Independent Directors | We need less confusion, more relaxation of norms

On August 19, the Ministry of Corporate Affairs gave some relief to aspiring independent directors . Certain further categories of people have been exempted from passing an online proficiency test on their knowledge of board governance, accounting, etc. People who have worked at very senior level with government or regulators, or have long standing as professionals such as chartered accountants, lawyers, etc., are now not required to pass this test. But the way the scheme has been drafted leaves much to be desired.

Independent directors are rightly seen as pillars of good corporate governance, as they have no axe to grind. They have to pass through multiple hoops of disqualifications and come out unscathed. Now, a company board must typically consist of one-third to half of independent directors. Where do companies find them? The reality is that, too often, the promoters/management find people who may be favourably disposed to them.

Nevertheless, the law provided an option to find them from a databank maintained by the Indian Institute of Corporate Affairs. People desiring to become independent directors could submit their profile to this databank.

How does one ensure that such candidates are well equipped to be part of a board of directors which has to operate in a complex maze of company and securities laws? For this, those who wish to become independent directors must familiarise themselves on subjects such as corporate/securities laws, accounting, etc., and pass a relatively rigorous online proficiency test, scoring at least 50 percent in aggregate. Though well intended, the scheme has been poorly framed, and repeatedly amended leaving companies and directors in a quandary.

Initially, maintaining a databank of such candidates and selecting therefrom was kept as optional. But then, in a subordinate law, a requirement was made that each person seeking appointment as an independent director should mandatorily get their details in the databank. So an optional convenience became a mandatory irritant.

An aspiring independent director is required to pay a fee (Rs 5,000 to Rs 25,000) for inclusion of their name. While this charge might help in maintaining the databank, it hardly benefits independent directors because more often than not companies appoint independent directors based on references, or on their reputation.

Then comes the requirement to pass the online proficiency test in subjects that are relevant to functioning as part of the board. The topics are well framed and relevant. Directors come from diverse backgrounds and knowledge of board procedures and relevant laws can help them assimilate into a corporate board easily. That said, the problems are aplenty.

The rules say that a candidate should pass the test within two years from inclusion of their name in the databank. Thus, the connection is made not to when they become an independent director, but when they include their name in the databank. A person thus can become a director and function for two years without passing the test. This defeats the purpose of the test. The requirement ought to be that they pass the test before being appointed an independent director.

Curiously, only independent directors are required to pass this test, other directors can function on the board without this certification.

What happens if an independent director does not pass this test within two years? Should they step down from the board? Can the independent director continue, albeit by paying a penalty? Is it mandatory that the company remove an independent director who has not passed this test? There are no clear answers, and this lack of clarity confounds those who comply with the law and is used by those who want to escape compliance.

Several categories of persons are exempted from taking such tests, and rightly so. Those with an experience for at least three years as directors or key managerial personnel of listed companies and other large entities, those who have acted at senior levels in government departments, those who have worked at senior levels in regulators such as Sebi, RBI, etc., and, advocates and chartered accountants/company secretaries/cost accountants with 10 years of practice are exempted.

Another area of concern is that directors are not mandated to be up to date. Directors are not required to update themselves or take a refresher test from time to time. For example, Sebi regulations require investment advisers to obtain fresh certifications from time to time. Similarly, at a time when laws are constantly being amended, directors also must be required to keep their eye on the ball.

The remuneration for independent directors is capped at a low figure that hardly does justice to their seniority, for the time they are expected to spend, and on the multi-fold obligations placed on them. To add to the complexity, Sebi and the Ministry of Corporate Affairs (MCA) both have partially overlapping but effectively duplicate provisions relating to independent directors and related subjects.

The law on this subject needs to be rewritten from scratch. Currently, it appears that the rules surrounding independent directors are a product of isolated silos in bureaucracy, and is a nightmare to grasp it. Ideally, Sebi should be given exclusive jurisdiction on this subject, since it has the expertise, extensive experience, and it irons out creases of ambiguities and loopholes faster and more responsively than the MCA.

Jayant Thakur is a chartered accountant.

Views are personal and do not represent the stand of this publication.