Corporate Governance, Key Principles for CA Students

Corporate Governance is like the rulebook that a company follows to be well-managed, lawful, and ethical. It's all about ensuring the company is run effectively, taking care of its responsibilities to stakeholders, and doing good for society.

This rulebook includes guidelines to maintain good relationships between the company's owners (shareholders), the Board of Directors, management, and everyone else involved, like employees, customers, the government, suppliers, and the public. These rules apply to all types of organizations, whether they aim to make a profit or not.

The following article will explain corporate governance, why it's important, and what it aims to achieve. It's a crucial topic for CA and other competitive exams and is also relevant for staying updated on current affairs for exams like CA and UPSC.

Corporate Governance for CA Students

Corporate governance is crucial for CA (Chartered Accountant) students to understand. It involves a set of principles and practices that guide how companies are managed and controlled. This helps ensure that businesses operate with integrity, transparency, and accountability, which, in turn, can attract investment and contribute to long-term financial stability and sustainable growth in society. CA students should learn about various aspects of corporate governance, such as board structures, ethical considerations, compliance with regulations, and risk management, to make informed decisions and recommendations in their future roles.

Principles of Corporate Governance for CA Students

The key principles of corporate governance for CA students, as outlined by RFHL, are essential for understanding how companies can achieve good governance practices. Below is a concise description of each principle:

1. Create a firm foundation for management: This principle underscores the importance of establishing a solid organizational structure and leadership to manage the company effectively.
2. Structure the Board to add value: It emphasizes the need for a Board of Directors to contribute positively to the company's growth and success.
3. Promote responsible and ethical decision-making: Ethical decision-making is at the core of corporate governance, ensuring that choices are made with integrity and accountability.
4. Safeguarding the integrity in financial reporting: This principle highlights the importance of accurate and transparent financial reporting to maintain stakeholder trust.
5. Create timely and balanced disclosure: It stresses the need for companies to communicate relevant information to stakeholders in a timely and balanced manner.
6. Please respect the rights of the shareholders: Shareholders' rights should be upheld, ensuring they have a say in the company's decisions.
7. Determine and manage risk: Effective risk management is crucial to protect the company's interests and stakeholders.
8. Encourage performance enhancement: This principle focuses on continually improving the company's performance and competitiveness.
9. Remunerate fairly and responsibly: Fair compensation practices for executives and employees are vital to align incentives and motivate for good performance.
10. Recognize the legitimate interests of stakeholders: Companies should consider the concerns and interests of various stakeholders, including employees, customers, and the broader community.

Understanding and applying these principles is vital for CA students to ensure that companies they work with adhere to best practices in corporate governance, which ultimately leads to sustainable and responsible business operations.

What is the Need for Corporate Governance?

Corporate Governance is like the rulebook that companies follow to run smoothly. It makes sure they work efficiently, reduce risks, and protect the interests of everyone involved.

Here's why it's so important:

• It reshapes how a company is owned and controlled.
• Investors get a clearer idea of a company's growth. This can bring in more money and create jobs.
• Without it, companies might face more risks like corruption or scandals.
• People expect a lot from big businesses. If they don't run well, it can upset everyone, not just inside the company but also in the whole society.
• Companies can easily be taken over or face challenges in today's global world. Good governance helps here.
• Sharing clear and honest information is crucial. This helps companies last longer and benefits society, too.

Functions of Corporate Governance for CA Students

Check the below section to know what are the functions of corporate governance:

1. Accountability

Accountability in corporate governance is like ensuring people in charge take responsibility for their actions. This helps in two ways:

• The management (the people running the company) must answer to the Board of Directors (a group overseeing the company).
• The Board of Directors, in turn, must answer to the shareholders (the owners of the company).

This idea gives shareholders peace of mind. They know that if something goes wrong, the people responsible will be held accountable for their actions.

2. Ethics

Fairness or ethics in corporate governance means that shareholders have the right to speak up if they feel something's not right. This principle is all about.

• Protecting the rights of shareholders.
• Treating all shareholders the same way, without showing favouritism to anyone.
• Providing a way to fix things if someone's rights are not respected.

Moreover, it's about being fair to everyone and making sure shareholders are heard and treated equally.

3. Transparency

Transparency in corporate governance is like letting everyone know clearly about the company's decisions and actions. It's about:

• Sharing clear information on the company's rules and actions.
• Building trust between the people running the company and those invested in it.
• Making sure important details, like how the company is doing financially, are shared on time.

However, it's about keeping things open and honest so everyone knows what's going on in the company.

4. Compliance

Compliance or Independence in corporate governance means making decisions without being influenced unfairly. It's all about:

• Making choices without any personal interests in the company.
• Avoiding conflicts of interest.
• Having independent directors and advisors to ensure responsible decisions are made without unfair influences.

Furthermore, it's about making choices that are fair and not driven by personal gain or bias.

5. Company Vision

Company Vision in corporate governance goes beyond just making profits. It also involves:

• The company is aware of social problems.
• Taking steps to help fix these problems.
• By doing this, the company gets a good reputation in the industry.

To put it simply, a business must ensure that it is operating in an ethical and fair manner before it can be considered to be socially responsible.

Challenges Faced by Corporate Governance

Corporate Governance, which is the way companies are supposed to be run, has faced many problems over time. Some of these issues include:

• Giving important jobs to family members instead of more qualified people is unfair.
• Not giving women a chance to work in the company unless they're related to someone in charge.
• Sometimes, the company's founder can't make decisions because other people on the board don't listen to them.
• People in charge of the company's money don't always use it for good things in the community, and this causes problems.
• Sometimes, the company doesn't protect people's private information properly, which is a big issue.

These problems have made it harder for companies to be fair and do the right thing.

Corporate Governance Reforms (CGR’s)

Corporate governance reforms, which means making changes to the way companies are managed, happen when the government, organizations like the Securities and Exchange Commission, or stock exchanges intentionally try to improve how companies are run.

Over the years, corporate governance has seen many changes and improvements since it was first introduced.

Corporate Governance Reforms in India

The idea of corporate governance in India has been around for a long time, even dating back to the 3rd century B.C. In ancient times, the principles were similar to what we see today, and they revolved around the duties of a king, which can be compared to today's Company CEOs and Board of Directors. These principles are:

1. Protecting the wealth of the shareholders (like "Raksha").
2. Increasing income by using company assets wisely (like "Vriddhi").
3. Maintaining profitability (like "Palana").
4. Safeguarding the interests of shareholders (like "Yogakshema").

In 1992, the Securities Exchange Board of India (SEBI) made a significant move to standardize the stock market and establish rules for better corporate operations. In 1995, the Confederation of Indian Industry (CII) played a role in creating a code of corporate governance, which was later adopted globally in 1997. This code, known as "Desirable Corporate Governance - A code," was welcomed by many companies like Bajaj Auto, Infosys, and others. CII was a leader in developing this favourable code.

SEBI also appointed the Kumar Mangalam Birla Committee to make recommendations on corporate governance. SEBI accepted these recommendations in December 1999, and they became part of clause 49 of the listing agreement for every Indian stock exchange. These changes aimed to make corporate governance in India more transparent and accountable.

Legal Reforms in Corporate Governance in India

The Indian Government has always backed efforts to improve how companies are run, known as Corporation Governance Reforms (CGR’s). They've introduced various laws to make sure companies operate fairly and transparently. Here's a list of those laws:

The Companies Act, 1956:

In India, both listed and unlisted companies have to follow the rules set by the Companies Act of 1956. This law is overseen by the Ministry of Corporate Affairs. Over the years, there have been many changes to this law, with a total of 24 amendments since 1956.

Among these changes, 52 of them were specifically related to improving corporate governance and the development of the corporate sector. Some of the attempts to amend this law in 1993, 1997, and 2003 were not successful, but several other amendments have been made to enhance the rules governing how companies are managed.

The Securities Act, 1956:

This involves all types of markets, including those where you can buy and sell things like government bonds, company stocks, shares, bonds, debentures (which are similar to bonds), and other types of securities that companies issue to raise money.

SEBI Act, 1992:

When the Companies Act was put into action, it led to the creation of the Securities and Exchange Board of India (SEBI). SEBI became an independent authority responsible for regulating various market-related organizations.

India Companies Act, 2013:

The Companies Act of 2013 was a significant step to improve corporate governance. It replaced the older Companies Act of 1956. This new law aimed to make things simpler and better for corporate governance while also giving more advantages to small shareholders. Here are some of the important parts of this Act:

1. It increased the maximum number of shareholders allowed in private limited companies from 50 to 200.
2. Section 153 of the Act focused on Corporate Social Responsibility.
3. It emphasized women's empowerment.
4. It introduced measures for fast-track mergers and cross-border mergers.
5. The Act established the Company Law Tribunal and Company Law Appellate Tribunals.

This Act provided benefits and rules for various groups, including:

• Boards of Directors
• Independent Directors
• Handling related party transactions
• Corporate Social Responsibility (CSR)
• Auditors
• Rules for disclosure and reporting
• Provisions for class action suits

All of these changes were meant to improve how companies are run and make sure they operate more transparently and fairly.

The Companies (Amendment) Bill, 2017:

The Companies Act of 2013 has a few key focuses:

1. Addressing the problems and issues within the Companies Act of 2013 and making necessary amendments to improve it.
2. Boosting employment opportunities and fostering economic growth.
3. Dealing with regulations and standards related to the SEBI Act of 1992, Accounting Standards, and rules set by the RBI Act of 1934.
4. Correcting any inconsistencies in the Acts to make them more coherent and logical.
5. SEBI regularly provides guidelines to ensure good governance.
6. Establishing standard listing requirements for companies on stock exchanges.

Clause 49 of the Listening Agreement:

These guidelines cover how corporate governance should work. A company that wants to do things right must follow these rules. They include:

1. Ensuring that the board of directors is independent, meaning they can make decisions without being influenced unfairly.
2. Setting up an audit committee to check the company's financial dealings and ensure transparency.
3. Making sure the company discloses important information openly.

These rules are based on the Sarbanes-Oxley Act of 2002. Both have similar rules about preventing insider trading and not giving loans to company directors, among other things.

Note: The main difference between the two is that under the Sarbanes-Oxley Act if there's fraud or falsification of reports, a person can be sentenced to up to 20 years in prison. In the case of Clause 49, this specific penalty doesn't apply. Instead, SEBI, as the market regulator, can take legal action. If SEBI decides to take strict action, it can initiate criminal proceedings or impose heavy fines on a company that doesn't follow Clause 49. This can even lead to the company being removed from the stock exchange, which is called delisting.

Major Committees of Corporate Governance

To oversee and make improvements in corporate governance, various committees were established, and their efforts to bring about changes are known as corporate governance reforms (CGR’s).

Note: The Uday Kotak Panel made several recommendations to improve corporate governance:

• Require at least six independent directors on the board, including one woman. This increases the percentage from 33% to 50%.
• Hold more board meetings – at least five each year and all directors should attend these meetings.
• Directors need to participate in at least half of the meetings in a financial year. If they don't, they must seek approval from shareholders.
• Non-executive directors should retire at 75, but there are no age restrictions for others.
• Independent directors should have valid reasons for resigning and must maintain their independence in the company.
• Allow Audit Committees to use funds from listed entities in unlisted subsidiaries, including foreign ones.
• Give SEBI more authority to take action against auditors under securities laws.
• The board has the final say in appointing directors for government companies, with oversight from the nodal ministry.

Precautions During The Implication Of Corporate Governance

• Encourage the hiring of women outside of family connections.
• Limit the authority of company founders and strengthen the authority of regulatory bodies.
• Establish a robust and reliable system to handle risks and safeguard data.
• Ensure that Corporate Social Responsibility (CSR) is put into practice with sincerity and commitment.