I have previously written about the particular agency problem for promoter-led companies: protecting minority shareholders. Promoters have considerable leeway to siphon corporate resources away from the minority shareholders via skewed contracts with related companies (e.g., tunnelling profits to firms where the promoter shareholding is larger) and undeserving pecuniary benefits for promoters (e.g., paying for marriage festivities of promoter’s children). The focus of the boards in such promoter companies that are ubiquitous in India must be to ensure that minority shareholder rights are not trampled upon.
On paper, India has among the most stringent regulations in the world for corporate governance. Unfortunately, in practice, returns to the minority shareholders depend on the benevolence of the promoter. If the promoter needs to return to the equity markets and adequately weighs the shadow of the future, minority shareholders receive informal protection.
Independent directors represent the interests of minority shareholders. But, as for example was observed in the Tata case, these directors normally toe the promoter’s line. In exceptional circumstances when they do not, even someone as powerful and connected as Nusli Wadia can be dismissed because promoters “control” the Annual General Meeting. Such events have a chilling effect on the “independence” of directors, as it reiterates to everyone the power of promoters in India.
Conflict of Interest
The ICICI Bank fiasco demonstrates the alternative scenario. Specifically agency costs, the challenge of managers potentially enriching themselves at the cost of shareholders in the absence of a promoter. Lacking inside information, my opinions are restricted to the corporate governance aspects based on what has appeared in the press. Two conflict of interest issues seem particularly troubling.
First, the Videocon loan in face of the partnership between the promoter of Videocon and the Deepak Kochhar, husband of the CEO of ICICI Bank. Regardless, of whether the loan, its terms or the extension were preferential, it has conflict of interest written all over it. This should have been immediately flagged to the board by Chanda Kochhar, the CEO. She should have recused herself from not only the credit committee to approve the loan but the entire loan assessment process.
While we do not know what she actually did, the official response that she was not the Chairman of the committee is unsatisfactory. Still, this is a problem primarily for her, not the board. The problem for the ICICI board is that as soon as they learnt this, what did they do to protect the firm and its shareholders? And why have their answers to queries after the story broke been so evasive?
We are still not clear if and when the CEO disclosed these conflicts to the board as well as whether she recused herself from the loan process.
Second, Avista, the company owned by Rajiv Kochhar, brother of the husband of the CEO, was advising some borrowers. It is well known among insiders that such companies are appointed because they have an ability to get things done via privileged access. Perhaps this was the case. Once again, the corporate governance issue is that the moment the board or any board member was aware of this, what steps were initiated to safeguard the corporate reputation of ICICI Bank?
The Inept Board
Admittedly, we do not know when these two problems were first brought to the board’s attention (though definitely known on March 15, 2016, via letter by a shareholder). What we do know is the reaction of the company when this issue recently attracted attention in the press.
To put it bluntly, the board’s response has been knee-jerk, evasive, misleading, and contradictory, except for their unstinting support of the CEO.
The ICICI Bank statement reads: “The board also commends the entire management team under the leadership of the MD & CEO for their hard work and dedication. We would urge you not to be misled by these rumours which are being spread to malign the bank and its top management.”
Instead of releasing this statement, they should have reassured the world that they were taking specific steps to ensure that there had been no deleterious effects on the bank because of the conflict of interest. And, then gone on to detail some of these measures, a credible investigation with timetable, and how they would ensure higher standards of governance in future.
On the Avista matter, to hide behind a technicality that a brother of the husband does not fall within the definition of a ‘relative’, under the Companies Act is preposterous. A bank is in the business of “trust” and meeting the spirit of the law. As soon as they became aware of it, any independent director or the risk committee of the board worth these titles should have immediately brought this up for discussion at a board meeting and had it recorded in the minutes.
The fact is that the board has been aware of these allegations at least since March 2016. On learning of these potential conflicts of interests, they should have rapidly moved to protect the bank’s reputation and practices.
Yet, their unsatisfactory responses two years later seems to indicate they were caught unprepared at best. Many of the statements “she made all the disclosures as per company’s act”, “it was a consortium loan”, and “ICICI has never appointed Avista” seem like smoke and mirrors. At worst, and my experience leans me in this direction, the board has been “captured” by a powerful CEO. It is on this basis, the entire board and the chairman should resign. Failing which, the foreign institutions should move a resolution to have them removed. But if the press reports that the Board is now waiting for RBI direction are true, then they have already abdicated!
The problem in India, and also much of the world, is that companies engage in symbolic governance to meet external demands for increasing accountability. But, this comes at the cost of real governance through decoupling. Decoupling is when formal structures are adopted in response to external stakeholder demands, while actual practices are tailored to the needs of internal stakeholders.
So, yes, they have independent directors, constitute various committees as required by company law, engage in the annual evaluation of CEO, announce long term incentive plans, and file all the needed related party reports. They further this with the use of socially legitimate language.
But, as research has demonstrated, this helps entrench CEO dominance because it forestalls those governance practices that are less easily decoupled.
In other words, the box ticking exercises have a substitution effect and it give boards the license to avoid confronting the real hard issues related to corporate governance.
Indians are amongst the most law abiding citizens outside India because they fear the consequences of breaking the law. The problem in India is that independent directors have not had to pay for even the most egregious of corporate governance violations. We do not need more laws and regulations; just punish some elites for aberrant behaviour.
It is the shareholders and employees of ICICI that will pay for the corporate governance lapses. The rating agency Fitch has already warned of adverse consequences and many analysts now see a cloud over the stock. Since ICICI has substantial holding by foreign investors, a class action suit in the United States is a real possibility.
More distressingly, this incident only feeds negative narratives on India such as crony capitalism, a large unaddressed non-performing assets (NPA) problem at both public and private sector banks, poor corporate governance, and the impunity that elites enjoy.
What we need in a law, along the lines of the one in China that requires boards to report any dissenting votes on board resolutions by board members.
This would help us know if independent directors have ever dissented on a particular board? And, which board members have a 100% voting record for all resolutions tabled across all the boards they serve. It is not a panacea to solve corporate governance problems, but will help bring greater transparency.
But all laws and regulations would still be inadequate until there are real personal consequences for members of failing boards and a culture change on what is ethical behaviour. Nepotism is not seen as an issue and leaders are reified. When elites are socially and economically highly inter-related, asking hard questions is unacceptable. Even the Infosys board did not object when NR Narayana Murthy inducted his son into the company. The star-studded board of Teri waited too long to question RK Pachauri, the chairman, on the many rumours of sexual harassment that were floating around. These are challenges not only for corporate governance in India but also more broadly for society.
This blog was first published on www.bloombergquint.com on 14 April 2018.