Corporate Governance

Summary

This booklet reproduces the 15th Bhogilal Leherchand Memorial Lecture, delivered by Adi B. Godrej, Chairman of the Godrej Group, in Mumbai on 8 December 2003 and published in January 2004 by the Forum of Free Enterprise. Writing in the wake of the Enron, Arthur Andersen, Tyco, Global Crossing, Adelphia and Worldcom scandals, Godrej argues that corporate governance is neither a new concept nor a passing management fad: it dates at least to the post-Watergate internal-controls legislation of the 1970s, and the recent spate of malfeasance only makes the case for taking it seriously more urgent. He surveys the institutional history — the Treadway Commission, the Cadbury Code, the Combined Code of the London Stock Exchange, the Blue Ribbon Committee, the OECD Code of 1998 — and in India the Kumar Mangalam Birla, R. H. Patil, M. S. Verma, A. S. Ganguly and Naresh Chandra committees.

Godrej rejects the narrow shareholder-wealth definition associated with Milton Friedman and the World Bank president James Wolfensohn’s broader “fairness, transparency, and accountability” framing in favour of his own: efficient supervision that protects the long-term interests of the company while conforming to laws and ethics. He insists that governance must serve the long-term good of the firm and all stakeholders — employees, vendors, customers, government, society — rather than minority shareholders alone, and that it should be principle-based rather than rule-based, since rules invite loophole-hunting while principles are harder to evade. A recurring warning runs through the lecture: the cure for malfeasance is enforcement of existing law, not the proliferation of new statutes, and over-regulation of process risks becoming what a friend of his calls “weapons of mass distraction”.

The second half illustrates these claims with practices from the 106-year-old Godrej Group. Godrej describes Economic Value Added (EVA) as the principal financial metric, with performance-linked variable remuneration partially held in reserve to encourage long-term thinking; force-ranking of managers; the Red Team / Blue Team / Plum Team bottom-up strategic planning exercise; a rotating Young Executive Board of managers in their late twenties and early thirties; an internal Think Tank; and Chairman’s tea sessions for direct managerial feedback. On the board dimension he highlights Godrej Consumer Products Ltd., where half the directors are independent, board meetings run at least half a day with an annual two-day offsite, and ICRA has assigned a “CGR2” corporate-governance rating and an “SVG2” stakeholder-value rating. He closes by reframing corporate governance as “the ultimate management tool” — a journey, not a destination — and as being “both, about doing things right and doing the right thing”.

Key points

• Corporate governance is not a new concept — it dates to the post-Watergate internal-controls legislation of the 1970s — and not a management fad; the recent spate of US corporate malfeasance (Enron, Arthur Andersen, Tyco, Global Crossing, Adelphia, Worldcom) only sharpens its urgency.

• Godrej rejects Milton Friedman’s narrow shareholder-wealth definition and proposes his own: governance is efficient supervision that protects the long-term interests of the company while conforming to law and ethics, serving all stakeholders rather than minority shareholders alone.

• Governance must be principle-based rather than rule-based because principles are harder to circumvent than rules; the principles he favours are Simple, Moral, Accountable, Responsive and Transparent.

• Enforcement of existing law, not new legislation, is the remedy for malfeasance — “Legislation alone is no panacea, and un-enforced legislation is worse than no legislation” — and over-regulation of process can become “weapons of mass distraction”.

• Markets are the definitive compliance officer: deregulation, disintermediation, institutionalisation, globalisation and tax reforms increasingly empower minority shareholders and discipline errant managers by denying them capital.

• At the Godrej Group, Economic Value Added (EVA) anchors a performance-linked variable remuneration system, with portions held in reserve and modulated by a balanced-scorecard individual performance factor to enforce a long-term horizon.

• Bottom-up HR practices — Red/Blue/Plum strategic teams of young managers, a rotating Young Executive Board, a senior-manager Think Tank, and Chairman’s teas — operationalise the view that employees are the true custodians of the company’s long-term interests.

• Godrej Consumer Products Ltd. — with a board half-composed of independent directors and ICRA’s “CGR2” and “SVG2” ratings — is offered as a working illustration that strong boards inhibit conflicts of interest among accountants, lawyers, analysts, investment bankers and consultants.