Linkage Between Sections 184(2) & 188: Voting Rules & Director Participation for RPT

Analysis of linkage between Section 184(2) and Section 188 of Companies Act 2013 – When Directors can vote and when they are abstained from voting in transaction where Directors are interested and in case where transaction is Related Party Transaction:

The Companies Act, 2013 contains specific provisions governing conflicts of interest, particularly for directors involved in contracts and arrangements. Sections 184(2) and 188 of the Act play a critical role in ensuring transparency and fairness when directors or members have a personal interest in the company’s transactions. Understanding the relationship between these sections, and the voting rules in the context of transactions where a director is interested, or where a transaction involves related parties, is vital for corporate governance.

Section 184(2) of the Companies Act, 2013: Director’s Duty to Disclose Interest

Section 184(2) mandates that a director disclose their interest in any contract or arrangement entered into or proposed by the company. The director must disclose the nature of their interest at the board meeting where the contract or arrangement is discussed and must abstain from participating in the discussion or voting.

A director is considered “interested” if:

(a) They hold more than 2% of shares in a body corporate that is a party to the contract, or if they are a promoter, manager, or CEO of that body corporate.

(b) They are a partner, owner, or member of a firm or entity involved in the contract or arrangement.

Additionally, if a director becomes interested in a contract after it has been entered into, they are required to disclose their interest at the first board meeting held after they become aware of it.

In situations where a director has an interest, they must refrain from participating in the discussions and must not vote on the related resolution.

Private Company Exemption:
Private companies, however, are provided with a relaxation. The interested director in a private company can disclose their interest and, after disclosure, can participate in the discussion and vote on the matter, as per the Notification dated 05/06/2015.

Section 188 of the Companies Act, 2013: Related Party Transactions and Voting Rules

Section 188 of the Companies Act, 2013 governs Related Party Transactions (RPTs). These are transactions entered into with related parties, including directors, key managerial personnel (KMP), or entities where such persons have an interest.

When a transaction is classified as an RPT, it is subject to additional scrutiny and approval processes:

• RPTs within Limits (Section 188): If the transaction is within the prescribed limits, board approval is required.
• RPTs beyond Limits: If the transaction exceeds the threshold limits as set out in Section 188 and Rule 15 of the Companies (Meeting of Board and its Powers) Rules, 2014, approval of the shareholders is also required, through an ordinary resolution.

The key issue under Section 188 is the participation of directors and members who are related parties to the company in such transactions.

Voting Rules and Exemptions for Directors and Shareholders

The voting rules for directors and members in the context of transactions involving interest or related parties are summarized as follows:

1. Contract or Arrangement Where a Director is Interested, and it is Not a Related Party Transaction:

• Board Approval is required and the interested director neither participate in discussions nor vote on the resolution.

Exemptions: In private companies, the interested director may disclose their interest, participate in discussions, and vote on the resolution as per Notification dated 05/06/2015.

2. Contract or Arrangement Where a Director is Interested, and it is a Related Party Transaction within the Limits:

• Prior Board Approval is required and the interested director must abstain himself from participating in discussions and voting.

There are no exemptions in this case.

3. Contract or Arrangement Which is a Related Party Transaction Beyond the Limits:

• Approval of Shareholders is required by way of Ordinary Resolution and the members who is a related party to the Company must abstain from voting for approval of the resolution.
• Exemptions:
  • In the case of private companies, members who is a related party to the Company may vote on the resolution, even if they are related parties to the company.
  • Companies where 90% or more of the members are related to the promoters of the Company vote on the resolution, despite being related parties to the Company.

Summary:

Conclusion

The Companies Act, 2013 establishes a framework to manage conflicts of interest and ensure transparency in decision-making. Section 184(2) and Section 188 are crucial for governing transactions where a director has an interest or when related party transactions are involved. These provisions aim to prevent conflicts of interest by ensuring that interested parties abstain from voting and discussions, preserving the integrity of the decision-making process.

While there are exemptions for private companies and companies with 90% or more related party members, it is essential for directors, members, and companies to be mindful of the applicable rules. Proper compliance with these provisions ensures not only legal adherence but also fosters trust and transparency in corporate governance practices.

For detailed compliance, it is advisable for companies to have robust systems in place to monitor directors’ interests and ensure adherence to these provisions, thus minimizing potential legal risks.