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RR RUEHAST RUEHCI RUEHDBU RUEHLH RUEHNEH RUEHPW
DE RUEHBI #0085/01 0610553
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R 020553Z MAR 09
FM AMCONSUL MUMBAI
TO RUEHC/SECSTATE WASHDC 6978
INFO RUEHBI/AMCONSUL MUMBAI 2155
RUEHNE/AMEMBASSY NEW DELHI 8218
RUEHCG/AMCONSUL CHENNAI 2005
RUCNCLS/ALL SOUTH AND CENTRAL ASIA COLLECTIVE
RUEATRS/DEPT OF TREASURY WASHINGTON DC
RUCPDOC/DEPT OF COMMERCE WASHINGTON DC
RHMFISS/DEPT OF ENERGY WASHINGTON DC
RHEHAAA/NSC WASHINGTON DC
RUEAIIA/CIA WASHDC
RUEHRC/DEPT OF AGRICULTURE WASHINGTON DC

UNCLAS SECTION 01 OF 04 MUMBAI 000085 
 
SENSITIVE 
SIPDIS 
 
USTR FOR AADLER 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV PGOV EAGR IN
SUBJECT: MUMBAI BUSINESS COMMUNITY RAISES CHALLENGES TO IMPROVING 
CORPORATE GOVERNANCE IN THE WAKE OF THE SATYAM SCANDAL 
 
REF: A. A: Delhi 241 
     ¶B. B: CHENNAI 7 
 
MUMBAI 00000085  001.2 OF 004 
 
 
¶1.  (SBU) Summary:  In meetings with Mumbai-based business 
executives and corporate governance experts, CongenOff heard 
that corporate governance is still at a nascent stage in India. 
While most acknowledged that the size of the Satyam Computer 
scandal was exceptional, interlocutors also believe that lapses 
in corporate governance are common throughout India's publicly 
traded companies, many of which are still family-run and 
controlled.   Many Indian interlocutors agreed that Indian 
companies appear to follow the rules of good governance, but few 
comply with the spirit of those standards; the biggest hindrance 
is companies' reluctance to appoint truly independent directors 
to corporate boards, who can challenge the management and 
finances when questions arise.   The Indian software lobby and 
the Indian government have acted quickly to stem the damage 
following the Satyam financial scandal and to attempt to restore 
faith and confidence in corporate India (reftels).  However, our 
contacts felt that as long as promoters or majority shareholders 
play a role in managing the company, true corporate governance 
will likely remain an illusion rather than a reality.   Without 
a robust judicial system or a more powerful regulator, our 
interlocutors expect little to change in the near-future.  End 
Summary. 
 
Satyam Financial Scandal "Shocks" Corporate India and Throws the 
Spotlight on Corporate Governance 
-------------- 
 
¶2.  (U) On January 7, Ramalinga Raju, the founder and chairman 
of Satyam Computer Services, one of India's largest IT 
companies, confessed to manipulating the financial accounts of 
his company to the tune of over $1.6 billion (Ref B).  Arrested 
immediately after this disclosure, Raju is being investigated 
for corporate fraud and for siphoning money from the company. 
Most interlocutors in Mumbai expressed shock at the size and 
nature of the fraud, as Satyam was considered a pioneer in 
India's IT industry and had won numerous corporate governance 
awards.  Raju was a former Chairman of the National Association 
of Software and Service Companies (NASSCOM), the Indian IT trade 
association, and was himself a highly respected representative 
of India's IT industry.  Overall, our interlocutors believe that 
the scandal has tarnished the image and reputation of corporate 
India and adversely affected investor confidence. 
 
¶3.  (SBU) Rajiv Vaishnav, Regional Director of NASSCOM, 
maintained that the Satyam fraud incident is an isolated one, 
not only in the IT industry, but throughout corporate India.  He 
argued that Satyam represents a case of "intentional fraud" 
rather than bad corporate governance.  S. Mahalingam, Executive 
Director and Chief Financial Officer at Tata Consultancy 
Services (TCS)(the biggest IT service exporter), agreed, and 
emphasized that the IT industry was generally "very well 
behaved;" he acknowledged, however, that when suddenly about 
$1.6 billion vanishes, it brings to light certain inherent 
deficiencies in the corporate governance standards.  He insisted 
that this is a one-off case where an individual decided to act 
fraudulently. 
 
¶4.  (U) Darius Shroff, Senior Partner of renowned corporate law 
firm Crawford Bayley & Co, and one of Mumbai's most consistent 
advocates for better corporate governance, noted that there are 
now two extremes of corporate governance in the IT industry 
spectrum:  Satyam is at one end, and Infosys Technologies, a 
"shining star" of corporate governance, is at the other.  It is 
because of Infosys that people will not brand the Indian IT 
industry as a whole as "Satyam-infected," he said.  Gopal Jain, 
Managing Partner of Gaja Capital, a private equity fund, stated 
that before the Satyam scandal, the IT sector was one of the few 
areas investors would not have suspected corporate frauds.  As a 
result of the scandal, investors will take this as an additional 
risk to be considered when investing in Indian IT companies. 
 
Corporate Governance Rules "Robust" but Adherence and 
Enforcement "Lacking" 
------------------------- 
 
¶5.  (U) Sammy Medora, Executive Director of KPMG and the firm's 
corporate governance expert, noted that corporate governance in 
India can be traced to the inception of Clause 49 in the listing 
 
MUMBAI 00000085  002.2 OF 004 
 
 
agreement prescribed by the Securities & Exchange Board of India 
(SEBI) in 2000, which SEBI only started enforcing in 2006. 
(Note:  A listing agreement specifies the guidelines that 
companies must follow to be publicly listed. End Note.)  Clause 
49 stipulates the minimum procedures a listed company should 
follow to ensure transparency and good governance.  This 
includes the number of independent directors that should sit on 
a company's board, the establishment of an audit and 
shareholders' grievances committees, the disclosure of fees and 
salary paid to the directors, and other basic principles that 
ensure that the company is governed in the best interests of all 
shareholders.  According to Clause 49, every listed company has 
to reserve half of the board for independent directors if the 
chairman is an executive director.  One-third of board members 
have to be independent directors if the chairman is a 
non-executive director.  These independent or non-executive 
directors should not have a pecuniary or business relationship 
with the company, its promoters or management, and should not be 
related to the promoters or senior management. 
 
¶6.  (SBU) Medora maintained that Clause 49 is a robust rule 
"without the excesses" of the Sarbanes-Oxley legislation which 
emerged following the financial and accounting scandals in the 
U.S.  Nevertheless, KPMG's Medora admitted that although Indian 
listed companies adopt Clause 49 in practice, few companies 
follow the "true spirit" of the law.  In a more dire assessment, 
Crawford Bayley's Shroff who is, himself, an independent 
director on the board of several companies, claimed that many 
Indian listed companies do not even comply with the "letter of 
the law."  Shroff estimates that 18 percent of the near 5,000 
companies listed on the Bombay Stock Exchange are non-compliant 
with the listing agreement.  Several of these "non-conformers" 
are large public sector companies who do not have any 
independent directors on their boards, he continued.  Shroff 
claimed that the executive directors of these companies "resist" 
appointing independent directors who may ask "inconvenient" 
questions.  These companies claim that they cannot find 
independent directors who are willing to sit on their boards. 
He admitted that most independent directors are not enthused to 
attend board meetings of these government-owned companies, as 
each meeting tends to be 6-7 hours long. 
 
¶7.  (SBU) SEBI is empowered to take punitive measures against 
listed companies who do not comply with Clause 49.   However, 
the sheer volume of listed companies in India -- which at over 
6,000 is one of the largest in the world -- makes enforcement 
highly challenging, Medora admitted.  SEBI's punitive power is 
limited to de-listing of the non-compliant company which hurts 
the minority shareholders and is not an effective deterrent, he 
explained.  Shroff pointed out that SEBI did not have the 
resources of the U.S. Securities and Exchange Commission (SEC) 
to conduct investigations and punish non-compliance.  The 
enforcement machinery in India can handle only 10 percent of 
violations, he admitted.  Jain pointed to the India's backlogged 
courts as being responsible for the poor enforcement of 
corporate governance standards (ref A).  He believes that only 
strong enforcement will deter executives tempted to commit fraud 
in a company.   Jain said that without a robust judicial system, 
corporate fraud will continue to exist in India. 
 
Truly Independent Directors an Illusion in India 
------------------------------- 
 
¶8.  (SBU) Many interlocutors agreed that the presence of 
so-called independent directors on corporate boards did not mean 
they were independent, or took an active role in directing the 
company.  TCS's Mahalingam and Medora both opined that while 
Satyam's independent directors were not involved in the fraud 
itself, they were definitely "not on the ball" and did not 
conduct the required due diligence before vetting the financial 
statements of the company.  Shroff concurred and explained that 
independent directors sitting on Satyam's audit committee were 
responsible for verifying the financial statements of the 
company, and they were negligent in discharging their 
responsibility. 
 
¶9.  (SBU) Medora pointed out that most independent directors are 
friends or acquaintances of the company's executive directors or 
top management.  While technically they meet the definition of 
independent directors, they are not truly independent, he 
 
MUMBAI 00000085  003.2 OF 004 
 
 
explained.  He also maintained that many Indian corporate 
leaders are "iconic" and other directors are wary about 
questioning or challenging their business decisions.  Shroff 
agreed with Medora and added that compliance with Clause 49 is 
often "illusionary." 
 
Tale of One or Many Satyams? 
---------------------------------------- 
 
¶10.  (SBU) Unlike the U.S. and Europe, most public companies in 
India are still controlled by families, or aligned families 
(here, the controllers of a company -- which are sometimes 
complicated, inter-family webs -- are known as "promoters.") 
Indeed, according our interlocutors, there may be only two 
prominent non-family controlled, professionally run companies: 
the major construction company Larsen & Toubro and Infosys.  In 
many cases, families and promoters may only own a small 
percentage of the company -- as was the case with Satyam -- but 
actual control is still held tightly by the head promoter and/or 
family head.  Shishir Tamotia, CEO of Ispat Energy, (Note: 
Tamotia is an outside executive who is CEO of Ispat Energy, a 
subsidiary of leading integrated steel maker Ispat Industries 
which is owned by steel magnate Lakshmi Mittal's brother. End 
Note.) believes that corporate India has evolved its own model 
of corporate governance which is different from the Western 
model.  Most Indian companies are family-owned and many have 
been handed down from generation to generation.  It is difficult 
for the owners to manage the company at an "arms length," which 
is what good corporate governance entails, he continued. 
Company management should be "emotionally detached" from the 
business for true corporate governance to succeed.  Shroff 
agreed and noted that there will always be a "conflict" between 
independent directors and the executive management of a company 
who are pressured by demands of stock options, profitability and 
bonuses.  Besides "unadulterated greed", he has heard of 
promoters committing fraud to boost stock prices or to boost 
market expectations or influence analyst expectations of future 
earnings, he added. 
 
¶11. (SBU)  For example, a senior manager at an Indian financial 
services company - who is himself the son of the company's 
founder, and whose family owns 51 percent of the company - 
alleged financial inappropriateness in a large Indian company, 
which recently purchased another company on which his company 
served as broker.  According to the senior partner, the 
acquiring company publicly offered Rs. 1000 ($20) per share to 
buy a majority stake in the company, but paid an additional Rs. 
600 ($12) per share privately into a Swiss bank account to the 
acquisition's owner, for a total of Rs. 1600 ($32) per share. 
The two companies connived to do this, the partner claimed, 
because SEBI rules require that companies buying a large block 
of shares from a promoter must offer to buy an additional 20 
percent of shares from other public shareholders at the same 
price offered to the promoter (or large shareholder).  The 
acquiring company didn't want to buy an additional 20 percent of 
shares at Rs. 1600, so ensured the publicly offered price was at 
a much less attractive Rs. 1000 - thereby cheating the 
shareholders of the purchase price, as well as the revenue 
department.  The senior partner claimed this was "common 
practice" in such deals. 
 
¶12.  (SBU) Ispat Energy's Tamotia believes most businesses in 
India are run like Satyam, with little regard for true 
governance.  Shareholders are unconcerned as long as the 
company's stock continues to appreciate.  Nevertheless, he does 
not expect corporate fraud to be discovered in other companies 
because there is too much at stake, and not because they are 
without blame.  The government, he said, is not prepared to take 
the risk of more embarrassing disclosures.  As long as 
shareholders make money, no one cares, he added.  KPMG's Medora 
disagreed with Tamotia and said that while there may be a few 
more deviant Indian companies, fraud is not endemic or 
symptomatic in corporate India.  In contrast, Shroff believes 
that revenue fraud is "rampant" in companies.  (Note:  This 
includes discrepancies in transfer pricing and asset valuation. 
End Note).  There is a thin line between tax evasion and tax 
avoidance, he noted.  He thought that other frauds like 
defrauding minority shareholders and defrauding employees are 
prevalent to a lesser extent.  Shroff argued that if the CEO and 
CFO of a company collude, neither the board nor the audit 
 
MUMBAI 00000085  004.2 OF 004 
 
 
committee will find out about the fraud. 
 
Going Forward~ 
------------- 
 
¶13.  (U) Shroff explained that corporate governance is an 
evolutionary process and cannot be achieved overnight.  Medora 
believes that tweaking existing rules and enhancing enforcement 
will help achieve better standards of governance, rather than 
more regulation.  There will be a renewed interest and increased 
discussions on corporate governance in the months ahead, he 
continued.  Independent directors may re-think the number of 
directorships that they hold.  (Note: Currently, an individual 
can hold up to 15 directorships at one time, which many feel is 
too many to pay due attention.  End Note).  TCS's Mahalingam 
added that there was a need for the Audit Committee executives 
to be independent and more financially literate. 
 
¶14.  (U) SEBI is also considering the mandatory rotation of 
auditors.  Currently, auditors are required to rotate every four 
years and two years in the banking and insurance industries, 
respectively in India, but there are no rotation requirements in 
other sectors.  Representatives from the Big Four accounting 
firms have naturally expressed their opposition to rotation 
requirements, arguing that frequent rotations between firms 
leads to major losses of knowledge about a company, which could 
open the door to fraud or manipulation.  In addition, Big Four 
representatives note that most firms have an internal 
requirement to rotate supervising partners every few years.  On 
the other hand, more frequent rotations might prevent auditors 
from becoming overly familiar with the management of a company. 
Medora believes that SEBI may also announce a peer review of 
auditors.  Currently, the Institute of Chartered Accountants of 
India (ICAI) conducts peer reviews of audit firms, but SEBI 
could decide the peer reviewer for each firm.  Medora also 
argued for a regulator for the auditing profession in India 
which is currently under the ICAI, a self-regulatory 
organization. 
 
Comment: 
-------- 
 
¶15.  (U) Mumbai's business community feels that the Satyam 
financial scandal has highlighted the inadequacies of corporate 
governance law but it has few answers (yet) on how to imbibe the 
true "spirit" of corporate governance in India's largely 
family-owned companies.  As long as promoters of the company 
play a direct role in management, Mumbai interlocutors view good 
corporate governance as more of an illusion rather than a 
reality.  In older companies, where company heads are treated as 
celebrities and heroes on par with film stars, movements to 
force change at the top are unlikely to work.   As Indian 
companies increasingly aspire to be global companies, they face 
the inconvenient fact that transparency and good governance 
matter to investors.  Whether the fallout of Satyam forces them 
to concede this remains to be seen.   End Comment. 
FOLMSBEE