February 25, 2020
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Awaiting The Fi Ascent To Dissent

The $100-million ITC fraud highlights the need for FIs to play watchdog and maintain shareholders’ democracy

Awaiting The Fi Ascent To Dissent

OFTEN accused of changing colours like a chameleon, depending on a promoter’s clout or the Government’s relations with a particular management, Indian financial institutions (FIs) are now suddenly being asked to play a more active and effective role in corporate governance. Some would say that’s a tall order. Others like Sir Adrian Cadbury, whose report on corporate governance is right now a must-read for Indian corporate leaders, think differently. "In general, society gets the company it deserves," Cadbury said in a recent interview. "Having taken part in debates in 21 countries on the forces of corporate governance, I’m convinced that the forces of large institutional investors will bring about this change." 

The immediate cause of the call to FIs to get their act together is, of course, the alleged $100-million FERA violation by ITC, more than one-third of whose board members are FI nominees. Finance Minister P. Chidambaram clearly spelt out the new role for FIs when he opened the country’s first securities depository in Mumbai on November 8, nine days after the countrywide raids on ITC. He said: "FI nominees can’t be mere spectators and board meetings shouldn’t become rituals."

 Chidambaram’s wake-up call is a move in the right direction, feels former finance minister and BJP leader Jaswant Singh. Says he: "By being active, FIs should ensure that their role as directors on the board is effectively fulfilled. But a more active role shouldn’t by any stretch of imagination mean harking back to the era of nationalisation." 

As FIs hold public money, it is implicit in their charter that they sere as guardians protecting the interests of shareholders and investors, Singh points out. "But," says he, "past experience has shown that FIs have definitely not fulfilled their role as guardians of public money. The ITC affair is only one of the examples. There will be many more cases if one were to examine under the surface. But I don’t want to take names at this stage."

 G.V. Ramakrishna, chairman, Disinvestment Commission, suggests that for FIs to be really effective, each institution should appoint a full-time trained panel of four to five employees to sit on the board of companies where they have a stake. Each panel could cover about three to four companies. As these people will have up-to-date information on the affairs of the company, they will better understand its transactions. This is the simplest and best way to ensure FIs play a more effective role in corporate governance, without, of course, undue interference. SEBI member L.C. Gupta advises FI nominees take up a "dissenting role" on the board of directors.

Chidambaram has already declared that a code of corporate governance would be announced soon. Industry associations like the CII have also set up task forces with this aim in view. The western wing of the CII will soon be holding a seminar in Mumbai with Cadbury himself making a presentation on corporate governance. An inter-institutional committee headed by Basudev Sen of UTI with representatives from IDBI, LIC, ICICI and IFCI has already been set up to submit draft guidelines to redefine the FIs’ role. However, Singh believes there’s no need for a model role for FIs. All they need to do is to fulfil their obligations.

But will FIs, long used to being handmaidens of the Government, be able to break the shackles and come into their own? After the ITC scam, will they ensure that other corporates in which they have a stake are run according to sound management practices? Will they now make sure that shareholders’ interests are protected and the public’s hard-earned money, which they have invested in corporates, is safe?

 If the FIs had a consistent record of backing sound managements and supporting good corporate governance, the answer to all these queries would have been a loud yes. But given their not-so-glorious record, we can at best utter a feeble maybe. Says V. Raghuraman, ASSOCHAM secretary general: "As I see it, FIs should play a more effective role in enhancing the quality of management and see that shareholders’ democracy prevails. They also have to give confidence to well-managed companies that they’ll not desta-bilise them." But given that India’s corporate history is replete with instances where FIs have not always played by the rules, this may be rather idealistic. Says Kamal Morarka, industrialist and former MP: "In practice, FIs work on a simple principle. You show us the company and the man running it and we’ll tell you the rules. FIs most often act according to the convenience of the situation and the attitude of the Government towards a particular promoter or chairman."

Take the case of ITC. Quite obviously under instructions from the finance ministry, the FIs backed the then ITC chairman K.L. Chugh and the later incumbent Y.C. Deveshwar despite BAT’s opposition to them. When BAT recommended bifurcating the posts of chairman and CEO on lines suggested by the Cadbury committee report, FI nominees on the ITC board stoutly opposed it. That would have hurt Indian managers portrayed as fighting the hegemony of the British parent company. Indeed, FIs went so far as to nominate two more people on the ITC board literally hours before a crucial EGM last year just to make sure that Chugh had majority support on the board.

 The inconsistency of FIs is most glaring when you compare the two famous cases of attempted corporate takeovers, says Morarka. When Reliance bid for a takeover of L&T, they were opposed tooth and nail, because the then government didn’t like the Ambanis. But when Swraj Paul tried to take over DCM Escorts, he was encouraged by the then government because it was enamoured of Paul, Morarka says. When the government changed, the tables were turned and Paul returned empty-handed.

But there’s the flip side too. The traditional business-politics nexus made sure that corporate management could get away without giving the FIs any clout over company decisions. Says S.K. Mitra, former MDof GIC Asset Management Company (see interview): "In most cases, the working members of the board or the family promoters will inform FI nominees of the agenda a few hours before the board meeting. None of the important information is provided by promoters to the board members in advance, as a result of which more often than not FI nominees are in the dark about most of the operational details." As long as FIs get their decisions handed down from politicians, and as long as industrialists can cosy up to politicians, this is unlikely to change.

But is an increased role for FIs healthy for corporate growth? E. Shreedharan, chairman and MD of Konkan Railway Corporation, is wary of too much FI interference. Says he: "While major decisions need to be discussed with the board, interference in day-to-day operations will just delay all the decisions, to the detriment of the company." Morarka agrees: "In the ’60s and ’70s when government policies envisaged a more active role for FIs in the private sector, corporates actually didn’t do so well. During that period, the private sector felt there was a lot of interference from FIs. But in the ’80s when FIs receded into the background and played a marginal role in company affairs, corporates performed much better. "

 Bad managements will continue to be what they are, despite strong FI presence, feels he. Even if they had taken a more active role in ITC, FIs couldn’t have prevented the scam. If FIs play a more active role in PSUs, then how come their performance and accountability still leaves much to be desired, asks Morarka. 

And how did FIs come to acquire these large stakes in corporates? Part of the FI loans extended to companies has traditionally been converted into equity. But a distinction should be made between equity-holding by FIs as allotted to them originally and equity they pick up from the market. At present, FIs club both together to increase their clout. But they must be clear about their role. Are they there on the company boards as a major shareholder, an FI or the Government itself? Madhur Bajaj, director, Bajaj Auto, which does not have a large FI stake, has a radical viewpoint. "Today it makes little sense for an FI to own 40 and 50 per cent stakes in a company," says he. "The corporate sector is well capable of raising resources from other sectors. As development financial institutions, they should stick to lending money and not play boardroom games. Slowly they should start offloading their stakes in corporates."

Should FIs now start breathing down the neck of all corporates because of the ITC affair? The industry opinion is that ITC is an isolated case and the whole private sector can’t be tarred with the same brush. Each time a scam breaks, the Government tends to frame a plethora of rules, gradually buried as time passes by. And isn’t a more active role for FIs out of sync with liberalisation? Isn’t it the FIs’ job to lend money and not run companies?

Not really. As far as FI as lender is concerned, any lender will want to ensure that his money is safe, and the longer the term of the loan, the more crucial it is for the lender to take an interest in the company’s running. This is true across the world. And entities like UTI or LIC also represent the small shareholder, whose only chance of not getting gypped by dishonest managements are the FI nominees. This is also true across the world. Indeed, FIs can shape up incompetent management by threatening to withdraw their stakes. The value of the company will fall dramatically if FIs pull out.

 In fact, the Sen Committee has also been entrusted with the task of formulating policies regarding disposing the shareholding of FIs in companies performing unsatisfactorily. This seems to have been prompted by the confrontation between P.R. Khanna, an FInominee on the Modi Rubber board, and promoter B.K. Modi. Both Khanna and chairman Mantosh Sondhi have resigned and the FIs have decided to sell their stakes to the public and not to the Modis. If this happens, Modi Rubber may well slip out of family control.

Naturally, the corporate world seems afraid of FI clout. Most industrialists and commerce chambers refused to comment on FI role in corporate governance. But after all committees have submitted their reports, and numerous conferences held, will we have touched the core issue? Would we be simply tackling the symptoms rather than the malaise? For the bottomline is clear: if FIs are to be active and effective, they have to be given real autonomy. Will the Finance Ministry allow this and let go the levers of power? n

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