Are Indian boards truly effective?

Our approach to board governance has resulted in a sharp focus on structure, that is, form, without commensurate focus on substance, that is, effectiveness

If there is one theme for regulatory reform that is crying to be addressed in 2020 for Indian businesses, it is to build a framework for effectiveness of boards of directors. Are Indian boards truly effective, is a question we need to ask ourselves.  

The year has begun with a cop-out in the area of board regulation. The introduction of the regulatory requirement to segregate the position of chairman and managing director has been postponed by two years by the Securities and Exchange Board of India (Sebi). This is yet another measure related to the plumbing architecture of the board. While our regulatory framework is very detailed about what a board should look like and who it must consist of, the effectiveness of oversight and superintendence by corporate boards is hardly tested in the law.

Most of the measures being taken are those that regulators would typically take in a controlled economy. The regulatory race in the last decade between the Sebi and the Ministry of Corporate Affairs (MCA) has resulted in detailed requirements (often overlapping in substance and also conflicting in detail) getting imposed across the listing regulations (for listed companies) and company law (for listed and unlisted companies). This framework largely revolves around board composition, the concept of independent directors, qualifications and disqualification for directorship (independent and otherwise), and even addressing social representation objectives that are not directly related to the quality of governance.

This approach to board governance has resulted in a sharp focus on board structure, that is, form, without commensurate focus on substance, that is, effectiveness. Across companies, never before has the office of the chief executive officer (CEO) been under such close scrutiny and regulatory attack. While the media narrative and the consequent regulatory attention is on individual CEOs, at the heart of the problem is the ineffectiveness of boards and their performance as a forum of collective superintendence and oversight.

As a people, we Indians love heroic leadership by one powerful CEO, who is then deified as the presiding deity — a Caesar. The Caesar is demigod when the going is good and demonised when the going is bad. The Caesar being overseen by the board of directors, a collective Parliament-like body that would act as a check and balance, and also a guiding sounding board, is not something that is acceptable easily to a society that craves for singular heroes.

Those occupying the role of the CEO, too, have to introspect. Typically board members are those with whom the CEO is comfortable. In the Indian scenario where substantial ownership and the CEO can largely be with the same person, it is more pronounced. But even where the CEO is not a substantial owner of the business, the candidates for directorship brought to the shareholders are those with whom the management has comfort. The statutory imposition of a requirement of a Nomination and Remuneration Committee — the collegium that selects who is clubbable — can further underline the syndrome of self-selection.  

One abiding theme across failed or disgraced CEOs, regardless of whether the failure and disgrace is deserved, is that the CEO grows into an all-powerful force, with the board of directors not being an effective check and balance. Yet, when the CEO is in trouble, it is tough for boards to stand behind the incumbent — particularly when the adversary is a regulator. 

A board that is not strong enough to hold the CEO to account is also a board that is inherently not strong enough to defend a CEO under siege. In neither case does the board have an incentive and disincentive structure to nudge better outcomes. Boards have not felt the pain either of totally arbitrary and bad decisions and have been happy to lend their endorsements to the management or the owner, or both.  

Sadly, the regulatory response is taking the form of prescribing exams on governance for directors to pass.  One must rest assured that every single director of every company that has had serious repercussions in recent times for not handling a CEO appropriately would pass such exams with flying colours.

The 2013 company law introduced a quasi-judicial forum for class action suits against companies and their governors. Half a decade down, this jurisdiction does not even qualify as “fledgling” — it is non-existent. Worse, knowledge of and expectations from company law in the society is so low that many are happy to put the check and balance to severe test and raise the bar for accountability to be enforced. It is only litigation and attendant jurisprudence that can resolve effectiveness of boards. Until then, we can keep tweaking the law with little effect.

The author is an advocate and independent counsel. Tweets @SomasekharS