Directors’ Fiduciary Duties under the Companies Act, 2013

The article discusses all the relevant provisions on duties of directors as laid down under the Companies Act, 2013. This article also discusses the relevant case laws on the same.
Estimated Reading Time: 7 minutes

Introduction

Every company within one year from the date of incorporation must appoint individuals as Directors. They shall have a ‘Board of Directors’, with not less than three directors and two directors in public companies and private companies, respectively.[1] Maximum of fifteen directors can only be appointed.[2] Since Director plays the vital role in a company, it is important to have a set of rules defining their duties and responsibilities as well. However, the erstwhile Companies Act of 1956 did not have any such provision. Such duties were set by the Courts through different case laws. J.J Irani Committee recommended for a codified set of duties for directors.[3] These duties were first introduced in the Companies Bill of 2011. Later, this was incorporated in the 2013 Companies Act (herein after referred to as the Act). Under Sec. 166, the general duties of directors are mentioned, however no particular mention of fiduciary duties.

Who Is a Director?

The act defines a director as “a director appointed to the Board of a company”.[4] A director is regarded as a Key Managerial Person (KMP). There are various types of directors. But as per Sec. 149 (3) there shall be at least one director for every company, who has stayed in India, for not less than 182 days in the preceding year. Such a director is called Residential director. Companies act also mandates to have at least one third of the directors out of the total directors to be ‘Independent’ directors.[5] Such directors shall be a person of integrity possessing relevant experience and expertise; He shall not be a promoter of the company nor its subsidiary. Sec. 151 mandates every listed company to have 1 director who shall be elected by small shareholders whose shares are not more than twenty thousand rupees. Sec. 196 says about appointment of managing director, whole-time director, or manager, who shall hold the office for not more than five years. He shall not be re-appointed before one year. A managing director is entrusted with the substantial powers of management affairs of the company.

Appointment of Directors

When the Article of Association is silent about the appointment of directors, then individual subscribers to the Memorandum of Association (MOA) shall be the first directors till further appointment. Every such person proposed to be a director in the general meeting has to make an application to the Central Government for allotment of Director Identification Number (DIN) as under Sec. 153. The Central Government has to furnish such DIN within one month from receipt of such an application.[6] Further, the director after obtaining DIN has to intimate the same to the company within a period of one month.

Fiduciary Duty

Any relation involving trust is a fiduciary relationship. Just like the company having a fiduciary duty to its shareholders, the directors have a fiduciary duty towards the shareholders in exceptional cases. It means that a director has to act bona fide in the best interest of the company. By nature, it can be understood that these duties are derived from the law of trust and agency, where former imposes fiduciary duties on the directors and the latter mandates duties of skill, care, and diligence. 

This double-fold relation of director with the company was held in the famous English case of Percival V Wright.[7] The first Indian case where the position was cleared was Globe Motors Ltd. V Mehta Teja Singh.[8]. In this case, the company and its distributors-respondent entered into two agreements for sales and marketing of the company’s product which is steel. The board of directors ratified this agreement, which benefited 6 of the total 13 directors. The issue had arisen later during the process of winding up, the official liquidator of the company contended for rescinding these agreements in the interest of the company.

The court held that the terms of the agreement were detrimental in the interest of the company and held it to be void. The ratio of the case was that the directors’ duty is to act for the benefit of the company and have to disregard their private interest. The case set a strong precedent to ensure ‘fiduciary duties’ of directors and is enhanced under S 184 of the Act.[9]

Duties under Section 166, Companies Act, 2013

General duties of the director are enumerated under Section 166. Subsection 1 says that a director shall act in accordance with the Articles of Association of the company. Subsection 2 says that the act of director shall be in good faith as to promote the company’s objects and in its best interest. He shall act also for the benefit of its members as a whole, its employees, the shareholders, the community and also for the protection of environment. The director shall exercise his duties with reasonable care, skill, and diligence.

He is prohibited from getting involved in any situation which he may have a direct or indirect interest that conflicts, or possibly may conflict, with the interest of the company. He is also prohibited to make any undue profit, otherwise for which he shall be held liable to pay an amount equal to such gain, to the company. Subsection 6 says that the director should not assign his office, if so, shall be made void. S 166 (7) imposes a fine of not less than one lakh rupees which may extend to five lakh rupees, when the provisions of the section is violated.

Responsibilities of the board of directors under revised SEBI’s Rules

SEBI’s (Revised and New Clause 49 of the Listing Obligations and Disclosure Requirements) also enumerates norms of corporate governance which supplements the Act. Under Section 4 (f)[10], responsibilities of the board of directors are enumerated. Clause 1 requires the board and KMP to disclose information on any transaction with third parties, of their interest. There shall be a balance of operational transparency to stakeholders as well as maintaining confidentiality of information. Section 4 (f) (ii) enumerates nine key functions of the board of directors. It includes reviewing corporate strategy and monitoring its effectiveness; monitoring the company’s governance practices and making any changes if needed, selecting, or replacing key managerial persons of the company ensuring transparency in process of nomination to the board of directors, monitoring any conflict in the interest of management, Overseeing the process of disclosure and communications. (9) Monitoring and reviewing board of director’s evaluation framework.[11] Clause iii says about other responsibilities of the board. It includes providing strategic guidance to the listed entity, setting a corporate culture, fair treatment of all shareholders, maintaining high ethical standards, effectively committing to their responsibilities, facilitating independent directors to perform their role effectively as a member of the board of directors and also a member of a committee of board of directors[12] etc.

Conclusion

With India opening up to more liberalisation and privatisation, it is momentous to implement stricter and definite roles to the directors. The new Act of 2013 enables to keep a watch on the directors thereby harmonising the field. It is a sincere step for strengthening corporate governance. As enumerated in the Globe Motors case, when the director places his interest over that of the company’s, he is said to be violating his fiduciary duties under the Act. Such act is also penalised under the Act, thus making it more effective.

The Company Law Committee (CLC) was setup in September 2019, to examine issues related to Companies Act, 2013 and Limited Liability Partnership Act, 2008. Subsequently, in the proposed Companies (Amendment) Bill, 2020, penalty in relation to the directors have been reduced: In non-compliance with provision on maximum number of directorships; If a company contravenes any of the provisions of Chapter XI (Appointment and qualifications of Directors) for which no specific punishment has been given under CA, 2013.


[1] S 149 (1) (a), The Companies Act, 2013, (NO. 18 OF 2013).

[2] S 149 (1) (b), The Companies Act, 2013, (NO. 18 OF 2013).

[3] Report of the Expert Committee on Company Law, May 2005 (‘Irani Committee’): (2006) 1 Comp LJ 25 (Journal).

[4] S 2 (34), The Companies Act, 2013, (NO. 18 OF 2013).

[5] S 149 (6), The Companies Act, 2013, (NO. 18 OF 2013).

[6] S 154, The Companies Act, 2013, (NO. 18 OF 2013).

[7] [1902 (2) Ch. 421].

[8] (1984) 55 Com Cases 445 (Del).

[9] Every director shall at the first meeting of the Board in which he participates as a director and thereafter at the first meeting of the Board in every financial year or whenever there is any change in the disclosures already made, then at the first Board meeting held after such change, disclose his concern or interest in any company or companies or bodies corporate, firms, or other association of individuals which shall include the shareholding, in such manner as may be prescribed.

[10] Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations 2015, Available at https://www.sebi.gov.in/legal/regulations/sep-2015/securities-and-exchange-board-of-india-listing-obligations-and-disclosure-requirements-regulations-2015-last-amended-on-october-08-2020-_37269.html.

[11] S 4(f)(ii), Securities and Exchange Board of India (LODR) Regulations 2015, No. SEBI/LAD-NRO/GN/2015-16/013.

[12] S 4(f)(iii), Securities and Exchange Board of India (LODR) Regulations 2015, No. SEBI/LAD-NRO/GN/2015-16/013.

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