Under the Indian Companies Act, 2013 (the Act), whole-time or executive directors and managing directors are generally appointed through two different shareholder resolutions, one under Section 152 of the Act approving their election as a director, and another under Sections 196, 197 and 198 of the Act approving their appointment as an executive director specifically, which sets out the terms and conditions of their appointment, including remuneration.
However, as noted by the Indian securities regulator, the Securities and Exchange Board of India (SEBI), while the board cannot appoint a director who fails to get elected under Section 152, there is no explicit prohibition for an executive director who is elected but not appointed to continue to serve on the board, and for the board to continue to appoint these directors as whole-time/managing directors after shareholder rejections. The continued service of directors whose appointments failed to gain shareholder approval arguably goes against the spirit of the law, and the will of shareholders.
Accordingly, SEBI is attempting to close this loophole by proposing a new regulation, summarised as follows:
- Whole-time/managing directors whose appointment is rejected by shareholders may not be appointed again unless the entity discloses detailed justification for the director’s appointment, and shareholder approval is sought within the earlier of three months or the next general meeting;
- If the whole-time/managing director’s appointment is subsequently rejected, this person may not continue serving, or be considered for appointment of, that particular listed entity for a period of two years.
As part of this process, SEBI is holding a consultation on the matter, to which Glass Lewis have prepared a response. In summary, we broadly view the regulation as a positive step for shareholders that addresses the aforementioned loophole. We are cognisant of the negative aspects of the proposed regulation, being potential disruption to operations and governance presented by a change in leadership, and the punitive nature of the two-year ban. However, with regard to these points, we weigh them up against the extreme scenario whereby shareholders reject the appointment of a whole-time/managing director twice in three months, representing a very clear shareholder protest against that director. In this light, we see SEBI’s proposed regulation as fair and proportionate.
While we broadly agree with SEBI’s new regulation, we do believe there is scope for more clarity in its treatment of failed directors. In particular, we note that while affected whole-time/managing directors may not serve as a director of the listed entity, there is no reference to that director’s rights to serve the company in a non-directorial role, which may also attract negative shareholder sentiment. As such, we have suggested a revision to the proposed regulation, urging SEBI to clarify this matter, lest it create a new loophole.
You can download our submission to the consultation below. For more information, contact regulatory@glasslewis.com.