Background
Major amendments in law in recent years have made the status of Independent Directors important, responsible and difficult. Consequently, so has the life of listed companies who are required to appoint such directors. On the other hand, the remuneration of Independent Directors has actually been reduced/limited while simultaneously accompanied with a manifold increase in their role and liabilities.
This issue has been compounded by the fact that, recently, Clause 49, that is part of the Listing Agreement and hence with far limited liability for people who contravene it, has been replaced by the SEBI Listing Regulations effective from December 2015. The result is that several types of punitive actions including penalty, debarment, etc. can be imposed on the Independent Director, the listed company, etc. The liabilities of Independent Director under the new Companies Act, 2013, are also now substantial. If and when provisions under that Act relating to class actions are brought into force, their liability will be even more.
Moreover, and which is the subject matter of this article, the legal provisions relating to them have become more complex. As many of the amendments are relatively recent, difficulties in their implementation come gradually into light. This article discusses some of such issues that are worthy of consideration.
Low remuneration to Independent Directors, which is actually decreased now
Remuneration of Independent Directors can be a sensitive issue and there are some fundamental and conceptual concerns. It is often the company and effectively the promoters who decide their remuneration, though there are certain safeguards. If he is paid too much, then his very independence is at stake. If he is paid too less, then too in a sense he loses his independence since he may lose some motivation. However, instead of creating a constructive mechanism to resolve this issue, the lawmakers have, through the Companies Act, 2013, actually limited his remuneration. He can be paid mainly in two modes. One is in the form of sitting fees (maximum Rs. 1 lakh per meeting) and the other is in the form of commission based on profits. The demands of competence, qualifications and stature makes even the maximum Rs. 1 lakh per meeting limit ridiculously low. One can of course pay remuneration based on profits made, but this makes it difficult for loss making companies. Such losses may be because of business difficulties or because the companies may be in their early/recovery stages. Such companies and their shareholders whose interests Independent Directors also protect are deprived of competent Independent Directors.
Curiously, Independent Directors cannot even be given stock options. This could have been an appropriate way, particularly for loss making companies or those in their early stages. While significant holding by Independent Directors in the company may compromise their independence, as a mode of remuneration, it could have been a good way, with due restrictions.
Significant liability of Independent Directors with a limited and ambiguous exempt clause
The liability of directors and others have increased substantially. This is not only about the increased penalty generally for violation of provisions. There are now substantial and direct provisions that can result in huge penal and other consequences on directors. There are for example, multiple provisions relating to fraud (u/s. 447 of the Companies Act, 2013) and several others that can result in prosecution of, inter alia, directors under a wide variety of circumstances. Perhaps for the first time, a corporate law prescribes minimum and mandatory imprisonment. As discussed earlier, there are provisions for class action which, when brought into effect, can result in direct action by shareholders/depositors against directors. To also reiterate, now that Clause 49 has been replaced by the Listing Regulations, it creates another set of liabilities for directors. There are elaborate Codes under the Companies Act, 2013, and the Listing Regulations (in the regulations corresponding to the earlier Clause 49) that describe what is the role of directors/Independent Directors. In comparison, the rights of Independent Directors are minimal and often vague too, particularly on the individual level. Independent Directors have also been given primary role in important committees like Audit Committee, Nomination/Remuneration Committee, etc.
In principle, thus, they potentially face huge action even though they have limited involvement, limited rights and very limited remuneration.
There is of course a broad exemption provided which is worded similarly in Companies Act, 2013, as well as the Listing Regulations. One of such provision is contained in section 149(12) of the Act. There are similar provisions elsewhere in the Act and the Listing Regulations. The broad intention is that Independent Directors should have liability limited to what they access, discuss, decide, etc. at Board Meetings . They should also be made liable if they do not act diligently. That may sound a good exit clause and perhaps it is to an extent. Having said that, this still exposes them to very significant liability. For example, their liability is not only on resolutions/decisions taken at Board Meetings. Even if they are informed about things, and if they fail to take action, they may be exposed to action.
Cross directorship and independence
The definition of Independent Director throws up many challenges. Ideally and even by the legal definition, the Independent Director is a person who has no or minimal connection with the Promoters, the company, etc. He should have mental and financial independence. However, in practice, there will be several categories of persons whose independence generally may come under question at least in spirit. Take the example of cross directorship. A member of promoter group A may become an Independent Director of a listed company controlled by promoter group B, and vice versa. At times, instead of such one-to-one cross directorship, there may be such cross/circular directorship in a group of companies. It would not be entirely wrong to say that there could be a ‘you-scratch-my-back and I-scratch-yours’ situation.
Annual Meeting of independent directors
Regulation 25(3) and (4) of the SEBI Listing Regulations now require that the Independent Directors should meet once a year and discuss certain specific matters such as performance of non-independent directors, Chairperson, quality/quantity/timelines of flow of information to the Board, etc. Here again, this is a well meaning provision and enables Independent Directors to discuss issues without the, sometimes, intimidating presence of the Promoters, senior management, etc. However, no rights to make any decision have been given to such group. Indeed, it is not even wholly clear whether they can be even paid sitting fees for such a meeting!
Nominee directors – whether independent?
Nominee directors are commonly appointed by lenders/ investors pursuant to loan/investment agreements. Earlier, there were two views on whether a nominee director was independent or not, and also whether they ought to be treated as independent. Now, under the Act as well as the Listing Regulations, such nominee directors are specifically treated as not independent.
In terms of section 149(6), a person who is a nominee director cannot be treated as an Independent Director. A nominee director is defined in the Explanation to 149(7) as follows:-
For the purposes of this section, “nominee director” means a director nominated by any financial institution in pursuance of the provisions of any law for the time being in force, or of any agreement, or appointed by any Government, or any other person to represent its interests.
A question that arises is that under Regulation 24(1) of the Listing Regulations, an independent director of the parent listed company is required to be appointed on the Board of the material subsidiary in India. Will such director be treated as independent director as far as the subsidiary company is concerned? The concern here is whether the independent director can be treated as nominee director of the holding company and thus, in spirit if not the letter of the requirements relating to nominee directors, such person ought not be treated as independent director. However, it appears that, this ought not be so. This is assuming such person otherwise complies with the requirements relating to independent director. Thus, the mere fact that they are also independent director of the holding listed company ought not result in loss of their independence vis-à-vis the subsidiary company.
Whether small shareholders’ director IS an Independent Director?
The requirement relating to small shareholders’ directors as contained in section 151 is drafted in such a way that it is very unlikely that such a director may be appointed.
As in the case of nominee directors, the question remains whether he would be an Independent Director since he is appointed by and thus can be said to represent the small shareholders. However, Rule 7(4) of the Companies (Appointment and Qualification of Directors) Rules 2014 makes it clear that, provided he otherwise does not attract any of the specified disqualifications, he will be treated as an Independent Director.
Woman director and independence
The Act as well as the SEBI Listing Regulations prescribe the requirement of having at least one woman director on the Board for the specified companies. It has been reported that a fairly significant number of companies have not yet appointed Independent Directors.
It is to be noted, however, that the requirement relating to Woman Director does not make it a condition that she shall also be independent. This has of course resulted in many companies having appointed a member of the promoter family as a Woman Director and thus perhaps the intention of such provision may not have been served.
Companies in which there are no Promoters
There are companies in which there are no specified Promoters. It is also possible for a company now to declare itself as not having any specific group of persons as Promoters. Directly or indirectly, many of the significant conditions/disqualifications relating to Independent Directors are dependent on the relations that the director may have with the Promoters. In such a case, unless the directors concerned attract conditions such as having financial relations with the listed company, etc. they would be treated as independent. Indeed, it is very likely that except the executive directors, the remaining directors may thus be independent.
Exited Promoters
Often there are more than one promoter groups in a company. One or more of such groups may desire to be no more associated with the company by selling off all or most of their shareholding and otherwise not being associated with the management and control of the company. It may also happen that even if there may be one Promoter Group, some persons may desire to be excluded from the Promoter Group. Now, the Listing Regulations have a formal procedure for such exclusion. Clearly, such excluded Promoters and persons having any of the specified relations with such excluded Promoters would not be treated as Independent Directors.
Conclusion
The coming years will reveal how well companies and Independent Directors are generally in compliance of the complex requirements and heavy responsibilities. In case of contraventions – technical and substantial, frauds, etc. it will be seen what type of action is taken against Independent Directors. An action that is proportionate to the context of their powers and responsibilities will encourage them to continue but the result may be opposite if strict interpretation and harsh action is taken.
