Applicability of Independent Director in a Company

Minakshi Bindhani

27 Jul, 2023

An independent director is a director or board member who, except for sitting fees, has no material or financial connection to the company or anyone connected to the company. He is renowned for being an outside director. We will be talking about the function and applicability of the independent director in this blog

Independent director means an independent director referred to in section 149 of the Companies Act 2013¹. An Independent director is a director considered to be different from a :

• Managing director
• Whole-time director
• Nominee director; and who, in the opinion of the Board of Directors of the company, is a person considered of integrity and possesses relevant expertise and experience;
• A person who is and was never in the past a promoter of the company or its holding, subsidiary and associate company.
• A Person who is not related or was never related to promoters or directors in the company, it’s holding, subsidiary or associate company;
• Who has or had no pecuniary relationship with the company, it’s holding, subsidiary or associate company, or their promoters or directors during the two immediately preceding financial years or the current financial year;
• and a person, any relative, did not have or was having any pecuniary relationship or transaction with the company, or its holding, subsidiary or associate company or with the promoters or directors of the company amounting to 2% or more of the company’s gross turnover or total income or fifty lakh rupees or such higher amount as may be prescribed.

Who possesses such other qualifications as may be prescribed?

The role of an Independent Director can be described in the following points:

How Many Independent Directors Should the Board Have?

The Board of Directors of a company should have a combination of both, i.e. executive and non-executive directors.

At least 50% of the Board should have non-executive directors. In case the chairman of the board is a non-executive director, then at least 1/3rd of the Board should compromise independent directors.

If the chairman is an executive director, the independent director should make up at least half of the board.

Appointment

The Act imposes a specific obligation on listed companies to have no less than one-third of the total number of directors as independent directors. Also, it empowers the central government to include other classes of companies within the scope of this requirement.

This process of selecting the central government and organization authorized by the central government will maintain a data bank of persons willing and eligible to be appointed as independent directors from which the companies choose suitable persons.

An independent director can be selected from a data bank containing names and qualifications of eligible people willing to be independent directors, maintained by anybody, association or institute with expertise in creating and maintaining such a data bank.

It may be noted that the company will approve the appointment of an independent director in the general meeting, and the explanatory statement annexed to the notice of the general meeting called to consider appointment shall indicate the justification for selecting the appointee for appointment as an independent director.

Statutory Criteria

• The person who is to be appointed as an independent director does not have any material pecuniary relationship with the company or with any director of the company.
• The person should possess integrity and relevant industrial expertise.
• The person or his relative does not have any material pecuniary relationship with the company or its subsidiary amounting to 2% or more of its gross turnover or total income.
• The person must not hold more than 2% voting rights in the company either by themselves or together with their relatives.

Responsibility

• To ensure transparency in corporate governance.
• This Act also specifies that if any decision is taken and at that time an independent director is not present, then the decision taken is to be circulated to all directors and can be final only upon receiving the ratification from at least one independent director.
• Independent directors can be removed if they fail to attend any board meeting for 12 months with or without board permission.
• Even when an alternative, independent director is appointed, he should also comply with the prescribed criteria for the position.

Tenure

An independent director shall be appointed for a consecutive period of not more than two; after that, a gap of three years is needed before their reappointment in such a company for the same position.

Reappointment for the second term is allowed only after the cooling period of 3 years.

Liability

Independent Directors can be held liable only for those offences committed with their knowledge, connivance or negligence. This liability is limited so that it will hopefully instil confidence in the minds of such individuals for taking an honest decision.

Remuneration

• According to the Companies Act 2013, independent directors are debarred from obtaining any employee stock options plans and remuneration other than sitting fees.
• Profit-related commissions may be paid to them but are subject to the approval of the shareholders.

Meeting

• The act mandates that all independent directors meet at least once annually without the presence of non-independent directors and members of the management.
• Such meetings are conducted to evaluate the performance of the company’s chairperson, non-independent directors and the board as a whole.
• These meetings would help these directors express themselves freely in an open environment and allow them to make suitable and impartial decisions.

Committees

Independent directors should compulsorily form part of the following committees:

1. Corporate Social Responsibility:

Every company has:

• Net worth- 5 billion
• Turnover – 100 billion
• Net profit – 50 million to constitute Corporate Social Responsibility   Committee with minimum 3 directors and should have at least one independent director.

The presence of an independent director is mandatory as it will see that CSR activities are implemented effectively.

2. Nomination & Remuneration Committee

Every listed company must constitute a nomination and remuneration committee with three or more non-executive directors, of which one-half must be independent.

The presence of an independent director will ensure the identification and appointment of skilled individuals as directors/key managerial personnel of the company.

3. Audit Committee

The act stipulates explicitly that every listed company must constitute an audit committee of at least three directors with a majority of independent directors.

Applicability of Independent Director: Other Provisions

Vacancy–

In case of any intermittent vacancy for an independent director, it has to be filled by the board at the earliest, not later than the next board meeting or three months from the date of the vacancy.

Disclosure-

Every independent director at the first meeting of the board shall give a declaration that he meets the criteria for independence.

Conclusion

The act has given all these powers to the independent director to maintain proper checks and balances in the organization and that the management of the authorized person is not exercised in an uncontrolled manner but in a rational, controlled and accountable way. The main aim of appointing an independent director is to enhance corporate governance and ensure that the management and affairs of the company are conducted in the interest of shareholders.

FAQs

Read our article: MCA notifies for Appointment and Qualification of Independent Directors: Amendment Rules 2020

1. https://www.indiacode.nic.in/show-data?actid=AC_CEN_22_29_00008_201318_1517807327856&orderno=153