Related-Party Risk Is a Conduct Problem, Not a Disclosure Problem

Related-party transactions in India attract a well-developed set of rules. The Companies Act 2013 defines related parties broadly in s. 2(76), requires directors to disclose their interests under s. 184, and requires board consent, and shareholder approval above thresholds, for many related-party contracts under s. 188 unless they are in the ordinary course of business and at arm's length. For listed entities, Regulation 23 of SEBI LODR requires prior audit committee approval of related-party transactions, with only independent directors on the committee voting, and shareholder approval of material ones.

All of this works on the transactions that are declared. Much of the damage comes from the ones that are not.

The problem the rules do not solve

Approval processes depend on management knowing, and saying, that a counterparty is related. A director's interest held through a relative's firm, a vendor owned by a plant head's former driver, or a distributor run by a nominee of a promoter will not appear on the related-party list unless someone has a reason to look.

When those connections surface, it is usually through a complaint, an audit query, or a forensic review after something else has gone wrong. By then the transactions may have run for years, and the question is no longer disclosure but how much value has left the company.

Where hidden related parties are found

• Vendors paid for services that are hard to verify: consultancy, logistics, labour supply, marketing, "liaison".
• Distributors and dealers given better credit terms, schemes or territories than their peers.
• Buyers of scrap, by-products, surplus assets or inventory written down for sale.
• Landlords and lessors of premises used by the company.
• Counterparties in group restructurings, loans and advances, where funds move through entities with common directors or shareholders, sometimes in loops that look like round-tripping.

What good looks like

1. Discover before you approve

Build a recurring discovery exercise into the annual plan:

• match vendor, customer and distributor master data (addresses, phone numbers, email domains, bank accounts, PAN and GST details) against employee, director and promoter data;
• check company registry filings for common directors, shareholders and addresses, and trace beneficial ownership where entities are layered;
• flag counterparties incorporated shortly before they began trading with the company, or with no visible business beyond it;
• review declarations of interest against what discovery finds, and follow up every gap.

2. Test pricing and substance

For connected counterparties, declared or discovered, ask:

• Is the price in line with what independent suppliers or buyers charge or pay?
• Were the goods or services actually delivered, and could the company have done it itself?
• Are the terms (credit, returns, exclusivity, advances) ones an unrelated party would get?
• Did the person with the interest influence the decision, and were they excluded from it?

3. Put it in front of the right people

The audit committee should receive not only the list of approved related-party transactions, but the results of discovery: connections found, how they were resolved and any that remain under review.

Decision points

• A connection is found but the price looks fair. Disclosure and approval may still be required. Treat the failure to declare as a conduct issue in its own right.
• A connection is found and the price is not fair. This is a potential fraud on the company. Preserve evidence, assess whether the statutory auditor's duty under s. 143(12) may be engaged, and consider an independent investigation.
• The connection runs to a promoter. The audit committee, led by independent directors, must own the response. Management cannot investigate its own principal shareholder.

Common mistakes

• Relying on annual declarations. A form collected once a year records what people chose to declare on that day.
• Defining "related" too narrowly. The statutory definition is the floor. Employees below KMP level with influence over a contract create the same risk.
• Approving on paper. A valuation report commissioned by the proposing management is not independent benchmarking.
• Ignoring loans and advances. Value can leave through inter-corporate deposits and advances as easily as through purchases.
• Treating discovery as an accusation. A shared address may have an innocent explanation. Ask, document the answer and verify it.

Where we can help

Our forensic accounting and data analytics team runs related-party discovery and pricing reviews. Before an investment or a senior appointment, promoter due diligence and integrity due diligence map the network of interests behind the people you are about to rely on. For conflicts at employee level, see our guide to investigating employee–vendor conflicts of interest. Speak to us in confidence.