Colonial legacy: Corporate control is a 200-year-old problem in India

Nearly two hundred years ago, India made a unique contribution to the annals of corporate governance by inventing management agencies, a system of separating control and ownership that was very different from the executive-led corporation that would later emerge in the US. These were typically British partnerships that, with little capital of their own, ran everything from jute mills and cotton mills to tea gardens and coal mines on behalf of their owners, who were often wealthy Indians.

Under colonial rule, the agency system spread to other parts of Asia. For much of the 19th century, Jardine Matheson Holdings Ltd., one of the “hongs” that created modern-day Hong Kong, charged companies commissions for sixteen different services, from shipping, insurance and debt settlement to managing their estates. Over time, Jardine began to exercise effective control over industrial companies in China.

Many of today’s Indian conglomerates also started this way. In 1958, more than a decade after the departure of the British rulers, the Tata Group had nine agencies managing sixty companies. The Birla Group had 13, operating 46 businesses. Most officers had “very few resources of any kind.”

Now the agencies of yesteryear are defunct. India banned them in 1970. The management of public limited companies is in the hands of boards of directors. Yet the remnants of the old system continue to thrive in a new tyrannical avatar: the corporate promoter. Minority investors are as dependent on the mercy of their new overlords as they are on managing agents who packed the board with family and friends and ran roughshod over other investors.

A promoter is usually not a legal term, but a business term, a way of describing those who set the machinery in motion for the creation of a company. However, in India, both the Companies Act and the Securities Act define promoters – usually founders – very specifically. They are persons who ‘exercise control’, or in accordance with ‘whose advice, directions or instructions’ the board of directors ‘is accustomed to act’. The promoters are listed in the annual returns and must own at least 20 percent of the capital post-public issue.

Take Subhash Chandra, the media mogul who brought satellite television to India in the early 1990s. Today, the founder of Zee Entertainment Enterprises Ltd. controls. its own network, a listed company, with only a 3.99 percent stake held by the family. Recently, Sony Group Corp.’s Indian division canceled. a $10 billion merger with Zee. The Japanese were reluctant to appoint Punit Goenka, Chandra’s son and CEO of Zee, as CEO of the combined entity. The father-son duo is being investigated by the market regulator for siphoning off money. In six years, Zee has lost three-quarters of its nearly $9 billion value, and yet the board remains under Chandra’s spell. After all, he is the promoter.

But problematic promoters are rarely part of the solution. Shivinder Singh and Malvinder Singh, heirs to an empire that included India’s No. 1 drugmaker and later India’s second-largest hospital chain, lost their business and went to prison. By 2020, when Religare Enterprises Ltd., their financial services holding company, asked the stock exchanges to release the brothers as promoters, the company had lost 96 percent of its 2011 value.

By Tesla Inc.’s pay package. to invalidate Elon Musk’s $55 billion worth, a US court has given a taste of the zeitgeist: even iconic entrepreneurs can’t have everything. In the Indian family business environment, the first step towards protecting public shareholders may be to recognize the power of the promoters. The second could be to let them manage while outsourcing the governance to onboard service providers, a new idea put forward by a number of legal scholars. The agency system outsourced management, while weak boards were responsible for governance. It’s time to go the other way. Unlike independent directors who are easily swayed by overbearing promoters, an outside franchise will have a reputation to protect. That won’t always stop a professional management firm from misbehaving, but it can still be an improvement over what currently exists.

Management agencies used to charge fees to their affiliates. The commission of 3/8 cents per pound of yarn is now a thing of the past. Or maybe not. In 2019, Rakesh Gangwal, the US-based promoter of IndiGo, India’s No. 1 airline, complained to the securities regulator that Rahul Bhatia, his India-based counterpart, had “built an ecosystem of other companies that would take on dozens of related businesses.” . transactions between parties with IndiGo.” Bhatia argued that these relationships – from crew accommodations to flight simulator training for pilots and ticketing – had all been made public. The feud ended in 2022: Gangwal left the board and decided to dilute his stake.

Lately it’s the short sellers who are questioning the more prominent promoters. Early last year, New York-based Hindenburg Research accused Indian infrastructure magnate Gautam Adani of using PMC Projects Pvt., a construction company controlled by a Taiwanese family, “to drain money from Adani Group’s listed entities.” The conglomerate, whose flagship company is promoted by brothers Gautam and Rajesh Adani, denied the allegation. However, a few months later, Deloitte raised red flags about payments made by Adani’s port authority to Howe Engineering Projects (India) Pvt., which now comprises PMC’s core business. The accounting firm resigned as auditor in August because there was insufficient supervision of the conglomerate’s accounts. Adani claims that neither PMC nor Howe are associated with it.

Investors have moved on, with Adani shares in the Ports up more than 150 percent from their post-Hindenburg lows. But the story was about more than just stock prices. At its core, it was about the meteoric rise of a businessman considered close to Prime Minister Narendra Modi. Management agencies also cooperated with the then government. Martin Burn, an Anglo-Indian company, managed several crucial water and electricity companies. Their politics, however, were more nuanced. Some – like Ghanshyam Das Birla – were key facilitators of the Indian freedom movement.

Today’s promoters have chosen their fate for Modi. They are trying to be part of the national team, with about a hundred private jets showing up at the recent inauguration of a Hindu temple presided over by the strongman leader. How long this alignment lasts, which promoter benefits, and what it means for minority shareholders may be a topic for future historians.

Disclaimer: This is a Bloomberg opinion piece and these are the personal opinions of the writer. They do not reflect the views of www.business-standard.com or the Business Standard newspaper

First print: February 5, 2024 | 7:34 am IST