An evening with Mr V Sankaran
Introduction
On April 19, we had an informative session by Mr. V Sankaran, distinguished Corporate Advisor. Mr. Sankaran explored the evolving responsibilities and challenges faced by independent directors in ensuring transparency, accountability, and ethical conduct within organizations. He explained in detail with various examples the crucial role played by independent directors in shaping corporate governance practices.
About Mr V Sankaran
Mr. V Sankaran is a distinguished figure in the world of finance and governance. He is a member of esteemed professional bodies like the Institute of Cost Accountants of India and the Institute of Company Secretaries of India. Mr. Sankaran brings a wealth of knowledge and experience to the table.
In his illustrious career, Mr. Sankaran has held prominent positions in renowned organizations such as Larsen and Toubro, ITW SIGNODE, SAFE, and Ernst and Young. He has been the Chairman of the Equipment Leasing Association of India and Convener of the Chennai Chapter of the Association of Merchant Bankers of India.
Mr. Sankaran has also actively contributed to academia. He has served as a Visiting Professor at esteemed institutions like the Jamnalal Bajaj Institute of Management Studies. He has shared his insights and expertise through presentations and speeches at professional conferences, further cementing his reputation as a thought leader in the field.
Currently, Mr. Sankaran serves as an Independent Director on the boards of established companies, where he chairs pivotal committees such as the Audit Committee and Nomination and Remuneration Committee.
Background
About 40 years back, almost 80% of Indian companies did not have well-functioning bords. They would be filled with friends and members of the family. Yet, about 20% of the companies recognized the need for a well-functioning board. So, they had independent directors to guide them on matters of strategic importance.
Mr Sankaran recalls an MNC which had a professor of IIM Ahmedabad and a senior IAS officer as board members. There were other companies which had the chairmen of SBI and LIC as board members. With such stalwarts on the board, it was more likely that important matters would be discussed thoroughly. And the company would be run in the best interests of the stakeholders.
Moreover, even during those days, for an IPO to succeed, a good board was considered important. Investors would check whether the board members were people of integrity and with a good track record. However, the concept of independent directors had not been formalized.
Incidents at companies like Satyam, Bhushan Steel, Yes Bank and the Amrapali group underscored the need for independent directors. Today, we have a detailed framework in place under the Companies Act, for the appointment and duties of independent directors.
Independent directors are expected to contribute to the growth of the company. They should have a good understanding of the company’s business and the environment in which it operates.
The 2013 amendment and Section 149
The 2013 amendment of the Companies Act paved the way for inclusion of independent directors. The number of independent directors and their roles and responsibilities were spelt out clearly.
Every listed public company shall have at least one-third of the total number of directors as independent directors (fraction is to be rounded off to one. A five member board should have 2 independent directors.). Non listed public companies with paid up share capital of Rs. 10 crore or more or turnover of Rs. 100 crore or more or outstanding loans/borrowings/ debentures/ deposits/ exceeding Rs. 50 crore or more, shall also have at least 2 directors as independent directors.
More independent directors can be appointed depending on the requirements of the audit committee. If there is any vacancy, it shall be filled up by the board of directors within 3 months from the date of such vacancy or not later than the immediate next board meeting, whichever is later.
Definition of an Independent Director
Section 149(6) of the Act prescribes the criteria for independent directors:
- Persons of integrity who possess relevant industrial expertise and experience.
- Are not promoters or related to promoters of the company or its holding, subsidiary, or associate company.
- They or their relatives must not have any material or pecuniary relationship with the company or its promoters/directors/holding/subsidiary/ associate company.
- They or their relatives must not have held the position of a key managerial personnel or have been the employee of the company or its holding, subsidiary, or associate company.
- Must not be an employee of a firm of auditors or company secretaries in practice or cost auditors or any legal or a consulting firm that has any transaction with the company.
- Must not hold together with relatives 2 % or more of the total voting power of the company.
- Must not be a senior member of any non-profit organisation that receives 25% or more of its receipts from the company, any of its promoters, directors or its holding, subsidiary or associate companies.
Qualifications
Independent directors should have appropriate skills, experience, and knowledge in one or more fields of finance, law, management, sales, marketing, administration, research, corporate governance, technical operations or other disciplines related to the company’s business.
What do independent directors do?
They evaluate the performance of the management vis a vis the goals.
They check the documentation. They check whether the company is meeting all the compliance requirements. They check whether risk management and control processes are in place.
They verify whether the financial statements have been prepared properly and are accurate.
They protect the interests of minority shareholders.
They ensure that key decisions are taken in a professional manner after due consideration of all the relevant factors. In case of a takeover, especially if it is an unrelated diversification, they scrutinise whether it makes sense. They ensure there is no conflict of interests when key decisions are being made.
They check whether newly appointed directors/top execs are being paid in line with the market.
They scrutinise related party transactions (including loans given to contractors) to ensure that everything is being done in a transparent way.
Note:
In case of JSW, 60% of the contracts were with related parties. The public issue was still oversubscribed. There is nothing wrong with related party transactions if it is being done with a clear logic in a transparent way. The terms should be fair and in line with what is offered to other parties.
In one case the Ministry of Company Affairs reported that a company had dealings with 20 different parties operating form the same office. Strangely enough, there were no people in this office. Such irregularities must be identified by independent directors.
Incidentally, independent directors have enough opportunities to identify malpractices. The agenda papers are sent to them at least one week before the meeting. At the beginning of each year, the list of related parties is presented to the board for ad hoc approval. So there are ample opportunities to ask questions.
Q&A
The presence of independent directors on the board improves the perception of the company among investors. It is also a fact that a good board can boost the performance of the company. Mr Sankaran gave the example of a company whose revenue shot up from Rs 15 to Rs 1000 crores in a short period of time. The board played a major role by providing the right guidance to the top management.
To explain the constructive role the board can play, Mr Sankaran gave another example of a company which depended on one customer for 45% of their revenues. The board advised the management to drop this customer and focus on other customers. For a year, the revenue fell. But since then, growth has picked up.
Bhushan Steel: Bhushan Steel manipulated its financial statements. This enabled the company to secure loans exceeding the capacity to repay. Money was diverted and assets were overvalued. The company took on more and more loans to fund ambitious expansion plans. However, these projects experienced delays and cost overruns. Steel prices also failed to meet expectations, squeezing profits. This made it difficult to service the debt. The company was eventually declared bankrupt in 2017. The case went to IBC. At this stage, the promoters wanted to buy back the company at the price offered by other bidders. Tata Steel acquired Bhushan Steel through a court-mandated insolvency resolution process in 2019.
Yes Bank: The promoter was pushing his agenda though it was not in the best interests of the bank or the shareholders. Reviews by the Reserve Bank of India (RBI) in 2017 and 2018 revealed a sharp increase in Yes Bank's NPAs. The bank had lent heavily to borrowers who were struggling financially. Allegations of mismanagement and a lack of transparency plagued Yes Bank. Concerns were raised about the bank's lending practices and its ability to properly assess risks. With mounting NPAs and eroding confidence, Yes Bank found it difficult to raise new capital. There was a run on the bank as people rushed to withdraw their money. The crisis came to a head in March 2020, when the RBI intervened to prevent a collapse. The RBI imposed a moratorium on Yes Bank, restricting withdrawals, and worked out a rescue plan that involved other banks infusing capital.
ICICI Bank: The bank sanctioned loans to the Videocon Group between 2009 and 2011, when Ms Chanda Kochhar was the CEO. Questions were raised about whether proper due diligence was followed and if the loans adhered to ICICI Bank's lending norms. Ms Kochhar's husband, Deepak had a business relationship with Videocon. The charge was that Ms Kochhar did not recuse herself from loan decisions involving Videocon.
Alok Industries: Alok Industries went on an aggressive expansion spree in the early 2000s, taking on massive loans to build new plants. However, they didn't fully consider industry conditions or utilize existing resources effectively. This rapid expansion saddled them with a heavy debt burden. The company ventured into the retail sector. However, intense competition, operational inefficiencies, and mounting losses forced them to shut down a significant portion of these outlets. Volatile raw material prices and global economic conditions impacted the company’s profitability and ability to repay debts. Meanwhile, the high debt burden led to rising interest payments, squeezing profits. This, in turn, made it difficult for Alok Industries to invest in modernization or keep up with competition. Eventually, the company was declared bankrupt in 2017 and later acquired by Reliance Industries.
Amrapali: Amrapali launched a massive number of projects in a short span. This stretched the company’s resources thin. The company found it difficult to complete existing projects on time and within budget. The company diverted funds meant for construction to other ventures or affiliated companies. This created cash flow problems and hampered project completion. As projects stalled, delays in deliveries of flats became commonplace. In some cases, flats were never completed, leaving homebuyers who had invested their life savings in distress. The Supreme Court eventually intervened, cancelling the company's registration, and directing legal action against the directors. Efforts are under way to complete stalled projects and deliver flats to homebuyers. A government agency is overseeing the process.
Satyam: The company had a good board and reputed auditors. But the directors blindly believed the auditors and did not bother to verify. The company had to be bailed out by Tech Mahindra.
One should register with MCA. Then there is an online exam to be cleared. Some 27,000 people have qualified in the exam. Merely qualifying in the exam is not enough. One should also have a track record and some specialist knowledge.
Mr Sankaran expects many vacancies to come up in 2024. So, people with expertise will be in great demand. To raise the profile and improve the chances of being appointed a board member, one must take part in speaking engagements or publish blogs and demonstrate thought leadership. Technical expertise rather than generalist knowledge is preferred.
Earlier, the fees very low, sometimes Rs 500 per sitting. Now a fee of even Rs 100,000 per sitting can be given. A commission on profits with a ceiling of 11% can also be paid.
In general, the compensation of the independent directors needs to be revised. It is not in line with the responsibilities.
If the independent directors are shown to be conniving with the leadership, they can be held liable.
There are many grey areas. Each company has its own way of deploying money. Some scrutiny is required to ensure that the money is not diverted for wrong activities in the name of CSR.
This is a new area. Right now, there is a shortage of independent directors with expertise in this area.