The Hindu : Churning the modern corporation

Online edition of India's National Newspaper
Friday, Jun 07, 2002

Opinion

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Churning the modern corporation

RECENT HEADLINE GRABBING news from the U.S. points unmistakably to a sharp and sensational erosion of faith in its corporate system. An unending barrage of negative publicity highlights the regulatory and governmental investigations, guilty pleas, financial restatements, fines and so on. Popular perception of the American corporation among the investors and the public at large, which was so positive until just a few years ago, has nose-dived. If the present trend of disastrous news continues unabated and if the several remedial measures being undertaken at different levels have no immediate impact there could be a grievous damage not just to the U.S. model of corporate governance but to the very institution of a modern corporation everywhere. It seems to be an extreme scenario right now but investors deeply disillusioned might choke off access to capital, so vital to capitalist societies. It is the U.S. which has been in the forefront in areas such as governance, accounting standards and disclosure, setting standards which other countries including those in well developed Western Europe emulate.

For India, there are several important messages. Most of the companies at the centre of the storm in the U.S. are well known here. The present crisis in America started with Enron's sudden demise which also dragged down Arthur Anderson, the once highly respected global auditing firm. Enron has been accused of a variety of misdeeds, Anderson for glossing over serious accounting deficiencies in the former's accounts and for shredding evidence. It is noteworthy that retribution has been swift for these two. They are now subject to numerous congressional, regulatory and judicial investigations, which will hopefully go well beyond the individual companies and address the systemic issues. There could be an opportunity for India — in learning from the American cleansing act and especially the speed at which it is being undertaken.

It might be premature to generalise but there are basically two major contributing factors for the present crisis. The first has to do with an uncritical belief in the "new economy" model that has extended far beyond the abject failures of the dotcoms. Any company that claimed to be even remotely connected with the new economy had its stock market valuation puffed up. It mattered little that the exaggerated claims did not materialise. Probably not many understood what was going on. Enron's trading activity was at one time acclaimed as the very best in the new economy. When Time-Warner, the publisher of extremely popular magazines, merged with American Online, an iconoclastic new economy company, the swap ratio in the all-stock deal was against it. Two years on, there are definite signs that the merger has floundered amidst the failure of the online business which was expected to spectacularly propel growth. The shares are now at a quarter of their pre-merger levels.

The second serious shortcoming arises from what is aptly called "a tyranny of the stock prices". When markets alone determined a company's performance, a host of bad practices took hold and became all pervasive. For instance, companies have been most reluctant to disclose anything that might adversely affect their stock quotations. Investment analysts from the world's best-known firms have adopted questionable practices, all for maintaining the market valuation of companies they have been interested in. Stock options, highly favoured as a tool to bridge the divide between the owners and the managers of a corporate entity, have fallen from grace. As the Enron experience shows, insiders having access to privileged information sold their shares and cashed in their options leaving the other stakeholders high and dry. In many other areas too, corporate governance is under great stress. But out of the churning there could be good news all round.

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