In the corporate world, where profits drive business, incentives play a crucial role in motivating managers. Thus, managerial remuneration is an essential factor to consider in managing a business, particularly in a fiercely competitive environment. While it’s crucial to provide incentives to those performing the challenging role of managing companies, it’s equally important not to exceed reasonable limits with perks and pay.
To strike a balance between the need for incentives and the risk of excessive compensation, Indian law intervenes to regulate managerial remuneration. The law aims to prevent companies from squandering profits unnecessarily while ensuring that managerial personnel receives adequate and reasonable compensation. This balancing act helps to ensure that businesses thrive without exploiting their resources or employees.
Although the Companies Act, 2013 does not provide a definition for “Managerial Remuneration,” the term is commonly used to refer to remuneration paid to a managerial person. The Nomination and Remuneration Committee is responsible for developing the criteria for evaluating the qualifications, positive attributes, and independence of a director, as well as recommending policies regarding remuneration for directors, key managerial personnel, and other employees.
When formulating these policies, the NRC must ensure that the level and composition of remuneration are reasonable and sufficient to attract, retain, and motivate directors who possess the qualities necessary to run the company successfully. Additionally, the relationship between remuneration and performance must be clear and meet appropriate performance benchmarks. The remuneration paid to directors, key managerial personnel, and senior management should reflect a balance between fixed and incentive pay that reflects short- and long-term performance objectives appropriate to the company’s operations and goals.
Section 197(1) of the Companies Act, 2013 stipulates the upper limit of Managerial Remuneration that can be paid by a Public Company.
Section 197(1) of the Companies Act, 2013 establishes the maximum limit on the amount of Managerial Remuneration that a Public Company can pay. The total amount of Managerial Remuneration that a public company can pay to its directors, including managing directors and whole-time directors, and its manager, in any given financial year, cannot exceed 11% of the net profits of the company for that year, as calculated in the manner set out in Section 198 of the Act. However, it’s important to note that the remuneration of the directors cannot be deducted from the gross profits.
If a Public Company wishes to pay Managerial Remuneration exceeding the total limit of 11% of net profit, it may do so with the approval of its members at a general meeting, as per the provisions of Schedule V of the Companies Act, 2013, along with one should consider the following key points while computing the managerial remuneration.
Default in payment to secured creditors, Banks, Financial Institutions, and NCD holders by the Company:
According to the third proviso of Section 197(1) of the Companies Act, 2013, if a company has defaulted in paying its dues to a bank, public financial institution, non-convertible debenture holders, or any other secured creditor, it must obtain prior approval from the concerned bank, public financial institution, or creditor before seeking approval for payment of remuneration exceeding the prescribed limit in a general meeting.
Only to Public Limited Company:
Private Limited Companies are not subject to Section 197 of the Companies Act, 2013, which applies only to Public Limited Companies. This means that there is no limit on the remuneration that private companies can pay to their managerial personnel and they are not required to comply with the provisions of Section 197 and Schedule V of the Act.
Provisions for remuneration to non-executive directors, including independent directors, in the absence or inadequacy of profits: