Corporate Governance Through Audit Committee:

A Study of the Indian Corporate Sector

Rajeev Puri*, Ruchi Trehan** and Hashima Kakkar***

The present study aims at examining the effectiveness of audit committees as a tool
of corporate governance in the Indian corporate sector. It is based on analysis of 10
listed companies of India which include Steel Authority of India Limited, Tata Chemicals
Limited, Whirlpool of India Limited, Larsen & Toubro Limited, Power Grid Limited,
DLF Limited, etc. Through case survey approach, this study reveals that the concept
of audit committee is not new in India but is gaining importance day by day. The
functions of audit committee have gradually shifted from traditional areas of
accounting. In the current scenario, the audit committees set up by Indian corporate
houses perform diverse functions in the areas of financial reporting, financial analysis,
audit planning, reviewing of external audit, internal control and evaluation, etc. The
study also reveals that in all the companies under study there is independent
representation of the audit committees which act as a channel of communication
between external auditors and board of directors. The dynamic nature of the role of
the audit committees makes corporate governance more effectual in the context of
the Indian corporate.

Introduction
In the current era, investors primarily consider the following two variables before making
investment decisions:
1. The rate of return on invested capital, and
2. The financial risk associated with the investment.
The financial risk associated with investment often acts as a stumbling block for the potential
investors to invest their hard earned money in capital market. In the past, various capital market
scams have shaken the confidence of investors badly, leaving them in tears and tatters. To curb
the malpractices adopted by the corporate sector, the government felt the necessity of
regulating their actions. The incorporation of corporate governance practices is a major step
in this direction. Corporate governance provides two benefits: reducing these malpractices
followed by corporate houses and reducing investor’s risk associated with their investment by
ensuring transparency, accountability and enforceability on the part of the corporate houses.
Moreover, sound corporate governance practices enable management to allocate resources
* Senior Lecturer, DAV College, Jalandhar, India. E-mail: rajiv_sr2003@yahoo.co.in
** Lecturer, Apeejay College, Jalandhar, India. E-mail: ruchitrehan2006@gmail.com
*** Lecturer, Apeejay College, Jalandhar, India. E-mail: hashimakakkar@yahoo.co.in

Corporate
© 2010 IUP.Governance Through Audit Committee: A Study of the Indian Corporate Sector
All Rights Reserved. 47
more efficiently, which increases the possibility that investors will obtain a higher rate of return
on their investment in a financially peaceful environment.
The Concept of Corporate Governance
The system which aids the management to direct and control the company to the best interest
of its shareholders and other stakeholders, ascertaining better financial reporting and more
transparency is called corporate governance. It is a controlling activity of the company and is
needed to create a culture of consciousness, transparency, openness and sincerity. Corporate
governance entails a group of relationships connecting the management of the company and
various other shareholders and stakeholders besides providing a framework for setting the
objectives of the company, the ways for achieving them and determining performance
monitoring. The corporate governance framework not only clearly defines how rights and
responsibilities are distributed between the different stakeholders of the company including the
board of directors, the management, the shareholders and others, but also specifies explicitly
the procedures and rules for decision making on the affairs of the corporation. The goal is the
closest possible alignment of the interests of corporations, individuals and society.
Corporate governance practices have gained greater importance after the adoption of the
report of the Kumar Mangalam Birla Committee in 1992 on corporate governance by Securities
and Exchange Board of India (SEBI) which contains the introduction of audit committees.
Various facets of corporate governance are depicted in Figure 1, where it is observed that one
of the important facets of corporate governance is an audit committee.

Figure 1: Facets of Corporate Governance

Corporate and Director’s Responsibilities

Financial Reporting Disclosures

Facets of Corporate Governance

Remuneration Committee Shareholders Grievance

Audit Committee Committee

Audit Committee: A Tool of Corporate Governance

An audit committee is a key institution in the context of corporate governance which helps the
board of directors in fulfilling their financial and fiduciary responsibilities to shareholders.
Clause 49 of the listing agreement read with section 292A of the companies act lays down the
provisions for constitution of an audit committee. The establishment of an audit committee is

48 The IUP Journal of Corporate Governance, Vol. IX, Nos. 1 & 2, 2010
commonly viewed as a mechanism by which the board of directors expect to maintain a direct
line of communication between the internal and external auditors as well as the chief financial
officer of the organization. The audit committee is a sub-committee of the board which plays
a key role in corporate governance. It is for enabling the directors to discharge their
responsibility, particularly in relation to financial reporting, integrity, internal control, risk
management and corporate standards of behavior.
Revised clause 49 of the listing agreement provides for specific requirements of an audit
committee. The companies shall be required to comply with the requirements of clause 49 in
relation to audit committees, which are as follows:
• Clause 49 II (A): Qualified and independent audit committee: The minimum number of
directors the audit committee will have as its members is three. Independent directors
should comprise two thirds of the total members of the audit committee. Only an
independent director will be the Chairman of the audit committee.
• Clause 49 II (B): Meeting of the audit committee: The minimum number of meetings of
the audit committee should be four in one year, and the maximum time lapse between
two meetings should not be more than four months. The quorum shall be the greater
of two members and one third of the total number of members of the audit committee,
provided at least two independent members are present.
• Clause 49 II (C): Powers of the audit committee: If it falls within its terms of reference,
the audit committee is bestowed with the powers to investigate activity of any kind. They
can also seek information from any employee. It can also obtain outside legal or other
professional advice. If considered necessary, it can have the presence of relevant external
experts.
• Role of Audit Committee, Clause 49 II (D): The role played by audit committee can be
categorized in the following broad categories:
(a) Auditor’s role with regard to financial statements, audit and disclosure.
(b) Audit committee’s role in coherence with the internal audit.
(c) Auditor committee’s role with regard to external audit.
(d) Audit Committee’s role with regard to legal and regulatory requirements.
(e) Auditor’s role with regard to reporting responsibilities.
(f) Auditor’s role with regard to other responsibilities.

Review of Literature
There has been a lot of research work done, both in India and abroad, on the role of the audit
committee in corporate governance. Al-Mudhaki and Joshi (2004) examined the composition,
focus and functions of audit committee, and the effects of the meetings. Mitchell and Tower
(2004) did a comprehensive simultaneous analysis of the association between five-audit
committee composition and operational characteristics features and earnings management

Corporate Governance Through Audit Committee: A Study of the Indian Corporate Sector 49
based on a sample of 485 Singapore publicly traded organizations. Cohen et al. (2005)
expressed that corporate governance issues have grown more salient in the light of the alleged
corporate accounting scandals. Vera-Munoz (2005) concluded that comprehensive regulatory
changes brought on by recent corporate governance reforms have broadly redefined and
re-emphasized the roles and responsibilities of all the participants in a public company’s
financial reporting process. Agarwal (2006) stated that the audit committee of the board is today
seen as a key fulcrum of any company. He states that being mandatory under Clause 49, the
audit committee can be of great help to the board in implementing, monitoring and continuing
good corporate governance practices to the benefit of the company and its stakeholders.

Research Methodology
Objectives of the Study: The main objective of the study is to analyze the effectiveness of the
audit committee as a tool of corporate governance in the Indian corporate sector. The above
stated objective has been approached by analyzing the various aspects of audit committees like
audit committee’s role in financial statements, audit, disclosure, role of audit committee in
maintaining relationship with its internal audit department and legal compliance.
Methodology: This research is based on data taken from secondary sources, i.e., annual reports,
websites and other published journals. The case survey method is adopted for this whereby,
each and every company selected as a sample point is studied in detail as case and then
observations are made.
Research Plan: Research plan includes the following:
a. Universe: The universe of the study is all listed companies in India.
b. Sample Size: A sample size of 10 listed companies is taken.
c. Sampling Design: The available data has been carefully analyzed, interpreted and
presented by studying the corporate governance charter of the companies and by
observing the actual practices of the audit committee.
Methods of Data Analysis: Commensurating with different objectives of the study, various tools
of analysis have been employed in order to arrive at certain conclusions regarding “effective
implementation of corporate governance through audit committee”. They are:
a. Simple Statistical Techniques: Data collected from the annual reports through simple
statistical techniques like diagrams, graphical presentation, etc.
b. Tabular Analysis, Percentages: They have been applied for analysis of data.
c. Bar Charts: They have been applied for analysis of data.

Analysis, Discussion and Recommendations

The analyses and interpretations have been made after studying the corporate governance
philosophy with the audit committee charter of 10 listed companies of India, having a share
capital of Rs. 5 cr or more. A brief profile of these companies is given in Table 1:
The whole analysis of the audit committee practices prevalent in the above mentioned
companies have been divided under the following headings:

50 The IUP Journal of Corporate Governance, Vol. IX, Nos. 1 & 2, 2010
 Table 1: Profiles of the Companies

Company Turnover Capital

Business
Name (Rs.) (Rs.)
DLF Ltd. Dealing in real estate and infrastructure 6,058 341
Ashok Leyland Ltd. Leader in India’s commercial vehicle industry 89,33.69 1,33.03
Surya Roshni Ltd. India’s second largest manufacturer of lighting 1,485 28.43
products
Larsen and Toubro India’s largest engineering and construction 58.47 25,187
Limited conglomerate
Trent Ltd. India’s largest and fastest growing chains 514.15 19.53
of retail stores
Steel Authority of India’s leading steel-making company 45,555 4,130
India Limited
Tata Chemicals India’s leading manufacturer of inorganic 4,110 234
Limited chemicals
Whirlpool of India World’s number one manufacturer and 1,932.61 126.87
Limited marketer of major home appliances
GVK Industries Ltd. Deals in infrastructure and urban infrastructure 117 141
projects
Powergrid Ltd. One of the largest transmission utilities in 4,614 4,208
the world

Compliance of General Provisions of Audit Committee

Interpretation
Considering the compliance of general provisions of the audit committee as accessible in
Figure 2, it is observed that all the 10 companies under study have an audit committee with
an independent director as chairman. The chairman of the audit committee is present at Annual
General Meetings (AGM) in case of every company for any clarification sought by investor/
shareholder. Such a system goes a long way in boosting the morale of the associated parties
of the company. Moreover, the audit committee also maintains a positive work environment with
other departments in ensuring smooth working in the organization as a whole.
Auditor’s Role with Regard to Financial Statements, Audit and Disclosure
Interpretation
Finance is the life blood of any organization and needs to be utilized optimally. Seeing all the
parameters regarding financial statements, audit and disclosures in Figure 3, audit committees
of all the companies comply fully with various prescribed aspects. Audit committees of all
companies oversee the financial reporting process. The presence of financial experts in all

Corporate Governance Through Audit Committee: A Study of the Indian Corporate Sector 51
 Figure 2: Audit Committee Structure

12
12

10
10

88
No. of Companies

66
10 10 10 10 10
44

22

00 Overall
Companies Independent Chairman of Committee
Having Audit Director Audit Maintaining Review
Committee in Audit Committee Positive Process
Committee Present in Working
AGM Relationship

Figure 3: Audit Committee’s Role in Internal Control

12
12

10
10

88
No. of Companies

66 10 10 10 10 10

44

22

00 Overseeing Presence of Provision for Review of Playing the

Financial Financial Probing Quaterly Role of
Reporting Experts Irregularities Reports Fiancial
Process Controller

52 The IUP Journal of Corporate Governance, Vol. IX, Nos. 1 & 2, 2010
companies ensures proper review of quarterly as well as yearly financial statements. Moreover,
audit committees of all the companies duly provide for probe into financial irregularities, if any.
So, the committee really works as the financial controller of the company.
Audit Committee’s Role with Regard to Internal Audit
Interpretation
Internal audit consists of reviewing all financial and operational aspects within the company.
It is an independent appraisal activity. Effective functioning of the internal audit significantly
enables the board to carry out its governance responsibilities, as reflected in Figure 4.

The audit committee of all the companies properly reviews internal auditors performance
ensuring adequacy of internal control system. However, the effectiveness of follow up system
varies from company to company.

Figure 4: Audit Committee’s Role with Regard to Internal Audit

12
12

10
10

88
No. of Companies

66
10 10 10 8 8

44

22

00
Committee Ensure the Review Follow up Review
Reviews Adequacy of of of of the
Internal Internal Findings Investigations Significant
Auditors Control Reports
Performance System

Auditor Committee’s Role with Regard to External Audit

Interpretation
The audit committee mechanism definitely helps in conduct of external audit. It sets a platform
for external auditors for submitting their annual report (Figure 5). The external auditors duly
take into consideration the analyses, findings, recommendations of audit committee and also
hold discussions, if required.

Corporate Governance Through Audit Committee: A Study of the Indian Corporate Sector 53
 Figure 5: Audit Committee’s Role in External Audit
12
12

10
10

88
No. of Companies

66
10 10 10

44

22

00 Recommendation Discussion with Proper Review of the

Given Regarding External Auditors Performance of the
External Auditors and Post-audit Discussions External Auditors

Auditor’s Role with Regard to Other Responsibilities

Interpretation
Risk is inherent in every business. Be it business, financial or market risk, its management is the
need of the hour these days. Figure 6 is clearly reflecting that audit committee of all companies
Figure 6: Auditor’s Role with Regard to Other Responsibilities

12
12

10
10

88
No. of Companies

66

10 10
44

22
2
00 Discussion with Committee Committee
Management of the Institute and Adopted Whistle
Company’s Major Oversee Special Blower Policy
Policies with Respect to Investigations to Ensure Prevention
Risk Assessment and as Needed of Fraud and
Risk Management Unethical Behavior

54 The IUP Journal of Corporate Governance, Vol. IX, Nos. 1 & 2, 2010
under study discuss with their management the companies major policies with respect to risk
assessment and management. Another important finding is the use of ‘whistle blow’ policy by
certain corporate houses. This policy is like the alarm bell which cautions all the concerned
parties—investors, employees, financial institutions—about the uncertain happenings in future
which may include fraud. From Figure 6, it is inferred that 20% companies incorporate this
aspect in their corporate governance philosophy, thereby managing their future risk effectively.

Suggestions/Recommendations
From the analysis done, the following are the various suggestions and recommendations:
• As seen in all the annual reports, except one or two companies like Powergrid Ltd., none
of the other companies have framed their audit charter properly. So, it is suggested that
all the companies should properly frame their audit charter and present it in annual
reports. This itself will help in making awareness amongst all about audit committees,
which will lead to good corporate governance.
• Out of all the sampled companies, only in two companies audit committees are adopting
the ‘whistle blow’ policy. This helps in prevention of fraud and unethical behavior. So,
the rest of the 80% companies where this policy has not yet been adopted should adopt
it as it will ultimately help in good corporate governance.
• There is no doubt that audit committees are effective ensuring good corporate
governance in the Indian corporate sector, but it is suggested that the government
should take timely actions. Moreover, SEBI should do timely reviews of the work of audit
committees which will eventually lead to an atmosphere of better transparency,
dependence and reliability. This itself is the indicator of a better corporate governance
atmosphere.

Conclusion
From the above discussion it can be concluded that audit committees are an effective tool to
ensure good corporate governance and it is being adhered to by the Indian corporate sector.
Be it in the area of reviewing financial reporting or internal/external audit, it is ensuring total
transparency in all the areas at all the levels thereby delighting the potential as well as existing
investors. All the companies under study have established audit committees by having major
representation of independent non-executive directors. This shows that there is independent
representation of the audit committees. The diverse functions of audit committees are
categorized in three categories—internal control/evaluation, audit planning and financial
reporting. The primary areas of corporate governance that are of significant relevance to an
audit committee are: reviewing annual audited financial statements, providing recommendations
related to audit fees, discussing with the management and reviewing the efficacy of the internal
control system in place. Another significant function of an audit committee is the reviewing of
the scope of an external audit work. The audit committees take on the role of a communication
channel between the board of directors and external auditors, aiding the flow of relevant
information to the board of directors that helps them to effectively supervise the management.

Corporate Governance Through Audit Committee: A Study of the Indian Corporate Sector 55
Audit committee functions are gradually shifting from traditional areas of accounting and their
role is changing fast enough to make corporate governance more effective. So, in the end, it
can be concluded that in the present era, audit committee is playing an effective role in good
corporate governance. 

References
1. Agarwal S (2006), “Corporate Governance Through Audit Committees’, The Chartered
Accountant, November, pp. 733-742.
2. Al-Mudhaki J and Joshi P L (2004), “The Role and Functions of Audit Committees in the
Indian Corporate Governance: Empirical Findings”, International Journal of Auditing, Vol. 8,
No. 1, pp. 33-47.
3. Cohen Jeffrey R, Krishnamoorthy Ganesh, Wright Arnold M (2005), “Dynamic Data:
Corporate Governance and Auditors’ Evaluation of Accounting Estimates”, Accounting
Education, Vol. 20, No. 1, pp. 119-128.
4. Mitchell and Tower Williams S (2004), “Corporate Governance: Earnings Management
Linkages: Impact of Audit Committee Composition and Operational Characteristics”,
International Journal of Accounting, Auditing and Performance Evaluation, Vol. 1, No. 4,
pp. 401-431.
5. Vera-Munoz Sandra C (2005), “Corporate Governance Reforms: Redefined Expectations
of Audit Committee Responsibilities and Effectiveness”, Journal of Business Ethics, Vol. 62,
No. 2, pp. 115-127.

Reference # 04J-2010-01-04-01

56 The IUP Journal of Corporate Governance, Vol. IX, Nos. 1 & 2, 2010
Reproduced with permission of the copyright owner. Further reproduction prohibited without permission.