Sarbanes Oxley & Corporate Governance

We all know by now, what forced major legislators worldwide to enforce Sarbanes Oxley Act 2002 and the likes of it the world over. WorldCom, Enron…the names flow. What is Sarbanes Oxley (SOX) and how is it related to corporate governance? Well! SOX is “An act to protect investors by improving accuracy and reliability of corporate disclosures made pursuant to the US Securities laws” and the birth of SOX is the effect of clandestine mis-governance of corporations by the agents (as in Agency Theory).

Simply put, Corporate Governance is a mechanism of having an oversight over the functioning of the Management and to maintain transparency and disclosure norms when communicating with the stakeholders (investors, employees, society etc.). The Structure of the board is designed to constitute Independent Non-Executive Directors who member and chair various committees like the Audit Committee, the Finance Committee, the Nominating Committee etc. to which, respective functional heads directly report and are answerable to. This kind of reporting to an independent authority leads to transparency and disclosure, which otherwise would not have been possible because of the financial or other interests of the organization and also because of the entrenched management.

These independent directors are selected every year at the Annual General Meeting (AGM) by the investors/stock holders themselves, but the major groundwork is done by the Nominating Committee (comprised and chaired by Independent Non-Executive Directors), who scout for, invite professionals from various disciplines for directorship and recommend them to the AGM for election to directorships and also decide on the director’s compensation.

SOX, underlines guidelines as to the composition of such boards, qualification of candidates suitable for such directorships, transparency and disclosure guidelines, and many others. As of today, most of the companies originating in the US and outside companies operating in the US environment strictly adhere to and fall under the purview of the SOX Act.

The truest essence of Corporate Governance is the separations of the chairs of the CEO and the Chairman (Independent). However, this is found to be rare in corporations and rarest in the Indian companies because Indian businesses are predominantly family owned, and the management is entrenched.

In the Indian context, the draft reports of Kumar Mangalam Birla Committee Report, NR Narayana Murty Report and the report by the CII make a good reading and could provide more insights into how Indian Corporate Governance functions.