Opportunities for CAs as an Independent Directors

Opportunities for CAs as an Independent Directors to enhance the credibility and governance standards of the corporate world

Introduction:

The concept of Independent Directors is a welcome step for corporate governance in India. Independent directors are expected to use their capacity, knowledge, and resources towards the maximization of stakeholders’ value and well-being. They ensure the progress of mankind through transparency, accountability, and truthful disclosure of the state of affairs of the company. The Companies Act, 2013 has conferred greater empowerment upon Independent Directors to ensure that the management and affairs of a company are being run fairly and smoothly.

Corporate governance would mean steering an organization in the desired direction. The need for corporate governance emerges amidst the corporate misdeeds, that have shattered the confidence of investors. Therefore, the framework is primarily motivated in boosting the loss of confidence thereby restoring their faith.  The economic liberalization in the early ’90s that have led to the significant growth of the corporate world, simultaneously lead to the rise of malpractice, frauds, scam not to mention that corporate governance was itself established to combat the practice of fraud affecting the corporate and securities market.

This concept of corporate governance has been described as:

1. process of governing the corporation or giving direction for its framework

2. It sort of provides the company compliance for the purpose of encouragement of the working to be in the framework of guidelines/ content of compliance

3. Study of economic fields providing separation management and ownership

4. Guide to an investment technique

In nutshell, corporate governance is more of a mechanism than a provision of law. In simple terms, one can define corporate governance as a set of principles that helps the company to be governed, and holds the concept of transparency, accountability & responsibility, healthy process that results in business prosperity

The necessity of Independent Directors on the Board

There are several benefits that arise out of the appointment of independent directors on the Board of a company –

• They compensate for the management weaknesses in a company.
• They not only strengthen the accounting controls but also ensure legal and ethical behavior at the company.
• They help a company survive, grow, and flourish over time through improved succession planning through membership in the various committees.
• They help in improving the brand of a company through contacts, expertise, and access to debt and equity capital.
• Last but not the least, independent directors act as a great sourceü of well-conceived, binding, long-term decisions of a company.

An important role that independent directors play in relation to the Board is the objective view they bring in while evaluating the board and management decisions thus creating a balance in the interest of the shareholders. These areas may include

• executive remuneration,
• succession planning,
• changes in corporate control,
• takeovers and acquisitions and
• the audit function.

In fact, independent directors are a core resource in delivering the good governance processes that shareholders expect. As members of the Board, independent directors primarily provide inputs to all key decisions such as strategies, performance evaluation, and risk evaluation affecting the company. Their significant contribution is also expected in matters relating to the committee in which they are members.

In view of the faith imposed on them by various agencies, they are more bound to execute their functions with impartiality. The shareholders look up to the independent directors for providing transparency in respect of the disclosures in the working of the company as well as providing balance towards resolving conflict areas. While evaluating the board’s decisions in respect of employees, creditors, and other suppliers of major service providers, independent directors have a significant role in protecting the stakeholders’ interests. One of the mandatory requirements of the audit committee is to look into the reasons for default in payments to deposit holders, debentures, non-payment of declared dividends, and creditors. Further, they are required to review the functioning of the Whistleblower mechanism and related party transactions. These, essentially safeguard the interests of the stakeholders. Independent directors are therefore seen as a check on the management of a company, as an oversight mechanism apart from the value addition that they bring to board deliberations. This is to ensure that wrong actions by the majority of stakeholders who control the management by holding a majority of the company’s shares are not hampered.

Few Major responsibilities of independent directors include: 

• Thorough preparation for the meeting.
• Clarity informs sound decisions relating to the company and its business.
• A free and frank expression of opinions.
• Commitment to decisions made by the Board.
• Awareness of the latest developments in the areas of the company’s operations. Up-to-date information on laws and regulations governing the company.
• Responsibility to act in the larger interest of true growth and development of the company

The Companies Act 2013, contains various new provisions for better governance of the companies. Some of the provisions in a nutshell are:

• The requirement to constitute Remuneration and Nomination Committee and Stakeholders relationship committee
• Granting of more powers to Audit Committee
• The specific section pertaining to duties of directors
• Mode of appointment of independent directors and their tenure
• Code of Conduct for Independent directors
• Rotation of Auditors and restriction on Auditor’s for providing non-audit services
• Enhancement of liability of Auditors
• Disclosure and Approval of Related Party Transactions
• Mandatory Auditing Standards
• Enabling Shareholders Associations/Group of Shareholders for taking class-action suits and reimbursement of the expenses out of Investor Education and Protection Fund
• Constitution of National Financial Reporting Authority, an independent body to take action against the Auditors in case of professional misconduct
• The requirement to spend on Corporate Social Responsibility (CSR) activities.

Director is generally a person who is in charge of managing the affairs of the company/corporation. The term director is defined under the Company Act, 2013 under section 2 (34)  meaning a director who is appointed to the Board of a company. Moreover, it should be noted that directors are treated as officers rather than employees. The definition of Officer provided under section 2 (59) of the Act, is reiterated below

Section 2 (59) ―officer includes any director, manager, or key managerial personnel or any person in accordance with whose directions or instructions the Board of Directors or any one or more of the directors is or are accustomed to act.

The Supreme Court of India has time and again affirmed the prime importance of Directors for instance in Bajaj Auto Ltd v. N.K. Firodia (1971) 41 Comp Cas 1 it was held that the Directors holds a fiduciary position with both company and stakeholder since they have to act in the paramount interest of the company and general interest of stakeholder. Lastly, it concluded that such officers are trustees for the company as a whole and not just for the shareholders.

Since it is well established that a company though having an identity of its own is only an artificial person, therefore it is not possible for it to work/act on its own which is why it needs the engagement of persons who will responsible for its affairs. As explained above a director is that officer who is entrusted with managing the affairs of the company who is collectively known as the Board of Directors/Board.

The Board of Directors is consists of Executive Directors and Non-executive Directors wherein the former one are entrusted with the work of looking of routine operation/management of the company and later are specially appointed for the safeguarding the interest of the company. It is to be noted that the Executive Directors are considered as the senior-level staff of the corporation whereas the Non-Executive Directors are more of the guardian thereby doesn’t possess the managing responsibilities of the corporation.

Interestingly the post of Executive Director despite being the common post in every organization/corporation has not been defined in the Companies Act, 2013 nor its predecessor the Act of 1956. Section 2 (54) of the Companies Act, 2013 defines the term Managing Director as

“A director who, by virtue of the articles of a company or an agreement with the company or a resolution passed in its general meeting, or by its Board of Directors, is entrusted with substantial powers of management of the affairs of the company and includes a director occupying the position of managing director, by whatever name called”

Therefore, the Managing Director received and exercise the power of management of the affairs of the company only under the articles of a company/ an agreement with company/ resolution passed in general meeting/ Board and not otherwise.

The non-executive directors are the post completely opposite to the Executive directors since their task/duties towards the corporation have nothing to do with day-to-day affairs of the same. The prior reason for appointing a non-executive director to the company’s board is their independence from the company’s management and other stakeholders. Hence, they bring objectivity, unbiasedness, caliber, and other qualities to the board. An independent director is a non-executive director who is independent and has no business or other relationship with the company so as to interfere directly or indirectly with his independent and objective judgment.

Therefore, one can rightly assert that such an Independent director of the company is one who assists the company in enhancing the credibility and governance standards of the corporate.

The term Independent Director has been defined under section 149 (6) of the Companies Act, 2013. The said section is reiterated as below:

Section 149 (6) 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-

1. who, in the opinion of the Board, is a person of integrity and possesses relevant expertise and experience;

2. who is or was not a promoter of the company or its holding, subsidiary, or associate company;

3. who is not related to promoters or directors in the company, its holding, subsidiary, or associate company;

4. 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;

5. 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 two percent. or more of its gross turnover or total income or fifty 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;

6. who, neither himself nor any of his relatives—

• • holds or has held the position of 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;
  • 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 firm of auditors or company secretaries in practice or cost auditors of the company or its holding, subsidiary or associate company; or
  • any legal or a consulting firm that has or had any transaction with the company, its holding, subsidiary, or associate company amounting to ten percent. or more of the gross turnover of such firm;
  • holds together with his relatives two percent. or more of the total voting power of the company; or
  • is a Chief Executive or director, by whatever name called, of any nonprofit organization that receives twenty-five percent. or more of its receipts from the company, any of its promoters, directors or its holding, subsidiary or associate company or that holds two percent. or more of the total voting power of the company; or

7. who possesses such other qualifications as may be prescribed

Subsection (8) of section 149 also states that Independent Directors are abide by the provision of Schedule IV of the Companies Act, 2013. The said schedule provides the code for Independent Directors. The whole edifice of good corporate governance is dependent on the efficacy and effectiveness of independent directors. Independent Directors are considered as mentors of management and as supervisors who will ensure that management action creates value to shareholders, responsible for protecting minority shareholders’ interests as well

Manner of selection of independent directors

Section 150: 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. The appointment of an independent director should be approved by the company in general meeting and the explanatory statement annexed to the notice of the general meeting called to consider the said appointment should indicate the justification for choosing the appointee for appointment as an independent director.

Creation and maintenance of databank of persons offering to become independent directors Any Body, institute, or association, which has been authorized by the Central Government should create and maintain a data bank of persons willing and eligible to be appointed as an independent director and such data bank will be placed on the website of the Ministry of Corporate Affairs or on any other website as may be approved or notified by the Central Government.

The data bank will contain the following details in respect of each person included in the data bank to be eligible and willing to be appointed as independent director-

1. DIN (Director Identification Number);

2. Name and surname in full;

3. Income-tax PAN;

4. Father’s name and mother’s name and Spouse’s name (if married) ;

5. Date of Birth;

6. Gender;

7. Nationality;

8. Occupation;

9. Full address with PIN Code (present and permanent);

10. phone number;

11. E-mail ID;

12. Educational and professional qualifications;

13. Experience or expertise, if any;

14. Any legal proceedings initiated or pending against such person;

15. The list of limited liability partnerships in which he is or was a designated partner along with –

• • The name of the limited liability partnership;
  • The nature of the industry; and
  • The duration- with dates;

16. The list of companies in which he is or was director along with –

• • The name of the company;
  • The nature of the industry;
  • The nature of directorship – executive or non-executive or managing director or Independent Director or Nominee Director; and
  • Duration – with dates.

Although the level of knowledge, integrity, and independence necessary to carry out the functions of a director is difficult to summarise, a good independent director should be:-

• A person who possesses integrity.
• A person who has requisite business acumen.
• A person who is adequately trained.
• A person who participates actively.
• A person who is not afraid of performance reviews.
• A person who has adequate information.
• A person who commands the respect of his peers
• A person who has courage and the ability to act.

The critical elements of a director being independent include:

• Independence to the management both in fact and perception by the public.
• Independent in thought and action i.e., qualitatively independent.
• Ability to deal with ‘conflict of interest’.
• Knowledge of the industry. Duties and Powers of Independent directors:
• Reduce potential conflict between specific interests of the management and wider interests of the company and shareholder
• Demand financial transparency
• Consider specific interests of the minority shareholder and employees
• Independent assessment while evaluating investment/ expenditure/business plans
• Expertise – Technical / Financial / Experience
• Communication between management and shareholders
• Power to demand information
• Power to exercise his/her vote
• Power to govern

Ten decisions to be taken by Independent directors before associating with a company–

1. The question whether it is a company that you really want to work with;

2. The question whether you have the equipment and knowledge to meet the expectations of the company and its regulators, without assuming disproportionate risks;

3. Demonstrate that you are independent, as stipulated by law;

4. Enquire whether the company has developed formal control and oversight procedures, and determine whether you can rely on them;

5. Resist unreasonable pressures and maintain objectivity;

6. Keep yourself up-to-date on the subject matters where you are expected to contribute to board deliberations;

7. Obtain copies of the Code of Conduct and ensure that you can abide by it;

8. If you are in doubt, always seek professional help from experts;

9. Always demand all board-related papers well in advance, to prepare for board meetings;

10. Keep all company-related information strictly confidential.

Duties:

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 behavior, actual or suspected fraud, or violation of the company’s code of conduct or ethics policy;
• [act within their 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

Conclusion:

Independent directors with good business sense, the strength of character, dedication, and positive attitude are playing a major role in improving corporate governance. Fortunately, investors are recognizing the importance of such independent directors and superior corporate governance in companies and are rewarding such companies with a governance premium. Having strong independent directors is good for all shareholders, including promoters.

There are several distinct benefits that an independent board of directors can bring to a company, the first and foremost is that the internal processes that are can be controlled, and the mismanagement or fraud which is being done by the company can be brought to the knowledge of the shareholders of the company and to the public at large. It has some other benefits also, which include

• Offset the management flaws in a company.
• Ensure the practice of legal and ethical behavior at the company, and at the same time strengthen accounting controls.
• Increase the popularity of the company through his contacts and expertise so as to strengthen the share capital of the company.
• Be a part of long-term decisions which need to be taken, for the welfare of the company.
• Help a company survive, grow, and prosper over time through improved succession planning through membership in the nomination committee

Few websites to refer

• https://www.sebi.gov.in/ – Securities and Exchange Board of India
• https://www.mca.gov.in/ – Ministry of Corporate Affairs, Government of India
• https://dpe.gov.in/- Department of Public Enterprises
• https://www.rbi.org.in/ – Reserve Bank of India
• https://www.independentdirectorsdatabank.in/ – Data bank