An independent director is a non-executive director who does not have any kind of relationship with the company that may affect the independence of his/her judgment. 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 2% or more of shares of the company. In this article, we look at the process for appointment of an independent director in a company.
The Board of Directors manage the operations of a company. The Board of Directors consists of individual directors of a company. As per the Companies Act, 2013 (‘Act’), certain companies must have independent directors on their Board of Directors.
The Companies Act, 1956 did not provide a specific definition of an Independent Director. But Independent Directors are in the limelight as per the Companies Act, 2013. The term “Independent Director” has been defined in the Act, along with several new requirements relating to their appointment, duties, role, and responsibilities.
Independent Director
An independent director is a non-executive director of a company who helps the company in improving corporate credibility and governance standards. The independent director should not be a managing director, a whole-time director or a nominee director.
He or she does not have any kind of relationship with the company that may affect the independence of his/her judgment. The provisions relating to the appointment of Independent directors are contained in Section 149 of the Companies Act, 2013 should be read along with Rule 4 and Rule 5 of the Companies (Appointment and Qualification of Directors) Rules, 2014
Requirement for Independent Director
As per the Companies Act 2013, all listed public limited companies are mandatorily required to have at least one-third of the total number of directors as an independent directors. Unlisted public companies should appoint at least two independent directors in the following situations:
- If the paid up share capital is in excess of Rs.10 crores;
- If the turnover is in excess of Rs.100 crores;
- If the total of all the outstanding loans, debentures and deposits is in excess of Rs.50 crores.
Applicability On Appointing An Independent Director
Listed Public Company
Every listed public company must have at least one-third of a total number of directors as independent directors. Any fraction contained in that one-third shall be rounded off as one.
Unlisted Public Company
As per Rule 4 of the Companies (Appointment and Qualification of Directors) Rules, 2014, the following classes of companies must have at least 2 directors as independent directors:
- Public companies with paid-up share capital of Rs.10 crore or more.
- Public companies with a turnover of Rs.100 crore or more.
- Public companies with aggregate outstanding loans, debentures, and deposits, exceeding Rs.50 crore.
Points to remember :
1. The amount existing on the last date of latest audited financial statements shall be taken into account for calculating the paid-up share capital or turnover or outstanding loans, debentures and deposits.
2. The company must appoint a higher number of directors if a higher number of independent directors ir required to compose audit committee.
3. These unlisted public companies – joint venture, wholly owned subsidiary and dormat company are not required to appoint an independent director even if they meet the criteria.
Every independent director should give a declaration that he/she meets the criteria of independence at the first meeting of the board in which he participates as a director and thereafter at the first meeting of the Board in every financial year or when a situation arises which affects his status of independence. The terms and conditions of appointment of independent directors should also be posted on the company’s website.
Qualifications of an Independent Director
- The person should possess appropriate experience, skills and knowledge in one or more fields of law, finance, management, marketing, sales, research, administration, technical operations, corporate governance, or other disciplines related to the company’s business.
- The relatives of an independent director should not –
- be indebted to the company, its subsidiary, holding or associate company or their director or promoters.
- have given a guarantee or security in connection with the indebtedness of a third person to the company, its subsidiary, holding or associate company or their directors or promoters of such holding company, for an amount of Rs.50 lakhs, at any time during the two immediately preceding financial years or during the current financial year.
- The person is not:
- A promoter of the company or its subsidiary, holding or associate companies.
- Related to the directors or promoters in the company, or any of its subsidiary, holding or associate companies.
- The person should not have any financial relationship (other than remuneration as a director or having
transaction not exceeding 10% of the total income) with company or any of its subsidiary, holding or associate companies or their directors or promoters, during the current financial year or the last two immediately preceding financial years. - The person or his/her relatives should not:
- Held or holds the position of Key Managerial Personnel (KMP) or has been the employee of the company or any of its subsidiary, holding or associate companies in any of three financial years immediately preceding the financial year in which such person is proposed to be appointed.
- Be or has been and employee, proprietor or a partner in any three financial years immediately preceding the financial year in which such person is proposed to be appointed – as an auditor firm, cost auditor, legal consultant or company secretary of the company or any of its subsidiary, holding or associate companies.
- Holds together with relatives a total voting power exceeding 2% in the company.
- Be a Chief Executive or director of any non-profit organisation that receives 25% or more of its receipts from the company, any of its promoters or directors or its subsidiary, holding or associate companies or that holds 2% or more of the total voting power of the company.
Duties of an Independent Directors
The guidelines, role, functions and duties of an Independent Director is defined in the Code of conduct under Schedule IV related to the Companies Act, 2013. The key role and functions of an Independent Director as listed under Schedule IV of the Companies Act, 2013 are described as follows:
- Aid in bringing an independent judgment to bear on the Board’s deliberations particularly on issues of strategy, performance, risk management, resources, key appointments and standards of conduct;
- Enable an objective view in the evaluation of the performance related to board and management;
- Examine the performance of management in meeting the decided goals and objectives and examine the reporting of performance;
- Satisfy themselves on the reliability of financial information and that financial controls and the systems of risk management are considered robust and defensible;
- Protect the interests of all stakeholders, mainly the minority shareholders;
- Balance the conflict of interest of the stakeholders;
- Decide suitable levels of remuneration of executive directors, key managerial personnel and senior management and have a major role in appointing and where essential recommend removal of executive directors, important managerial personnel and senior management;
- Moderate and adjudicate in the interest of the company as a whole, in the situations of conflict between the management as well as shareholder’s interest.
Appointment of Independent Director
selecting an independent director, the board of directors must ensure that there is an appropriate balance of skills, experience, and knowledge in the Board so as to enable the Board to discharge its functions and duties effectively. The appointment of an independent director of the company must be approved at the meeting of shareholders.
Letter of Appointment
The selection of independent directors would be formalized by a letter of appointment. The components of a letter of appointment is as follows:
- The term of appointment.
- The anticipation of the Board from which the appointed director. The board level committee in which the director is expected to serve his/her tasks.
- Directors and Officers insurance.
- The code of Occupational Ethics that the company expects from its directors and employee to follow.
- Enumerated actions that a director should follow while working in a company
- The remuneration, mentioning the periodic fee, compensation of expenses for contribution in the Boards and other meetings and profit related commission.
The terms and conditions of selection of independent directors should be open for inspection at the registered office of the company by any member during normal business hours. The terms & conditions of appointment of independent directors should also be posted on the company’s website.
Re-Appointment
The independent directors are subject to their performance evaluation by other directors. Their re-appointment would be considered based on their performance appraisal report.
Resignation or Removal
The independent director could resign or could be removed just like any other director. Upon resignation or removal, the vacancy is to be filled in by the Board within a period of 180 days from the date of either resignation or removal. The vacancy caused by resignation or removal is different from intermittent vacancy. In case of an intermittent vacancy, it must be occupied by the Board of Directors within a maximum period of 3 months or at the next Board meeting, whichever is earlier.
Role of an Independent Director
- Facilitate withstanding and countering pressures from owners.
- Fulfil a useful role in succession planning.
- On issues such as strategy, performance, risk management, resources, key appointments and standards of conduct he or she must support in gaining independent judgment to bear the board’s deliberations.
- While evaluating the performance of the board and management of the company, he or she needs to bring an objective view.
- Scrutinising, monitoring and reporting management’s performance regarding goals and objectives agreed in the board meetings.
- Safeguard the interests of all stakeholders, particularly the minority shareholders.
- Balance the conflicting interest of the stakeholders.
- Check on the integrity of financial information and ensure financial controls and systems of risk management are in operation.
- In situations of conflict between management and shareholder’s interest, aim towards the solutions which are in the best interest of the company.
- Establishing suitable levels of remuneration of executive directors, key managerial personnel, and senior management.
Conduct of an Independent Director
- Uphold ethical standards of probity and integrity.
- Act constructively and objectively while exercising duties.
- Exercise powers in a bona fide manner in the interest of the company.
- Devote sufficient attention and time towards professional obligations for balanced and informed decision making.
- Not allow any extraneous considerations to interfere in exercising objective, independent judgment in the company’s best interest while concurring in or dissenting from the collective judgment of the Board in its decision-making.
- Not take advantage of the position to the detriment of the company and its shareholders or to gain direct or indirect personal advantage or advantage for an associated person.
- Refrain from an action that would lead to loss of independent decision-making.
- Where circumstances make an independent director lose his independence, the independent director must immediately inform the Board.
- Assist the company in implementing the best corporate governance practices.
Other Provisions Related to Independent Directors Under Companies Act, 2013:
- Certain companies are required to form a Corporate Social Responsibility (CSR) Committee to formulate and monitor the CSR policy. The CSR committee should consist of at least three directors, including at least one independent director.
- Where a company is not required to appoint an independent director, it shall have in its CSR Committee two or more directors.
- The Independent director’s appointment process must be independent of the company’s management. An independent director can be selected from a data bank containing names, qualifications and addresses of persons who are eligible and willing to act as independent directors, maintained by an institute, body or association notified by the Central Government.
- The appointment of the independent director must be approved by the company in a general meeting, and the explanatory statement annexed to the general meeting notice should indicate the justification for choosing the proposed person for appointment as independent director.
- Every independent director shall give a declaration that he meets the criteria of independence when :
- He or she attends the first board meeting as a director.
- In every financial year, at the first meeting of the board of directors.
- When a situation arises which affects his or her status of independence being an independent director.
- The independent director shall be appointed for a maximum term of 5 years. The term shall not be more than 2 consecutive terms. He or she shall be re-appointed only by special resolution by the company.
- Any vacancy in the office of independent director shall be filled in the very next Board Meeting or within 3 months of such vacancy, whichever is later.
- A person must be an independent director in not more than seven listed companies at a time.
- An independent director shall not retire by rotation and shall not be included in the ‘total number of directors’ for the purpose of computation of rotational directors.
- A small shareholder director shall be considered as an independent director, if:
- He or she is eligible for appointment as independent director u/s 149 (6).
- He or she gives a declaration that he or she meets the criteria of Independence as specified u/s 149(7).
- If the Board meeting is called at shorter notice so as to transact some urgent business, then the presence of at least 1 independent director is mandatory. In absence of any independent director, a decision shall be circulated to all the directors and later approved by at least 1 independent director.
FAQs
Q: Can a company secretary working in a company get appointed as an independent director in the same company?
No. A company secretary is a whole-time employee of the company. However, an independent director cannot be a whole-time employee of a company. Thus, a company secretary of a company cannot be appointed as an independent director of the same company.
Q: What is the minimum age to get appointed as an independent director?
As per company law, the minimum age to get appointed as an independent director is 18 years. There is no maximum age to get appointed as an independent director. As per the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 for the listed companies the minimum age to get appointed as an independent director is 21 years and the maximum age is 70.
Q: Whether an independent director is liable for non-compliance with any provision under the Companies Act, 2013?
An independent director will be held liable only in respect of such acts of commission or omission of a company that has occurred with his/her knowledge, consent, connivance or where he/she had not acted diligently.
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