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CORPORATE GOVERNANCE CHALLENGES

WITH SPECIAL REFERENCE TO

INDIA & CHINA

By: Dr. Manika Singla

(Project Fellow - UGC Sponsored Project)

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INTRODUCTION India & China are world’s top most emerging markets that

have a strong desire to become global players through sizeable acquisitions and by increasing an access to international capital markets.

However many corporate scandals in these economies have brought governance weaknesses to the attention of the general public at large.

As these scandals had a huge impact on investors’ confidence and thus hindered their progress of economic development.

Therefore, It is very important to examine the effectiveness of governance mechanism in avoiding these corporate scandals especially in transition economies.

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METHODOLOGY

The present paper is based on the information collected from various secondary data sources:-

Articles published in leading journals Websites Books, Journals, Working Papers Newspapers, On line News Channels Industry Reports World Bank Database

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OBJECTIVES OF THE STUDY

1. To compare and analyze the corporate governance systems & discover the major obstacles in governance implementation of India & China

2. To examine the corporate performance of India & China based on leading macro governance indicators (Source: World Bank Governance Indicators – 8th Annual Update)

3. To analyse the various parameters of doing business in India & China with a view to consider such factors while framing/revising corporate norms(Source: Doing Business Database - World Bank 2011 Study)

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CURRENT SCENARIO - GOVERNANCE OF INDIA & CHINASimilarities

1. Too-rapid economic development2. Significant private public foreign investment3. Economic & structural reforms 4. Shared interest in Anglo American Corporate Norms

DifferencesCriteria India China

Starting Point of Reforms

Reforms started with the private sector first in late 90s and later it became an issue for the public sector as well

Reforms focused first on public sector firms and then later on private sectors from 1971 onwards

Legislation More transparent & shaped more by the rule of law

Considerable Opacity in determining: •who is drafting laws, •with what degree of technical expertise and•in the service of what policies

Judiciary Judiciary operates at somewhat glacial time frame

More experienced with commercial matters

Chinese courts are technically less competent

These are not as autonomous/politically independent as their Indian counterparts

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Major driving forces behind governance reforms (India & China)

Unethical Business Practices

- Security Scams - Disappearance of Companies - Misdeed of Companies

Impact of Globalization - Integration with Foreign Markets- Foreign Investors Expectations- New Business Opportunities -- IT & ITES, BPO etc.,- New Capital Formation – FII, FDI

Impact of Privatization - New Ownership Structures- Multinational Companies

Market Driven Economy - Increased Competition - Free Market Forces

Efficiency is a now a key factor

- Boost International Trade - Optimum Resource Utilization - More Returns & Least Cost

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Analysis Table - Comparison of Corporate Governance MechanismsCriteria India China

Applicability of Corporate Governance Rules

Listed Companies Publicly held corporates that can be listed or non-listed.

Ownership Structure More diverse share ownership including family and some government-ownership.

State ownership of entities

Role of Institutional Investors

Lacking role of institutional investors

Institutional investors role is lacking.

Regulatory Framework

Weak institutional framework Regulatory overlap weakens enforcement.

Overlap of BOD & board of supervisor’s duties

Board of Directors & Supervisors

Between 33%-50% independent directors. Family-owned business influence independence.

At least 33% independent directors. Supervisory board can overturn director decisions.

Compliance & Enforcement Efforts

Certifications of financial & internal reports by CEO, MD & Audit Committee respectively.

Requirement of certifications of financial statements and internal reports are not addressed.

Requirement of Independent Board of Directors

Lack of independent members of the board of directors in practice despite requirements to the contrary.

Independent directors recommended by stockholders

Corporate Governance Report

Comply or explain noncompliance with mandatory recommendations by external auditors assessment.

Comply or explain the gaps between existing practices & recommendations in the code; No penalty for failing to do so.

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Criteria India China Quality of Governance

Much better Less in comparison to India

Institutional History

Years between 1947 and 1991, the Indian economy was always 50% in the private sector, And as such, notions of governance were not entirely foreign to the Indian private sector.

Between 1949 and the mid-1970s was a relatively closed economy.

Information Noisy & unbiased i.e. no one is willfully distorting the truth

Noise free but biased i.e. clean story but story isn’t right always

Running of Financial Markets

Equity markets function very well making India a safer choice for international investors

Financial markets don’t work very well as all stock prices move together

Corruption India is close to the bottom of international list of transparency as it only just shuffling money back & forth and not generating value for society

China is also close to the bottom of that international list of transparency But it does a little bit better than India due to its constructive corruption since it generated some value to the society

Pressures to Reach International Standards

Highly pressured to the market forces in order to stay in competition and boost international trade & development because of its lacking reserves & other sources of inputsHowever , Indian Companies have an edge over the Chinese in reaching international standards of governance.

Less pressured as they have huge capital at their disposal because of their $1.5 trillion in foreign exchange reserves

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FINDINGS RESEARCH OBJECTIVE ONEObstacles in Structural Reforms Implementation

India & ChinaWeak Institutional Framework

-Overlapping Duties & Responsibilities (BOD, Audit Committee, Non-Management Directors, and Supervisors)

Limited Activism of Institutional Investors

- Lack of Industry Knowledge & Expertise

Lower Board Independence

-Ownership Structures(State Ownership, Family Owned) - Stakeholders Recommendations

Business Models - Traditional Ownership Structures

Poor Compliance & Enforcement Efforts

- No Certifications Required - No Penalties for gaps

Weaknesses in Judiciary

- Delays - Poor Functioning

Political Interference & State Participation

- Important Matters - Management Decisions

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ANALYSIS & FINDINGSRESEARCH OBJECTIVE TWO As per World Bank 2011 report,

India is ahead of China in terms of rule of law (54th) & control of corruption (35th) but left far behind in regulatory quality (39th) as compared to China at 44th, 32 and 44th respectively.

This indicates that India needs to improve its regulatory quality by removing various obstacles in the path of enforcement, compliance & reforms implementation

Whereas for China, it should emphasize on improving its rule of law and make various amendments with a view to control corruption & maintain transparency in line with international standards for enhancing their foreign investments and to achieve rapid economic development.

Regulatory Quality

Rule of Law

Control of Corruption

0 10 20 30 40 50 60

39

54

35

44

44

32

Governance Parameters(2011 Ranking)China India

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ANALYSIS & FINDINGSRESEARCH OBJECTIVE THREE In World Bank 2011 report, India has

been ranked at 87 as compared to China at 139 in doing business with them

China is ranked much better than India, therefore it needs to focus just only on two areas i.e. protecting the investors & getting the credit

Whereas India still lags in a number of issues: paying taxes, trading across borders, enforcement of contracts and resolving insolvency

Hence, for both the transition economies while establishing or revising their own company’s corporate governance rules:

Adopting a new governance structure based on such factors will be of great help

Doing Business (2011) Rank

Getting Credit

Resolving Insolvency

Enforcing Contracts

Trading Across Borders

Paying Taxes

Protecting Investors

Starting a Business

0 40 80 120 160 20087

64

72

17

61

119

93

150

139

37

140

182

107

165

44

166

Doing Business Parameters (2011)

China India

Ranking

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SUMMARY CHALLENGES/REFORM ISSUES

In both the countries - reform and enforcement efforts by regulators is lagged

And many of the reforms that have been adopted fail to address fundamental areas of concern such as:

the relationship between controlling and minority shareholders,

the role of promoters, the limited activism of shareholders, including

institutional investors, and issues with director independence.

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SUMMARY UNIQUE POLITICAL & SOCIAL PRESSURES

These challenges may prevail because they have been shaped by unique political and social forces.

Such forces include:

the traditional closed ownership structures, an ineffective institutional framework to support

enforcement efforts, weaknesses in the judiciary, and political pressures related to government

ownership of certain industries.

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CONCLUSIONConcluding Remarks The main issue for China now is to convince foreign investors that

state-owned enterprises and state interference will not impede the efforts of multinationals to operate in that country.

For India, it is more a matter of creating the mechanisms to enforce good governance practice as already embodied in various committee reports.

That is ………

India needs simplicity whereas China needs little tightening!!

Scope for further research In this short study we cannot expand in further detail the potential

solutions to these challenges, it is hoped that further research can help develop solutions that take them into account.

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THANK YOU!!

Prepared By: Dr. Manika Singla

(Project Fellow - UGC Sponsored Project)