Corporate governance

Topic: Industrial Policy, Public Sector, MSMEs and Disinvestment · NCERT: Beyond NCERT

Meaning

Corporate governance is the set of rules, practices and structures by which a company is directed and controlled. It balances the interests of shareholders, managers and other stakeholders (workers, lenders, society).

It matters because after 1991 (LPG), private firms grew fast. The state moved from owning industry (through the IPR 1948 / 1956, licensing and PSUs) to regulating it through the Companies Act, SEBI and disclosure rules. Good governance protects small investors and keeps India's capital markets credible.

Explanation

The core problem: who can misuse a company?

	Western (US/UK) problem	Indian problem
Owners	Many small, dispersed shareholders	A promoter family or group holds a majority
Conflict	Managers vs owners	Majority vs minority shareholders
Typical abuse	High pay, empire-building	Tunnelling

• Promoter-dominated firm: a company where the founder family or group holds a controlling stake and runs the board.
• Tunnelling: majority owners move value out of the listed company into firms they own privately. Minority shareholders lose.
• Worked example of tunnelling:
• A listed firm buys raw material from the promoter's private firm at 20% above the market price.
• Profit leaks to the promoter, so the listed firm's profit falls.

• Minority shareholders get a smaller share of a smaller profit.

• This is why Indian law focuses on three tools: independent directors, related-party transactions and beneficial ownership.

Tool 1: Independent directors (IDs)

• Independent director: a non-executive director (not a company employee) with no material financial or family ties to the company or its promoters. Their job is objective oversight and protection of minority shareholders.
• Board share:
• At least one-third of a listed company's board (s. 149, Companies Act 2013).

• Half if the chairperson is executive or promoter-linked (LODR).

• Tenure: at most two terms of 5 years each.

• Quality check: IDs must enrol in the IICA databank (Indian Institute of Corporate Affairs) and pass an online proficiency test.
• Gender: the top 1,000 listed firms must have at least one woman ID.
• Weakness: in practice, promoters choose the IDs. So IDs may not stand up to the people who appointed them.

Tool 2: Related-party transactions (RPTs)

• Related-party transaction: a deal between a company and connected parties, such as directors, promoters, their relatives or group firms. It is the main channel for tunnelling.
• Approval rules (s. 188 Companies Act and LODR Reg. 23):
• The audit committee must approve, and only independent directors vote.

• Material RPTs also need shareholder approval. Related parties cannot vote, so minority shareholders decide.

• Current "material" test: above Rs 1,000 cr or 10% of annual consolidated turnover, whichever is lower.

• Scale-based revision: SEBI has proposed a slab-based threshold with an upper ceiling of Rs 5,000 cr [2]. SEBI's own example: 10% of the first Rs 20,000 cr of turnover + 5% of the remaining turnover [2]. The exemption for RPTs up to Rs 1 crore continues [2]. (Check the final slabs in the latest LODR text.)
• Worked example (consolidated turnover Rs 30,000 cr):
• Old rule: lower of Rs 1,000 cr or 10% × 30,000 (= 3,000), so Rs 1,000 cr.
• Scale-based rule: 10% × 20,000 + 5% × 10,000 = 2,000 + 500, so Rs 2,500 cr.

• Result: large firms need shareholder votes less often, and the Rs 5,000 cr cap stops the limit from rising without end.

• Disclosure: SEBI sets the minimum information that must go to the audit committee and shareholders before they approve an RPT (circulars of 2025) [3].

Tool 3: Beneficial ownership and outside watchdogs

• Beneficial ownership: the real people who ultimately own or control a firm, even when shares are held in another name (a shell company, trust or foreign fund).
• Why it matters: hidden owners can break the minimum public shareholding rule, hide RPTs and launder money.
• Significant Beneficial Owner (SBO) rules: 10% threshold, 2018, under s. 90 Companies Act.
• PMLA (Prevention of Money Laundering Act) beneficial-owner threshold cut to 10% in 2023. India follows FATF (Financial Action Task Force) standards.

• SEBI granular FPI disclosure (2023): some large or concentrated foreign portfolio investors must name the people behind them.

• Proxy advisory firms: firms that tell institutional investors (mutual funds, insurers) how to vote at shareholder meetings. They are SEBI-registered. Examples: IiAS, InGovern, SES.

• Shareholder activism: using ownership rights (votes, calling meetings, lawsuits) to change how management behaves. Example: Invesco vs Zee (2021), where a large foreign shareholder tried to reshape Zee's board.
• Both help make up for weak IDs in promoter-run firms.

In India

Milestones | Year | Event | Significance | |---|---|---| | 1999 → 2000 | Kumar Mangalam Birla Committee → Clause 49 of the listing agreement | First formal governance code for listed firms | | 2003 | Narayana Murthy Committee | Tightened Clause 49 (audit committees, IDs) | | 2009 | Satyam accounting fraud | Showed that boards and auditors can fail; led to reform | | 2013 | Companies Act 2013 | Put IDs, CSR and RPT rules into law | | 2015 | SEBI LODR Regulations | Replaced the listing agreement with binding regulations | | 2017 | Kotak Committee | Deeper governance reforms for listed firms | | 2018 | IL&FS collapse | Group-level governance failure; a shock to credit markets | | 2023 | Adani-Hindenburg episode | Put beneficial ownership and FPI disclosure in focus |

• Two main regulators:
• MCA (Ministry of Corporate Affairs) runs the Companies Act 2013, which covers all companies.

• SEBI runs LODR 2015 (Listing Obligations and Disclosure Requirements), the rules every listed company must follow.

• Linked duties under the same system:

• CSR (s. 135): firms with net worth ≥ Rs 500 cr OR turnover ≥ Rs 1,000 cr OR net profit ≥ Rs 5 cr must spend at least 2% of average net profit of the preceding 3 years on Schedule VII activities. In force since 1 April 2014. Firms spent over Rs 1,44,159 cr in total from 2019-20 to 2023-24 [1].

• BRSR (Business Responsibility and Sustainability Reporting): SEBI's mandatory ESG disclosure format, introduced in May 2021 [5] and mandatory for the top 1,000 listed firms from FY 2022-23. The "G" in ESG is governance.

• 2025 SEBI changes: scale-based RPT thresholds [2], "assessment" as a lighter option to "assurance" for BRSR Core, and voluntary value-chain ESG disclosure [4].

Don't confuse with

• Corporate social responsibility (CSR): CSR is one legal duty (spending 2% of profit on social good under s. 135). Corporate governance is the whole system of how a company is directed and controlled.
• ESG: ESG is the investor's yardstick for non-financial risk (environment, social, governance). Governance is only the "G" in it.
• Agency problem (manager vs owner): this is the Western governance problem with dispersed owners. India's main problem is majority vs minority shareholders (tunnelling).
• Independent director vs non-executive director: every ID is non-executive, but a non-executive director with family or financial ties to the promoter is not independent.

Prelims Hooks

• Clause 49 of the listing agreement came from the Kumar Mangalam Birla Committee (1999). It was replaced by SEBI LODR, 2015.
• s. 149, Companies Act 2013: at least one-third of a listed board must be IDs. It is half if the chair is executive or promoter-linked (LODR). IDs serve at most two 5-year terms.
• Material RPT (current test): lower of Rs 1,000 cr or 10% of consolidated turnover. SEBI's scale-based proposal has a Rs 5,000 cr ceiling [2]. Related parties cannot vote on these deals.
• Significant Beneficial Owner threshold = 10% (s. 90, 2018). The PMLA beneficial-owner threshold was also cut to 10% in 2023.
• Proxy advisers (IiAS, InGovern, SES) are registered with SEBI, not with MCA or RBI.
• Trap: "Tunnelling" is the typical Indian governance abuse (promoter vs minority). The Western problem is manager vs dispersed owners.

Mains Points

• Rules that fit Indian ownership: India borrowed Anglo-Saxon tools (IDs, audit committees), but its core problem is promoter vs minority shareholder.
• Promoters choose IDs, so IDs are weak. Satyam (2009) and IL&FS (2018) show the cost.

• Reform should lean on majority-of-minority voting on RPTs, beneficial-ownership transparency and institutional investor activism.

• Ease of doing business vs investor protection: SEBI's 2025 moves (scale-based RPT thresholds [2], "assessment" in place of "assurance", voluntary value-chain ESG [4]) cut compliance costs, but they may weaken protection for small investors. Link this to the Hindenburg episode (2023) and the credibility of India's capital markets.

• Governance as industrial policy: after 1991 the state moved from owner to regulator. Strong governance and ESG disclosure (BRSR, BRSR Core) connect Indian firms to global capital and supply chains and support the Net Zero 2070 goal. The risks are greenwashing and a compliance burden on MSMEs that supply large firms.

Related concepts

• Independent director
• Related-party transaction
• Beneficial ownership
• Proxy advisory firm
• Shareholder activism
• Corporate social responsibility
• ESG
• Business responsibility and sustainability reporting

Read more

• Corporate governance, CSR and ESG: disciplining private corporate power