In this blogpost, Sudhi Ranjan Bagri, Student, National Law Institute University, Bhopal writes about who is an independent director, why do we need an independent director, what is corporate governance and the role of independent directors in corporate governance
Table of Contents
Who is an independent director?
As per section 149 (6) of The Companies Act, 2013, Independent Director means any director other than a managing director or whole-time director or a nominee director.
Certain conditions need to be fulfilled, before appointing any person as an independent director.
1.) clause (a) of Section 149(6), of the Act, states that any person who is to be appointed must in the opinion of the Board, be a person of integrity and must possess relevant expertise and experience;
2.) clause (b) along with clause (c) of Section 149(6), states that the person who is to be appointed must neither be a promoter of a company nor must be related to the promoters or directors of that company. Further, clause(d) along with clause(e), states that, he must have no pecuniary relationship with the company, and that none of his relatives must have been having any pecuniary relationship with the company.
3.) clause (e) of the Section talks about his relationship with the company. It states that for a person to be appointed as an independent director, neither he nor any of his relative, must hold following positions in a company:
(i) the position of a key managerial personnel
(ii) employee or proprietor or a partner, in any of the three financial years, proceeding.
(iii) Holds together with his relative two percent or more of the total voting power of the company; or
(iv) Chief Executive or director, of any non-profit organization.
So these were the conditions which need to be followed while appointing any independent director as per The Companies Act, 2013. However, the next question which needs to be answered is that why these independent directors should be appointed and be included in the Board.
Need to have independent directors on the board
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 strengthening 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,
What is corporate governance?
Corporate Governance is a term with a very wide connotation, but in its most general sense, it means the system of rules, practices, and processes by which a company is directed and controlled. It essentially involves working in the best interests of the company while balancing the interests of the many stakeholders in a company. Since corporate governance also provides the framework for attaining a company’s objectives, it encompasses practically every sphere of management, from action plans and internal controls to performance measurement and corporate disclosure.[1]
So essentially, Corporate Governance is the application of best management practices, compliance of law in its true spirit and adherence to ethical standards for effective management and distribution of wealth and discharge of social responsibility for sustainable development of all stakeholders.
Composition & structure of board of directors under corporate governance:
For maintaining the unbiassed and objectivity of the decisions taken by the Board, it is necessary to take into consideration the views of all the directors within the boards, which are in a sense representing various groups of the company. Thus, the Corporate Governance regulations provide a basis on the composition and structure of the Board.
By regulating the composition and structure of the Board the objectivity and soundness of the decisions taken by the Board are maintained. It also ensures that no single director can dominate in such decision-making process, and thus reducing the chances of arbitrability of the decisions. This can be done by including a sufficient number of non- executive members with appropriate competencies, who are independent.
Independent directors and corporate governance:
The need for the independent directors can be established by the fact that they are expected to be independent from the management and act as the trustees of shareholders. This implies that they are obligated to be fully aware of the conduct which is going on in the organizations and also to take a stand as and when necessary on relevant issues.
The importance of the role of an Independent Director is of great significance. The guidelines, role and functions and duties and etc. are broadly set out in a code described in Schedule IV of the Companies Act, 2013.
The code lays down certain significant functions like safeguarding the interest of all stakeholders, particularly the minority holders, harmonizing the conflicting interest of the stakeholders, analyzing the performance of management, mediating in situations like the conflict between management and the shareholder’s interest, etc.
The independent directors are also expected to attend the general meetings of the company and to keep themselves aware of the matters which are going on in the company.
Role towards shareholders and stakeholders:
Independent directors have various roles to fulfill in their official capacity. Following, in my opinion, are the most important ones:
- They must discharge their duties and must try to bring transparency in the working mechanism of the company. Since shareholders, especially the minority shareholders, are usually not equipped to look into those affairs of the company, and thus they look forward to independent directors so as to provide such transparency.
- When the management or Board is taking any decisions which would adversely affect the rights of the shareholders or creditors or employees, then the independent directors must have a significant role in such decisions, and they must act in the welfare of the stakeholders.
- Further, they are required to review the related party transactions and also to ensure the efficiency of “Whistle Blower ”
These, essentially, safeguard the interests of the stakeholders.
Role in Committee Membership
The Companies Act, 2013, provides for mandatory appointment of independent directors in following committees so as to meet the corporate governance requirements:
- Nomination committee
- Remuneration committee
- Committee related to investor relations,
- Audit committee.
Responsibilities of independent directors for a good corporate governance
Being a member of the Board, their role and responsibilities are very much similar to any other director of the Board. The fiduciary duties of care, diligence and acting in good faith apply equally to independent directors as to other directors.
Role towards the Board
It is the duty of the independent director to ensure that all those concerns that are important for the company are properly addressed by the board of directors. The objectives and duties of the independent directors are same as that of the executive directors. However, as compared to the executive directors the time that is needed to be devoted by the independent director and the degree of skill and care required for the company, both are less.
Liability Of An Independent Director
Under the Act of 2013, the liabilities of the independent directors have been reduced, [2] and are limited:
“only in respect of acts of omission or commission by a company which had occurred with his knowledge, attributable through board processes, and with his consent or where he had not acted diligently”.[3]
Conclusion
The 2013 Act, confers powers on the Independent Director for the fair and smooth functioning of the Board of Directors and the company itself. This article covered the relation of Independent Directors with the Corporate Governance Principles, and also highlighted the duties which they have towards the stakeholders.
References
[1]Corporate Governance Definition, available at http://www.investopedia.com/terms/c/corporategovernance.asp#ixzz3xIakeEkG [2] S. 149(12) of the Companies act, 2013. [3] Id.Students of Lawsikho courses regularly produce writing assignments and work on practical exercises as a part of their coursework and develop themselves in real-life practical skills.
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