PwC India analyses key provisions of the new Companies Bill, which aims to help India Inc operate in the environment of global best practices
Regulations governing Indian companies were introduced in 1850, during the British Raj. They were overhauled in 1913 and 1956. Upon the recommendations of various committees, including Joshi Committee and Irani Committee, the Companies Act 1956 was re-examined periodically.
The 54-year-old corporate law in India is due for revision. We have the Companies Bill 2009, a framework to help India Inc operate in the environment of best international practices. In light of the global changes, the expectations from the Bill are the setting of certain standards, deregulation of powers and simplification. In this backdrop is the analysis of certain important provisions of corporate governance and management which continue to be at the centre stage of dynamic and ever-evolving business practices.
Remuneration policy
The Bill seeks to deregulate the umbrella limit and the requirement to obtain approval from the central government for managerial remuneration. The existing, Schedule XIII regime, is sought to be discontinued.
The Bill contains provisions mandating certain corporate entities to have a remuneration committee, which would determine the remuneration policy for managerial personnel and other directors/employees. The committee would also be required to give an annual report on remuneration which would form part of the Directors’ Report to shareholders.
The proposed provisions are based on the Irani Committee report, which had recommended that the decision on remuneration of directors should not be based on a government approval-based system and ceilings, but should be left to the company. Even in the event of inadequacy of profits, the company should be allowed to pay remuneration, as recommended by the remuneration committee (wherever applicable) and approved by shareholders. The Irani Committee also suggested that there should be a clear relationship between responsibility and performance, vis-à-vis remuneration, and that the policy underlying the directors’ remuneration should be articulated, disclosed and understood by investors/stakeholders.
The recommendations of the Irani Committee and provisions of the Bill are in line with the norms prevailing in developed economies such as the UK. This would make the corporate management remuneration more transparent. However, much substance is left to the discretion of the administration and companies would need to wait until the rules/guidelines are prescribed for computation of net profits, remuneration of managerial personnel in the event of inadequacy of profits and the like.
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CSR movement: 2 per cent levy
Corporate Social Responsibility (CSR) has become one of the important corporate agenda items. The existing Companies Act has no specific provisions towards CSR, nor is there any provision in the Bill. However, the Parliamentary Standing Committee on Finance – 2010 (PSCF) has strongly suggested to put a mandatory CSR spend on companies meeting specified financial criteria. Such companies are required to spend two per cent of their average net profit during the three preceding financial years on CSR activities. Although developed economies have provisions on CSR, there are hardly any jurisdictions mandating a CSR levy. It is a self-initiative by companies.
As per Capitaline data, over Rs 4,300 crore during this fiscal would have to be set aside by corporate entities for CSR, if the provisions regarding CSR levy are put to effect. Though the intention of CSR levy is noble, much would depend on the usage of CSR contributions. The legislature may consider specifying some broad parameters of utilisation of the CSR contribution so that corporate entities have a guideline in that regard.
Auditors/audit firms rotation
Rotation of auditors/audit partners has always been a matter of debate. Time and again, the provisions for auditor rotation were proposed to be introduced, notably under Companies (amendment) Bill, 1972, the Companies Bill, 1997, and by various committees. However, the proposals did not find favour of both the auditee and the auditor.
Even globally, the concept of rotation of auditors did not find favour in many jurisdictions and what is prevalent in most developed jurisdictions is the rotation of the audit team/partner. However, the PSCF has suggested the ministry incorporate provisions for mandatory rotation of the audit firm every five years, with a cooling-off period of three years before re-appointment. The proposed provisions seek to rotate the audit partner every three years, with a cooling-off period of three years before re-appointment.
The rotation of the auditor firm/partner may be challenging because in this era of specialisation, it would be too much for an auditor to be a master in every sector/industry.
Independent directors’ term
Currently, there are no provisions on the ceiling of directors’ tenure. The ministry suggested to the PSCF that the central government be empowered to prescribe a code on corporate governance to deal with the appointment, time period etc. of independent directors. It may be noted in this context that the MCA Voluntary Guidelines on Corporate Governance, 2009, recommend that the independent directors should have a maximum tenure of six years. A fixed tenure for an independent director has always been debated with views both for and against it. One view is that a long-term relationship between an independent director and the company management is prone to prejudice independence. The view against fixed tenure is that it constrains companies in retaining and attracting expertise and experience.
Selection panel for directors
In order to place superior talent on the board of the company, the company needs to have a sound and independent recruitment system for appointment and selection of independent directors. Many advanced economies require companies to have a nomination committee for selecting directors. To be in line with international practices, the PSCF has recommended modification to the Bill by bringing the provisions of nomination committee on the statute book.
The provisions for fixed term for independent directors, committee for selection of independent directors, etc are laudable, but the legislature has to consider the practical difficulties in the availability of independent directors, especially in today’s scenario where directors carry a huge legal risk.
Director’s evaluation
Internationally, performance evaluation of directors is not a new concept and it forms part of the corporate governance norms, for instance, governance norms of NYSE listing agreement, UK Combined Code of Corporate Governance, etc.
Currently, there are no provisions under the Indian corporate law or under the Bill for performance evaluation of directors.
Performance evaluation of a director involves its own sensitivities and constraints. Many view it as more difficult in the Indian scenario. However difficult it may be, the concept of performance evaluation of directors should be in-built in the governance framework. Guiding principles and provisions should be brought on the statute book and manner of performing evaluation may be left to the corporate.
Disclosures of related party transactions
The existing Companies Act requires the approval of the central government for certain related party transactions. The Bill seeks to dispense with the need to obtain that approval, which is a welcome move. However, the Bill seeks to increase the scope of transactions to be regarded as related party transactions. The Bill also imposes enhanced disclosures for related party transactions. This is perhaps with a view to bring more transparency and greater accountability.
Conclusion
The new Companies Act, including the rules to be framed by the central government should be a facilitating law rather than a restrictive one, and should not put any undue speed-breakers to corporate functioning. In prescribing various limits and procedural requirement, aspects like pragmatism and harmonisation with other laws should be given due consideration.
PwC India team: Rekha Bagry, executive director; Mahavir Lunawat, senior manager; and Anuj Vyas, associate