Corporate Governance

In one line

Corporate governance in the Act is the sum of four devices: a Board with people on it who are not management, committees to do the work the Board cannot, a duty to disclose in writing what was decided and why, and an independent check by auditors of the accounts and of compliance.

In exam wording: section 149 supplies independent directors, sections 177 and 178 the committees, section 134 the Board's report and the Directors' Responsibility Statement, section 197 the control of remuneration, and sections 143 and 204 the audits.

Why the law has this at all

A company's members own it and its directors run it, and the two are not the same people. That separation is what makes the joint stock company useful, since it lets thousands of savers finance a business none of them could manage. It is also the whole problem of corporate governance, because the people in control of the money are not the people whose money it is.

The law's answer is not to close the gap but to police it, and it does so in four ways.

Composition. Put people on the Board who are not part of management, do not owe it money and are not related to the promoters, and require them to say so every year. That is section 149(6) and (7).

Delegation to specialists. A Board meeting quarterly cannot itself examine the auditor's independence or design a remuneration policy. So sections 177 and 178 create committees with fixed compositions matched to their tasks.

Disclosure. Nothing disciplines a Board like having to write down what it did and why. Section 134(3) lists seventeen matters the Board's report must contain, and section 134(5) makes the directors state, in their own names, that the accounts were prepared properly.

Independent verification. A statement is worth what its checker is worth. Section 143 gives the accounts to an auditor, section 204 gives compliance to a company secretary in practice, and sections 134(3)(f) and 204(3) make the Board explain in full whatever either of them qualifies.

And behind all four stands section 166, the statutory statement of a director's duties, which is what the machinery is there to enforce.

Some words this chapter uses

Governance here means the system by which a company is directed and controlled. A qualification is an auditor's reservation. Internal financial controls are defined in the Explanation to section 134(5)(e). Median employee's remuneration is the middle figure in the ranked list of employees' pay. A vigil mechanism is the whistleblower channel under section 177(9).

The first device: who sits on the Board

Independent directors, section 149(4) and (6). Every listed public company must have at least one third independent directors, fractions rounded off as one, and the Central Government may prescribe a number for other classes of public companies. Independence is defined by a long objective test: not a promoter, not related to promoters or directors, no pecuniary relationship beyond a director's remuneration or a transaction within ten per cent of his total income, and neither he nor his relatives connected with the company as key managerial personnel or employees in the preceding three financial years, or with its auditors or consulting firms, or holding two per cent of the voting power.