Rightly or wrongly, since its establishment on the mainland in 2001, the role of the independent director has often been seen as an "ornamental vase", serving only as a mouthpiece for major shareholders.

A recent survey of independent directors of companies listed on the mainland, conducted by a mainland daily newspaper, reveals that about 33 per cent of independent directors have neither voted against any board resolution nor abstained from voting; 35 per cent of independent directors have never expressed any independent opinion that is different from those of the major shareholders or of the company management; 15 per cent have encountered obstruction or interference when carrying out their duty as independent directors and 35 per cent have not been able to obtain adequate information to enable them to form an independent view or to express an independent opinion.

The revelation is not surprising, since these are common issues encountered by independent directors all over the world, even in the most developed securities markets in the West.

Recent events suggest that the situation could be changing for the mainland's independent directors. In February 2004, the independent directors of a main-land listed company appointed their own auditors to conduct a special audit into guarantees provided by the company to its controlling shareholder. The executive directors refused to cooperate with this special audit. This led the auditors to issue a disclaimer over the guarantees. The company's annual financial report also included qualifications that allowed for a huge contingent of liabilities.

This event set a precedent for independent directors to hire their own external professional advisors to launch investigations into the affairs of the listed companies of which they are part. Two months after the above-mentioned incident, three independent directors of another mainland listed company resigned to demonstrate their objection to the company's decision to acquire assets from its major shareholder at a price considered by these independent directors as too high and unfair. And in June, the independent directors of yet another mainland listed company questioned the company about its bond investment activities. These events set the ball rolling for an investigation in the company. An independent director openly objected to three resolutions tabled by the board; three independent directors issued their dissenting opinion in an instance where funds were provided to certain parties.

The conclusion to be drawn from this is that more and more independent directors are standing up to be counted.

It is interesting and useful to consider the reasons why all these events are suddenly occurring.

First, there is the issue of integrity. Many independent directors are respected academics or professionals. And some of them are starting to say "enough is enough" when it comes to delinquent corporate behaviour.

Second, there is the issue of self interest. Some independent directors do not want to have their names "tainted" by irregularities, for fear of possible punishment from regulators; or they may have other personal motives. Third, independent directors are constantly being reminded of the consequences that improper activities by a company can bring.

Every now and then, regulatory authorities punish, usually in the form of public reprimand, independent directors who fail to carry out their duties.

Whilst the above events show that independent directors are starting to make their voices heard, another survey conducted on the mainland reveals that there is a large turnover in independent directors.

As of late 2003, there were more than 400 changes of independent directors, representing just over 10 per cent of the total. Some resigned because they found the increasing risks being taken to be unacceptable to them or because of dissatisfaction with the company's activities, while others were sacked for not toeing the company line.

Recent developments like those cited above have started to change the role and public image of independent directors. However, many of those involved end up leaving the company.

It is worth noting that many listed companies have a single controlling shareholder that, because of historical association and the concentration of voting rights, exerts overriding control over the board of directors and at shareholder meetings.

Independent directors, even though they may now account for at least one-third of the board, may lack resources, power and authority to keep the acts of the controlling shareholder or the management of the company in check. Furthermore, under the current system, the controlling shareholder has a strong influence in nomination and approval regarding the appointment of independent directors.

According to a recent survey, 64 per cent of the independent directors are nominated by the board and the remaining 36 per cent, by the largest shareholder of the company.

The dismissal or resignation of dissenting independent directors shows that further changes to strengthen the role and power of independent directors are needed.

While the media's focus makes the public more aware that some independent directors are making great effort to fulfill their roles, the existence of a predominant controlling shareholder in many listed companies suggests that only through legal empowerment and a clear definition of their roles and responsibilities might independent directors reach their potential as impartial protectors of the rights of all shareholders, large and small. The authorities appear to be just doing that.

The mainland Company Law currently in force has no charter regarding the responsibilities or duties of independent directors. The current requirement of at least one-third of the board needing to be independent directors was set by the China Securities Regulatory Commission (CSRC).

There is news that the Company Law is undergoing revision and there are discussions about including the one-third-of-the-board requirement; qualification requirements for independent directors and certain powers and rights vested to them, into the revised Company Law.

It has also been reported that the regulatory authorities are revising their rules for independent directors. There are likely to be improvements and more detailed rules in the areas of qualification; nomination and appointment; power and responsibilities; and monitoring.

The news is encouraging, not only for independent directors but also for the market as a whole. Hopefully, these changes in rules and regulations will become fact sooner rather than later.

However, it may be prudent not to place too much emphasis on independent directors alone.

The answer to the problems plaguing listed companies lies in a framework of corporate governance. A comprehensive set of rules which facilitates and promotes the self-governing of companies is what is required to initiate lasting change. The system of independent directors is but a single, albeit essential and significant, component of the much larger corporate governance framework.

The securities regulatory authorities have already established a set of corporate governance measures and it is gradually showing its effect on improving the quality of operations of listed companies.

The momentum for better corporate governance, and for independent directors to exercise better checks and balances over controlling shareholders and company management, is gathering pace.

The developments so far prove that corporate governance in general, and a code of conduct for independent directors, are playing an increasingly important role in the evolution of State-owned enterprises and, in turn, in the development of the mainland's economy.

* Alden Leung is partner and Helen Hou, manager, of Ernst & Young, Chinese mainland

(HK Edition 09/09/2004 page20)