Advocacy of Good Corporate Governance through much-needed appointment of independent directors on Company boards!

I am relating a Case Study done recently at Law Sikho’s Executive Corporate governance session.?

Aron Corporation is a Public Listed Company in India, and it has recently come under scrutiny due to a series of high-profile controversies. The allegations include financial misconduct, embezzlement of company funds, and unethical business practices. Concerned stakeholders, including shareholders and regulatory authorities, are demanding a thorough investigation into the company's affairs. In the wake of these allegations, there is a growing debate about the role of independent directors in upholding corporate governance standards. Many are questioning whether the existing regulations and the number of independent directors on the board are sufficient to prevent such scandals.

As an Independent Director on the board of Aron Corporation, I see certain red flags in the balance sheet which are important to be highlighted:

1. The Revenues for FY 15-16 right up to the previous financial year FY 22-23 have been inflated. Fake sales and invoices have been generated to fictitious parties.
2. Improper classification of line costs as Capital expenditure shown on the Assets side of the balance sheet.
3. The core business of the company ie. the generation of energy through Crude Oil, Natural Gas, Petrochemicals, etc has deviated from mere speculative Energy Trading on the stock exchange to show more profits YOY.
4. Mark to Market Accounting practice is an ethical way to evaluate the fair market value of the assets are shown inadvertently for evaluating energy contracts even before these contracts are being generated to inflate current incomes.
5. Moreover, Current Income is included in profits without any actual cash flow.
6. There is a striking disintegration between the financials i.e.. Balance Sheet, P&L Account, and the Cash flow statements.
7. Some fictitious entities have been created to clear debts and losses off the balance sheet of Aron Corporation.

As per rules of the Companies Act 2013 and regulations under SEBI(Listing Obligations and Disclosure Requirements) Regulations, 2015,? a public listed company is required to have a minimum of 1/3rd of the Total number of Directors as Independent Directors.

This rule has also been flouted as out of the total board having 12 members, the company has only 2 independent Directors. At least 2 additional Independent Directors have to be appointed to suffice the regulations.?

Due to this underappointment, the efficiency of the Audit Committee to work diligently and provide transparency in figures has been hugely compromised causing stakeholders and the authorities governing the regulatory framework to question the financial affairs of the company.

Since these lapses are evident from the financial reports of Aron Corporation Limited, as a responsible Independent Director supporting good corporate governance is my fundamental duty.

Here are some recommendations that independent directors can make to listed companies:

• Corporate Governance Improvements:Suggest enhancements to the company's corporate governance framework, such as adopting best practices outlined in corporate governance codes and guidelines.Encourage the formation and effectiveness of board committees, such as audit, compensation, and nomination committees.Recommend regular board evaluations and self-assessments to ensure board effectiveness.
• Risk Management:Advise on identifying and mitigating potential risks to the company, including financial, operational, reputational, and environmental risks.Promote the implementation of robust risk management and compliance programs.
• Ethical and Social Responsibility:Advocate for ethical business practices, transparency, and integrity throughout the organization.Encourage corporate social responsibility (CSR) initiatives and sustainability efforts to benefit society and enhance the company's reputation.
• Strategic Planning:Provide input on the company's strategic direction, including mergers, acquisitions, divestitures, and long-term business plans.Assess the alignment of the company's strategy with market trends and competitive positioning.
• Financial Oversight:Review financial statements and internal controls to ensure accuracy, transparency, and compliance with accounting standards.Recommend dividend policies and capital allocation strategies that benefit shareholders.
• CEO and Executive Compensation:Participate in discussions on executive compensation packages and ensure they are aligned with company performance and industry standards.Advocate for the use of performance-based incentives that align the interests of executives with those of shareholders.
• Stakeholder Engagement:Promote effective communication and engagement with shareholders, customers, employees, and other stakeholders.Encourage proactive responses to feedback and concerns from stakeholders.
• Cybersecurity and Technology:Stay informed about cybersecurity risks and recommend measures to protect the company's digital assets and customer data.Advise on technology investments and digital transformation strategies.
• Succession Planning:Assist in developing and implementing succession plans for key executive and board positions to ensure continuity and leadership development.
• Compliance and Regulatory Issues:Ensure the company complies with all relevant laws, regulations, and listing requirements.Provide guidance on addressing regulatory challenges and reporting requirements.
• Diversity and Inclusion:Advocate for diversity and inclusion in board and executive leadership to foster innovation and represent a broader range of perspectives.
• Environmental and Climate Considerations:Recommend strategies to address environmental and climate-related risks and opportunities, including transitioning to sustainable practices.

Independent directors should base their recommendations on a thorough understanding of the company's business, industry dynamics, and the broader economic environment. They should also prioritize the best interests of shareholders and the long-term sustainability of the company.

Watch out for potential Red Flags that may trigger in a lifetime of an Independent Director’s tenure in various Company boards.

A company's balance sheet provides a snapshot of its financial health at a specific point in time. While it's essential to analyze balance sheets comprehensively, there are several red flags or warning signs that investors and analysts should be wary of. These red flags could indicate financial distress, manipulation, or other issues within the company. Some possible red flags on a company's balance sheet include:

• Negative Equity: If the company's total liabilities exceed its total assets, it has negative equity, which can be a sign of financial instability.
• High Debt Levels: Excessive debt can strain a company's finances, especially if it has difficulty meeting interest payments or refinancing debt when it matures.
• Low Cash and Liquidity: A lack of cash or near-cash assets can indicate liquidity problems, making it challenging to cover operating expenses or debt obligations.
• Aging Receivables: If accounts receivables are growing much faster than revenue or if there are many long-overdue receivables, it may indicate difficulties in collecting payments.
• Inventory Buildup: An excessive buildup of inventory relative to sales can suggest that products are not selling as expected, which may lead to write-downs or obsolescence.
• Depreciation and Amortization Practices: A significant disparity between the company's capital expenditures and the depreciation and amortization expenses could indicate either aggressive capitalization of costs or inadequate maintenance and investment in assets.
• Deferred Revenue or Unearned Income: A rapid increase in deferred revenue can signal that customers have prepaid for goods or services, potentially masking underlying issues with sales growth.
• Off-Balance-Sheet Liabilities: Some liabilities may not appear on the balance sheet, such as operating leases or contingent liabilities. Be cautious and consider these potential obligations when evaluating the company's financial health.
• Changes in Accounting Policies: Frequent or unexplained changes in accounting policies or practices may indicate an attempt to manipulate financial statements.
• Weak or Negative Operating Cash Flow: If the company consistently generates weak or negative cash flow from its core operations, it may struggle to fund day-to-day operations and invest in growth.
• Overstated Assets: An overvaluation of assets, such as property, plant, and equipment, may inflate the company's book value and distort its financial health.
• Inadequate Reserves: Companies should set aside reserves for contingencies like bad debts, warranties, or legal liabilities. Inadequate or inconsistent reserve practices can be a red flag.
• Related-Party Transactions: Extensive dealings with related parties, especially if not adequately disclosed, can suggest conflicts of interest or potential self-dealing.
• Significant One-Time Gains or Losses: Unusual gains or losses on the balance sheet should be scrutinized, as they might not represent the company's ongoing financial performance.
• Inconsistent Reporting: Frequent restatements or inconsistencies in financial reporting may indicate a lack of control or deliberate misrepresentation.
• Complex Financial Instruments: A high level of complex financial instruments or derivatives may obscure the company's true financial position and introduce risks that are challenging to assess.

It's crucial to conduct a comprehensive financial analysis, considering the balance sheet in conjunction with income statements and cash flow statements. Additionally, reading footnotes and management discussions in financial reports can provide valuable context and insights. When red flags are identified, further investigation and due diligence are essential to understand the underlying issues and their potential impact on the company's future prospects. Consulting with financial experts or analysts may also be beneficial in evaluating these warning signs.