By Manisha Chaudhary, Managing Partner and Ravi Kumar, Principal Consultant (August 25, 2021)
The concept of independent director is not new to the corporate world. Even in the absence of specific provisions relating to independent director under the erstwhile Companies Act, 1956, the concept of independent director was present in listed companies through listing agreements. However, the Companies Act, 2013 introduced the concept of independent director for listed companies as well as for certain classes of public companies.
Independent director – Under the Companies Act, 2013
Pursuant to the provisions of section 149(6) of the Companies Act, 2013, an independent director in relation to a company, means a director other than a managing director or a whole-time director or a nominee director:
(a) Who, in the opinion of the Board, is a person of integrity and possesses relevant expertise and experience;
(b) (i) who is or was not a promoter of the company or its holding, subsidiary or associate company;
(ii) who is not related to promoters or Directors in the company, its holding, subsidiary or associate company;
(c) Who has or had no pecuniary relationship, other than remuneration as such director or having transaction not exceeding ten per cent. of his total income or such amount as may be prescribed, with the company, its holding, subsidiary or associate company, or their promoters, or Directors, during the two immediately preceding financial years or during the current financial year;
(d) None of whose relatives—
(i) is holding any security of or interest in the company, its holding, subsidiary or associate company during the two immediately preceding financial years or during the current financial year:
Provided that the relative may hold security or interest in the company of face value not exceeding fifty lakh rupees or two per cent. of the paid-up capital of the company, its holding, subsidiary or associate company or such higher sum as may be prescribed;
(ii) is indebted to the company, its holding, subsidiary or associate company or their promoters, or Directors, in excess of such amount as may be prescribed during the two immediately preceding financial years or during the current financial year;
(iii) has given a guarantee or provided any security in connection with the indebtedness of any third person to the company, its holding, subsidiary or associate company or their promoters, or Directors of such holding company, for such amount as may be prescribed during the two immediately preceding financial years or during the current financial year; or
(iv) has any other pecuniary transaction or relationship with the company, or its subsidiary, or its holding or associate company amounting to two per cent. or more of its gross turnover or total income singly or in combination with the transactions referred to in sub-clause (i), (ii) or (iii);]
(e) Who, neither himself nor any of his relatives—
(i) holds or has held the position of a key managerial personnel or is or has been employee of the company or its holding, subsidiary or associate company in any of the three financial years immediately preceding the financial year in which he is proposed to be appointed;
Provided that in case of a relative who is an employee, the restriction under this clause shall not apply for his employment during preceding three financial years.
(ii) is or has been an employee or proprietor or a partner, in any of the three financial years immediately preceding the financial year in which he is proposed to be appointed, of—
(A) a firm of auditors or company secretaries in practice or cost auditors of the company or its holding, subsidiary or associate company; or
(B) any legal or a consulting firm that has or had any transaction with the company, its holding, subsidiary or associate company amounting to ten per cent. or more of the gross turnover of such firm;
(iii) holds together with his relatives two per cent. or more of the total voting power of the company; or
(iv) is a Chief Executive or director, by whatever name called, of any non-profit organisation that receives twenty-five per cent. or more of its receipts from the company, any of its promoters, Directors or its holding, subsidiary or associate company or that holds two per cent. or more of the total voting power of the company; or
(f) Who possesses such other qualifications as may be prescribed.
Number of Independent Directors on the board of a company
Pursuant to the provisions of Section 149 (4) read with Companies (Appointment and Qualifications of Directors) Rules, 2014, as amended from time to time, every listed company shall have at least 1/3rd of the total number of directors as independent directors.
Further pursuant to the aforesaid provisions of the Act and Rules, every unlisted public company having (i) paid up share capital of Rs. 10 crores or more;
or (ii) turnover of Rs. 100 crores or more;
or (iii) outstanding loans, debentures and deposits exceeding 50 crores or more, existing as on the last date of the latest audited financial statements, shall have at least 2 directors as Independent directors.
Moreover, pursuant to the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015, where the chairperson of the board of directors of a listed entity is a non-executive director, at least 1/3rd of board shall comprise of independent directors and where the listed entity does not have a regular non-executive chairperson, then at least ½ of the board shall comprise of independent directors.
Further, there are other combination of independent directors are provided in the said regulations on case to case basis.
Roles and Responsibilities of Independent directors
There is a complete code for independent director under the Companies Act, 2013 in Schedule IV which prescribe the roles and responsibilities of independent directors as follows:
Roles and Functions:
• help in bringing an independent judgment to bear on the Board’s deliberations especially on issues of strategy, performance, risk management, resources, key appointments and standards of conduct;
• bring an objective view in the evaluation of the performance of board and management;
• scrutinise the performance of management in meeting agreed goals and objectives and monitor the reporting of performance;
• satisfy themselves on the integrity of financial information and that financial controls and the systems of risk management are robust and defensible;
• safeguard the interests of all stakeholders, particularly the minority shareholders;
• balance the conflicting interest of the stakeholders;
• determine appropriate levels of remuneration of executive Directors, key managerial personnel and senior management and have a prime role in appointing and where necessary recommend removal of executive Directors, key managerial personnel and senior management;
• moderate and arbitrate in the interest of the company as a whole, in situations of conflict between management and shareholder’s interest.
The independent Directors shall—
• undertake appropriate induction and regularly update and refresh their skills, knowledge and familiarity with the company;
• seek appropriate clarification or amplification of information and, where necessary, take and follow appropriate professional advice and opinion of outside experts at the expense of the company;
• strive to attend all meetings of the Board of Directors and of the Board committees of which he is a member;
• participate constructively and actively in the committees of the Board in which they are chairpersons or members;
• strive to attend the general meetings of the company;
• where they have concerns about the running of the company or a proposed action, ensure that these are addressed by the Board and, to the extent that they are not resolved, insist that their concerns are recorded in the minutes of the Board meeting;
• keep themselves well informed about the company and the external environment in which it operates;
• not to unfairly obstruct the functioning of an otherwise proper Board or committee of the Board;
• pay sufficient attention and ensure that adequate deliberations are held before approving related party transactions and assure themselves that the same are in the interest of the company;
• ascertain and ensure that the company has an adequate and functional vigil mechanism and to ensure that the interests of a person who uses such mechanism are not prejudicially affected on account of such use;
• report concerns about unethical behaviour, actual or suspected fraud or violation of the company’s code of conduct or ethics policy;
• acting within his authority, assist in protecting the legitimate interests of the company, shareholders and its employees;
• not disclose confidential information, including commercial secrets, technologies, advertising and sales promotion plans, unpublished price sensitive information, unless such disclosure is expressly approved by the Board or required by law.
Apart from the above, the Board of a company or the governing authorities of a company may affix separate additional duties and responsibilities upon an Independent director for which he may be held liable and responsible.
Liabilities of Independent directors
Pursuant to the provisions of Section 149(12) of the Companies Act, 2013, an independent director shall be held liable, only in respect of such acts of omission or commission by a company which had occurred with his knowledge, attributable through Board processes, and with his consent or connivance or where he had not acted diligently.
In this regard, Ministry of Corporate Affairs, vide its circular no. 5 of 2020 dated 03.03.2020, have clarified that prosecution against independent directors for any default shall be filed only if the default is directly attributable to that independent director.
Challenges being faced by Independent Directors
The biggest challenge being faced by independent director is to maintain their independency while performing their duties prescribed under the Act. Further, the access to information and documents of the company is very limited to the independent directors. Much information and documents may not even be disclosed to independent director and thus its affect their performance and duties as independent director.
The Companies Act, 2013 has, no doubt framed extensive definitions, rules and responsibilities of independent directors but it has somewhere failed to ensure effective mechanism to enable independent directors to perform their roles and responsibilities effectively.
The possible solution to the aforesaid situation to introduce framework which enables the independent directors to perform their roles and responsibilities effectively and efficiently. Independent directors bring an outside to the board of a company and play pivotal roles in protecting the interest of all stakeholders of the company including but not limited to, shareholders, creditors, employees. A free and healthy corporate environment is also required to ensure that independent directors can work freely and towards the true intent of law.