13th December 2007

D D RathiD D Rathi *Director & CFODirector & CFO

Grasim Industries Limited – Aditya Birla GroupGrasim Industries Limited – Aditya Birla Group

ICAI International ConferenceICAI International Conference

Corporate GovernanceCorporate Governance- Fact or Myth- Fact or Myth

(* Views expressed are personal)

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Corporate Governance – Fact or Myth

A bold theme – spanning to two extremes The obvious answer is that “it cannot be a Myth” Point to be debated is the level of governance achieved Key background issues -

Governance generally What is corporate governance and what are its essentials Growing significance and benefits Corporate Governance initiatives and enactments

Current status of Corporate Governance, bench marking and challenges

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Governance generally

Governance concept applicable to every entity and every individual

Good Governance essential in every walk of life Well defined Governance Practices more critical to Corporates

as they are “Artificial legal entities”

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What is Corporate Governance ?

Many definitions have been articulated Difficult to define comprehensively in few sentences Corporate Governance is about commitment to values and

ethical business conduct Good Corporate Governance is reflected in fair, equitable,

transparent and responsible interaction between a Company’s - Management Board of Directors Shareholders Other Stakeholders

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Essentials of good Corporate Governance

Corporate Governance is first about values and then about structure, system and processes

Should not be just ‘check list’ concept, but should be a way of life

Four pillars of good Corporate Governance Fairness Transparency & Disclosures Accountability, and Role Clarity

Responsibility of the Board, Chairman, CEO, CFO & Other Executives

Key Principles of Corporate Governance Respect right of minority shareholders Equitable treatment of shareholders Rights of other stakeholders Social Responsibility (CSR - as a caring corporate citizen)

Trusteeship culture

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Growing significance of Corporate Governance

Corporate Governance has acquired greater significance in India Globalisation and large Capital requirements Increasing complexities of the organizational structure Gradual distancing of Ownership from Management Geographical expansion of Investor Base Emergence of Large Institutional Investors, foreign & domestic

both

A series of global financial and corporate crisis Indian Corporates very well recognise linkage of Corporate

Governance to Valuations of the Companies Attracting capital at lower cost Attracting & retaining talented human capital

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History of Corporate Governance Initiatives and Enactments

Initiatives and Regulatory enactments – International examples Cadbury Committee (UK) – 1991 HAMPEL Committee (UK) - 1997 Blue Ribbon Commission (US) - 1999 Ad hoc Task Force OECD Sarbanes Oxley Act - 2002

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Initiatives and Regulatory enactments - India Concept not new to India – Trusteeship culture is age old

Ram Rajya - Role of King, Society & Priest Appropriating part of profit for charity (social responsibility)

Constitution of SEBI in 1992 National Task Force of CII – 1996 – Chairman Mr. Rahul Bajaj

(Voluntary measure) Kumar Mangalam Birla Committee - 1999

(Resulted in Introduction of Clause 49, first structured regulation) Naresh Chandra Committee - 2002 Narayan Murthy Committee – 2003

Companies Act Amendments

JJ Irani Committee on Company Law

December 2005 - Amendment to Listing Agreement Amended Clause 49 - A landmark step

History of Corporate Governance Initiatives and Enactments – contd.

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Can Regulation alone ensure good governance ?

We do need basic regulatory frame work But we need even much large body of self regulation and

spirit of voluntary compliance Good governance practices will evolve through blend of

regulatory frame work and voluntary compliance

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Should Corporate Governance be just restricted to compliance of law ?

“Corporate Governance” is not a “Tick Box” concept but has to be a way of life

Governance frame work should focus on “Substance” and not merely on “Form”

You do it because it is the right thing to do … and not just because the law commands you to do it

Good Governance goes beyond legal compliance

Compliance

Value Creation

Excellence

Benefits of Good Governance - leading to excellence in management

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Indian Corporates - Current Corporate Governance Status

Indian Corporates have come a long way on Governance practices Improving Structures & Functioning of the Board and its Committees Code of Conduct for Board & Senior Management Disclosure practices - continuous and timely disclosure High quality of Accounting Policies and Accounting Standards Clause 49 requirements Investor Relations practices - transparency & uniform dissemination of

information Insider Trading codes Quality of Annual Report

Consolidated Financial Statements Segmental Reporting Management Discussion & Analysis

Reporting on compliance and its certification Corporate Governance has started to percolate to mid level corporates

as well Comparison of Corporate Governance Practices with China, Other Asian

Countries and Sarbanes Oxley Act

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Some CG parameters – Comparative Status

  India USA UK China Japan Singa-pore

Hong Kong

Austr-alia

Board Composition - Independent Directors

Required separation of chief executive and chairman of the board roles

X X

Compensation Committee - Independent Directors

X

Code of ethics for senior financial officers required

Audit Committee - Authority to engage outside advisers

Management required to forfeit bonuses or other compensation if a restatement occurs

Management required to certify internal control structure and/or disclose controls

Restriction on loans to officers and directors

Required rotation of audit partners $ Rules regarding disclosure of off-balance sheet transactions and contractual obligations

$

Rules regarding disclosure of forward looking earnings guidance

Source: Deloitte Haskins & Sells X - Non Mandatory XX - Encourages / prescribes alternate $ - Under consideration

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Asian Countries Scorecard - %

CountriesCG Rules & Practices

Enforcement

(public/private)

Political / Regulator

y

International GAAP

CG Culture

Hong Kong 60 56 73 83 61Singapore 70 50 65 88 53India 59 38 58 75 50Taiwan 49 47 60 70 46Japan 43 46 52 72 44Korea 45 39 48 68 43Malaysia 43 35 56 78 33Thailand 58 36 31 70 39China 43 33 52 73 25Philippines 39 19 38 75 36Indonesia 39 22 35 65 25

Source: ACGA Research

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Country Rank 2005 Rank 2007Hong Kong 2 1Singapore 1 2India 3 3Taiwan 5 4Japan - 5Korea =6 =6Malaysia 4 =6Thailand =6 8China 9 9Philippines 8 10

Indonesia 10 10

Source: “CG Watch 2007”, ACGA & CLSA

Corporate Governance - Ranking

High Ranking of India among Asian Countries ; Corporate Governance not a myth in India

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Corporate Governance Standards in India Vs Averages of Asian Countries Good financial reporting among top 100-200 companies, but

sharp fall off among rest of market (> 6,000 listed companies) Public enforcement improving, but private enforcement

limited and obstructed (e.g., by legal system) SEBI more independent than many Asian Securities

Commissions Media freedom much higher than Asian region Noticeable gap between accounting standards and

international norms - but gap narrowing

Source: “CG Watch 2007”, ACGA & CLSA

Average

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Challenges in Corporate Governance

Large unlisted corporates not covered by Corporate Governance norms

Stronger Boards and Committees Independent and Professional Directors Audit Committee with right composition

Defining roles of Board, Committees and Executives Compensation policy for Directors and Senior Executives Risk Management Sustainability Reporting Independence of Auditors (Statutory and Internal) “Tick box” approach vs. “Letter and Spirit” compliance. Be a

step ahead of Regulation

Those who call Corporate Governance a myth are looking at the gaps,

which we need to collectively fill

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Challenges in Corporate Governance - Contd..

Disclosures of Off Balance Sheet Transactions Disclosures of substantial risks being carried in Balance

Sheets (e.g. Sub Prime mortgage) Define processes to achieve compliance

CEO and CFO certification Compliance certificate from Auditors

Enhanced commitment at all levels of Corporate ladder needed – should not be treated as responsibility of finance functionaries and CEO only

Multiplicity of Regulators and compliance Cost

Those who call Corporate Governance a myth are looking at the gaps,

which we need to collectively fill

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We have come a long way in improving corporate governance practices,

but yet to reach pinnacle - march to excellence continues

Summary

Regulatory framework in place Value of good governance and its benefits well recognised by

Indian Companies Significant move seen towards voluntary compliance, i.e. from

legal compliance to conscience Indian Corporates ahead of China and other Asian Countries Improve governance standard for mid size companies coming

to capital markets Simplified and unambiguous regulations will encourage high

standards of Governance and help reduce compliance cost

THANK YOU

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Why has CG become so topical ?

The main causes in recent times have been a series of financial and corporate crisis Asian financial crisis (1997 / 98) Dotcom boom & bust (2000) Enron, Worldcom and Tyco scandals in the United States (early

2000s) Parmalat earnings mis-statement scandal in Italy in 2002/03,

as well as similar events at Ahold in Holland and Alstom in France

Economic downturn over 2001-03 Non-performing loans among state banks in China Problems associated with family and state ownership in Asia

(not all bad, but abuses have occurred) Sub-prime crisis in USA - 2007

6A

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Corporate Governance is not new to India

Ram Rajya KING – enjoys power but is responsible for deliverables too SOCIETY – well defined behaviour norms PRIESTS – acts as independent check on King as

Intermingles with society & get feedback Don’t get paid by King, hence independency ensured Enjoys courage of conviction

Appropriating part of profit for charity (Social Responsibility)

8A

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Tentative Conclusions

There appears to be a broad link between the ranking of most markets in our “CG Watch 2007” survey and the size of their “gross national income” (GNI) per capita

Exceptions are clearly India and Japan. Each has certain particular and unusual characteristics

India : A large populations (hence low GNI per-capita); economic reforms started much later than China (1991 vs 1978); yet corporate governance reforms started early by regional standards (1998) and the country has some pockets of world-class

corporate governance Japan : Began industrializing in the 19th century, hence a big

headstart on GNI per-capita; high levels of wealth and economic success in the 1970s and 80s may well be a factor in Japan’s insularity to global norms of corporate governance

Source : CG Watch Survey 2007

15A

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Benefits of Corporate Governance

Enhances the long-term value of the company, its shareholders and other stakeholders

Provides easy access to large capital Lowering of Cost of Capital (Debt & Equity both) Recognition of Indian corporate globally and increased

investments in Indian corporates Protects the investors and accelerates growth of Capital

Markets Brings excellence in systems and control procedures Attracts talented Human Capital Board / Committees help strong & transparent decision

making process Focus on accountability of key executives (CEO / CFO

Certification) Acceptability of takeovers / acquisition of overseas corporate

by Indian companies Standardisation of Risk Management process

Good Corporate Governance facilitates improved & sustained performance10A

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Regulatory Environment and Compliance Cost - changes needed

Multiple Regulations Company Law SEBI / Stock Exchanges Conflicting provisions

Some over-regulation issues Composition of the Board

Fifty percent as Independent Directors Retirement age Reservation for different classes Stringent qualification for independent directors

Excessive disclosure eg. Audit Reporting Compliance cost increase, a cause of concern

Simplified and unambiguous single point regulation –Flexible/ Dynamic

Balanced disclosure practices

17A