Investor Issues
Why good corporate governance is important for investment decisions

Corporate governance in PSUs is negligible, while the prime motive of family run business is to maintain control and not produce profits for shareholders. So for increased returns on your investment, pick companies with the most corporate oversight and the best governance

Over the centuries judges in common law learned something about human nature. They realised that agents might not be particularly honest when acting on behalf of their principals. To remedy this problem, they created the highest duty under the law, a fiduciary duty, and assigned it to agents. This duty is now borne by all sorts of agents including trustees, employees, partners, and corporate officers. Wisdom of this judge-made law is confirmed by game theory. In game theory an agent’s best move is to cheat the principal.


For investors, the most important aspect of this concept is corporate governance. The basic idea of good corporate governance is to develop methods where the true owners of a corporation, its shareholders, have some sort of say over the agents running the corporation, the officers and directors.


Some of the basic principals include that executives and their pay should be accountable to shareholders. Companies should be transparent. Shareholders should exercise their stewardship over the companies they own by participating in all votes. Finally, investors should be more concerned about the long-term outlook for the company, in contrast to employees who know that their tenure may be limited.


Depending on the country, some of these concepts are either enshrined in law, regulations or sometimes listing contracts. Their importance is correlated with the distance between the owners and the officers. In small companies they are not needed because they owners are the officers. They are absolutely necessary though for widely held listed companies.


In the largest markets, the rights of the shareholders are often not exercised by them. These days they are often outsourced to large proxy advisors, who have become very powerful. Large fund managers are also the arbitrators of shareholder rights. This may concentrate power away from the final owners, but well-informed opposition to management might not be such a bad idea.


Even in the large well-developed markets, elites, not shareholders, call the shots. In France, corporate policy is often dictated by a combination of well-connected industrial families, state investment agencies, large unions, and last but not least the industry minister. Being an alumni of one of the three elite “Grand Ecoles”, whose networks Harvard alums can only envy, usually connect this web of government, union and corporate officers. Fortunately the power of this elite is breaking down. The reason is that foreigners, who insist on higher standards, now own half of the shares of the biggest French firms listed on the CAC-40.


Italy has had the same issues. There are no Grand Ecoles in Italy, but there is Mediobanca. Mediobanca is an investment bank at the center of a web of cross-shareholdings, shareholder pacts and nested stakes, that allow control despite ownership of relatively small shareholdings. Mediobanca is in theory selling many of its stakes in other companies, but old habits die-hard.


Italy may have problems, but it doesn’t compare to Japan. In Japan nearly 600 of the 1,400 listed firms still do not have any outside directors. In contrast China, South Korea and India, not paragons of corporate governance, all require them. Only 0.2% of Japanese listed companies had majority independent boards. In the US the number is 90%, 50% in the UK and 30% in Singapore.


As part of Prime Minister Abe’s third arrow reform efforts, there is a proposal to change the rules. The proposal includes guidance for appointment of independent directors. The provision is voluntary, but refusal requires explanation. The powerful Keidanren business lobby is opposing the provision. It has been successful in blocking all such proposals before.


Still Japan is far ahead of other Asian markets in one respect. It has the largest percentage of firms with diverse owners. Only 28% of Asian firms fall in this category and the vast majority are listed in Japan. Most firms in Asia are either state owned (40%) or family run (27%). Neither type of firm is known for allowing shareholders a major say in a company’s operations.


The probability for reform of corporate governance of state owned firms is negligible. For government officials, their largest asset is their potential for corruption and patronage. The largest listed Chinese and Indian firms each employ between a quarter and a half million people.


Family firms are equally difficult to change. Their prime directive is for the family to maintain control, not produce profits for shareholders. These firms are often excellent examples of crony capitalism. Large state owned banks are the source for cheap capital for both family and state owned firms. Seven of the ten largest firms in India have been tainted with corruption scandals. The ten most indebted firms account for 13% of the banking system’s bad loans.


So who cares? Why would investors or policy makers want to encourage good corporate governance anyway? The simple reason is money. Good corporate governance makes companies attractive to investors and makes them more profitable. The firms in the TOPIX 500 index had an average return on equity in 2012 of 7%, compared with over 15% for American and European companies. State run firms in Asia with their terrible corporate governance have lost a trillion dollars in value since 2007. Their aggregate PE ratio is half of private firms.


In developed markets, recent research has shown that the best governed companies did not out perform their peers, but the 10%-20% of firms with the worst corporate governance definitely underperformed.


So the conclusion is simple. If you want the best management team who will do the most to increase your investment, pick companies with the most corporate oversight and the best governance.

(William Gamble is president of Emerging Market Strategies. An international lawyer and economist, he developed his theories beginning with his first-hand experience and business dealings in the Russia starting in 1993. Mr Gamble holds two graduate law degrees. He was educated at Institute D'Etudes Politique, Trinity College, University of Miami School of Law, and University of Virginia Darden Graduate School of Business Administration. He was a member of the bar in three states, over four different federal courts and speaks four languages.)




3 years ago

Not entirely true. The Nehru-Ganhdis for example allowed a take over by not attending to the knitting of Governance. The poor Maharaja of Mysore was ousted from ownership and management control despite patying better attention to his knitting than most!

Death of students: The familiarity of water tragedies in India

The tragedy of 24 students from an engineering college, who were washed away by the Beas River in Himachal Pradesh, calls for a deep introspection on why such tragedies keep happening

As per news reports, at least 24 students, including six girls from Vignana Jyothi Institute of Engineering and Technology (VNR) in Hyderabad, who were on a college trip to Manali were washed away by the strong water currents when there was a sudden discharge into the Beas River from a reservoir of the 126 MW Larji hydel power project around 2km away. The students were posing for photographs, when they were washed away by the water surge.


The Mandi district administration of Himachal Pradesh will investigate into whether people downstream were cautioned before releasing the water, but according to the students of VNR, there was no sign board to tell visitors that this was a dangerous area for visitors. However, nothing can replace the loss of lives of these precious youngsters. As of 3pm Monday, rescue workers had recovered five bodies, while the fate of 19 other students washed away in the sudden flood is still not known.


In India, water tragedies happen with regularity due to two chief reasons. Firstly, the department in charge of the water body hardly ever gives priority to putting up cautionary boards at strategic places or deploy patrolling to deter tourists from getting into the flood perimeter. Secondly, tourists, particularly youngsters, take unnecessary risks by getting too close to the water body, be it a lake, river or sea in their enthusiasm for taking photographs on cliffs of hills and hill slopes. No amount of warning by the police or life guards helps, and in their exuberance think such tragedies happen only to someone else. Such scenes are particularly seen during monsoons, which is also the most dangerous time in the mountains


During my recent Goa trip, a Jeep with the Life Guard and his team inside it, was driving up and down the sea shore of the Baga Beach, appealing through his megaphone to step back from the waters. It was around 6pm and the person on the mike was imploring the vacationers not to risk their lives. “The water level has become dangerous;” “you may be suddenly swept off by the sea;” “that your stupid courage could end in a water tragedy;” “please listen to what I am saying, please get off.” However, we were aghast to see families with young children refusing to budge. Some mocked at the Jeep when it came around one last time. The Life Guard on the mike said - “this is the last warning to you. Please do not play with your life.” It had hardly any effect as at least one-fourth of the crowd continued to revel in the noisy waves that hit the shores. While that evening was lucky for everyone, last year, on a beach in Goa, five Pune-based techies were drowned during a picnic.


A similar scene can be witnessed in various monsoon picnic spots of Maharashtra. Lonavala-Khandala is a particularly scary example, when around one lakh people, most of them youngsters, come to get drenched in the rains during weekends. Bhushi Dam, which is the star attraction, invariably registers six-seven deaths due to drownings every season. The Lonavala Police has been issuing warning signs, using blaring loudspeakers and pamphlets; local youth organizations volunteer to be guards; caution boards too dot the area but hardly anyone pays attention to them. Drowning deaths also occur at the foots of various gushing waterfalls, not only in Lonavala-Khandala but in Malshej Ghat and several other popular monsoon picnic spots across Maharashtra.


Last year, while some of our family members were on a joyous boat ride in the backwaters of Kerala, their hearts froze when a bunch of youngsters were dancing on the rocking boat, creating a racket and trying to touch the water, thus tilting the lightly rocking boat every now and then. This could easily have led to the capsizing of the boat. Thank God it didn’t!


PS: This is not to pass the buck of the recent tragedy onto the the 24 students of Hyderabad College. They were caught unaware with the huge water release from the dam. This is the time to ponder, as monsoon sets in, to learn from earlier tragedies through self-restraint by adhering to safety norms.

(Vinita Deshmukh is consulting editor of Moneylife, an RTI activist and convener of the Pune Metro Jagruti Abhiyaan. She is the recipient of prestigious awards like the Statesman Award for Rural Reporting which she won twice in 1998 and 2005 and the Chameli Devi Jain award for outstanding media person for her investigation series on Dow Chemicals. She co-authored the book “To The Last Bullet - The Inspiring Story of A Braveheart - Ashok Kamte” with Vinita Kamte and is the author of “The Mighty Fall”.)



Suiketu Shah

3 years ago

Inspite of knowing such "adventures" can cost yr life people still go ahead.Such adventures are suicidal in India.


3 years ago

This "chalta hai" attitude has to STOP... we have no fear of the law, we do not respect when someone advises good things. Same things happen on the road everyday, people pull the seatbelt or put a helmet just to "avoid being fined"... no concern about safety ! A drastic change in the system is required, technology should be used to the maximum !

Vaibhav Dhoka

3 years ago

We dont learn from such mishaps we mourn when such tragedy occurs and forget next day.

AirAsia launch on 12th June, despite FIA protests!

As a low cost, no frills airline, AirAsia will be a completely new experience for air travellers in India. Travellers who have been used to 'free' bonanzas like extra baggage allowance, hand bags, service on board and other amenities, will now have to forego these luxuries!

According to press reports, with the Air Operators' Permit (AOP) from Directorate General of Civil Aviation in place, Air Asia is scheduled to launch its inaugural service from Bangalore to Goa, on 12th June, with a single A 320 aircraft.


As a low cost, no frills airline, it will be a completely new experience for air travellers in India. Travellers who have been used to free baggage allowance, hand bags, service on board and other amenities, will now, have to forego these luxuries! In fact, in Air Asia's flights, they will have to pay for every single service that is offered.


With even check-in baggage dis-allowed, the only concession appears to be a 7kg hand baggage. No doubt, the well trained staff will ensure that the rules are strictly followed.


However, the DGCA appears to have already objected to the AirAsia baggage plans, which envisages pre-booked check-in baggage upto 15kgs being charged Rs199 (as against Rs300 if checked in at the counter); the rates go up to Rs498 (upto 20kgs), Rs999 (upto 25kgs), Rs1,499 (upto 30kgs) and Rs1,999 (upto 40kgs). Should the passenger check baggage in at the counter, every kilo above 15kgs will be charged Rs250. So, passengers who usually carry a lot of luggage may obtain a cheap fare ticket, but literally pay through the nose for their luggage. It appears that the DGCA has already advised AirAsia to remove these charges detailed on their web site, and have directed them to approach the regulator for approval. Details of the luggage charges may be announced in a day or two.


Also, as a general airline practice, when tickets are cancelled well in advance, taxes are also refunded after deducting a certain percentage for cancellation; last minute cancellation gets no refund at all. Existing Indian carriers refund fares subject to a maximum cancellation charge of Rs1,500. Who knows, the domestic carriers, who have been raising these objections to prevent AirAsia from taking the sky, may now come out with a more lenient policy on baggage, apart from cut-throat air fares they are offering to spite AirAsia!


A discussion was expected between Prashant Kumar, Chief of DGCA, and AirAsia representatives with regard to the baggage charges . Indian passengers are known to carry huge amounts of luggage wherever they travel. The proposed baggage policy from AirAsia might just change this quintessentially Indian habit.


Loss making domestic carriers like SpiceJet, and others like GoAir and IndiGo have also reduced their prices in to meet the price challenge from AirAsia. Apart from fighting on the price front, the Federation of Indian Airlines (FIA) have filed a case in the High Court at New Delhi, scheduled for hearing on 11th July.


AirAsia began its quest for entry into the Indian market some 15 months ago. Though they may be starting operations with just one aircraft, their plan is to bring in one more every month. Besides, June is not the peak "season" month for travelling, and they expect to have a few more when the peak season starts.


The major issue facing AirAsia is the verdict of the High Court. If it goes against them, they may have to postpone their flights or make an appeal, in which case, the FIA would have won the initial advantage. However, it remains to be seen how the High Court rules.


In the meantime, both the Airline industry and the hospitality industry are hoping that the Finance Minister would make suitable provisions in the ensuing Budget to reduce taxes on the hospitality sector and jet fuel. After all, the increased cost of jet fuel is eventually passed on to the passenger.


The outcome of the dog fight between FIA and AirAsia will also affect the Tata-SIA full service airline that is now awaiting AOP. In this new airline, Tata Sons hold 51% stake and Singapore Airlines 49%. This new airline, when it takes off, is expected to bring about a major change in the airline industry in the country in terms of passenger comfort and service.


Which is why, perhaps, domestic airlines are doing what they can to prevent both AirAsia and Tata-SIA coming into the scene, as they will be hard to beat. Their entry is what the air travellers hope to see in the near future.

(AK Ramdas has worked with the Engineering Export Promotion Council of the ministry of commerce. He was also associated with various committees of the Council. His international career took him to places like Beirut, Kuwait and Dubai at a time when these were small trading outposts; and later to the US.)


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