Role of nominee directors in the board of joint stock companies


Introduction:

The shareholders of joint stock companies are too many and are drawn from through the length and breadth of the country, across different spectrum and different geographical locations spread across the globe, why? It may be athwart in different planets whence human beings start settling there that is nearly on the horizon, sooner than later. On the top of it, most of the shareholders are not that technically savvy to have a feel of the operations of the companies in different business lines and operations. As a result, they perforce have to have specialized and experienced elected representatives technically known as ‘Directors’ to take charge with the all the powers of managing the affairs of the company. Physically also, it is next to impossible for all the members to take part in the day today functions.

The Directors exercise their powers collectively as body known as “Board of Directors” of the companies. The board of Directors of a Joint Stock company is nearly akin to ‘a nucleus which is controlling center of all metabolic of activities of a cell’.

The Board of Directors is the highest policy and decision making body of a company. The Board derives its power from the shareholders, Memorandum of Association, Articles of Associations which are in turn approved by the shareholders of the respective companies and drawn in lines and terms of the connected Acts and in particular the Companies Act. The Board of Directors in order to have a connecting link between the chief executives of the companies line managers at different levels and other ground level working staff appoint a Managing Director with required number of whole Time Directors to execute policy directions framed by the Board in accordance with The Companies Act and other connected Acts besides following the various regulatory Authorities.

Shareholders are owners of the company but not the managers and vice- versa in the case of Board of Directors. Therefore, the Directors are expected to act within the authority and powers given by the shareholders, Memorandum of Association. Articles of Associations, the Companies Act 2013 and other connected Acts.

Nature/ type Of Directorship:

Nature of directorship could be Executive / Non-executive / Independent / Nominee Director.

Since the article is on Nominee Directors, let it center on the same.

Who is a Nominee Director?

In normal parlance, a Nominee Director is one who acts as a non-executive director on the Board of Directors of a company, on behalf of another person or firm such as bank, investor, or lender.

According to Explanation to section 149 of Companies Act, 2013, “nominee director” means a director nominated by any financial institution in pursuance of the provisions of any law for the time being in force, or of any agreement, or appointed by any Government or any other person to represent its interests.

Further, as per section 161(3) of the Companies Act, 2013, subject to the articles of a company, the Board may appoint any person as a director nominated by any institution in pursuance of the provisions of any law for the time being in force or of any agreement or by the Central Government or the State Government by virtue of its shareholding in a Government company .No such provision in the 1956 Act.

If so, the natural question that crops up is, whether nominee directors are independent?

As regards whether nominee director can be considered an Independent Director, the Parliamentary Standing Committee recommended as under: 11.28 “While giving justification for distinguishing the nominee Director and independent Director, representative of the Ministry of Corporate Affairs during evidence stated as under: — As far as independent Directors are concerned, we are not including nominee Directors as independent Directors whereas that is so in the SEBI Act. It is for the reason that nominee Directors would also mean PFI representatives and obviously they would be an interested party and therefore they cannot be counted as independent Directors. That is why, we have distinguished between nominee Directors and independent Directors in the Bill”

Nominee Director would count as Non-Executive Director. But, Nominee Director would not count as Independent Director (ID). In other words, the expression ‘independent director’ shall mean a non-executive director, other than a nominee director of the company.

Both Clause 49 and section 149(6) provide that ‘nominee director’ shall not be regarded as ID. However, Clause 49 does not define ‘nominee director’. Explanation below section 149(7) defines ‘nominee director’ to mean a director: nominated by any financial institution in pursuance of the provisions of any law for the time being in force, or of any agreement, or appointed by any Government or other person to represent its interests as spelt out earlier.

Generally, a nominee director is independent to the nominee company and as such does not hold any shares of such company. Therefore, technically speaking, a nominee director is clearly out of the ambit of the definition of interested director as per Companies Act. Normally, there is no shareholding requirement for the nominee director but, if the bylaws of a company impose a share qualification, he or she must obtain them within the specified period. Some jurisdictions allow a firm to be named as a nominee director of the Board

In addition, as per Rule 18(3) of the Companies (Share Capital and Debentures) Rules, 2014, it is one of the duties of the debenture trustee to nominate a director on the board of the issuer company in case such company defaults with respect to service of the debenture (interest or redemption) or with respect to creation of security.

Who is interested director and when?

As per Section 2 (49) of the Companies Act, 2013, “interested director” means a director who is in any way, whether by himself or through any of his relatives or firm, body corporate or other association of individuals in which he or any of his relatives is a partner, director or a member, interested in a contract or arrangement, or proposed contract or arrangement, entered into or to be entered into by or on behalf of a company.”

For the purpose of the expression “related to any promoter”: (i) 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; (ii) If the promoter is an unlisted entity, its directors, its employees or its nominees shall be deemed to be related to it. (For details, see Para 149.9)

The point of discussion is that, law largely forbids / restricts the participation of an interested entity in any decision making. In case of nominee directors, such director is deemed to be interested in any matter concerning the nominator. Question is whether such nominator will not participate in such matters when the whole purpose of nominating such director on the board is to secure the interest of the nominator.

As per Rule 9 of Companies (Meetings of Board and its Powers) Rules, 2014, the director shall disclose his concern or interest in any company or companies or bodies corporate, firms, or other association of individuals, including his shareholding, if any, by giving a notice in writing in Form MBP-1. The director shall not participate at the meeting of the Board in which such a contract or arrangement is discussed in which the director is interested. If not disclosed, exposed to penalty.

Also, every Company shall maintain one or more registers in Form MBP-4 as per Rule 16 of Companies (Meetings of Board and its Powers) Rules, 2014 furnishing particulars of company or companies or bodies corporate, firms, or other association of individuals in which the director is, directly or indirectly, interested.

As per section 184 of Companies Act, a director is considered to be interested in a matter if such matter is in respect of another company where the director in question (either singly or along with other fellow directors) holds more than 2% of the shareholding of such another company.

Usually, a nominee director is independent to the nominee company and as such does not hold any shares of such company. Therefore, technically speaking, a nominee director is clearly out of the ambit of the definition of interested director as per Companies Act.

Duty of director Vis a Vis the generic interest of a director:

Next, if one is to look at the intent of restricting an interested director to cast vote in the matters he is interested - this should be understood that the word ‘interest’ in the context of the term “interested directors” used at various places in Companies Act, 2013 (“Act, 2013) should be construed to mean conflict with the “duty of directors” and not the “generic interest of a director”

As a part of duty of the director, he is expected to adhere to the clauses of any agreement entered on behalf of the company. Accordingly, in case a director is nominated by any financial institution which has extended any facility to the company; the financial institution becomes eligible for any benefit on occurrence of default, the nominee directors shall surely participate in the board meeting, if any with respect to allowing such benefit.

The intent of nominating a director in the subject company is to supervise the functioning of the subject company so as to safeguard the interest of the nominator.

When the purpose of nominating a director is to safeguard the interest of the nominator - there cannot be a question with respect to such director being “interested” on matters where the nominator is involved. The whole purpose of inducting such nominee is to ensure that the nominator’s interest and rights are not prejudiced.

As long as the nominee directors are not interested in their personal/private capacity, they cannot be said to be interested in a matter and therefore are not supposed to abstain from voting.

Even otherwise, a regular director being a representative of shareholders is expected to act in view of the larger interest of its shareholders (whom the directors represent); likewise, the nominee director is also expected to act in view of the larger interest of its nominator (whom the nominee represent).

Conflict of interest in case of nominee director:

The question of any conflict of interest arises only where there is a conflict between the personal interest of the director, and that of the company in question.

The confines of such interest are anyways clearly laid in sec 184 (4) of the Act which talks about contracts between two bodies corporate - there, the director will be deemed interested only where he is holding shares of more than 2% in the respective body corporate.

On the general law of interests of a nominee director, if one were to argue that a nominee director will not vote on matters concerning the interest of the nominator, then the very purpose of nominating the nominee director on the board of the beneficiary company gets frustrated. Admittedly the sole purpose of a nominator putting a nominee on the board of the beneficiary is to protect, where needed, the interests of the nominator. If the nominee director is to turn Blind Eye to the interests of the nominator by abstaining from voting, then such a proposition will frustrate the very purpose of nominator

Conclusion:

Nature of directorship could be Executive / Non-executive / Independent / Nominee Director. Of the various type of directorship, there are clear cut definitions for all, except in the case of nominee directors, where appears uncertainty issuing out of vagueness. Here, there appears a little difference between SEBI and The Companies Act. Here, better to appreciate the difference between “Duty of directors” Vis a Vis the “generic interest of a director” as handled earlier to resolve the conflict of interest.

Any further view is welcome.

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P.R. Sethuraman 
on 21 January 2019
Published in Corporate Law
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