Relatives’ interest affecting the independence criteria of IDs

By Munmi Phukon & Smriti Wadehra (corplaw@vinodkothari.com)

Introduction

The Ministry, on 7th May, 2018[1], has come out with certain changes in some of the Rules prescribed under the Companies Act, 2013. One of such changes has been made in the Companies (Appointment and Qualification of Directors) Rules, 2014. The amendment is being made under Rule 5 of the said Rules which pertains to qualification of independent directors (IDs) considering the enforcement of the changes in section 149(6)(d) brought by the Companies (Amendment) Act, 2017 w.e.f the aforesaid date.[2]

The changes!

As mentioned aforesaid, the current Rule (5) provides the qualifications of IDs, however, the same are subjective in nature. The amendment has segregated the said Rule into two parts by inserting a new sub- rule (2) and renumbering the existing one as sub- rule (1). The text of the amended Rule shall be appeared as follows:

“5. Qualifications of independent director.- 

(1) An independent director shall possess appropriate skills, experience and knowledge in one or more fields of finance, law, management, sales, marketing, administration, research, corporate governance, technical operations or other disciplines related to the company’s business.

(2) None of the relatives of an independent director, for the purposes of sub-clauses (ii) and (iii) of clause (d) of sub-section (6) of section 149:

(i) is indebted to the company, its holding, subsidiary or associate company or their promoters, or directors; or

(ii) has given a guarantee or provided any security in connection with the indebtedness of any third person to the Company, its holding, subsidiary or associate company or their promoters, or directors of such holding company;

for an amount of fifty lakhs rupees, at any time during the two immediately preceding financial years or during the current financial year.”

As mentioned above, sub- rule (2) has been inserted considering the amendments made in section 149(6)(d) which pertains to one of the criteria of independence of an ID and under sub- clause (ii) and (iii) thereof. The amended text of the said section is reproduced below:

“(6) An independent director in relation to a company, means a director other than a managing director or a whole-time director or a nominee director,—

(d) none of whose relatives—

(i) is holding any security of or interest in the company, its holding, subsidiary or associate company during the two immediately preceding financial years or during the current financial year:

Provided that the relative may hold security or interest in the company of face value not exceeding fifty lakh rupees or two per cent. of the paid-up capital of the company, its holding, subsidiary or associate company or such higher sum as may be prescribed;

(ii) is indebted to the company, its holding, subsidiary or associate company or their promoters, or directors, in excess of such amount as may be prescribed during the two immediately preceding financial years or during the current financial year;

(iii) has given a guarantee or provided any security in connection with the indebtedness of any third person to the company, its holding, subsidiary or associate company or their promoters, or directors of such holding company, for such amount as may be prescribed during the two immediately preceding financial years or during the current financial year; or

(iv) has any other pecuniary transaction or relationship with the company, or its subsidiary, or its holding or associate company amounting to two per cent. or more of its gross turnover or total income singly or in combination with the transactions referred to in sub-clause (i), (ii) or (iii);”

Analysis

Considering the text of the section prior to amendment- “none of whose relatives has or had pecuniary relationship or transaction with the company, its holding, subsidiary or associate company, or their promoters, or directors, amounting to two per cent. or more of its gross turnover or total income or fifty lakh rupees or such higher amount as may be prescribed, whichever is lower, during the two immediately preceding financial years or during the current financial year”, the same only provided a generic phrase ‘pecuniary relationship or transaction’ without actually specifying the nature of the relationship or the transaction. However, on a reading of the amended text of the section, it is understood that the law has now specified certain transactions apart from any other pecuniary transactions i.e. holding of securities, indebtedness, provision of guarantee/ security with respect to loan etc. As discussed above, the new rule is being prescribed under sub- clause (ii) and (iii) pertaining to indebtedness and provision of guarantee/ security respectively and the limits thereunder have been fixed to be 50 lakh rupees for each of them.

Conclusion

It is to be noted that the limits has to be observed for not only in respect of the company in which appointment of the ID is being proposed but also in respect of its holding, subsidiary or associate company or their promoters, or directors. Further, the companies shall have to observe the requirements of clause (iv) also, since the same provides an overall limit based on turnover and total income of the company and is broad enough to cover all the preceding clauses.


[1]http://www.mca.gov.in/Ministry/pdf/AppointmentDirectorsRules_07052018.pdf

[2] http://www.mca.gov.in/Ministry/pdf/CompaniesAmendmentNoti_07052018.pdf

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