About Independent Directors in India

SEBI defines an independent director as someone who does not have any material or financial relationship with the company or its directors. They should in no way get influenced by the management and should be able to take unbiased decisions/judgments. The idea is to have a check on the decisions of the management and other directors to make sure that they do not act in a way detrimental to the interest of any constituent of the corporate entity including its shareholders, debt holders, creditors, debtors etc.

There was no explicit provision dealing with independent directors in India under The Companies Act, 1956. Only clause 49 of the Listing Agreement (signed between the company and the stock exchange) mandated that the company have independent directors on its board.

Clause 49 of listing agreement

“If the chairman of the board is a non-executive director, at least one third of the board should comprise of independent directors and if he is an executive director then at least half of the board should comprise of independent directors”.

The Companies Act, 2013

The new Companies Act gives greater power and responsibility to independent director and has made them an important link between promoters/ management on the one hand and the minority shareholders/ stakeholders on the other. The idea of independent director was strengthened to increase the independence of the board in making decisions and to promote transparency, accountability and fairness of disclosure in both material information and in financial statements.

Mandatory Appointment of Independent Directors – Applicability to Companies

As per the new Companies Act 2013, the appointment of independent directors has become mandatory for both public companies and private companies to which the Corporate Social Responsibility (CSR) norms apply. The universe of companies which need to appoint independent directors has become very large which has led to an increased demand for qualified people to serve on corporate boards.

Who can be appointed Independent Director?

[1]  The individuals to be appointed must not have any material or financial relationship with the company or any of its subsidiaries;

[2]  Should not be a promoter of the company or of any of its subsidiaries;

[3]  The person chosen as an independent director and the relatives of such person should not have material or financial relationship, nor hold any key managerial position in the company or any of its subsidiary companies;

[4]  The person chosen as an independent director and the relatives of such person should not have been an employee of the company or any of its subsidiary companies;

[5]  The person chosen as an independent director and the relatives of such person must not be a director of a non-profit organization, which receives 25% or more of its receipts from the company or its subsidiary companies or its promoters/directors or from anyone who holds 2% of voting rights in such companies;

[6]  The independent director must not hold more than 2% voting rights in the company either by himself or together with his relatives.

Role of Independent Directors

Independent Directors are expected to keep a check on dishonest or illegal activities and on any kind of misconduct going on in the company. They are expected to:

[1]  Express their independent views especially on issues of strategy, performance, key appointment and standard of conduct;

[2]  Scrutinize the performance of the management;

[3]  Inspect the financial information and ensure that risk management systems are robust and secure;

[4]  Safeguard the interest of all stakeholders, particularly the minority shareholders;

[5] Balance the conflicting interest of various stakeholders, particularly in situations of conflict between management and shareholder’s interest;

[6]  Determining appropriate level of remuneration for executive directors, key managerial personnel and other members of the senior management;

[7]  Recommend appointment and removal of executive directors, key managerial personnel and other members of the senior management;

A person can’t do justice to his job as an independent director if he sits on the board of more than half-a-dozen companies. So that companies do not appoint the same people on many boards and to ensure that the person appointed as an independent director will dedicate reasonable time to the affairs of the company SEBI decided to limit the maximum number of directorship.

Maximum number of directorship

As per clause 49 of new corporate governance norms cleared by SEBI a person can serve as independent director of a maximum of seven listed companies. Further if the individual is serving as an executive director in a listed company, then the number shall be reduced to three listed companies.

As per Companies Act 2013 an independent director can serve in a maximum of 20 companies out of which not more than 10 should be public companies.

Prime Database Group publishes a list of independent directors who are in default of clause 49. As of 25 November 2014, the persons named below were serving as independent directors on more than 7 public listed companies:

Remuneration to Independent Directors

The Companies Act, 2013 disallows independent directors from obtaining stock options and any kind of remuneration other than sitting fees and reimbursement of travel expenses for attending board and other meetings. Profit related commission may be paid to them but subject to approval of shareholders. According to the new Companies Act, independent directors can be paid up to Rs. 1 lakh per board meeting.

Note: For Independent directors, the sitting fee shall not be less than the sitting fee payable to other directors.

Maximum Tenure of Independent Directors

Independent Directors can hold office for a term of up to 5 consecutive years on the board of a company and shall be eligible for re-appointment for another term of up to 5 consecutive years by a special resolution (3/4^th majority). Effectively, all independent directors currently serving on boards of Indian companies can continue to be on the same boards for up to 10 years, irrespective of how long they have sat on these boards – provided they satisfy all conditions prescribed in the Companies Act.  After 10 years of continuously serving on the board, an individual needs to disassociate from the company for at least three years to become eligible for reappointment.

The law has worked in the best interest of stakeholders in making independent director a compulsory requirement of the board. However two concerns remain.

[1] Finding competent persons to serve as independent directors.

[2] What constitute independence?

Most companies run afoul of law by appointing as independent, directors who are within the personal network or relations of the promoters and other members of the management.

If you have any questions or if you need any clarification on the above content, you can get in touch with me at – rajat@sanasecurities.com.

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Rajat Sharma

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