DR.
RAM MANOHAR LOHIYA,
NATIONAL LAW UNIVERSITY, LUCKNOW
2015-2016
CORPORATE LAW
[SYNOPSIS]
ON
AFTER SATYAM- HOW A SCANDAL CHANGED CORPORATE GOVERNANCE LAW
IN INDIA
SUBMITTED FOR THE PROJECT WORK UNDERTAKEN IN THE PARTIAL
FULFILLMENT OF B.A. LL.B. (HONS.) 5 YEARS INTEGRATED COURSE OF DR.
RAM MANOHAR LOHIYA NLU, LUCKNOW
SUBMITTED TO: SUBMITTED BY:
MR. MANISH SINGH TANU SHRIVASTAVA
ASST. PROF., LAW ROLL NO.-144; SECTION-B
DR. RMLNLU, LUCKNOW BA.LLB. (H); SEMESTER- V
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ACKNOWLEDGEMENT
I want to express uncommon much obliged and appreciation to my educator Mr. Manish
Singh who gave me the brilliant chance to finalize this glorious research subject.
This project helped me pick up a major viewpoint about the Project Topic. All through the
exploration period, I have been guided by my educator at whatever point I confronted any
obstacles or was in a state of daze not having the capacity to resolve the intricacies of the
subject.
I want to thank my University, Dr. Ram Manohar Lohia National Law University, Lucknow,
for giving me the opportunity to be a part of a novel exploration turned educational program
which without a doubt helps the comprehension of the subject.
I likewise want to thank my guardians, guides and well-wishers who have been a consistent
underpin and have sufficient energy and again looked into my work and have give their
experiences on the matter.
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INDEX
1. WHAT IS CORPORATE GOVERNANCE……………………………………...………4
2. BENEFITS OF GOOD CORPORATE GOVERNANCE………………………..……….4
3. NEED OF CORPORATE GOVERNANCE………………………………….….……….5
4. PRINCIPLES OF CORPORATE GOVERNANCE……………………………………...5
5. MAIN ACTORS OF CORPORATE GOVERNANCE……………………………….….6
6. MECHANISMS AND CONTROLS……………………………………………….…….6
7. SATYAM SCAM………………………………………………………………….……..7
8. PROBLEM WITH THE INDIAN SYSTEM OF CORPORATE GOVERNANCE…..…7
9. CONCLUSION…………………………………………………………………………..9
10. BIBLIOGRAPHY………………………………………………………………………10
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WHAT IS CORPORATE GOVERNANCE?
Corporate governance is the set of processes, customs, policies, laws, and institutions
affecting the way a corporation is directed, administered or controlled. An important theme of
corporate governance is the nature and extent of accountability of particular individuals in the
organization. Corporate governance deals with the complex set of relationships between the
corporation and its board of directors, management, shareholders, and other stakeholders. A
good structure of corporate governance is that encourages balanced relationship among
shareholders, executive directors and the board of directors.1
Corporate Governance defined2 as "the legal and factual framework of the management and
monitoring of companies. Corporate governance regulations are geared towards transparency
and thus strengthen the trust in management and control focusing on value creation"
The subject of corporate governance came into limelight after a string of collapses of high
profile companies like Enron and WorldCom this shocked the business world with both the
scale and age of their unethical and illegal operations. Worse, they seemed to indicate only
the tip of a dangerous iceberg. While corporate practices in the US companies came under
attack, it appeared that the problem was far more widespread. Large and trusted companies
from Parmalat in Italy to the multinational newspaper group Hollinger Inc., 3 revealed
significant and deep-rooted problems in their corporate governance. It was clear that
something was amiss in the area of corporate governance all over the world.
BENEFITS OF GOOD CORPORATE GOVERNANCE
Corporate governance and economic development are intrinsically linked. Effective corporate
governance systems promote the development of strong financial systems which, in turn,
have an unmistakably positive effect on economic growth and poverty reduction.
Effective corporate governance enhances access to external financing by firms, leading to
greater investment, as well as higher growth and employment. Good corporate governance
1
www.investopedia.com/terms/c/corporategovernance.asp
2
www.asx.com.au/.../cgc-principles-and-recommendations-3rd-edn.pdf
3
http://www.asx.com.au/documents/asx-compliance/cgc-principles-and-recommendations-3rd-edn.pdf
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can significantly reduce the risk of nation-wide financial crises. There is a strong inverse
relationship between the quality of corporate governance and currency depreciation.
Finally, good corporate governance can remove mistrust between different stakeholders,
reduce legal costs and improve social and labour relationships and external economies like
environmental protection. Making sure that the managers actually act on behalf of the owners
of the company – the stockholders – and pass on the profits to them are the key issues in
corporate governance.
NEED OF CORPORATE GOVERNANCE
Investors primarily consider two variables before making investment decisions--the rate of
return on invested capital and the risk associated with the investment. In recent years, the
"attractiveness of developing nations" as a destination for foreign capital has increased, partly
because of the high likelihood of obtaining robust returns and partly because of the
decreasing "attractiveness of developed nations." The lure of achieving a high rate of return,
however, does not, by itself, guarantee foreign investment; the attendant risk weighs equally
in an investor's decision-making calculus. Good corporate-governance practices reduce this
risk by ensuring transparency, accountability, and enforceability in the marketplace. While
strong corporate-governance4 systems help ensures a country's long-term success, weak
systems often lead to serious problems. It is widely believed that corporate governance can
"raise efficiency and growth," especially for countries that rely heavily on stock markets to
raise capital.
PRINCIPLES OF CORPORATE GOVERNANCE
Contemporary discussions of corporate governance is primarily based on three documents
released since 1990: The Cadbury Report (UK, 1992), the Principals of Corporate
Governance (OECD, 1998 and 2004), the Sarbanes-Oxley Act of 2002 (US, 2002). The
Cadbury and OECD reports present general principals around which businesses are expected
to operate in all over world to assure proper governance. The main principles identified by
these reports5 are:-
(a) Rights and equitable treatment of shareholders
4
Vittal, N. (1997), “Boards and Directors in Public Sector Enterprises”, The IIMB Management Review, January-
March, 48-56.
5
http://www.nfcgindia.org/library/cgitp.pdf
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(b) Interests of other stakeholders
(c) Role and responsibilities of the board
(d) Integrity and ethical behaviour
(e) Disclosure and transparency
MAIN ACTORS OF CORPORATE GOVERNANCE
The most influential parties involved in corporate governance include government agencies
and authorities, stock exchanges, management (including the board of directors and its chair,
the Chief Executive Officer or the equivalent, other executives and line management,
shareholders and auditors). Other influential stakeholders may include lenders, suppliers,
employees, creditors, customers and the community at large.
In my final I will discuss in detail the role of these actors and how they affect the corporate
governance.
MECHANISMS AND CONTROLS
Corporate governance mechanisms and controls are designed to reduce the inefficiencies that
arise from moral hazard and adverse selection. For example, to monitor managers' behavior,
an independent third party (the external auditor) attests the accuracy of information provided
by management to investors. An ideal control system should regulate both motivation and
ability.6
(A) INTERNAL CORPORATE GOVERNANCE CONTROLS
Internal corporate governance monitors activities and then takes corrective action to
accomplish organisational goals. Main stages of internal corporate governance are:-
Monitoring by the board of directors
Internal control procedures and internal auditors
Balance of power
Remuneration7
6
Pound J. (1993) in “The fight for good governance”, Harvard Business Review, JanuaryFebruary, 76-83.
7
Pozen, R. C. (1994) “Institutional investors: reluctant activists”, Harvard Business Review, January-February,
140-149.
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(B) EXTERNAL CORPORATE GOVERNANCE CONTROLS
External corporate governance controls encompass the controls external stakeholders exercise
over the organization. It includes:
Competition
Debt covenants
Demand for and assessment of performance information (especially financial
statements)
Government regulations
Managerial labour market
Media pressure
Takeovers8
SATYAM SCAM
In the year 2009 India’s biggest corporate scam revealed in the Satyam computers, fourth
largest Indian IT company of that time. This company is the winner of the 2008 Golden
Peacock award for its corporate governance standards. This company is founded by Mr.
Ramalinga Raju who in a letter to the Board of Directors said that he has for the past seven
years overstated the accounts and that the total profit margin of the company is only 3% even
though he has been fraudulently showing a profit margin of about 25%.9 In his letter to
company board Raju wrote that, “It was like riding a tiger, not knowing how to get off
without being eaten"
The mammoth fraud at IT major Satyam, involving over Rs14,000 crore as per CBI, proved
to be the most brazen swindling act, forcing the government to re-write corporate governance
rules during 2009 and tighten the norms for chartered accountants.10
This scam was investigated by the CBI, and Serious Fraud Investigating Office (SFIO).
Simultaneously, the scam was also probed by the SEBI and ICAI, these agencies looked into
specific aspects of the fraud, especially the role of the company's auditor Price Waterhouse.
8
Barua, S. K. and Varma, J. R. (1993a), “FERA in Reverse Gear; MNCs Strike Gold”, Economic Times, November
12, 1993.
9
Cadbury, A., Chairman, (1992), Report on the Financial Aspects of Corporate Governance.
10
Bajaj, R., Chairman, (1997) Draft code on corporate governance, Confederation of Indian Industry
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REVEALING OF THE SCAM
The downfall of Raju, a 54-year old software industry veteran, began nearly one month ago
when Satyam attempted to acquire two companies controlled by his sons - Maytas (Satyam
spelled backwards) Properties and Maytas Infra - for 1.6 billion dollars in order to
compensate for the holes in his books of account. The deal was abandoned 12 hours after it
was announced when investors objected, claiming it was an irresponsible misuse of funds and
an instance of nepotism.
Shortly thereafter, on Dec. 23, the World Bank barred Satyam from offering its computer
services for eight years citing a potential trail of corruption - data theft and bribery - that led
to Raju. Between 25th and 28th December, 2008, 3 independent directors of Satyam board
resigned and later on Mr. Raju confessed to fraud in the form of misappropriation in the
balance sheet of the company.
ROLE OF AUDITORS IN QUESTION
The auditors internal as well as external should have known this. Internal auditors can be
hand in glove with the management but what happened to the external auditors as to why they
did not suspect something wrong.
In this the case the external auditors were Price Water House Coopers (PwC) and that means
PwC knew about the fraud all along or they did not do proper auditing. ICAI, the regulatory
body of chartered accountancy in the country, had reportedly found two Price Waterhouse
auditors, S Gopalakrishnan and Talluri Srinivas, prima facie guilty of professional
misconduct.
PROBLEM WITH THE INDIAN SYSTEM OF CORPORATE GOVERNANCE
According to Mr. Jayanth Rama Varma11 the governance issue in the Anglo-Saxon world
aims essentially at disciplining the management which has ceased to be effectively
accountable to the owners. But in India the problem is different. Here it is of disciplining the
dominant shareholder and protecting the minority shareholders. In most of the Indian
companies major shares are hold by the members of a particular family they are the persons
who are responsible for the day to day functioning of the company, they take all the decisions
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Professor of Economics at IIM bangalore
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on behalf of the company and the fate of all investors depend on their decisions so in India
the need is to safeguard the interest of the minority share holder.
WEAKNESSES OF SATYAM’S CORPORATE GOVERNANCE
The Satyam story poses a big question over the credibility of auditors in general, as PwC was
auditor of the company. The bankers to Satyam included Bank of Baroda, BNP Paribas,
ICICI, HDFC, Citi Bank, HSBC. Even after placing false account details in its balance sheet
no bank came out and asked details about that.
There were independent directors in the company’s Executive board, one of whom was a
dean of the Indian School of Business, but nobody questions the role of independent directors
in the whole Scam. The so-called "independent" directors on the Satyam board were not truly
independent and the auditors often acted in collusion with corrupt company managers. There
is a need that the government look at the role played by independent directors and fix
obligation of independent directors, one worthwhile suggestion by them could prevent such
frauds.
CONCLUSION
The main aim of the project is to analyze the role of corporate governance in preventing the
frauds like Satyam Scam. Further my project will throw light on liabilities of Mr. Raju as a
promoter and a director and whether Memorandum of Association and Article of Association
authorized the Satyam to purchase an infrastructure company. Moreover, the liabilities of
Auditor and Bankers for facilitating Mr.Raju in connection with the role of independent
directors of Satyam were justified or not
I will also focus on the role of independent director to insure good corporate governance,
powers of Securities Exchange Board of India to ensure the strong framework of good
corporate governance among the members of India Inc. among other things.
I will also search for the possibilities of setting up an independent body, which would be
engaged in continuous training, certification, upgrading and disseminating corporate
governance’s best practices which are prevalent in U.S.A. and other developed countries.
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BIBLIOGRAPHY
Books referred
Avtar Singh, “Company Law” (15th Edition, Eastern Book Company, 2009).
Vashudha Joshi, “Corporate Governance in the Indian Scenario” (1st Edition,
Foundation books pvt. Ltd. 2004)
Articles Referred
(1) Principles of Corporate Governance: OECD Annotations to Indian Connotation by -
Dr PT Giridharan
(2) Improving corporate governance: the role of audit committee disclosures by -
Zabihollah Rezaee, Kingsley O. Olibe
(3) Corporate Governance in India: Disciplining the Dominant Shareholder - Jayanth
Rama Varma
(4) Corporate Governance in India – Evolution and Challenges by - Rajesh Chakrabarti
(5) Positive Corporate Governance and its Implications for Executive Compensation
By- James McConvill
Website referred
http://www.oppapers.com/essays/Corporate-Governance-India/137244
http://www.usatoday.com/money/companies/management/2008-02-17-corporate-
governance_N.htm
http://www.dnaindia.com/money/report_satyam-fraud-spurs-govt-to-tighten-corporate-
governance-norms_1323947
http://news.oneindia.in/2009/01/08/corporate-governance-satyam-computer-india.html
http://www.business-standard.com/india/news/satyam-fraud-not-an-accounting-failure-
icai/422909/
http://jurisonline.in/2010/05/post-satyam-corporate-governance-structure-in-india/
http://www.nixonpeabody.com/publications_detail3.asp?ID=2611
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http://www.siliconindia.com/shownews/Satyam-scam-good-for-corporate-governance-ICAI-
nid-67258-cid-7.html
http://www.computeruser.com/articles/corporate-governance-in-listed-companies-in-
india.html
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