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Casting Outside the Net
Faheem Sardar
Chief Executive Officer
Askari Securities Ltd
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Core questions
• How does the, and should the ownership structure of companies
• influence the board in carrying out its duties and responsibilities?
• impact the management and long-term performance of these companies?
• There is a direct impact on both aspects due to structures
• The wrong concentration will impact growth, profitability, Management efficiency, surely it will be expensive and it will affect minority stakeholders and shareholders
2
This Presentation
• This presentation addresses questions related to corporate philosophy
• Hence this presentation will carry hardly any numbers
• No specific examples are quoted for promoting a generic discussion
3
Sponsors Desire & Action
• Sponsors need to be
• Very clear about what they want • Have to be honest to themselves about this
• Clear that management responds to good and just Board and Sponsor decisions
• Cognizant that good decisions ideally come from more competent minds
• Wary of the cost of not implementing this diversity concept – management cannot perform miracles all the time
• Sensitive to minority stakes
• Is this self analysis superfluous or necessary?
• The fact that Sponsor’s money is deployed and is at stake, control becomes a key factor
4
Success Roadmap
Desired Result
Right Action
Right Thought Process + Decisions
Right Intention
Idea
5
The Illusion & Reality of Control
• Control is considered the key element in concentrated and non concentrated structures
• They define it differently, yet face the same reality
• Control should be real not an illusion
• How is it different?
• Real control is natural and has positive spillover effects
• Above all, controlled feel their stake in the Company
• Illusory control is superficial
• Above all, controlled are more concerned with protecting their jobs even if the company tanks
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The Changing Environment, Our Quest For Growth & Profit • The environment has changed and is changing exponentially
• Desire for profit and growth drives the quest for excellence
• Quest for profit and growth require more capital hence more stakeholders inclusive of more minorities or larger minorities
• Heavy concentrations have a tendency to scare off investors
• Excellence, growth and profit are not possible without controlled diversity
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Good Corporate Governance
• CG is a mechanism which directs, manages and controls corporates esp. large ones
• Good Corporate Governance calls for, among other things:
• Outsiders: independent + non executive directorships
• Balance between executive and non executive directorships
• Wider and deeper expertise, competence, skills, experience
• Quality of the Board, it’s consequent decisions, flow and quality of information, relationships of stakeholders can only be furthered through controlled diversity
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Relying Only On A Small Net
• The desire to remain in control
• Perceived safety
• The desire to preserve an ideology / culture
• Not considering outsiders fit and proper
• How is this good?
• Does not hurt to explore new minds 9
Casting Too Much Outside The Net
• This is at times a problem … an expensive one
• Identity will be altered, maybe harmfully
• Importance of preserving original intent, culture and desired result • Chances here are high your result will not be your brand
• To avoid tunnel vision one may start star gazing
• How is this good?
• Does not hurt to explore a monolithic ideology 10
Implications on the Management & the Company • Any kind of decision based on any kind of concentration has a
direct impact on Management esp. the CEO
• How does management esp. the CEO respond to
• High concentration which may have a limited decision spectrum
• Low concentration which may have a diffused decision spectrum
• The right concentration and participation of outsiders will give the Management the vectoring and thrust they need to achieve true results
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Corporate Symbiosis & Striking The Right Balance • Plurality Vs. The Hive Mentality
• Plurality as an agent of growth and strength
• True corporate symbiosis occurs when best of high & low concentration are harnessed by Sponsors
• Striking the right balance is key
• i.e. the right set of people for the desired objective
• Right balance is struck by constantly looking for the right set of outsiders and mid course corrections by Sponsors
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Role of The Chief Executive Officer
• ASL is a non listed company
• This is a somewhat iconoclastic thought
• Understandably, the CEO’s position is limited in a listed company’s Sponsors’ affairs
• Without violating CCG or any law the CEO can play a role
• The CEO has to help the communication process between existing Board members and Sponsors if possible
• The CEO can be a bridge between two and more
• The CEO can help vector and thrust 13
Some Practical Points
• Sustainable growth will come from good governance, not clever governance
• Good governance comes from, among other things, diversity
• Too much diversity has to be watched
• Good Corporate Psychology of the Sponsors will cast a net that will get the right kind of people
• The importance of preserving the ideology and thought process while balancing things out
• Controlled Diversity
• Justice as a touchstone for low or high concentration
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ASL CEO Summary Faheem Sardar is responsible for restructuring and revitalizing ASL, with the help of the ASL Board. This process was started in Feb 2010. He has worked extensively in the Capital Market ranging from regulating, to forensics, to business development. Prior to ASL, he was the GM & Chief Operating Officer of the Lahore Stock Exchange. He has also worked with Saudi Pak Investment Co Ltd in Corporate Finance and started his post graduation professional career with the Securities & Exchange Commission of Pakistan in Stock Market Surveillance. He is the author of the book “The New Finance Construct” and various articles on the Capital Market, the Economy and societal aspects. He teaches advanced finance and managerial concepts in various universities in the form of courses, discussions and seminars. He has travelled extensively internationally and speaks German in addition to English and Urdu. - www.linkedin.com - www.askarisecurities.com.pk - www.newfinanceconstruct.com - [email protected]
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How Strategy Suffers When Corporate Governance
Takes A Back Seat
The Story Of New Ltd.
• Setting: Public Unlisted Manufacturing Company
• Plot: Conflict
• Protagonist: Chairman
• Antagonist: Board of Directors
• Supporting Role: Chief Executive Officer
New Ltd.’s Strategy
• Thrive On Borrowed Capital
• Manufacture A Product For Which There
Was Little Demand
• Operate Without A Clear Strategic Framework
New Ltd.’s Governance
• Chairman Would Override Board Decisions
• Board Had Little Faith In CEO’s Ability To Drive Strategy
• CEO Turnover Derailed Execution Of Strategy
New Ltd.’s Strategic Failures
• Failure To Inject Equity Through Group Associate
• Failure To Change Course of Action Through Diversification
• Failure To Launch IPO
Against Diversification As Strategy
• Diversified Firms Overinvest In Segments
With Poor Investment Opportunities
• This Overinvestment Is Related To Lower
Firm Value
• Implying That Diversification Destroys
Value
For Diversification As Strategy
• Efficient Internal Capital Market Models Suggest Diversification Creates Value
• Net Benefits Of Diversification May Be Lower For Manufacturing Firms
• However, Diversification Discount Is Lower For Related Diversifiers
New Ltd. End: Tragic
• New Ltd., Abandoned By Owner, Sold To Cash Rich Company
• Acquirer Restructures Through Cost Cuts
• Several Hundred New Ltd. Employees Affected
Three Unique Features Of Family Firms
• Use of Patient Capital
• Leveraging of Resources
• Knowledge Integration
Impediments to Value Creation In Family Firms
• Family-based Governance Processes
• Strong Control of Resources By A Dominant Coalition Or Individual
• Relationship Conflicts That Hamper Knowledge Integration
Strategy Role Of The Board of Directors
Based On the Active School of Thought, The
Strategy Role Of The Board Is:
• Non-routine Resource Allocation
• Environmental Adaptation
• Contribution To Performance
The Board As Resource
The Board of Directors: • Oversees The Creation Of Value
• Considers The Risks Of Business Strategies
• Provides A Market Solution To The
Contracting Problems Inside The Organization
The Need For Internal Governance Mechanisms
• Family Owners Have Superior Monitoring Abilities
• The Board’s Role Transcends Monitoring
• Therefore, Family-Owned Companies Need Boards That Challenge Them
Process, Participation, Performance
Entrepreneurial Orientation
+
Participative Strategy Making
=
Strong Firm Performance
The Business Of Business
• Provide Quality Goods And Services At Fair Prices
• Earn A Profit To Attract Investment
• Provide Jobs And Build The Economy
The Business Roundtable Trade Group, 1981
The Spirit Of Entrepreneurship Acknowledge the Complex (Wortman, 1994)
Recognize the Heterogeneous (Sharma et al., 1997)
Welcome the Novel (Dyer & Sanchez, 1998)
What This Case Study Does And Does Not Do
DOES :
• Link Corporate Governance As Ancillary to
Strategy Making
• Focus On Strategy As One of the Main Roles
Of The Board of Directors
DOES NOT:
• Analyze The Effect Of Ownership Structure
On Firm Performance
Two Resources For Family-Owned Companies
• IFC Corporate Governance Progression Matrix For Founder/Family-Owned (Unlisted) Companies
• PICG ICAP CIPE The Corporate Governance Guide For Family-Owned Companies
Thank You
National Foods Limited Succession Planning in Family Owned Businesses
Corporate Governance - Implications for Companies with
Concentrated Ownership
The Core Issue • Succession planning is by far the biggest issue with concentrated
ownership or family controlled businesses
Interesting Facts - Listed
Companies
• Family owned or controlled companies by far form the largest number of listed companies in the world
Investor Concerns
• Family ownership or control may be seen as an opportunity or threat by adding value as long as investors’ concerns are met
Valuation Premium
• Based on a research by Citigroup, investors place a 3% valuation premium on firms with families holding significant and not absolute control
Stock Ex. Stats.
• In a study by London Stock Exchange of 42 companies, listed family firms outperformed their listed non family rivals by 40 percent from 1999 – 2005
Interest Alignment
• The above research also clarified that this was only possible when the
interests of shareholders and management were aligned.
Why Investors value family owned / controlled companies…
Long term view
Sustainable decisions
Not focused on short
term profits
Flexibility and
willingness
Corporate Governance
The Concerns Raised
Lower market valuation due to their capital and size limitation
Financing growth becomes a problem
when the opportunity
presented is far greater then
resources available
Succession around un skilled family members leads to
organization development and HR development issues
Centralized control and reliability on people vs. systems
impairs professionalism
The Choice
You can continue to be a family business and sustain
the levels that you are happy with; however your company
will not last past the third generation
You can be a professional company and become an
institution realizing your goals and vision for the duration of
your competitiveness
Succession Planning - Factors to Consider
Professionalize and
Decentralize
Adopting Corporate
Governance
Access to capital through
structured financial markets
Sustainability
Knowledge Transfer
Continuity of Business
Corporate Governance in
Family Owned Enterprises
What is Corporate Governance?
Used in corporations to establish order
between the firm’s owners
and its top-level managers
is
Concerned with identifying
ways to ensure that strategic decisions are
made effectively
Governance A relationship
among stakeholders
that is used to determine and
control the strategic
direction and performance of organizations
Corporate
How Corporate Governance Concerns Family Owned Companies!
Impact Concentrated Ownership
Internal Family
Conflicts
Conflict Resolution
“Insider systems”
“Owner – Operator”
Relationship
Reluctant to Share
What Corporate Governance Requires
A vigilant and independent board,
Corporate objectives
Appropriate disclosure, Ethics and transparency
Accountability at each level from Board to Executors
Operate the business in line with approved policies and procedures and its monitoring
The protection of (minority) shareholder rights
1. Increases access to finance Investment, growth, employment opportunities
2. Lowers cost of capital and improves valuation Investment & growth opportunities
3. Improves operational performance Better allocation of resources & better decision-making creates wealth
4. Builds/restores entity’s reputation Build trust between company and its stakeholders, including shareholder,
investors, regulator, creditors, employees 5. Less and better managed risk
Fewer failures, fewer financial crises brings stability 6. Hiring / Retention of Better Human Resource
Fair Policies, Open access and communication, Performance based evaluation
Corporate Governance What it gives!
National Foods Limited - comparative facts
1970 2012-13 Corporate Structure Personal Management Listed Company Employees 18 2500 Annual Turnover in PKR 100,000 12.5 Billions Product / Variants / SKUs 1 250 Geographical Reach 1 City Urban + Rural Exporting to Countries 0 42+ Processing Unit 1 Multiple
* NFL became a listed company in 1988
Founder’s Philosophy
Founder’s Philosophy • National Foods must focus on customer’s needs and serve them with quality products at affordable prices at their doorsteps. • Our products must be pure and conform to international standards. • Our research must continuously produce new adventurous products scientifically tested, hygienically produced in safe and attractive packaging. • We must create environment in our offices and factories where talents are groomed and have opportunity to advance in their careers. • We must prove to be recognized as good corporate citizens, support good causes-charity and bear fair share of taxes. • Reserves must be built, new factories created, sound profits made and fair dividend paid to our stock holders through building a reliable brand. • National Foods Ltd. must get itself recognized as leader in Pakistan and abroad. • With the help of almighty God, the company can achieve its targets in years to come.
Highlights “National Foods must focus
on Customer’s needs Quality
Products Excellent Environment Good Corporate Citizen
Fair Share of Taxes Returns to Stockholders
* Constituted in the late 70’s
Pillars of Corporate Governance in NFL
Pillars Succession Planning Benefits • Clarity of Vision and Strategy • Financial Planning and
modeling • Core Values defined • CSR • Professional HR management
and development plan • Organization design and
development in line with strategy to promote succession in management
• Transparency
• Vision developed • Sustainable Growth Model
Used • Values defined, specially
transparency and ethics • Decentralized and well
empowered management, clear job profiles and competencies evaluated
• Internal Audit function used extensively as a continuous improvement
Our Vision To be a Rs. 50 billion food company
by the year 2020 in the convenience food segment by
launching products and services in the domestic and international markets
that enhance lifestyle and create value for our customers through
management excellence at all levels
‘ ‘
Core Values
Passion Team Work Ethics
People Centric Customer Focused Leadership
Excellence in Execution Accountability
Thank you
Loyalty, Disclosure and Care
Badaruddin F. Vellani
Vellani & Vellani 17 September 2013
Fiduciary Duties of Directors
Directors are trustees for all stakeholders
As such they are required to act in the best interest of the Company and of all its stakeholders
This includes:
The duty to be loyal to the Company and all its stakeholders
The duty to make full and complete disclosure
The duty of care in relation to the Company and its stakeholder
2
Fiduciary Duties of Directors (2)
Company Law prohibits limitation of liability for
negligence, default, breach of trust
The Code of Corporate Governance 2012
provides:
iv. The board of directors of a listed company shall exercise its
powers and carry out its fiduciary duties with a sense of
objective judgement and independence in the best interests
of the listed company.
3
The Duty of Loyalty, Disclosure and Care
Act in good faith and protect the interests of the Company and its stakeholders
Refrain from conduct which would injure the Company and its stakeholders
Avoid conflicts of interest
Be informed at all times and make business decisions based on available and material information
Disclose financial and non-financial information.
Disclosure and transparency are important elements of sound corporate governance; transparency within a company leads to building and restoring trust amongst investors and stakeholders
4
Disclosures required under Law by Directors (1)
The Companies Ordinance 1984
- Directors and officers of a company must disclose concern and
interest
- Concern and interest of relatives of directors must be disclosed.
- Interested director not to participate or vote in proceedings of
directors
- Directors and officers of a company to disclose shareholding in the
company and affiliated companies
5
Disclosures required under Law by Directors (2)
Listing Regulations
- Disclosure by listed companies to the stock exchanges of all decisions of
the Board in relation to dividends and entitlements prior to the release of
such information to any other person or media. Listing Regulation 16(1)
The Code of Corporate Governance 2012 provides:
- Listed companies to disseminate to the SECP and the stock exchange all
material information of the listed company that will affect the market price
of its shares. Code Clause(xx)
- Director to disclose information to the Company Secretary if he or his
spouse sells, buys or transacts, shares of the listed company of which he is a
director. Code Clause (xxiii) and Listing Regulation 16(6)
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Disclosures required under Law by Directors (3)
Securities and Exchange Ordinance 1969
- Insider Trading is prohibited
- Inside information means “information which has not been made
public relating, directly or indirectly, to listed securities or one or
more issuers and which, if it were made public, would be likely to
have an effect on the prices of those listed securities or on the price
of related securities”
- Insider Trading does not include the disclosure of inside information
by an insider as required under law or made to a party under a duty
of confidentiality
- Disclosure Form prescribed by the SECP under S.R.O. 143/(1)/2012.
7
Disclosures required under Law by Directors (4)
- Disclosure to SECP by listed companies of employed persons
who have access to inside information
- Disclosure to SECP by persons discharging managerial
responsibilities in listed companies and persons closely
associated with them of transactions conducted on their own
account relating to the securities of such listed company
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Loyalty, Disclosure and Care
Directors have a fiduciary duty
Directors must make appropriate disclosures
Non-compliance may result in penalties
Loyalty, disclosure and care are essential for good corporate
governance
9
Thank you
INDEPENDENT DIRECTORS – walking a fine line
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TOPIC: THE VALUE OF INDEPENDENT DIRECTORS
Reviewing conflict of interest transactions on
the Boards of single-majority companies and/or companies with controlled ownership
environments - one of the KEY functions! Sajid Zahid, Barrister-at-Law Advocate, Supreme Court Jt. Senior Partner, Orr, Dignam & Co., Advocates
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Who is an ‘Independent Director’?
3
Code of Corporate Governance 2002 • The concept of having ‘independent directors’ on Boards of Companies was
officially introduced by the Government of Pakistan through SECP’s Code of Corporate Governance 2002.
• It was not a mandatory requirement but made the intentions of the SECP sufficiently clear.
• An ‘independent director’ was defined to mean a director who is not connected with the listed company or its promoters or directors on the basis of family relationships and who does not have any other relationship, whether pecuniary or otherwise, with the listed company, its associated companies, directors, executives or related parties. The test of ‘independence’ principally emanates from whether such person can be reasonably perceived as being able to exercise independent business judgment without being subservient to any apparent form of interference.
However, any person nominated as a director under Sections 182 (i.e. directors nominated by the Company’s Creditors) and 183 (i.e. directors nominated by the Federal Government or a Company owned by the Federal Government) of the Companies Ordinance, 1984 (“Ordinance”) was not be taken to be an "independent director" for the above purposes.
4
Code of Corporate Governance 2012 • The new Code, overriding the 2002 Code, saw the SECP making it
mandatory for Public Listed Companies to have at least one member and preferably one-third of the total members of the board as ‘independent directors’.
• For the purpose of this requirement, the expression "independent director"
means a director who is not connected or does not have any other relationship, whether pecuniary or otherwise, with the listed company, its associated companies, subsidiaries, holding company or directors. The test of ‘independence’ principally emanates from whether such person can be reasonably perceived as being able to exercise independent business judgment without being subservient to any form of conflict of interest.
• Provided that without prejudice to the generality of this explanation, no director shall be considered ‘independent’ if one or more of the following circumstances exist:
- He/she has been an employee of the company, any of its subsidiaries or holding company within the last three years;
- He/she is or has been the CEO of subsidiaries, associated company, associated undertaking or holding company in the last three years;
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• He/she has, or has had within the last three years, a material business relationship with the company, either directly, or indirectly as a partner, major shareholder or director of a body that has such a relationship with the company:
• He/she has received remuneration in the three years preceding his/her
appointment as a director or receives additional remuneration, excluding retirement benefits from the company apart from a director’s fee or has participated in the company’s share option or a performance-related pay scheme;
• He/she is a close relative of the company’s promoters, directors or major
shareholders; shareholders:
• He/she holds cross-directorships or has significant links with other directors through involvement in other companies or bodies;
• He/she has served on the board for more than three consecutive terms from the date of his first appointment provided that such person shall be deemed “independent director” after a lapse of one term.
• Any person nominated as a director under Sections 182 and 183 of the Ordinance, shall not be taken to be an ‘independent director’ for the abovementioned purposes.
6
Public Sector Companies
Corporate Governance Rules 2013
• The 2013 Code exclusively applies to Public Sector Companies i.e. any Company, private or public, wherein 50% of its voting rights or voting securities are directly or indirectly owned by the Government of Pakistan.
The Code, like its 2012 counterpart, made it mandatory for Public Sector companies to have independent directors on their board. However, the 2013 Code appears to be more onerous in that it requires 40% of the members of the board to comprise of Independent Directors within the first two years of its notification and subsequently, have the majority of the Board comprise of independent directors.
• In terms of defining what ‘independent’ means the 2013 Code generally adopts the definition of the 2012 Code with slight variations.
7
Main Role of Independent
Directors under the 2012 & 2013 Code
• The Chairman of the Board has to be an independent director; and
• The Chairman of the Audit Committee has
to be an independent director.
8
Why have Independent Directors been given the task
of heading the Board of Directors and the Audit
Committee?
9
In theory Independent Directors are less likely to
have:
• Vested interests in the promotion of a certain group of shareholders;
• Conflict of interest with transactions envisaged/entered into by the company; and
• any affiliation with executive board members which may prejudice/influence their decision making.
10
This makes Independent Directors more suitable for:
• Being ‘above personal interests’ in dealing with the
affairs of a Company; • Protecting interests of smaller shareholders against
larger shareholders who may misuse their voting powers to carry out their own agendas; and
• Reviewing/monitoring “Related Party Transactions”. In this context, the 2012 and 2013 Codes have created
a two tier vetting process: ‘Related Party Transactions’ are to first be reviewed by the Audit Committee before they are subsequently put before the Board for approval.
11
What are ‘Related Party
Transactions’ (“RPTs”)?
• A ‘related party transaction’ is a transfer of resources, services, or obligations between related parties, regardless of whether a price is charged, as defined by the International Accounting Standard 24 (‘IAS 24’), which is applicable in Pakistan as per the SRO 665(I)/2005 pursuant to Section 234(3) of the Companies Ordinance 1984.
• A ‘related party’ is a person or entity that is related to the
entity that is preparing its financial statements (referred to as the 'reporting entity') - as per IAS 24.9.
• (a) A person or a close member of that person's family is
related to a reporting entity if that person: – (i) has control or joint control over the reporting entity; – (ii) has significant influence over the reporting entity; or – (iii) is a member of the key management personnel of the
reporting entity or of a parent of the reporting entity. 12
• (b) An entity is related to a reporting entity if any of the
following conditions apply:
– (i) The entity and the reporting entity are members of the same group (which means that each parent, subsidiary and fellow subsidiary is related to the others).
– (ii) One entity is an associate or joint venture of the other entity (or an associate or joint venture of a member of a group of which the other entity is a member).
– (iii) Both entities are joint ventures of the same third party. – (iv) One entity is a joint venture of a third entity and the
other entity is an associate of the third entity. – (v) The entity is a post-employment defined benefit plan
for the benefit of employees of either the reporting entity or an entity related to the reporting entity. If the reporting entity is itself such a plan, the sponsoring employers are also related to the reporting entity.
– (vi) The entity is controlled or jointly controlled by a person identified in (a).
– (vii) A person identified in (a)(i) has significant influence over the entity or is a member of the key management personnel of the entity (or of a parent of the entity).
13
Why is reviewing Related Party
Transactions important?
• Enron (US): Enron Scandal led to the bankruptcy of Enron Corporation and the dissolution of Arthur Anderson. By using accounting loopholes, and poor financial reporting billions of dollars in debt from failed deals and projects were hidden. The CFO and other executives misled Enron’s Board and Audit Committee and also pressurized Arthur Anderson to ignore these issues.
• Maxwell (UK): Robert Maxwell, the infamous media proprietor, was both the Chairman of the Board as well the Chief Executive of Maxwell Corporation with his two sons being the non-executive directors. As a result of having such power he was able to siphon off hundreds of millions of pounds from the Corporation’s pension funds and misstated profits without any questioning or interference by the Board.
14
• Satyam (India): Satyam Computer Services bought two entities for a staggering US$ 1.6 Billion in total with both entities being related to the founder and Chairman of Satyam. The transactions got the attention of the independent directors who resigned in protest which in turn led to exposing an accounting fraud worth US$ 1 Billion as ultimately confessed by the Chairman himself.
• Crescent Bank (Pakistan): Crescent Bank was found maintaining parallel books of accounts amounting to PKR 5.252 billion which were not reported in the published accounts and in relation to the said irregularities, the 5 non-executive directors were found not liable on the basis of having no knowledge of the same.
However, loans advanced to the tune of billions of rupees by the bank to its associated companies, which loans were also reflected in the bank’s published accounts were deemed to be in the knowledge of the bank’s non-executive directors and they were found liable for failing to object to the same and the said directors were fined PKR 1 million each under Section 208 of the Companies Ordinance, 1984.
15
Effectiveness & Liability of an Independent Director
in a Conflict of Interest Scenario
16
Effectiveness of Independent Directors:
• Limited Participation: All independent directors are non-
executive directors and their envisaged role does not involve detailed participation in the ‘management’/affairs of the company. Consequentially, this limited participation also assists in ensuring their ‘neutrality’. However, the said limited participation also inevitably disadvantages independent directors in that they are only given a seven day window by law (Code 2012 & 2013) to review and consider relevant documents/issues to be discussed and analyzed in any given board meeting. This of course, in practical terms, limits the grasp of the Independent Directors over the Company’s affairs to a ‘somewhat’ superficial level.
17
• Expertise & Experience: A director being ‘independent’ does
not necessarily mean that he/she adds the requisite value associated with this position to the Board. Pakistan should a take a leaf from India’s book and make it a mandatory legal requirement to ensure that independent directors also hold the relevant expertise and experience to be as efficient and effective in their scrutiny of the Company’s affairs as possible particularly given the limited opportunity of participation they are provided.
• Integrity: Independent directors with a known reputation for being sound businessmen, professionals or technocrats have a lot credibility to their name and would not wish to be associated with a failing/fraudulent board or be blamed for failing/defrauding a company. Hence, these directors, even if for the sake of protecting their own reputations, are more likely to be ‘on their toes’ to ensure that they are effective/prudent in their scrutiny of the affairs of the company.
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• Family Controlled Businesses: In family
owned/controlled companies, even if the company is publicly listed, an independent director may be taken by surprise as certain key decisions/strategies are likely to be made/devised outside the board room and then may be subsequently pushed onto the board through family nominated directors.
19
Liability of Independent Directors: PAKISTAN
• Independent directors may prefer themselves to be viewed as ‘strategic advisors’ to the Board but the law and stakeholders expect them to adopt the role of ‘watchdogs’.
• This role of monitoring/being a watchdog exposes independent directors to the same liability as executive directors, who are not only company employees but are actively involved in the management of company affairs.
• Pakistan’s corporate, commercial laws do not distinguish between the liability of non-executive directors, including independent directors and executive directors. This may be a cause of concern for independent directors given their limited participation in the affairs of the company.
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• Professional Indemnity Insurance Cover: An independent director’s worst nightmare would involve being sued in his personal capacity for any alleged breach/failure in his duties. Though this is rare, such claims have been made as was the case in the Enron scandal where plaintiffs sought settlement from independent directors in their personal capacity for their breach of duties.
A solution to appease the anxiety of independent
directors in Pakistan in this context could involve the widespread use of Professional Indemnity Insurance Cover for all independent directors subject to the requirements of Section 194 read with Section 488 of the Companies Ordinance 1984.
21
Liability of Independent Directors: INDIA
The liability of independent directors has been redefined
under the new Company Bill 2012 (currently awaiting Presidential Assent). As per Clause 149(12) therein, an independent director shall be liable "only in respect of such acts of omission or commission by a company which had occurred with his knowledge, attributable through board processes, and with his consent or connivance or where he had not acted diligently".
This is a shift from the old 1956 Act in which, like Pakistan, the liability of all directors, whether executive or non-executive, including independent directors was the same.
22
Liability of Independent Directors: UK
The position in the United Kingdom vis-a-vis
the liability of directors is similar to that of Pakistan.
23
Liability of Independent Directors: USA
The position vis-a-vis director liability in the USA is
similar to that of Pakistan. In fact, the promulgation of the Sarbanes Oxley Act 2002 has created a more onerous burden on directors across the board, irrespective of whether they are executive or non-executive directors, including independent directors.
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How ‘Independent’ are Independent Directors?
• Remuneration: If 10 board and committee meetings were to be held in a year, the independent director on the board/ committee of a blue-chip company in Pakistan could make at least US$30,000, or something around PKR 3 million. In quite a few cases, much higher fees is paid. More and more board meetings are being held abroad and some in very exotic locations. This raises an unsettling question: could such remuneration and foreign trips compromise the ‘independence’ of independent directors?
• Induction: To what extent are the decisions/motivations of
independent directors favourable/sympathetic to his sponsoring shareholders?
• Integrity: What role does an independent director’s integrity and code of ethics play when dealing with the affairs of the company?
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Does ‘disclosure simpliciter’ of a Director’s interests under
Sections 214 and 215 of the
Companies Ordinance, 1984 or
Director’s non-participation/non-voting in the board meetings
(Section 216) on ‘interested
matters’ satisfy the test of ‘independence’ and avoidance of
‘conflict of interest’? 26
• Corporate laws in most jurisdictions would answer this question in the affirmative and at first sight they are right.
• Some would argue that mere declaration of ‘interest’ without taking any further action, including stepping out of the meeting, would NOT resolve the ‘conflict’.
• Others would argue that the ‘conflict’ perhaps can only be truly addressed by avoiding the ‘interested’ transaction. This may appear harsh but their contention is that with the standards of corporate governance raising the bar globally, this may be the only effective solution.
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International Trends in relation to Independent Directors
• US: Both NYSE and National Association of Securities Dealers
Automated Quotations (NASDAQ) require that “a majority of the board of directors of a listed company be Independent.” According to the Wall Street Journal in 2010 alone, independent directors constituted up to 66% of all boards and 72% of the Standard & Poor’s 500 company boards.
• UK: The Code of Corporate Governance requires at least half the board of directors, excluding the Chairman, to comprise of non-executive directors determined by the board to be ‘independent’.
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• India: The existing position under the Listing Agreement
of the Indian Stock Exchange is that where the Chairman is a non-executive director, at least one third of the board should comprise of independent directors and where the Chairman is an executive director, at least half the board should comprise of independent directors. The new Companies Bill 2012 makes it mandatory for all public listed Companies to have at-least one-third of its directors as ‘independent directors’. Note: Unlike in Pakistan, in India it is going to be a statutory requirement that companies ensure that their independent directors are persons of integrity and have the relevant experience and expertise.
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THANK YOU.
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