INDEPENDENT DIRECTOR

- Raushan Kumar – R760216087

- Shivang Khanna – R760216137
- Pulkit Agrawal - R760216082
 “Citizens never support a weak company and birds do not build nests on a tree that does not
bear fruits.”

Salman Khurshid1, quoting Kautilya’s Arthashastra

INTRODUCTION

A general lack of accountability and the consequent failure of institutional structures is

perhaps the greatest ill affecting Indian public life. This is a trend with few exceptions, and
India Inc. is certainly not one of them. Over the last few decades, a fair bit of work has been
done in both policy and regulatory circles to deal with this problem of trust deficit afflicting
Indian corporations. Unsurprisingly, as is usual for Indian policymakers when faced with a
tricky situation, they have looked at the West (particularly the UK and the US) for
inspiration. At least one of the solutions that has been recommended and subsequently
implemented appears to have been transplanted almost wholesale from existing Anglo-Saxon
jurisprudence. The independent director is technically part of the board of directors but is
divorced from the internal workings of the management, and is expected to monitor the board
with a sense of detachment that the executive directors would not have.

In wake of the mega scandals that have rocked the corporate world lately, there has been
much soul searching in policy circles around the world, and a level of consensus has been
reached that large companies must be made subject to increased non-management
supervision. However, there has been less agreement on the way in which this supervision
should be carried out in practice.2 Amongst the many institutions that have been mooted, the
idea of having an independent director has come to emerge as the forerunner. Perhaps the
prime attraction of this institution is that, at least at a theoretical plane, it has the illusion of
infallibility – having an independent director who sits in the same room as the senior
managers when corporate decisions are being made, but is untouched by management
dynamics, appears more likely than any other institution to ensure accountability and to weed

1
Then Indian Minister of State for Corporate Affairs, Foreword to the Corporate Governance Voluntary
Guidelines 2009.
2
For example in most common law countries including the US, UK and India, the institution of the independent
director has been accepted; whilst in civil law countries like Germany and Japan, the law prescribes a
supervisory board with a mandate to monitor the management in the interest of its shareholders. China follows a
hybrid model that includes both a supervisory board as well as an independent director
out board room corruption.3 Prodded on by this theoretical cogency, many countries around
the world have reacted warmly to the concept.4 It must however be admitted that it is by no
means the only model of outsider supervision of the board that has been mooted or indeed
practised. For instance, Germany has a two-tiered board with the task of supervising the
management being vested with a separate supervisory board. Similarly in Japan, the idea of
the outside director is often confused with the independent director whilst in reality there is
no formal requirement for independence at all.5 China follows a curious supervisory structure
characterised by the co-existence of both the German style supervisory board and the Anglo-
Saxon independent director.6

INDIAN REGIME

As for India, it is the independent director that has been almost unquestioningly accepted as
the right model for outside supervision.7 Given its common law based legal system and a
historical affinity to Anglo-Saxon style institutions, the choice is perhaps not surprising. The
concept which was first introduced in the 1998 CII Report was enthusiastically endorsed by
the Kumar Mangalam Birla Committee Report which asserted that the independent directors
have “a key role in the entire mosaic of corporate governance” in India.8 This faith in the
person of the independent director has been reflected in various committee reports and
regulations and has eventually made its way into the statutory domain in the form of Chapter
11 of the Companies Act, 2013.9 The reception to the idea of the independent director has

3
Maria Gutierrez Urtiaga & Maribel Saez, Deconstructing Independent Directors, 4 (ECGI Law Working Paper
No. 186/2012, January 2012).
4
Jay Dahya & John J. McConnell, Board Composition, Corporate Performance, and the Cadbury Committee
Recommendation, 2005, available at http://ssrn.com/abstract=687429 (Last visited on 2 August 2013)
5
The term ‘outside director’ which is part of the Japanese regulation, is translated from the Japanese expression
shagai torishimariyaku, appearing in Shōhō [Commercial Code], Japan, Art. 188(2) (7.2) (2002). Shagai
torishimariyaku in Japanese literally translates to ‘director from outside the company’
6
S.H. Goo & Fidy Xiangxing Hong, The Curious Model of Internal Monitoring Mechanisms of Listed
Corporations in China: The Sinonisation Process, European Business Organization Law Review (2012) 469,
471
7
Published by the Confederation of Indian Industry (CII) in 1998 following recommendations from a National
Task Force under the Chairmanship of Mr. Rahul Bajaj, available at
http://www.nfcgindia.org/desirable_corporate_governance_cii.pdf (Last visited on 2 August 2013)
8
Report of the Committee appointed by the SEBI on Corporate Governance under the Chairmanship of Shri
Kumar Mangalam Birla, 1999, ¶6.5, available at http://web.sebi.gov.in/ commreport/corpgov.html (Last visited
on 2 August 2013).
9
Companies Act, 2013, § 149 states that every listed public company shall have at least onethird of its board as
independent directors. Further, it has been laid down that the central government may prescribe that other public
companies should also have a certain percentage of its directors as independent directors. The Companies Act,
2013 also lays down a detailed list of criteria to determine independence, and also a code of conduct that
independent directors are expected to follow
been so enthusiastic and consistent that it has come to be seen as the centre-piece of Indian
corporate governance.

In 2003, SEBI constituted the Narayan Murthy Committee with the terms similar to that of
Chandra Committee, whose recommendations were incorporated in the Clause 49 by
amending it in 2004.

The Murthy report adopted the same definition of IDs as formulated by the Chandra
Committee, however, without the condition of nine-year term. It also pondered on the
qualification and remuneration of ID and stressed on the need for evaluating the performance
of non-executive directors. The committee rejected the recommendation of the previous
Chandra Report of treating nominee directors of financial institutions at par with ID.

Sequel to implementation of Murthy committee recommendation in Clause 49, MCA

constituted another committee in December 2004 under the Chairmanship of Shri J. J. Irani,
to give Corporate Governance (CG) a legislative stamp by revamping the Companies Act,
1956.The Irani Committee came up with several recommendations in relation to the IDs that
were in conflict with the extant Clause 49 and/or the views of the Murthy Committee, e.g. the
mandatory requirement of IDs to constitute one-half of the Board be weakened to one-third of
the total members of the Board. The present CG framework encompassing the ID is through
Clause 49 based on the Murthy Report.

It has been decided in Central Government Vs. Sterling Holiday Resorts (India) Ltd. and
Ors10 . that “the Board of directors should be strengthened by appointing independent
directors”.

Also, Section 149(6) of the Companies Act 2013, an independent director is a non-executive
director who does not have any pecuniary relationship with the company, its promoters,
senior management or affiliate companies, and is not related to promoters or the senior
management, and/or has not been an executive with the company in the three preceding
financial years. It also says that an independent director should not have been a partner or
executive director of the auditors/lawyers/consultants of the company in preceding three
years or should not hold two per cent or more of shares of the company. Further, he/she
should not be a supplier, service provider or customer of the company.

10
2006 71 SCL 372 CLB
As per sub section 4 of Section 149 of the Companies Act 2013, at least 50 per cent of the
board should have non-executive directors. If the chairman of the board is a non-executive
director, then at least one-third of the board should comprise of independent directors. If the
chairman is an executive director, then independent directors should make up at least half of
the board. If an independent director resigns or is removed from the board, he/she has to be
replaced by a new independent director within 180 days from the day of such
resignation/removal.

CLAUSE 49 AND INDEPENDENT DIRECTORS

Clause 49 of the Listing Agreement, which deals with Corporate Governance norms that a
listed entity should follow, was first introduced in the financial year 2000-01 based on
recommendations of Kumar Mangalam Birla Committee. The report of the Committee was
considered and adopted by SEBI Board in its meeting held on January 25, 2000. The
recommendations are to be implemented through the amendment to the listing agreement of
the stock exchanges. Internationally, listing agreement has been used in most markets to
implement corporate governance in the listed companies.

Clause 49 of SEBI’s listing agreement mandated the appointment of independent directors in

the board of directors. Clause I, sub clause (ii) of annexure-1 of clause 49 mandates that
“where the chairman of the board is a non-executive director, at least 1/3rd of the board,
should comprise of independent directors and in case the chairman of the board is an
executive director at least ½ of the board should comprise of independent directors.

To ensure corporate governance the securities and Exchange Board of India (SEBI) has
stipulated that effective from January 2006 at least one-third of the directors on the board of a
company should comprise "independent directors". Known as 'revised clause 49', SEBI has
made it clear that all listed entities would have to comply with this directive by December 31,
2005.

The revised clause 49 stipulates that in companies which have executive chairmen, at least 50
per cent of the board is required to have independent directors. For companies with non-
executive chairmen one-third of the board must comprise independent directors.

Non-compliance with the provisions of corporate governance in clause 49 would invite

penalties such as suspension of trading and delisting from the stock exchange. The onus of
complying with this provision will not be restricted to companies listed on the stock
exchanges; the JJ Irani Committee has recommended that the provisions apply to all "large"
companies and has left it to the government to define the term "large." However, this
provision also applies to even subsidiaries of publicly-listed companies and indications
suggest that it may be extended to deemed public companies and, perhaps, even closely-held
large private companies.

WORST CASE SCENRIOS

SATYAM CASE

On 7 th January 2009, just four months after receiving the ‘Golden Peacock Award’ for
global excellence in corporate governance, a confessional letter from the founder and
Chairman of the Indian’s fourth largest IT company, Mr B. Ramalinga Raju, came as a great
shock to the Indian Corporate Industry, and it had never been the same thereafter. The
historic confessional letter divulged an unprecedented multibillion dollar accounting scam.
The admission of Rs 78 billion has caused the regulators and the investors everywhere to re-
examine the corporate governance standards. The fact that company which was audited by
one of the most prestigious audit firms and adopted most advanced accounting and
transparent IFRS accounting system much ahead of time can penetrate such a colossal and a
global fraud is clearly eye opening for corporate counsel worldwide. It was triggered with
Satyam’s bid to acquire Matyas companies for US$ 1.6 billion. 1 Though there are adequate
checks and balances in the system to prevent fraud, it is the slack attitude of each institution
responsible for upholding corporate governance that made such a fraud. One of such
regulatory institution is of independent director. The role of independent directors now needs
an urgent attention. It has been that there have been times when independent directors have
disowned any responsibility, to others when they have face criminal charges for misdeeds
done before they were even on board. Some are accused of excessive interference and
infringing on executive responsibilities, while others are seen as mere yes-men of the
promoters.

When chairman of Satyam Computers suspected of falsifying company's books of accounts

over several years, it is the responsibility of independent director that is questioned for not
identifying the misrepresentation made in company’s books.
TATA CASE

Furthermore, when an independent director (ID) was removed by Tatas apparently for
presenting an opinion contrary to the views of majority shareholders,11 the ease with which
independent directors can be removed from company’s board came into limelight.12 It
highlighted yet another form of the board’s weakness under Indian corporate set-up.
Presently, the removal of IDs requires passing of an ordinary resolution.13 As also highlighted
by the Securities and Exchange Board of India (SEBI), this requirement of ordinary
resolution appears low in light of the existence of large shareholdings by promoters or
promoter groups in large-sized Indian companies, as well as on account of the unawareness
and inactive role of majority of retail investors into the matters of company’s management,
including the passing of resolutions for removal of IDs.14

LIABILITY

In Sh Somendra Khosla v State, the Delhi High Court was concerned with a complaint against
an independent director of a company. Curiously enough, even though the relevant director
was an independent director, the complainant argued that such a director was responsible for
the day-to-day functioning of the business, which the Court accepted. Consequently, it
refused to quash the complaint against the independent director.15

HOUR OF CONCERN

Independent directors, the ‘protectors’ of minority shareholders’ rights, have been quick to
jump ship at the slightest sign of trouble. The recent exit of three independent directors from

11
Dev Chatterjee, Tata Boardroom Coup: Independent Director Nusli Wadia Likely to Back Cyrus Mistry,
Business Standard (09/11/2016), available at http://www.business-standard.com/article/companies/tata-
boardroom-coup-independent-director-nusli-wadia-likely-to-back-cyrus-mistry-116110801365_1.html.
12
Suresh P Iyengar, SEBI Accepts Tata View on Corporate Governance Issues Raised by Mistry, Business Line
(22/01/2017), available at http://www.thehindubusinessline.com/companies/sebi-accepts-tata-view-on-
corporate-governance-issues-raised-by-mistry/article9496336.ece.
13
S. 169, Indian Companies Act, 2013; Varun Sriram, Why Removal of Independent Directors is not an
Ordinary Affair, Economic Times (08/07/2017), available at http://economictimes.indiatimes.com/small-
biz/legal/why-removal-of-independent-directors-is-not-an-ordinary-affair/articleshow/59502056.cms.
14
Will Tatas Snare Mistry in Their Shareholding Web?, The Hindu (06/11/2016), available at
http://www.thehindu.com/business/Industry/Will-Tatas-snare-Mistry-in-their-shareholding-
web/article16439160.ece;
15
Dishonor of Cheque- Independent Directors Responsible for day-to-day Affairs of Company can be
Summoned as Accused, VakilNo (January 28, 2019), available at, https://www.vakilno1.com/legal-
news/dishonor-of-cheque-independent-directors-responsible-for-day-to-day-affairs-of-company-can-be-
summoned-as-accused.html
Yes Bank Ltd—the chairman, and two from JM Financial Asset Reconstruction Company
Ltd—is just the tip of the iceberg. It is not an uncommon practise for independent directors to
quit before the end of their tenure, but what makes the situation interesting is the stark lack of
credible reasons. The number of independent directors exiting without adequate reasons has
been growing year on year. Out of the 649 independent directors who quit in 2016, 415 did
not give adequate reasons. In fact, 325 of them did not give any reason at all to the bourses.
In 2017, 476 of the 730 exits were without suitable reasons. Out of them 319 did not assign a
reason.“Independent directors resign when they realise that all is not well with the company
and, on continuing to hold on to the position, they are exposing themselves to huge risks,"
said Gaurav Dani, founding partner, Indus Law.16

CONCLUSION

Post Satyam, we saw that how independent director were not been able to cope up with the
coming situation, also we recently saw how the independent director are resigning, Recently,
Govt. of India also proposed to extend the liabilities of the Independent Direction, there is
need to have a proper mechanism regarding how independent directorate will function,
having been restricted without getting involve in day to day activities creates a hindrance in
the working of ID’s, the recent resignation of the ID’s is need to be assessed where the law is
lagging and need to find the major issues behind that, also the major challenge that is being
faced by independent directors — the selection process. Will the monitoring role not hamper,
given that a majority shareholders have a strong influence on selection and sustenance of
independent directors as most of the Indian companies whose most than half of the ownership
is in the hands of promoters group and not in hands of institutional investors.

At last I would like to conclude with, “Obviously not all well governed companies do well in
the market place. Nor do the badly governed ones always sink. But even the best performers
risk stumbling someday if they lack strong and independent boards of directors.”

16
Why independent directors are rushing for the exit door, Law Mint ( 19 Dec 2018 ) avai at
https://www.livemint.com/Companies/bntAau6XcAhPfTZ5yCVx7O/Why-independent-directors-
arerushingfortheexit-door.html?facet=amp
BIBLIOGRAPHY

We would like to thanks MADHURYYA ARINDAM, her article the independent director: has it
been indianised enough? helped us to go through the concept of independent directors in
brief and also helped us to complete this assignment based on Independent Director.