This article has been written by Akshat Rawat, and has been edited by Oishika Banerji (Team Lawsikho).
It has been published by Rachit Garg.
Table of Contents
Introduction
Since the inception of the company system, we have continuously developed new ideas for it and made adjustments, and we plan to make many more changes in the coming future. The concept of “independent directors” is neither new nor very ancient. It gained notoriety in India in 2013 when the Companies Act, 2013 was introduced. In this article, we will examine how the concept of ‘independent directors is seen in the US, the UK, and India. The three economies indicated below have all had several significant frauds in the past, thus it was crucial to implement new reforms to close this gap thereby promoting progressive company reforms. The three economies have been taken for comparative study, keeping in mind that while two of them are developed nations, India remains a developing economy, but the problems that are associated, appears to be same.
History of independent directors
Unofficially referred to as the company’s watchdogs and the individuals who contribute their skills, ‘independent director’ is an important concept when talking about the Companies Act, 2013. After a number of the aforementioned occurrences in the past, the independent function became vital. It is the United States and India, who have accepted the notion of independent directors in its corporate legislations. When it comes to the UK, the nation has chosen to use the concept of ‘non-executive directors’ in place of independent directors.
What function do independent directors serve?
Looking into the nation’s history reveals that it was first used in the US in the 1950s as a component of good governance in the country.
Following the ENRON fraud, the concept of an independent director was formalised under the Sarbanes Oxley Act 2002. The “Cadbury Committee Report” from 1992, in the UK, ignited the idea of independent director, and as a result, things altered not just there but also in the US in 2002.
This idea gained prominence in India in 2000 when SEBI mandated that all major publicly traded businesses have a minimum number of independent directors on their boards. This requirement followed the approval of Clause 49, which deals with corporate governance, by the Kumar Mangalam Birla committee. Later, other committees such as the Narayan Murthy Committee and the Naresh Chandra Committee were established. With the introduction of the Companies Act, 2013, the idea of independent directors gained prominence in that year.
Independent directors in India
As was already indicated, the notion of independent directors, has a lengthy history, yet it was eventually implemented. The Companies Act, 2013, not only establish this idea, but also assist us in determining the function and responsibilities of this designation in a company. India presents a significant hurdle since it is exceedingly challenging to meet the standards set out by these corporations. Several reputable and competent institutions, like CII, NASSCOM, and MCCIA, have kept the information on independent directors on file. The efficiency of an independent director is important, and in India, there is concern over a mismatch between their abilities and efficacy in the system and those of the firm and its promoters.
Clause 49 of the listing agreement and Section 149(6) of the Companies Acts, 2013, define what is an independent director and further, defines us independent director’s role, responsibilities, and eligibility requirements. It has been attempted to clarify the function, accountability, authority, and obligations of independent directors under these rules and further Section 150 of the said Act, and Rule 5 of the Companies (Appointment and Qualification of Directors) Rules, 2014, explains how an independent director is appointed.
An independent director has no financial ties to the company, its management, shareholders, subsidiaries, or any of its other officers or directors. To further state, an independent director cannot be linked to somebody who works as a promoter or in a position of authority inside the organisation (Board level and below). In addition, independent directors of a corporation must be at least 21 years old in the case of a listed firm, and not older than 75. However, for unlisted companies, a person must be at least 18 years old to serve as an independent director.
These independent directors’ roles, responsibilities, and duties are to provide the corporation with their talents and knowledge. Additionally, as board members, they are required to attend board committee meetings as well as the annual general meeting of the company. It is against the law for an independent director to provide sensitive information about the company. Since they are the watchdogs for the company, they must report any unethical behaviour. Additionally, if there is a conflict between two higher authorities, such as shareholders and directors, independent directors should always seek the best outcome for the company as a whole rather than acting in the best interests of any one person.
Legal comparison between India and US with respect to independent directors
It is ideal to note that both countries adhere to the BOD’s (Board of directors) unitary structure. After comparing the responsibilities of directors in each nation, we can say that while in one hand India has extremely specific responsibilities for directors, US regulations are laxer in this regard. When it comes to the formation of the board of directors, it is clear that there are no regulations or legislation in the US governing the size of the board, and that such formation varies from company to company. Additionally, there are independent directors on this board.
According to the NYSE (New York Stock Exchange) and NASDAQ, the majority of the directors of these listed companies must be independent (also called outside directors) on the board. By Clause 49, which establishes the composition of the board, the board in India must include at least 50% independent directors if the chairman is an executive director, and 33% if the chairperson is a non-executive director.
Also, when it comes to the composition of the audit committee per the Sarbanes-Oxley Act in the US requires a minimum of 3 independent directors in the committee whereas India as per Clause 49 & equivalent Indian regulations requires 2/3rd independent directors out of all the members in the committee. There is not much difference when it comes to the working, role, responsibilities and duties of an independent director.
Legal comparison between India and UK with respect to independent directors
Although the term “independent director” is used in both the US and India, the UK refers to such individuals as “non-executive directors” rather than “independent directors,” which is a crucial distinction to note when contrasting the two statutes, namely, the Companies Act of 2006 (UK) and the Companies Act of 2013. (India).
Regarding the composition of the Board of Directors, we are aware that independent directors must meet the requirements of Clause 49 in India, but the Cadbury Code of Corporate Governance stipulates that independent non-executive directors must make up at least half of the Board of Directors in the UK, including the Chairman.
Regarding the term of service for an independent director in both countries (referring to UK non-executive directors as independent directors), we will be able to identify one significant difference. In the UK, a person will no longer be regarded as an independent director if they have served on the board for more than nine years. India’s term is limited to 5 consecutive years only. The term for a non-executive director who later became an independent director is not to exceed nine years, although according to Clause 49 of the listing agreement, the second condition is not mandatory.
The situation of India is obvious when it comes to the minimum age for independent directors as stated above, while in the case of the UK, it is 16 years as per Section 159 of the Companies Act of 2006.
Again, there isn’t much to say because the designations are different between the two nations, which made it harder to identify other distinctions and parallels. After all, the Indian context considers non-executive directors separately.
Comparative analysis between India, US and UK (analytical aspect)
The legal information on this idea is important to know, but when we look at some real-life examples, it becomes more tangible to us. Although this idea has so far greatly attracted us, we will be able to observe a significant difference in all three nations with the aid of the data we now have. Three images are provided below, to which we shall refer throughout the course of our study.
Figure 3:Percentage of Independent directors from 2016-20 in India
As is well known, an independent director’s role, responsibilities, and duties are described in the fourth schedule of the Companies Act, 2013. Similarly, an independent director’s function in the UK is supervisory, therefore they are not expected to participate in day-to-day management. As a result, these non-executive directors are there to provide their knowledge and expertise (in the UK context). Thus, the independent directors are the backbone of corporate governance and were developed to lessen conflicts of interest and any unlawful or illegal activity that may occur throughout the management process.
According to the aforementioned statistics, the changes brought in India from 2016 to 2020 is rather excellent compared to the UK, where it is quite slight, and it is less compared to India in the US. However, if we look at the entire situation, we can see that the US has twice as many independent directors as India has and that the majority of the board of directors’ members in the US are independent directors. The proportion and number are fixed in the centre in the UK.
Conclusion
Our article leads us to the conclusion that independent directors are now required in the system, and with the aid of numerous Scts and other references, we can compare independent directors across other nations. Additionally, even though everything appears to be the same from above, closer inspection reveals that they are pursuing the same goals in different ways.
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