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A Director is defined as an individual who directs, manages or controls the affairs of the company. A director is someone who is appointed to perform the functions and the duties of a company according to the provisions of the Companies Act, 2013.
Directors play an important role in managing the affairs of a company. Hence, their appointment is very critical for the growth and development of a company. In this article, we shall discuss the principle of proportional representation for the appointment of directors.
The company’s law provides for the appointment of directors through simple majority passing of a resolution in the general meeting of the shareholders. Therefore, the simple majority has the power to elect all directors and a considerable minority may not succeed in appointing even a single director. This may endanger the interests of the minority shareholders. In order to alleviate this disadvantage, section 265 of the erstwhile Companies Act 1956 had provided that the minority shareholders shall have the opportunity to place their representative on the board of directors where the company adopted the system of proportional representation for appointment of directors by providing in its articles of association.
The provisions related to the principle of proportional representation for appointment of directors have been included in the Companies Act, 2013. Section 163 of the Companies Act says that the articles of a company shall provide for the appointment of not less than two- thirds of the total number of directors in a company according to the principle of proportional representation, whether by single transferable vote or through the system of cumulative voting or otherwise. Such appointments shall be made once in every three years, and the casual vacancies of the directors may be filled as contained in sub section (4) of section 161 of the Companies Act, 2013.
Section 163 replaces section 265 of the erstwhile Companies Act 1956. The latter section applied to the public or private company, which is subsidiary of a public company whereas the former section applies to all companies.
If we break down this section, we understand that the articles of association provide for the appointment of not less than two-thirds of the total number of directors which means that the need of provisions in the article is essential for invoking the section. It is important to note here that it is not necessary for companies to have such provisions in their articles.
The principle of proportional representation allows the minority shareholders to appoint their directors, thereby ensuring that the interests of the minority shareholders are not affected. Use of the term “otherwise” in this section tells us that this section can be implemented by any other process than by single transferable vote or cumulative voting.
Section 162 contains that the appointment of directors should be voted individually, but such provisions contradict the provisions of section 163. However, due to the overriding power of section 163, the provision contained in section 162 gets excluded.
It further provides that when a person is appointed, he shall hold office till the date up to which the director, in whose place he is appointed, would have held the office if it were not vacated.
There are two ways of appointing directors of a company under the principle of proportional representation system. These are:
These are explained below:
Under single transferable voting, every shareholder regardless of his shareholding, is entitled to one vote per post of directors to be appointed. For instance, there are five posts of directors to be appointed out of eight candidates. In this case, each shareholder can cast one vote each, irrespective of the number of shares he holds, in favour of up to five candidates. The five candidates who get the highest number of votes in order shall get elected.
Minority shareholders can cast their votes only in favour of their nominated candidate skipping others. It may ensure the required number of votes to win for their nominated candidate, and other shareholders vote might get distributed among several candidates. By virtue of this method, minority shareholders can be in a position to place their nominee director in the board.
Each shareholder is entitled to have the number of votes as per his shareholding under this system. For instance, a shareholder has a total of 500 shares in a company, and there are total five directors to be elected out of eight candidates. In this case, he is eligible to cast a total of 2500 number of votes. Either he can use all of these votes for a single candidate or else he can divide his votes amongst the candidates.
If a group of minority shareholders decides to cast all their votes to their nominated candidate, then the nominated candidate has a good chance of getting enough number of votes to ensure that he gets elected as votes of other shareholders may get distributed in favour of other candidates to fill the remaining vacancy of directors.
Under any of these two methods, the interests of the minority shareholders are protected in the company.
A company can adapt to methods, other than the Single Transferable Voting or Cumulative voting, as provisioned in the articles of association of a company and approved by the majority shareholders in the general meeting, to appoint directors in accordance with the system of proportional representation.
The Central Government issued a notification on June 5, 2015, granting an exemption for applicability of section 163 of the Companies Act, 2013 to certain government companies. Minority shareholders shall have no scope of choosing their nominee directors in such companies based on the principle of proportional representation.
Section 169(1) of the Companies Act 2013 provides the method to remove the director of a company with the condition that nothing contained in this subsection shall apply where the company has availed the option given to it to appoint not less than two-thirds of the total number of directors in accordance to the principle of the proportional representation system.
Hence, any director appointed under Section 163 of the Companies Act cannot be removed as per section 169(1). The way of removal of directors appointed by way of proportional representation system is not clear.
The prospect of proportional representation for the appointment of directors looks very sensible as it looks to safeguard the interests of the minority shareholders, but it is not clear to what extent this is implemented. The provisions have been kept optional, and it is up to the companies whether to implement the provisions of the section.
See Our Recommendation: The Procedure and Requirements of Appointment of Nominee Director.