Continuing with our series of posts on the Companies Act, 2013 (“2013 Act”), let us now turn our attention to the role of independent directors in a company, an issue that has become increasingly important after the Enron and the Satyam scandals. As I will discuss below, India’s new company law has recognised independent directors as a vital facet in the operation of a company.
Independent directors are considered the watchdogs of a company. Appointed to the board of directors of a company to oversee its business, they should be free of all external influences. To ensure their complete autonomy, an independent director should not have any material or pecuniary relationship with the company.
Interestingly, the Companies Act, 1956 did not contain any reference to independent directors. Further, the reference found in Clause 49 of the listing agreement is only applicable to listed companies.
Definition: The 2013 Act, for the first time, defines an “independent director”. Interestingly, the definition in Section 2(47) is similar to the one provided in the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009, a regulation applicable only to listed companies. The principle of impartiality is embedded in this definition. An independent director can only be a person:
– who is not a managing director, whole-time director, or a nominee director;
– who is not or was not a promoter of the company or its holding, subsidiary, or associate company;
– who is not related to the promoters or the directors of the company, its holding, subsidiary, or associate company; and
– who has or had no pecuniary relationship 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.
Keeping in mind that an independent director must be free from all influence, the 2013 Act also places limits on the amount of shares that can be held in the company by a relative of such a director. Independent directors are also not entitled to any remuneration in the form of stock options.
Number of independent directors: Under Section 149 of the 2013 Act, there is a specific obligation on every listed public company that at least one-third of the board of directors should comprise of independent directors. This mirrors the requirement in Clause 49 of the listing agreement, and marks the first time that corporate governance norms have been recognised in company law in India. Additionally, Section 177(3) states that the majority of the members of an audit committee (in a listed company) must be comprised of independent directors.
In fact, Section 173(2) of the 2013 Act states that any board meeting held at shorter notice (to transact urgent business) requires the presence of at least one independent director. If such a director is not present, the matter discussed at the board will be considered approved only once an independent director ratifies it.
Protection from liability: Finally, in order to encourage a healthy environment where learned and well-respected individuals become independent directors in a company, the 2013 Act has, to a certain extent, protected independent directors from liability. Section 149 states that independent directors are liable only if any fraudulent act has been committed with the consent of such a director or where such director has not acted diligently and if such an act is attributable to the board process.
These are all welcome changes, and indeed, they will help improve the manner in which business is run in India by instilling strong corporate governance norms in a company.
(Deepa Mookerjee is part of the faculty on myLaw.net.)