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The market watchdog, Securities and Exchange Board of India (Sebi) seems to have put the cat among the pigeons when it refreshed its corporate governance code for listed companies, in line with provisions of the new Companies Act. In certain aspects some of Sebi's requirements are more onerous than the Companies Act. This includes those relating to tenure of independent directors and number of directorship, constitution of audit committee, and the scope of related party transactions. However, it is the last one - related party transactions - that has caught the corporate sector in a bind.
According to provisions in the Companies Act 2013, shareholders' approval is required for those related-party transactions where the board recommends so in case of transactions that are not in ordinary course of business or at arm's length.
However, Sebi's definition of related party transaction is much wider. The market regulator mandates all listed companies to lay down a policy for material related party transactions and manner of dealing with such related parties. Shareholders' approval is required for all material related party transactions. Additionally, the definition of related party also includes close family members of directors, private companies in which directors or key managerial personnel along their relatives have control, joint control or significant influence as related parties. (Sebi scores over company law)
This has queered the pitch for most companies, especially those that regularly transact business among subsidiary companies. "The Sebi norms widen an already broad definition of related party transactions. This would result in increased cost of compliance," says Jamil Khatri, global head, accounting advisory services, KPMG. Corporate law experts point out that the new corporate governance norms increases the say of minority shareholders while voting for such transactions, as interested parties have to abstain from such voting. Ankit Miglani, deputy managing director, Uttam Galva Steels points out that approval from minority shareholders for related party transactions will have an impact on business decision-making. "It will slow us down," he says.
The concern now is that for businesses operating through multiple entity structure and that need to enter into frequent material transactions with each other, the control of the entities effectively may transfer from majority to minority, says Yogesh Sharma, partner, Grant Thornton India LLP, an assurance, tax and advisory firm.
Many believe that this may defeat the objective behind the stringent conditions that guide RPT approvals which is to give protection to the interests of minority shareholders. "Some companies especially with low minority interests may prefer to weed out minority shareholders altogether and take 100-per cent control of their subsidiaries," says Sharma. Legal experts point out there is no requirement in the United States for shareholder approval of RPTs as in India.
However, market regulators remain wary of RPTs as there are several instances of high-profile accounting frauds in recent years (that includes Enron in the United States and Satyam Computers in India) that have involved related party transactions in one way or the other.
N Venkatram, managing partner - audit, Deloitte Haskins & Sells LLP, points out that the effectiveness of such legislation is dependent to a large degree on the quality of enforcement. "The monitoring and inspection capabilities of both MCA and Sebi would need to be substantially strengthened in order to ensure that the legislation is complied with," says Venkatram.
Shriram Subramanian, founder and managing director, InGovern Research Services, an independent proxy advisory firm, agrees that though the listing agreement is more stringent than the Companies Act 2013, it is a much needed. India does not meet the global best practices in many of the provisions of the corporate governance code, he says.
"The separation of the role of chairman and MD is still a non-mandatory one. Also, once an independent director completes two terms of five years each, they should not be eligible to again join the board after the cooling off period of three years. All members of the audit committee should be independent directors," he says. Proxy advisory firms point out tht Indian stock exchanges need better tools for monitoring and surveillance of non-transaction related data and announcements by companies. "The cost of non-compliance should be higher," adds Subramanian. The fines imposed should enhance Sebi's coffers and this money should be used to it increase its manpower and other capabilities. Rana Som, former CMD of NMDC, and currently a director in several companies, feels that Sebi guidelines will go a long way in promoting corporate governance norms in India. "It's a balanced approach," he says. For now India Inc, seems to have its hands full while dealing with RPTs.
