ARE INDEPENDENT DIRECTORS REALLY INDEPENDENT?

[Chakradhari Shubham and Abhishekh Mishra are 4th year B.A. LL.B. (Hons.) students at
National University of Study and Research in Law, Ranchi (Jharkhand)].

As the preceding decade was touching its tail, the Indian corporate sector witnessed a
perturbing upswing in the number of independent directors resigning from their duties on
account of implausible reasons. According to a report1, in the year 2019, as many as 1,393
independent directors have vacated their post for one reason or another. This surge in
resignations by independent directors is alarming because it is unprecedented. Post India’s
very own “Enron”; the infamous Satyam computers scam2 and the resulting sacking of the
related non-executive directors, the Indian corporate governance regime went through a rocky
phase. The scam resulted in a shakedown of investors' trust in the efficiency and effectiveness
of the internal check and balance mechanism provided through the appointment of
Independent directors to the board. The sacking of Satyam’s independent directors post the
scam raised an alarm and within two months from the confession of Mr. Ramalinga Raju, the
independent directors of more than 100 listed companies resigned from the board. The recent
IL&FS crisis3 and the involvement of the company’s Independent directors in the cover-up of
the complaint made by the whistle-blowers has juddered the claims of the independence of
independent directors. It is the rising instances of corporate misfeasance that have unnerved
independent directors leading to their mass resignation from the board. In light of the
growing instances of corporate scams; there is an urgent need to reassess the role, duties, and
liabilities of independent directors. The ever-growing instances of corporate frauds have
questioned the efficacy of the much endorsed mechanism of check & balance and the role of
independent directors in them, thus, giving rise to the question that “Are independent
directors really independent?”

Nature of office: Independent or In(Dependent)?

The various committee reports4 on corporate governance have recognised that the promoter
led companies constitute a sizable portion of the Indian market. The problem with these kinds
of companies is that in certain cases the promoters’ interest may take precedence over the
shareholders interest. These committees have therefore consistently focused on, amongst
other things; the independence of directors. Independent directors are necessary to maintain
transparency, fairness, accountability, verifiability and enforceability in a company.
The Companies Act, 2013 defines ‘independent director’ as a director who is not a managing
director or a whole-time director or a nominee director. The independent directors are not
concerned with the day to day affairs and management of the company and, they bring an
external perspective in the affairs and management of the company. The statute5 expects the
independent directors to attend at least one meeting in a year without the presence of non-
independent directors to review the performance of the management members and the non-
independent directors. After the Satyam fiasco, the legislature has made tremendous efforts to
strengthen the governance norms to prevent future corporate frauds and scams. The
provisions of the Companies Act, 2013 and the LODR Regulation, 20156 governing
independent directors are reflective of such efforts of the government. In furtherance of the
objects of good corporate governance, SEBI revised the LODR Regulation, 2015 by notifying
an amendment 7 to it in the year 2018. The amendment took a step towards independence of
the Independent directors along with ensuring female representation in the board. The
amended regulations require that the Independent director shall neither be a member of the
promoter group of listed entity8, nor should he be a non-independent director of another
Company on board of which any non-independent director of listed entity is an independent
director.9 Post-amendment it is also mandatory for the company to have a minimum of 1
woman Independent director on the Board of Directors.10 Moreover, implementing the
suggestions of the Uday Kotak Committee on corporate governance, the amendment revised
the criteria for evaluation of independent directors11 and also, barred the appointment of
alternate director for an independent director of a listed company. 12 Given the pivotal nature
of the work performed by the independent directors, their role is very crucial in the context of
the existing Indian corporate structure where companies are primarily controlled by the
promoter groups, who are usually less concerned about the corporate governance issues and
they oversee managerial behaviour.
The potential liability arising out of the duties and functions of the independent directors
appears to be disproportionate. The Companies Act, 2013 has tried to mitigate such liability
by providing safe harbour provisions in Section 149(12) of the Act. The Company Act, 2013
states that the independent director shall be liable only in respect of omission or commission
by a company that had occurred with his knowledge, attributable through Board processes,
and with his consent or connivance or where he had not acted diligently. Prima facie on the
analysis of the Companies Act it seems that the act has provided all the safeguards to the
independent directors against any liability in which the independent director has no direct
involvement. It also seems that the independent director has an active, autonomous and
important role in the vital decision making process of the company. However, the reality
signs in a different tone. All the safeguards and autonomy provided to the directors is limited
to the books and in theory, the ground reality is totally different. There have been numerous
instances where the independent director has been held liable for acts in which he had no
direct involvement. In Chitra Sharma and Ors v. Union of India and Ors13, the Apex Court,
while issuing orders in relation to protecting the interests of home buyers in projects floated
by Jaypree Infratech Limited, did not distinguish between the executive directors and non-
executive directors of JIL in placing restrictions on them as regards leaving the country
without the permission of the court, and on the alienation of the properties and assets of the
directors and their families. Also, in Somendra Khosla v. State14, the Delhi High Court
ignoring the fact that the director in question is an independent director; accepted the
contentions of the complainant and refused to quash the complaint against the independent
director on the ground that, he was responsible for the day to day functioning of the business.
Moreover, there are numerous statutes which do not differentiate between independent
directors and other types of directors while fixing liabilities upon them. While fixing liability
for the offences committed by a company, the Negotiable Instruments Act, 1881 makes every
person in charge of, and responsible to the company for the conduct of its business at the time
of the commission of the offence, liable.15 Also, various other statutes like the Securities
Contracts (Regulation) Act, 195616, Employees’ Provident Funds and Miscellaneous
Provisions Act, 195217, Income-tax Act, 196118, Contract Labour (Regulation and Abolition)
Act, 197019; and, the Environment (Protection) Act, 198620 have erroneously ignored the
distinction between role of the different types of directors while fixing liabilities upon them.

In National Small Industries v. Harmeet Singh Paintal,21 the Supreme Court held that, for
the purpose of making a director liable for any offence committed by the company, there
must be specific averments made against the director which shows the manner in which the
director was responsible for the conduct of the business of the company. Moreover, if a
person, who is responsible for the conduct of the company, was not in charge of the conduct
of the business of the company, then he can be made liable only if the offence was committed
with his consent or connivance or as a result of negligence on the part of the director.

An independent director is one of the central pillars of the corporate governance which holds
the mantle of good corporate governance and allows the investors to have faith in the
business they intend to invest in. The role played by an independent director is of essence in
deciding the fate of a company. It is so because these directors are the ones in whom the
investors put in their faith for overseeing the acts of the board. It is the primary purpose of an
independent director to oversee, guide, supervise and mentor the board of directors. Also,
such directors are entrusted with the responsibility to be objective and evaluate the
management’s performance.

While the statute and regulation preach the independence of independent directors in
corporations, there are umpteen instances that question the presumption of independence. In
fact the Indian corporate governance structure suffers from numerous inherent shortcomings
that contribute towards the expropriation of independence; the widest being the provided
procedure for appointment of the Independent directors. In the Indian scenario, the
appointment of an independent director is done by the board of directors; also, the various
remunerations paid to the independent directors are recommended and approved by the board
of directors along with the shareholders in a general meeting. In addition to the appointment,
the re-appointment and removal of an independent director heavily depends on the board and
it is at board’s “mercy” that an independent director is re-appointed or allowed to continue in
his position. An independent director is engaged in a part-time employment by the company
on account of his expertise and experience in the field. But, in the contemporary business
world, the boardroom environment has undergone a significant change; a change towards
discussion of highly technical and complex matters in the boardroom. On account of these
factors, an independent director is heavily dependent on the board of directors for the flow of
information relating to the affairs of the company along with his employment and
remunerations, thus being purloined of his independence.

Recommendations

The experts on the subject are striving hard to make the Indian market a model of corporate
good governance for the globe but, in light of the recent corporate frauds in the Indian
market; the role of independent directors is once again under strict public scrutiny. In
addition to the public scrutiny, there exists a lack of confidence among the independent
directors with regards to their independence and this in turn has led to mass resignation by
independent directors from their post. Thus, it is the need of the hour that the legislature
ensures that the independence promised to the independent directors under the statute is
delivered to them in an effective manner. A suggestive method to do that would be to ensure
a majority of independent directors in the boardroom. Also, there is a need to amend the
procedure prescribed for appointment and removal of independent directors; the absence of
control of the board over the office of independent directors will be a significant leap towards
assuring the independence of the independent directors. Lastly, the provisions of Negotiable
Instruments Act, 1881, Securities Contracts (Regulation) Act, 1956, Employees’ Provident
Funds and Miscellaneous Provisions Act, 1952, Income-tax Act, 1961, Contract Labour
(Regulation and Abolition) Act, 1970, Environment (Protection) Act, 1986, and of the any
other relevant legislation imposing liability on the independent directors should be amended
in order to bring them in consonance with the principle of qualified liability depending upon
certain mitigating factors, as is provided under Companies Act, 2013. The limiting of liability
and assurance of their independence will bring back the lost confidence of the independent
directors and as a result will ensure that the interest of all the stakeholders of the company is
protected.

Keywords- Corporate Governance, Companies Act, Company Law, Independent Directors

1
Rica Bhattcharyya, Resignations by independent directors double in 2019 as risks grow, THE ECONOMIC
TIMES, (Dec. 26, 2019, 06:54 AM), https://economictimes.indiatimes.com/news/company/corporate-
trends/resignations-by-independent-directors-double-in-2019-as-risks-grow/articleshow/72972968.cms.
2
FE Online, What was Satyam scam which toppled India’s fourth largest IT company from the top slots,
FINANCIAL E XPRESS, (Jan. 11, 2018 11:53 AM), https://www.financialexpress.com/industry/what-was-satyam-
scam-which-toppled-indias-fourth-largest-it-company-from-the-top-
slots/1010389/#:~:text=The%20Satyam%20scandal%20was%20a,bank%20balances%20of%20the%20company
3
ET Online, IL&FS: The crisis that has India in panic mode, THE ECONOMIC TIMES, (Oct. 03, 2018, 11:37 AM),
https://economictimes.indiatimes.com/industry/banking/finance/banking/everything-about-the-ilfs-crisis-that-
has-india-in-panic-mode/articleshow/66026024.cms?from=mdr.
4
Report of Uday Kotak Committee on Corporate Governance submitted before Securities and Exchange Board
of India on October 5, 2017.
5
The Companies Act, 2013. Schedule IV.
6
Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015.
7
Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements)(Amendment)
Regulations, 2018
8
Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015,
Reg. 16(1)(b)(ii).
9
Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations, 2015,
Reg. 16(1)(b)(viii).
10
Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations,
2015, Reg. 17(1)(a).
11
Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations,
2015, Reg. 17(10).
12
Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations,
2015, Reg. 25(1).
13
(2018) 18 SCC 575.
14
2019 SCC OnLine Del 6585.
15
The Negotiable Instruments Act, 1881, S. 141.
16
The Securities Contracts (Regulation) Act, 1956, S.24.
17
The Employees’ Provident Funds and Miscellaneous Provisions Act, 1952, S.14A.
18
The Income-tax Act, 1961, S.278B.
19
The Contract Labour (Regulation and Abolition) Act, 1970, S.25.
20
The Environment (Protection) Act, 1986, S.16.
21
National Small Industries v. Harmeet Singh Paintal, (2010) 3 S.C.C. 330.