The Imperative for Strong Corporate Governance in Young Indian Startups: Lessons from Recent Failures

Introduction

In the era of rapid innovation and business development, startups often prioritize growth over governance. This is especially true in India, which has emerged as the world's third-largest startup ecosystem. Young enterprises are contributing significantly to job creation and economic growth.

However, the recent governance failures at companies like Byju's serve as cautionary tales, highlighting the need for robust corporate governance even in early-stage ventures.

"In the absence of a governance structure, startups are like rudderless ships." This quote from renowned venture capitalist Peter Thiel encapsulates the essence of why corporate governance is vital for any startup.

Despite India's rapid growth as the world's third-largest startup ecosystem, recent failures in governance at companies like Byju's underscore the urgent need for robust governance frameworks.

The Rise of Startups in India

According to a NASSCOM report, India has been home to nearly 70,000 startups since 2010, attracting over $80 billion in investment. Various sectors from technology to healthcare, e-commerce, and edtech have seen phenomenal growth. Listed trends highlighted in NASSCOM 2022 report further highlights continued growth and evolution of the startups in India -

• 1300+ new tech start-ups, 23 new unicorns (2nd highest in the world).
• 2022 funding at $18.2 Bn is 30% lower than 2021, higher than last 4-year average in value terms.
• 3-4X growth in investments for critical areas like EnvironmentTech, Lifesciences, Aviation, Maritime & Defence.

However, this race to scale up often results in a lack of attention to governance frameworks. While companies are eager to capture market share, foundational aspects like board oversight, financial compliance, and ethical practices sometimes fall by the wayside.

What is Corporate Governance?

Corporate governance is not merely a corporate buzzword. It involves a well-defined system of rules, practices, and guidelines that direct and control a company's operations.

Corporate governance involves a set of relationships between a company’s management, its board, its shareholders, and other stakeholders," says The Organisation for Economic Co-operation and Development (OECD).

Good governance aims to balance the interests of many stakeholders involved—shareholders, management, customers, suppliers, and even the community at large. For startups, good governance ensures transparency in operations, cultivates accountability among team members, and puts checks and balances in place to prevent power concentration and ethical lapses.

Case Studies: Governance Failures

As corporate governance expert Mervyn King once said, "A good governance framework should address the company's ‘commitment to integrity, ethical values, and transparency."

One of India's unicorn startups, Byju's came under scrutiny when allegations of financial irregularities and unethical practices emerged. Not long ago, Biju’s was considered a jewel in the crown of Indian startups.

Internal complaints were largely ignored or not appropriately escalated due to a lack of proper oversight mechanisms. Experts suggest that stronger governance mechanisms could have mitigated these risks. Such lapses indicate that a well-structured governance system could have provided channels for whistleblowers, auditors, and board members to intervene before the problems escalated.

The examples don't end with Byju’s. Firms like Housing.com have also suffered from a lack of internal controls and ethical lapses, leading to significant reputational and financial losses. In the recent times when several corporate governance lapses at Indian startups like BharatPe, Trell, Zilingo, GoMechanic, and more recently, Mojocare have come under fire from stakeholders for corporate governance lapses have come to the fore, making investors more cautious and less investment from the Investors. There are other examples as well like Theranos in the U.S., where governance failures or ethical lapses resulted in a decline or shutdown of the company.

These examples echo the need for robust governance structures that can help identify issues at an early stage and set the course correct.

Risks of Poor Corporate Governance

According to a PwC report, companies with weak governance frameworks are 80% more likely to face financial crises compared to those with robust governance systems.

The fallout from poor governance is multidimensional:

• Reputational risk: Companies like Byju’s have seen a decline in brand value, sometimes leading to loss of business partnerships and customer churn.
• Financial loss: Inaccurate financial reporting or fraud can lead to a significant outflow of capital and can affect the company's market valuation.
• Legal consequences: Regulatory bodies like SEBI in India can impose strict penalties, including bans on operations.
• Loss of investor and consumer trust: Investor sentiment can be severely impacted, affecting future funding rounds.

According to an IANS report, the Company Law Committee (CLC), a panel under the Ministry of Corporate Affairs (MCA) and headed by the corporate affairs secretary, is exploring the possibility of formulating regulatory measures for startups. The move to bring more regulations for startups can also be interpreted as yet another initiative from the Centre to end regulatory arbitrage for Indian startups. Many startup sectors, including fintech, online pharmacies, cryptocurrency, EVs, healthtech, edtech, ride-hailing and online gaming, have had stricter regulations implemented to end such arbitrage.

Benefits of Strong Corporate Governance for Startups

As Warren Buffet aptly put it, "It takes 20 years to build a reputation and five minutes to ruin it."

• Enhanced reputation: Companies with good governance are often viewed as more trustworthy, giving them a competitive edge.
• Increased investor confidence: Transparency in operations and ethical business conduct attract high-quality investors.
• Better decision-making: A well-governed startup is likely to make better strategic decisions, thanks to unbiased board oversight and informed discussions.
• Lower cost of capital: Well-governed companies often face lower risks and, therefore, can secure funds at lower interest rates.

Practical Steps to Enhance Corporate Governance

A study published in the Journal of Business Ethics suggests that adopting transparent reporting and disclosures can reduce a firm's risk by up to 25%.

• Regular board meetings: Schedule regular board meetings and ensure that meeting minutes are properly documented for accountability.
• Transparent reporting and disclosures: Develop protocols for open and timely sharing of company’s financials and other critical data.
• Employee training on ethical conduct: An annual or bi-annual ethics and compliance training can keep your employees updated on best practices.
• Third-party audits: Bring in external experts to review your operations, finances, and compliance with regulatory norms.

Conclusion

As Peter Drucker wisely said, "Management is doing things right; leadership is doing the right things." Governance is not a choice but a necessity for sustainable growth and ethical business conduct.

For startups, corporate governance is not an optional "nice-to-have" but a fundamental pillar that supports scalable and sustainable growth. While the startup ecosystem in India continues to thrive, the need for stronger governance mechanisms cannot be neglected. As we've seen from the likes of Biju’s and others, a lack of focus on governance can have severe and far-reaching consequences. Therefore, it is imperative for young Indian startups to integrate governance as a core aspect of their growth strategy. The time to act is now—before irreversible damage is done.