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Satyam FiascoCorporate governance case study

EMBA – Al Akhawayn University

Mohammed Achraf El Jazzar

11/01/2012



Corporate governance case study: SATYAM FIASCO

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Introduction

The case addresses the corporate governance problems at the India based ITservices company, Satyam Computer Services.

In December 2008, Satyam announced acquisition of two companies -

Maytas Properties and Maytas Infrastructure owned by the family members

of Satyam's founder and Chairman Ramalinga Raju (Raju). However, the

operation was introverted within 12 hours by some institutional investors

and the stock markets.

Even after the deal was aborted, the stakeholders have raised questions to the

company's board, especially the independent directors, on the reasons for

approving this transaction since it was a related party transaction.

In early January 2009, CEO Ramalinga Raju revealed that the revenue andprofit figures of Satyam had been inflated for past several years. That has

caused the famous fiasco of Satyam and the biggest fraud in India's

corporate history.

In the present paper, we aim to raise and analyze the corporate governance

issues leading to Satyam fiasco, especially the role of independent directors.




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Corporate Governance issue at Satyam arose because of non fulfillment of

Fiduciary duties of the Board towards the shareholders. It proved a poor useof the company information by the independent directors and their

complicity with the company promoters.

Board Composition

Securities and Exchange Board of India (SEBI) gives a definition of the

board, for listed companies, on the clause 49 of the listing agreement.

According to it, “the Board of directors of a company shall have an optimum

combination of executive and non-executive directors with not less than fifty

percent of the board of directors comprising of non-executive directors”.

From the case, we notice that Satyam had 70% of the board of directors

comprising of independent directors. It is more than what is recommended in

the clause 49 in case where the chairman is executive directors (50% of non-executive directors).

By having this number of independent directors, Satyam’s promoters were

sending a message to the market about excellence in practices of corporate

governance.




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Board Remuneration

According to the SEBI listing agreement, the remuneration of non-executive

directors shall be decided by the board of directors.

At Satyam, the remuneration of the Board was distributed in the year 2007-

2008 as following.

Director name Position Salary in Dollar

B.Ramalinga Raju Chairman 114 613

B. Rama Raju Managing Director 83 593Ram Mynampati President 668 116

V P Rama Rao Independent Director 18 965

Mangalam Srinivasan Independent Director 24 275

Krichna G Palepu Independent Director 174 309

Vinod K Dham Independent Director 22 947

M Rammohan Rao Independent Director 25 034

T R Prasad Independent Director 23 769

V S Raju Independent Director 23 959

First, it seems “funny” that Krichna G Palepu has got a level of salary that

exceeds the chairman itself without being involved in any committee in

Satyam. Is that just question of having in the board of the company big

names having a large notoriety in academicals and corporate governance

world?




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Besides that, the reset of independent directors was raking an average

remuneration of $23,158 a year for their whole intervention. That means, in

2008, you can become rich in India just being a Director in the board of 15

listed companies. Being a professor or a lawyer, will you have time to follow

all these responsibilities?

In case of Satyam, the independent directors were no more than followers to

the chairman will. It appeared in the case, “the directors who themselves are

in position of trust, relied upon the advice and information of the promoters

and executive management without suspicion, they did not even ask the

sordid motives behind the activities and projects of the senior management

that caused damage to the shareholders interests”.

The question we have to ask ourselves is “are independent directors truly

independent?” It is difficult to expect an independent director who is

dependent on the Chairman, who has the power of suggesting him to be part

of the board for barely a few days work in a year, act more independentlythan an executive director who earns almost the same amount for working

throughout the year.

Also, taking this function as part-time job, the independent director is not

risking his main income. In the worst case, of losing his position in the

board, he will maintain his main job as professor, lawyer or director in

another organization. However, an executive director is more dependent on

the success of the company because it insures his main income.




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Board Qualifications

Satyam had high profile independent directors. Two of the independents are

distinguished academics, and one an acclaimed authority on corporategovernance. Once again big names or rewards are not always guarantee for

good corporate governance.

In the selection of independent directors we must not look simply for high

profile names. The issue is not of lending name but having someone with an

independent state of mind. An independent director without the good ethics

to act on behalf of shareholders interest can be worse than an executive

director.

Again, from the information published to the shareholders about the board

composition, the shareholders should not look only to the qualifications of

the members but also their rotation. A member of the board, who benefit

permanently from a renewable appointment, should not be perceived only as

a competent man, but he should be suspected by the shareholders, whatever

he is independent or executive.

Board Duties and ethics

The independent directors (non- executive) are expected to function on

behalf of the shareholders and investors to protect their interests. Their

duties fall under two basic fiduciary duties: the duty of loyalty to the

shareholders and the duty of care in approving any proposals of the

management of a firm.




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Had the independent directors in Satyam neglected the true spirit of their

fiduciary duty?

Yes, I believe that the derelict of independent directors to their fiduciaryduty is the main reason of this scam. Thanks to the Shareholder activism,

without which the biggest corporate governance fiasco in India would not

have had surfaced even till date.

When the promoters decided to acquire the two Maytas firms, the

independent directors had to act with extra care to analyze the proposal and

raise the conflict-of-interest, in spite of at least asking for the review of the

proposal by Ramalinga Raju. They should act with diligence when

approving such deal of an amount of $1.6 billion, and notice that Raju plans

to acquire two companies that belong to his own family.

Raju and his family had nearly 38% stake in the Maytas firm, to be acquired,

and they have only 8.6% in Satyam. The independent directors were

expected to go on these details carefully.

The Maytas deal raised shareholders doubts over Satyam’s interest to enter

into transportation and infrastructure segments, particularly at a time when

these segments were facing the devastating effect of the global financial

meltdown. The independent directors were expected to search for this

information and act accordingly before the shareholders raise themselves

doubts over the deal.

As result of this analysis, the lesson to be learned is that independent

directors should not underestimate their role in the company. In fact, they




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have a big and sensitive responsibility toward the shareholders, the

employees and the nation as a whole.

Conclusion and Recommendations

Satyam was India’s fourth largest company in India’s IT industry, offering a

variety of IT services to many types of businesses- but hiding one the

biggest scam in the Indian corporate governance history. The scandal all

came to light with an activism on the part of shareholders to prevent an

attempt by the minority shareholding promoters to use the firm’s cash

reserves for personal interest with the approval of the company independent

directors.

From the information given in the case and through our analysis above, we

can conclude that the main reason of Satyam fiasco is the derelict of

independent directors to their fiduciary duty toward the shareholders.

When raising recommendations, we should notice first that Satyam has madein place the main visible basics of good corporate governance:

- 70% of board members are independent directors,

- Good remuneration for the board members,

- Big names from prestigious universities,

- Price Waterhouse Coopers as auditors.

However, no of these indicators was guarantee to prevent the scam. The case

shows that the rewards, recognition for following the best practices in

corporate governance by themselves are not a relevant way to prove the

Board commitment to fulfill its duties. Just before the fiasco, Satyam was




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rewarded by the Golden Peacock Award for Excellence on the corporate

governance practice.

The case of Satyam computers was a lesson to investors, in India andworldwide, that lead to several recommendations:

- The executives should be held accountable for the damage caused to the

shareholders, the employees and the nation reputation.

- Regulatory authorities like the SEBI need to be more aggressive in their

monitoring actions, special officers should be appointed to analyze the

suspected and big transactions.

- Penalties and punishment should be applies to the independent directors

- Clause 49 should provide a maximum number of boards where one

independent director can be appointed in the same time, rotation of the

independent directors should be imposed in the clause.

By way of conclusion, we notice that corporate governance principals are

integral to its long-term sustainability; they provide the key long-term

success to the shareholders, employees and the nation as a whole. However,

since the ethics are related to human state of mind, the stakeholders should

remain vigilant and take the preventive actions to protect themselves.

case study satyam el jazzar

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