APPOINTMENT, QUALIFICATION AND DISQUALIFICATION OF

DIRECTORS
INTRODUCTION

The paper makes an attempt to highlight the current and proposed provisions with
regard to the appointment and qualification of independent directors in India vis-à-
vis other jurisdictions and practice in the leading corporate houses. With the
integration of the Indian economy into the world economy, there is a consensus
among the corporate leaders that the corporate governance in India should conform
to the international norms.

Barring a few exceptions, in India the appointment of independent or non-

executive directors has become a matter of mere legal compliance. A million dollar
question begging an answer is that when will the Indian businessman come out of
the pond and start swimming in the main stream of global village. How will they
satisfy the foreign institutional investors who are demanding greater
professionalism in the management of Indian corporate?

Even the lending institutions are now giving much more emphasis to good and
efficient corporate governance. There is a gradually growing perception in the
investor community that the ID framework is a potion for all ills that pervade the
corporate world. So are independent directors truly independent or do they toe the
management’s line?

Should they be substantially remunerated or will that compromise their

independence? And finally will more regulation prove to be effective policing or
discourage the best from board duties? The truth lies in this paper. Issues that
impede the effectiveness of this institution with special regard to its qualification
and appointment are identified and suggestions are made for making this institution
a potent device for marshalling in an efficacious set of corporate governance
norms. The institution called Independent Director is at a nascent stage – it needs
to be nurtured very carefully to enable it to blossom as a powerful apparatus of
corporate governance.

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The Companies Act, 2013 ("Act") is enacted to gradually replace the old Act of
1956, with the objective to bring more accountability and good corporate
governance. The Ministry of Corporate Affairs has notified ninety-eight sections of
the Act which have come into effect from September 12, 2013 and repealed the
corresponding sections of the 1956 Act.

The Act appears to place a higher degree of responsibility on the Board members
for good corporate compliance. A clear understanding of these obligations and
responsibilities will be critical for current and prospective Board members. In the
Act, the sections related to role, duties and removal of directors are yet to be
implemented but it will happen soon and, therefore, merits attention. In the context
of the Board of a company, the legislators have focused on the role of independent
directors and have codified the duties of directors, which were missing in the old
Act.

With the integration of the Indian economy into the world economy, there is
consensus among the corporate leaders that the corporate governance in India
should conform to international norms. Barring a few exceptions, in India the
appointment of independent or non-executive directors has become a matter of
mere legal compliance. It has been decided in Central Government v. Sterling
Holiday Resorts (India) Ltd. and Ors. that “the Board of directors should be
strengthened by appointing independent directors.”

Most of the companies still function in the same old fashion and the non-executive
directors has hardly any say in the management of a company. In most of the
companies, hardly any relevant information is passed on to the directors and the
meetings of the Board discuss minor and routine matters. The Board meetings are
normally held once in three months and that too for 2 to 3 hours only. It is obvious
that promoters would prefer to appoint their cronies and faithful persons on their
board to have minimum interference of the outside directors.

But a million dollar question begging an answer is that when the Indian
businessman will come out of the pond and start swimming in the main stream of
global village. How will they satisfy the foreign institutional investors who are
demanding greater professionalism in the management of Indian corporate?
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Even the lending institutions are now giving much more emphasis to good and
efficient corporate governance. There is a gradually growing perception in the
investor community that the ID framework is a potion for all ills that pervade the
corporate world. So are independent directors truly independent or do they toe the
management’s line?

Are their roles well defined or can they be held liable for all kinds of lapses?
Should they be substantially remunerated or will that compromise their
independence? And finally will more regulation prove to be effective policing or
discourage the best from board duties? The truth lies somewhere in between.

THE BOARD OF DIRECTORS (SECTION 149)

The Board shall consist of individuals not of other persons like firms, LLP,
companies, gods or other legal persons. A public company shall have minimum

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three directors and private company two. While newly introduced one man
company shall have minimum one director. All companies may have maximum
fifteen directors. However, a company may appoint more than fifteen directors
after passing a special resolution. Some prescribed class of companies shall have at
least one woman director.

Every company shall have at least one director who has stayed in India for a total
period of not less than one hundred and eighty – two days in previous calendar
year. This means all Indian and foreign nationals may be a director in Indian
company if any one of the director among them in that particular company stayed
in previous calendar year in India for more than one hundred and eighty.

Every listed company shall have at least one-third of total number of directors as
Independent directors. The central government may prescribe minimum number of
independent directors in other class or classes of public companies. The Act
requires the Board to devise mechanisms to ensure compliance with the applicable
laws which should be effective and adequate. The Board may consist of several
categories of directors including whole-time directors, managing directors,
independent directors, nominee directors and women directors.

Under the Act, there is a mandatory requirement that one-third of the Board should
consist of independent directors for listed companies and public companies with a
paid-up capital of INR 1,000 million (approx. $16 million2) or debt of INR 2,000
million (approx. $32 million).

Every listed company and unlisted companies with paid-up capital of INR 1,000
million will now be required to appoint one woman director within one year and
three years of notification of Section 149(1), respectively. This requirement is
introduced to facilitate the presence of women in the Board room. India is already
making progress in gender issues and this is a welcome step which should help to
put diverse views on the boards of companies.

APPOINTMENT OF DIRECTORS (SECTION 152):

Corresponding sections of the Companies Act, 1956: 254, 255, 256, 264

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If different person are not named as first director in articles of the company,
individual subscribers shall be deemed to be first directors. Every director shall be
appointed in general meeting as a general rule. Director identification number
(DIN) shall be a precondition for appointment as director.

Every person proposed to be appointed shall furnish a declaration that he is not

disqualified to become a director under this Act. However, consent to act as
director may be given after appointment but before any act as director.

A person appointed as director shall not act as director unless he gives his consent
to hold office of director and such consent has been filed with the registrar within
thirty days of his appointment. This means appointment as director and his taking
charge of office of director shall now be a different thing.

Director shall take charge into office only after giving his consent and filing his
consent with registrar. It means an appointed director will take charge after filing
his consent with registrar. This will effectively also bar a director from receiving
salary from date of appointment. His salary should logically be effective from the
date of his taking charge into office of director.

Separate motion should move for the appointment of each director as per section
162. A motion for approving a person for appointment or for nomination a person
for appointment shall also be treated as motion for appointment.

The new provision says that a person shall not act as director unless his consent to
act as a director i.e. Return of appointment has been filed with ROC.In case of
appointment of independent director the explanatory statement attached to the
notice of general meeting shall mention that in the view of the Board the person to
be appointed as the independent director fulfills the criteria of an independent
director. For counting number of directors liable to retire by rotation, independent
directors shall be excluded.

WHAT ARE THE VARIOUS WAYS FOR APPOINTING DIRECTORS?

The Articles of association generally contains provisions with regards to
appointment, retirement rights duties and remuneration of directors.

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  Directors are appointed

- by naming first directors in the articles of association (If no mention is

made by default. individual subscribers (other than body corporate) to the
memorandum will be first directors. In case of one Person Company,
individual being a subscriber to the Memorandum of association, he shall be
deemed to be its first director until the director or directors are duly
appointed. (Section 152(1)

- By the shareholders in General meeting {Section 152(2)}

- By the board of directors following categories

a. Additional directors, if articles confer such power (persons who fail

to get elected at General meeting cannot be appointed as additional
director)

b. Alternate directors. Nominee directors, if articles confer such power

or by a resolution passed in the General meeting

c. Causal vacancy caused by resignation of a duly appointed director

before expiry of his term.

INDEPENDENT DIRECTORS
The role of independent directors is chalked down in detail in the "Code for
independent directors" appended to it,6 which contains clear guidelines regarding
professional conduct, roles and responsibilities of independent directors.

Independent directors are bound by this Code to play a role in the appointments,
determination of remuneration and removal of non-independent directors and other
managerial employees.

Though the 1956 Act and Clause 49 of the listing agreement have the provision of
an independent director for every listed company, they have not elaborated on the
roles and duties of these directors as the Act does. Such enumeration now require

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an independent director to ensure that he does not abuse his position and devotes
his time and attention to assist the company in implementing best corporate
governance practices. The legislators have also set certain generic duties for the
independent directors to bring a perspective on matters related to strategy,
performance and risk management and balance the conflicting interest of the
stakeholders. The duties under the Code are exhaustive and needs the director to
maintain confidentiality and attend the general meetings of the company.

The independent directors have to hold at least one meeting every year, 7 without
the attendance of non-independent directors and with the members of management
to review their respective performance, and determine whether the non-
independent directors are meeting the specified targets and reporting compliance.
They also have to ensure that the financials are reflected accurately, controls
system and risk management are in place, seek clarifications in case of ambiguity
and take and follow the advice of experts at the company's expense. Independent
directors are also expected by the Code to act as a moderator to resolve disputes,
act in the interest of the company and with no partiality towards management or
shareholders.

In audit committee, the role of independent directors is expanded under the Act
and they have to now examine the financials and approve the related party
transactions compared to only a review function in both cases under the old Act.
The independent directors have also been given the duty to determine the
appointment, removal and remuneration of executive directors, key managerial
personnel and senior management. However, the exact process will be clear once
the rules are finalized.

Section 150, the Companies Act, 2013: Manner of selection of independent

directors and maintenance of databank of independent directors. The Company
may select persons to be appointed as independent directors from the data bank
created by the central government institutions and agencies. The independent

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directors shall be appointed in the general meeting of the Company and in
explanatory statement of such general meeting justification for appointment of that
person as an independent director shall be given.

The Central Government may prescribe the manner and procedure for selection of
independent director.

Section 161, the Companies Act, 2013: Appointment of additional director,

alternate director and nominee director. Corresponding sections of the Companies
Act, 1956: 260, 262, 313.The additional director shall hold office till next AGM or
the latest date at which the AGM should have been held, whichever is earlier; as
per old act additional director shall hold office till next AGM.One person shall be
appointed as alternate director to only one director. The person appointed as
alternate to an independent director shall fulfill the criteria to be appointed as an
independent director.

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WHO IS AN INDEPENDENT DIRECTOR?
The term "independent Directors" became a part of the Indian corporate lexicon
after the publication of the Kumar Mangalam Birla committee report which
resulted into introduction of clause 49 in listing agreement. The committee
mentioned that 'independent directors' are those directors who apart from receiving
directors remuneration do not have any material pecuniary relationship or
transactions with the company, its management or its subsidiaries which in the
judgment of the Board may affect their independence of judgment. The benchmark
for the exhaustive meaning of Independent Director is the below mentioned SEBI’s
Clause 49 of the Listing Agreement.

SEBI's Clause 49 of the listing agreement:

• Should not be related to promoters or the management at the board level or at one
level below the board

• Should not have been a partner or an executive of the statutory audit firm or an
internal audit firm or legal and consultancy firm, during the last three years

• Should not have been suppliers, service providers or customers of the company

• Should hold below two per cent of the shares of the company

• Should not have been an executive of the company in the immediately preceding
three financial years

• Appointment of non-executive director a beyond continuous period of nine years

not permissible

• Nominee directors of banks or Financial Institutions will be considered as

independent directors.

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DISQUALIFICATION OF DIRECTORS
Primary disqualifications (Sub – section 2 of section 164):

Corresponding sections of the Companies Act, 1956: 274

A person shall not be eligible for appointment as a director of a company, if —

(a) He is of unsound mind and stands so declared by a competent court;

(b) He is an un-discharged insolvent;

(c) He has applied to be adjudicated as an insolvent and his application is pending;

(d) He has been convicted by a court of any offence, whether involving moral
turpitude or otherwise, and sentenced in respect thereof to imprisonment for not
less than six months and a period of five years has not elapsed from the date of
expiry of the sentence. If a person has been convicted of any offence and sentenced
in respect thereof to imprisonment for a period of seven years or more, he shall not
be eligible to be appointed as a director in any company;

(e) An order disqualifying him for appointment as a director has been passed by a
court or Tribunal and the order is in force;

(f) He has not paid any calls in respect of any shares of the company held by him,
whether alone or jointly with others, and six months have elapsed from the last day
fixed for the payment of the call;

(g) He has been convicted of the offence dealing with related party transactions
under section 188 at any time during the last preceding five years; or

(h) He has not been allotted a director identification number.

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The disqualifications referred to in clauses (d), (e) and (g) of sub-section (1) shall
not take effect—

(I) for thirty days from the date of conviction or order of disqualification;

(ii) where an appeal or petition is preferred within thirty days as aforesaid against
the conviction resulting in sentence or order, until expiry of seven days from the
date on which such appeal or petition is disposed off; or

(iii) Where any further appeal or petition is preferred against order or sentence
within seven days, until such further appeal or petition is disposed off.

Section 167, the Companies Act, 2013: Vacation of office of director

Corresponding sections of the Companies Act, 1956: 283

As per new act a director if absents himself from all the meetings of board of
directors held during a period of 12 months with or without taking leave of absence
shall disqualify from being a director. As per old act it was 3 consecutive meetings
without taking leave of absence.

The new act provides for appointment of new directors by promoters of the
company or central government as may be prescribed if all the director’s office
become vacant due to their disqualification.

Disqualification due to corporate inaction (Sub – section 2 of section 164):

No person who is or has been a director of a company which—

(a) Has not filed financial statements or annual returns for any continuous period of
three financial years; or

(b) has failed to repay the deposits accepted by it or pay interest thereon or to
redeem any debentures on the due date or pay interest due thereon or pay any
dividend declared and such failure to pay or redeem continues for one year or
more,

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Shall be eligible to be re-appointed as a director of that company or appointed in
other company for a period of five years from the date on which the said company
fails to do so.

A private company has power to provide any additional disqualification.

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CONCLUSION

As Indian companies are spreading their wings abroad by Merger and

Acquisitions, their corporate governance standards have to match the global
benchmark. The issue of “independence” of board occupies center stage in
corporate governance. Any interest direct or indirect, close or remote, other than
the interest of the Company, that influences the thinking of a Director while sitting
on the Board is inimical to the concept of independence.

As such, effectiveness of Board cannot be enforced through legislation because

legislative and regulatory measures have their own limitations. In India, there is a
need for strict observance of the code of conduct and principle of self-regulation by
the board of directors. The institution called Independent Director is at a nascent
stage – it needs to be nurtured very carefully to enable it to blossom as a powerful
apparatus of corporate governance.

While looking at all the details, the Act does not appear to have introduced too
many significant changes in the provisions with respect to directors. The penalties
for contravention under different sections have been increased from a minimum of
INR 10,000 (approx. $161) to a minimum of INR 50,000 (approx. $807) to bring
in more accountability. With the introduction of strict eligibility criteria for
appointment of independent directors, their pecuniary interest is bypassed and this
is to create a watchdog for public/listed companies.

Penalty for any contravention by an independent director is also introduced, but

they will be liable only for those fraudulent transactions for which they will give
their consent or where it can be demonstrated that they have not acted diligently.
This defense hardly provides any immunity as most Indian laws charge the
directors for any offence. The Act also permits an Indian company to indemnify its
directors and officers, unlike the 1956 Act.

Women too are encouraged to join the board room, thus bringing in diverse
viewpoints and talent. In essence, the Act has endowed responsibility and
introduced high standards for directors so that they are accountable to the
shareholders for their action and personally liable for any damage caused by them.

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