Monday, January 28, 2013



By K P C Rao, LLB., FCMA., FCS.,
CMA (USA)., FIPA (Australia)
Practicing Company Secretary
Paperless Audit Means

More than 30 years ago; even before the proliferation of personal computers; information technology experts predicted the advent of paperless offices. The findings of the Surveys conducted in US during 2010 showed 52% of the firms reported operating in a paperless work environment. Larger firms (by revenue) were more likely to be paperless. However, the term “paperless” has many different meanings, and many businesses are at different stages in the progression away from paper. So with all this talk about going paperless, what exactly does it mean?

A paperless audit is when an auditor accesses the electronic records of a client in order to conduct an audit. Ideally, it also means that the auditor issues a final report in an electronic format, such as by e-mail or by posting the information on a secure site for downloading by a client. Therefore, it is a process of applying audit procedures and documenting these procedures with the use of limited hard copies. The whole goal behind going paperless is to eliminate the paper trail as much as possible. It is also important to note that there are varying degrees of going paperless. In the society we live in today it is pretty difficult for a company to be completely paperless. According to Jeff Stimpson in The Nitty-Gritty of Going Paperless, "paperless, or, more accurately, document management,' can start as simply as outputting tax forms and documentation to PDF files instead of paper, using a paperless audit product, e-filing, and using more e-mail than snail-mail to communicate." As you can see going paperless does not have to be a difficult project, but it does require the organization to commit to it fully in order to be successful. In order to proceed to a paperless firm, a general understanding of the programs that make this possible is needed.

Electronic Testing and Evidence Gathering

Advances in computer technology have made more timely and detailed financial and operational information available; interested parties no longer have to wait until historical financial statements are published. Assurance providers must keep pace with this demand for real-time information while dealing with information systems that require new testing techniques and new evidence-gathering procedures. Traditional electronic assurance methods may not be as relevant in the increasingly paperless environment, where an audit trail is primarily electronic. The development of a truly continuous auditing approach requires a combination of techniques in order to ensure that sufficient evidence exists to assure the integrity of the system.

The advances made in computer technology during the past several decades have had a significant impact on how accounting systems process financial transactions. One implication of these advances is that users have more timely, detailed financial and operational information about an entity. Users no longer need to wait until the publication of quarterly or annual financial statements in order to assess performance. Advances in Enterprise Resource Planning (ERP), eXtensible Business Reporting Language (XBRL), and other software have enabled companies to report information on a weekly, daily, or even instantaneous basis. In some cases, users can even access the entity’s financial and operating information databases directly and select the information they consider relevant.

Continuous Testing

Continuous testing techniques are particularly appropriate in systems that leave electronic trails of evidence, such as e-commerce systems. Continuous monitoring should allow the auditor to adopt a lower control risk assessment approach in a financial statement audit. Many auditors believe that a continuous auditing approach is necessary for paperless systems, because transaction and other files might not be retained for the entire period under audit. For example, some e-commerce systems might use a web hosting provider that retains transaction data for a limited period of time. If the data is not reviewed continuously, it might not be available to the auditor.

Major Types of Continuous Auditing Techniques

Embedded audit modules filter transaction files for data or relationships that are considered anomalies. For example, they could inform the auditor when a credit card is used in twelve countries within two hours.

An Continuous Testing allows for testing of the entire system, both manual and computer processes. The auditor establishes a fictitious entity through which auditor-submitted transaction data can be processed with live data. For example, an auditor-established fictitious vendor or customer could enter transactions via a VAN in a traditional EDI environment. The actual results could be compared with expected results, and the differences, if any, would be investigated by the auditor. ITF is most effective in a stable, legacy environment; more modern, open networks are nearly impossible to accurately replicate in an ITF.

Emerging Systems

Computer-Assisted Audit Techniques (CAATs) or Computer-Assisted Audit Tools and Techniques (CAATTs) are a growing field within the audit profession. CAATs are the practice of using computers to automate the audit process. CAATs normally includes using basic office productivity software such as spreadsheet, word processors and text editing programs and more advanced software packages involving use statistical analysis and business intelligence tools.

An example of an emerging system is one that involves business-to-consumer e-commerce on the Internet. E-commerce is marked by electronic, nearly instantaneous transactions and increased challenges to electronic security and integrity. Though it continues to grow, the future of e-commerce is uncertain; currently, it presents new challenges to businesses, consumers, and auditors.

An assurance provider can employ both emerging and traditional evidence-gathering techniques in this paperless processing environment. Many traditional evidence-gathering and assurance techniques that can increase the likelihood that the system will possess integrity are appropriate in this type of electronic system. For example, auditors can use job accounting data or operating systems logs, library management software, comparison programs, flowcharting software, snapshots, program tracing and mapping, test data, ITF, and parallel simulation to provide assurance that the software works as intended and has not been modified without authorization.

The auditor could employ audit software to discover anomalies in data files of deleted transactions (e.g., payment of the same invoice number twice). Embedded audit modules can be used to provide real-time notification of a variety of events, such as a denial of service attack.

The auditor can also employ emerging electronic assurance techniques in paperless systems. One of these techniques, identified in the AICPA and CICA’s Continuous Auditing, is the use of digital agents. Digital agents are data and code that act on the behalf of the user. A reactive digital agent filters incoming information, such as an order for goods that exceeds a certain dollar amount and is sent to a manager for approval. A proactive digital agent searches the system for the existence of prespecified conditions and takes specific actions upon discovery or nondiscovery.

Reactive digital agents are static and remain in one location in the system. For example, the agent could notify the auditor if the purchase price of an inventory item fell outside of a prespecified range. Mobile agents are proactive and move through networks. For example, the agent could search the web for specific information that would impact inventory marketability and net realizable value. This information could be stored in a database for the auditor’s review.

Mobile agents can subscribe to specific types of updated information within an internal or web-based system. The agent could be programmed to take appropriate action upon notification of specified events. For example, a day trader could subscribe to an online service that advises when a company’s stock price reaches a certain level and then issues a buy or sale order.

Embedded audit modules and digital agents can only be implemented with extensive assistance from management and internal audit staff. This degree of involvement in the design and implementation of the audit tool might raise questions concerning auditor independence.

Another emerging assurance technique utilizes data provided by sensors in analytical review procedures. Sensors measure a physical process, such as the amount of oil that flows through a pipeline, the amount of water used as measured by meter, or the number of rotations of a turnstile. The auditor could obtain operational data provided by the sensors and perform analytical review procedures to compare expected results with recorded amounts; for example, multiplying the gallons of water actually used at a car wash by average revenue per gallon. This analytical review procedure is based upon objectively obtained data and yields a fairly precise estimate of gross revenue.

Another technique utilizes electronic confirmations (e-mail) to obtain thirdparty confirmation of amounts on the books. The assurance of the true identity of the sender and the recipient is critical to the integrity of the electronic confirmation process. This assurance can be obtained if both the sender and recipient utilize the services of a digital certificate authority. This is an authentication control: It ensures that the individuals are who they purport to be, not impersonators. An analogy is the customer who purchases goods with a check and produces a driver’s license (independent authentication) as proof of identity.


Apart from resulting in reduced costs for both parties, a paperless audit is having the following advantages:
(1) Analysis software:
Depending on the format in which the client information is provided, the auditor may be able to use analysis software to automatically review the information.
(2) Error reduction:
There is no rekeying of information from client documents into the auditor's software, so rekeying errors are eliminated.
(3) Travel costs:
The auditor can conduct audits from a remote location, so travel costs are eliminated.
(4) Turnaround time:
Given the use of automated analysis tools, a paperless audit can result in faster turnaround time, which can be useful when a third party is demanding audited financial statements as soon as possible.
(5) Workflow management:
The auditor can more easily see the status of all aspects of an audit, in terms of percentages of completion, bottlenecks, and so forth, and so can bring resources to bear on any issues that are holding up completion of the audit.
(6) Worksheet templates:
The auditor can issue electronic templates of worksheets for the client to fill out that are based on the electronic records from the last audit.
In short, the paperless audit is effective in eliminating rekeying and travel costs, while speeding up the analysis of information and monitoring the completion stages of an audit.


Despite its advantages, there are several downsides to the use of a paperless audit, which are:
(1) Security:
Some of the information provided to auditors is considered confidential, and storing it outside of the client location (i.e., on the auditor's computer) increases the risk that it will be accessed by an unauthorized party.
(2) Cost:
If a client currently keeps some or all of its financial records on paper, converting to an electronic storage format can be expensive.


The world of client services is changing. New advances in technology and web-based computing are transforming the way we work and interact with clients. In addition, the economic downturn is dramatically impacting our clients in ways that will ultimately affect our future business revenue as well. To succeed in this changing world, we need new tools, new approaches, and new educational content and training.

Therefore, ‘Paperless Auditing’ is a very important issue facing the accounting profession today. Several firms throughout the world are faced with the decision to go paperless and many are in the early stages of becoming a paperless office. It is important for a company to go at this task full force or the benefits will be significantly reduced. When the decision has been made to go to a paperless office, several issues present themselves for the firm. These issues include the level and how to implement a paperless system, what audit issues need to be addressed in the conversion and use, and what are the pros and cons of this system. In most cases, the advantages of a paperless audit seriously outweigh any offsetting issues. At a minimum, any business should consider shifting as much audit work as possible to a paperless solution.

[Published in 'circuit', monthly journal of ICAI, Hyderabad during February, 2013]

Thursday, January 10, 2013


By K P C Rao,
Practising Company Secretary


Generation of black money and its stashing abroad in tax havens and offshore financial centers’ have dominated discussions and debate in public Fora during the last two years. Members of Parliament, the Supreme Court of India and the public at large have unequivocally expressed concern on the issue, particularly after some reports suggested estimates of such unaccounted wealth being held abroad.

Two issues have been highlighted in this debate. First, several estimates have been floated, often without adequate factual basis on the magnitude of black money generated in the country and the unaccounted wealth stashed aboard. Secondly, a perception has been created that the Government’s response to address this issue has been piecemeal and inadequate. Thereafter, the then Finance Minister Mr. Pranab Mukherjee has presented a ‘White Paper on Black Money’ to the Indian parliament on 16th may, 2012.

This Paper highlights the different facets of black money and its complex relationship with policy and administrative regime in the country. It also reflects upon the policy options and strategies that the Government has been pursuing in the context of recent initiatives, or need to take up in the near future, to address the issue of black money and corruption in public life.

According to this paper: “Black money is a term used in common parlance to refer to money that is not fully legitimate in the hands of the owner. This could be for two possible reasons. The first is that the money may have been generated through illegitimate activities not permissible under the law, like crime, drug trade, terrorism, and corruption, all of which are punishable under the legal framework of the state. The second and perhaps more likely reason is that the wealth may have been generated and accumulated by failing to pay the dues to the public exchequer in one form or other. In this case, the activities undertaken by the perpetrator could be legitimate and otherwise permissible under the law of the land but s/he has failed to report the income so generated, comply with the tax requirements, or pay the dues to the public exchequer, leading to the generation of this wealth.”

A comparison of the two ways in which black money is generated is fundamental to understanding the problem and devising the appropriate policy mix with which it can be controlled and prevented by the public authorities. At the very outset, it becomes clear that the first category is one where a strongly intolerant attitude with adequate participation of all state arms can produce results. Therefore, as Company Secretaries it is important for us to understand the intricacies of the transactions in the second category where the issue becomes far more complex and may require modifying, reforming, and redesigning major policies to promote compliance with laws, regulations, and taxes and deter the active economic agents of society from generating, hoarding, and illicitly transferring abroad such unaccounted wealth.


There can be two different ‘modus operandi, involved in the generation of black money. The first is the crude approach of not declaring or reporting the whole of the income or the activities leading to it. This is the likely approach in all cases of criminal, illegal, and impermissible activities. The sophistications in such an approach mostly get introduced subsequently for the purpose of laundering the money so generated with the objective of making it accountable and converting it into legitimate reported wealth that can be openly possessed and used.

The same approach of not declaring or reporting activities and the income generated there from may also be followed in cases of failure to comply with regulatory obligations or tax evasion on income from legitimate activities. However, complete evasion or non-compliance may make such incomes vulnerable to detection by authorities and lead to consequent adverse outcomes for the generator. Thus a more sophisticated approach for generation of this kind of black money is often preferred, involving manipulation of financial records and accounting.

The best way of classifying and understanding the various ways and means adopted by taxpayers for the generation of black money would be the financial statement approach, elaborating different means by which the accounts prepared for reporting and presenting before the authorities are manipulated to misrepresent and under disclose income, thereby generating unaccounted, undeclared, and unreported income that amounts to black money.

Diagram showing the Manipulations of Accounts for Tax Evasion

Some of these manipulations are explained below:

(a) Out of Book Transactions

This is one of the simplest and most widely adopted methods of tax evasion and generation of black money. Transactions that may result in taxation of receipts or income are not entered in the books of account by the taxpayer. The taxpayer either does not maintain books of account or maintains two sets or records partial receipts only. This mode is generally prevalent among the small grocery shops, unskilled or semi-skilled service providers, etc.

(b) Parallel Books of Accounts

This is a practice usually adopted by those who are obliged under the law or due to business needs to maintain books of account. In order to evade reporting activities or the income generated from them, they may resort to maintaining two sets of books of account – one for their own consumption with the objective of managing their business and the other one for the regulatory and tax authorities such as the Income Tax Department, Sales Tax Department, and Excise and Customs Department. The second set of books of account, which is maintained for the purpose of satisfying the legal and regulatory obligations of reporting to different authorities, may be manipulated by omitting receipts or falsely inflating expenses, for the purpose of evading taxes or other regulatory requirements.

(c) Manipulation of Books of Account

When books of accounts are required to be maintained by taxpayers under different laws, like the Companies Act 1956, the Banking Regulation Act, and the Income Tax Act, it may become difficult for these taxpayers to indulge in out of books transactions or to maintain parallel books of accounts. Such parties may resort to manipulation of the books of accounts to evade taxes.

(d) Manipulation of Sales/Receipts

A taxpayer is required to pay taxes on profit or income which is the difference between sale proceeds or receipts and expenditure. Thus manipulation of sales or receipts is the easiest method of tax evasion. Other innovative means may include diversion of sales to associated enterprises, which may become more important if such enterprises are located in different tax jurisdictions and thereby may also give rise to issues related to international taxation and transfer pricing.

In case of use of a dummy / associated entity, there can be a plethora of possible arrangements entered into by such entities to aid generation of black money. In its simplest form, the associate entity may not report its activities or income at all. The main entity may show sales to such a dummy / associate entity at a lower price, thereby reducing its reported profits.

More complex scenarios can emerge if the dummy/ associated entity is situated in a low tax jurisdiction having very low tax rates. Thus the profit of the Indian entity will be transferred to the low tax jurisdiction and money will be accumulated by the taxpayer in the books of accounts of the entity in the low tax jurisdiction.

(e) Under-reporting of Production

Manipulation of production figure is another means of artificially reducing tax liability. It may be resorted to for the purpose of evading central excise, sales tax, or income tax.

(f) Manipulation of Expenses

Since the income on which taxes are payable is arrived at after deducting the expenses of the business from the receipts, manipulation of expenses is a commonly adopted method of tax evasion. The expenses may be manipulated under different heads and result in under-reporting of income.

It may involve inflation of expenses, sometimes by obtaining bogus or inflated invoices from the so called ‘bill masters’, who make bogus vouchers and charge nominal commission for this facility.

Any number of more sophisticated versions of manipulation of expenses can also be resorted to by those intending to generate black money. Sometimes it can also involve ‘hawala’ operators, who operate shell entities in the form of proprietorship firms, partnership firms, companies, and trusts. These operators may accept cheques for payments claimed as expense and return cash after charging some commission.

There have been instances of claims of bogus expenses to foreign entities. The payments can be shown to foreign entities in the form of advertisement and marketing expenses or commission for purchases or sales. The funds may be remitted to the account of the foreign taxpayer and the money can either be withdrawn in cash or remitted back to India in the form of non-taxable receipts. Such money may also be accumulated in the form of unaccounted assets of the Indian taxpayer abroad.

(g) Other Manipulations of Accounts

Besides inflation of purchase / raw material cost, expenses like labour charges, entertainment expenses, and commission can be inflated or falsely booked to reduce profits. In these cases, bogus bills may be prepared to show inflated expenses in the books.

(h) Manipulation by Way of International Transactions through Associate Enterprises

Another way of manipulating accounted profits and taxes payable thereon may involve using associated enterprises in low tax jurisdictions through which goods or other material may be passed on to the concern. Inter corporate transactions between these associate enterprises belonging to the same group or owned and controlled by the same set of parties may be arranged and manipulated in a way that leads to evasion of taxes. This can often be achieved by arrangements that shift taxable income to the low tax jurisdictions or tax havens, and may lead to accumulation of black money earned from within India to another country.

(i) Manipulation of Capital

The statement of affairs or balance sheet of the taxpayer contains details of assets, liabilities, and capital. The capital of the taxpayer is the accumulated wealth which is invested in the form of assets or as working capital of the business. Manipulation of capital can be one of the ways of laundering and introduction of black money in books of accounts.

(j) Manipulation of Closing Stock

Suppression of closing stock both in terms of quality and value is one of the most common methods of understating profit. More sophisticated versions of such practice may include omission of goods in transit paid for and debited to purchases, or omission of goods sent to the customer for approval. A more common approach is undervaluation of inventory (stock of unsold goods), which means that while the expenses are being accounted for in the books, the value being added is not accounted for, thereby artificially reducing the profits.

(k) Manipulation of Capital Expenses

Over-invoicing plant and equipment or any capital asset is an approach adopted to claim higher depreciation and thereby reduce the profit of the business. As already stated, increase in capital can also be a means of enabling the businessman to borrow more funds from banks or raise capital from the market. It has been seen that such measures are sometimes resorted to at the time of bringing out a capital issue. At the same time, under-invoiced investments, indicating entry of undeclared wealth, may imply introduction of black money.

(l) Generation of Black money in Some Vulnerable Sections of the Economy

While the source of generation of black money may lie in any sphere of economic activity, there are certain sectors of the economy or activities, which are more vulnerable to this menace. These include real estate, the bullion and jewellery market, financial markets, public procurement, non-profit organizations, external trade, international transactions involving tax havens, and the informal service sector.

(m) Land and Real Estate Transactions

Due to rising prices of real estate, the tax incidence applicable on real estate transactions in the form of stamp duty and capital gains tax can create incentives for tax evasion through under-reporting of transaction price. This can lead to both generation and investment of black money. The buyer has the option of investing his black money by paying cash in addition to the documented sale consideration. This also leads to generation of black money in the hands of the recipient. A more sophisticated form occasionally resorted to consists of cash for the purchase of transferable development rights (TDR) .

(n) Bullion and Jewellery Transactions

Cash sales in the gold and jewellery trade are quite common and serve two purposes. The purchase allows the buyer the option of converting black money into gold and bullion, while it gives the trader the option of keeping his unaccounted wealth in the form of stock, not disclosed in the books or valued at less than market price.

(o) Financial Market Transactions

Financial market transactions can involve black money in different forms. Initial public offers (IPOs) offering equity shares to the public at large are also vulnerable to various manipulations that can generate black money for the promoters or operators. Rigging of markets by the market operators is one such means. This may involve use of shell companies and more sophisticated versions of such manipulation may involve offshore companies or investors in foreign tax jurisdictions who invest in shares offered by the IPO and through manipulated trading escalate their price artificially, only to offload them later at the cost of ordinary investors.

(p) Public Procurement

Public procurement has grown phenomenally over the years – in volume, scale, and variety as well as complexity. It often includes sophisticated and hi-tech items, complex works, and a wide range of services. An OECD (Organisation for Economic Cooperation and Development) estimate puts the figure for public procurement in India at 30 per cent of the GDP whereas a WTO (World Trade Organisation) estimate puts this figure at 20 per cent of the GDP . The Competition Commission of India had estimated in a paper that the annual public sector procurement in India would be of the order of ` 8 lakh crore while a rough estimation of direct government procurement is between ` 2.5 and 3 lakh crore. This puts the total public procurement figure for India at around ` 10 to 11 lakh crore per year.

(q) Non-profit Sector

Taxation laws allow certain privileges and incentives for promoting charitable activities. Misuse of such benefits and manipulations through entities claimed to be constituted for nonprofit motive are among possible sources of generation of black money. Such misuse has also been highlighted by the Financial Action Task Force (FATF), an intergovernmental body which develops and promotes policies to protect the global financial system against money laundering and financing of terrorism.

A Non-profit Organisation (NPO) Sector Assessment Committee constituted under the Ministry of Finance has reviewed the existing control and legal mechanisms for the NPO sector and suggested various measures for improvement.

(r) Informal Sector and Cash Economy

The issue of black money is related to the magnitude of cash transactions in the informal economy. The demand for currency is determined by a number of factors such as income, price levels, and opportunity cost of holding currency. Factors like dependence on agriculture, existence of a large informal sector, and insufficient banking infrastructure with large un-banked and under-banked areas contribute to the large cash economy in India.

(s) External trade and Transfer Pricing

More than 60 per cent of global trade is carried out between associated enterprises of multinational enterprises (MNEs). Since allocation of costs and overheads and fixing of price of product/services are highly subjective, MNEs enjoy considerable discretion in allocating costs and prices to particular products/services and geographical jurisdictions. Such discretion enables them to transfer profit/income to no tax or low tax jurisdictions. Differing tax rates in different tax jurisdictions can create perverse incentives for corporations to shift taxable income from jurisdictions with relatively high tax rates to jurisdictions with relatively low tax rates as a means of minimising their tax liability. For example, a foreign parent company could use internal ‘transfer prices’ for overstating the value of goods and services that it exports to its foreign affiliate in order to shift taxable income from the operations of the affiliate in a high tax jurisdiction to its operations in a low-tax jurisdiction. Similarly, the foreign affiliate might understate the value of goods and services that it exports to the parent company in order to shift taxable income from its high tax jurisdiction to the low tax jurisdiction of its parent. Both of these strategies would shift the company’s profits to the low tax jurisdiction and, in so doing; reduce its worldwide tax payments. In this context transfer pricing has emerged as the biggest tool for generation and transfer of black money. In recent years, after the 9/11 incident in the USA due to intense scrutiny of banking transactions, enhanced security checks at airports and ports, and relaxation of exchange controls, transfer of money through hawala has reduced significantly but now transfer pricing is now being extensively used to transfer income/profit and avoid taxes at will across countries. Also, with the relaxation of exchange controls and liberalisation of banking channels, the popularity of the hawala system for legitimate transfers has reduced substantially. The increasing pressure on financial operators and banks to report cash transactions has also helped in curbing hawala transactions. Tax evasion through transfer pricing is largely invisible to the public and difficult and expensive for tax officers to detect. ‘Christian aid ’ estimates that developing countries may be losing over US$160billion of tax revenues a year, primarily through transfer pricing strategies.

The illicit money transferred outside India may come back to India through various methods such as hawala, mispricing, foreign direct investment (FDI) through beneficial tax jurisdictions, raising of capital by Indian companies through global depository receipts (GDRs), and investment in Indian stock markets through participatory notes. It is possible that a large amount of money transferred outside India might actually have returned through these means.


Corruption and fraud are generally interlinked. In fact corruption is a special type of fraud and treated as such in many jurisdictions. Fraud and Corruption both pose serious challenges to audit, as they seek to mislead and distort the true state of financial and non-financial affairs of the entity. Fraud awareness or recognition amongst the Company Secretaries is necessary to play a vigilant role in containing frauds by ensuing correction of system deficiencies and building up effective system controls and checks in the audited/clientele entities.

Fraud is most likely to involve deliberate misrepresentation of information that is recorded and summarized by an entity; its impact can be compared to an accounting error and would involve issues such as measurement, occurrence, and disclosure. Fraud poses a serious problem from an audit perspective because it is normally accompanied by efforts to cover/ falsify/ misdirect the entity records and reporting. Thus, fraud can directly affect the financial statements and records of the audited/clientele entity.

Any transaction entered into by the taxpayer must be reported in books of account which are summarized at the end of the year in the form of financial statements. The financial statements basically comprise statement of income and expenditure which is called by different names such as ‘Profit and Loss Account’ or ‘Income and Expenditure Account’ and statement of assets and liabilities which is called ‘Balance Sheet’ or ‘Statement of Affairs’. Tax evasion involves misreporting or non-reporting of the transactions in the books of account. Therefore, it is important for the Company Secretaries to understand the different kinds of manipulations of financial statements resulting in tax evasion and the generation of black money. Hence, the Company Secretaries should remain alert, vigilant and develop a nose to smell these manipulations in the Accounts. It is also desirable to introduce such an orientation to the Audit.

Therefore, examination of system for detection and prevention of fraud and corruption will be an integral part of all regularity audits and also of performance audits. At the commencement of each audit, information about the fraud and corruption awareness, detection and prevention policy and related environment should be collected from the audited/clientele entity management. During the course of audit work, the audit teams / officers should be vigilant and seek explanations.

Though corruption is clandestine and takes place outside the books, it is likely to leave tell-tale marks here and there. Even from well-maintained books, a whiff of corruption may rise. Audit can remain alert to such indirect indications and develop a nose to the smell of corruption and therefore, it is desirable for the Company Secretaries should take a lead to bring in such an orientation in the Audit.

A comprehensive analysis of the factors leading to generation of black money in India along with the various measures attempted to counter it till date makes it apparent that there is no single panacea that can rid society of this menace. At the same time, it is not impossible to curb, control, and finally prevent the generation of black money in future as well as repatriation of black money, if a comprehensive mix of well defined strategies is pursued with patience and perseverance by the central and state governments and put into practice by all their agencies in a coordinated manner. All stakeholders who are likely to benefit from prevention and control of black money generation will welcome and support the important initiative of curbing the black money and provide needed inputs. Let us play our role as Company Secretaries in addressing this gigantic task!

Source: White Paper on Black Money dated 16th May, 2012 of Ministry of Finance, Department of Revenue, CBDT.

[Published in  'Corporate Secretary', Monthly Journal of ICSI during December, 2012]


By K P C Rao., LLB., FCMA., FCS.,
CMA (USA)., FIPA (Australia)
Practicing Company Secretary

Corporate governance is perhaps one of the most important differentiators of a business that has impact on the profitability, growth and even sustainability of business. It is a multi-level and multi-tiered process that is distilled from an organization’s culture, its policies, values and ethics, especially of the people running the business and the way it deals with various stakeholders.

Creating value that is not only profitable to the business but sustainable in the long-term interests of all stakeholders necessarily means that businesses have to run—and be seen to be run—with a high degree of ethical conduct and good governance where compliance is not only in letter but also in spirit.

At the time of Independence in 1947, India had functioning stock markets, an active manufacturing sector, a fairly developed banking sector, and also a comparatively well developed British-derived convention of corporate practices. From 1947 through 1991, the Indian Government pursued markedly socialist policies when the State nationalized most banks and became the principal provider of both debt and equity capital for private firms.

The government agencies that provided capital to private firms were evaluated on the basis of the amount of capital invested rather than on their returns on investment. Competition, especially foreign competition, was suppressed. Private providers of debt and equity capital faced serious obstacles in exercising oversight over managers due to long delays in judicial proceedings and difficulty in enforcing claims in bankruptcy. Public equity offerings could be made only at government-set prices. Public companies in India were only required to comply with limited governance and disclosure standards enumerated in the Companies Act of 1956, the Listing Agreement, and the accounting standards set forth by the Institute of Chartered Accountants of India (ICAI).

Faced with a fiscal crisis in 1991, the Indian Government responded by enacting a series of reforms aimed at general economic liberalization. The Securities and Exchange Board of India (SEBI)—India's securities market regulator—was formed in 1992, and by the mid-1990s, the Indian economy was growing steadily, and Indian firms had begun to seek equity capital to finance expansion into the market spaces created by liberalization and the growth of outsourcing.

The need for capital, amongst other things, led to corporate governance reform and many major corporate governance initiatives were launched in India since the mid- 1990s; most of these initiatives were focused on improving the governance climate in corporate India, which, at that time, was somewhat rudimentary.

“Corporate governance processes presently in convention are designed with a view to serve the shareholders and protect them from managerial excesses. However, this premise is turned on its head when companies are run by a dominant shareholder or group. A corporate governance regime which involves strengthening board processes alone would be rather irrelevant to solve the problems of governance abuses by dominant shareholders”.


The first major initiative was undertaken by the Confederation of Indian Industry (CII), India’s largest industry and business association, which came up with the first voluntary code of corporate governance in 1998. More than a year before the onset of the East Asian crisis, the CII had set up a committee to examine corporate governance issues, and to recommend a voluntary code of best practices.

Drawing heavily from the Anglo-Saxon Model of Corporate Governance, CII drew up a voluntary Corporate Governance Code. The first draft of the code was prepared by April 1997, and the final document titled “Desirable Corporate Governance: A Code”, was publicly released in April 1998. The code was voluntary, contained detailed provisions and focused on listed companies.

Although this Code was welcomed with much fanfare and even adopted by a few progressive companies, it was “felt that under Indian conditions a statutory rather than a voluntary code would be far more purposive and meaningful, at least in respect of essential features of corporate governance”. Consequently, the second major corporate governance initiative in the country was undertaken by SEBI. In early 1999, it set up a committee under Kumar Mangalam Birla to promote and raise the standards of good corporate governance.

The Birla Committee specifically placed emphasis on independent directors in discussing board recommendations and made specific recommendations regarding board representation and independence. The Committee also recognized the importance of audit committees and made many specific recommendations regarding the function and constitution of board audit committees. In early 2000, the SEBI board accepted and ratified the key recommendations of the Birla Committee, which were incorporated into Clause 49 of the Listing Agreement of the Stock Exchanges.

The Naresh Chandra committee was appointed in August 2002 by the Department of Company Affairs (DCA) under the Ministry of Finance and Company Affairs, to examine various corporate governance issues. The Committee submitted its report in December 2002. It made recommendations in terms of two key aspects of corporate governance: (1) financial and non-financial disclosures, and (2) independent auditing and board oversight of management.

It also made a series of recommendations regarding, among other matters, the grounds for disqualifying auditors from assignments, the type of non-audit services that auditors should be prohibited from performing, and the need for compulsory rotation of audit partners.

The fourth initiative on corporate governance in India is in the form of the recommendations of the Narayana Murthy Committee. This committee was set up by SEBI under the chairmanship of Mr. N.R. Narayana Murthy, in order to review Clause 49, and to suggest measures to improve corporate governance standards. Some of the major recommendations of the committee primarily related to audit committees, audit reports, independent directors, related party transactions, risk management, directorships and director compensation, codes of conduct and financial disclosures.

The Murthy Committee, like the Birla Committee, pointed that international developments constituted a factor that motivated reform and highlighted the need for further reform in view of the recent failures of corporate governance, particularly in the United States, combined with the observations of India’s stock exchanges that compliance with Clause 49 had up to that point been uneven.

Like the Birla Committee, the Murthy Committee examined a range of corporate governance issues relating to corporate boards and audit committees, as well as disclosure to shareholders and, in its report, focused heavily on the role and structure of corporate boards, while strengthening the definition of director independence in the then-existing Clause 49, particularly to address the role of insiders on Indian boards. In its present form, Clause 49, called ‘Corporate Governance’, contains eight sections dealing with the Board of Directors, Audit Committee, Remuneration of Directors, Board Procedure, Management, Shareholders, Report on Corporate Governance, and Compliance, respectively. Firms that do not comply with Clause 49 can be de-listed and charged with financial penalties.

In the light of the clear consideration of Anglo-American standards of governance by both the Birla and Murthy Committees, it is not surprising that India’s corporate governance reform effort should contain provisions similar to the reform efforts undertaken outside India that adopted such models. In its final report, the Birla Committee noted its dual reliance on international experiences—both as an impetus for reform following “high-profile financial reporting failures even among firms in the developed economies”, and as a model for reform. Significantly, the Birla Committee singled out the corporate governance reports and codes being applied in the US and UK, such as the Report of the Cadbury Committee, the Combined Code of the London Stock Exchange, and the Blue Ribbon Committee on Corporate Governance in the US. The Committee even directly sought out the input of Sir Adrian Cadbury, chair of the Cadbury Committee, commissioned by the London Stock Exchange, in addition to Indian business leaders.

While the report of the Murthy Committee did not explicitly cite the Anglo-American models of governance, it was clearly a reaction to events in the United States, particularly given the timing of the report, which followed just a few months after the enactment of the Sarbanes-Oxley Act (SOA). There are striking similarities between Clause 49 and the leading Anglo-American corporate governance standards, in particular the Cadbury Report, the OECD Principles of Corporate Governance, and Sarbanes- Oxley.

India’s corporate governance reform efforts did not cease after the adoption of Clause 49. In parallel, the review and redrafting of the Companies Act, 1956 was taken up by the Ministry of Corporate Affairs (MCA) on the basis of a detailed consultative process and the Government constituted an Expert Committee on Company Law under the Chairmanship of Dr. J.J. Irani on 2nd December 2004 to offer advice on a new Companies Bill.
Based, among other things, on the recommendations of the Irani Committee, the Government of India introduced the Companies Bill, 2008, in the Indian Parliament, which sought to enable the corporate sector in India to operate in a regulatory environment characterized by best international practices that foster entrepreneurship and investment. However, due to the dissolution of the Fourteenth Lok Sabha, the Companies Bill, 2008, lapsed but since the provisions of the Companies Bill, 2008 were broadly considered to be suitable for addressing various contemporary issues relating to corporate governance, the Government decided to re-introduce the Companies Bill, 2008, as the Companies Bill, 2009, without any change in it except the Bill year.

In January 2009, the Indian corporate community was rocked by a massive accounting scandal involving Satyam Computer Services (Satyam), one of India’s largest information technology companies. The Satyam scandal prompted quick action by the Indian government, including the arrest of several insiders and auditors of Satyam, investigations by the MCA and SEBI, and substitution of the company’s directors with government nominees.

For corporate leaders, regulators, and politicians in India, as well as for foreign investors, this necessitated a re-assessment of the country’s progress in corporate governance. As a consequence of various corporate scams, India’s ranking in the CLSA Corporate Governance Watch 2010 slid from third to seventh in Asia .

Shortly after the news of the scandal broke, the CII began examining the corporate governance issues arising out of the Satyam scandal and in late 2009, the CII task force listed recommendations on corporate governance reform. In his foreword to the Task Force Report, Mr Venu Srinivasan, President of CII, while emphasizing the unique nature of the Satyam scandal, suggested that it was is a one-off incident and that the overwhelming majority of corporate India does business in a sound and legal manner. Nonetheless, the CII Task force put forth important recommendations that attempted to strike a balance between over-regulation and promotion of strong corporate governance norms by recommending a series of voluntary reforms.

The Institute of Company Secretaries of India (ICSI) has also put forth a series of corporate governance recommendations. In addition to the ICSI, a number of other corporate groups have joined the corporate governance dialogue. The National Association of Software and Services Companies (NASSCOM) also formed a Corporate Governance and Ethics Committee chaired by N.R. Narayana Murthy, a leading figure in the field of Indian corporate governance reforms. The Committee issued its recommendations in mid-2010, focusing on the stakeholders in the company. The report emphasized recommendations relating to the audit committee and a whistle blower policy, and also addressed the issue of the need to improve shareholder rights.

Inspired by industry recommendations, the MCA, in late 2009, released a set of voluntary guidelines for corporate governance. These Voluntary Guidelines address myriad corporate governance matters, including the independence of the boards of directors; the responsibilities of the board, the audit committee, auditors, and secretarial audits; and mechanisms to encourage and protect whistle blowing. The MCA also indicated that the guidelines constituted a first step in the process of facilitating corporate governance and that the option to perhaps move to something more mandatory remains open.

In parallel, subsequent to the introduction of the Companies Bill, 2009 in the Lok Sabha, the Central Government received several suggestions for amendments in the said Bill from the various stakeholders and the Parliamentary Standing Committee on Finance who also made numerous recommendations in its report. In view of the large number of amendments suggested to the Companies Bill, 2009, arising from the recommendations of the Parliamentary Standing Committee on Finance and suggestions of the stakeholders, the Central Government decided to withdraw the Companies Bill, 2009 and introduce a fresh Bill incorporating the recommendations of Standing Committee and suggestions of the stakeholders.

The revised Bill, namely, the Companies Bill, 2011 was introduced in the Lok Sabha on 14th December 2011; however the same was withdrawn by the Government on 22nd December and sent back for consideration by the Standing Committee on Finance. Thereafter, on 18th December, 2012 the Lok Sabha has approved the much-awaited amendments to the Companies Bill, 2011, making it mandatory for profit-making companies to spend on activities related to Corporate Social Responsibility (CSR). In case, a company is not doing so, it will have to explain the reasons for shortfall .

The Bill, aimed at improving corporate governance, also contains provisions to strengthen regulations for corporates as well as auditing firms. Moving the Bill for consideration, Minister of State (Independent Charge) for Corporate Affairs Sachin Pilot said private companies, while maximising their growth, also have responsibility towards society besides equitable and sustainable growth of the country. The changes in the Bill include provisions making it mandatory for companies to spend 2% of their average net profit on CSR activities. However, only companies reporting Rs 5 crore or more profits in the last three years have to make the CSR spend. Companies failing to meet the obligation will have to explain and disclose reasons in their annual books of account. Otherwise, companies would face action, including penalty.

Though the corporate governance efforts in India have been spearheaded by SEBI over the last decade, the more recent steps have been taken by the MCA. Also there has been an effort to consolidate corporate governance norms into the Companies Act, 1956. Towards that end, the Companies Bill, 2011, does contain several aspects of corporate governance which have hitherto been the mainstay of Clause 49. This represents a trend towards legislating on corporate governance rather than leaving it to the domain of the Listing Agreement. It also signifies a shift in corporate governance administration from SEBI, which oversees the implementation of Clause 49, towards the MCA, which administers the Companies Act.


A significant feature of the corporate governance reforms in India has been its voluntary nature and the active role played by public listed companies in improving governance standards in India. Organisations like ICSI and CII, (which is dominated by large public listed firms) had played an active role in the development of India’s corporate governance norms in India.

What began as a voluntary effort soon acquired mandatory status through the adoption of Clause 49, as all companies (of a certain size) listed on stock exchanges were required to comply with these norms, a trend which was further reinforced by the introduction of stringent penalties for violation of the prescribed norms. While the Voluntary Corporate Governance guidelines of 2009 represented a move back to a voluntary framework for corporate governance, recent efforts to consolidate corporate governance norms into the Companies Act, 1956 marks a reversal of the earlier approach. In that sense, the corporate governance norms in India appear to have completed two full cycles of oscillating between the voluntary and the mandatory approaches.


As a part of the process of economic liberalization in India, and the move towards further development of India’s capital markets, the Central Government established regulatory control over the stock markets through the formation of the SEBI. Originally established as an advisory body in 1988, SEBI was granted the authority to regulate the securities market under the Securities and Exchange Board of India Act of 1992 (SEBI Act).

Public listed companies in India are governed by a multiple regulatory structure. The Companies Act is administered by the Ministry of Corporate Affairs (MCA) and is currently enforced by the Company Law Board (CLB). That is, the MCA, SEBI, and the stock exchanges share jurisdiction over listed companies, with the MCA being the primary government body charged with administering the Companies Act of 1956, while SEBI has served as the securities market regulator since 1992.

SEBI serves as a market-oriented independent entity to regulate the securities market akin to the role of the Securities and Exchange Commission (SEC) in the United States. The stated purpose of the agency is to protect the interests of investors in securities and to promote the development of, and to regulate, the securities market. The realm of SEBI’s statutory authority has also been the subject of extensive debate and some authors have raised doubts as to whether SEBI can make regulations in respect of matters that fall within the jurisdiction of the Ministry of Corporate Affairs.

SEBI’s authority for carrying out its regulatory responsibilities has not always been clear and when Indian financial markets experienced massive share price rigging frauds in the early 1990s, it was found that SEBI did not have sufficient statutory power to carry out a full investigation of the frauds. Accordingly, the SEBI Act was amended in order to grant it sufficient powers with respect to inspection, investigation, and enforcement, in line with the powers granted to the SEC in the United States.

A contentious aspect of SEBI’s power concerns its authority to make rules and regulations. Unlike in the United States, where the SEC can point to the Sarbanes-Oxley Act, which specifically confers upon it the authority to prescribe rules to implement governance legislation, SEBI, on the other hand, cannot point to a similar piece of legislation to support the imposition of the same requirements on Indian companies through Clause 49. Instead, SEBI can look to the basics of its own purpose, as given in the SEBI Act, wherein it is granted the authority to “specify, by regulations, the matters relating to issue of capital, transfer of securities and other matters incidental thereto . . . and the manner in which such matters shall be disclosed by the companies.” In addition, SEBI is granted the broad authority to “specify the requirements for listing and transfer of securities and other matters incidental thereto.”

Recognizing that a problem arising from an overlap of jurisdictions between the SEBI and MCA does exist, the Standing Committee, in its final report, has recommended that while providing for minimum benchmarks, the Companies Bill should allow sectoral regulators like SEBI to exercise their designated jurisdiction through a more detailed regulatory regime, to be decided by them according to circumstances. Referring to a similar case of jurisdictional overlap between the RBI and the MCA, the Committee has suggested that it needs to be appropriately articulated in the Bill that the Companies Act will prevail only if the Special Act is silent on any aspect.

Further the Committee suggested that if both are silent, requisite provisions can be included in the Special Act itself and that the status quo in this regard may, therefore, be maintained and the same may be suitably clarified in the Bill. This, in the Committee’s view, would ensure that there is no jurisdictional overlap or conflict in the governing statute or rules framed there under.


The issue of enforcement of Corporate Governance norms also needs to be seen in the broader context of the substantial delay in the delivery of justice by the Indian legal system on account of the significant number of cases pending in the Indian courts.

A research paper by PRS Legislative Research places the number of pending cases in courts in India, as of July 2009, as 53,000 pending with the Supreme Court, 4 million with various High Courts, and 27 million with various lower courts. This signifies an increase of 139 per cent for the Supreme Court, 46 per cent for the High Courts and 32 per cent for the lower courts, from the pending number of cases in each of them in January 2000. Furthermore, in 2003, 25 per cent of the pending cases with High Courts had remained unresolved for more than ten years and in 2006, 70 per cent of all prisoners in Indian jails were under trials. Since fresh cases outnumber those being resolved, there is obviously a shortfall in the delivery of justice, and a consequent increase in the number of pending cases. In addition, the weight of the backlog of older cases creeps upward every year.

This backlog in the Indian judicial system raises pertinent questions as to whether the current regulatory framework in India, as enacted, is adequate to enable shareholders to recover their just dues.

This concern is also articulated in the recent pleadings (filed in January 2010) in the United States District Court, Southern District of New York , on the matter relating to the fraud in the erstwhile Satyam Computer Services, wherein US-based investors were seeking damages from defendants that included, among others, Satyam and its auditors, PricewaterhouseCoopers (PwC) and has thrown up some very interesting and relevant issues. This case was filed on behalf of investors who had purchased or otherwise acquired Satyam’s American Depository Shares (ADS) listed on the New York Stock Exchange and investors, residing in the United States, who purchased or otherwise acquired Satyam common stock on the National Stock Exchange of India or the Bombay Stock Exchange.

In their pleadings, the plaintiffs submitted declarations of two prominent Indian securities law experts: Sandeep Parekh, former Executive Director of SEBI, and Professor Vikramaditya Khanna of the University of Michigan Law School, a leading expert in the United States on the Indian legal system, who filed individual affidavits in which they detailed very cogent and compelling reasons as to why Indian courts cannot redress the harm done to the Class plaintiffs and why India itself does not provide a viable alternative forum for settling the claims of Class members.

It is pertenent to mention here that in their depositions, among other things, Sandeep Parekh and Vikramaditya Khanna have explained that:
  • The substantive laws of India provide no means of individual or class recovery for private investors in securities fraud matters because the civil courts in India are barred from hearing such cases where, as here, SEBI is empowered to act;
  • Even if it did provide a substantive means of recovery, Indian law provides no viable class action mechanism under which investors’ claims can be litigated; and
  • Indian law does not recognize the fraud-on-the-market presumption of reliance in private civil actions, so that, even if both a substantive means of recovery and a viable class action mechanism existed under Indian law, investors would still be required to demonstrate individual reliance, thus effectively depriving the vast majority of Class members of any prospect of relief.

Khanna stated in his declaration that “The lengthy delays in the Indian Judicial System would leave plaintiff shareholders with effectively no recovery even assuming, arguendo ; there might be a potential cause of action.”

Sandeep Parekh argued on behalf of the plaintiff shareholders that, not only, as “private parties have no right to sue to recover damages resulting from the Satyam fraud under Indian statutory or common law because the Indian civil courts have no power to hear disputes where, as in this case, SEBI is empowered to act”, but also that the Satyam investors would “not be able to use the representative action procedure to recover damages because Indian law bars their substantive claims in civil court and the representative action is only a procedural mechanism that cannot create any substantive rights”. Furthermore, Parekh added that any penalties collected by SEBI related to the Satyam fraud would not go to shareholders of Satyam under the Indian securities law and, unlike the Fair Fund introduced in the United States; penalty amounts collected by SEBI go to the Consolidated Fund of India. He concluded that even if SEBI imposed monetary penalties against the various persons alleged to be a part of the fraud, Satyam shareholders cannot expect any relief from such action.

In 2011, the class action suit was settled by Satyam Computer Services; also Satyam Computer Services Ltd and its former auditor PricewaterhouseCoopers agreed to settle U.S. probes and Price Waterhouse Bangalore, PricewaterhouseCoopers Private Limited, and Lovelock & Lewes (PW India firms) and PwC U.S. and PwC International agreed to settle the New York securities class action suit.

The proceedings in the United States District Court, Southern District of New York, on the Satyam issue have thrown up a number of issues as regards the admissibility and enforceability of the claims of investors many of which remain unresolved and would be tested in the future when similar cases are tried in courts.


The foundations of the comprehensive revision in the Companies Act, 1956 was laid in 2004 when the Government constituted the Irani Committee to conduct a comprehensive review of the Act. The Government of India has placed before the Parliament a new Companies Bill, 2011 that incorporates several significant provisions for improving corporate governance in Indian companies which, having gone through an extensive consultation process, is approved in the Lok Sabha on 18th December, 2012.

The new Companies Bill, 2011 proposes structural and fundamental changes in the way companies would be governed in India and incorporates various lessons that have been learnt from the corporate scams of the recent years that highlighted the role and importance of good governance in organizations.

Significant corporate governance reforms, primarily aimed at improving the board oversight process, have been proposed in the new Companies Bill; for instance it has proposed, for the first time in Company Law, the concept of an Independent Director and all listed companies are required to appoint independent directors with at least one third of the Board of such companies comprising of independent directors.

The Companies Bill, 2011 takes the concept of board independence to another level altogether as it devotes two sections to deal with Independent Directors. The definition of an Independent Director has been considerably tightened and the definition now defines positive attributes of independence and also requires every Independent Director to declare that he or she meets the criteria of independence.

In order to ensure that Independent Directors maintain their independence and do not become too familiar with the management and promoters, minimum tenure requirements have been prescribed. The initial term for an independent director is for five years, following which further appointment of the director would require a special resolution of the shareholders. However, the total tenure for an independent director is not allowed to exceed two consecutive terms. The new Companies Bill, 2011 also expressly disallows Independent Directors from obtaining stock options in companies to protect their independence.

The new guidelines which set out the role, functions and duties of Independent Directors and their appointment, resignation and evaluation introduce greater clarity in their role; however, in certain places they are prescriptive in nature and could end up making the role of Independent Directors quite onerous.

In order to balance the extensive nature of functions and obligations imposed on Independent Directors, the new Companies Bill, 2011 seeks to limit their liability to matters directly relatable to them and limits their liability to “only in respect of acts of omission or commission by a company which had occurred with his knowledge, attributable through board processes, and with his consent or connivance or where he had not acted diligently”. In the background of the current provisions in the Companies Act, 1956 which do not provide any clear limitation of liability and have left it to be interpreted by Courts, it is helpful to provide a limitation of liability clause.

The new Bill also requires that all resolutions in a meeting convened with a shorter notice should be ratified by at least one independent director which gives them an element of veto power. Various other clauses such as those on directors’ responsibility statements, statement of social responsibilities, and the directors’ responsibilities over financial controls, fraud, etc, will create a more transparent system through better disclosures.

A major proposal in the new Bill is that any undue gain made by a director by abusing his position will be disgorged and returned to the company together with monetary fines.

Other significant proposals that would lead to better corporate governance include closer regulation and monitoring of related-party transactions, consolidation of the accounts of all companies within the group, self-declaration of interests by directors along with disclosures of loans, investments and guarantees given for the businesses of subsidiary and associate companies.

A significant first, in the proposals under the new Companies Bill, is the provision that has been made for class action suits; it is provided that specified number of members may file an application before the Tribunal on behalf of members, if they feel that the management or control of the affairs of the company are being conducted in a manner prejudicial to the interests of the company or its members. The order passed by the Tribunal would be binding on the company and all its members. The enhanced investor protection framework, proposed in the Bill, also empowers small shareholders who can restrain management from actions that they believe are detrimental to their interests or provide an option of exiting the company when they do not concur with proposals of the majority shareholders.

The Companies Bill, 2011 seeks to provide clarity on the respective roles of SEBI and the MCA and demarcate their roles – while the issue and transfer of securities and non-payment of dividend by listed companies or those companies which intend to get their securities listed shall be administered by the SEBI all other cases are proposed to be administered by the Central Government. Furthermore, by focusing on issues such as Enhanced Accountability on the part of Companies, Additional Disclosure Norms, Audit Accountability, Protection for Minority Shareholders, Investor Protection, Serious Fraud Investigation Office (SFIO) in the new Companies Bill, 2011, the MCA is expected to be at the forefront of Corporate Governance reforms in India.


In order to keep pace with fast changing business scenario, to align with the provisions of Companies Bill 2012 and to adopt international best practices relating to Corporate Governance, SEBI has come out with a consultative paper on 4th Junuary, 2013 on Corporate Governance norms in India. The paper brings suggestions which will have far reaching effect and will completely change the landscape of Corporate Governance in case of listed companies.
The market regulator has suggested measures such as rationalising CEO pay packets, better compliance for the benefit of small investors, making whistle blower mechanisms a compulsory requirement and disclosing the same, implementation of an orderly succession planning among others.
SEBI has also sought greater powers for minority shareholders and wants companies to bring in diversity of thought, experience, knowledge, understanding, perspective, gender and age in the board of companies. As per the proposed guidelines, all listed companies must appoint an independent director as a lead director, who could chair the meetings of independent directors and act as a liaison between independent directors and management/board/ shareholder.
The SEBI also pointed out that the board should set a corporate culture and the values by which executives throughout a group will behave. The board should eliminate policies that promote excessive risk-taking for the sake of short-term increases in stock price performance and ensure that a risk/crisis management plan is in place.
The market regulator has also suggested hefty penalties for non-compliance of the revised corporate governance norms. Stating that delisting would affect investors and prosecution was a costly and time-consuming process, the SEBI, to strengthen the monitoring of the compliance, has suggested carrying out of corporate governance rating by credit rating agencies, inspection by stock exchanges/ SEBI for verifying the compliance made by the companies. The SEBI has further stated that the provisions of listing agreement are being converted into regulations for better enforcement.
Major proposals in this Consultative Paper are:
  1. Appointment of independent directors by minority shareholders: listed companies beyond a market cap need to be mandated to have at least one small shareholder director
  2. Cumulative voting for appointment of Independent Director: Cumulative voting allows shareholders to cast all of their votes for a single nominee for the board of directors when the company has multiple openings on its board
  3. Formal letter of appointment to Non- Executive Directors (NEDs) and Independent Directors with specific roles and responsibilities
  4. Certification course and training for independent directors
  5. Treatment of nominee director as Non-Independent Director
  6. Mandate minimum and maximum age for Independent Directors
  7. Mandating maximum tenure for independent director to be two consecutive terms of 5 years in line with Companies Bill
  8. Requiring Independent directors to disclose reasons of their resignation
  9. Clarity on liabilities and on remuneration of independent directors
  10. Performance evaluation of independent director
  11. Appointment of one of the independent director as Lead Independent Director
  12. Separate meetings of Independent Directors at least once in a year
  13. Maximum number of public companies in which an individual may serve as an Independent Director should be restricted to seven
  14. Separating the position of Chairman and that of the Managing Director / CEO
  15. Diversity and formally laid out succession plan for Board
  16. Framing a risk management plan, its compulsory monitoring and reviewing by a Board/Board Committee and the disclosure thereof to the shareholders at periodic intervals (preferably on annual basis) be laid down in the Listing Agreement.
  17. Making Whistle Blower Mechanism a compulsory requirement
  18. Mandating e-voting for all resolutions of a listed company
  19. Measures for preventing abuse of related Party Transactions
  20. Lay down specific fiduciary responsibilities of controlling shareholders, mandating relationship agreement between the company and the controlling shareholder specifying the duties and responsibilities of controlling shareholders
  21. Provision for regulatory support to class action suits
  22. Detailed guidelines on Role of Institutional Investors
  23. Enforcement for non-compliance of Corporate Governance Norms


The objective of the Consultative Paper is to entice a wider debate on the governance requirement for the listed companies so as to adopt better global practices. While it needs to be ensured that the proposals suggested would not result in increasing the additional cost of compliances by huge margin and that the cost should not outweigh the benefit of listing, at the same time, it is necessary to bring back the confidence of investors back to the capital market, for channelising savings into investment, which is the need of the hour.

Though some of these proposals are already provided for in the Companies Bill, 2011, and the Bill is waiting for Parliamentary nod, the SEBI proposed to advance the implementation of these proposals to listed companies to make them acclimatise to these provisions. SEBI has sought public comments on the subject on or before 31st January, 2013.

[Published in Corporate Secretary, Monthly Journal of ICSI, Hyderabad during January, 2013]