Governance failure

IL&FS directors erred in their fiduciary duties

The government’s use of the Companies Act to reform the board of the troubled shadow banker Infrastructure Leasing & Financial Services (IL&FS) has caused some of the former members of the board to speak out about the company’s troubles. Independent directors have argued that, while they were aware of IL&FS’ financing troubles, they were unable to act on them because of the attitude of the directors nominated on behalf of major shareholders. IL&FS’ shareholders include the Life Insurance Corporation of India (LIC), which owns just over a quarter of the company, and a major Japanese investment corporation. The State Bank of India, Central Bank of India, and the Abu Dhabi sovereign fund also have representatives on the board. The independent directors complain that, for example, a takeover attempt that would have addressed some of the funds crunch faced by IL&FS was rejected by some nominee directors because the offer was not believed to be good enough when tested against LIC’s internal valuations. The company’s funding problem had become acute when a tranche of 10-year loans was not renewed, forcing it to instead take on short-term debt that intensified an asset-liability mismatch.

The truth is that the independent directors’ attempt at self-exculpating, in fact, reflects somewhat poorly on their choices. If indeed they were aware of the situation within IL&FS, and were being blocked from doing what was right for the company by the nominee directors, then they should have chosen to resign instead of staying on. This would have served their fiduciary duty as spelt out in the code governing corporate governance. Major questions will be raised if these concerns were not at least recorded in the boards’ minutes as gravely as the independent directors now represent them to have been. It appears that this is just another example of how independent directors in India Inc have largely failed to live up to their responsibilities as set out in the code. What, for example, were the IL&FS independent directors doing when the risk management committee never met in the last two years? Too often, India Inc's independent directors have allowed themselves to be led along by the nominees of promoters or large shareholders and not shown the moral courage to resist. The actions of the board members of ICICI Bank and of Fortis Healthcare, prior to the recent crises, in those organisations are other examples of this trend. This behaviour raises doubts about the role of independent directors. They need to take their fiduciary duties more seriously.

However, if the independent directors are correct, then even more serious questions must be asked of the nominee directors. How have they served their shareholders well if it turns out that equity will be diluted even more than was the case earlier? In this context, the decision to keep on the nominee directors alongside the new government nominees to the board is inexplicable. After the crisis IL&FS faced, a completely new start would have been advisable. Most importantly, questions must be asked about LIC’s role in the problems. The insurer is a major player in corporate India, and the markets deserve to know if it is playing its part responsibly. It does not seem to have done so in this instance, and had better respond to this concern expeditiously.