What Hindenburg has got wrong

It is hard to agree with Hindenburg's broad-brush rationale for dissing corporate India. If anything, over the past few years, corporate governance standards in the country have strengthened

The Hindenburg report has been critical of the state of Indian capital markets. It says, “India is home to many of the world’s most brilliant entrepreneurs, engineers, and technologists and is emerging as a global superpower. However, the country’s economy has been held back by the broken state of its capital markets.” This sweeping statement about the state of Indian capital markets risks creating a false perception about India with global investors.

Given the spotlight on the Adani group, the allegations made by Hindenburg are likely to colour the view of Indian markets for many. We have a contrarian view: A few bad apples aside, the corporate governance standards of Indian companies have only been improving.

For one, foreign institutional investor ownership in National Stock Exchange-listed companies (by market capitalisation) has increased from less than 10 per cent in June 2001 to 18.4 per cent in June 2022. Outside of the global macroeconomic conditions, foreign portfolio investors are unlikely to stay invested if the markets rest on shaky governance structures.

Our argument is further bolstered when we look at the data from our annual scores based on the Indian Corporate Governance Scorecard (Scorecard). Developed jointly by International Finance Corporation, BSE, and IiAS, and based on the G20/OECD Principles of Corporate Governance, this scores S&P BSE 100 index constituents, on a host of governance parameters. These 100 index constituents account for over 70 per cent of total market capitalisation — therefore, their measure on the Scorecard is representative of the broader market. On a base of 100, median scores have been inching up over the past five years and stood at 62 for companies evaluated on their 2021 disclosures. More than half (57 per cent) of the companies scored 60 or more — the threshold for being considered well-governed under the Scorecard assessment framework — against 45 per cent in 2019. The assessment based on 2022 disclosures is under way at IiAS, but early results tell us that the governance scores have increased further, on a much more stringent assessment framework. A caveat, an improved score does not imply that there won’t be governance ignited fireworks. Just that the probability is lower.

Regulations in large part have driven the strengthening of governance practices. Beginning with the voluntary adoption of governance codes in the mid-1990s, we have shifted to regulatory standards. In this journey, 2014 and 2015 were watershed years with the Companies Act, 2013, and the Securities and Exchange Board of India (Sebi) (Listing Obligations and Disclosure Requirements) Regulation, 2015, focussing on empowering shareholders, and recognising the role of auditors and boards, particularly independent directors, in shaping corporate behaviour. Online voting was introduced for all companies in 2014, and since then shareholder resolutions are weighted by the shareholding even as many geographies persist with a show-of-hand and non-binding votes. This alone has empowered shareholders to push back. Further stewardship responsibilities imposed through codes — by Irdai, PFRDA and Sebi — has led to domestic institutional investors voting their shares and engaging with companies on governance and operational issues.

Regulation around corporate governance maps onto the G20/OECD principles of corporate governance with regulators using a mix of regulations and mandatory disclosures to drive better behaviour.  Not only do regulations require adherence to what are seen as global best practices, in many aspects our expectations are tighter than well established global norms. Shareholders of Indian companies approve executive remuneration while the US has a say-on-pay. Mandatory auditor rotation, corporate social responsibility spending, a reverse book-building mechanism for delisting are just some of the aspects that are largely unique to the Indian market.

Financial leakages through related-party transactions remain a focus area of Sebi where rules are constantly being tightened. Most now call for a majority of minority votes. As companies find escape routes, Sebi continues to tweak its regulations to close innovative hatches. Gaps remain, emboldening bending of regulations.

India has had its share of governance failures, much like other mature markets: From GE to Volkswagen, to Wells Fargo, to Toshiba. Regulations cannot plug all holes. They can only solve for what can be imagined and learn from what they missed. Investors know that there can be no guarantees against corporate governance failures. And companies recognise that transparency in corporate behaviour is not built overnight but takes years and decades to build.

Given the harsh market reaction, the Adani group, by now, will have understood the fragility of investor trust in the group. The lack of widespread domestic institutional ownership too speaks its own tale. The group needs to improve transparency including in areas like share-ownership (which they have long and mistakenly believed can be side-stepped) and related-party transactions, among others.

It will be unfortunate if the questions raised by Hindenburg on the Adani group cast a shadow on the capital market in India. The two should not be conflated. Trust in the governance practices of corporate India is an important element to attracting capital — both foreign and domestic. The Indian regulators are aware how fleeting and fragile this trust is, which is why they focus so much on it. 

Tandon is the managing director of Institutional Investor Advisory Services India Limited, and Dalal is its president and COO