From furrows Independent directors in unlisted private limited companies

From furrows: Independent directors in unlisted private limited companies

Most companies in India are promoter-controlled and promoter-managed. Private limited companies are the most prevalent form of formation. Often the promoter and family constitute the board. In this kind of a set up the largest shareholder also holds management reigns and agency problems that arise in investor led companies does not arise. However, as these companies expand, promoter led companies realize a need for formalization of board not so much from regulatory requirements, but more so develop a mechanism to mitigate self-serving interests and bounded rationality problems.  Management realize while there is no shortage of advice on how to run their companies there is a need to seek our professional, unbiased and consistent inputs to improve the way of doing business.  On boarding independent directors is seen as a first step in improving corporate governance in these companies.  Industry knowledge, prior board experience and networks that can open doors is what unlisted companies seek in their independent directors. The expectation of unlisted companies is apart from the code of conduct laid down under the Schedule IV of the Companies Act, 2013, is that an independent director would:

  • Support board for promoting success of the company
  • Engage deeply in developing and sharpening the business goals, strategy and implementation plans
  • Critically review company’s progress towards the set objectives and revise directions wherever necessary
  • Financial and non-financial process are compliant and fair

From our experience of working with unlisted companies the key contribution of independent director apart from what is listed above is in three areas. Firstly, unleashing the leverage points of the company so it can realize its true value with incumbent resources and capabilities and realign growth plans. Independent director must contribute to redesigning of the strategy, how solid are the products and services, threat of commoditization, revenue streams and new offering.  While strategy on products and services front is the easiest, the challenging part is the articulation and execution of strategy to wean away promoter or management from execution to strategy.  In our limited experience, we see two kinds of dilemmas here. It is not that promoters are unwilling to let go, it is just identification and transition to an outside senior management does not always end up as expected. In some cases it is simply the core rigidity and NIH syndrome, especially in partner led companies. Business development and enhancement is another area unlisted companies seek help from Independent directors. Companies expect independent directors get actively engaged in business development by making right introductions to prospective clients. Connecting to the ecosystem of vendors, OEMs, government agencies, labs and professionals is another area independent director contributes for business expansion. Independent director plays a key role in reviews. An independent director must scrutinize the performance and risks of the business. Other than financial information, Compliance, controls and systems are key areas to review.  Independent director must advice in simplification of reporting (say from an aggregated cost head such as Salary & admin costs to broken down independent cost heads) so that efficient controls can be brought it.  Profitability, de-risk and sustainability form the fulcrum of reviews for independent directors.  Independent directors must evaluate the business model, areas to improve including automation, non-linear options, outsourcing, productization of services and new revenue streams that could be realized by unbundling services and products.  Prodding on reducing people side cost is another area that independent directors can drive innovative hiring and engagement programs. Questioning the dependencies and exploring options to de-risk the company from market, customers and technologies is an area independent directors must contribute. G8 or G10 strategy to focus on few top customers may be a good strategy from reducing cost of sales, it may not be a great approach from scaling up an innovation. Independent directors must help identify standardization of services, scaling up of an offering from a group of customers to market or even help productize. Ability to visualize scale and connecting the dots are key characteristics Independent directors must hone. Independent directors must also prod the company in evaluating the dependence on key people or limited management bandwidth. Independent director also has a key role in dispensing with status quo, i.e., sustainability. By constantly asking for extending the reach and newer offerings, they must prod the company towards recognizing newer friction areas and associated revenue monetization opportunities.  Key to fulfilling the role of independent director in unlisted companies is to consciously remaining in independent zone and prioritizing the change process. Independent directors must share their apprehensions and views freely and be open to receive feedback that helps them to refine their views. Finally, independent directors must learn to stay away from Pal syndrome, staying on the surface and yet unconnected with roles and internal conflicts.

D Balasubramaniam and Dr TR Madan Mohan

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