Critical analysis of amendments to Indian Companies Act 2013

Padma Aparajita Parija and Abhishek Kumar

The Corporations are considered as the backbone of the society. Both in the domestic and in the international capital markets the corporations’ invite capital from a larger investor base. As a result of the investment the investor vests his faith and trust in the ability of the corporation’s management. The investor expects the board and the management to act as trustees and ensure safety of the capital invested by him and also assurance of a profit in return. Hence the management is expected always to act in their best interests and adopt good corporate governance principles and practices while doing their business.

Corporate governance is a dynamic field of study and practice. Mark Tully’s famous words that there are “no full stops” specifically in his book “No full stops in India” quite appropriately fit in here by enhancing the ongoing inquiry in the present context. But there are time-outs when one may likely take a pause and take stock of the situation. A decade is as good a time window as anybody to carry out such an exercise; it is all the more appropriate when that decade happens to be the one heralding a new millennium.

Corporate governance has become a subject of immense importance in recent years. At the initial stages it was thought as a tool of management and taught as part of business equity by academic gurus of management. Lawyers, particularly the academic lawyers thought of it as an extended study of Company Law. But with the changing economy worldwide, due to the changes in Socio-Financial structure of unit economy and the change in the structure and composition of the corporate sector, the study of Corporate Governance has become a separate discipline of study. It is also important to note that the discipline is still in its nascent stage and drawing knowledge from various disciplines like sociology, economics and finance, culture, legal system, human psychology and behavioral patterns and so on and so forth.

However, over the last few years, regulatory bodies have taken numerous steps towards inculcating good corporate governance practices among Indian companies. Corporate Governance is a relatively new issue in the Indian industry. It has assumed greater importance in the context of what has happened to companies like Enron, Xerox, WorldCom, etc. The concept of corporate governance has been defined in several ways because it potentially covers the entire gamut of activities having direct and indirect influence on the financial health of corporate entities.

Noble laureate Milton Friedman defines it as, “Corporate Governance is the procedure of conducting the business according to the desires of the stakeholders being ruled by the basic principles of the society enacted in law and embodied in local customs and to generate as much capital possible.” The meaning of Corporate Governance suggests that it’s the best to be done for the betterment of the management, to encourage healthy relations between companies and their shareholders; to improve the position and standards of outside Directors; to encourage and enhance long-term relations; to ensure informational satisfaction of all stakeholders with regard to any material inquiry and to ensure that the modus operandi of the executive management, in best the interest of shareholders and stakeholders is properly monitored.

In India, company legislation has until recently been the main instrument for improving corporate governance. Subsequently incorporating the recommendations of the Bhabha Committee, this law, among other things, incorporated the abolition of the system of managing agencies, an institution that had served the country well during the early days of corporatization, but has fallen into disrepute through abuse malpractice in its application by its latter day exponents.

Governance initiatives through regulation have also made significant strides in the country. The Securities and Exchange Board of India (SEBI) has an ongoing program of reforming the primary and secondary capital markets. The Stock Exchanges in the country also mandate several salutary requirements through their Listing Agreements that every publicly traded company has to comply with. Among the professions, ‘The Institute of Chartered Accountants of India’ has emerged as a mature body regulating the profession of public auditors, and counts among its achievements the issue of a number of accounting and auditing standards.

The acceptance of the inalienable rights of shareholders as true owners of the corporation by management and the role of managers as trustees on behalf of the shareholders proves the practice of Corporate Governance in the true sense. It is about commitment to values, about ethical business conduct and about making a distinction between personal and corporate funds in the management of the company. It is truth that the adequacy and the quality of corporate governance shape the growth and the future of any capital market and ultimately the economy. The concept of corporate governance has been attracting public attention for quite some time in India.

With an intention to have stringent corporate governance principles and network for better management of the corporate sector, the Indian Companies Act 2013 was introduced after substituting the old Act of 1956. The ambit of this research work is pertaining to Directors Liability under Corporate Governance in India. Hence if we shift the focus of overall governance development to directors’ liability then it can be clearly stated that the law governing directors has been made more stringent through a series of amendments to the Company Law[1] in India and the directors’ position is becoming one with more responsibilities and accountability. The Board of Directors is the most important decision-making body within the company.

The concepts of corporate governance and chairmanship are interrelated and inextricably linked themes. This is because corporate governance is concerned with the system by which companies are directed and controlled, which is clearly the responsibility of their boards of directors. Equally clearly, it is the chairman who is responsible for the working of their boards. Thus, the way in which corporate governance principles are put into practice is primarily a matter for board chairman. The first Principle of Combined Code on Corporate Governance states: “Every company should be headed by an effective board, which is collectively responsible for the success of the company.”

One of the greatest evils of contrived Corporate Governance is its deleterious impact on society by thwarting competition and encouraging undeserved economic rent-seeking. Chandrasekhar Krishnamurthy’s paper on “The Two Sides of the Governance Coin: Competition and Regulation” explores the casual relationships between competition and governance, and concludes that:  Greater competition tends to show up in greater variations in standards of firm-level governance both within countries and among countries; Firms operating in a competitive environment need to display superior corporate governance quality in comparison to their peers in order to gain access to resources and to enhance their credibility; and it is this tendency to increase relative corporate governance scores that drives the observed divergence.

Corporate Governance practices at the firm level do not improve dramatically unless the competitive environment in the country is strengthened. Moreover, it is unrealistic to expect significant improvements in corporate governance unless there are socially acceptable standards of political governance and operational probity in the country as a whole; a silo approach to improving governance in the corporate sector is unlikely to achieve sustainable levels of success without matching (or perhaps even surpassing) levels of excellence in overall governance in the economy of which the corporate sector is but a subset.

So far as the fixing of responsibility is concerned, a mechanism that has come into focus due to corporate governance crisis is that of audit committees. Legislations now require the formation of audit committees and stipulate the minimum proportion of independent directors in the committees. These committees are now expected to ensure that some of the malpractices of the past are no longer adopted. While the persons reporting wrongdoing can now approach Ombudsman chairman of the audit committee, according to section 177(9) of the Companies Act 2013 in several organizations, without being indentified, ensuring that they do not face harassment and victimization from those involved in such actions and the protection is provided under section 177(10) of the 2013 Act, it still remains a ticklish issue.

Under the new law the listed companies are mandatorily required under the policy of whistle blowing and vigil mechanism, to constitute a vigil mechanism system which will strictly provide protection to directors and employees against victimization. While the role of institutional investors has also come into focus, given the size of their investments, their involvement has a significant impact on the quality of corporate governance only in some situations.

The scams and scandals in the corporate world which has disturbed the base of the economy has been a driving force for taking up the topic as an area of research. Work on directors' liability is a unique tool for comparing various legislative systems in our globalizing economies. Directors’ liability is a source of knowledge of corporate legal works all over the world and a favourite topic of controversy and interest among the legal community. It is therefore not surprising that it is a subject frequently taken up by at international conferences of the legal profession.

The main object of law is to regulate the human conduct and prescribe certain measures to be followed by the general public, government at the State and Centre. Therefore it is worthwhile to assess how far the law has been able to fulfill this in the present socio-economic set-up. The judiciary has also played a dominant role in shaping and moulding the activities of the people within and outside of the corporate world to abide the principles of corporate governance. Thus, taking into consideration all the factors it was necessary to ascertain the awareness of general public, and classes of people who are related directly or indirectly to the corporate field, law makers, executives, advisors, and professionals, particularly the persons involved in determining, implementing and enforcing the principles of corporate governance.

It now seems that we have reached a stage where we have to consider management as completely obsolete and discard it to give way to what is called governance. After the term governance entered the vocabulary of management, everybody stopped talking of management. The literature is completely oriented to that aspect as if there was no management ever. The distinction between the two—management and governance is obliterated to such an extent that suggestions that are made to improve management and make it more effective are being passed on as governance.

But it is necessary to distinguish governance as something different and separate from management. The reports made by all most all the committees on governance did not try to keep this distinction. Governance may be and is something more than management, but it cannot ignore management as its starting point. It is stated that management is about running the business and governance is about seeing that it is run properly. If it is true, then governance has no justification to override management because management is not worth its name if business is not managed properly.

In the name of governance, the well-settled organizational set up of the corporation is being invaded and disturbed. Attention must be drawn particularly to the idea of independent directors on the board. If the suggestions of the regulator in clause 49 of the listing agreement are followed fully, regarding independent directors, lead director, appointment and training of those directors, the board will cease to be an effective body for management. It leads to a situation where the executive will be able to manipulate the board and take it for granted.

The talk of governance is not complete without mentioning corporate social responsibility. The very motive in developing this concept appears to be to extend the responsibilities of body corporate beyond the limits of managerial requirements for its success as an economic organization.

Good corporate governance is essential for the integrity of Corporations, Financial Institutions & Markets. It ensures the health of our economies & their stability. India’s corporate sector is diverse in nature. On one hand it consists of Multinational Corporations, whereas on the other hand a large number of small and medium enterprises drive its growth and provide dynamism to the sector. This interesting mosaic of corporate India has contributed immensely to the growth of India’s economy.

Strong governance standards focusing on fairness, transparency, accountability & responsibility are vital not only for the healthy & vibrant corporate sector growth, as well as inclusive growth of the economy. However, a transparent, ethical and responsible corporate governance framework essentially emanates from the intrinsic will and passion for good governance ingrained in the business entity. Directors’ liability is an important part of good corporate governance.  In the light of the global practice, efforts are on to find out reasons and provide solution to corporate best practices.

No management worth its salt will ignore the effects of its operations on the society. But to say that they have more responsibilities beyond, means misapplication of its assets for unrelated objectives. It will lead to inefficiency in fulfilling the economic purposes. There have been amendments for spending the funds for social causes or bring reforms. But this in turn brings in more embezzlement of corporate funds and hence a “scam”. The beneficiaries in this will be the corporate executives and the political players as it will reduce their responsibility, we can say their liability actually.

In the name of governance there is too much to talk about corporate social responsibilities, but least talk of corporate rights. In general, rights and responsibilities are two sides of the same coin. When a responsibility is entrusted to somebody, it is implied that the rights necessary to discharge that responsibility are also given to that person. It is not only logical, but a practical necessity. Every individual has a responsibility to the society of which he is a part. Directors, being individuals, have also a similar responsibility. It is as individuals, not as directors. But there is no law prescribing that individuals shall discharge their responsibility to society. It is enough if they do not violate any law.

The positive effect of corporate governance on different stakeholders ultimately is a strengthened economy, and hence good corporate governance is a tool for socio-economic development. The last few years have seen some major scams and corporate collapses across the globe, be it Enron, Arthur Anderson or WorldCom. All these events have made stakeholders realize the importance and urgency of good corporate governance. People are concerned how companies are being managed; after all it's the public money/investment which is at stake in most of these companies. International organizations like IMF, WTO and World Bank are also insisting on transparency. Efforts are being made to have a common set of disclosure policies and norms. All this has moved corporate governance and transparency up the public agenda.

While the principles of agency do apply to a large extent in their relationship with the company, a director has to use only such skill as may reasonably be expected from a person of his knowledge and experience. He is not an insurer of the success of the company. The directors will, therefore, not be held to be liable if they act honestly for the benefit of the company, and within their powers and with such care as is reasonably expected of them, having regard to their knowledge and experience.

New standards for corporate governance have now emerged and companies will have to change their behavior and values in accordance with these standards. The new standards include Independent directors, external auditors, rotation of auditors, proper succession planning among others. If we talk about these corporate standards introduced by the new Companies Act 2013 there are many. No doubt it was actually a milestone, a new and bold step taken by the Central Government to change the age old Company law, though the result was partly effective such as on paper the law looked very effective but the practical implications and challenges faced by the abiders didn’t match the expectations of the makers. No Act is helpful if it is not implemented in its spirit; similarly there is also a need to have unified laws for corporate sectors to remove ambiguities due to the existence of multiple acts and statutes.

The Companies Act was enforced with an objective to reduce the administrative and regulatory burdens on the Companies and principles of Good Governance ensure that the companies move in a progressive manner, have a fair modern and effective framework of company law which is crucial to economic development. It is a modern legislation, which has a strong and modern regulatory mechanism which will have a substantial impact on the functioning of directors and officers within the effective Corporate Governance system.

The new act also requires the board of directors of the company to discharge their corporate social responsibilities by way of stator regulations as part of their duties. It was observed that there are some difficulties and large number of issues needs to be addressed in the Companies Act, 2013.

In order to remove these difficulties the Companies Amendment Act was passed. The act made significant changes and removed various practical difficulties in relation to insolvency, audit committee and Related Party Transactions in the line with the principle of “ease doing business”. These changes pose issues in relation to meeting of the Companies etc. thus the Government is very serious in considering the voice of the stakeholders and is ready to go for the change if the suggestions are logical.

Based on the experience of certain corporate executives whose opinion has been sort for in the collection of empirical data and who help and assist in the understanding and implementation of the Companies Act 2013, certain big Indian and multinational corporate houses,[2] have expressed their agonies and have shared the challenges, faced by them while implementation and practical application of the Act.

These experiences are believed to be helpful and vital for numerous companies in India. Though the Companies Act 2013 was enacted by the Government as a bold step for the betterment of the Corporate Sector and ultimately for the development of the economy but very limited guidance was available from the regulators for its easy understanding and implementation. The knowledge gap towards implementation was tried to be bridged through certain training programs organized by certain institutions and financial organizations, which aimed at providing deep insights and understanding into several aspects of implementation challenges under the Companies Act 2013.

Padma Aparajita Parija: has served as faculty of law in Hidayatullah National Law University, Raipur. Area of interest is Corporate Law, Banking and Insurance Law and Corporate Governance. She has also authored several articles on Corporate Law and Business Law.

Abhishek Kumar: Assistant Professor of Law, Central University of Allahabad, previously served as Assistant Professor, Human Rights Department, Central University of Jharkhand, and also served as Faculty of law in HNLU, Raipur.