Corporate literacy test: A board exam of a different kind

The Modi government's initiative to reform corporate governance to weed out the increasing fraud and "where was the board?" embarrassments is a refreshing concept. Of special interest to the coming generation of corporate directors is the proposal of a mandatory "exam" for all new board members. This is indeed a globally innovative step, to say the least.

As part of the proposed initiative, incoming independent directors will have to clear a corporate literacy test on a variety of topics before their appointment as a director. We have been raising the alarm on the duties of board directors over and above regulatory compliance -- and yet things have been moving at a snail's pace.

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The integral role of an engaged and effective board is to guide the organisation in shaping and executing a winning strategy. It needs to broadly oversee five distinct areas to make the enterprise it serves successful: Approve and govern the corporate strategy; guide major financial decisions; help in selecting, evaluating and monitoring the CEO and building succession plans; provide guidance to the CEO, and finally, ensure compliance.

The government is understandably upset over the quantum of fraud damaging the State-run banks' coffers, and will probably roll out this new oversight programme in this quarter itself. The real goal according to the government seems to be the accountability of board directors who claim ignorance when confronted with issues that have devastated too many enterprises in the recent past, from Jet Airways to IL&FS, and possibly new ones like the Reliance ADAG.

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The online exam should evaluate the knowledge of Indian company laws, the (much-talked-about-but-never-seen) ethics, the norms of capital markets and so on. Unlike other exams, the government plans to allow unlimited attempts to pass (too bad this standard wasn't in effect when we were in school.)

Most businesses in developed or advanced economies require licensing to operate - everything from hair salons to tattoo centres to travel agencies to healthcare. Yet, surprisingly in almost every world economy, there is no need for enterprise board members to be tested for their abilities. Those few privileged individuals chosen by investors to guide and oversee the biggest of businesses do not require any training or special classes, and never had a reason to appear for any exams. Unbelievable!

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The Modi government has taken a big leap forward to transform the corporate governance arena. India will suddenly take global corporate governance leadership when it comes to vetting and certifying the knowledge of its board members. But as pioneers in this effort, it is crucial that it be done right. Here are a few topics we propose for the first class of directors sitting for the exams:

• The essentials of Indian corporate law- What are the basic business structures, how are they regulated? Who are the regulatory bodies with authority over these? What are the mandated duties of chief executives, board members, and managers?

• Capital market requirements- What are the norms for our exchanges' stock listing, such as market float, compliance requirements, regulatory minimums, and so on?  What are the suggested (though non-mandatory) "best practices"?

• How much does the candidate know about finance, accounting and auditing? This would not require in-depth accounting knowledge, but rather the basic financial literacy demanded for overseeing a corporate entity. Is the director conversant with accounting terminology and basic financial statements? If you cannot read a balance sheet, you have no business being on a board of directors. Some "spot what is wrong with this financial statement" exercises could be very useful here.

• Business ethics- Again, "What would you do in this situation?" tests could be very telling to assure the director knows the standards on conflict of interest, corruption, compliance and ethics oversight in the boardroom. As an example, in a situation where a promoter pushes a restructuring plan that could improve efficiency, but also squeeze out a minority holder, how should the board proceed?

• What is the specific role of a board director? This important element is often overlooked. The board member's job is subtly but crucially different from those of investors, promoters, or corporate executives, and the director must "know the role." How does the board assure it has effective corporate controls, access to the right information, right board structures, meetings and keeping of records? And finally, is the board candidate aware of the legal penalties for failure as a fiduciary (both corporate and personal)?

Although the government is planning to exclude experienced directors who are serving the boards currently, it may be a good idea to include all of them into it. If there has to be exclusion, it should not be on the basis of seniority, but instead on the basis of performance, and the rules must be formed clearly based on their track record, etc.

India's regulatory body should also think of assessing boards on the basis of its alignment with the enterprise strategy by way of mandatory balanced scorecards, directing focus to delivering winning results and not just compliance. And the impact will be long lasting and sustainable. This will be another globally leading initiative if introduced. We recommend that all board members (and those aiming for a board role) seek training on this knowledge now -- the stakes are high, and the planned pace of enforcement fast.

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(Muneer is co-founder and chief evangelist at the non-profit Medici Institute and Ralph is a global authority on boards; both drive board alignment.)