Corporate Governance in India has both aided and pulled down the country's climb to the top ranks in the world economy. While in theory, the laudable efforts of Ministry of corporate Affairs in conjunction with the legal system provides a good corporate governance framework (Cite Website) and a good protection for investment, the real problem begins with the enforcement with an overly corrupt system and over-burdened judicial system. The Big Picture of corporate India shows that entrepreneurial and family based business models continue to be dominant and even big corporations like Infosys (cite website) hesitant to step out of this. Also the gap between the regulations of reporting requirements and the actual amount of adherence to these regulations are glaring and of great concern. The composition of the board and the role of the Independent directors are also very unclear and subject to criticism in even the big corporations that have global reach.
In this essay, we shall attempt to analyse these practical difficulties with the example of the case of Satyam Computer Services scandal that broke out in early 2009 exposing the weaknesses of Corporate Governance in India Inc and put the functioning of the Indian boards and its directors under the scanner.
The Scandal
On the morning of Jan 7, 2009, Ramalinga Raju sent out a startling letter of revelations to his board of directors and securities and exchange board of India (SEBI) acknowledging his culpability in hiding the news that he inflated the amount of cash on the balance sheet by nearly a $1 billion and over stated sep 2008 quarterly revenues by 78% and profits by 98%. It all began as a marginal gap between the operating profits and the one reflected in the books but grew to unmanageable proportions over time. This fudging of account started when Raju like all fathers tried to create an empire for his two sons in the form of MAYTAS infra and MAYTAS info and started to divert funds satyam into these companies. His last effort to hush up this scandal with a bid to purchase Maytas infra was thwarted due to the opposition of some of the directors.
This scandal equated with the Enron of USA was orchestrated by Raju in conjunction with the CFO V Srinivas and Satyam's auditor Arthur Anderson, from Price Waterhouse Cooper. And all this was coming from a company that received the coveted Golden Peacock Award for excellence in Corporate Governance just 4 months ago in October 2008(which was later retracted) (insert ref).
The board
Ramalinga Raju - Founder and Chairman from the beginning in 1987 till the scandal broke out in Jan 7 2009. Resigned his position and surrendered to the authorities for investigation.
Rama Raju - CEO and MD. Brother of Ramalinga Raju and equivalent in power and authority.
Ram Mynampati - Fulltime Director and interim CEO after the Raju's Resignation. He was the highest paid with a package of Rs 35 million annually higher than the founder and all other directors' compensation put together. Considered to be 'right arm' of Raju. He continued to be interim CEO till February 5, 2009 when Government appointed board took over with A S Murthy as CEO. He flew to the US immediately to avoid police enquiry.
Dr Mangalam Srinivasan - Independent Director. Advisor to Kennedy School of Government, Harvard University. One of the long-serving directors of the Satyam's Board and first to resign owing to 'Moral responsibility' having failed to cast a dissent vote with the botched up deal to buy the Maytas companies came up before the board.
Mendu Rammohan Rao - Full Time Director and chaired the December 2008 meeting which approved the $1.6 billion acquisition of Maytas. He is also holds many other honourable positions including that of the dean of the reputed Indian School of Business (resigned a day after the scandal) and the Government panel to select a Reserve Bank of India (RBI) Deputy Governor (also resigned after the scandal).
T R Prasad - Independent Director. He was a former bureaucrat from the Indian Administrative Service (IAS officer) who rose to the ranks of Cabinet Secretary with the Government of India and has headed organisations like Maruti Udyog Limited and was the board of many reputed companies like TVS Motors, Taj Group of hotels, Delhi International Airport, etc. He continued to be on the board till the Indian Government stepped in and suspended the board on January 9.
Krishna G Palepu - Independent Director. Based in the US, he was also a Harvard Business School professor and second highest paid in the board (around 10 million Indian Rupees). His role as Independent director came under scrutiny for approving the Maytas acquisition deal along with Ram Mohan Rao. He was also the Non-exec Director at a pharma major, Dr. Reddy's laboratory and had to resign after the incident.
Vinod K Dham - Independent Director. Held various high positions including Vice President of Intel, Vice President of the AMD Computation Products Group and was a well known Venture Capitalist. He was one of the approvers of the acquisition deal but resigned on December 28 after Raju's Confession.
Professor V S Raju - Independent Director. He was also the former director of IIT Delhi and also the advisor the Byrraju Foundation run by Ramalinga Raju.
Criticism on the board Structure
As a company listed on the NY Stock Exchange, Satyam is bound to comply by the principal corporate governance practices as that required of US companies. The general composition of the board looked healthy with majority of Independent directors (5 out of 9).However; there are various glaring indiscretions in adherence to these practices. Some of the primary ones are
Lack of Financial Acumen
By Regulation, the company should have disclosed if they have identified a member of the board to the Audit Committee Financial Expert. Satyam's board does not have an individual matching this description and this was openly admitted in its August 2008 Form 20-F filing with the Securities and Exchange Commission: "We do not have an individual serving on our Audit Committee as an 'Audit Committee Financial Expert' as defined in applicable rules of the Securities & Exchange Commission. This is because our board of directors has determined that no individual audit committee member possesses all the attributes required by the definition 'Audit Committee Financial Expert." (Business Week)
Meeting of Independent Directors:
The Independent Directors, by regulation must meet regularly without the presence of the Management board members to discuss executive decisions and issues. With the Independent directors separated geographically and were part of the board for numerous other companies, these meeting never happened.
Bandwidth and capacity of the Independents
Also one of the other noted factors in the 2008 SEC filing was that two of the independent directors T R Prasad and Vinod K Dham were serving on 8 other boards in addition to Satyam's. And Except for Vinod Dham, who had previously served as former chairman/CEO of Tech Company, others were academics and one of them (T R Prasad) was a bureaucrat and former Cabinet Secretary with no actual business or management expertise in that particular sector.
The Dilemma
The Basic Dilemma facing the board was caused by the board's approval of the purchase of Maytas Properties and Maytas Infrastructure for $1.6 billion. On 16th December 2008, the board unanimously approved the deal citing that these transactions would provide Satyam with well needed 'unrelated diversification'. And this decision was almost imposed upon the investors.
However, there was a large amount of hue and cry among the investors particularly the institutional investors pointing out that these two companies were owned by Raju's sons and the family had a much larger stake in these two companies than in Satyam and that this would tantamount to siphoning money into Raju's hands from Satyam. Though the move was immediately aborted, the damage to the reputation of Satyam's 'Golden Peacock' image was more than damaged. By the end of December, Forrester Research had advised clients to stop doing business with Satyam on the premise of possible widespread fraud.
And now, the board were on the horns of dilemma.
Do we stick with the legitimacy of the decision?
Or
Do we concede that this was a total failure of all ethics and governance?
But the worst was yet to come. In the following 2 days, there was a stream of resignations from the Independent directors with Mangalam Srinivasan being the first, stating that she is resigning on the grounds that she was not able to play the role of a proper Independent director in the fair spirit and vote against this slipshod effort to cover up a large-scale fraud. This was followed by resignation from Vinod Dham owing to moral responsibility.
But Directors like Mendu Ram Mohan Rao and Krishna G Palepu stuck to the legitimacy of the decision. Both of them being prominent academicians and especially Krishna G Palepu who teaches and writes about ethics and CG at Harvard, supported their argument stating that they had done their part of 'due diligence' on the deal and had very detailed discussions. Owing to their standpoint, they decided not to quit.
While there were these two extremes, T R Prasad, although shocked by the revelations, decided not to leave but rather stay and steer Satyam through the turmoil. But only until the Government had to intervene and suspend the existing dysfunctional board and form a new board.
The outcome
The Worst Possible Outcome
Looking back at the issue and what has transpired from the board's unanimous decision to invest in Maytas companies on the fateful day in December, perhaps the worst possible outcome of this entire fiasco is that botch up deal goes unnoticed by the institutional investors and they let Raju go ahead with the deal and thereby making himself richer. But that doesn't mean that he get away with this. It only helps the bubble get bigger before it bursts and the consequences could have been worst. If this motion has been carried through, then Raju would have successfully defrauded a majority of the US institutional investors and when the bubble has burst (which eventually will) past that point, which would have led to a class action suit in the US which will have even tougher repercussions. And perhaps, Raju's decision to unfold the scandal himself in India rather than disappearing into the US was a calculated legal move. Because, in India he had to face the authorities and imprisonment for about a year and a half till October 2010 when he was eventually granted bail until he is convicted and proven guilty of charges by the judiciary. Which he knew was a long winded process.
The most viable alternative(s):
Perhaps the most sensible decision (or what could have been a well calculated move judicially, financially, etc) made by Raju was his decision to end this at his own hands, which started everything, before things got even worse. His timing was impeccable as well. Before he came clean with his statement to his board of directors and SEBI, he had sold most of his holdings in Satyam reducing it from 17.8% to a mere 1.6%.
And talking from the most viable alternative from the corporate governance perspective, on the face of such glaring and blatant violations of the law and regulations, the authorities (The government and SEBI) should have stepped in way before the acquisition deal motion was carried out and carried out remedial measures like corporate restructuring and overhaul and then probably should have put this company on the market for a potential takeover by the competition. In that way, this entire issue would have remained a case of a scandal that was brought under control by the regulatory bodies and news in the market would not have been more than that of a bad takeover rather than a scandal of Enron proportions that shook the foundations of corporate India which is already stifled by corrupt system and practices.
The right thing (Recommendations)
If we look at this issue in retrospect and apply our reasoning, perhaps the best way to have dealt with this is by doing the 'right thing' from the beginning to have avoided this situation. When you talk about the right thing that could have been done in this case, we are left with multiple angles.
For the CEO:
The letter by Raju to the board on Jan 7 were just revelations of the irregularities and indiscretions which summed up to a billion dollar scandal coordinated over years together starting probably from 2004 when he tried to build 'an empire' for his sons from the siphoned off funds from Satyam. For a company whose name literally means Truth and won the accolades for the best corporate governance adherence, Raju should have done the justice and did the right thing when he was,
Thinking of maximising his personal gains by creating non-existent employee base to draw fraudulent salaries for his personal gains.
Siphoning funds off Satyam to create new entities for his sons in a typical way realising that it was not his empire that he could hand down to his sons but an entity belonging to public in general and shareholders specifically.
But when the top most executive is intent upon defrauding the company, there is little that one can expect out of him in term of prevention of a disaster of such humiliating nature.
For the Independent Directors:
The entire debacle has cast a spotlight on the role of the Independent Directors in implementing effective corporate governance measures in corporate India. And this raises a series of questions right from the appointment of those directors to their roles when they are faced with such eventualities
Appointment of the Independents:
Section 49 of SEBI Act and Section 229A of Companies Act of 1956 provides the stipulations and guidelines for the appointment of Independent Directors in companies protecting the public interests at large and the shareholders interests in particular. But the adherence to these guidelines is a matter of debate when we consider the appointment of people like T R Prasad, Krishna G Palepu who had no prior experience in running similar companies. They were here simply because they can nod their head to the decisions of Raju making him even more autocratic.
Independent's role in the face of adversity:
Also the Question arises whether the Independent directors did the right thing in the wake of the expose by resigning from the board. Some of them left because of the moral responsibility and the other eventually had to. But isn't there an option of the independent directors banding together and staying on board and changing the governance of the company? Perhaps yes, but, it is hard to stay on that course. But still it is a possibility rather than washing the hand off like Krishna G Palepu who went on records saying that he is not legally liable to vote on the Maytas proposals because he was not present in the board meeting. But on the other hand he claims to have had 'threadbare' discussions and due diligence on the matter before voting for it.
Independent Board Leadership
Though Satyam had a good majority of independents and a good mix of expertise, there were large inadequacies in the roles and responsibilities that were typically required of a normal board of directors. Apart from the lack of financial acumen cited already, there is also a potential conflict of interest with the roles of CEO and Chairman as the two individuals were brothers and members of the same management. Also the company had no Independent board leadership, wherein one of the independents is appointed as the senior independent director and has the collective authority of the independents to challenge, if needed, the wrongdoings of the CEO. And as already mentioned, the absence of meetings of the independents without the management did not help much in creating a unified voice for the independents.
Board Committees
Also one of the glaring departures from "best practices" in governance is that there was no nominating/Corp Governance Committee and instead they had a rather uncommon "Investors' Grievance Committee" which probably might have seen plenty of activity in the aftermath of the revelations.
For the Audit firm and the Regulatory Bodies:
The entire episode has also cast a spotlight on the role of PwC as the auditors. They have been auditing Satyam's books from 2000 and have failed to (or have turned a blind eye to) the huge manipulations in the balance sheet and the income statements. They have failed to verify the fictitious bank deposits which were not earning any interests for considerable period of time. And suspiciously enough, PwC was paid twice than what other companies would charge for the same raises questions whether they were complicit in the fraud. And interestingly enough it just took 10 days of due diligence on the part of Merrill Lynch to find out about this mammoth fraud and cancel the engagement just hours before the issue erupted.
The CFO Vadlamani Srinivas went on the records saying these deficiencies were never pointed out and that the bank deposits were handled directly by the Raju Brothers and he was asked not to look into it. This was corroborated in Raju's Confessional statement.
And though regulatory bodies like SEBI and The Ministry of Corporate Affairs had SOX like compliance measures in place, the enforcement was not really looked into. On the wake of the scandal, Ministry in conjunction with SEBI had promised devising a new Corporate Code but in my opinion it should also consider changes to securities laws to facilitate the shareholders to bring about class action lawsuits.
Conclusion
Thus in conclusion, from the benefit of hindsight, we are able to clearly see that Satyam's Achilles' heel was the fact that the Board members, particularly the Independent Directors actually work for the people who brought them onto the board with more of an employer - employee perspective. But they should have realised that hiring people who always work in favour would deprive the company of any whistleblowers and what you would be left with is just an endless series of cronies who don't think twice if what they do is the right thing and is in the right spirit of the principles of corporate governance. Also India Inc should take the lessons learnt from this fiasco in terms of best practices in corporate governance
Family based model
Role of Independent Directors
Compliance and regulation of auditory requirements and its enforcement mechanisms.
However, the state of Corporate Governance in India does not compare unfavourably to other major emerging economies like China, Brazil, etc. And most importantly, the landscape is changing fast over the last decade with the enforcement of Sarbanes Oxley type measures in the 2006 Amendment to the Companies Act and the legal changes to grant better rights to creditors, etc. But still, just one more repetition of a 'Satyam Like' episode is more than enough for the investors in India to seriously question their motto and pull out affecting India
Appendix
Ramalinga Raju's letter to the board and SEBI on Jan 7, 2009 (Printed Copy)
