This article is written by R Sai Gayatri, from Post Graduate College of Law, Osmania University. This article deals extensively with the role of the Companies Act, 2013 in establishing good corporate governance in India.
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In the present day, everyone wants to be successful, be it financial, social, spiritual or any other kind of success. Companies and businesses thrive in the market to survive and succeed in the cut-throat competition. Subsequently, these establishments become so involved in the market competition that they employ unethical practices to overpower other competitors. This is where corporate governance comes into play, it encompasses certain laws, rules and regulations that govern and regulate the functioning of companies and businesses in the market. Through this article, we will learn about corporate governance and the changes introduced by the Companies Act, 2013 for focussing on good corporate governance in India.
Meaning of corporate governance
In its broadest sense, corporate governance is the manner in which a corporation is regulated. The companies and businesses adhere to the directions of corporate governance for effective management. The Board of Directors and related committees follow the rules of corporate governance so that their business benefits the stakeholders. It takes a special interest in operating the business in the best interests of the stakeholders. Corporate governance creates a proportional relation between individual, community and financial goals.
Corporate governance facilitates the exchange of ideas between the Board of Directors, management and the shareholders of a company. As a result, it boosts the performance of the corporation in the market. Corporate governance eliminates the chances of conflicts between the company owners and its management, establishing a healthy environment. It provides a vivid distinction between the functions of company owners and management and harmonizes such functions. Corporate governance ensures the finance guarantors with good returns on their investment.
The strategies to be followed by the company are also backed by corporate governance which puts the responsibility on the Board of Directors. This improves the efficiency of such a company and checks its growth in comparison with its competitors. There must be a way to keep the stakeholders interested in the company or else there are plenty of other corporations eagerly waiting to attract them. Therefore, corporate governance is imperative for providing added value to the stakeholders of a company.
Providing transparency in the operations of the company is always appreciated by the stakeholders as it protects their interests. The shareholders get to exercise their rights and the company provides recognition to such rights. Corporate governance provides for steady and efficient financial development by providing transparency. The term corporate governance extends to various aspects of a corporation, it improves the value of the company in terms of ethics and trust.
Importance of corporate governance
As mentioned above, the companies and businesses these days strive in the market to establish themselves and earn good profits as well as a good name among the consumers. Good corporate governance makes sure that a company is aimed towards financial growth and corporate efficiency. In order to sustain in the market and raise capital in an effective way, the companies need to gain the confidence of the investors.
Corporate governance affects the share prices positively, thus helping both the company as well as the shareholders. The company owners and the management are assisted by corporate governance in achieving the goals that are beneficial to the company and the shareholders through means of incentives. Good corporate governance aims to reduce corruption, mismanagement, wastage and risks in the company. It further reduces the capital cost and provides for the establishment of a brand name and its development. It takes into consideration the interests of all stakeholders resulting in the efficient management of a corporation.
Essentials of corporate governance
Corporate governance makes it necessary for the companies to provide the right information at the right time to the stakeholder. The information may be based on the functioning of the company or any other related matter. Transparency is considered as the main thread that holds the fabric of the company’s public image in place. The more transparency, the better establishment of brand name in both the corporate sector and among the consumers. Therefore, a company must make it a priority to provide as much relevant information as possible and improve its transparency.
As per the concept of corporate governance, certain position holders of a company must be answerable for the way in which the resources of the company are being put to use. However, such liability only extends to those resources over which they exercise some authority. Whether the resources of the company are exhausted for the benefit of the company and its stakeholders or not must be answered by the Chairman, Board of Directors and the Chief Executive of the company. Accountability is one of the most important aspects to establish good corporate governance.
Corporate governance specifies that there must be no influence forced upon the top-tier management of a company. The decisions of the company must be taken in good faith so that they promote the all-round development of the company. For this purpose, the Board of Directors must be unbiased in determining the future of the company. Thus, the board must have the required independence for incorporating good corporate governance in their company.
Changes brought in by the Companies Act of 2013
The Companies Act of 2013 replaced the Companies Act of 1956 and it introduced various changes in the corporate law. The Companies Act of 2013 significantly emphasized the concept of corporate governance. Through the changes, it threw light upon the requirement of transparency, accountability and independence of the companies for establishing robust corporate governance practices in India. Let us know about these changes in detail.
Framework of the Board
Various changes have been introduced by the Companies Act, 2013 in the composition of the Board of Directors of a company. They are as follows –
Number of Directors
- The Companies Act, 1956 allowed a company the liberty to decide the number of directors it shall have on its board through its Articles of Association. While Section 149 (1) of the Companies Act, 2013 expressly states that a company can have a maximum of fifteen directors only.
- As per the Companies Act of 1956, a public company required the approval of the Central Government for increasing the number of its directors above the limit mentioned in its Articles of Association or if the number of directors on the board exceeded twelve members. The Companies Act, 2013 authorizes the appointment of directors exceeding the limit of fifteen members employing a special resolution.
- A one-man company or a one-person company shall have at least one director.
Classification of Directors
The Companies Act of 2013 provides the following categories of directors –
Eligibility criteria of Independent Directors
As per Section 149(6) of the Companies Act, 2013 a candidate must qualify the following criteria to be appointed as an independent director –
- A candidate must possess the required knowledge and expertise, work experience and integrity.
- The candidate should not have been a promoter of or connected to the director or promoter of the company, its holding, associate company or subsidiary company.
- In the present financial year or the preceding two financial years, the candidate must have had no pecuniary connection with the company, its holding, associate company or subsidiary company or its directors and promoters.
- A candidate whose relatives have had no pecuniary relationship or transaction amounting to 2% or more of the company’s turnover or total income or Rupees five million, whichever is lower during the present financial year or two preceding financial years. Such a transaction extends to the company, its holding, associate company and subsidiary company. Provisions under the Companies Act, 2013 also extend to the relatives of the independent director.
Functions of Independent Directors
The Companies Act of 2013 unlike the Listing Agreement or Companies Act of 1956, states certain responsibilities to be undertaken by the independent directors under Schedule IV. They are –
- Independent directors are given the responsibility to settle the conflicts of all the stakeholders diplomatically, to safeguard the rights of the minority shareholders and examine the integrity of the company’s financial information.
- The Companies Act, 2013 contains the guidelines that regulate the professional conduct of independent directors. They emphasize determining issues for the creation of strategies, accepting an impartial opinion on the efficiency of the evaluation performance of the board, etc.
- The Securities Exchange Board of India (SEBI) mentions that a company’s board is required to establish a code of conduct indicating the duties of the independent directors as stated in the Companies Act, 2013.
Liability of Independent Directors
The Companies Act, 1956 did not hold the independent directors liable for the steps taken by the board of the company. However, Section 149(12) of the Companies Act, 2013 states that the liability of independent directors extends to those acts and omissions that occur with the knowledge of the independent directors through the board procedure, upon their consent and where such independent directors lack diligence in their acts. This change brought by the Companies Act, 2013 improves accountability and transparency in a company.
Number of Independent Directors
An independent director was not required to be appointed on the company board as per the Companies Act 1956. However, Clause 49 of the Listing Agreement states that independent directors must be appointed in listed companies only. Such independent directors must not exceed one-third of the board, provided that the Chairman of the board is a non-executive director or one-half of the board, provided that the Chairman is an executive director.
As per Section 149(4) of the Companies Act, 2013, the boards of public listed companies must comprise at least one-third of independent directors. Public companies having paid-up share capital of Rupees 100 million, public companies which on aggregate have debentures, outstanding loans and deposits above Rupees 500 million and the public companies having turnover of one billion must appoint at least two independent directors.
Under Section 161 of the Companies Act, 2013, a nominee director is the one who is nominated by a financial institution. Such nomination is pursuant to the laws in force, or an agreement or appointment by the Government or any other individual representing its interests. Nominee directors also include the directors appointed by the equity investors. They would not be regarded as independent directors.
As per Section 149(3) of the Companies Act, 2013 an individual who has resided in India for at least 182 days in the previous calendar year can be eligible for becoming a resident director. It states that there must be a resident director appointed to the board. This step ensures that the non-resident directors on the boards of home companies are not completely compromised. As a result, the existing board structures of the companies had to be revamped to be in accordance with the Companies Act, 2013.
As per Section 149 (1)(b) of the Companies Act, 2013 at least one woman director is required to be appointed on the board of listed companies as well as certain public companies. As per this change, it is mandatory for qualified female candidates to be appointed on the board, this may provide an opening for women to find the right job as per their job capabilities in the male-dominated Indian company boards.
Responsibilities of Directors
Schedule IV of the Companies Act, 2013 laid down certain duties to be carried out by the directors. The directors must always take steps that comply with the company’s Articles. They must exercise their right of independent judgement without any bias. The acts of the directors must be bonafide leading to the promotion of the objectives of the company and the benefit of its stakeholders. The directors must be vigilant and act with reasonable care, skill and diligence while exercising their duties.
However, the directors are not allowed to gain or attempt to gain any undue advantage either for themselves, their associates or partners. They are also not allowed to be involved in any situation where they might have a direct or indirect interest that conflicts with the interests of the company. These changes indicate the good corporate governance brought in by the Companies Act, 2013.
Committees of the Board
There are four kinds of committees mentioned by the Companies Act, 2013 –
The Companies Act, 1956 states that the public companies having a paid-up share capital exceeding fifty million rupees must establish an audit committee where at least three directors must be appointed. One-third of the committee has to comprise those directors who are not Managing Directors or Whole Time Directors. Section 177 of the Companies Act, 2013 deals with the Audit Committee. It states that every listed company and certain other public companies must establish an audit committee consisting of at least three directors where the independent directors are a majority. It further states that such a majority must be literate enough to understand the financial statements. The audit committee is required to provide recommendations for review of the independence of the auditors, appointment and remuneration of auditors, supervising the financial tools of the company, etc.
Stakeholders Relationship Committee
Section 178 of the Companies Act, 2013 states that every company having more than 1000 shareholders, deposit holders, debenture holders and other such security holders at any given time of a financial year must establish a stakeholders relationship committee to address and resolve the issues of security holders of the company.
Nomination and Remuneration Committee
As per Section 178 of the Companies Act, 2013, the board of every listed company must establish a nomination and remuneration committee consisting of three or more non-executive directors of which half must be independent directors. This committee is required to recognize such persons who are eligible to become directors, give recommendations to the board on the appointment and removal of such persons and examine their performance in the company.
Corporate Social Responsibility Committee
There was no need for the companies to undertake corporate social responsibility (CSR) as per the Companies Act, 1956. However, Section 135(1) of the Companies Act, 2013, requires certain companies to establish a corporate social responsibility committee. This committee shall be accountable for creating, monitoring and recommending the steps taken by a company under corporate social responsibility. Further, the committee is required to provide a detailed report of initiatives taken under corporate social responsibility by the company. If a company does not comply with corporate social responsibility it must provide the reasons for such non-compliance.
Procedure of Board Meetings
Changes brought in the board meetings and the procedure by the Companies Act, 2013 are–
- Section 173(1) of the Companies Act, 2013 states that the first board meeting of a private limited company or a public limited company is required to be held within 30 days of its incorporation.
- Section 173(3) of the Companies Act, 2013 states that the notice of a board meeting must be given at least 7 seven days before such meeting is held. The said notice may also be provided through electronic means. In certain cases of urgent matters, the board meetings may be called at a shorter notice. However, such a meeting must either be attended by one independent director or the decisions taken in such a meeting must be ratified by one independent director.
- The directors of a company can now attend the board meeting by electronic means such as video conferencing. It would be recognized as a quorum under Section 173(2) of the Companies Act, 2013.
- The Companies Act, 2013 has eliminated the holding of quarterly board meetings. As a result, a total of four meetings must be held every year where the gap between two such meetings must not exceed a period of 120 days as per Section 173(1) of the Companies Act, 2013.
- The grant of loans, guarantees, issuance of securities, approval of the financial statement and report of the board, etc need approval from the directors in a board meeting. The majority of directors or members that have the right to vote on the resolution (irrespective of whether they are in India or not) are required to approve the circular resolution as per Section 175 of the Companies Act, 2013.
The Companies Act, 2013 has taken a great initiative in establishing good corporate governance in India. Various changes have been introduced through the said Act for establishing transparency, accountability and independence in the operations of a company. The Companies Act, 2013 mainly throws light upon the procedures of the board thus opening the gateway for good corporate governance.
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