- A Board of directors or board of governors is a body of elected or appointed members who jointly oversee the activities of a company or organization. The pivotal role in any system of corporate governance is performed by the board of directors. It is accountable to the stakeholders and directs and controls the management. It stewards the company, sets its strategic aim and financial goals and oversees their implementation, puts in place adequate internal controls and periodically reports the activities and progress of the company in the company in a transparent manner to all the stakeholders.
The OECD Principles of Corporate Governance (2004) describe the responsibilities of the board; some of these are summarized below:
- Board members should be informed and act ethically and in good faith, with due diligence and care, in the best interest of the company and the shareholders.
- Review and guide corporate strategy, objective setting, major plans of action, risk policy, capital plans, and annual budgets.
- Oversee major acquisitions and divestitures.
- Select, compensate, monitor and replace key executives and oversee succession planning.
- Align key executive and board remuneration pay with the longer-term interests of the company and its shareholders.
- Ensure a formal and transparent board member nomination and election process.
- Ensure the integrity of the corporations accounting and financial reporting systems, including their independent audit.
- Ensure appropriate systems of internal control are established.
- Oversee the process of disclosure and communications.
- Where committees of the board are established, their mandate, composition and working procedures should be well-defined and disclosed
- The Shareholders role in corporate governance is to appoint the directors and the auditors and to hold the board accountable for the proper governance of the company by requiring the board to provide them periodically with the requisite information in a transparent fashion, of the activities and progress of the company.
- The Management’s responsibility is to undertake the management of the company in terms of the direction provided by the board, to put in place adequate control systems and to ensure their operation and to provide information to the board on a timely basis and in a transparent manner to enable the board to monitor the accountability of management to it.
- The underlying principles of corporate governance revolve around three basic inter-related segments. These are:
- Integrity and Fairness
- Transparency and Disclosures
- Accountability and Responsibility
- The concept of corporate governance has been attracting public attention for quite some time. It has been finding wide acceptance for its relevance and importance to the industry and economy. It contributes not only to the efficiency of a business enterprise, but also, to the growth and progress of a country’s economy.
- Progressively, firms have voluntarily put in place systems of good corporate governance for the following reasons:
- Several studies in India and abroad have indicated that markets and investors take notice of well managed companies and respond positively to them. Such companies have a system of good corporate governance in place, which allows sufficient freedom to the board and management to take decisions towards the progress of their companies and to innovate, while remaining within the framework of effective accountability.
- In today’s globalised world, corporations need to access global pools of capital as well as attract and retain the best human capital from various parts of the world. Under such a scenario, unless a corporation embraces and demonstrates ethical conduct, it will not be able to succeed.
- The credibility offered by good corporate governance procedures also helps maintain the confidence of investors – both foreign and domestic – to attract more long-term capital. This will ultimately induce more stable sources of financing.
- A corporation is a congregation of various stakeholders, like customers, employees, investors, vendor partners, government and society. Its growth requires the cooperation of all the stakeholders. Hence it imperative for a corporation to be fair and transparent to all its stakeholders in all its transactions by adhering to the best corporate governance practices.
- Good Corporate Governance standards add considerable value to the operational performance of a company by:
- Improving strategic thinking at the top through induction of independent directors who bring in experience and new ideas;
- Rationalizing the management and constant monitoring of risk that a firm faces globally;
- Limiting the liability of top management and directors by carefully articulating the decision making process;
- Assuring the integrity of financial reports, etc.
It also has a long term reputational effects among key stakeholders, both internally and externally.
- Also, the instances of financial crisis have brought the subject of corporate governance to the surface. They have shifted the emphasis on compliance with substance, rather than form, and brought to sharper focus the need for intellectual honesty and integrity. This is because financial and non-financial disclosures made by any firm are only as good and honest as the people behind them.
- Good governance system, demonstrated by adoption of good corporate governance practices, builds confidence amongst stakeholders as well as prospective stakeholders. Investors are willing to pay higher prices to the corporates demonstrating strict adherence to internally accepted norms of corporate governance.
- Effective governance reduces perceived risks, consequently reduces cost of capital and enables board of directors to take quick and better decisions which ultimately improves bottom line of the corporates.
- Adoption of good corporate governance practices provides long term sustenance and strengthens stakeholders’ relationship.
- A good corporate citizen becomes an icon and enjoy a position of respects.
- Potential stakeholders aspire to enter into relationships with enterprises whose governance credentials are exemplary.
- Adoption of good corporate governance practices provides stability and growth to the enterprise.
- Effectiveness of corporate governance system cannot merely be legislated by law neither can any system of corporate governance be static. As competition increases, the environment in which firms operate also changes and in such a dynamic environment the systems of corporate governance also need to evolve. Failure to implement good governance procedures has a cost in terms of a significant risk premium when competing for scarce capital in today’s public markets.
Companies Act 2013 replaces the 5 decades old Companies Act 1956.
Main features of Companies Act 2013:
A) One Person Company:
- Act provides new form of private company, i.e., one person company. It may have only one director and one shareholder. The Companies Act 1956 requires minimum two shareholders and two directors in case of a private company.
B) Financial Statements:
- Companies Act 1956 does not define what are Financial Statements. The New Companies Act has defined the term Financial Statements. The Financial Statements contain the following.
- Balance Sheet
- Profit & Loss Account
- Cash Flow Statement
- Statement of Changes in Equity
- Explanatory Note
C) Four new statutory bodies:
- NFRA (National Financial Reporting Authority):
- This Body is been enacted to replace National Advisory Committee on Accounting Standards (which was toothless). The NFRA will perform the following functions.
- Make Recommendations to Central Government for laying of Accounting & Auditing policies & Standards
- Monitor & enforce the compliance with Accounting Standards
- Oversee the Quality of Service of provided by professionals specially of Chartered Accountants
- Will set Accounting standards for companies
- Will have Powers of civil court.
- Can debar CA and accountants for professional misconduct.
- Aggrieved party can appeal at NFRAA (National Financial Reporting APPELATE Authority)
- National Company Law Tribunal:
- The Companies Act 2013 introduced National Company Law Tribunal and the National Company Law Appellate Tribunal to replace the Company Law Board and Board for Industrial and Financial Reconstruction.
- They would relieve the Courts of their burden while simultaneously providing specialized justice.
- Disputes where NCLT will adjudicate:
- Company fails to comply with any provisions of the act (e.g. quorum not maintained, auditors not changed after deadline etc.)
- Merger and acquisition disputes
- Converting Public ltd. To private ltd.
- Filing Class action suits
3.Investor and Education Protection Fund Authority:
- This fund is used for awareness generation, financial literacy so investors don’t fall into traps.
- Companies have to pay dividend, interest and principal to their investors.But if any money remains unclaimed (death, disappearance of investor etc.)=> Money goes to corporate affairs ministry => into this fund.
- This is not a new thing. Already exists, But 2013’s act gives it statutory status, with following provisions
- HQ at Delhi. Regional offices across India.
- Chairman: Secretary of Corporate affairs ministry
- Membership: executive directors from RBI, SEBI; experts from legal and financial sector.
- Serious Fraud Investigation Office (SFIO):
- Not a new body, already setup in 2003 under corporate affairs ministry (based on Naresh Chandra report)
Then what’s new in Companies Act 2013?
- SFIO is made a statutory body.
- It’ll have power to Search seize arrest (until now, it could only examine documents)
- SFIO investigators will have same powers under CrPC, like a police officer.
- Once SFIO gets case, other agencies can’t proceed.
- State police, ED, CBI etc. will have to handover documents, witness and cooperate in further investigation.
D) Audit related provisions:
- Audit Committee:
- Have to make an audit Committee from board of directors.
- Its chairman must be an independent director.
- Provision for internal audit by CA, Accountants, even other (non-CA) persons.
- Companies will have to setup whistleblower mechanism.
- External Auditors terms and responsibility:
- One auditor can audit maximum of 20 companies.
- If he finds any fraud- he must report to both Union Government (ministry of corporate affairs) and during the AGM (Annual General Meeting).
- Auditor can hold office only for a period of 5 years and has to be approved every year. . If a Firm of Auditor has been appointed then the Period is 10 years.
- Act prohibits Auditors from performing non-audit services to the company where they are auditor to ensure independence and accountability of auditor.
- The new Act also imposes Penalties of Auditor. They can be levied by NFRA. For any misleading information could mean imprisonment up to one year.
- Company Secretary:
- Company Secretary acts as a link between board of directors and shareholders.
- He arranges BoD meetings, AGM, ensure quorum, minutes of the meeting etc.
- Companies above certain share capital, have to compulsorily hire company Secretary.
- Company’s Loans:
- Company cannot give loan to director / related persons
- If company gives loan to anyone- then its minimum interest rate must be higher than that of Government securities (G-sec).
- Company must get Credit rating before accepting public deposit (in collective investment schemes)
- Companies have to appoint a chief finance office to look after audit and account.
E) Board of Directors, Board Meeting, BoD Commitees and AGM Meeting, :
- General Provisions:
- Minimum directors in One member company=1, Pvt Ltd Company = 2, Public ltd = 3
- Maximum 15 directors
- Can add even more directors by resolution in AGM (Annual general meeting of shareholders).
- One person can serve as director in maximum 20 companies
- One director must be Indian resident (i.e. staying in India for 182 days or more)
- One director Woman in the board.
- If director remains absent for 12 months- consider his position vacant, and get new guy
- The Companies Act 2013 does not restrict an Indian company from indemnifying (compensate for harm or loss) its directors and officers like the Companies Act 1956.
- The new Act has cast new responsibility on Directors for declaration in the Directors Responsibility Statement.The Act also says lays down the manner of punishment if the Information is not furnished.
- Independent Directors:
- Act provides that all listed companies should have at least one-third of the Board as independent directors. Such other class or classes of public companies as may be prescribed by the Central Government shall also be required to appoint independent directors.
- Their performance will be reviewed in shareholders’ Annual General Meeting (AGM).
- No independent director shall hold office for more than two consecutive terms of five years.
- After 10 years’ service, if they want to join same company as ID again, they’ll have to wait for 3 years cooling period.
- Board Meetings:
- Doesn’t apply to one person companies.
- Company must hold minimum 4 meetings per year
- must not have more than 120 days gap between two meetings
- Quorum: 1/3rd strength or two directors, whichever is max.
- If directors cannot give physical presence, video conferencing is permitted.
- Directors must be given 7 days prior notice. (So they can make prior travel arrangements.) The notice may be sent by electronic means to every director.
- BoD: Committee
- Companies will be required to make following Committees out of their board members
- Audit committee
- Stakeholder relationship committee (SRC)
- CSR committee (CSRC)
- Nomination and Remuneration committee (NRC)- they’ll observe following
- MD/Directors’ salary doesn’t exceed 11% of company’s profit
- Pay rise of CEO, directors etc. vs company performance
- They’ll present this data in AGM.
- Annual General Meeting (AGM):
- Not required for one person company
- Public & pvt LTD. companies both have to hold AGM.
- General notice can be sent by letter / email to shareholders.
- Proxy voting permitted.
- Electronic Voting also permitted
- Quorum depends on number of shareholders.
F) Other Provisions in the Act:
- Earlier the Companies Act Required that the a certain percentage of Profits have to be transferred to Reserve before declaring Dividend. The maximum being 10%. Now with the new Act the Company does not have to mandatorily transfer to reserve. It may at its discretion transfer any amount of profit to Reserve.
- The Act provides for Private Placement. It refers to issue of shares to private person i.e apart from public. Hence if shares are issued to 50 person or less then it is called a private placement.
- The Act has given recognition to doing meetings through Video Conferencing & other Audio means.
- Act proposed E-Governance for various company processes like maintenance and inspection of documents in electronic form, option of keeping of books of accounts in electronic form, financial statements to be placed on company’s website, etc.
- Where in a company if there is a requirement to value any stocks, shares etc then it will be valued by only registered Valuers. The Act lays down the requirement to become Registered Valuer & the functions to be performed by it.
Class action suits for Shareholders:
- Act has introduced new concept of class action suits with a view of making shareholders and other stakeholders, more informed and knowledgeable about their rights.
More power for Shareholders:
- The Companies Act 2013 provides for approvals from shareholders on various significant transactions.
Fast Track Mergers:
- Act proposes a fast track and simplified procedure for mergers and amalgamations of certain class of companies such as holding and subsidiary, and small companies after obtaining approval of the Indian government.
Cross Border Mergers:
- Act permits cross border mergers, both ways; a foreign company merging with an India Company and vice versa but with prior permission of RBI.
Prohibition on forward dealings and insider trading:
- Act prohibits directors and key managerial personnel from purchasing call and put options of shares of the company, if such person is reasonably expected to have access to price-sensitive information.
Increase in number of Shareholders:
- Act increased the number of maximum shareholders in a private company from 50 to 200.
Limit on Maximum Partners:
- The maximum number of persons/partners in any association/partnership may be upto such number as may be prescribed but not exceeding 100. This restriction will not apply to an association or partnership, constituted by professionals like lawyer, chartered accountants, company secretaries, etc. who are governed by their special laws.
- Under the Companies Act 1956, there was a limit of maximum 20 persons/partners and there was no exemption granted to the professionals.
Corporate Social Responsibility:
- Under the new act, Companies will have to spend 2% of their last three years’ average profit on CSR activities. (e.g. schools, slum redevelopment etc.)
- It requires Companies having net worth of Rs 500 crore or more or Turnover of Rs 1000 crore or Net profit of more than Rs 5 crore during a Financial Year have to spend at least 2% of its average Net Profits made during last 3 years in pursuance of CSR activities.
- 2% rule doesn’t apply to income earned from foreign branches of the above companies.
- Above companies have to setup CSR Committee made up of 3 board of directors.
- Committee will formulate & monitor CSR policy.
- If Companies do not spend, they have to provide proper reason for the same.
A) Difference between CSR and Philanthropy/Charity
- Philanthropy means the act of donating money, goods, time or effort to support a charitable cause in regard to a defined objective. Philanthropy can be equated with benevolence and charity for the poor and needy. Philanthropy can be any selfless giving towards any kind of social need that is not served, underserved, or perceived as unserved or underserved. Philanthropy can be by an individual or by a corporate. The etymological origin of the word is from Late Latin philanthropia, from Greek philanthrōpia, from philanthrōpos loving people i.e. phil- + anthrōpos human being. It is an active effort to promote human welfare.
- Corporate Social Responsibility, on the other hand, is about how a company aligns their values to social causes by including and collaborating with their investors, suppliers, employees, regulators and the society as a whole. The investment in CSR may be on people centric issues and/or planet issues. A CSR initiative of a corporate is not a selfless act of giving; companies derive long-term benefits from the CSR initiatives and it is this enlightened self interest which is driving the CSR initiatives in companies.
B) Advantages of CSR
- CSR creates a favourable public image, which attracts customers. Reputation or brand equity of the products of a company which understands and demonstrates its social responsibilities is very high. Customers trust the products of such a company and are willing to pay a premium on its products. Organizations that perform well with regard to CSR can build reputation, while those that perform poorly can damage brand and company value when exposed. Brand equity, is founded on values such as trust, credibility, reliability, quality and consistency.
- Corporate Social Responsibility (CSR) activities have its advantages. It builds up a positive image encouraging social involvement of employees, which in turn develops a sense of loyalty towards the organization, helping in creating a dedicated workforce proud of its company. Employees like to contribute to the cause of creating a better society. Employees become champions of a company for which they are proud to work.
- Society gains through better neighbourhoods and employment opportunities, while the organisation benefits from a better community, which is the main source of its workforce and the consumer of its products.
- Public needs have changed leading to changed expectations from consumers. The industry/business owes its very existence society and has to respond to needs of the society.
- The company’s social involvement discourages excessive regulation or intervention from the Government or statutory bodies, and hence gives greater freedom and flexibility in decision-making.
- The internal activities of the organisation have an impact on the external environment, since the society is an inter-dependent system.
- A business organisation has a great deal of power and money, entrusted upon it by the society and
- should be accompanied by an equal amount of responsibility. In other words, there should be a balance between the authority and responsibility.
- The good public image secured by one organization by their social responsiveness encourages other organizations in the neighborhood or in the professional group to adapt themselves to achieve their social responsiveness.
- The atmosphere of social responsiveness encourages co-operative attitude between groups of
- One company can advise or solve social problems that other organizations could not solve.
- Companies can better address the grievances of its employees and create employment opportunities for the unemployed.
- A company with its ―ear to the ground through regular stakeholder dialogue is in a better position to anticipate and respond to regulatory, economic, social and environmental changes that may occur.
- Financial institutions are increasingly incorporating social and environmental criteria into their assessment of projects. When making decisions about where to place their money, investors are looking for indicators of effective CSR management.
- In a number of jurisdictions, governments have expedited approval processes for firms that have undertaken social and environmental activities beyond those required by regulation.
C) Factors Influencing CSR
Many factors and influences, including the following, have led to increasing attention being devoted to CSR:
- Globalization coupled with focus on cross-border trade, multinational enterprises and global supply chains is increasingly raising CSR concerns related to human resource management practices environmental protection, and health and safety, among other things.
- Governments and intergovernmental bodies, such as the United Nations, the Organisation for Economic Co-operation and Development and the International Labour Organization have developed compacts, declarations, guidelines, principles and other instruments that outline social norms for acceptable conduct.
- Advances in communications technology, such as the Internet, cellular phones and personal digital assistants, are making it easier to track corporate activities and disseminate information about them. Nongovernmental organizations now regularly draw attention through their websites to business practices they view as problematic.
- Consumers and investors are showing increasing interest in supporting responsible business practices and are demanding more information on how companies are addressing risks and opportunities related to social and environmental issues.
- Numerous serious and high-profile breaches of corporate ethics have contributed to elevated public mistrust of corporations and highlighted the need for improved corporate governance, transparency, accountability and ethical standards.
- Citizens in many countries are making it clear that corporations should meet standards of social and environmental care, no matter where they operate.
- There is increasing awareness of the limits of government legislative and regulatory initiatives to effectively capture all the issues that corporate social responsibility addresses.
- Businesses are recognizing that adopting an effective approach to CSR can reduce risk of business disruptions, open up new opportunities, and enhance brand and company reputation