CS. Varun Kapoor
The Companies Act, 2013 provides provisions regarding Independent Directors, earlier the 1956 Act does not provide the same.
“Let’s start from scratch for better understanding: Who are they, Laws governing them, Position hold, Strength, Qualification, Appointment procedure, Pecuniary benefits, Tenure, Resignation or removal, Data bank, Liability and Special code under Companies Act, 2013”
WHO ARE INDEPENDENT DIRECTORS?
The Independent Directors are the persons who are not in the whole time employment of the Company but participates in the affairs of the Company and are entitled to attend the Board meetings, General Meetings and share their knowledge in the respective areas of their expertise with the stakeholders. They are entitled to evaluate the performance of non-independent directors on the board of the Company. They are not just legal formalities but they are responsible for better compliance.
I tried to gather various compliances required to be followed in spirit and true manner:
LAWS GOVERNING INDEPENDENT DIRECTORS IN INDIA:
1. Companies Act, 2013- For Class of Companies (stated below)
2. Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015– For Listed Companies only
UNDER COMPANIES ACT, 2013:
DEFINITION:
As per Section 2(47), “independent director” means an independent director referred to in sub-section (5) of section 149. (It may be an error as Section 149(5) provides something else)
When we go to Section 149(6), it provides as follow:
An independent director in relation to a company, means a director who is not 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;
[In case of Government Companies, for the words “Board’, the words “Ministry or Department of the Central Government which is administratively in charge of the Company, or as the case may be, the State Government” shall be substituted.]
(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 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;
[In case of Government Companies, section 149(6)(c ) shall not apply vide MCA notification No. GSR 463E, dated 05.06.2015]
(d) none of whose relatives has or had pecuniary relationship or transaction with the company, its holding, subsidiary or associate company, or their promoters, or directors, amounting to 2 per cent or more of its gross turnover or total income or 50 lakh rupees or such higher amount as may be prescribed, whichever is lower, during the two immediately preceding financial years or during the current financial year;
(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;
(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.
“From above, it is also cleared that the Independent Directors should not have any kind of pecuniary relationship with the Company, nor he relates to any of the promoter or any other Director.”
POSITION OF INDEPENDENT DIRECTORS:
1. MEMBERSHIP IN DIFFERENT COMMITTEES:
Independent Directors have a role at Corporate Social Responsibility Committee. The Committee should have at least one Independent Director out of 3 or more directors. Such provisions help in transparency & credibility.
The Audit Committee, Nomination and Remuneration Committee shall consist of Independent Directors as a Majority.
2. ROTATION NOT APPLICABLE:
The Provisions relating to Rotation of Directors shall not be applicable to Independent Directors
3. SEPARATE MEETING OF INDEPENDENT DIRECTORS AND BOARD EVALUATION OF INDEPENDENT DIRECTORS:
The Independent Directors shall hold at least 1 meeting in a year without the Non Independent Directors & Members of Management. Performance evaluation of Independent Directors to be done by the entire Board, excluding the director being evaluated
4. DECLARATION OF INDEPENDENCE:
Every independent director shall at the first meeting of the Board in which he participates as a director and thereafter at the first meeting of the Board in every financial year or whenever there is any change in the circumstances which may affect his status as an independent director, give a declaration that he meets the criteria of independence as provided in sub-section (6).
5. ABIDE BY THE CODE:
Every Independent Director shall abide by the provisions specified in Schedule IV of the Companies Act, 2013.
6. CONSENT FOR MEETING AT SHORTER NOTICE:
A meeting of the Board may be called at shorter notice to transact urgent business subject to the condition that at least one independent director, if any, shall be present at the meeting.
In case of absence of independent directors from such a meeting of the Board, decisions taken at such a meeting shall be circulated to all the directors and shall be final only on ratification thereof by at least one independent director, if any.
7. MANDATORY APPOINTMENT OF INDEPENDENT DIRECTOR:
Section 149(4) requires every listed company to appoint minimum one-third of the total number of directors as independent directors.
For public companies, other than the listed companies, Rule 4 of The Companies (Appointment and Qualification of Directors) Rules, 2014 provides that following class of public companies shall have at least two persons as independent directors: –
a) Public Companies having paid up share capital of Rs.10 Crores or more
b) Public Companies having turnover of Rs.100 Crore or more
c) Public Companies having outstanding loan, debentures and deposits, in aggregate, in excess of Rs.50 Crore.
In view of above, it is pertinent to note that the Private Companies irrespective of their paid up share capital or turnover or borrowings are not required to appoint the Independent Directors. But Companies (say Big private companies and other public companies) may appoint Independent Directors at their will for good corporate governance practices.
QUALIFICATIONS OF INDEPENDENT DIRECTOR:
An independent director shall possess appropriate skills, experience and knowledge in one or more fields of finance, law, management, sales, marketing, administration, research, corporate governance, technical operations or other disciplines related to the company’s business.
PROCEDURE FOR APPOINTMENT OF INDEPENDENT DIRECTOR:
The appointment of independent director shall first be considered in the meeting of the Board of Directors subject to the fulfillment of all conditions specified in Schedule IV of the Companies Act, 2013 and subject to the approval of members of the company by way of ordinary resolution in general meeting as per Section 152(2).
PAYMENT OF SITTING FEE/COMMISSION:
According to Section 149(9), the independent director is entitled to receive
(a) sitting fee for Board/Committee meetings as may be prescribed under second proviso under Section 197(5)
(b) reimbursement of expenses for attending the board/committee meetings
(c) commission related to profits of the company subject to the provisions of Section 197 and 198 (1 percent of the net profits if there is a Managing Director or Whole-Time Director or Manager and three percent of the net profits in any other case). The net profits shall be computed in accordance with Section 198. The independent director, however, shall not be entitled to receive any “stock option”.
RESIGNATION/REMOVAL:
The Independent Director who resigns or is removed shall be replaced by a new Independent director within period of 180 days.
TENURE OF OFFICE:
Independent Director once appointed shall hold office for a term of 5 consecutive years, but shall be eligible for reappointment. The Reappointment shall be on the basis of evaluation of Performance of the director:
⇒ A term up to 5 consecutive years
⇒ Eligible for reappointment for another term on passing of a special resolution by the Company and disclosure of such appointment in the Board’s Report
⇒ Not to hold office for more than 2 consecutive terms
⇒ However, eligible for appointment after the expiration of 3 years cooling period (Not to be associated with the Company in any capacity, either directly or indirectly during these 3 years)
⇒ Any tenure of an Independent Director on the date of commencement of this Act shall not be counted as a term.
DATA BANK:
Section 150 envisages that an independent director may be selected from a data bank containing names, addresses and qualifications of persons who are eligible and willing to act as independent directors, maintained by anybody, institute or association, as may be notified by the Central Government, having expertise in creation and maintenance of such data bank and put on their website for the use by the company making the appointment of such directors.
Provided that responsibility of exercising due diligence before selecting a person from the data bank referred to above, as an independent director shall lie with the company making such appointment.
LIABILITY:
The Companies Act, 2013, balances the wide nature of the obligations, functions and accountabilities imposed on an Independent Director. The Act limits the liability of Independent Directors to the matters which are directly relatable to them. Section 149 (12) limits the liability of an Independent Director and provides that he 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.
SPECIAL CODE FOR INDEPENDENT DIRECTORS:
The Code is a guide to professional conduct for independent directors. Adherence to these standards by independent directors and fulfilment of their responsibilities in a professional and faithful manner will promote confidence of the investment community, particularly minority shareholders, regulators and companies in the institution of independent directors.
1. Guidelines of professional conduct:
An independent director shall:
(1) uphold ethical standards of integrity and probity;
(2) act objectively and constructively while exercising his duties;
(3) exercise his responsibilities in a bona fide manner in the interest of the company;
(4) devote sufficient time and attention to his professional obligations for informed and balanced decision making;
(5) not allow any extraneous considerations that will vitiate his exercise of objective independent judgment in the paramount interest of the company as a whole, while concurring in or dissenting from the collective judgment of the Board in its decision making;
(6) not abuse his position to the detriment of the company or its shareholders or for the purpose of gaining direct or indirect personal advantage or advantage for any associated person;
(7) refrain from any action that would lead to loss of his independence;
(8) where circumstances arise which make an independent director lose his independence, the independent director must immediately inform the Board accordingly;
(9) assist the company in implementing the best corporate governance practices.
II. Role and functions:
The independent directors shall:
(1) 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;
(2) bring an objective view in the evaluation of the performance of board and management;
(3) scrutinise the performance of management in meeting agreed goals and objectives and monitor the reporting of performance;
(4) satisfy themselves on the integrity of financial information and that financial controls and the systems of risk management are robust and defensible;
(5) safeguard the interests of all stakeholders, particularly the minority shareholders;
(6) balance the conflicting interest of the stakeholders;
(7) 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;
(8) moderate and arbitrate in the interest of the company as a whole, in situations of conflict between management and shareholder’s interest.
III. Duties:
The independent directors shall—
(1) undertake appropriate induction and regularly update and refresh their skills, knowledge and familiarity with the company;
(2) 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;
(3) strive to attend all meetings of the Board of Directors and of the Board committees of which he is a member;
(4) participate constructively and actively in the committees of the Board in which they are chairpersons or members;
(5) strive to attend the general meetings of the company;
(6) 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;
(7) keep themselves well informed about the company and the external environment in which it operates;
(8) not to unfairly obstruct the functioning of an otherwise proper Board or committee of the Board;
(9) 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;
(10) 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;
(11) report concerns about unethical behaviour, actual or suspected fraud or violation of the company’s code of conduct or ethics policy;
(12) acting within his authority, assist in protecting the legitimate interests of the company, shareholders and its employees;
(13) 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.
IV. Manner of appointment:
(1) Appointment process of independent directors shall be independent of the company management; while selecting independent directors the Board shall ensure that there is appropriate balance of skills, experience and knowledge in the Board so as to enable the Board to discharge its functions and duties effectively.
(2) The appointment of independent director(s) of the company shall be approved at the meeting of the shareholders.
(3) The explanatory statement attached to the notice of the meeting for approving the appointment of independent director shall include a statement that in the opinion of the Board, the independent director proposed to be appointed fulfils the conditions specified in the Act and the rules made thereunder and that the proposed director is independent of the management.
(4) The appointment of independent directors shall be formalised through a letter of appointment, which shall set out:
(a) the term of appointment;
(b) the expectation of the Board from the appointed director; the Board-level committee(s) in which the director is expected to serve and its tasks;
(c) the fiduciary duties that come with such an appointment along with accompanying liabilities;
(d) provision for Directors and Officers (D and O) insurance, if any;
(e) the Code of Business Ethics that the company expects its directors and employees to follow;
(f) the list of actions that a director should not do while functioning as such in the company; and
(g) the remuneration, mentioning periodic fees, reimbursement of expenses for participation in the Boards and other meetings and profit related commission, if any.
(5) The terms and conditions of appointment of independent directors shall be open for inspection at the registered office of the company by any member during normal business hours.
(6) The terms and conditions of appointment of independent directors shall also be posted on the company’s website.
V. Re-appointment:
The re-appointment of independent director shall be on the basis of report of performance evaluation.
VI. Resignation or removal:
(1) The resignation or removal of an independent director shall be in the same manner as is provided in sections 168 and 169 of the Act.
(2) An independent director who resigns or is removed from the Board of the company shall be replaced by a new independent director within a period of not more than one hundred and eighty days from the date of such resignation or removal, as the case may be.
(3) Where the company fulfils the requirement of independent directors in its Board even without filling the vacancy created by such resignation or removal, as the case may be, the requirement of replacement by a new independent director shall not apply.
VII. Separate meetings:
(1) The independent directors of the company shall hold at least one meeting in a year, without the attendance of non-independent directors and members of management;
(2) All the independent directors of the company shall strive to be present at such meeting;
(3) The meeting shall :
(a) review the performance of non-independent directors and the Board as a whole;
(b) review the performance of the Chairperson of the company, taking into account the views of executive directors and non-executive directors;
(c) assess the quality, quantity and timeliness of flow of information between the company management and the Board that is necessary for the Board to effectively and reasonably perform their duties.
VIII. Evaluation mechanism:
(1) The performance evaluation of independent directors shall be done by the entire Board of Directors, excluding the director being evaluated.
(2) On the basis of the report of performance evaluation, it shall be determined whether to extend or continue the term of appointment of the independent director.
Under Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015:
RIGHTS OF INDEPENDENT DIRECTOR:
According to Regulation 4(2)(f)(iii)(14), the board of directors and senior management shall facilitate the independent directors to perform their role effectively as a member of the board of directors and also a member of a committee of board of directors.
DEFINITION OF INDEPENDENT DIRECTOR:
Regulation 16(1)(b) provides that “independent director” means a non-executive director, other than a nominee director of the listed entity:
(i) who, in the opinion of the board of directors, is a person of integrity and possesses relevant expertise and experience;
(ii) who is or was not a promoter of the listed entity or its holding, subsidiary or associate company;
(iii) who is not related to promoters or directors in the listed entity, its holding, subsidiary or associate company;
(iv) who, apart from receiving director’s remuneration, has or had no material pecuniary relationship with the listed entity, its holding, subsidiary or associate company, or their promoters, or directors, during the two immediately preceding financial years or during the current financial year;
(v) none of whose relatives has or had pecuniary relationship or transaction with the listed entity, its holding, subsidiary or associate company, or their promoters, or directors, amounting to two per cent. or more of its gross turnover or total income or fifty lakh rupees or such higher amount as may be prescribed from time to time, whichever is lower, during the two immediately preceding financial years or during the current financial year;
(vi) who, neither himself, nor whose relative(s) —
(A) holds or has held the position of a key managerial personnel or is or has been an employee of the listed entity 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;
(B) 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 —
(1) a firm of auditors or company secretaries in practice or cost auditors of the listed entity or its holding, subsidiary or associate company; or
(2) any legal or a consulting firm that has or had any transaction with the listed entity, its holding, subsidiary or associate company amounting to ten per cent or more of the gross turnover of such firm;
(C) holds together with his relatives two per cent or more of the total voting power of the listed entity; or
(D) 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 or corpus from the listed entity, 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 listed entity;
(E) is a material supplier, service provider or customer or a lessor or lessee of the listed entity;
(vii) who is not less than 21 years of age.
COMPOSITION OF BOARD OF DIRECTORS:
Regulation 17(1) envisages that the composition of board of directors of the listed entity shall be as follows:
(a) board of directors shall have an optimum combination of executive and non-executive directors with at least one woman director and not less than fifty percent of the board of directors shall comprise of non-executive directors;
| Chairperson | Composition |
| Where the chairperson of the board of directors is a non-executive director | At least one-third of the board of directors shall comprise of independent directors |
| Where the chairperson of the board of directors is not a non-executive director | At least half of the board of directors shall comprise of independent directors |
| Where the regular non-executive chairperson is a promoter of the listed entity or is related to any promoter or person occupying management positions at the level of board of director or at one level below the board of directors, | At least half of the board of directors of the listed entity shall consist of independent directors.
|
Explanation- For the purpose of this clause, the expression “related to any promoter” shall have the following meaning:
(i) if the promoter is a listed entity, its directors other than the independent directors, its employees or its nominees shall be deemed to be related to it;
(ii) if the promoter is an unlisted entity, its directors, its employees or its nominees shall be deemed to be related to it.
DUTIES OF INDEPENDENT DIRECTOR:
Regulation 17(5) provides that the board of directors shall lay down a code of conduct for all members of board of directors and senior management of the listed entity. The code of conduct shall suitably incorporate the duties of independent directors as laid down in the Companies Act, 2013.
FEES OR COMPENSATION:
According to Regulation 17(6), the board of directors shall recommend all fees or compensation, if any, paid to non-executive directors, including independent directors and shall require approval of shareholders in general meeting.
The requirement of obtaining approval of shareholders in general meeting shall not apply to payment of sitting fees to non-executive directors, if made within the limits prescribed under the Companies Act, 2013 for payment of sitting fees without approval of the Central Government.
The approval of shareholders mentioned in clause (a), shall specify the limits for the maximum number of stock options that may be granted to non-executive directors, in any financial year and in aggregate.
Independent directors shall not be entitled to any stock option.
PERFORMANCE EVALUATION:
Regulation 17(10) provides the performance evaluation of independent directors shall be done by the entire board of directors.
Provided that in the above evaluation the directors who are subject to evaluation shall not participate.
MEMBERSHIP IN DIFFERENT COMMITTEES:
The Independent Directors shall hold membership/ chairpersonship in the following committees:
1. AUDIT COMMITTEE:
Regulation 25 provides that every listed entity shall constitute a qualified and independent audit committee in accordance with the terms of reference, subject to the following:
(a) The audit committee shall have minimum three directors as members.
(b) Two-thirds of the members of audit committee shall be independent directors.
(c) All members of audit committee shall be financially literate and at least one member shall have accounting or related financial management expertise.
(d) The chairperson of the audit committee shall be an independent director and he shall be present at Annual general meeting to answer shareholder queries.
(e) The Company Secretary shall act as the secretary to the audit committee.
The quorum for audit committee meeting shall either be two members or one third of the members of the audit committee, whichever is greater, with at least two independent directors.
2. NOMINATION AND REMUNERATION COMMITTEE:
Regulation 19 envisages that the board of directors of the Company shall constitute the nomination and remuneration committee as follows:
(a) the committee shall comprise of at least three directors;
(b) all directors of the committee shall be non-executive directors; and
(c) at least fifty percent of the directors shall be independent directors.
(d) the Chairperson of the nomination and remuneration committee shall be an independent director and he shall be present at Annual general meeting to answer shareholder queries.
CORPORATE GOVERNANCE REQUIREMENTS:
According to Regulation 24, at least one independent director on the board of directors of the listed entity shall be a director on the board of directors of an unlisted material subsidiary, incorporated in India.
OBLIGATIONS WITH RESPECT TO INDEPENDENT DIRECTORS:
Regulation 25 provides the following in regard to the obligations with respect to Independent Directors:
Limits on Directorships: A person shall not serve as an independent director in more than seven listed entities. Provided that any person who is serving as a whole time director in any listed entity shall serve as an independent director in not more than three listed entities.
Tenure: The maximum tenure of independent directors shall be in accordance with the Companies Act, 2013 and rules made thereunder, in this regard, from time to time.
Separate meeting: The independent directors of the listed entity shall hold at least one meeting in a year, without the presence of non-independent directors and members of the management and all the independent directors shall strive to be present at such meeting.
Performance evaluation: The independent directors in the meeting referred in sub-regulation (3) shall, interalia-
(a) review the performance of non-independent directors and the board of directors as a whole;
(b) review the performance of the chairperson of the listed entity, taking into account the views of executive directors and non-executive directors;
(c) assess the quality, quantity and timeliness of flow of information between the management of the listed entity and the board of directors that is necessary for the board of directors to effectively and reasonably perform their duties.
Liability: An independent director shall be held liable, only in respect of such acts of omission or commission by the listed entity which had occurred with his knowledge, attributable through processes of board of directors, and with his consent or connivance or where he had not acted diligently with respect to the provisions contained in these regulations.
Resignation/ Removal: An independent director who resigns or is removed from the board of directors of the listed entity shall be replaced by a new independent director by listed entity at the earliest but not later than the immediate next meeting of the board of directors or three months from the date of such vacancy, whichever is later.
Provided that where the listed entity fulfils the requirement of independent directors in its board of directors without filling the vacancy created by such resignation or removal, the requirement of replacement by a new independent director shall not apply.
Familiarization Programme for Independent Directors: The listed entity shall familiarise the independent directors through various programmes about the listed entity, including the following:
(a) nature of the industry in which the listed entity operates;
(b) business model of the listed entity;
(c) roles, rights, responsibilities of independent directors; and
(d) any other relevant information.
Conclusion: From above, it can be rightly stated that the Independent Directors have a major role in improving the financial stability, independent and fresh decision making for the Company, boosting up and maintaining the confidence level of stakeholders, increasing the credibility, resolving the competing interest and synthesizes the perspectives of all the parties while enabling the Company to pursue the short and long- term business objectives.
Source: The Companies Act, 2013, rules and amendments made there under and Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015.
Disclaimer: This article contains interpretation of the Act, Rules, Regulations and personal views of the author are based on such interpretation. Readers are advised either to cross check the views of the author with the Act or seek the expert’s views if they want to rely on contents of this article.
About Author: The above has been compiled by CS Varun Kapoor, an Associate Member of ICSI. His areas of interest include Companies Act, 2013, SEBI Act, Listing and Insider Trading Regulations etc. For any queries or suggestions, he can be approached at varun@vkacs.com or pcsvarunkapoor@gmail.com
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