Strict rule on independent directors in small, unlisted cos

May 07 2014, 11:46 IST
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SummaryNew Companies Act mandates the appointment of at least two independent directors on the board of companies with only three directors or less

In what may impact lakhs of small, unlisted companies, stringent conditions have been mandated on the appointment of independent directors in companies with only three directors or less on their board.

In the fine-print of rules notified to the Companies Act of 2013, that came into effect last month, rule 4 of the companies (appointment and qualification of directors) rules, mandates the appointment of at least two independent directors on the board of such companies whether listed or unlisted.

Experts said a large number of unlisted companies have only up to three directors and therefore the new rule makes it mandatory for such companies to be more or less on a par with those required to have 1/3rd of their directors as independent directors.

"Application of rule 4 necessitates companies to appoint two independent directors out of even three directors which will make 2/3rd of the board manned by independent directors. This is even stricter than the norm for listed companies which requires only 1/3rd of directors to be independent," said Lalit Kumar, partner in J Sagar Associates, a leading law firm.

Sources said a number of corporate law firms have sent representations to the government seeking relief on this particular aspect of the rules.

Agreeing that in a three-board member scenario, the said rule does appear to be more stringent, Sai Venkateshwaran of KPMG said the rules also ensure that there are at least two independent directors on a board of a company that is required to form an audit committee or a remuneration committee.

Venkateshwaran is the partner and head of accounting advisory services in KPMG India. "From a broader governance perspective, it is healthier if there is more than one independent director, so that he would be more effective when they can consult, debate and if necessary concur among themselves on matters relating to the company management, rather than be a sole crusader for all stakeholders," he said.

However, Sarvesh Mathur, director (compliance and regulatory services) of Amplus Consulting said the said rule is not stringent if one looks at not the ratio but the absolute minimum number of independent directors required from the point of view of corporate governance.

"If a listed public company has an audit committee of four directors, it will need to have at least three independent directors. Therefore a non-listed company, which does not attract the provisions of section 177, can do with two independent directors,"

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