Independent Director-Role, Independency and Present Scenario
The success of a company lies in how effective the Board of Directors of a company are. With the world going ahead, most companies have started to go beyond national boundaries. This indicates the involvement of investors across the world. With so many investors involved in a company, their protection becomes a topic of concern.
Various corporate scandals such as Satyam and Enron, prove the fact that a good corporate governance structure is necessary for a company. ‘Independent Director’ (hereafter referred ID) holds an important position in the company. It is said that the whole institution of a good corporate governance structure lies in their effectiveness.
Thus, it becomes important to know more about ID’s.
Table of Contents:
- Introduction
- Independent Director
- Importance of Independent Director
- Role of Independent Director
- Independence of the Independent Directors- Fact v. Reality
- Present Scenario
- Survey shows increasing concern of shareholders on ID independency
- Liability of Independent Directors
- Effect of Companies (Amendment) Act, 2019 on Independent Directors
- Remuneration Benefit to ID under Companies (Amendment) Act, 2020
- SEBI’s strict norms for ID
- Conclusion and The Way Forward
Independent Director
No specific definition was earlier given in the Companies Act, 1956 for ID. But, the Companies Act, 2013 (hereafter referred to as 2013 Act), gives a definition to the term under section 149(6),
The ID’s are the non- executive directors except Managing or whole-time or nominee director, equipped with expertise and possesses integrity. They should not be in present or in the past be a promoter or director of the company or its holding, associate or subsidiaries. They should not have any pecuniary relationship with them except for the limit as prescribed by said section.
The section further elaboratively prescribes who can be an ID. But why are they so much elaboratively prescribed? The answer is to maintain the individuality of their individual character in the company.
Thus, in simple words, they are such directors which are far from any kind of interest whether pecuniary or beneficial. This helps them to be impartial.
Importance of Independent Director
The Indian corporate structure is promoter led. The promoter’s controls company decisions without taking into account the shareholder’s interest. Thus, ID’s ensure that the decisions do not undermine their interest. They keep a neutral functioning in the management of the company.
Their presence in the company act as a support for other directors to raise their concerns over decisions that are been taken. Otherwise, it is difficult for other directors to hold a contrary view from a majority of directors who are related to the promoters.
Further, their independence helps to maintain the company’s well-being and increase the corporate governance level in a company.
They play an important role in stopping the abusive transactions which the company enters with their related parties.
Role of Independent Director
ID plays important roles in a company. The different roles of ID’S are as follows:-
Role in Corporate Social Responsibility Committee
- Recommend Corporate Social Responsibility Policy for the company to the Board of Directors;
- To mention the expenditure of the Corporate Social Responsibility Policy
- To regularly supervise the Corporate Social Responsibility Policy;
Role in Board Meeting
- To give decisions independently;
- To assure that decisions of the board do not hamper shareholder’s interest;
- To stop the Board from doing any unethical behaviour;
- To prevent Board from adopting any fraudulent practices;
- To check whether the company follows the company’s policy;
Hold separate Meetings
- To hold atleast one meeting in a year consisting of only the ID’S of the company;
Role in Separate Meetings
- To evaluate Board performance;
- To check the information flow from management to Board;
Role in Audit Committee
- Section 177of 2013 Act mandates the presence of ID’S to be in majority in Audit Committee;
Role in Nomination and Remuneration Committee
- Determine remuneration of senior management, executive director etc.
- Determine their appointment and removal;
Role in Preventing fraud
- To check whether the company has a powerful system to control and manage risk;
- To report a violation of company’s ethics policy, fraud.
Independence of the Independent Directors- Facts v. Reality
It is assumed that the ID’s are independent of any kind of interest. They work independently without any management influence. They do not have any relations with the promoter or directors of the company or the holding, subsidiary, associate of the company.
But is it true in reality? Are they really independent?
But in reality, the ID’s are not that independent as they are thought to be. A close look at the appointment process of the ID will indicate that they are not independent. Section 149 of the 2013 Act read with Rule 4 and Rule 5 of Companies (Appointment and Qualification of Directors) Rules, 2014 provides for Appointment of ID.
The ID’s are nominated by the directors of the company. Such appointment is then approved in the meeting of the shareholders.
Firstly, the Board of Directors are influenced by their own interests and secondly, the majority shareholders are promoters or people in contact with the promoters. Thus, even if the provision requires approval by the shareholders, there is a possibility of a Promoters nominee becoming an ID.
The ID to be called ‘independent’ should have been under the influence of others. It is an obvious situation that as he is been appointed by them, he will not take any decision against their interests. Though they are called independent, they are related closely to the promoters Thus, their independence barely remains on the paper and cannot be seen in reality. This was also proved in the Satyam scam.
The promoter led nature of India’s corporate governance structure is the main reason why many India faces many corporate scams.
Findings of a research conducted on Independent Director
A research was conducted on the ID’s of India and their impact on firm’s performance. The tools used for the purpose of data collection are survey questionnaires and some secondary data. By way of convenience sampling method, the questionnaire was given to various ID’s.
Among various questions, one of the questions asked was a question regarding how do they receive a proposal to join company as an ID?
The answers to the questionnaire truly reveal the unfair means used to make their appointments.
The answer to the question can be seen from the above-given figure.
It can be analyzed that, the promoters by themselves have approached most of the ID’s to join the company. Further many of them were also approached by the company itself. Besides this, some got recommendations from friends. Senior officers, directors also approached many.
But they received the least proposals to join when they applied in the company through advertisement.
This proves the unfair ways the promoters and directors adopt to keep and maintain their interest in the company. This makes the appointments of ID partial and full of biasedness. The selected ID will take his appointment as a favour to him by the promoter and thus will act in the company as his puppet. If he tries to make a decision by himself, he might be soon ousted from his position. Knowing this fact makes him a “Dependent Director”.
Present Scenario:
Survey shows increasing concern of shareholders on ID independency
Many shareholders view the Board of Indian corporates are in favour of Promoters of the company. They think so as many ID’s don’t work independently.
As per the Corporate governance survey 2020, nearly 79% of shareholders show concern about the independence of ID. These were individual shareholders. Nearly 65% of them said many ID’s in the public company does not take any steps to safeguard the interest of minority shareholders. The said survey was conducted by Online Platform LocalCircles.
The survey also stated that many individual shareholders are also concern about insider trading and accounting frauds in public companies.
Liability of Independent Directors
In the case of Sunil Mittal v. CBI, the court stated that to make a director (including ID) guilty of fraud, it is first necessary to prove that he was actively involved in the action of committing fraud. It should be proved that the director had criminal intent and thus committed the act.
Effect of Companies (Amendment) Act, 2019 On Independent Directors
Amendment Act 2019 came into force on 31st July 2019 and made changes to section 212 of the Act. The said section provides for ‘Investigation into Affairs of company by Serious Fraud Investigation Office’. The Amendment Act states that if any director or officer or entity tries to make an unfair gain whether in asset, cash or in any way, then an application can be made to Tribunal by Central Government.
A point to note here is the scope of the section that has been widened. It says ‘any director’. It means an ID is also included in it.
Remuneration Benefit to ID under Companies (Amendment) Act, 2020
As stated by the Ministry of Corporate Affairs under sections 32 and 40 of Amendment Act, 2020, the non-executive directors including ID can now get remuneration in a public company, even if the company is running in losses or is not having adequate profits.
SEBI’s strict norms for ID
To give more power to individual shareholders SEBI has tightened its norms relating to ID in a listed company. They will come in effect from January 22. The norms are as follows-
- Nomination and Remuneration Committee and Audit Committee should be comprised of two-thirds of ID.
- Appointment of ID will be made by Special Resolution and will be approved by shareholders in next Annual General Meeting or in 3 months, whichever is earlier.
- The reason for ID’s resignation is to be disclosed by a company.
Conclusion and The Way Forward
The independency of ID has remained a debated topic for years. Therefore, certain steps are necessary to be taken to improve their independence.
The number of companies in which ID can hold directorship should be decreased. Section 165 of the 2013 Act, allows a director to hold twenty directorships. This can hamper the independence of ID.
Changes should be made in the appointment procedure of ID. As seen above, many ID’s were approached by promoters themselves. This hampers their independence to take decisions.
Companies should give ID more independence in taking decisions.