Opinion

Another governance paradigm for Tatas

Georges Ugeux | Updated on January 27, 2018 Published on December 26, 2016

Shift gears To get the Tata Group moving again   -  S Subramanium

Could a private equity firm model, as in Berkshire Hathaway, be helpful in the context of its troubles with Cyrus Mistry?

Tata Sons is the main shareholder of the companies in the Tata group, resulting in a $103-billion conglomerate. On top of Tata Sons is Tata Trusts, which owns Tata Sons for 66 per cent, making it Tata Trusts’ main asset.

Tata Sons supports Tata Group companies in various ways. Beyond the licensed use of the Tata brand, companies receive direct and indirect financial support from Tata Sons. Additionally, the boards of directors and management of the individual companies often seek strategic advise from Tata Sons, including support for acquisitions, divestments, large investments, business collaborations and leadership talent development.

Deeply rooted in India’s communities, the Tatas have built their reputation based on their integrity.

It might, however, be an opportunity to look at the model that is used by private equity firms with a long-term perspective such as Berkshire Hathaway. While private equity firms are substantially different in their intention and maturity, they have similar structures.

Lessons in governance

In a PE, the general partner (GP) is a management company that is the ultimate decision-maker and gets rewarded for this role mostly through a share of the profits made by the investors in the PE funds they manage. Tata Trusts is this ultimate decision-maker. They control the asset allocation and the strategy of each of the PE funds. They are on the board of the PE fund and sometimes, on the board of some of the portfolio companies.

Tata Sons is the PE fund: the managers of the fund and its board have the responsibility to maximise the returns provided by the various portfolio companies they invested in. It is the reason why they chair the board of the fund and exercise operational and financial control of the portfolio companies. The limited partners are the shareholders of Tata Sons (the PE fund), in this case the GP, Tata Trusts, are also a limited partner as they own 66 per cent of Tata Sons. They therefore act in a dual capacity, but their interests are aligned.

Tata Sons, in turn, control at various degrees the companies of which they are the promoter. As such they chair the board of directors and are an integral part of the decision-making process of the portfolio companies, the group companies in the case of Tatas. These directors and chair are nominated by the PE fund (Tata Sons) with the agreement of the GP (Tata Trusts) who sometimes are direct members of the board. Those directors are not subject to the usual scrutiny of the independent directors as they are appointed by the fund and the GP.

Mostly confused

Can a non-for-profit company be a private equity general partner? The fact that a shareholder is a non-for-profit organisation is irrelevant to the need for business performance of and transparency in business of the fund and its portfolio companies. Quite naturally that includes the portfolio companies and does not stop at the door of the PE fund.

Cyrus Mistry claims the Trusts should not interfere with any of its shareholdings, because of the Trusts’ tax status as a non-profit entity. This does not follow from Indian law and practices. Public charitable trusts by definition fulfil a public role and fall, therefore, under Article 226 of the Constitution — and are consequently subject to judicial review. The constant test is whether the Trusts’ functions are performed are “public in nature”. According to the Supreme Court, an entity performs a public function “when it seeks to achieve some collective benefit for the public or a section of the public which is accepted by the public as having authority to do so”. This applies to the Tata Trusts.

As a non-profit entity under tax law, the Trusts spend their accrued wealth on charitable purposes — but that does not deprive them from having a say as promoter and (majority) shareholder of for-profit Tata companies. (Promoters is a term used in Indian law and practice to describe the founder or the largest shareholder of a company.) This is a large responsibility as Tata is not only a business but also a community that is deeply intertwined in people’s daily lives.

Mistry’s publications are mostly confusing and detrimental to his intention to — in his words — “protect an institution we all cherish”. With Cyrus Mistry’s latest call on the Government to step in and interfere in Tata’s governance struggle, is he effectively calling for the nationalisation of charitable trusts in India because of their tax status?

Towards new governance

Paradoxically, the Trusts’ ousting of Cyrus Mistry emphasises even more the need for governance reform and transparency. With their future structure, the Trusts must ensure that the Tata Sons’ management and board have a transparent relationship with them as promoters.

The Group companies should not have to choose between their chairman and their direct shareholder, Tata Sons. The new leadership of Tata Sons will need to have a very clear mandate. It is essential for investors to have visibility of what Tata pursues. Stakeholders require assurance that the leadership is well-defined, transparent and effective.

The appointment of the successor can only ensure stability if leadership principles are clearly established. Shareholders are concerned about this and it is for the Trusts to define its governance, to respond to this legitimate concern. Shareholders’ stake in the group companies is based, among other reasons, on the effectiveness and stability of the shareholder structure. That does not stop at Tata Sons.

With Cyrus Mistry’s fate decided at the level of Tata Sons, the exceptionally complex House of Tatas has to work on a clear path for the future. Probably with a Tata Sons chairman who protects the Tata name and consistency by being also a trustee, with a different individual as Tata Sons’ CEO for managing business matters.

It is certain that lessons will be drawn before a new structure is put in place. Looking at the Tata Sons governance issue from an objective distance, it is an interesting case only in so far that Tata is a unique company for its history and place in the Indian society. Beyond that, the change in the chain of command and subsequent governance reform is a challenge in every group: Tata is nothing new. The path is clear.

The writer is an adjunct professor at Columbia Law School. As chairman and CEO of Galileo Global Advisors, he has been and continues to be an international advisor of the Tata Group

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Published on December 26, 2016
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