SEBI’s Framework for listing of Commercial Papers

Munmi Phukon | Principal Manager, Vinod Kothari & Company

corplaw@vinodkothari.com

Introduction

SEBI on 22nd October, 2019 came out with a Circular to provide for the Framework for listing of Commercial Papers (CPs). The Circular is based on the recommendations of the Corporate Bonds & Securitization Advisory Committee (CoBoSAC) chaired by Shri H. R. Khan which was set up for making recommendations to SEBI on developing the market for corporate bonds and securitized debt instruments.

CPs are currently traded in OTC market though settled through the clearing corporations. Evidently, listing of CPs for trading in stock exchanges will enhance the investor participation which will in turn help the issuers to cope up with their short term fund requirements. SEBI’s current move in laying down the Framework is to ensure investor protection keeping in mind a prospective broader market for CPs. The Circular is mostly concerned about making elaborate disclosures at the time of submitting the application for listing and also some disclosures on a continuous basis post listing of the CPs.

As evident from the content of the Circular, some of the disclosure requirements proposed at the time of application for listing of the CPs are same as provided in the format of Letter of Offer as provided in the Operational Guidelines on CPs[1] (Operational Guidelines) prescribed by the Fixed Income Money Market and Derivatives Association of India (FIMMDA). However, there are certain additional requirements which are discussed in this article.

Disclosure requirements at the time of application for listing

Annexure I of the Circular provides for the disclosure requirements which the issuers are required to make at the time of submitting the application and the content of the same is quite elaborative which covers almost every aspect of an issuer. The broad segments of disclosures are as below:

General details of issuer
Under this heading, details such as, name, CIN, PAN, line of business group affiliation will be given. The issuer will also be required to give name of the managing director, CEO, CFO or president as chief executives. The disclosures are same as provided in the Operational Guidelines.

Details of directors
Details of current set of directors including inter alia their list of directorships and the details of any change in directors in the last 3 financial years and the current year shall be required to be disclosed.  Currently, the Operational Guidelines do not require these details.

Details of auditors
Details of current auditor and any change in directors in the last 3 financial years and the current year shall be required to be disclosed. Currently, the Operational Guidelines do not require these details.

Details of security holders
Under this category, the disclosure shall be made for top 10 equity shareholders, top 10 debt security holders and top 10 CP holders. However, the date of determination of the same has not been provided. Currently, the Operational Guidelines do not require these details.

Details of borrowings as at the end of latest quarter before filing of the application
Details of borrowings are divided into 3 parts-

a.      Details of debt securities and CPs. The Operational Guidelines require the details of CPs issued during last 15 months and also of the outstanding balance as on the date of offer letter.

b.      Details of other facilities such as secured/ unsecured loan facilities/bank fund based facilities, borrowings other than above, if any, including hybrid debt like foreign currency convertible bonds (FCCB), optionally convertible debentures / preference shares from banks or financial institutions or financial creditors. The details related to outstanding debt instruments and bank fund based facilities are same as provided in the Operational Guidelines however, it was silent on the hybrid instruments.

c.      Details of corporate guarantee or letter of comfort along with name of the counterparty on behalf of whom it has been issued, contingent liability including debt service reserve account (DSRA) guarantees/ any put option etc. Operational Guidelines do not require these details currently.

Information related to the concerned issue

The content is more or less similar to the details required to be provided in the Letter of Offer as provided in the Operational Guidelines. The additional requirements are as follows:

d.     Details of credit rating letter issued should not be older than one month on the date of opening of the issue and

e.      Copy of the executed guarantee.

Financial information
The stock exchanges shall be provided with the following financial information-

a.      Audited / Limited review of half yearly consolidated financial statements, if available;

b.      Financial statements along with auditor qualifications, if any, for last 3 years along with latest available financial results;

c.      Latest available quarterly financial results prepared under Regulation 33, if applicable;

d.     Latest audited financials not older than six months from the date of application. However, companies already complying with the Listing Regulations may submit unaudited financials with limited review.

The Operational Guidelines currently require the financial summary only of last 3 FYs to be provided in the letter of offer.

Material information
The following shall be disclosed-

a.      Details of all default/s and/or delay in payments of interest and principal of CPs, (including technical delay), debt securities, term loans, external commercial borrowings and other financial indebtedness including corporate guarantee issued in the past 5 financial years including in the current financial year.

b.      Ongoing and/or outstanding material litigation and regulatory strictures, if any.

c.      Any material event/ development having implications on the financials/credit quality including any material regulatory proceedings against the issuer/ promoters, tax litigations resulting in material liabilities, corporate restructuring event which may affect the issue or the investor’s decision to invest / continue to invest in the CP.

The disclosures in point (a) and (c) above are not required to be disclosed in the letter of offer as per Operational Guidelines.

Asset Liability Management (ALM) disclosures for NBFCs and HFCs

The Circular specifically provides for some additional disclosures for NBFCs and HFCs which are currently not required to be provided in the letter of offer prescribed by FIMMDA:

a.      NBFCs shall make disclosures as specified for NBFCs in SEBI Circular nos. CIR/IMD/DF/ 12 /2014[2], dated June 17, 2014 and CIR/IMD/DF/ 6 /2015, dated September 15, 2015. Further, “Total assets under management”, under the aforesaid Circular dated September 15, 2015 shall also include details of off balance sheet assets.

b.      HFCs shall make disclosures as specified for NBFCs in the said SEBI Circular no. CIR/IMD/DF/ 6 /2015, dated September 15, 2015, with appropriate modifications viz. retail housing loan, loan against property, wholesale loan – developer and others.

In terms of the SEBI Circular dated June 17, 2014, NBFCs are required to disclose the details with regards to the lending done by them, out of the issue proceeds of previous public issues, including details regarding the following:

a.      Lending policy;

b.      Classification of loans/advances given to associates, entities /person relating to Board, Senior Management, Promoters, Others, etc.;

c.      Classification of loans/advances given to according to type of loans, sectors, maturity profile, denomination, geographical classification of borrowers, etc.;

d.      Aggregated exposure to the top 20 borrowers with respect to the concentration of advances, exposures to be disclosed in the manner as prescribed by RBI in its guidelines on Corporate Governance for NBFCs, from time to time;

e.      Details of loans, overdue and classified as non-performing in accordance with RBI guidelines.

The Circular dated September 15, 2015 provides for the following additional disclosures:

a.      In case any of the borrower(s) of the NBFCs form part of the “Group” as defined by RBI, then appropriate disclosures shall be made as regards the name of the borrower, Amount of Advances /exposures to such borrower and Percentage of Exposure;

b.      A portfolio summary with regards to industries/ sectors to which borrowings have been made by NBFCs;

c.      Quantum and percentage of secured vis-à-vis unsecured borrowings made by NBFCs;

d.      Any change in promoter’s holdings in NBFCs during the last financial year beyond a particular threshold (RBI has prescribed such a threshold level at 26% at present).

Continuous disclosures after listing of CPs

Annexure II of the Circular provides for the disclosure requirements which shall be observed on a continuous basis. The details of such disclosures are broadly as below:

a.      Submission of financial results

i.          For issuers which are required to follow Chapter IV of SEBI LODR Regulations i.e. whose specified securities are listed, the financial results shall be in the format as prepared and submitted under Regulation 33. The issuers will also be required to disclose along with the financial results the additional line items as required under Regulation 52(4). This shall also apply to an issuer which is required to prepare financial results for the purpose of consolidated financial results in terms of Regulation 33;

·      The line items as provided under Regulation 52(4) are as below:

o  credit rating and change in credit rating (if any);

o  asset cover available, in case of non- convertible debt securities;

o  debt-equity ratio;

o  previous due date for the payment of interest/ dividend for non-convertible redeemable preference shares/ repayment of principal of non-convertible preference shares /non- convertible debt securities and whether the same has been paid or not; and,

o  next due date for the payment of interest/ dividend of non-convertible preference shares /principal along with the amount of interest/ dividend of non-convertible preference shares payable and the redemption amount;

o  debt service coverage ratio;

o  interest service coverage ratio;

o  outstanding redeemable preference shares (quantity and value);

o  capital redemption reserve/debenture redemption reserve;

o  net worth;

o  net profit after tax;

o  earnings per share:

 ii.          For issuers which are required to comply with provisions of Chapter V of the Regulations only i.e. whose NCDs/ NCPSs are only listed, the financial results shall be prepared and submitted as per regulation 52; and

iii.          Issuers who only have outstanding listed CPs shall prepare and submit financial results in terms of Regulation 52.

 

b.      Disclosure of material events

The issuers shall disclose the following details to the stock exchange(s) as soon as possible but not later than 24 hours from the occurrence of event (or) information:

i.          Details such as expected default/ delay/ default in timely fulfilment of its payment obligations for any of the debt instrument;

ii.          Any action that shall affect adversely, fulfilment of its payment obligations in respect of CPs;

iii.          Any revision in the credit rating;

iv.          A certificate confirming fulfilment of its payment obligations, within 2 days of payment becoming due.

c.      ALM Statements for issuers who are NBFCs/HFCs

NBFCs and HFCs will be required to simultaneously submit to the stock exchanges the latest ALM statements as and when they submit the same to respective regulator(s) viz RBI/NHB, as applicable.

d.     CEO/ CFO Certification

A certificate from the CEO/CFO shall be submitted by the issuers to the recognized stock exchange(s) on quarterly basis certifying that CP proceeds are used for disclosed purposes, and adherence to other listing conditions.

Conclusion

As mentioned above, the disclosure requirements as provided in the Circular are meant for assisting the investors in taking an informed decision. Since the requirements are new, it is expected that apart from the stock exchanges, FIMMDA/ RBI will also come out with the revised Operational Guidelines/ Directions in order to bring more clarity on this aspect.

 

 

 

 

 

 

 

 

 

 

 

[1] http://www.fimmda.org/modules/content/?p=1033
[2] https://www.sebi.gov.in/sebi_data/attachdocs/1403065620622.pdf

Highlights of 2nd Amendment to PIT Regulations

-by Dibisha Mishra

(dibisha@vinodkothari.com ; corplaw@vinodkothari.com)

 

SEBI vide Notification dated 25th July, 2019 further amended the Securities and Exchange Board of India (Prohibition of Insider Trading) Regulations, 2015. The major part of this amendment is to make curative changes in the Regulations, in response to difficulties expressed by the stakeholders. In this regard, VK&Co. also had occasion to make representation to SEBI, a few of which have been brought in via this amendment.

 

Highlights of the SEBI (PIT) (Second Amendment) Regulations, 2019.are as follows:

 

  1. Employees having access to unpublished price sensitive information are to be identified as ‘designated persons’ [DPs]: Keeping the intent of regulating and monitoring trading by such employees, the earlier provision of identifying them as ‘designated employees’ was merely a laxity in drafting since no corresponding duties/obligations were put upon ‘designated employees’ anywhere in the PIT Regulations.
  2. Mandatory closure of trading window from the end of every quarter till 48 hours after the declaration of financial results [the word ‘can’ substituted by ‘shall’]
  3. Permitted transactions by DPs while trading window is closed:

a. off-market inter-se transfer between DPs having possession of the same unpublished price sensitive information where both parties have made informed trade decision;

b. transaction through block-deal mechanism between persons having possession of the same unpublished price sensitive information where both parties have made informed trade decision;

c. arising out of a statutory or regulatory obligation to carry out a bona fide transaction;

d. exercise of stock options in respect of which the exercise price was pre-determined;

e. pursuant to a trading plan;

f. pledge of shares for a bonafide purpose like raising of funds subject to pre-clearance by the compliance office

g. acquisition by conversion of warrants or debentures, subscribing to rights issue, further public issue, preferential allotment or tendering of shares in a buyback offer, open offer, delisting offer: Difficulties were frequently being faced by companies as to whether the trading window bar will apply to corporate actions involving transaction in shares. This amendment makes a clear way out for the same. While only a few corporate actions are listed in the amendment, these should be taken as illustrative rather than exhaustive.

4. In order to qualify as a “material financial relationship”, payment by way of loan or gift should flow from a designated person equivalent to at least 25% of his annual income [excluding payment is based on arm’s length transactions] in last twelve months.

5. Educational institutions from which designated persons have graduated, is to be disclosed to the intermediary or fiduciary on an annual basis and as and when the information changes.

SEBI requires companies to be serious in reporting Insider Trading lapses

Pammy Jaiswal

Partner, Vinod Kothari and Company

corplaw@vinodkothari.com

The listed entities are burdened with the compliance requirements under numerous regulations issued by SEBI including the SEBI (Prohibition of Insider Trading) Regulations, 2015 (‘PIT Regulations’). The said regulations lay down various to dos for the listed companies as well as the designated persons (‘DP’) for the purpose of regulating and prohibiting the insider trading in the securities of the listed company.

SEBI has vide its circular[1] dated 19th July, 2019 laid a format for reporting insider trading lapses thereby forcing all companies to follow a standard reporting format. The existing practice of companies using rather informal and self- generated reporting formats will no longer be available to them.

It is not that insider trading lapses noted by companies are those of profiteering based on Unpublished Price Sensitive Information (UPSI). Most of the noted instances in practice are technical and unintentional breaches of either the trading window closure or contra trading restrictions. Most of these are reported to the audit committee or stakeholder’s relationship committee which typically takes action based on the gravity of the offence. However, reporting to SEBI was done on a rather diminutive manner.

Further, the circular also provides for recording the violations in the digital database maintained by the compliance officer under the PIT Regulations for the purpose of taking appropriate action against the offender. The said circular is effective with immediate effect.

Current Reporting Scenario

The current practice of the corporates for reporting the violation under the code (either for entering into contra-trade within a period of six months or trading during the closure of trading window, etc.) along with the action taken by the entity is diverse. While some companies used to mark a copy of the reprimand to SEBI while sending the same to the concerned DP or their immediate relatives, others used to send a brief of the violation along with the action taken to SEBI depending on the frequency and gravity of the violation so made in accordance with their respective codes.

Revised Reporting

The revised reporting format contains all the required fields for the entity (listed entity, intermediary or fiduciary) to report the violation to SEBI. Following is the summary of details that is mandatory required to be filled up about the entity, the DP or his immediate relative and the violation along with the action taken by the entity:

Information about the entity Information about the DP/ immediate relative Transaction details
·            Name and capacity of the entity.

·            Action taken by the entity.

·            Reasons for the action taken.

·     Name and PAN.

 

·     Designation and functional role of DP.

 

·     Whether a part of the promoter and promoter group or holding CXO position.

 

 

·      Name of the scrip

·      No. and value of shares traded (including pledge)

·      In case trading value exceeds Rs. 10 lakhs date of disclosure made under regulation 7 of the PIT Regulations by both the entity as well as the concerned person.

 

·      Details of violation observed under the PIT Regulations.

 

·      Instances of any violation in the previous financial year.

Concluding Remarks

Evidently, the format contains concrete information about the violation which will place SEBI in a better position to oversee and take on record the instances of violation taking place in the regulated entities. While the current practice had deficiencies in terms of the basic information supplied to SBI, the revised reporting format will take care of the same henceforth.

However, the prompt reporting will be a task for the entities. At the same time, SEBI will now be in receipt of the complete information on the offence and may take strict action against the offender or may even direct the entities to take stricter action in cases where it feels the action taken is not commensurate with the nature and gravity of the violation.

 

Our other resources on SEBI PIT Regulations can be viewed here

[1] https://www.sebi.gov.in/legal/circulars/jul-2019/standardizing-reporting-of-violations-related-to-code-of-conduct-under-sebi-prohibition-of-insider-trading-regulations-2015_43618.html

Distinguishing between Options and Forwards

By Falak Dutta (rajeev@vinodkothari.com)

Ruling of Bombay High Court

The Bombay High Court on March 27, 2019, in the case of Edelweiss Financial Services v. Percept Finserve Pvt. Ltd.[1], ruled out an award passed by a sole arbitrator with respect to a share purchase agreement (SPA). The High Court allowed enforcing of a put option clause to be exercised by Edelweiss, the appellant, to sell back the shares it had acquired from Percept Group, the respondent.

Before delving into the proceedings of the aforesaid case, it is important to understand certain basic concepts, to appreciate the ‘option clause’ in the case. An option is a derivative contract which gives the holder the right but not the obligation to buy (call) or sell (put) the underlying within a stipulated time in exchange for a premium. Options are not just traded on exchanges but are also used in debt instruments (eg. callable and puttable bonds), private equity and venture capital investment covenants. Even insurance is a type of option contract where the insured pays monthly premium in exchange of a monetary claim upon the future occurrence of a contingent event (accident, disease, damage to property etc.).

 

Facts of the case

Edelweiss Financial Services Pvt. Ltd. entered into a share purchase agreement (SPA) dated 8, December, 2007 with the Percept Group where it invested in the shares of Percept Group subject to a condition that the latter shall restructure itself as agreed between the parties followed by an IPO. Under the terms of the SPA, the appellant (Edelweiss) purchased 228,374 shares for a consideration of Rs. 20 crores. One of the conditions in the agreement, required Percept to entirely restructure by 31st December, 2007 and to provide proof of such restructuring. Upon failure of compliance by the respondent, the date was further extended to 30 June, 2008 with obligation to provide documentary evidence of completion by 15th, July 2008. Upon non-fulfillment within the extended date, Edelweiss had the option to re-sell the shares to Percept, where Percept was obligated to purchase the shares at a price which gave the appellant an internal rate of return of 10% on the original purchase price.

As was the case, Percept failed to restructure itself within the stipulated time. Subsequently in view of this breach Edelweiss exercised the put option and Percept was required to buy back the shares for a total consideration of Rs. 22 crores. Since the respondent refused to comply the appellant invoked the arbitration clause in the SPA and a sole arbitrator was appointed to adjudicate the dispute. The arbitrator submitted that despite Percept being in breach of the conditions in the SPA, the petitioner’s claim to exercise the put option was illegal and unenforceable, being in conflict with the Securities Contracts regulation Act (SCRA), 1956. The unenforceability was proposed on two grounds. First, for the clause being a forward contract prohibited under Section 16 of SCRA read with SEBI March 2000 notification, which recognizes only spot delivery transactions to be valid. Secondly these clauses were illegal because they contained an option concerning a future purchase of shares and were thus a derivatives contract not traded on a recognized stock exchange and thus were illegal under Section 18 of SCRA, which deals with derivative trading.

Aggrieved by the arbitrator’s order, Edelweiss challenged it before the Bombay High Court under section 34 of the Arbitration & Conciliation Act, 1996.

 

The Judgement

The Bombay High Court observed the reasoning of the order by the arbitrator and the contentions made by Percept. The said order confirmed the breach caused by Percept, but found the particular clauses of put option in the SPA to be illegal under two grounds as mentioned earlier. The Court divided the judgement along the sections involved.

The first of the arbitrator’s conclusion was found untenable when referred to the judgement in the case of MCX Stock Exchange Ltd. vs. SEBI [2]which deals with such a purchase option as in the present case. The Court observed that the put option clause contained in the SPA cannot be a derivatives contract prohibited by SCRA, because there was no present obligation at all and the obligation arose by reason of a contingency occurring in the future. The contract only came into being upon the following two conditions being met: (i) failure of the condition attributable to Percept (ii) exercise of the option by Edelweiss upon such failure. Whereas a forward contract is an unconditional obligation, the option in the SPA only comes into being when the aforesaid conditions are met. Thus, the arbitrator’s claim of the clause being a forward contract disregards the law stated by the Court in MCX Stock (supra).

Subsequently, respondent (Percept Group) challenged the relevance of the MCX Stock case to the present one. In the MCX Stock Exchange case, upon the exercise of the option the contract would be fulfilled by means of a spot delivery, that is, by immediate settlement. Whereas Edelweiss’s letter by which it exercised the put option required the shares to be re-purchased with immediate effect or before 12 Jan, 2009. This deferral of repurchase upon exercise of the option was not part of the MCX Stock Exchange case’s option clause and hence is not comparable to the present case.

This too was disregarded by the Court on the ground:

“It is submitted that in as much as this exercise of options demands repurchase on or before a future date, it is not a contract excepted by the circular of the SEBI dated 1 March, 2000.

Just because the original vendor of securities is given an option to complete repurchase of securities by a particular date it cannot be said that the contract for repurchase is on any basis other than spot delivery.

There is nothing to suggest that there is any time lag between payment of price and delivery of shares.”

Now, this brings us to the second leg of the arbitrator’s award regarding the illegality and unenforceability of the SPA option on account of breach of Section 18A of SCRA, which deals in derivative trading. The following is an excerpt from Section 18A:

Contracts in derivative. — Notwithstanding anything contained in any other law for the time being in force, contracts in derivative shall be legal and valid if such contracts are—

(a)Traded on a recognized stock exchange;

(b) Settled on the clearing house of the recognized stock exchange. In accordance with the rules and bye-laws of such stock exchange.

The respondent appeals that as the put option was not of a recognized stock exchange, it stands unenforceable and illegal. In response, the court submitted that the contract does contain a put option in securities which the holder may or may not exercise. But the real question is whether such option or its exercise is illegal? The presence of the option does not make it bad or impermissible.

“What the law prohibits is not entering into a call or put option per se; what it prohibits is trading or dealing in such option treating it as a security. Only when it is traded or dealt with, it attracts the embargo of law as a derivative, that is to say, a security derived from an underlying debt or equity instrument.”

There was further cross objections filed by the respondent but it was ruled out under Section 34 of the Arbitration & Conciliation Act, which deals with the application for setting aside arbitral award. Since the provisions of Civil Procedure Code, 1908 are not applicable to the proceedings under Section 34 and the section itself does not make any provision for filing of cross objections, the appeal was ruled out.

Conclusion

This Bombay High Court ruling in favor of Edelweiss provides an important distinction of options, from forward contracts. It highlighted that although both options and forwards are commonly categorized as derivatives, they share an important difference. On one hand, a forward contract contains a contractual obligation to buy or sell, on the other hand, the option gives the holder the right or choice but not the obligation to do the same. Options have always been integral to finance, routinely appearing in corporate covenants and contracts. Options are widely observed in mezzanine financing, private equity, start-up and venture funding among others. Given the Court’s distinction of forwards from options in their very essence and nature, the author believes this ruling is likely to be useful and a point of reference in future derivative litigations.

 

[1]https://bombayhighcourt.nic.in/generatenewauth.php?auth=cGF0aD0uL2RhdGEvanVkZ2VtZW50cy8yMDE5LyZmbmFtZT1PU0FSQlAxNDgxMTMucGRmJnNtZmxhZz1OJnJqdWRkYXRlPSZ1cGxvYWRkdD0wMi8wNC8yMDE5JnNwYXNzcGhyYXNlPTA0MDYxOTEwMDAyOQ==

[2] https://indiankanoon.org/doc/101113552/

Core competencies of Directors: the new disclosure requirement for listed entities

By Munmi Phukon

Principal Manager, Vinod Kothari & Company

munmi@vinodkothari.com

Introduction

How does a person get into the board of directors of a listed entity? Simply because he happens to be a majority shareholder, or the son of the promoter, or a morning-walk friend of the promoter? Or, is it that a listed company is expecting supervisory leadership to come from a body consisting of individuals with diverse skills and competencies? What are those key competences and skill sets required from directors, and which of the company’s directors possess which of these abilities? These are questions that listed entities and their stakeholders might have either not put before themselves, or even if considered, may not have had structured answers to these questions. However, come this year, every listed entity shall give a list of core skills/ expertise/ competencies of the Board members, and come next year, the names of the directors who actually possess such skills/ expertise/ competencies.

In the above para, one is referring to a new provision under Para C of Schedule V pertaining to the contents of corporate governance report which reads as follows:

“C. Corporate Governance Report: The following disclosures shall be made in the section on the corporate governance of the annual report.

XXX

(h) A chart or a matrix setting out the skills/expertise/competence of the board of directors specifying the following:

(i) With effect from the financial year ending March 31, 2019, the list of core skills/expertise/competencies identified by the board of directors as required in the context of its business(es) and sector(s) for it to function effectively and those actually available with the board; and

(ii) With effect from the financial year ended March 31, 2020, the names of directors who have such skills / expertise / competence.

Importance & objectives of having a diverse Board

The importance of a diverse and skilled Board is recognised around the world. It is more than a necessity considering the complex and dynamic business environment. The Board is the set of leaders who provide comprehensive guidance, support and direction to the company towards its success. The objective of having skilled Board is manifold considering the involvement of public money, be it of the public shareholders, lenders or other creditors. Stakeholders are concerned about the attitude of the firm towards corporate governance as a diverse set of individuals collectively known as Board cannot take a casual approach on the management of the firm sitting on the pile of public money. Therefore, it is always required for the NRC to have a clear view as to what is being expected from the directors, what would be the set of skills, competencies, expertise, knowledge etc. that would be possessed by the directors, whether the same is broad based and also, to ensure an effective evaluation mechanism.

What does law require?

Till the amendments in the Listing Regulations coming into force, Regulation 36 required disclosure of the nature of the expertise in specific functional areas of a proposed appointee including a person seeking re-appointment to the shareholders. Further, Rule 5 of the Companies (Appointment and Qualification of Directors) Rules provided the qualification of the independent directors as persons who shall possess appropriate skills, experience and knowledge in one or more fields of finance, law, management, sales, marketing, administration, research, corporate governance, technical operations or other disciplines related to the company’s business.

The new requirement of disclosure has been framed based on the Kotak Committee Recommendations whose rationale was primarily based on the fact that the existing requirement of law was not sufficient to the shareholders for their adequate analysis whether the Board of the company has sufficient mix of diverse expertise/ skill- sets.

The broad parameters[1]

The Board is responsible for shaping the future of the organisation within its fiduciary characteristics. Therefore, identifying the key competencies of the Board members is very much essential to ensure that the qualified persons undertake this cardinal role. Globally, identifying the key competencies of Board members is considered as the step towards a successful Board. Broadly, the parameters for identifying key competencies or skill- set can be categorised as follows:

Industry knowledge/ experience

Having experience in and knowledge of the industry in which the organisation operates is one of the key competencies of a Board member. This is required for achieving the objectives of the organisation while operating effectively, responsibly, legally and sustainably. The Board members are required to demonstrate an understanding of-

  • the relevant laws, rules, regulation policies applicable to the organisation/ industry/ sector and level/ status of compliances thereof by the organisation
  • the best corporate governance practices, relevant governance codes, governance structure, processes and practices followed by the organisation
  • business ethics, ethical policies, codes and practices of the organisation
  • the structures and systems which enable the organisation to effectively identify, asses and manage risks and crises
  • international practice

Technical skills/ experience       

To assist with the ongoing aspects of Board’s role, the members are required to possess technical/ professional skills and specialist knowledge. The directors need to be able to obtain, analyse, interpret and use information effectively to develop plans and take appropriate decisions. In order to assess possession of such skills, the person will be required to have knowledge about-

  • how to interpret financial statements and accounts in order to assess the financial health of an organisation
  • the sources of finance available to an organisation and their related merits and risks
  • how to assess the financial value of an organisation and potential business opportunities
  • importance of information technology in the organisation
  • marketing or other specific skills required for the effective performance of the organisation

Behavioural competencies/ personal attributes

Displaying high standards of conduct, ability to take responsibility for their own performance etc. are some of the behavioural competencies which the directors are required to possess. Interpersonal skills such as good communication skills, relationship building capacity etc. will come under this category. In brief, the following will be sub- sets under this head-

  • Integrity and ethical standards
  • Mentoring abilities
  • Interpersonal relations
  • Managing people and achieving change
  • Curiosity and courage
  • Genuine interest
  • Instinct
  • Active contribution

Strategic expertise 

To create and implement effective strategies, a thorough knowledge of the strategic process is required. The ability to think strategically enables directors to propose ideas, options and plans that take advantage of available opportunities while reflecting a broad and future-oriented perspective. Having an understanding of the need for a clear vision and purpose to guide the strategy, models and methods of strategic analysis, option analysis the factors involved in successful strategy implementation by the directors is required for giving a strategic direction to the organisation. The sub- sets under this head may be as below:

  • Strategic thinking
  • Vision and value creation
  • Strategy Development
  • Strategy implementation and change

Mind- set or attitude

An ethical mind- set demonstrates a high standards of conduct. Further, professional attitude and independent mind- set enables director to provide the challenge and rigour required to help the Board achieve a comprehensive understanding of information and options, as well as high standards of decision-making. The head may be segregated into the following:

  • Ethical
  • Professional
  • Performance oriented
  • Independent
  • Aware of self and others

Other skills

Other skills may include decision making, communication, leadership, influencing, risk oversight, risk management, stakeholder relations etc. Good decision-making skills is required in order to arrive at a course of action in a timely manner that provides a clear direction and moves the organisation forward. Similarly, strong leadership skills enable directors to solve problems, cope up with the crises and change, and inspire others to follow them in pursuit of the values and goals of the organisation. The ability to build good networks and relationships within and beyond the organisation is important for the director to gain influence, have impact and progress organisational goals. The ability to communicate effectively through a variety of modes and channels and with a range of audiences is necessary for directors to work successfully with others and to fulfil their duties on the Board. Directors need to understand how to deliver effective leadership, build good stakeholder relations and develop a strategically aligned and values-based organisational culture in order to achieve good organisational performance. Therefore, the sub- sets hereunder may be-

  • decision making skills
  • communication skills
  • leadership skills
  • influencing
  • risk oversight
  • risk management skills
  • stakeholder relations

Suggestive format of reporting

Broad parameter Specific skills/ expertise/ competency

 

Director 1 Director 2 Director 3
 

 

 

 

 

 

 

 

Industry knowledge & experience

 

 

Understanding of the relevant laws, rules, regulation policies applicable to the organisation/ industry/ sector and level/ status of compliances thereof by the organisation

 

Understanding of the best corporate governance practices, relevant governance codes, governance structure, processes and practices followed by the organisation

 

Understanding of business ethics, ethical policies, codes and practices of the organisation

 

Understanding of the structures and systems which enable the organisation to effectively identify, asses and manage risks and crises

 

Understanding of international practice

 

Conclusion

The amendments require listing out of the key skills/ competencies of the Board as a part of the corporate governance report for FY 18-19. From subsequent FYs, the disclosure will have to be by way of a matrix signifying the directors actually carrying such skills. It is anticipated that such a disclosure will help the shareholders to analyse the diversity of expertise/ skill – sets of the Board. This is believed that disclosure of each of the skills against the directors will make them responsible for each of the skills. Therefore, a director will not be able to escape responsibility with the shield of immunity provided by law which is circumstantial.

 

[1] Source:

  1. https://www.asaecenter.org/resources/articles/foundation/2018/defining-board-competencies
  2. https://www.iod.com/Portals/0/PDFs/IoD%20Competency%20framework.pdf?ver=2017-10-06-135816-827
  3. https://www.effectivegovernance.com.au/services/director-skills-competency-assessment/
  4. https://aicd.companydirectors.com.au/resources/director-tools/practical-tools-for-directors/board-composition/key-competencies-for-directors
  5. https://www.effectivegovernance.com.au/services/director-skills-competency-assessment/