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Role Of Business Laws And Corporate Governance In Business Development

Meaning and Definition
The Companies Act'2013 defines a company under Section 2(20) as:
 "A company incorporated under this act or any previous company law"

In common law, a company is a "legal person" or a "legal entity" which is separate from and capable of surviving beyond the lives of its members.

A company is rather a legal device for the attainment of social and economic ends.

It is, therefore, a combined political, social, economic and legal institution. Thus, the term company.

It is an intricate, centralised, economic and administrative structure run by professional managers who hire capital from the investors(s).

Lord Justice Lindley has defined a company as:
"An association of many persons who contribute money or money's worth to a common stock and employ it in some trade or business and who share the profit and losses arising there from".

Therefore, it can be deduced by the aforementioned definitions that Company Law/Business Laws in layman's language are a set of rules and regulations for the effective & efficient operation of companies under its ambit to prevent corporate crimes and to have a common strategy to formulate and implement rules and regulation under the spirit of co-operative federalism and promotion of fair business practices.

Section 149(4) of the Companies Act'2013 states:
Every listed company shall have at least 1/3rd of the total strength of directors as independent directors and the following classes of companies shall have at least 2 directors as independent directors.

Public Companies have a:
  • Paid-up share capital of 10 crores or more
  • Turnover of 100 crores or more
  • Outstanding loans, debentures and deposits of 50 crores or more.

Corporate Governance is a fairly broad subject which now needs to be understood colloquially, which simply means a system of practices, rules & processes by which a firm is directed and controlled in balancing the interest of the company's stakeholders, vis-a-vis company's shareholders, management staff, management executives, supplies, financiers and the community.

A company's corporate governance is directly influenced by the decisions of its Board of Directors. A company being derelict in its duties towards being a well-governed company may face dire consequences of an ill reputation which further might cast a shadow on its prospects and plans.

On the contrary, a company which has a good corporate governance policy will gain the trust and backing of all its stakeholders and can promote long-term financial vitality, and investor support in raising capital and translate to protection against financial losses, waste, risks and corruption.

Relation Between Laws and Development
Hamid Ansari, Ex-Vice President, who had explained in the Bihar Chamber of Commerce and Industry that the rule of law is a prerequisite to draw foreign investment and boost economic growth. The Worldwide Economic Indicators has prepared a data set which shows the different parameters surrounding the law and legal systems affecting the economic development of a country, have a look at the changes in the indices of Three different countries in the past decade. The countries are India, the United States and China.

In India, the relationship between the law and legal systems, and economic development can be drawn on two broad claims. The first claim is that "Law" determines the access of a firm to its finances and ability to raise capital for its working and operation. And the second is that the legal systems and legal origins of a country play a great role in a country's dynamic, adept and evolve its rules and regulations

The said claims and assertions are supported by the "Law Working Paper" on Law, Finance and Politics: The Case of India by Armour and Lele (2009).

The is a direct correlation between the legal system to protect the interest of investors and the development of the external finance market, the laws regulating the protection of equity investors in India have witnessed an exponential increase in India. Also, industry-wise development-wise development has been witnessed predominantly in the areas of pharmaceuticals and software solutions. But, such progress can also be linked to heavy reliance on debt by these companies to market and gain dominance in the market upon acquisition of opportunities.

Therefore, again, robust laws have been formulated to simplify and better the process of raising equity and financing when compared to debt finance.

India's post-development laws were extremely weak and ineffective, disabling the growth of industries. For example, The Companies Act'1956 lacked provisions allowing firms to continue trade during corporate restructures and renegotiations. However, the 1991 New Economic Policy Introduced humongous changes in the investment climate in India.

By expanding the purview of protection via the enactment of legislations such as FEMA (Foreign Exchange Management Act'1999, and through the establishment of institutions such as SEBI (Securities Exchange Board of India 1992). Such imperative and vital changes to the then legal system were an important contribution to the easement in the financing system which then led towards economic growth and development.

According to an analysis by La. Porta et al. In 1997 showcases that when a country offers lethal protection to its investors and shareholders, the external finance attracted by that county increases, which was witnessed by the Indian economy post-1991 LPG reforms. As a result of which India developed an equity and foreign exchange market.

The service sector contributes to 53.89% of the Indian GDP. The service industries are generally firms which do not have tangible assistance to offer as collateral to raise debt finance, rendering equity finance to be a major source of capital. India's strengthening approach to the application of robust laws on equity finance has led to the growth of development and investment into industries and the country and thereby contributing to the country's economic growth.

India is a country which has been undergoing constant economic development (in terms of Gross Domestic Product), and has witnessed fairly high growth rates in the past decade or so. Research has indicated that a high growth rate has been sustained by investment; typically a growth rate of 8% must be complemented by an investment effort above 35% of GDP (Sanyal 2019).

Investment and equity finance are given weightage in determining the economic development of a country primarily because it creates demand, introduce new technology, increases productivity, generates employment opportunities, and creates capacity.

Therefore, it is important to note that when we analyse the impact of laws and legal systems on the economic development in India ,an analysis of the impact on investment policies would be a sufficient link between the two. This is supported by the Economic Survey of 2019 which emphasised the importance of the betterment of the legal system of further stir up an investment -driven development model for the Indian economy.

Law And Development
There is ample evidence that the establishment of the rule of law attracts private investment,to the extent that it creates a climate of stability and predictability, where business risks may be rationally assessed, property rights protected, and contractual obligations honoured. In layman language, experience supports the proposition that tight rule of law is needed to give credibility to commitments to applicable rules.

This, in turn, leads to lower transaction costs,greater access to capital, and the maintenance of level playing field. As a result of such experience, recent studies of ecnomic and business development has placed greater emphasis on institutional economic, notably on preserving the quality of institutions through the establishment and maintenance of an appropriate and workable legal framework.

In the process of achieving economic development or expanding their private business, countries often deplete their natural resources. Environmentally sustavibake development, howeve, may be achieved through enactment of rigorous regulatory regimes, the clarification needed of property rights, the establishment of monitoring institutions staffed with well-trained professionals, and the building up of approriate international law regimes.

Rapid growth can also be correlated to easing in economic or financial refroms which do not bar entry or exit for a novice in an industry, but rather promotes it. Relevant factors include defining the role of the state and the nature and limits of its intervention, achieving good governance , improving the performance of the public sector, supporting civil society and developing an appropriate environment for growth of the business development.

Typically, reforms which aims at developing a business friendly legal framework at the National level, addresses two fundamental processes.

The First process is the review of legal rules , starting with the constitution and including legislation, administrative decrees, and orders. This process should ensure that the contents do the rules incorporated in these instruments respond to genuine social needs, reflect a per-existing or emerging public opinion, are based on adequate data and studies, and result from some form of participation, especially by those likely to be affected by them.

The Second is the enforcement legal rules, regardless of their content. Without the first process law is not likely to be sound or useful; without the second it is not law.

If either of these processes is flawed, confidence in the legal system will suffer and broader processes of economic and social development will be negatively affected in a number of ways.

Here are some examples of what usually happens in the absence of appropriate and enforced legal rules:
  • The effects on contracts:
    Respect for contractual obligations will be left entirely to the good will of the contacting parties, agreements will be binding only to extent their beneficiaries have effective power to make them so,and resorting to extra-legal means will become an ordinary method of enforcement.
  • The effects on property rights:
    Individuals and corporations will tend to acquire only the assests over which they can maintain effective property rights. Many will prefer to liquidate their assests and keep them in form of deposits or portfolio investments abroad, putting pressure on the value of the local currency.
  • Effect on corporations:
    Most companies will take the form of closed corporations where shares are held by reliable friends and relatives, thus barring the formation of large domestic joint-stock companies and depriving ordinary citizens of opportunities to own stock porfolios.
  • Effects on transfer of technology:
    The inflow of foreign direct investment, which normally introduces more Morden technology, will slow down. Weak protection of intellectual property rights rights will stifle imnvention and development of new ideas.
  • Effects on transaction costs:
    Enterprised will avoid competitive bidding as a normal o method of procurement, preferring to deal with familiar and reliable sources. They will also tend to seek favours from public officials through illegal means.
  • Effect on ongoing and regulation:
    Weak or ineffective laws usually lead to the enactment of further laws and regulations. An over-regulated econonmy undermines new investment, increases the cost of existing ones, and leads to the spread of corruption.
  • Effects on the extent of criminal offenses in economic sphere:
    Weak, ineffective, or excessive ,laws lead to tax evasion, smuggling, and the growth of organised crime.
The question of how law may be utilised to achieve economic revival the short run and sustainable development in the long run addresses the key concept of thr legal framework both on national and international levels. In contrast with the usual conceptualisation, such a framework consists of more than just applicable legal rules. The framework can be defined in terms of a system based on three pillars.

The first pillar represents the legally binding rules. Such rules are not only known in advance. They are actually enforced by the State on all revelant parties, and are subject to modifications pursuant only to previously known procedures.

The Second pillar consists of appropriate processes through which such rules are made, and through which they are either enforced in practice or are deviated from when necessary. The appropriateness of such processes will obviously differ according to the circumstances of each country.

The Third pilar of the legal framework consists of well-functioning public institutions that are staffed by trained and motivated individuals, are transparent and accountable to citizens, are bound by and adhere to regulations, and apply such regulations without arbitrariness or corruption.

An efficient and fair judicial system serves as the final arbiter of functioning legal system. The absence of efficient institutions for the enforcement of rules and resolution of conflicts reflects reflects on the previous elements of "rules" and "processes".

As explained, the laws and legal systems are on essential determinant of the economic development of a country. The interplay between the allocative and procedural dimensions of legal systems bring forth positive economic change. In Indian context, law has played an extremely important role in economic development.

The legal system in India determines the access of entities to finance, which is one of the essentials for economic development, and the origin of the legal system is important to judge the flexibility of the law. India's economic development and shortfalls has been linked to the virtue of the legal system, and its shortcominings. The distinction between common law and civil law systems, and their role in economic development, along with an analysis of the jurisprudence of the courts, has been explained with reference to India.

The causes of the boom of the American economy in relation to its law and legal systems has been studied, and it has been related to that of India, comparing how the Indian Legal systems is different from American Legal system, which puts the latter at an advantage.

Lastly, the Chinese economic model was studied, and it presented a counter to the Indian and American Models, as the Chinese economic development was substantial even though their legal systems isn't as structured or flexible. Therefore, it is concluded that laws and legal systems do play an important role in the economic development of a country, but this isn't a rule of thumb, as there are multiple factors other than the legal systems contributing as well.

The magnitude of the impact of laws and legal systems on the economic developments is subjective, and not absolute. A brief study of the belowmentioned shows how the the American legal systems performs the best, followed by India, and then followed by China. This is in line with the arguments put forward by this paper.

Concluding Remarks
It may be appropriate to conclude these remarks by referring briefly to what the World Bank ("Bank" or "World Bank') is doing to improve the enabling environment for private business. Through its adjustment , the Bank supports borrowing countries in their efforts to improve their macro-economic frameworks, to liberalize their trade and investment regimes, to privatise public enterprises, and to strength their financial sectors, including in particular, banking institutions and capital market.

In addition, the Bank offers loans to finance legal and judicial reform projects and has even given grants for the initial studies needed for this purpose. Perhaps, the most important lesson is that such reform should be comprehensive in scope. It should not be limited to the new legislation and regulations.

It must also include a series of the processes through which existing rule have been made and applied and cover the institutions which apply these rules, including, of course, the judiciary. The contents and direction of a country's legal reforms should be the responsibility of the country itself, not that of its foreign donors, and must conform with the country's needs, its social norms, and other special characteristics.

World Bank experience in financial legal reform also highlights the importance of participation of both local legal and business communities in the design and details of the reform process. Quite often, it has also been useful to establish a central legal reform unit which reports to the head of government and thus, effectively coordinates the varied demands of various internal sectors and external donors. Finally, strengthening legal education and providing continuous training to lawyers and judges have proven to be important elements in a successful legal reform.

The World Bank's assistance to private business takes other forms as well. In addition to the loans and guarantees provided by the Bank to private enterprise with the gurantee of the host. The World is also paving the way for current efforts outside the World Bank to formulate a multilateral convention on the treatment of foreign investment, an effort which has proven unworkable in the past.

The Worlds Bank's efforts to improve the legal framework for private business in its borrowing member countries is expected to continue with increasing realisation of the relevance and importance of the role of law, and institutional reform, in general, the the developmental process.

  • Armour.J and Lele, (2009) Law,Finance and Politiucs: The Case of India', Law & SocietReview
  • Batra,S.(2003) 'The Asians recovery: Progress and pitfalls, The position of India, Global forum on Insolvency Risk Management', World Bank, Washington DC [Prepint]
  • La Porta, al (1997)'Legal Detriminants of External Finance', The journal of finance.
  • Fordham International Law Journal
  • Sanyal,S (2019) 'Improving legal system is the best investment India can make' The Economic Times.
Written By: Tanmaya Jha 5th Year BBA.LLB(H) Student at K.R.Mangalam University, Gurugram

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