275-
300.
Levine, R. (1997), “Financial Development and Economic Growth: Views and Agenda”,
Macey, J. R. and O’Hara, M. (2001) “The Corporate Governance of Banks”, Federal Reserve
McDaniel, C. Jnr. and Gates, R., (1996), “Contemporary Marketing Research”, 3rd Edition,
1998
http://www.bestpractices.cz/praktiky/ETIKA_V_PODNIKANI/p2003_oecd_principles_of_c
orporate_governance.pdf
Parekh, Deepak (2003), Corporate Governance and Business Ethics, All India Management
Phillip Lipton, P. 2003. The demise of HIH: corporate governance lessons. Keeping Good
Companies
Pradhan, B.B. & Pattnaik, S. (2002), Corporate Governance & Shareholder Value Analysis,
http://www.sebi.com/press/corpgov.html
Ravisankar, T.S. ((1999), Corporate Governance in Indian Banking: A Basic Framework,
RBI (2001a), Report of the Advisory Group on Corporate Governance, Chairman-R.H. Patil,
March.
Reddy, Y.V. (2001), “The Roles of the Public and Private Sectors”, Paper presented at the
Reserve Bank of India Report, 2001, “Report on Trend & Progress of Banking in India,
2001.”
161-194.
Saunders M, Lewis P & Thornhill A (2003), Research Methods for Business Students, 3rd
Topalova, Petia, (2004), “Overview of the Indian Corporate Sector: 1989-2002,” IMF
Tull D.S. & Hawkins D.I. 1990, Marketing Research: Measurement and
http://www.worldbank.org/wdr/2001/fulltext/fulltext2002.htm
Yin, R. K. Case Study Research, Design and Methods, 2nd ed. Newbury Park, Sage
Publications, 1994
The following Public Sector Banks in Delhi were used for the study. Senior bank
executives were approached in these banks. The interview process started with a brief
discussion on the attributes of corporate governance and then a small questionnaire was
handed over to the interviewees. Senior Managers who could share their opinion about
Corporate Governance were requested to fill the questionnaire. All the banks have their
regional office in Delhi (Capital of India)
Allahabad Bank
Bank of Baroda
Bank of India
Canara Bank
Punjab National Bank
State Bank of India
The following Private Sector Banks in Delhi were used for the study:
HDFC Bank
ICICI Bank
AXIS Bank
Standard Chartered Bank
Questionnaire
Q1. How do you score on these key attributes of good corporate governance in Indian
Banking Sector?
1) Transparency of Financial Statements
2) Ensuring ethical Practices by banks
3) Protecting minority shareholder rights
4) Adhering to all legal compliance of governance
5) Ensuring shareholder value
6) Sound risk management practices.
(Rank them in the order of importance. 6 for maximum importance; 1 for minimum
importance).
Q3. How do you score on some concerns from the point of view of management of banks
which necessitates implementation of Corporate Governance in banking sector?
7. Unethical practices adopted by banks
8. Practice of Insider trading and selective leak of sensitive information
9. Deviation from standard accounting practices
10. Neglecting for minority shareholders
11. Excessive Promoter Control in Management
12. Unrelated Policies & Risk
(Rank each objective in the order of importance. 6 for maximum importance; 1 for minimum
importance).
Q4. What is your opinion about those measures that can ensure a high level of transparency
& disclosures?
7. Proper means of Communication to interested parties.
8. Speedy dissemination of sensitive information.
9. Presentation of all relevant details in Annual Report.
10. High quality of Management Discussion and Analysis (MDA).
11. Responsiveness to investor’s queries.
12. Periodic review of Analyst meeting.
(Rank each objective in the order of importance. 6 for maximum importance; 1 for minimum
importance).
Q.5 How do you score the importance of various committees from Corporate Governance
point of view?
7. Audit Committee
8. Remuneration Committee
9. Management Committee
10. Investor’s Grievance Committee
11. Fraud Management Committee
12. Risk Monitoring Committee
Q 6 What is your opinion about the importance of Segment reporting to ensure a high level of
transparency and disclosure
(Rank them in order 1) very important, 2) Moderate Important, 3) Not important.)
Q.7 What according to you are the most desirable characteristic of the Board of Directors?
4. Presence of skilled and effective Independent Directors
5. Majority of Independent Directors
6. Separate MD and Chairman
(Rank each objective in the order of importance. 6 for maximum importance; 1 for minimum
importance).
Q. 8. What do you think regarding the effectiveness of audit committee in preventing fraud?
Ranking 1) Greatly effective, 2) somewhat effective, 3) Ineffective)
Q. 9. Will you try to achieve the maximum effectiveness in terms of good corporate
governance in your Bank?
(Rank them in order 1) Yes 2) Sometime Yes 3) No 4) only in exceptional case 5) Never.
Q (10) What percentage of good corporate governance practices can you expect to achieve in
your bank?
(Rank them in order 1) more than 20% 2) 10%-20% 3) Less than 10% 4) difficult to quantify