Satyam Computer Services Ltd_v4_2

SATYAM COMPUTER SERVICES - DOMINANT SHAREHOLDER & CORPORATE GOVERNANCE IN DEVELOPING COUNTRIES (INDIA)

Author:

Bikram Satpathy

Creation Date:

Jun 01, 2009

Version:

4.2

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Contents

Executive Summary.......................................................................................3 Introduction....................................................................................................4 Satyam and its Stakeholder before Turbulence..............................................6 Employees......................................................................................................6 Investor/Stock Holder....................................................................................7 Customer .......................................................................................................9 Controversies and Recent Turbulence..........................................................10 Failure of Satyam corporate governance and Role of Dominant Shareholder ......................................................................................................................12 Impact of Satyam controversy on its Stakeholders:.....................................14 Employees....................................................................................................14 Shareholders: ...............................................................................................15 Impact on Customers: ..................................................................................15 Recommendations........................................................................................17 Reference:.....................................................................................................21

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Executive Summary The case examine the corporate governance issue at the India based Information Technology (IT), Satyam Computer Services Limited (Satyam). The company has just been added to the list of companies involved in fraudulent financial activities, one that includes such names as Enron, WorldCom, and Allied Irish. Our paper argues however that the corporate governance problem in Satyam was different from Enron, WorldCom and Allied Irish. The problem in the Indian company is that of disciplining the dominant shareholder and protecting the minority shareholders.

The

newly

unleashed

forces

of

deregulation,

disintermediation, institutionalization and globalization in India are going to make the minority shareholder more powerful and forcing the companies to adopt healthier governance practices. These trends are expected to become even stronger in future. Indian regulators can facilitate the process by measures such as: enhancing the scope, frequency, quality and reliability of information disclosures; and reforming the bankruptcy related laws.

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Introduction Satyam Computer Services Limited (NYSE: SAY) provides information technology (“IT”) services and business process outsourcing (“BPO”) services in North America, Europe, Australia, Africa and South America. The company was incorporated on June 24, 1987 in Hyderabad [1], India by Mr. Ramalinga Raju. Milestones •

1991 Debuts on Bombay (India) stock exchange [2].

•

1993 awarded as ISO 9001 certification [4].

•

2001 listed on New York Stock Exchange (NYSE) [4].

•

2007 Becomes the official IT service provider for the FIFA world cups, 2010 and 2014 [4].

•

Announces acquisition of UK based Nitor Global Solution Limited [2].

•

2008 Revenue crosses $2 Billion mark [2].

•

Awards & Recognition [2] o Golden Peacock Award: The world Council for Corporate Governance presented Satyam with a coveted Golden Peacock

Global

Award

for

Excellence

in

Corporate

Governance for 2008. o UK’s India Business Award: Satyam earned the United Kingdom Trade and Investment India Business award for

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Corporate Social Responsibility. The company was honored for its participation to provide remote electrocardiograms (EKGs) to villagers, an initiative that likely prevented hundred of people from suffering serious heart troubles. o

Asian MAKE Award: A distinguished panel of Asian Fortune Global 500 business executives and leading knowledge management

and

intellectual

capital

experts

named

Satyam a Most Admired Knowledge Enterprise (MAKE) for the third year in a row. knowledge-driven leaders

and

The award recognizes Satyam’s

corporate

employees,

culture,

innovation

development and

of

transforming

corporate knowledge into shareholder value.

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Satyam and its Stakeholder before Turbulence The driving forces of Satyam growth from the year 1987 to 2008 were because of – Employees Delight, Investor Delight and Customer Delight. The principle of “Delighting Stakeholder” at Satyam is shown below.

Employees Satyam refers the employees as “associates.”

Before the financial

crisis the company used to provide competitive salaries, incentive pay and stock based compensation (ESOP) to all the employees along with extensive training program and entrepreneurial work environment. They were devoting significant resources for the training and development of their associates. The Satyam Learning Center & Satyam School of Leadership was started by the company to promote the culture of learning and to develop leadership quality among the associates. Also the company had a strong believe in caring for the

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associates’ welfare. In 2006, Satyam was selected as one of the Top three Best Employers in India by BT-TNS-Mercer [1].

Because of entrepreneurial environment and initiative, Satyam was able to attract and retain a large number of highly skilled technical associates from 2001 to 2008. Till March 31, 2008, the company had 50, 570 associate and the growth rate in the number of associate was nearly 29% since the year 2001 [2]. From our research, the key delight parameters of Satyam associates (Employees) were:  Wealth creation through exercise of stock options  Performance linked pay  Leadership development initiative and training program  Improved associate Delight Index

Investor/Stock Holder Before the financial crisis, Satyam used to find creative and productive ways to delight the stockholder of the company.

The Board of

Directors got elected by shareholders with a responsibility to set strategic objectives to the management and to ensure long-term interest of all stakeholders.

Although the amount varies, it was

customary for Satyam to pay cash dividends to the stock holder. They had paid out dividends of $68.3 million in fiscal year 2008, $56.7

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million in fiscal year 2007 and $41.3 million in fiscal year 2006 [2]. Also there was an amazing brand value growth for Satyam from the year 2004 to 2008.

The key delight parameters of Satyam investors (Stock holders) before crisis were:  Bonus stock issues 1:1 [1].  Dividend: 350% (Final + interim)  Growth in revenues, profit and earning per share (EPS)  Improved liquidity and market capitalization in US.  Sponsored ADS offering  Investment in acquisitions and expansion while paying dividends

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Customer Satyam had a global customer base and by March 31, 2008 they were providing service to 654 customers including 185 Fortune Global 500 and Fortune U.S. 500 companies [2]. The company had strategy to seek new

customers

and

at

the

same

time

to

secure

additional

engagements from existing customers. Because of high quality services, they were able to receive significant recurring revenue from existing customer.

Before the financial crisis, their business from

existing customers was around 92.1% in the year 2008 [2]. The key delight parameters of Satyam customers before crisis were:  Customer-centric

organization

design

and

arrangement

of

customer appreciation event.  Customer intimacy programs like customer summits are held annually by the company.  Company

was

encouraging

highly

process-driven

solution.

Satyam had received company-wide CMMI Level 5 certification [1].  One of the core values of the company was “Customer Delight”.

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Controversies and Recent Turbulence On 7 January 2009, Satyam chairman Mr. Raju resigned after notifying the board members and the Securities and Exchange Board of India (SEBI) that Satyam’s accounts had been falsified [5]. Mr. Raju confessed that Satyam’s balance sheet of 30th September 2008 contained:  Inflated figures for cash and bank balance. A non existent cash and bank balance of $1,026,581,108.66 USD was shown in the year 2008 [6].  An accrued interest which was non-existent. Nonexistent accrued interest of $77,354,015.41 USD was also shown in the year 2008 [6].  An overstated debtors’ position. An overstated debtors’ position of $100,988,273.72 USD was given in 2008 [6].  An understated liability. An understated liability of $253,491,055.26 USD was given in 2008 [6].

On 10th January 2009, India government and Company Law Board decided to bar the current board of Satyam from functioning and appointed a new Satyam’s Board. India Charted Accountants Regulator (ICAI) issued a show-cause notice to Satyam’s auditor PricewatherhouseCooper (PWC) on accounts fudging.

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Mr. Ramalinga Raju and the former CFO of the company Mr. Srinivas are currently in India prison. Mr. Raju is charged with several offences, including criminal conspiracy, breach of trust, and forgery. Also he was charged for diverting money from company bank account to his relative bank account.

We all know that honesty, integrity and accuracy are absolute requirements of the accounting function. The financial records of public companies are required to be audited by a certified professional accounting firm. From the annual report of Satyam, it is clear that the financial records are audited by certified professional accounting firm Price Waterhouse Cooper (PWC). The auditors of Satyam might have faced with conflicts of interest while certifying the financial record of Satyam. They have softened their standard while auditing the company financial statement. It is clear that the loyalty or obligation to the client (Satyam) is divided or in conflict with self-interest of Auditors and the interest of Satyam’s management.

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Failure of Satyam corporate governance and Role of Dominant Shareholder Issues of corporate governance have been hotly debated in the United States and Europe over the last decade or two. For example in the year 2000-2002 the fraudulent financial statements filed by WorldCom, Enron and Adelphia misled investor and led to billions of dollars of losses in the stock market. The main cause of these companies failure is “agency problem”. In this environment the owner and management have become widely separated and the management did not work in the long term interest of the shareholders. Also the Board of Directors of these companies was unable to exercise effective control over the management. However, the main cause of Satyam corporate governance failure was not “agency problem”. The company corporate governance does not show any conflict of interest between management and owners as we have seen in case of Enron, WorldCom and Adelphia. Our research shows, the problem was caused by the conflict of interest between the dominant shareholders (promoters) and the minority shareholders. In case of Satyam, the promoters (Mr. Raju, together with their friends and relatives) were the dominant shareholders. Though the financial institutions owned majority of stake, but historically they used to play a passive role in the company. This was allowing the promoters (Mr. Raju

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and his relatives) to play the corruption game. The promoters were trying to re-structure the business and were also diverting assets between group companies.

Currently, Satyam accounting scandal is under investigation. But our research shows the company was doing much healthier business in 2006-2008 and the profit was diverted to cheat the minority shareholders. This reminds us a famous joke among bankers in India that there are many financially sick companies in India but no financially sick promoters.

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Impact of Satyam controversy on its Stakeholders: Employees Satyam is a knowledge driven company and employee represent this IT organization by working on business ideas with support from investors. But because of the corporate governance failure and consequent financial problem in the company, the employees’ wishes have been badly impacted. •

Current Satyam management is not able to provide stable employment to the employees. They have recently handed over pink slips to 450 employees [7].

•

The employees as a stake holder of the company are not getting fair pay. The new Satyam’s management has implemented the virtual pool employees program under which around 14000 employees will only get only part of their salary for the fiscal year.

•

Banks like ICICI, HDFC, HSBC and Citibank have cut credit card limits for Satyam staff.

The India's flagship information-technology is under world economic crisis and the number of new openings in other Indian IT companies like TCS, Infosys and IBM are limited. In this situation, the companies are clogged with double-digit resumes from Satyam employees looking 14

for better salaries and stability. Moreover this has limited Satyam employees’ bargaining power to get better salaries elsewhere.

Shareholders: Stockholders are critically important stakeholder group of Satyam. By providing capital, monitoring corporate performance and assuring the effective operation of stock market, stockholders play a very important role in making the business system work. After the crisis the company is no more able to delight the stock holders. •

Current Satyam management and Board of directors are not able to distribute dividends to the stock holders as they used to give in the year 2006 and 2007.

•

Stockholders are facing 57% erosion in stock price since the scandal broke. Stockholders never got a fair opportunity to exit because of the stock price falling off a peak within minutes of the scandal being revealed.

•

About a dozen lawsuits have been filed against Satyam computers in US courts, charging the Indian firm with duping thousands of American investors out of billions of dollars.

Impact on Customers: This scandal has created serious trust issue among Satyam’s existing customers and has hindered its ability to attract new customers.

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GlaxoSmithKline (GSK) did not renew its contract with Satyam on ethical grounds. Telstra Corp., Australia's largest telephone company, has said publicly that the scandal will be a factor when it carries out a planned elimination of two of its four IT suppliers this year. As the fallout from the Satyam scandal continues, many of the existing Satyam’s clients are examining their options. While each customer's opportunities will depend on its specific contractual rights, many outsourcing agreements include a provision allowing the customer to terminate the agreement without payment of a termination fee (or payment of a reduced fee) upon a change of control of the supplier. However, because the customer bears the cost of re-sourcing the terminated services, termination usually makes sense only in the most extreme cases.

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Recommendations We have already identified the problem in Satyam Computer Services and our research shows the problem is also present in most of the other business houses in India. Clearly, the problem is abuse of corporate governance by dominant shareholder and it can be solved by disciplining the dominant shareholder. The regulator (the company law administration as well as the securities regulator for example SEBI) and the capital market can play an important role in preventing the Satyam scandal happens again. Government and Regulator Action Required •

Large blocks of shares in corporate India are held by public sector financial institutions and they are mainly passive spectators on managing the company. These shareholdings could be transferred to other investors who could exercise more effective discipline on the company managements. Alternatively, these institutions could be restructured and privatized to make them more vigilant guardians of the wealth that they control.

•

Government and regulator should encourage the company to disclose the company information regularly. This will help the minority shareholder or the capital market to act against errant management. The regulator can

enhance the scope,

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frequency, quality and reliability of the information that is disclosed. •

Whistle Blowing: India’s regulatory agency (SEBI) should consider “whistleblower policy” under which employees of a company can report any wrongdoing to the firm’s whistleblower committee without informing their supervisors or revealing their identities.

Capital Market Action Now a day, the capital market is getting powerful in India. The market should identify the management of the organizations those are working in the best interests of the dominant shareholders. Once these organization and their management are got identified, the capital market can restrict their ability to raise money from the market.

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SATYAM Action Plan to regain business •

Regain Customer and Investor confidence: The new management should convince customers that fraud that happened at Satyam was localized by few people and that company’s delivery excellence, committed associates and differentiated services are still intact.

•

Internet & Public Relation. The World Wide Web (WWW) is extensively used for organization product marketing.

Satyam

can use the same internet potential for increasing public relation activity. The company website for public relation can provide the new management greater control of message consistency and communication.

Satyam management can also use real time

devices like online press conference, executive chats and instance messaging facility for rapid movement of company information to the stakeholders. The internet presence will also keep Satyam’s image fresh in the public’s eyes.

•

Appointment

of

Independent

lead

director:

Board

should

separate the duties of CEO and the board chairman rather than combining the two in one person. The independent chairman should

hold

meetings

without

the

management

present,

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improving board’s chances of receiving candid reports about company’s affairs.

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Reference: 1 Satyam Company Annual Report 2005-2006 2 Satyam Company Annual Report 2007-2008 3

Satyam Stock Report by Motilal Oswal Securities Ltd; Author: Navin Agarwal, 2007

4

www.satyam.com/

5

www.sebi.gov.in/

6

http://www.pdfcoke.com/doc/9812606/Satyam-Raju-Letter

7

http://www.humsurfer.com/satyam-layoff-400-450-employeesatyam-pink-slip

8

http://timesofindia.indiatimes.com/India_Business/Satyam_fudge d_FDs_has_40000_employees_Public_prosecutor/articleshow/401 5830.cms

9

http://cnnwire.blogs.cnn.com/2009/03/04/scandal-hit-satyamgoing-up-for-sale-2/

10 http://www.financialexpress.com/news/satyam-receives-goldenpeacock-global-award-for-excellence-in-corporategovernance/364843/

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