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CORPORATE WORLD

Clause 49 of Listing Agreement


on Corporate Governance
—Dilip Kumar Sen
recommendations and the same
was put up on SEBI website on 15th
SEBI has revised Clause 49 of the Listing December 2003 for public com-
ments. It was only on 29th October
Agreement pertaining to corporate governance
2004 that SEBI finally announced
vide circular dated October 29, 2004, which revised Clause 49, which will have
to be implemented by the end of
supersedes all other earlier circulars issued by financial year 2004-05. These
revised recommendations have
SEBI on this subject. The article highlights also considerably diluted the origi-
nal Murthy Committee recommen-
important changes in the corporate governance dations. Areas where major
changes were made include:
norms. ● Independence of Directors
● Whistle Blower policy
● Performance evaluation of non-

C
lause 49 of the Listing
executive directors
Agreement, which deals
● Mandatory training of non-exec-
with Corporate Gover-
utive directors, etc.
nance norms that a listed entity
The changes in corporate gov-
should follow, was first introduced
ernance norm as prescribed in the
in the financial year 2000-01 based
revised Clause 49 are as follows:
on recommendations of Kumar
Mangalam Birla committee. After
these recommendations were in
A. Composition of Board
The revised clause prescribes
place for about two years, SEBI, in
six tests, which a non-executive
order to evaluate the adequacy of
director needs to pass to qualify as
the existing practices and to further
an Independent Director. The exist-
improve the existing practices set
ing requirement is that to qualify as
up a committee under the
an Independent Director, the direc-
Chairmanship of Mr Narayana
tor should not have, apart from
Murthy during 2002-03. The
Agreement based on Murthy com- receiving director’s remuneration,
Murthy committee, after holding
mittee recommendations. This led any other material pecuniary rela-
three meetings, had submitted the
to widespread protests and repre- tionship or transactions with the
draft recommendations on corpo-
sentations from the Industry company, its promoters, its man-
rate governance norms. After
thereby forcing the Murthy com- agement or its subsidiaries, which
deliberations, SEBI accepted the
mittee to meet again to consider the in the judgment of the Board may
recommendations in August 2003
objections. affect independence of judgment of
and asked the Stock Exchanges to
The committee, thereafter, the director. This requirement finds
revise Clause 49 of the Listing
considerably revised the earlier place in the revised clause also
The author is Vice President, Tata Tea Ltd. He can be reached at dilip.sen@tatatea.co.in

THE CHARTERED ACCOUNTANT 806 DECEMBER 2004


CORPORATE WORLD
except that the relationship will wise eligible. However,
now extend to its management, its the word ‘material’ has
holding company and its associates not been defined.
in addition to the existing list. Nominee directors
Further the Board is no longer of Institutions are now
required to judge the independence to be considered as
status of a director as at present. ‘Independent Director’.
Five new clauses have been added While on the subject
to determine independence of a of Independent Director
director. These are: one must remember that
(i) He is not related to promoters or no one is invited to join a
persons occupying manage- board to act as a non-
ment positions at the board level executive director unless
or at one level below the board; he/she is well known to
(ii) He has not been an executive the Promoters or the
of the company in the preced- Chairman or the
ing three financial years; Managing Director. All directors can freely raise questions
(iii) He is not a partner or an executive non-executive directors, whether or at board meetings. Is it right that a
or was not partner or an execu- not independent, need support of vast majority of them invariably
tive during the preceding three Promoter Group for their reelection. support every proposal of manage-
years of (a) the statutory audit If the purpose or objective of having ment? Only a few persons who are
firm or the internal audit firm that a specified number of independent eminent in their own fields may ask
is associated with the company; directors on the boards of listed right questions, even if they look
and (b) the legal and consulting companies is to ensure that boards inconvenient, at board meetings but
firms that have a material associ- are not the majority may not muster enough
ation with the company. courage to do so. It may therefore
(iv) He is not a material supplier, Two- appear that no amount of regulation
service provider or customer third of the can ensure how an independent
or a lessor or lessee of the com- director should behave at board
pany, and members of meetings. After all indepen-
(v) He is not a substantial Audit committee dence is a matter of attitude
shareholder of the com- shall be indepen- and a director who is con-
pany owning two per- scious about his responsibil-
cent or more of the block dent directors as ities, will always raise right
of voting shares. against the pre- questions at board meetings,
The new tests of ‘indepen- sent requirement whether or not he holds the
dence’, the readers would independent status. The
recall, were mostly included in of majority original recommendation of
the Companies (Amendment) being inde- the Murthy Committee for manda-
Bill, 2003. The important and pendent. tory training and updating of knowl-
practical change that has now been edge of directors has now been
made is addition of the word ‘mate- shifted to non-mandatory require-
rial’ in item (iv) above. Without use ment, most probably in the face of
of the word ‘material’, technically strong opposition from industry.
even a single supply or purchase by This indeed is sad as a vast majority
the director to or from the company packed with ‘yes-men’ or to ensure of directors are in need of training in
would have taken away indepen- constructive criticism one needs to the business model of the company
dence status if he/she was other- ponder how many independent and for updating of knowledge. I do

THE CHARTERED ACCOUNTANT 807 DECEMBER 2004


CORPORATE WORLD
believe that a beginning in this The CEO/CFO Certif- (v) Role of the Audit committee
regard was immediately necessary. ication is a new require- has been enlarged to include
It may not be out of place to mention (a) matters required to be
ment and is based on
here that under the Listing require- included in Directors’
ments of UK all directors are manda- Sarbanes Oxley Act of Responsibility statement; (b)
tory required to regularly update and USA. Five new items have to review the functioning of
refresh their skills and knowledge. been added under non- Whistle Blower mechanism if
From the point of view of listed mandatory requirements the same is existing and (iii)
companies, a declaration should be and the existing item on review of performance of
obtained annually from all inde- Postal ballot has been statutory and internal auditors.
pendent directors confirming com- (vi)The Audit committee will also
pliance with all six conditions of
deleted. mandatorily review (a) Manag-
independence. ement Discussion and Analysis
(ii) A code of Conduct for Board of Financial condition and results
B. Non-Executive members and senior manage- of operations; (b) statement of sig-
Directors’ compen- ment has to be laid down by the nificant related party transactions;
sation & disclosures Board which should be posted (c) Management letters/letters of
A new requirement has been pro- on the website of the company. internal control
vided for obtaining prior approval of All Board members and senior weaknesses
shareholders for payment of management should affirm issued by
fees/compensation to non-executive compliance with the code on t h e
directors. If there is stock option, the annual basis and the annual
limit for the maximum number that report shall contain a declaration
can be granted to non-executive to this effect signed by the CEO.
directors in any financial year and in
aggregate should be disclosed. D. Audit Committee
According to the Companies Following are the changes
Act, 1956 fees paid to directors do with regard to Audit
not form part of Managerial remu- Committee:
neration and hence no approval of (i) Two-third of the members
shareholders for payment of fees to of Audit committee shall be
directors is required. Listed compa- independent directors as
nies will now need to obtain prior against the present requirement
approval of shareholders for pay- of majority being independent;
ment of sitting fees to directors. (ii) Earlier, only non-executive direc- statutory auditors; (d) Internal
Unless the Government is contem- tors could be members of Audit audit reports relating to internal
plating to change the law and bring committee. The revised clause control weaknesses, and
sitting fees within the ambit of has omitted this requirement. (v) To review the appointment,
Managerial remuneration this con- (iii) All members of the Audit com- removal and terms of remunera-
tradiction should have been avoided. mittee shall be financially liter- tion of the Chief Internal Auditor.
ate (as defined in the revised The Audit committee will no
C. Other provisions clause) as against the existing longer be required to review
requirement of at least one the company’s financial and
relating to Board
member having financial and risk management policies.
accounting knowledge. Risk assessment and mini-
(i) Gap between two meetings has
(iv) Minimum number of Audit mization procedures will now
been reduced to three months
committee meetings in a year be reviewed by the Board.
from four months ruling at pre-
increased to 4 from 3. Listed companies should now
sent.

THE CHARTERED ACCOUNTANT 808 DECEMBER 2004


CORPORATE WORLD
ascertain from their respective Audit drawn to the following: solidated turnover or net worth
committees the frequency of reporting (a) Material non-listed Indian sub- respectively of the listed com-
related party transactions, frequency sidiary has been mentioned pany and its subsidiaries. This
of discussing Management letters only for Board representation. definition is likely to exclude
issued by the statutory auditors etc. In respect of review of financial most of the unlisted subsidiaries
statements of unlisted sub- as they are not likely to meet the
E. Subsidiary sidiary by the audit committee turnover or net worth test.
Companies of holding company and plac- (c) Significant transaction or
These are new ing of minutes and significant arrangement shall mean any
requirements, which transactions entered into by individual transaction that
provide for the fol- subsidiary, it is significant that exceeds 10% of the total rev-
sa fro e re ed ir p fo f
is n th ui g f d u e n o

lowing: the words ‘material’ and enues/expenses/assets/liabili-


d. m fac me as ec da r
ed itio in re cha e o an tte tio

i n e n t a n t o r t-

(i) At least one ‘Indian’ ties of the subsidiary.


i a

o s
in po ab or een led in mm nd

inde- It is difficult to understand the


st st mo n-
op ob dat b w ain o me

logic of excluding subsidiaries


.T n t

pen-
d

ry ro s
pr an now kno y tr C om

hi g

incorporated abroad from the


s
m s f or hy ec

g g

du o f ,

purview of representation on the


ha g o dat ur t al r

board by an independent director.


in an M gin

n
ri
th he o

F. Disclosures
T
m e

Following
de s ly y

new disclosure
requirements
have been specified
dent in the revised clause 49:
director (i) Statement on transactions
on the Board with related parties
of the holding company shall in the ordinary
be a director on the board of a course of busi-
material non-listed Indian sub- have not ness shall be
sidiary company; been used. placed before the Audit
(ii) The audit committee of the hold- It can there- committee periodically;
ing company shall review the fore be interpreted that board (ii) Details of material individual
financial statements, in particu- meeting minutes, financial transactions with related par-
lar, the investments made by the statements and significant ties which are not in the normal
unlisted subsidiary company; transactions of all unlisted sub- course of business shall be
(iii) The minutes of board meetings sidiaries whether incorporated placed before the Audit com-
of the unlisted subsidiary com- in India or abroad are to be mittee; and
pany shall be placed at the placed before the board of the (iii) Details of material individual
board meeting of the holding holding company or to be transactions with related par-
company. The management reviewed by the audit commit- ties or others, which are not on
should periodically bring to the tee of the holding company. Is arm’s length basis should be
attention of the holding com- this the intention? placed before Audit committee
pany a statement of all signifi- (b) Material non-listed Indian sub- together with management’s
cant transactions and arrange- sidiary shall mean an unlisted justification for the same.
ments entered into by the subsidiary, incorporated in Here also, the word ‘material’
unlisted subsidiary company. India, whose turnover or net has not been defined. Listed
Attention of the readers is worth exceeds 20% of the con- companies should ascertain

THE CHARTERED ACCOUNTANT 809 DECEMBER 2004


CORPORATE WORLD
from their respective audit 2002-03. The revised Clause only
committees the frequency of requires CEO and CFO to certify to
reporting such transactions. the Board the annual financial
(iv) Financial statements should statements in the prescribed format.
disclose together with manage- While this certification will
ment’s explanation any certainly provide comfort to the
accounting treatment different non-executive directors and will
from that prescribed in indeed act as the basis for the Board
Accounting Standard. to make Directors’ Responsibility
(v)The company will lay down pro- Statement in terms of section
cedures to inform board mem- 217(2AA) of the Companies Act,
bers about the risk assessment 1956, it is not clear why SEBI did
and minimization procedures not require the listed companies to ments and the existing item on
which shall be periodically include such certification in the Postal ballot has been deleted.
reviewed by the Board. Annual Report. The first new item states that
(vi) The company shall disclose to Independent directors may not have
the Audit committee on a quar- tenure not exceeding in the aggre-
terly basis the use of funds raised gate a period of nine years on the
While the new corporate Board of the company. The next
through public/ rights/preferen-
tial issues. Annually a statement
governance norms are item relates to companies moving
showing use of funds for pur- more stringent than the towards a regime of unqualified
poses other than those stated in existing requirements it audit report. The third item deals
Offer document/prospectus must be appreciated that with training of board members in
should be placed before the the business model of the company
while regulations in these
Audit committee. Such state- as well as risk profile of the busi-
areas are necessary, reg- ness parameters of the company
ment should be certified by the
ulations per se cannot and responsibilities of directors
statutory auditors.
(vii) Under ‘Remuneration of and will not ensure good and how best to discharge it. The
Directors’ new disclosure corporate governance. fourth item deals with performance
requirements have been pre- evaluation of non-executive direc-
scribed, which include criteria tors by a peer group comprising the
of making payments to non- entire Board. The fifth item relates
executive directors, shares and H. Compliance Report to setting up of a whistle blower
convertible instruments held by The format of quarterly report to be policy in the company.
non-executive directors and submitted to the Stock Exchanges While the new corporate gover-
shareholding (both own and has been revised and the new for- nance norms are more stringent than
held on beneficial basis) of non- mat follows the revised require- the existing requirements it must be
executive directors to be dis- ments of Clause 49. The CEO or the appreciated that while regulations
closed in the notice of general Compliance officer can now sign in these areas are necessary, regula-
meeting called for approving the compliance report. The annual tions per se cannot and will not
appointment of such director. corporate governance report should ensure good corporate governance.
disclose adoption or non-adoption Attention of readers is drawn
G. CEO/CFO Certification of non-mandatory requirements. towards the Report on Observance
This is a new requirement and of Standards and Codes carried out
is based on the Sarbanes Oxley Act under a joint programmed of World
I. Non-mandatory Bank and IMF. This report bench-
of USA. This had also been recom- requirements
mended by the Naresh Chandra marks the observance of corporate
Five new items have been added governance in India against the
Committee set up by the Centre in under non-mandatory require- benchmark Principles of Corporate

THE CHARTERED ACCOUNTANT 810 DECEMBER 2004


CORPORATE WORLD
Governance laid down by the structure gives rise to regulatory policy including voting and
Organization for Economic arbitrage and weakens enforce- board representation.
Cooperation and Development ment. It will be observed that the
(OECD). The assessment team had c. If boards are to move away from World Bank report has stressed the
extensively interviewed issuers, simply ‘rubber stamping’ the need of training and updating of
institutional investors, financial decisions of management or knowledge of directors.
institutions, market analysts, promoters they must have a Unfortunately the recommendation
lawyers, accountants and auditors. clear understanding of what is of Murthy Committee in this regard
The report was also discussed by expected from them. They has now been shifted as non-
Government of India and cleared should know their duties of care mandatory requirement. The ratio-
by the DEA for publication in June and loyalty to the company and nale of industry’s objection to
2004. Following are the areas all shareholders. They should mandatory training, etc. of direc-
identified for reform in the know their responsibilities and tors is not readily understandable.
World Bank report: should be familiar with the Hopefully, when the governance
a. Sanctions and enforcements: changes in this regard arising norms are reviewed next the train-
Sanctions and enforcements from changes in laws and regu- ing and knowledge updating would
should be credible deterrents to lations. A key missing ingredi- be made mandatory requirement.
help align business practices ent is a strong focus on profes- A new requirement has been
with the legal and regulatory sionalism of directors. Director provided for obtaining prior
framework, in particular with training institutes can play a key approval of shareholders for pay-
regard to related party transac- capacity building role and ment of fees/compensation to non-
tions and insider trading. expand the pool of competent executive directors. If there is stock
b. The current framework places candidates. option, the limit for the maximum
the oversight of listed compa- d. Institutional investors acting in number that can be granted to non-
nies partly with DCA, partly a fiduciary capacity should be executive directors in any financial
with SEBI and partly with Stock encouraged to form a compre- year and in aggregate should be dis-
exchanges. This fragmented hensive corporate governance closed. ■

Leading light of CA world, SN Desai passes away

O ne of the highly revered Chartered Accountants and a leading light of the profession, ICAI’s for-
mer-president Shri Shantanu Nanubhai Desai passed away on 10th November 2004 in Mumbai.
Born on 26th January 1925, he became a member of our Institute in 1949 and rose to become
one of the pillars of the profession. Having become President of ICAI in 1961-62 at a young
age of 35, he had served as a Central Council member for decades.

He was actively associated with Indian Merchants Chamber as its Managing Committee member for a long
period of 32 years. He became its President in 1976. He had held several distinguished positions in his illustrious
professional life, including as Member of the High Powered Sachar Committee on Company Law & MRTP
Reforms, as Chairman/ Director of several reputed public companies besides as a member of ASSOCHAM.

Mr. Desai was also the founder member of the Bombay Chartered Accountants Society. A Rotarian of repute
and a veteran of several Committees, Mr. Desai was a free, frank and modest personality— a thorough gen-
tleman who endeared one and all with his qualities of both head and heart.

Mr. Desai’s services to the cause of our profession and his long career of more than 50 years as one of our pro-
fession’s most distinguished ambassadors will long be remembered and will continue to inspire new generation
of Chartered Accountants.

THE CHARTERED ACCOUNTANT 811 DECEMBER 2004

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