Saturday, November 5, 2016

Management Conflicts and Board Independence

In the ongoing saga involving the boardroom battle for the Tata Group, a new development may have significant implications for corporate governance practice in India. Yesterday, a Tata Group company, The Indian Hotels Company Limited (IHCL) notified the stock exchanges of a meeting held among the independent directors of the company. It stated:

Taking into account Board assessments and performance evaluations carried out over the years, the Independent Directors unanimously expressed their full confidence in the Chairman, Mr. Cyrus Mistry and praised the steps taken by him in providing strategic direction and leadership to the Company.

After deliberations, the Independent Directors came to a view that being a listed Company, it was imperative for the Independent Directors to state their views to the investors and public at large, such that those who trade in securities of the Company, make an informed decision.

This stance adopted by the independent directors of IHCL has left some with bewilderment, and others with dismay. How can the independent directors of a listed company take sides in a corporate battle? Is this further step towards a prolonged legal battle? Does it make the removal of the chairman from the listed companies a daunting task? Apart from these somewhat sensational questions, saner voices have welcomed the stance of IHCL’s independent directors, as this is precisely what they are expected to do under law, i.e. take a stand in the interests of the company and its minority shareholders. In this post, I outline some of the broader corporate governance implications of this development, and the lessons this might provide not just to the other Tata Group companies, but also to corporate India in general, particularly when boards are acting in the wake of a corporate crisis.

First, it is imperative that the boards and, more importantly, independent directors of each of the listed companies within the Tata Group take a position, and make that known to the investors and other stakeholders. This is the bare minimum requirement. As I had previously noted:

… what is the role of the boards of various listed companies within the group? At one level, the board’s attention may not be called for as the various events have occurred at the promoter level. The listed company boards have neither considered nor taken any decision. But, that would be too simplistic and na├»ve an approach. Given that the recent string of events have a direct impact on the shareholders and stakeholders of these listed companies, the boards must state their position and clarify the issues and assuage the concerns of investors.

In its latest stance, the board and independent directors of IHCL did what they were required to.

Second, this episode informs us about the role of independent directors, which gets accentuated in case of a crisis, such as the present one. In such a scenario, the independent directors are called upon to take a more proactive role in ensuring that the company deals with the crisis in a manner that minimizes an adverse impact on minority shareholders and other stakeholders. This is also consistent with the requirements imposed by law. For example, Schedule IV to the Companies Act, 2013, which contains a Code for Independent Directors, encourages independent directors to meet separately without the presence of management in what is known in corporate governance-speak as executive sessions. Moreover, the Code also sets out the roles and functions of independent directors, which include: (i) safeguarding the interests of all stakeholders, particularly the minority shareholders; and (ii) moderating and arbitrating in the interest of the company as a whole, in situations of conflict between management and shareholder’s interest. The independent directors of IHCL may have been guided by these obligations imposed by law.

Third, the duties of directors as a whole (whether independent or not) have been codified in section 166(2) of the Companies Act, 2013, which states:

(2) A director of a company shall act in good faith in order to promote the objects of the company for the benefit of its members as a whole, and in the best interests of the company, its employees, the shareholders, the community and for the protection of environment.

(3) A director of a company shall exercise his duties with due and reasonable care, skill and diligence and shall exercise independent judgment.

In discharge of these obligations, the law is quite clear that directors are required to act in the interest of the company and its stakeholders, and they ought not to be motivated by any other interest, and certainly not their own. Even if a company (such as IHCL) is part of a broader corporate group (such as the Tata Group), the board of each company must put the interests of its own company as paramount, especially if such interest were to be inconsistent with the interests of other companies within the group, or even the group as a whole. The discharge of these duties becomes somewhat complicated when there is a conflict between members of the management and promoters. In such case, the directors of the company must do what is best for the long-term interests of the company, even if that means taking some unpleasant decisions. It appears that the board of IHCL decided to don the mantle.

In all, my ivory tower existence does not permit me to second guess the specific decision taken by the independent directors of IHCL in the context of the disputes relating to the Tata Group. But, what is more important is the manner in which they performed their role, i.e. to take a position on the issues and to communicate it to the shareholder and other stakeholders. Their actions may pave the way for other Tata Group companies to take a stand on the issue.

In the past, both on this Blog and elsewhere, several commentators have criticized the utility and performance of independent directors on corporate boards in India. Much of this was to do with the gaps in the legal requirements and corporate governance norms. Now that the gaps have been substantially addressed in the Companies Act, 2013 and the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015, boards and independent directors are likely to be more proactive in their efforts to act in the interests of minority shareholders and other stakeholders. We may just have witnessed one such example that takes corporate India in that direction.

No comments: