Corporate Governance and Business Ethics

Why corporate governance is in GS4

Companies affect millions – as employers, producers, polluters, taxpayers and stores of public savings. When a large company fails through fraud, as Satyam (2009) or IL&FS (2018) did, investors, workers and banks suffer. The syllabus therefore includes corporate governance: the system of rules, practices and processes by which a company is directed and controlled in the interest of all its stakeholders.

Meaning and principles

The Cadbury Committee (UK, 1992) defined corporate governance as "the system by which companies are directed and controlled". Its core principles are:

1. Accountability – of management to the board and of the board to shareholders.
2. Transparency and disclosure – accurate, timely information on finances, risks and ownership.
3. Fairness – equal treatment of all shareholders, including minorities.
4. Responsibility – to employees, customers, communities and the environment.
5. Independence – independent directors and auditors who can question management.

The OECD Principles of Corporate Governance (1999, revised 2004, 2015 as G20/OECD, and 2023) are the international benchmark.

Theories of the corporation

Corporate governance in India: evolution

• CII Code (1998) – voluntary code by industry.
• Kumar Mangalam Birla Committee (1999) – led to Clause 49 of the listing agreement (2000), requiring independent directors and audit committees.
• Naresh Chandra Committee (2002) – auditor independence.
• Narayana Murthy Committee (2003) – strengthened Clause 49.
• Satyam scandal (2009) – the founder admitted inflating cash balances by about ₹5,000 crore; led to a push for stronger laws.
• Companies Act, 2013 – independent directors (one-third of board for listed companies), at least one woman director, audit committee, auditor rotation, class action suits, Serious Fraud Investigation Office (SFIO) given statutory status, and mandatory CSR (Section 135).
• SEBI (LODR) Regulations, 2015 – replaced Clause 49.
• Uday Kotak Committee (2017) – separation of chairperson and MD roles in top listed companies, more independent directors, better disclosure.
• Insolvency and Bankruptcy Code (2016) – time-bound resolution of failed companies.
• National Financial Reporting Authority (NFRA, 2018) – regulates auditors.
• Business Responsibility and Sustainability Report (BRSR) – mandatory for the top 1,000 listed companies from 2022–23, with BRSR Core assurance phased in.

Corporate Social Responsibility (CSR)

• Section 135 of the Companies Act, 2013: companies with net worth ≥ ₹500 crore, or turnover ≥ ₹1,000 crore, or net profit ≥ ₹5 crore must spend at least 2% of average net profits of the last three years on CSR activities listed in Schedule VII (education, health, environment, sanitation, rural development, sports, PM CARES and others).
• India was the first country to make CSR spending mandatory by law (effective 2014).
• Unspent amounts must go to specified funds or an Unspent CSR Account (2019 and 2021 amendments).
• Criticism: concentration of spending in a few States, "tick-box" spending, use of CSR for brand promotion, weak impact measurement.
• Ethical view: CSR should be part of business strategy, not charity – the shift from CSR to ESG (environmental, social and governance) and creating shared value (Porter and Kramer, 2011).

Business ethics issues

• Insider trading – using non-public information for trading (SEBI's Prohibition of Insider Trading Regulations, 2015).
• Accounting fraud – window dressing, related-party transactions.
• Tax evasion and aggressive tax avoidance – shell companies, transfer pricing.
• Cartels and price fixing – penalised by the Competition Commission of India (e.g., cement cartel penalties).
• Bribery of officials – now a specific offence for companies under the amended PCA (2018).
• Unsafe products and pollution – Bhopal 1984; Vizag gas leak 2020.
• Labour rights – contract labour, gig workers; new labour codes.
• Greenwashing – false environmental claims; SEBI and CCPA have issued guidance against it.
• Data privacy – DPDP Act, 2023.

Ethical leadership in business

Examples often quoted:

• Tata group – long tradition of philanthropy (Tata Trusts own a majority of Tata Sons); J. N. Tata's view that the community is the very purpose of business.
• Infosys – early adoption of transparency norms and global accounting standards.
• Amul – cooperative model where farmers own the enterprise.
• Johnson & Johnson's Tylenol recall (1982) – put customer safety above short-term profits.

Link with public governance

Corporate governance matters for civil servants because:

• They regulate companies – SEBI, RBI, MCA, CCI, pollution boards.
• They manage public sector undertakings (PSUs), which follow DPE guidelines on corporate governance.
• They deal with companies in procurement and PPPs, where conflicts of interest arise.
• Regulatory capture and the revolving door must be avoided.

Role and limits of independent directors

Independent directors are meant to be the conscience of the board. They chair or sit on audit, nomination and remuneration committees, approve related-party transactions and protect minority shareholders. In practice, their independence is weakened when they are chosen by promoters, paid by the company and have little time or information. In Satyam, eminent independent directors failed to detect the fraud; several resigned after it surfaced. Reforms since then include stricter definitions of independence, a databank and proficiency test run by the Indian Institute of Corporate Affairs, fixed tenure limits (two terms of five years), and liability only for acts with their knowledge or consent.

Whistle-blowing in companies

The Companies Act, 2013 (Section 177) and SEBI rules require listed companies to have a vigil mechanism for directors and employees to report concerns, with protection against victimisation and direct access to the audit committee chair. Several corporate frauds were exposed by insiders, which shows the value of safe reporting channels.

Public sector undertakings

Central PSUs follow the Department of Public Enterprises (DPE) guidelines on corporate governance (2010) and SEBI rules if listed. Special issues include government as majority owner and regulator at the same time, political interference in appointments and pricing, and the dual objective of profit and social goals. Memoranda of Understanding between ministries and PSUs try to balance autonomy and accountability.

Worked example

A pharmaceutical company finds that a batch of its cough syrup sent to an export market may be contaminated. Recalling it will cost crores and hurt reputation. Shareholder logic might suggest quiet handling; stakeholder and Kantian logic demand an immediate recall, informing regulators and buyers, and investigating the cause. Deaths of children in some countries linked to contaminated syrups (2022–23) show what happens when safety is compromised. Ethical governance chooses the recall – and long-term trust usually rewards it.

Mains practice question

What do you understand by corporate governance? Discuss the role of independent directors and CSR in promoting ethical business in India. (250 words)

Answer framework

• Define (Cadbury); principles: accountability, transparency, fairness, responsibility, independence.
• Theories: shareholder vs stakeholder; Gandhi's trusteeship.
• Indian framework: Clause 49 → Companies Act 2013, LODR 2015, Kotak 2017, BRSR.
• Independent directors: role and limits (Satyam, IL&FS).
• CSR: Section 135; strengths and criticism; ESG.
• Conclude: ethics as long-term value.