CODE OF CORPORATE GOVERNANCE IN PAKISTAN

CODE OF CORPORATE GOVERNANCE IN PAKISTAN CODE OF CORPORATE GOVERNANCE IN PAKISTAN By Muhammad Nasir Khan, LL.M., Advocate, Karachi Code of Corporate Governance a term, which is currently became necessity for not only the limited companies but also for other organizations. Globally the Corporate Governance is defined as the system by which companies are directed and controlled. Corporate governance has also been defined as 'the system by which authorities direct and control their functions and relate to their communities'. In other words, the way, in which organisations manage their business, determine strategy and objectives and go about achieving those objectives. Corporate Governance is a broad term that encompasses activities connected with the management of joint stock companies. A company's corporate governance practices affect its performance and its ability to attract the capital required for economic growth. Furthermore, Corporate Governance describes the legal and factual regulatory framework for managing and supervising a company. In the past few years, corporate governance codes have been drafted and enforced in many countries addressed specifically to enterprises that raise funds through capital markets. These sets of rules, which lay down the principles of good corporate governance, are viewed by investors as a major source of guidance. Enhancement of corporate governance in the Pakistan is vital for increasing investment in all sectors its economy from both domestic sources and foreign investors. I am sure that the standards of corporate governance effect all economic entities, but are most important for joint stock companies. This is because it is in joint stock companies that the separation between ownership and management is the greatest, and thus conflicts between shareholders and managers are more likely. No doubt that the aim of corporate governance standards is the protection of the interests of shareholder including minority shareholders. The greater the level of shareholders' protection achieved, the more investment will be there for Pakistani joint stock companies, which will favorably influence the Pak economy as a whole. The Companies Ordinance, 1984 (the Ordinance) is the basic law governing the incorporation, conduct, management and governance of all companies in Pakistan. The whole Ordinance is very comprehensive on the topic, which regulates and systemizes the procedure of companies to be complied with by them within Pakistan while doing the business for the best protection of the shareholders in particular and the public and government at large. It may not be proper or practical to discuss the entire Ordinance here therefore, I will try to enlighten only those sections, which directly enforceable or operating the good corporate governance by the companies. However, some sections may apparently not been seen in respect of operating the corporate governance directly but their main formation exactly directs the companies towards the good corporate governance. The Companies Ordinance 1984 The Companies Ordinance, 1984 provides the rules and regulations for the companies whatsoever in nature incorporated in Pakistan and in case of contravention of any section by any company specific punishments and fines are provided against the contraveners. I would like to discuss the most relevant Sections of the Companies Ordinance 1984 which provide the good corporate governance to the companies incorporated in Pakistan, the significant and appropriate Sections are as follows: Sections 15 to 36 provide the procedure, which is to be complied with by the companies in respect of preparation, alteration and other aspects of the Memorandum and Articles of Association. Memorandum and Articles of Association are the charter and regulations, respectively, of the companies. The Ordinance restricts the incorporation of any illegal or dishonest object or rule in the Memorandum and Articles of Association consequently indirectly involved in the operation of good corporate governance. Sections 121 to 136 provide the procedure, guidelines and restrictions in respect of mortgages and charges. Mortgages are in fact an important factor in the companies, as per practice the companies obtain loans in order to run/extend/enlarge their business and therefore in lieu of obtaining loans they mortgage their properties with the Financial Institutions and obviously there are ways and regulations to be done when mortgaging the properties in the best interest of shareholders, which are obviously doing a way in good corporate governance. Sections 157 to 173 assign/allocate a process/system to the companies in respect of meetings and proceedings as well as rules and regulations regarding the annual general meeting, extraordinary general meeting, voting, proxies and other relevant aspects of the company, which force the companies to strict with a clean setup of managing the prudent and sensible good corporate practice. These provisions also enable the shareholders to observe the administration of the companies whether the administration is doing good and practical efforts to improve the business of the company and whether or not the rights of shareholders are being properly looked after and in case of any complaint and/or grievance the shareholders can take appropriate actions against the management with the help of provisions provided by the Ordinance. Sections 174 to 197‑A are about the numbers, election, removal, term of office, penalties, powers, ineligibility, restriction, liabilities etc of the Directors of the Companies. The Companies Ordinance 1984 has provided an appropriate way/manner for the Directors by adopting the same they can do the good corporate governance. Since the management is main wheel of the corporate system, therefore, in order to protect the rights of shareholders and/or investors the Ordinance has brilliantly provided the rules and regulations, which are practically having an eye on the acts and deeds of the Directors. On the other hand we would say these provisions are commanding provision promoting the good corporate governance. Sections 198 to 204‑A describe the appointment, term of appointment, filling up of causal vacancy, restriction on appointment and removal of Chief Executive Officers of the Companies. The position of Chief Executive Officer is most important and vital in the management of Companies. He is the person who is responsible for running the day to day business of the company, to sign the documents on behalf of the company, to sign the cheques and also responsible for the smooth running of the affairs of the company. The Ordinance has provided stipulated rules for the Chief Executive Officer, which are quite important in respect of good corporate governance. Sections 208 to 260 enable and enforce the good corporate governance since these are in respect of investments, contracts, officers, shareholdings, trading, interests, accounts, dividends and especially Audit. Investments, contracts, officers, shareholdings, trading, interests, accounts, dividends are the main essence of the companies. These provisions and/or sections provide the rules and ways, for instance, how and where to invest the moneys of the company, how to execute bill of exchange and promissory notes, disclosure of interest by director and other relevant actions and deeds to be done by the management for the better corporate governance and to secure the interests of share holders. Audit is most important feature/issue of the company. It is for the check and balance of the company, The Companies Ordinance, 1984 provides provisions for appointment, remuneration, qualification, disqualification, powers and duties etc. of the auditor, which resultantly thrust the management towards good corporate governance. Sections 263 to 282 provide and give the powers to Security Exchange Commission of Pakistan to investigate the affairs of company if the affairs of the company have been so conducted or managed as to deprive the members thereof of a reasonable return, the affairs of the company are not being managed in accordance with sound business principles or prudent commercial practices. The powers provided by Ordinance enforce the management to act and improve the good corporate governance. Section 290 is also a good and enforceable power to be used by the minority shareholder against the oppression of the majority shareholders, once again Ordinance has provided a good corporate governance. From the above discussions it appears that Ordinance is providing guidance and good corporate governance for the companies. The Securities and Exchange Commission Of Pakistan. On 28th June, 1969 the Ordinance "Securities and Exchange Ordinance, 1969", was promulgated to provide for the protection of investors, regulation of markets and dealings in securities. It was come into force on 1st November, 1970 when notification was published in Official Gazette. On 19th March, 1971 "The Securities and Exchange Rules, 1971" were made and/or framed vide S.R.O. 92(I)/71. In the year 1997, the "Securities and Exchange Commission of Pakistan Act, 1997" was promulgated on 26th December, 1997 for the "beneficial regulation of the capital markets, superintendence and control of corporate entities and for matters connected therewith and incidental thereto". In the year 1998 the Securities and Exchange Commission of Pakistan "SECP" was established and Corporate Law Authority "CIA' was dissolved vide Notification Nos. S.R.O.1402(I)/98, 1403(I)/98 and 1404(I)/98 all dated 31st December, 1998. SECP made operational with effect from 1st January, 1999 vide SECP Circular No. 1 of 1999 dated January 7, 1999. Subsequently in exercise of powers conferred by section 40 of the above referred Act "The Securities and Exchange Policy Board (Conduct of Business) Regulations, 2000" were made on the recommendation of the Securities and Exchange Commission of Pakistan vide S.R.O. 884(I)/2000 on 7th December, 2000. In the same year the "Securities and Exchange Commission of Pakistan (Conduct of Business) Regulations, 2000" were announced and made vide S.R.O. 855(I)/2000 on 29th November, 2000. Securities and Exchange Commission of Pakistan ("SECP") has substituted the Corporate Law Authority, in order to provide for a foolproof management system and to secure the interest of the shareholders of the companies, has taken a step in the right direction by announcing the Code of Corporate Governance (The Code) directing the Stock Exchanges to incorporate the Code in their respective listing regulations immediately. By inserting the directions of the Code, in their regulations, the stock exchanges became an effective role in promoting good corporate governance particularly by suspending or terminating the listing companies' membership if they act contrary to the Code. The regulation and governance of Pakistan's financial market and corporate sector has been substantially strengthened with the commencement of operations of the Securities and Exchange Commission of Pakistan in 1999. The SECP's role was further enhanced when it was assigned regulatory responsibility for the insurance industry, and private pension schemes and other non‑bank financial institutions (NBFIs) i.e. leasing, housing, and investment banks in 1999 and 2000 respectively. Although the non‑bank financial sector has gone through a major consolidation and is emerging on strong footing to act as a productive agent of allocating resources, it is utmost important that the capacity of the regulator is further enhanced in terms of skills, systems and procedures, to meet the challenges in today's dynamic financial markets. *Contributions. Powers and Control of SECP in Pakistan to enforce the good corporate governance *Reference: www.secp.gov.pk The Code of Corporate Governance, applicable to all public companies listed and quoted on the Stock Exchanges. The corporate regulatory authority, the Securities and Exchange Commission of Pakistan (SECP) announced significant changes affecting the corporate governance of public listed companies in Pakistan in March, 2002. These have considerable effect on the management of public companies quoted on the Stock Exchanges and are likely eventually to be extended to other companies also. The Companies Ordinance, 1984 is the basic law governing the incorporation, conduct, management and governance of all companies in Pakistan. In the context of rapid globalization and capital mobilization there was need to incorporate modern concepts of equity, transparency, accountability and good governance in the corporate sector of the economy hence SECP announced the Code. The Ordinance to regulate the substantial acquisition of shares and takeovers of public listed companies was promulgated on October, 29, 2002. The Companies Ordinance, 1984 was also amended on 26‑10‑2002 and the Code of Corporate Governance announced in March, 2002 was introduced by a process of directions issued by SECP to the Stock Exchanges in Pakistan in exercise of its statutory powers requiring the Stock Exchanges to amend their Listing. Rules to incorporate the requirements of the Code. According to SECP the Code of Corporate Governance is a compilation of "best practices", designed to provide a framework by which companies listed on Pakistan's Stock Exchanges are to be directed and controlled with the objectives of safeguarding the interest of stakeholders and promoting market confidence; in other words to enhance their performance and ensure conformance by the companies. SECP further says that the Code is aimed at ensuring good governance, fairness and transparency as well as accountability of the affairs of a company, a thing which can never be carried out in isolation and needs everyone's involvement. The role of regulators and auditors is equally important in this respect. This will help foster investors' confidence in the country. Furthermore, the Code is helping a lot in promoting investors' confidence and contribute towards the maximisation of profit of a concern as well as protecting the interests of depositors and small shareholders. The first phase of financial market reforms have been successfully implemented under the capital market development loan of ADB, which was completed in 2002. The SECP took a number of steps to improve the governance and risk management aspects of all the three stock exchanges, and was able to implement the Code of Corporate Governance. The observance of International Accounting Standards (IASs) was further enhanced to boost investors' confidence. Insurance companies were asked to enter into reinsurance arrangements with reinsurers that had a minimum "A" rating. Further, in line with the evolving international practices, the concept of Non-?bank Finance Companies was instituted and is being implemented. Trading in futures contracts in commodities was initiated in July 2001. Additionally, a number of steps were taken to reposition and transform SEC in terms of human resource and automation. Although, a lot has been achieved during the last 2‑3 years by the SECP, however there is a lot, which still needs to be accomplished. Market forces demand a more vigorous financial market in the country. In order to promote vibrant and efficient financial markets in Pakistan, Agricultural Development Bank has recently approved an integrated assistance package of three loans and two political risk guarantee facilities, under the "Financial Markets Governance Programme (FMGP)" for effecting the second phase of reforms in Pakistan. Based on the experiences gained while implementing the first phase of reforms during the last three years, both SECP and ADB have acquired considerable knowledge on the financial sector development in Pakistan. This second phase of reforms builds on to the earlier improvements, and is largely developmental in nature. The Financial Markets Governance Programme of SECP intends to support the development of Pakistan's non‑bank financial markets through reform, capacity building and international private sector participation. FMGP will assist the Government in further improving governance and operational efficiency in financial markets that offer, a wide range of non?-bank products and instruments for savings and investment. This will strengthen investor confidence and reduce vulnerabilities of the financial system as a whole. In the context of this programme, non‑bank financial markets will cover equity markets, debt and money markets, contractual savings, and other non‑bank financial institutions and services including insurance, leasing and DFI reform. Through the political risk guarantee facilities, the programme will increase and sustain private sector flows into the country and support Pakistan's access to international capital flows and integration with the world's financial markets. Meanwhile, domestically, a more diversified and efficient financial market will boost productivity, jobs, and strengthen social safety nets. The FMG programme seeks to support poverty reduction indirectly by facilitating growth and employment creation as well as social protection. The main objectives of the Financial Markets Governance Programme of SECP are to: Strengthen market soundness, stability and investor confidence through improved governance, transparency and risk management; Improve availability of and access to financial instruments for savings and investment and related services; Improve market efficiency and attractiveness to issuers and investors, including institutional and foreign investors. The SECP is programming to carry out reforms on the policy, governance and operational level and stimulate growth of capital market issues and institutional investment by: Improving the fiscal, interest rate and investment policy environment, such as rationalizing taxes for financial instruments and investors, providing incentives to stimulate long‑term savings, and removing distortions in securities investment criteria and foreign exchange transfer for insurance. Boosting investor confidence, through increased transparency and better governance standards, and strengthening of the regulator's enforcement capacity. Increasing the supply of financial instruments and bolstering market infrastructure through establishing a separate counter for newly listed and smaller companies, reform of the stock exchanges, further upgrading of trading, clearing and settlement system, introducing a system of market making for debt anti equity, and developing regulations for the issuance of commercial paper and financial hedging instruments. Developing contractual savings to encourage private sector participation through institutional investment. This includes improving asset management for pensions and life insurance, developing a framework for private pensions and encouraging mutual funds to tap into retail investment. Improving governance and soundness of operations of non‑bank financial institutions through increased private sector participation, improved risk management standards and consolidation to fewer but stronger institutions. As a result of the wide‑ranging reforms focused on restoration of investor confidence in the capital market through better governance and efficiency, the role of the Securities and Exchange Commission of Pakistan has expanded manifold. In addition to the regulation of the insurance sector, the Commission also regulates all non‑banking financial institutions. It has been felt that the Commission not only needs to enhance its capacity through better systems and trained human resource but also requires few changes in its organizational structure to meet the dynamic challenges of' effective regulation of financial markets and the corporate sector. Having taken fundamental steps towards developing a workable regulatory framework for the financial market in Pakistan: the Commission taking steps towards market development, ensuring continuity and strengthening of the existing regulatory system in place. In this context, the Commission requires continued in‑house support on policy matters through applied research and a regular watch on contemporary regulatory developments around the world, particularly in the emerging markets. Keeping in view what has been stated above it appears that the SECP is taking keen and regular steps to systemize the business sector in Pakistan and to ensure that the rights and interests of shareholders, stakeholder and investors are being very well protected. `CODE OF CORPORATE GOVERNANCE'. The Securities and Exchange Commission of Pakistan has announced the Code of Corporate Governance (The Code) on 28th March, 2002, which was applicable to listed companies with effect from July 2002, the objective was to create checks and balances, so that no one individual is able to misuse the company's resources for personal benefits. If we look the Code into parts, it mainly comprises on (a) Management, (b) Accounts/financial setup and (c) Audit. Certainly all three are collectively the backbone of a company. The stronger these parts made, the more production will be there. BOARD OF DIRECTORS. Sections 174 to 197‑A of the Companies Ordinance, 1984 pertain to Directors of the Companies. There was no differentiate between the executive and non‑executive directors of the Company under the Ordinance, however, it was evident that all the directors were not doing the daily affairs of the company. Code of Corporate Governance has distinguished the role and effectiveness of executive and non‑executive directors on the Board of Directors. All listed companies have been asked to effect the representation of independent non‑executive directors, including those representing minority interests, on their Boards of Directors. Code directs the companies to bear the expenses, on application of candidates of minority shareholders regarding circulation of statement, profile and proxy with notice of general meeting. Listed Companies were directed to have at least one independent director representing institutional equity interest of a banking company, Development Financial Institution, Non‑Banking Financial Institution (including a modaraba, leasing company or investment bank), mutual fund or insurance company on its Board of Directors. Code specifies that executive directors, i.e. working or whole time directors, shall not be more than 75% of the elected directors including the Chief Executive. Code further provides that this regulation shall not affect the Banking Companies, who shall continue to be governed by the Prudential Regulations of the State Bank of Pakistan. In order to restrict ineligible person to become Director the Code has specifically provided that the directors of listed companies shall, at the time of filing their consent to act as such, give a declaration in such consent that they are aware of their duties and powers under the relevant law(s) and the listed companies' Memorandum and Articles of Association and the listing regulations of Stock Exchanges in Pakistan. Qualification and Eligibility In addition to the restriction stipulated in section 187 of the Ordinance regarding the ineligibility of persons to become directors the Code has enhanced the restrictions by providing that the listed companies shall not take a person being director if he is serving as a director of ten other listed companies or he is not a tax payer, non‑resident excluded, or he has been convicted by a Court as a defaulter in payment of any loan to a banking company, a DFI or a NBFI or he, being a member of a stock exchange, has been declared as a defaulter by such the stock exchange. Listed companies were advised to make an effort that no person is elected or nominated as a director if he or his spouse is engaged in the business of stock brokerage. Tenure of Office The tenure of directorship is provided in Section 180 of the Ordinance, however, the Code requires fulfillment of vacancy within 30 days. Responsibilities Powers and Functions The directors of listed companies were directed that they should use their powers and carry out their fiduciary duties with a sense of objective judgment and independence for the betterment of the companies. It was also declared mandatory that every listed company, shall ensure that a 'Statement of Ethics and Business Practices' is prepared and circulated annually by its Board of Directors to establish a standard of conduct for directors and employees, which Statement shall be signed by each director and employee in acknowledgement of his understanding and acceptance of the standard of conduct. It was also provided that the Board of Directors should adopt a vision/mission statement and overall corporate strategy for the listed company and also formulate significant policies including [risk management, human resource management including preparation of a succession plan, procurement of goods and services, marketing, determination of terms of credit and discount to customers, write ?of bad/doubtful debts, advances and receivables, acquisition/disposal of fixed assets investments, borrowing of moneys and the amount in excess of which borrowings shall be sanctioned/ ratified by a general meeting of shareholders, donations, charities, contributions and other payments of a similar nature, determination and delegation of financial powers, transactions or contracts with associated companies anal related parties and health. safety and environment]. The Board was directed to define the level of materiality as well. The Board of Directors was directed to maintain the complete record of particulars of the above‑mentioned policies along with the dates. The Code also directed the Board of Directors to establish a system of sound internal control being effectively implemented at all levels within the company. In addition to section 196 of the Ordinance it was stipulated by the Code that the Board of Directors, through resolution at a meeting of Board; can make decisions on material transactions or significant matters including investment and dis-investment of funds where the maturity period of such investments is six months or more, except in the case of banking companies, trusts, mutual funds and insurance companies, determine the nature of loans and advances made by the company and fixing a monetary limit thereof, write‑off bad debts, advances and receivables and determine a reasonable provision for doubtful debts, write‑off the inventories and other assets and determine the terms of and the circumstances in which a law suit may be compromised and a claim/right in favour of the company may be waived, released, extinguished or relinquished. It was established by the Code that appointment, remuneration and terms and conditions of employment of the Chief Executive Officer (CEO) and other executive directors of the listed company shall be approved by the Board. Board Meetings. The Companies Ordinance 1984 is silent about the specific selection of Chairman, however, the Code states that the Chairman of a listed company shall preferably be a non?executive director and the respective roles and responsibilities of the Chairman and Chief Executive be clearly defined by the Board. Section 160(3) of the Ordinance specifies the role of Chairman in general meeting otherwise nothing has been described about the Chairman in Ordinance, however, Chairman is the person who chairs the Board Meetings. In Code it was further declared that the Chairman of a listed company, if present, shall preside over meetings of the Board of Directors. Before the commencement of the Code number of holding of Board meetings was two as per section 193 of the Ordinance, by virtue of Companies (Amendment) Ordinance, 2002 the number of Board meetings was enhanced and public companies were directed to have at least one meeting in each quarter of a year. The relevant amendment in Ordinance obviously seems to be the result of requirement of the Code. Which requires that the Board of Directors of a listed company shall meet at least once in every quarter of the financial year. Written notices including agenda of meetings shall be circulated seven days before the meetings, emergency meetings excluded. In furtherance of the requirements of section 173 of the Companies Ordinance, 1984, the Code requires that the Chairman of a listed company shall ensure that minutes of meetings of the Board of Directors are appropriately be recorded. The Code instructs the circulation of minutes of meetings to directors within 30 days of meetings. By virtue of Companies (Amendment) Ordinance, 2002 it is mandatory now that a copy of the minutes of meeting of the Board of Directors shall be furnished to every director within fourteen days of the meeting. The Code provides that in case if a director is not satisfied with the contents of minutes of meeting he can refer the matter to the Company Secretary, upon his failure to resolve the matter he can file an objection with the Securities and Exchange Commission of Pakistan in the form of a statement to that effect. Key Information. The Code provided that for strength of corporate decision‑making process, significant issues like [annual business plans, cash flow projections, forecasts and long term plans, budgets including capital, manpower and overhead budgets, along with variance analyses, quarterly operating results of the listed company as a whole and in terms of its operating divisions or business segments, internal audit reports, including cases of fraud or irregularities of a material nature, management letter issued by the external auditors, details of joint venture or collaboration agreements or agreements with distributors, agents, etc, promulgation or amendment of a law, rule or regulation, enforcement of an accounting standard and such other matters as may affect the listed company, status and implications of any law suit or proceedings of material nature, filed by or against the listed company, any show cause, demand or prosecution notice received from revenue or regulatory authorities, which may be material, default in payment of principal and/or interest, including penalties on late payments and other dues, to a creditor, bank or financial institution or default in payment of public deposit, failure to recover material amounts of loans, advances, and deposits made by the listed company, including trade debts and inter‑corporate finances, any significant accidents, dangerous occurrences and instances of pollution and environmental problems involving the listed company, significant public or product liability claims likely to be made against the listed company, including any adverse judgment or order made on the conduct of the listed company or of another company that may bear negatively on the listed company, disputes with labour and their proposed solutions, any agreement with the labour union or Collective Bargaining Agent and any charter of demands on the listed company and payment for goodwill, brand equity or intellectual property] shall be placed for the information, consideration and decision of the Boards of Directors of listed companies. Orientation Courses. Code specifies that the listed companies to arrange orientation courses for their directors to acquaint them with their duties and responsibilities and enable them to manage the affairs of the companies on behalf of shareholders in a prudent manner. CHIEF FINANCIAL OFFICER (CFO) AND COMPANY SECRETARY Appointment and Approval. Term Chief Financial Officer was previously known as Finance Manager but now it is called as the Chief Financial Officer who is responsible for the accounts, financial setup, budgets etc. of the Company. Section 2 subsection (33) of Companies Ordinance, 1984 describes that "Secretary" means any individual appointed to perform the secretarial, administrative or other duties ordinarily performed by the secretary of a company. The company secretary is the chief administrative officer of the company and therefore has, as regards matters concerned with the administration of the company, ostensible authority to enter into contracts on behalf of the company. However, he has no independent authority to bind the company by contract, cannot borrow money on behalf of the company nor can institute legal proceedings in the company's name. He cannot call a general meeting on his own authority. He can register a transfer of share if authorized by the directors. According to the Code the appointment, remuneration and terms and conditions of employment of the Chief Financial Officer (CFO), the Company Secretary and the head of internal audit of listed companies shall be determined by the Chief Executive Officer with the approval of the Board of Directors. Likewise their removal is subject to the approval of the Board of Directors. Qualification. Code of Corporate Governance provides that only a member of a recognized body of professional accountants and a graduate from a recognized university or equivalent, having at least five years experience in handling financial or corporate affairs of a listed public company or a bank or a financial institution be appointed for the same position. Code further provides that a member of a recognized