Photo: iStock
Photo: iStock

Opinion: Corporate governance in family businesses

The underlying theme of the new reforms is to achieve an independent board

Corporate governance is a key area of focus for many stakeholders today. There has been a significant rise in its importance, owing to very public, messy scandals in blue chip companies such as Satyam, as well as efforts by regulators to ensure strict investor and minority protection. This culminated in the Securities and Exchange Board of India constituting the Uday Kotak Committee on corporate governance, which delivered its report in October, 2017. Many of its reforms come into effect on 1 April, aiming to break the nexus between promoters and their companies. Another underlying theme was to achieve an independent and wholesome board. Even before the report, many Indian promoter companies had begun to improve their corporate governance and, hence, these reforms were not a surprise for them. 

For example, Crompton Greaves Consumer Electricals Ltd has shown great initiative by relying on both external search firms and internal referrals to identify potential independent directors. Marico Ltd has customized its CEO’s performance metrics to include addressing succession planning. Potential successors have been invited to attend board meetings for exposure to the work culture of the company. Such transparency was unthinkable for promoter companies even a few years ago.

With some amendments coming into effect on 1 April 2019 such as appointment of female independent directors and a minimum number of directors, it is important to see how the reforms will change the board of a family business. In India, many family businesses have been inducting women from the promoter family into their business. Arokiaswamy Velumani, the first-generation promoter of Thyrocare Technologies Ltd, inducted his daughter Amruta into the business when she was 27. She has been part of the business for 15 years. However, with the recent amendment, she (and others like her) may not tick the box as being a suitable woman independent director, but can still be appointed as an executive director. Boards may face similar dilemmas between professionals and kinship. 

Another significant change which will occur is the separation of the roles of the chairperson and CEO/MD for the top 500 listed companies. The chairperson, a non-executive director, can no longer be related to the MD or CEO as per the definition of “relative" under the Companies Act, 2013, leading to a conundrum in succession for family-run businesses. Luckily, this change only comes into effect from 1 April 2020, giving companies time to plan. But many promoters are already having sleepless nights. What role does the next-generation now have? 

If the promoter’s son or daughter cannot become the next CEO/MD, who are they building value for? Does this mean that the current generation has to retire for their children to take over? Will they? Such promoters also need to imbibe the spirit of the report’s changes—to move away from a raja-praja relationship with the company towards a custodian/stewardship role. Such a transition, while desirable objectively, is difficult to achieve mentally, and the intrinsic nexus between a promoter and his family business is hard to break so easily. 

Indian promoters do not let go easily and, being forced to give up power in favour of the next generation, may need careful planning and transition. With such segregation, the board is expected to function more independently and is likely to bring in a balance of power and reinforce accountability. This segregation has been adopted by various jurisdictions abroad as part of good governance principles. The US had similar concerns in Tesla, with Elon Musk being both chairman and CEO. Families such as Dr. Reddy’s, Bajaj, Emami and Muruguppa Group have adopted a family constitution, which ensures family values are aligned with business interests and that family disputes do not contaminate the business. Structures, such as family business boards and councils, which are family governance bodies set up above the corporate board to assist family business members in taking strategic decisions vis-à-vis the company and family both. Such forums (should) have strong independent and wise voices on them, to give the family a balanced perspective.

Putting all this together, the need of the hour is for families to start thinking about these changes and planning for their implementation. Taking a decision not to make your son/daughter the next CEO is done with a heavy heart for many promoters, and to build up to this stage takes time. But, if the father keeps in mind that this is ultimately for the benefit of the business and the family’s long-term success, it makes it more palatable. With about a year remaining, it remains to be seen how actively promoters participate in bringing about the required changes, in letter and in spirit.

Rishabh Shroff is a partner at Cyril Amarchand Mangaldas and co-heads the firm’s family business and estate planning team. Saloni Shroff is an associate in the firm’s centre for corporate governance.

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