TO DO OR NOT TO DO? - SEPARATION OF CHAIRMAN AND CEO ROLES
Corporate Governance is the set of rules and processes by which Corporations are controlled and operated in order to build an environment of transparency and accountability. It is the pillar upon which a company is built. It is imperative that businesses go about doing their operations in line with their objective. Success of a venture is very important as at stake are livelihoods of several people/entities such as shareholders, employees, lenders, suppliers etc., and failure of the company will have a cascading effect on everyone involved and the economy too. Failure of organisations to adhere to sound Corporate governance practises is therefore very important. World over countries have been constantly evolving the laws and regulations concerning Corporate Governance. One such prominent proposal is separating the role of Chairman and CEO/Managing Director. It has been an age old practice in companies to have the same person assigned the role of both the Chairman and CEO. However, this structure has now come to be questioned citing a need for better corporate governance globally. It is witnessed that many companies worldwide have started to adopt the trend of separating these two roles. Companies are under pressure to make such a split not only from regulators, but even from the shareholders of the company.
LEGAL SCENARIO - USA & UK
USA in 2018 has in the span of a year seen a decrease of about 3% in the number of companies that still have the same person in the role of a chairman and CEO[i]. While USA has no statutory provision for such a separation, there are listing rules issued by NYSE and Nasdaq which require for non-management directors to regularly meet in the absence of the management. It also proposed that a lead independent director be hired when board chair is not independent, including when the role is combined with that of the CEO[ii]. This will help in ensuring that there is an independent counter balance to the chair[iii]. The Securities and Exchange Commission adopted rules in 2009 which mandated for companies to disclose the corporate structure followed and also make known if the company has a Lead Independent Director (LID) and clearly highlight the role of LID in the company. Such a disclosure in turn may be capable of attracting the attention of shareholders and creating the possibility of the shareholders to make a proposal for splitting the roles.
Similarly, UK has also witnessed an increase in the number of companies abiding by the split. The Corporate Governance code of UK, while not being a binding statutory provision, provides for such a separation as a proposed guideline in order to promote better governance. Under Section 2 provision 9[iv], it suggests that the roles of Chairman and CEO not be taken up by the same person. The code is applicable to companies with a premium listing of equity shares, however other companies may also choose to adopt the code.
The existing legal framework of India with respect to the said two positions is discussed in the Companies Act, 2013 and SEBI. It categorises CEO as a key managerial personnel under 2 (51) within a company making the position of a CEO a full time role and putting onto them various responsibilities related to the functioning of the company[v]. CEO is defined under 2(18) of the Companies Act and section 203 entails the requirements of appointment of such key managerial personnel’s.
On the other hand, the role of a chairman is not clearly defined by the Companies Act, however post the 2017 amendment of the Act, the Chairman may also be considered as a Key Managerial Personnel by the board[vi]. Section 104 of the Companies Act provides that the appointment of a Chairman must be according to the Articles of association of a company unless specified otherwise. The Chairman is required to preside over every General meeting of the company as the chairperson of the board[vii] and is responsible for the minutes of the meeting regards to what must be included in the minutes of the board meetings[viii], has the power to adjourn meetings[ix] and take decision on objections raised during any voting exercise[x]. He also has the right to cast votes at board as well as committee meetings[xi].
Companies Act, 2013 specifies that a person must not be given the role of a Chairman as well as Executive director (CEO) at the same time[xii]. However this mandate does not apply to companies engaged in multiple businesses and have appointed one or more CEO for each business[xiii].
Many professionals are of the opinion that separation of the two roles within a company may prove beneficial to the corporate governance structure. In 2017, a report by the Uday Kotak Committee was submitted to SEBI with various recommendations and changes proposed in the current corporate governance norms. It emphasised the importance of separating the positions of Chairman and CEO of a company. It claimed that such a move would be beneficial to ensure a better and more balanced governance structure by increasing the supervisory capacity of the management. The committee recommended separation of role in listed companies with more than 40% of shareholding. This brought into force regulation 17(1B) SEBI, (LODR) which specifies that the Chairperson of the board of top 500 equity listed entities would be a non-executive director and not be related to the CEO[xiv] in accordance with the definition of ‘relative’ as per the 2013 Act[xv].
Corporate giants such as Bajaj Auto, TVS motors etc., have broken their silence on this regulation vehemently opposing it. They opined that such a regulation goes against the ethos of the Indian corporate industry since a majority of the businesses run across India are family run and committed to generating wealth which with the introduction of the new regulation, will stand ruined since the mandate is not only for separation of roles, but that the Chairman and CEO not even be related as prescribed by the SEBI regulation[xvi]. The Federation of Indian Chambers of Commerce and Industry also claimed this move to mandate such a split by SEBI to be pointless and addressed a formal letter to the current Finance minister, Hon’ble Nirmala Sitharaman highlighting how the mandate goes against the corporate structure of India and impacts companies in a very personal way since most of the companies are family run businesses.
Subsequently, SEBI via its notification on 10th January, 2020 has pushed the deadline for it proposed separation of roles requirement to 2022 giving greater time for the corporations to make the change. While there is leniency with the implementation time period for the SEBI regulation, there however remains a clear mandate for such a separation to take place.
The need for such a regulation arises due to instances of fraud which have occurred in Indian corporations. A famous instance is of Satyam Computer Ltd., where the founder Mr. Ramalinga Raju was Chairman and CEO of the company which may have aided the fraudulent actions of the top management[xvii]. Similarly, the Kingfisher case is another high profile case from which we can draw similar inferences, where again the positions chairman and CEO roles were closely held within the promoter group[xviii].
NEGATIVES AND POSITIVES OF THE SEPARATION
In summary, separation of these roles has negatives which are overwhelmingly overshadowed by the positives.
The main drawback of making such a separation may be that the enhanced performance of the board may reduce. An independent chairperson may be deprived of the intricate knowledge of the company as that which may be employed by the CEO cum Chairman. Also the separation may lead to duplication of hard work and may prevent timely and appropriate decisions due to division of the top roles.
On the positive side the role of the Chairman is governing the board of directors, committees and meetings of the company and assessing the job done by the CEO and his/her team. If the Chairman is also the CEO, there is a conflict as the Chairman cannot be expected to vote over his own work or say even a salary increase.
When the CEO, being the leader of the management, is also the Chairman, who is the leader of the board, it may pose to be a challenge in carrying out the responsibilities of the two roles fairly and there is a possibility of faulty time management by the individual leading to not being able to dedicate adequate time and expertise the role requires under each position assumed.
Further giving an individual so much power within the company may lead to a power play and increase the chances of the individual not discharging their duties and responsibilities in the best interest of the company. A dual role may leave the company vulnerable to fraud or misuse of power in absence of proper checks and balances. The main role of the board is to ensure the smooth functioning of the company and to make sure its abiding by the mandates of the company and shareholders. The job of the CEO is to head these very operations. Now if the same person (Chairman) is going to head the meeting to analyse his own functioning (CEO) it becomes difficult to bring up all the issues and limits the effectiveness of the audit committees.
Further the independence of the audit committee is also of prime importance which gets enhanced when they report to the board and not the CEO. If the chairman and CEO is the same person, then reporting freely to a member of the management i.e. CEO reduces its effectiveness. Thus a distinction of the roles will help as the employees and other related individuals maybe more open to reporting fraud when the board is not led by management, thus there being lesser risk of reprisal.
[i] Mengqi Sun, More Us Companies Separating Chief Executive and Chairman Roles, The WSJ, January 23, 2019. [ii] Marion Plouhinec, The Role of the Lead Independent Director, Harvard Law School Forum on Corporate Governance 25 November, 2018. [iii] Id [iv] UK Corporate Governance Code 2018, Section 2 provision 9 [v] Companies Act 2013, section (51) [vi] Id, section 2(51)v [vii] Id, schedule-1, table F, clause 45 [viii] Id, section 118(6) [ix] Id, Schedule-1, Table F, Clause 49 [x] Id, Schedule-1, Table F, Clause 56 [xi] Id, Schedule-1, Table F, Clause 73 [xii] Id, section 203 [xiii] Id, Section 203(1)b [xiv] securities and exchange board of India (Listing obligation and disclosure requirements) regulation 2015, clause 17(1b) [xv] Id, Section 2(77) [xvi] supra note 14 [xvii] National judicial academy India, Corporate accounting fraud: A case study of Satyam Computers Limited http://www.nja.nic.in/P-948_Reading_Material/P-948_Audit_of_Fraud_in_economic_crimes/ACCOUNTING%20FRAUD.pdf [xviii] Kingfisher Airlines Limited, ‘Annual Report 2011-2012’, pg-7