Governance after Enron

Most of the cases of "governance failure" in US companies a few years ago are in the process of attaining closure, with the key figures involved having been found guilty and sentenced to prison terms, one after the other. Bernie Ebbers of WorldCom, Dennis Kozlowski of Tyco and, most recently, Kenneth Lay and Jeff Skilling of Enron, can all claim credit, however dubious, for having precipitated a fundamental and decisive break in the law, practice and standards of accountability underpinning corporate governance.

Enron is, of course, the most high-profile of these cases as far as the collective Indian consciousness is concerned. The conflict between the Maharashtra State Electricity Board (MSEB) and the Dabhol Power Corporation, Enron's controversial power project in India, was just about reaching a head over alleged breaches of the power purchase agreement by the former when news of the parent entity's shenanigans broke. Many people believe that, were it not for this development, the MSEB would have been compelled to abide by an agreement that had been entered into in good faith by both sides. Enron's collapse allowed the breathing space to work out a less confrontational solution. Ironically, the restructured operation generated its first power this week, close on the heels of Messrs Lay and Skilling being found guilty.

That may close the Enron chapter as far as India is concerned, but the broader legacy of the collapse and its regulatory and legal dimensions is something that corporate managements will have to deal with the world over. India has itself moved to a significantly stricter regime of governance and disclosure through the implementation of Clause 49 of the Listing Agreement entered into between companies and stock exchanges. After some struggle between companies and Sebi, this finally came into effect on December 31, 2005. Although attention was predominantly focused on the issue of board composition, specifically, the proportion of independent directors, the other components of the agreement also pose serious challenges to management in terms of both implementation and accountability.

A legal principle that was central to Messrs. Lay and Skilling being found guilty by the jury was that senior management, the CEO in particular, was liable for the actions of his colleagues, even if he did not know about them. This is, of course, a time-honoured principle in US convention, going as far as the presidency. "What did the President know and when did he know it?" was the question that precipitated Richard Nixon's resignation and hobbled Ronald Reagan's second term. The message from the Enron trial is that CEOs are held to this same standard. Clause 49 formalizes this high level of accountability by requiring the CEO to sign off on a variety of disclosure, compliance and risk mitigation requirements fulfilled by the organization. He is criminally liable for any violations. He, therefore, either has to have enormous trust in his colleagues (not easy in an environment of high mobility), or take the trouble of verifying every statement before signing off. All this is undoubtedly in the interests of the shareholder, but management teams will take time and must go through a lot of pain to build the Clause 49 requirements into their routine work practices. But then, the alternative is more Ebbers's, Kozlowskis, Lays and Skillings.