PROVISIONS RELATING TO INDEPENDENT DIRECTOR UNDER SEBI (LODR) REGULATIONS, 2015

[Mr. M. GOVINDARAJAN]

Independent Director

An independent director, in corporate governance, refers to a member of board of directors who does not have a material relationship with a company and is neither part of its executive team nor involved in the day-to-day operations of the company.  The independent director works only to safeguard the interests of the members who individually cannot look after their interests.  Section 149 of the Companies Act, 2013 read with Rule 4 and Rule 5 of the Companies (Appointment and Qualification of Director) Rules, 2014, provides for the appointment of independent director.

The Companies Act, 2013 provides the role and duties of the independent director and also the code of conduct to be followed by the independent director.

SEBI (LODR) Regulations

LODR is one of the most important regulations mandated by Securities and Exchange Board of India to enable transparency and fair disclosures by all listed entities in India.  The said regulation is having provisions in relation to the independent directors.  The list company is to comply with the provisions of SEBI (LODR) Regulations (‘Regulation’ for short) in the matter of independent directors.  In this articles the various provisions relating to the independent director in SEBI (LODR) is discussed.

Obligation of Board of Directors

Regulation 4(2)(f)(iii) (14) provides that he board of directors and senior management shall facilitate the independent directors to perform their role effectively as a member of the board of directors and also a member of a committee of board of directors.

Definition

Regulation 16(1)(b) defines the expression ‘independent director’.  The independent director is a non-executive director, other than a nominee director of the listed entity:

• who, in the opinion of the board of directors, is a person of integrity and possesses relevant expertise and experience;
• who is or was not a promoter of the listed entity or its holding, subsidiary or associate company or member of the promoter group of the listed entity;
• who is not related to promoters or directors in the listed entity, its holding, subsidiary or associate company;
• who, apart from receiving director's remuneration, has or had no material pecuniary relationship with the listed entity, its holding, subsidiary or associate company, or their promoters, or directors, during the two immediately preceding financial years or during the current financial year;
• none of whose relatives has or had pecuniary relationship or transaction with the listed entity, its holding, subsidiary or associate company, or their promoters, or directors, amounting to 2%  or more of its gross turnover or total income or ₹ 50 lakh or such higher amount as may be prescribed from time to time, whichever is lower, during the two immediately preceding financial years or during the current financial year;
• who, neither himself, nor whose relative(s) –

• holds or has held the position of a key managerial personnel or is or has been an employee of the listed entity or its holding, subsidiary or associate company in any of the three financial years immediately preceding the financial year in which he is proposed to be appointed;
•  is or has been an employee or proprietor or a partner, in any of the three financial years immediately preceding the financial year in which he is proposed to be appointed, of –

•  a firm of auditors or company secretaries in practice or cost auditors of the listed entity or its holding, subsidiary or associate company; or
• any legal or a consulting firm that has or had any transaction with the listed entity, its holding, subsidiary or associate company amounting to ten per cent or more of the gross turnover of such firm;
• holds together with his relatives two per cent or more of the total voting power of the listed entity; or
•  is a chief executive or director, by whatever name called, of any non-profit organization that receives 25% or more of its receipts or corpus from the listed entity, any of its promoters, directors or its holding, subsidiary or associate company or that holds 2% or more of the total voting power of the listed entity;
• is a material supplier, service provider or customer or a lessor or lessee of the listed entity;

• who is not less than 21 years of age.
• who is not a non-independent director of another company on the board of which any non-independent director of the listed entity is an independent director.

Number of independent directors

Regulation 17(1)(a) provides that a  board of directors shall have an optimum combination of executive and non-executive directors with at least one woman director and not less than 50% of the board of directors shall comprise of non-executive directors.  The Board of directors of the top 500 listed entities shall have at least one independent woman director by April 1, 2019 and the Board of directors of the top 1000 listed entities shall have at least one independent woman director by April 1, 2020.  The top 500 and 1000 entities shall be determined on the basis of market capitalization, as at the end of the immediate previous financial year.

Regulation 17(1)(b) provides that where the chairperson of the board of directors is a non-executive director, at least one-third of the board of directors shall comprise of independent directors and where the listed entity does not have a regular non-executive chairperson, at least half of the board of directors shall comprise of independent directors.   Where the regular non-executive chairperson is a promoter of the listed entity or is related to any promoter or person occupying management positions at the level of board of director or at one level below the board of directors, at least half of the board of directors of the listed entity shall consist of independent directors.

The explanation to this regulation defines the expression ‘related to any promoter’ as having the following meaning:

• if the promoter is a listed entity, its directors other than the independent directors, its employees or its nominees shall be deemed to be related to it;
• if the promoter is an unlisted entity, its directors, its employees or its nominees shall be deemed to be related to it.

Regulation 17(1)(d) provides that  where the listed company has outstanding SR equity shares, at least half of the board of directors shall comprise of independent directors.

Quorum of Board meeting

Regulation 17(2A) provides that the quorum for every meeting of the board of directors of the top 1000 listed entities with effect from April 1, 2019 and of the top 2000 listed entities with effect from April 1, 2020 shall be one-third of its total strength or 3 directors, whichever is higher, including at least one independent director.

Explanation I to this regulation clarified that that the participation of the directors by video conferencing or by other audio-visual means shall also be counted for the purposes of such quorum.

Explanation II to this regulation provides that the top 1000 and 2000 entities shall be determined on the basis of market capitalization, as at the end of the immediate previous financial year.

Code of conduct

Regulation 17(5) (a) provides that the board of directors shall lay down a code of conduct for all members of board of directors and senior management of the listed entity.  The code of conduct shall suitably incorporate the duties of independent directors as laid down in the Companies Act, 2013.

Stock option

Regulation 17(6)(d) provides that the independent directors shall not be entitled to any stock option.

Maximum number of directors

Regulation 17A (1) provides that the directors of listed entities shall comply with the following conditions with respect to the maximum number of directorships, including any alternate directorships that can be held by them at any point of time –

1. A person shall not be a director in more than 8 listed entities with effect from April 1, 2019 and in not more than 7 listed entities with effect from April 1, 2020. A person shall not serve as an independent director in more than 7 listed entities.
2. Notwithstanding the above, any person who is serving as a whole time director / managing director in any listed entity shall serve as an independent director in not more than 3 listed entities.  For the purpose of this sub-regulation, the count for the number of listed entities on which a person is a director / independent director shall be only those whose equity shares are listed on a stock exchange.

Audit Committee

Regulation 18(1) (b) provides that two-thirds of the members of audit committee shall be independent directors. In case of a listed entity having outstanding SR equity shares, two thirds of the nomination and remuneration committee shall comprise of independent directors.  The chairperson of the audit committee shall be an independent director and he shall be present at Annual general meeting to answer shareholder queries.

The quorum for audit committee meeting shall either be two members or one third of the members of the audit committee, whichever is greater, with at least two independent directors.

Nomination and Remuneration Committee

Regulation 19(1)(c) provides that  at least 50% of the directors shall be independent directors. In case of a listed entity having outstanding SR equity shares, two thirds of the nomination and remuneration committee shall comprise of independent directors.

Regulation 19(2) provides that the Chairperson of the nomination and remuneration committee shall be an independent director.  The chairperson of the listed entity, whether executive or non-executive, may be appointed as a member of the Nomination and Remuneration Committee and shall not chair such Committee.  The quorum for a meeting of the nomination and remuneration committee shall be either two members or one third of the members of the committee, whichever is greater, including at least one independent director in attendance.

Stakeholders Relationship Committee

Regulation 20 (2A) provides that at least 3 directors, with at least one being an independent director, shall be members of the Committee.  In case of a listed entity having outstanding SR equity shares, at least two thirds of the Stakeholders Relationship Committee shall comprise of independent directors.

Risk Management Committee

Regulation 21(2) provides that the majority of members of Risk Management Committee shall consist of members of the board of directors. in case of a listed entity having outstanding SR equity shares, at least two thirds of the Risk Management Committee shall comprise of independent directors.

Material subsidiary

Regulation 24(1) provides that at least one independent director on the board of directors of the listed entity shall be a director on the board of directors of an unlisted material subsidiary, whether incorporated in India or not.

The Explanation to this regulation provides that notwithstanding anything to the contrary contained in regulation 16, the term ‘material subsidiary’ shall mean a subsidiary, whose income or net worth exceeds 20% of the consolidated income or net worth respectively, of the listed entity and its subsidiaries in the immediately preceding accounting year.

Obligations with respect to independent directors

Regulation 25 provides that-

• No person shall be appointed or continue as an alternate director for an independent director of a listed entity with effect from October 1, 2018.
• The maximum tenure of independent directors shall be in accordance with the Companies Act, 2013 and rules made there under, in this regard, from time to time.
• The independent directors of the listed entity shall hold at least one meeting in a year, without the presence of non-independent directors and members of the management and all the independent directors shall strive to be present at such meeting.
• The independent directors in the meeting shall, inter alia-

• review the performance of non-independent directors and the board of directors as a whole;
•  review the performance of the chairperson of the listed entity, taking into account the views of executive directors and non-executive directors;
• assess the quality, quantity and timeliness of flow of information between the management of the listed entity and the board of directors that is necessary for the board of directors to effectively and reasonably perform their duties.

Liability

An independent director shall be held liable, only in respect of such acts of omission or commission by the listed entity which had occurred with his knowledge, attributable through processes of board of directors, and with his consent or connivance or where he had not acted diligently with respect to the provisions contained in these regulations.

Resignation

 An independent director who resigns or is removed from the board of directors of the listed entity shall be replaced by a new independent director by listed entity at the earliest but not later than the immediate next meeting of the board of directors or 3 months from the date of such vacancy, whichever is later.  Where the listed entity fulfils the requirement of independent directors in its board of directors without filling the vacancy created by such resignation or removal, the requirement of replacement by a new independent director shall not apply.

Programs

The listed entity shall familiarize the independent directors through various programmes about the listed entity, including the following-

•  nature of the industry in which the listed entity operates;
• business model of the listed entity;
• roles, rights, responsibilities of independent directors; and
• any other relevant information.

Declaration

• Every independent director shall, 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 whenever there is any change in the circumstances which may affect his status as an independent director, submit a declaration that he meets the criteria of independence and that he is not aware of any circumstance or situation, which exist or may be reasonably anticipated, that could impair or impact his ability to discharge his duties with an objective independent judgment and without any external influence.
• The board of directors of the listed entity shall take on record the declaration and confirmation submitted by the independent director under after undertaking due assessment of the veracity of the same.
•  With effect from October 1, 2018, the top 500 listed entities by market capitalization calculated as on March 31 of the preceding financial year, shall undertake Directors and Officers insurance (‘D and O insurance’) for all their independent directors of such quantum and for such risks as may be determined by its board of directors.

Information in web site

 Regulation 46(2) provides that the listed entity shall disseminate the following information under a separate section on its website-

• terms and conditions of appointment of independent directors;
• details of familiarization programmes imparted to independent directors including the following details:-

• number of programmes attended by independent directors (during the year and on a cumulative basis till date),
• number of hours spent by independent directors in such programmes (during the year and on cumulative basis till date), and
• other relevant details.

Disclosures to Stock exchanges

In case of resignation of an independent director of the listed entity, within 7 days from the date of resignation, the following disclosures shall be made to the stock exchanges by the listed entities:

• Detailed reasons for the resignation of independent directors as given by the said director shall be disclosed by the listed entities to the stock exchanges.
•  The independent director shall, along with the detailed reasons, also provide a confirmation that there are no other material reasons other than those provided.
• The confirmation as provided by the independent director above shall also be disclosed by the listed entities to the stock exchanges along with the detailed reasons.

New proposals by SEBI

SEBI has over the years, strengthened the institution of IDs through the recommendations of various committees. This institution has thus evolved considerably since 1999, when SEBI had first introduced the concept of Independent Directors based on the recommendations of the Committee on Corporate Governance under the Chairmanship of Shri Kumar Mangalam Birla.

SEBI considered that there is therefore a need to further strengthen the independence of IDs and enhance their effectiveness in protection of the interest of the minority shareholders, and other functions.  Accordingly, proposals including broadening the eligibility criteria for IDs, the process of appointment / re-appointment and removal of IDs, enhancing transparency in the nomination and resignation of IDs, strengthening the composition of Board Committees, are being prepared by SEBI.  The same is put up for public consultations.  Views are sought from the stakeholders by 01.04.2021. 

KMPs/employees to be independent director

Regulation 16 of SEBI LODR Regulations set out certain objective conditions for determination of independence of a director. These conditions include areas of relationship of self and of relatives (including material pecuniary relationship) with the listed entity, its promoter or directors, its holding, subsidiary or associate companies and shareholding in the listed entity.

 One of the eligibility conditions is that persons who have been employees/ KMPs or his/her relatives have been KMPs of the listed entity / its holding company / subsidiary / associate company in the past 3 years, cannot be appointed as independent directors. In order to establish the independence of the person it is important that KMPs or employees of companies forming part of the promoter group and relatives of such KMPs should also be excluded from acting as independent directors.

Currently, as per SEBI LODR Regulations, a cooling-off period has been prescribed for the person to be eligible for acting as an ID, inter-alia as follows:

• Cooling-off period of 3 years in case the person has been an employee / KMP or his / her relative has been a KMP of the listed entity / its holding company / subsidiary / associate company

• Cooling-off period of 2 years in case of a material pecuniary relationship between person or his / her relative and the listed entity / its holding company / subsidiary / associate company

• Since, this cooling off period is not uniform there is a need to harmonize the same.

It is now proposed that KMPs or employees of promoter group companies, cannot be appointed as independent directors in the company, unless there has been a cooling-off period of 3 years. The said restriction shall also extend to relatives of such KMPs for the same period. The prescribed cooling-off period for eligibility condition shall be harmonized to 3 years.

Appointment and re-appointment

SEBI now proposes that the appointment and re-appointment of independent directors shall be subject to ‘dual approval’, taken through a single voting process and meeting following two thresholds: –

1. Approval of shareholders
2. Approval by ‘majority of the minority’ (simple majority) shareholders. ‘Minority’ shareholders would mean shareholders, other than the promoter and promoter group.

The approval at point (i) above shall be through ordinary resolution in case of appointment and special resolution in case of re-appointment.

If either of the approval thresholds is not met, the person would have failed to get appointed / re-appointed as independent director. Further, in such case, the listed entity may either:

• propose a new candidate for appointment / re-appointment; or
• propose the same person as an independent director for a second vote of all shareholders (without a separate requirement of approval by ‘majority of the minority’), after a cooling-off period of 90 days but within a period of 120 days. Such approval for appointment/re-appointment shall be through special resolution and the notice to shareholders will include reasons for proposing the same person despite not getting approval of the shareholders in the first vote.

Removal

SEBI now proposes that the removal of independent directors shall be subject to ‘dual approval’, taken through a single voting process and meeting following two thresholds: –

1. approval of shareholders.
2. approval of ‘majority of the minority’ (simple majority) shareholders. ‘Minority’ shareholders would mean shareholders, other than the promoter and promoter group.

The approval at point (i) above, shall be through ordinary resolution in case of removal in the first term and special resolution in case of removal in the second term.

 If either of the approval thresholds is not met, the person would have failed to get removed as an independent director. In such case, the removal of such independent director may again be proposed through a second vote of all shareholders (without a separate requirement of approval by ‘majority of the minority’), after a cooling-off period of 90 days but within a period of 120 days. Such approval for removal shall be through special resolution and the notice to shareholders will include reasons for proposing the removal again despite not getting approval of the shareholders in the first vote.

Procedure to be followed by NRC

According to the new proposal by SEBI the following procedure shall be followed by Nomination and Remuneration Committee (NRC for short) for selection of candidates for the role of independent director -

1. Process for short listing  of the candidate

• For each appointment, the NRC shall evaluate the balance of skills, knowledge and experience on the board. In the light of this evaluation, a description shall be prepared of the role and capabilities required for a particular appointment.
• The person who is recommended to the Board for appointment as ID should have the capabilities identified in this description.
• For the purpose of identifying suitable candidates, the committee may:

• use services of an external agencies
• consider candidates from a wide range of backgrounds, having due regard to diversity and
• consider the time commitments of the appointees

2. Disclosures to be made to the shareholders

The notice for appointment of director shall include the following disclosures:

• Skills and capabilities required for the appointment of the independent director and how the proposed individual meets the requirement of the role.
• Channels used for searching appropriate candidates. In case, one of the channels is ‘recommendation from a person’, the category of such person (viz. promoters, institutional shareholders, directors (non-executive, executive, independent director etc) shall be disclosed.

The composition of NRC may be modified to include 2/3rd independent directors instead of majority of independent directors.

Prior approval of shareholders

Independent Directors shall be appointed on the board only with prior approval of the shareholders at a general meeting.

In case, a casual vacancy arises due to resignation / removal / death / failure to get re-appointed etc., the approval of shareholders should be taken within a time period of 3 months.

Resignation of Independent director

SEBI proposes that the entire resignation letter of an independent director shall be disclosed along with a list of his/her present directorships and membership in board committees.

If an independent director resigns from the board of a company stating reasons such as pre-occupation, other commitments or personal reasons, there will be a mandatory cooling-off period of 1 year before the independent director can join another board.

It is proposed that there should be a cooling-off period of 1 year before a director can transition from an independent director to a whole-time director.

Composition of Audit Committee

Considering the importance of the Audit Committee with regard to related party transactions and financial matters, it is proposed that audit committee shall comprise of 2/3rd independent directors and 1/3rd Non-Executive Directors (NEDs) who are not related to the promoter, including nominee directors, if any.

Remuneration

SEBI requests for the suggestions from the stakeholders as to whether there is a need for reviewing the remuneration structure for independent director. If so,

• Whether ESOPs with a long vesting period of 5 years, be permitted for independent directors, in place of profit linked commission and
• What should be the maximum limit of remuneration through ESOPs.

Conclusion

SEBI after receiving the comments and suggestions from the stakeholders received up to 01.04.2021 will decide the changes that are to be incorporated in the provisions of independent directors in LODR regulations.