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India: Independent Directors Under Companies Act, 2013 – Boon Or Bane?
Introduction
The Companies Act, 2013 ("Act"), sets to overhaul the provisions relating to independent directors entirely by conferring greater power and responsibility in the governance of a company. There are no explicit provisions for independent directors under Companies Act 1956 ("1956 Act") and only clause 49 of the Listing Agreement1 prescribed for the induction of independent directors and made it mandatory for listed companies. Thereafter, the Ministry of Corporate Affairs carried out corresponding changes to the provisions of 1956 Act, in an attempt to include the requirement of having an independent director on the board of listed companies to oversee corporate governance. However, such attempts proved to be futile as the changes failed to explain the roles, duties or liabilities of independent directors lucidly. Board's independence from external influences is critical and directly proportional for effective corporate governance. Thus, the need for comprehensive and strong legislation relating to independent directors became vital and eventually led to the enactment of the Act. The present e-newsline discusses the specific changes relating to independent directors proposed by the Act and analyzes their pros and cons.
1. Appointment
The Act imposes a specific obligation on listed companies to have at least one third of the total number of directors as independent directors and, also empowers Central Government to include other class/classes of companies within the scope of this requirement.2 Accordingly, the above condition will be applicable to public companies with a paid-up capital of INR 1 billion (approximately US$ 16 million3) or turnover of INR 3 billion (approximately US$ 48 million) or aggregate loans/debentures/borrowings of more than INR 2 billion (approximately US$ 3,225,065)4. To ease the process of selection, the Central Government and organizations authorized by the Central Government will maintain a data bank of persons willing and eligible to be appointed as independent directors, from which the companies can choose suitable persons for the position. But, the critical issue will be if there are enough number of qualified individuals to fulfill the demand. Chances are companies may find it difficult to satisfy the requirement of the Act. Though the Act provides one year period for companies to implement the provision, it would still be difficult task until sufficient persons with requisite skill sets are developed in India. Accordingly, it will become necessary to conduct and organize appropriate training sessions by recognized organizations/associations for suitable persons to develop the required skill sets for performing their entrusted responsibilities.
2. Prescribed statutory criteria
2.1 Requirements:An independent director is someone who does not have any material or pecuniary relationship with the company/directors. Section 149(6) of the Act5 prescribes the criteria for independent directors which are as follows: (i) such individuals must possess integrity and relevant industrial expertise; (ii) such individuals must not have any material or pecuniary relationship with the company or its subsidiaries; (iii) they or their relatives should not have had any pecuniary relationship with the company or its subsidiaries, amounting to 2% or more of its gross turnover or total income or INR 5 million (approximately US$ 80,645), whichever is less, during the two immediately preceding financial years or in the current financial year; (iv) such appointees or their relatives should not have any key managerial position in the company or its subsidiary companies during any of the three preceding financial years; (v) such persons or their relatives should not have been an employee of the company or its subsidiary companies during any of the three preceding financial years; (vi) they or their relatives must not be a director of a nonprofit organization, which receives 25% or more of its receipts from the company or its subsidiary companies or its promoters/directors or from anyone who holds 2% of voting rights in such companies; (vii) such individuals must not be a promoter of the company or its subsidiaries; (viii) they must not hold more than 2% voting rights in the company either by themselves or together with their relatives.
2.2 Responsibility:The above criteria were introduced mainly to ensure transparency in corporate governance and safeguard the autonomy of independent directors. The Act also requires the individuals to submit a self-declaration confirming that they have satisfied the criteria prescribed for the position.6 The Act also casts great responsibility on the independent directors. For instance, it specifies that any decisions taken by the board in the absence of independent directors must be circulated to all directors and can be final only upon receiving the ratification from at least one independent director.7 Further, independent directors can be removed if they fail to attend any board meeting for 12 months period with or without permission from the board.8 Even a proposed alternate is appointee for an independent director must comply with the prescribed criteria for the position.9 The tenure of the independent and such alternate directors must not exceed two consecutive periods of 5 years each, and can be extended for a second term only after the board passes a special resolution.10 Further, section 149(11) mandates that reappointment after the expiry of second term can be done only after a cooling period of three years. Hopefully, this will ensure impartiality and varied person(s) can come on the board. The demand for effective vigil mechanism has been increased tremendously after the emergence of various corporate scandals in India. Hence, the Act has set high standards and increased their participation in the boards' decision-making to enhance monitoring the management and promoters for protecting the interests of the shareholders.
2.3 Liability:With a view to safeguard independent directors from the negative ramifications arising out of the non-independent directors' activities, the Act explicitly provides under section 149(12) that they can be implicated only for offences committed with their knowledge, connivance or negligence. This should limit their liability and, hopefully, instill confidence in the minds of such individuals for taking honest and unfettered decisions, which eventually will ensure proper monitoring of company's management.
