directors

In this article, Arunava Bandyopadhyay who is currently pursuing M.A. IN BUSINESS LAWS, from NUJS, Kolkata, discusses the duties of directors under the new Indian Companies Act, 2013.

Introduction

A director is “bound to take such precautions and show such diligence in their office as a prudent man of business would exercise in the management of his own affairs.” – Trustees of the Orange River Land & Asbestos Company vs King (1892)

 

Well, the reference may be very old but it still beautifully summarizes the duties of the Director of a company in a simple sentence. Gone are the days when some family driven organizations used to call them monopoly of the market while doing as they wish to shame Corporate Governance and ethics to the largest extent possible. The modern shareholders are more aware of their responsibilities than ever and more powerful than anyone can imagine. With Shareholders revolution, it is a democracy in company affairs and the shareholders are the supreme power which appoints its ministry in the form of directors to run the show and make money for them. In the process the Directors are given necessary powers but obviously more responsibility. The Companies Act 2013 has ensured this balance of Power vis-à-vis responsibilities is maintained to most benefit to the Shareholders and ensure Corporate governance to the maximum extent possible. It utilizes both regulatory measures as well as penal measures including stringent judicial measures to ensure the regulations are properly followed and to avoid any mishap in corporate governance and to maintain the legal sanctity of the organization.   Let us explore the uniqueness of this new era of corporate governance and create awareness of the duties of the Directors.

History of Indian Companies Law

The concept of regulated companies ushered from the “Merchant Guilds” of England. The notorious East India Company, established through a Royal Charter in the year 1600, may be the first of the well-known surviving company having its presence established in India. Registration of companies can be traced back to 1844 in England when the Joint Stock Companies Act was passed, which got established in India in 1850 and further the Joint Stock Companies Act got passed in India in 1857. This Act brought the concept of Limited Liability for the first time in India. In 1866 the first Companies Act was passed in India to regulate registration, regulation and wind up of companies and its associations. The Indian Companies Act got established in 1913 in line with the English Acts and as such the decisions of the English Courts were closely followed.

Post-independence, in the year 1956, the committee under the chairmanship of H C Bhaba recommended the Companies Act 1956 in the parliament, which came into effect from 1st April 1956. This Companies Act got amended a few times since then, the final amendment being the Companies Act 2013.

Director & the Board in Companies Act

The term “director” in Companies Act 2013 under Section 2 (34)  is defined as “a director appointed to the Board of a company”., wherein ―Board of Directors‖ or ―Board‖, in relation to a company, means the collective body of the directors of the company. As per Chapter XI, Section 149 of the Companies Act 2013, it is mandatory for every company to have a Board of Directors, the composition should be as follows:

  1. Public Company: Minimum 3 and maximum 15 nos. of Directors; at least 1/3 rd number of Independent Directors
  2. Private Company: Minimum 2 and maximum 15 nos. of Directors
  3. One person Company: minimum 1 director
  4. At least 1 woman director
  5. At least 1 Director who has stayed in India for minimum 182 days in the previous calendar year.

The Companies Act 2013 gives recognition to the idea of Independent Director, which was earlier part of the listing agreement only. It means a director other than a whole time director or the Managing Director or a nominee director who fulfills the criteria’s mentioned in Section 149.

As per section 266A and 266B of the Companies Act, 1956 Director Identification Number (DIN) is a unique identification number issued to existing and/or potential directors of any incorporated company. As per Companies Act provisions every director shall be appointed by the company in general meeting, provided they have been allotted the Director Identification Number (DIN) and on submission of a declaration that he/she is not disqualified to become a director.

An additional director is appointed by the Board of Directors through the Boards vested power to hold office till next general meeting. An alternate director may be appointed by the Board of Directors to act as a Director in absence for a period of not less than 3 months and not more than the allotted period for the director for whom the replacement is.

The Board may appoint any person as a director nominated by any institution in pursuance of the provisions of any law for the time being in force or any government regulation or shareholdings, such directors are known as Nominated Directors.

As per Principle of Proportional representation the articles of a company may provide for the appointment of not less than two-thirds of the total number of the directors of a company, and such appointments may be made once in every three years and casual vacancies of such directors shall be filled as provided in sub-section (4) of section 161.

People of unsound mind, undischarged insolvent, convicted by a court of any offence and either / or imprisoned for a period of 7 years or more, convicted of the offence dealing with related party transactions under section 188.

Duties of Director

Major Corporate Debacles of recent times like Kingfisher, Sahara, Satyam etc has again and again proved the inability of Company Act 1956 to be ineffective in upholding Corporate Governance. Every time it is the Directors who are responsible in breaking Shareholders expectation and sometimes betraying the sentiments of stakeholders under a false veil of charisma, while using the corporate mechanism to fulfill personal welfare. To meet this challenge Companies Act 2013 has been enacted almost 50 years after the last amendment. It is built on the principles of responsibility of the Board, protection of interests of the Shareholders, self- regulation and openness through disclosures. The 2013 amendment has ensured several effective measures through clearly defining liabilities and responsibilities of the Directors and penal actions on failure to follow the same.

The Duties of the Directors has been ensemble under Section 166 of the 2013 Act and applies to all types of Directors including Independent Directors. The Duties and Responsibilities can be broadly classified into two categories:

  • The duties, liabilities and responsibilities which promotes corporate governance through the sincerest efforts of directors in efficient management and swift resolution of critical corporate issues and sincere and mature decision making to avoid unnecessary risks to the corporate entity and its shareholders.
  • Keeping the interests of company and its stakeholders ahead of personal interests.

Now let us delve into the Section 166 of the 2013 Act that stipulates the Duties of the Directors as follows:

  1. A director must act in accordance with the Articles of Association of the company
  2. A director must pursue the best interests of the stake holders of the company, in good faith and to promote the objects of the company.
  3. A director shall use independent judgement to exercise his duties with due and reasonable care , skill and diligence.
  4. A director should always be aware of conflict of interest situations and should try and avoid such conflicts for the interest of the company.
  5. Before approving related party transactions the Director must ensure that adequate deliberations are held and such transactions are in interest of the company.
  6. To ensure vigil mechanism of the company and the users are not prejudicially affected on account of such use.
  7. Confidentiality of sensitive proprietary information, commercial secrets, technologies, unpublished price to be maintained and should not be disclosed unless approved by the board or required by law.
  8. A Director of a Company shall not assign his office and any assignment so made shall be void.
  9. If a director of the company contravenes the provisions of this section such director shall be punishable with fine which shall not be less than one Lakh Rupees but which may extend to five Lac Rupees.

To ensure independence and equitableness of the Board, the Companies Act 2013 also casts various responsibilities on the Independent Directors. An Independent Director is a member of the Board of Directors, but doesn’t owns any share of the company nor does have any financial relationship with the company other the sitting fees it receives. As per Schedule IV of the Companies Act 2013

  1. Protecting and promoting interests of all and specially for Minority Stakeholders
  2. Acting as a mediator in case of Conflict of Interest amongst the stakeholders
  3. Assistance in forwarding independent and equitable judgement to the Board of Directors
  4. Adequate attention towards related party transactions
  5. Honest and impartial reporting of any unethical behavior, violation of code of conduct or any suspected fraud in the company.

Penal Provisions

The Companies Act has various penal provisions to ensure proper adherence to the Duties and Responsibilities laid out. In Companies Act 1956, the concept of “Officer in Default” was inclusive of the Board of Directors. Under Section 2 (60) of Companies Act 2013 the idea of “Officer who is in Default” has been stipulated under lapse in duty in the circumstances that the officer is in default  for any provision of the act and is part of such contravention either self or participation without objection shall be liable to penalty or punishment including imprisonment. The Director under scrutiny here can also include Nominee Directors. The matter is very sensitive as even if the Director is not part of such meeting , but has received the information of contravention in any form is liable and can be held party to such act. Hence it is important that the voice of objection of the Director needs to be mandatorily recorded to avoid any such implication on innocent person.

The penalty amounts applicable under Companies Act 2013 are more higher in denomination and very stringent compared to the 1956 amendment. The minimum fine applicable is INR 25,00/-, whereas can be even more than INR 25 Crore. Proven Defaulter on Section 166 (codified duties) can be fined anything between 1-5 lakhs. Some examples of violations which can attract penalties of 1 crore and above are violations for provisions under

  • Section 8 : Not for Profit companies,
  • Section 42: Subscription of securities on Private Placement
  • Section 46: Duplication and issuance of share certificates with intent to defraud
  • Section 74 (3): Failure in repayment of deposits within specified time
  • Section 195 (2): Insider Trading

According to Section 149 (12) of Companies Act 2013, an Independent Director is similarly liable for such acts which is attributable through Board processes with the Director’s knowledge and with his consent or where the Director has not taken action diligently. Hence it is extremely important for Independent Directors to give consent to any Board proposal only with due caution. Although in case of such act of default is noticed by law the summons are issued irrespective of the category of Director and it lies with the Director to prove its innocence.

Under the Companies Act 2013 certain defaulters can attract imprisonment, mostly non-cognizable. However offences connected to fraud or intent to fraud are cognizable (no warrant required for arrest).  Like suppressing any material information or furnishing false information is cognizable under Section 7 (6), providing misleading statement in the prospectus under Section 34, inducing fraudulently for investment is cognizable under Section 36, transfer or transmission of shares with intent to defraud under Section 56 and offences related to reduction of share capital under section 66.

In Companies Act 2013, under Section 245 , Shareholders or group of minimum 100 Shareholders on behalf of all affected parties can bring “class action suit” against the Company and the Directors for any wrong doing. This will be taken up by National Company Law Tribunal for expedited resolution for the shareholders. In addition to Companies Act 2013, lots of other acts are interrelated and can attract penal action based on multiple conflicts. So , the Director needs to be aware of the interdependencies of different laws and how they can influence the decisions they are going to implement.

Liability of Directors

The Liability of the Directors can be both joint or collective for any and every act prejudicial to the interests of the company. Though the Director and the Company are separate entities, under the following cases the Director may be held liable on behalf of the Company:

  • Tax Liability: Unless a Director or any Past Director can prove that the non-recovery or non-payment of Taxes are attributable as gross neglect or breach of duty, then any present or past Director (pertaining to the time period of defaulter) will be liable to pay the shortfall in tax amount and any penalty associated.
  • Refunding of share application or excess in share application money
  • To pay for qualification shares
  • Civil Liability in case of misstatement in Prospectus
  • Fraudulent Business Conduct and all associated debts and contracts executed
  • Failure in making disclosures as stipulated SEBI (Acquisition of Shares & Takeovers) Regulations, 1997 and SEBI (Prohibition of Insider Trading) Regulations, 1992 by the directors may attract legal proceedings by SEBI

Some criminal liabilities associated with a Directors conduct are as follows:

  • Cheques Bounced or dishonored: Under Negotiable Instruments Act 1881, signing of dishonored by a Director may lead to prosecution along with the company
  • Offences under Income Tax Act, 1961
  • Offences under Labour Laws, specifically in case of Employees Provident Funds and Miscellaneous Provisions Act, 1952 and Factories Act, 1948

Derivative action is defined as an action by one or more shareholders of a company where the cause of action is vested in the company and relief is accordingly sought on its behalf. Though it must be brought in a representative form . A shareholder may bring an action against the company and its Directors in respect of matters which are ultra vires the Memorandum or the Articles of the company and which no majority shareholders can sanction. Directors and the company would also be liable if the conduct of the majority of the shareholders constitutes a “fraud on minority”, i.e., a discriminatory action. To safeguard the interests of the company, any member or members may bring a derivative action.

The Liability of any or all the Directors of a limited company can be unlimited if so specified in the Memorandum or approved through a Special resolution authorized by Articles of association. Any and all provisions provided in Article of Association to indemnify directors against default, negligence, breach of duty or trust is void as per Companies Act. However in case innocence of the director is proven such indemnity can be enforced. Hence this is a very important clause for Directors and one should always be aware of and try to utilize this to the maximum benefit possible. The Companies Act allows a company for taking insurance for protection against loss caused to it by Directors, also the Director can take insurance policy to compensate for loss incurred due to liability to the company for which premium can be paid by company itself.

Conclusion

The analysis above is daring enough for someone to opt for becoming a Director, however it is not that difficult to adhere to if the Directors are fulfilling their duty in the best interest of the stakeholders. The Directors needs to be more prepared now than before to avoid any grave circumstance against them or against the company. They should attend as many board meetings as possible and should be fully aware of the company’s business. They need to come very much prepared and alert before joining a board meeting. Only participation in meeting is no more enough, it also needs to be ensured all questions or expressed dissents are properly recorded in the minutes of the meeting, this is extremely important and is a pertinent evidence avoid the legal hassles at a later date. Proper training for directors on Corporate Governance is necessary and will equip them to work in the best interest of the organization. It needs to be ensured by self that the Directors are not remaining unadvised, however knowledgeable or experienced someone may be it will be prudent practice to legal advice in case of doubts or critical situations. Directors Liability Insurance is very important for Directors now.

The Companies Act 2013 has very well played its role in enacting Corporate Governance in the very core of the companies system. However, more than adherence to purpose its relies on adherence for survival which may fail it someday like all previous amendments. It needs to be more straight forward while assuring shareholders interest. Fear may allow necessary shield to hold the corrupt people for some time however it will not be long that bypass to such rules are already being invented. Corporate Governance needs to be imbibed into the soul of the system through tangible benefits to the followers , only then it will become the goal of the companies and will be followed religiously. The best thing is all stakeholders and shareholders of the companies have faith in the Companies Act and it will keep enlightening the path to universal Corporate Governance.

References:

  1. Companies Act 1956
  2. Companies Act 2013
  3. http://vle.du.ac.in/mod/book/view.php?id=8158&chapterid=9463
  4. http://www.mondaq.com/india/x/154260/Directors+Officers+Executives+Shareholders/Liabilities+Of+Directors+Persons+Who+Can+Bring+Actions+Against
  5. Corporate Governance – Directors’ Duties and Liabilities under Companies Act, 2013 by Rabindra Jhunjhunwala & Stuti Galiya
  6. http://www.mondaq.com/india/x/329264/Directors+Officers/DUTIES+OF+DIRECTORS+UNDER+THE+NEW+INDIAN
  7. https://www.icaew.com/en/technical/business-resources/legal-regulatory-tax-governance/directors-duties/the-icaew-guide-to-the-duties-and-responsibilities-of-directors

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