Chapter 8
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Corporate Ethics: Investors' Rights, Privileges,
Problems and Protection
Business Ethics, 3e Author: A C Fernando
Introduction
• ‘agency’ problem causes the investor the ‘agency costs’ that can be minimized
if the management follows certain ethical and corporate governance practices
such as integrity, transparency, full disclosure of financial and non-financial
information, accountability and compliance with the law of the land.
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• Apart from these, the investor needs to be protected in a myriad ways.
• To realize such an investor protection, countries have evolved rules, regulations,
systems and mechanisms—both internal (to the company) and external.
Ethical governance needed to protect
stakeholders
• Corporate governance is needed to create a corporate culture of
consciousness, transparency and openness. It refers to a combination of
laws, rules, regulations, procedures and voluntary practices to enable
companies to maximize shareholders’ long-term value.
Business Ethics, 3e Author: A C Fernando
Rights of shareholders
The shareholder
•has a right to obtain copies of the Memorandum of Association, Articles of Association and certain
resolutions and agreements on request on payment of prescribed fees (Section 39);
•has a right to have the certificate of shares held by him or her within three months of the allotment;
•has a right to transfer his/her shares or other interests in the company subject to the manner provided by
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the articles of the company;
•has a right to appeal to the Company Law Board if the company refuses or fails to register the transfer of
shares;
•has the preferential right to purchase shares on a pro-rata basis in case of a further issue of shares by the
company. Moreover, he or she also has the right of renouncing all or any of the shares in favour of any other
person;
•has a right to apply to the Company Law Board for the rectification of the register of members;
•has the right to apply to the court to have any variation or abrogation to his or her rights set aside by the
court;
•has the right to inspect the register and the index of members, annual returns, register of charges, and
register of investments not held by the company in its own name without any charge. He or she can also
take extracts from any of them;
•is entitled to receive notices of general meetings and to attend such meetings and vote thereat either in
person or by proxy;
•is entitled to receive a copy of the statutory report;
•is entitled to receive copies of the annual report of the directors, annual accounts and auditors’ report;
Business Ethics, 3e Author: A C Fernando
Rights of shareholders (contd…)
• has the right to participate in the appointment of auditors and the election of directors at the
annual general meeting of the company;
• has a right to make an application to the Company Law Board for calling annual general
meeting if the company fails to call such a meeting within the prescribed time limits;
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• can require the directors to convene an extraordinary general meeting by presenting a proper
requisition as per the provisions of the Act and hold such a meeting on refusal;
• can make an application to the Company Law Board for convening an extraordinary general
meeting of the company where it is impracticable to call such a meeting either by the directors
or by the members themselves;
• is entitled to inspect and obtain copies of minutes of proceedings of general meetings;
• has a right to participate in declaration of dividends and receive his or her dividends duly;
• has a right to demand poll;
• has a right to apply to the Company Law Board for investigation of the affairs of the company;
• has the right to remove a director before the expiry of the term of his or her office;
• has a right to make an application to the Company Law Board for relief in case of oppression
and mismanagement;
• can make a petition to the High Court for winding-up of the company under certain
circumstances;
• has a right to participate in passing of a special resolution that the company be wound up, by
the court or voluntarily; and
• has a right to participate in the surplus assets of the company, if any, on its winding-up.
Business Ethics, 3e Author: A C Fernando
Views of various committees on the issue
• Several committees have been formed by the Government of India. Among these
are the Securities and Exchange Board of India (SEBI), the country’s capital
market regulator and the Confederation of Indian Industry (CII) the leading
industry association.
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CII's committee on corporate governance
The objective of the CII was to develop and promote a code of corporate governance
to be adopted and followed by Indian companies, be these in the private sector,
banks or financial institutions, all of which are corporate entities.
This code required listed companies to give the following information under
‘Additional Shareholder’s Information’:
•high and low monthly averages of share prices in a major stock exchange where the
company is listed for the reporting year; and
•greater details on business segments up to 10 per cent of turnover, giving share in
sales revenue, review of operations, analysis of markets and future prospects.
Business Ethics, 3e Author: A C Fernando
Kumar Mangalam Birla Committee
On 7 May 1999, it constituted an 18-member committee, chaired by the young and
forward-looking industrialist, Kumar Mangalam Birla (a chartered accountant himself),
on corporate governance, mainly with a view to protecting the investors’ interests.
The committee made 25 recommendations, 19 of them ‘mandatory’, which were
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enforceable. The listed companies were obliged to comply with these on account of
the contractual obligation arising out of the listing agreement with stock exchanges.
Responsibilities of shareholders
In order to ensure the quality and efficiency of directors and auditors, share holders
must be actively involved in their appointment. The committee recommended that in
case of the appointment of a new director or re-appointment of a director,
shareholders must be provided with the following information:
•a brief resume of the director;
•the person’s expertise in specific functional areas; and
•names of companies in which the person also holds directorship and membership of
committees of the board. This is a mandatory recommendation.
Business Ethics, 3e Author: A C Fernando
Shareholders’ rights
• The committee, therefore, recommended that as shareholders have a right to
participate in, and be sufficiently informed on decisions concerning
fundamental corporate changes.
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• The committee recommended further that information such as quarterly
results and presentations made by companies to analysts may be put on the
company Web site or sent in such a form to the stock exchange on which the
company is listed, to put this information on its Web site.
• The committee also recommended that the company’s half-yearly
declaration of financial performance including summary of significant events
in the last six months, should be sent to each household of shareholders. This
recommendation is mandatory.
• The Kumar Mangalam Birla committee also prescribed that a company must
have appropriate systems in place, which will enable shareholders to
participate effectively and vote in shareholders’ meetings. The company
should also keep shareholders informed of the rules and voting procedures,
which govern the general shareholder meetings. This recommendation is
mandatory.
Business Ethics, 3e Author: A C Fernando
Shareholders’ rights (contd….)
• The annual general meetings of the company should not be deliberately held at
inconvenient venues or at timings which makes it difficult for most of the
shareholders to attend. The company must also ensure that it is not
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inconvenient or expensive for shareholders to cast their votes. This
recommendation is mandatory.
• The committee recommended that a board committee under the chairmanship
of a non-executive director should be formed to specifically look into the
redressal of shareholder complaints such as transfer of shares, non-receipt of
balance sheet, non-receipt of declared dividends, etc. The committee believed
that the formation of such a committee will help focus the attention of the
company on shareholders’ grievances and sensitize the management to the
redressal of their grievances. This is a mandatory recommendation.
• The committee further recommended that to expedite the process of share
transfers, the board of the company should delegate the power of share
transfer to the registrars and share transfer agents. This is a mandatory
recommendation.
Business Ethics, 3e Author: A C Fernando
Naresh Chandra Committee
Two major issues the committee addressed and made appropriate
recommendations Were
•representation of independent directors on a company’s board; and
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•the composition of the audit committee.
The committee has further recommended
•tightening of the noose around auditors by asking them to make an array of
disclosures;
•asking the chief executive officers (CEOs) and chief financial officers (CFOs) of
all listed companies to certify their companies’ annual accounts, besides
suggesting; and
•setting up of quality review boards for the Institute of Chartered Accountants of
India (ICAI), the Institute of Company Secretaries of India (ICSI) and the Institute
of Cost and Works Accountants of India, (ICWA) and a Public Oversight Board
similar to the one in the United States.
Business Ethics, 3e Author: A C Fernando
Narayana Murthy Committee
• In case of appointment of a new director or reappointment of a director, the
shareholders must be provided with the following information:
(a) a brief resume of the director;
(b) nature of his or her expertise in specific functional areas; and
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(c) names of companies in which the person also holds the directorship and the
membership of committees of the board.
• Information like quarterly result and presentations made by companies to analysts
shall be put on the company’s Web site or shall be sent in such a form to the stock
exchange on which the company is listed to put this on their own Web site.
• A board committee under the chairmanship of a non-executive director shall be
formed to specifically look into the redressal of shareholder and investors
complaints such as transfer of shares, non-receipt of balance sheet, declared
dividends, etc. This committee shall be designated as ‘Shareholders/Investors
Grievance Committee’.
• To expedite the process of share transfers the board of directors shall delegate the
power of share transfer to an officer or a committee or to the registrar and share
transfer agents. The delegated authority shall attend to share transfer formalities
at least once in a fortnight.
Business Ethics, 3e Author: A C Fernando
Shareholders’ rights and postal ballots
Key issues that may be decided by postal ballots could include
•alteration in the memorandum of association;
•sale of whole or substantially the whole of the undertaking;
•sale of substantial investments in the company;
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•making a further issue of shares through preferential allotment or private placement basis;
•corporate restructuring;
•entering into a new business not germane to the existing business of the company;
•variations in rights attached to class of securities; and
•matters relating to change in management.
Power to shareholders
The main thrust of the committee’s recommendations was to give full liberty to the
shareholders and owners of the company to operate in a transparent manner. The
committee calls for a significant shift from a government approval regime to a ‘shareholder
approval and disclosures’ regime. The report thus gives more power to shareholders,
allowing them rather than the company law administration to decide on certain crucial
matters.
Business Ethics, 3e Author: A C Fernando
Dr J. J. Irani committee report on company law,
2005
The Government of India constituted an expert committee on
Company Law on 2 December 2004 under the chairmanship of Dr J.
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J. Irani to make recommendations on (i) responses received from
various stakeholders on the concept paper; (ii) issues arising from
the revision of the Companies Act, 1956; (iii) bringing about
compactness by reducing the size of the act and removing
redundant provisions; (iv) enabling essay and unambiguous
interpretation by recasting the provisions of the law; (v) providing
greater flexibility in rule making to enable timely response to ever-
evolving business models; (vi) protecting the interests of the
stakeholders and investors, including small investors; and (vii) any
other related, or incidental, to the above.
Business Ethics, 3e Author: A C Fernando
SEBI‘s guidelines for investors
Rights of a shareholder, as an individual
•To receive the share certificates on allotment or transfer as the case may be in due time.
•To receive copies of the Annual Report, the Balance Sheet and the Profit & Loss Account
and the Auditors’ Report.
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•To participate and vote in general meetings either personally or through proxies.
•To receive dividends in due time once approved in general meetings
•To receive corporate benefits such as rights, bonus, etc., once approved.
•To apply to Company Law Board (CLB) to call or direct the Annual General Meeting.
•To inspect the minute books of the general meetings and to receive copies thereof.
•To proceed against the company by way of civil or criminal proceedings.
•To apply for the winding-up of the company.
•To receive the residual proceeds.
As a debenture-holder, one has the right
•To receive interest/redemption in due time.
•To receive a copy of the trust deed on request.
•To apply for winding-up of the company if the company fails to pay its debt.
•To approach the debenture trustee with the debenture holder’s grievance.
Business Ethics, 3e Author: A C Fernando
SEBI's guidelines for investors (contd….)
Shareholders’ responsibilities
•To remain informed.
•To be vigilant.
•To participate and vote in general meetings.
•To exercise one’s rights on one’s own, or as a group.
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Trading of securities
•A shareholder has the right to sell securities that he/she holds at a price and time that he/she may choose.
He/she can do so personally with another person or through a recognized stock exchange. Similarly, he/she
has the right to buy securities from anyone or through a recognized stock exchange at a mutually
acceptable price and time.
•Whether it is a sale or purchase of securities effected directly by him or through an exchange, all trades
should be executed by a valid, duly completed and stamped transfer deed.
Transfer of securities
•Transfer of securities means that the company has recorded in its books a change in the title of ownership
of the securities effected either privately or through an exchange transaction. To effect a transfer, the
securities should be sent to the company along with a valid, duly executed and stamped transfer deed duly
signed by or on behalf of the transferor (seller) and transferee (buyer).
•On receipt of the investors’ request for transfer, the company proceeds to transfer the securities as per
the provisions of the law. In case it cannot effect the transfer, the company returns the securities giving
details of the grounds under which the transfer could not be effected. This is known as ‘Company
Objection’.
Business Ethics, 3e Author: A C Fernando
SEBI's guidelines for investors (contd….)
Depository and dematerialization
Depository System provides the following advantages to an investor:
•His/her shares cannot be lost or stolen or mutilated.
•He/she never needs to doubt the genuineness of his/her shares, i.e., whether they are
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forged or fake.
•Share transactions such as transfer, transmission, etc., can be effected immediately.
•Transaction costs are lower than on the physical segment.
•There is no risk of bad delivery.
•Bonus/Rights shares allotted to the investor will be immediately credited to his/her
account.
•He/she will receive the statement of accounts of his/her transactions/holdings periodically.
When a shareholder decides to have his/her shares in electronic form, he/she should
approach a Depository Participant (DP) who is an agent of the depository and open an
account. He/she should surrender his/her share certificates in physical form and his/her DP
will arrange to get them sent to and verified by the company and on confirmation credit
his/her account with an equivalent number of shares. This process is known as
demateralization. One can always reverse this process if one so desires and get his/her
shares reconverted into paper form. This reverse process is known as ‘re-materialization’.
Business Ethics, 3e Author: A C Fernando
Definition of investor protection
• the extent of the laws that protect investors’ rights; and
• the strength of the legal institutions that facilitate law enforcement.
Relationship between investor protection and
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corporate governance
• ‘Corporate Governance is to a large extent a set of mechanisms through which outside
investors protect themselves against expropriation by the insiders”.
• The core substance of corporate governance lies in designing and putting in place
mechanisms such as disclosures, monitoring, oversight and corrective systems that we
can align the objectives of the two sets of players (investors and managers) as closely
as possible and minimize the agency problems.
Rights to information and other rights
Investor protection is not attainable without adequate and reliable corporate information.
All outside investors, whether they are shareholders or investors have an inalienable right
to have certain corporate information. In fact, several other rights provided to them under
the law cannot be exercised by shareholders unless companies in which they have invested
disclose such information.
Business Ethics, 3e Author: A C Fernando
Banks and corporate governance
Financial markets, very vital constituents of economic growth, need some protection
of outside investors, whether by courts, market regulators, government’s agencies or
market participants themselves through voluntary codes or guidelines. There have to
be radical changes in the legal structure, the laws and their effective enforcement.
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Investor protection in India
Due to lack of proper investor protection, the capital market in the country has
experienced a stream of market irregularities and scandals in the 1990s. SEBI itself,
though formed with the primary objective of investor protection, took notice of the
issue seriously only after the Ketan Parikh Scam (2001) and the UTI crisis (1998 and
2001) and has developed sophisticated institutional mechanism and harnessed
computer technology to serve the purpose.
Problems of investors in India
• Against member-brokers of stock exchanges
• Against companies listed for trading on stock exchanges
• Complaints against financial intermediaries
Business Ethics, 3e Author: A C Fernando
N. K. Mitra committee on investor protection
• There is a need for a specific Act to protect investor interest. The Act should
codify, amend and consolidate laws and practices for the purpose of protecting
investors interest in corporate investment;
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• Establishment of a judicial forum and award of compensation for aggrieved
investors;
• Investor Education and Protection Fund which is under the Companies Act should
be shifted to the SEBI Act and be administered by SEBI;
• SEBI should be the only capital market regulator, clothed with the powers of
investigation;
• The regulator, SEBI should require all IPOs to be insured under third party
insurance with differential premium based on the risk study by the insurance
company;
• SEBI Act, 1992, should be amended to provide for statutory standing committees
on investors protection, market operation and standard setting; and
• The Securities Contracts (Regulation) Act, 1956, should be amended to provide for
corporatization and good governance of stock exchanges.
Business Ethics, 3e Author: A C Fernando
Law enforcement for investor protection
• Company level: Disclosure and corporate governance norms.
• Stock brokers level: Self regulating organization of brokers.
• Stock exchanges: Every stock exchange has to have a grievance redressal
mechanism in place as well as an Investor Protection Fund.
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• Regulatory agencies: These include:
Investors’ Grievances and Guidance Division of SEBI
Department of Company Affairs
Department of Economic Affairs
Reserve Bank of India
SEBI's poor performance and suggestions for
improvement
• Poor tackling of price manipulation and insider trading issues
• Poor conviction rate
• Need to enhance its manpower skills
• It should simplify and trim regulations
• It should tone up quality of disclosures
• It should solve issues of IPOs and mutual funds
Business Ethics, 3e Author: A C Fernando
