Recently, the Securities and Exchange Board of India (SEBI) introduced changes with the aim of making the institution of independent director (IDs) more effective. Some pointed out that staying silent regarding the role of nominee director can be harmful towards the goal of improving corporate governance.

Nominee directors (NDs) represent a significant group of shareholders and as per data from Primeinfobase, institutional investors account for 33.9% of the shareholding in NSE-listed companies, by value of shares, as on March 31, 2021.

We agree with this opinion. In fact, we highlight that more than strengthening the role of NDs, there is need for clarification regarding their role and relative position on a company’s board. This is especially in light of the widely termed duties of directors under Section 166(2) of the Companies Act, 2013 and the Indian Supreme Court’s unique observations (paras 19.19-19.24) regarding the role and responsibility of NDs in the landmark Tata-Mistry case.

The case pertained to a suit whereby the ousted Chairman, Cyrus Mistry, alleged that his ouster was an act of oppression and mismanagement under the 2013 Act and that the NDs' act of supporting the ouster resolution amounted to their giving priority to the nominator’s interests over those of the company.

To this allegation regarding neglect of duties regarding NDs, the Court wondered that if every director on board were to have same duty of exercising independent judgment, then why, under the 2013 Act, there would be a provision mandating the appointment of IDs to the board. Further, while finding that the NDs' conduct of giving regard to the nominator’s interest was justified, the Court was deeply influenced by the fact that the nominator was a large, old and popular charitable trust, Tata.

These observations pose the following two questions:

a) Whether it is legally possible for the NDs to accord precedence to the nominator’s interest over that of the company and its shareholders?

b) Whether the duties of NDs, and therefore of directors in general, are ‘dynamic’, ie one that changes according to the circumstances such as the existence of IDs on board and the nominator’s profile?

Whether NDs can give precedence to the nominator’s interest?

In various jurisdictions such as the UK, NDs cannot give precedence to the nominator’s interests. At best, they can ‘consider’ their nominator’s interest. This is considered to be the legal position in India as well.

However, we argue that it is an outdated analysis of the ND’s duties and position because of the language of Section 166(2) of the 2013 Act. As per Section 166(2), a director should not only promote the objects of the company for the benefit of its members as a whole, but also work in the best interests of the employees, community, shareholders and for the protection of environment. Therefore, it should be permissible for directors in India to sometimes give precedence to the nominator’s interest should it amount to acting in the interest of employees, community, environment, or any particular faction of shareholders (like in the present case, the ND was representative of a prominent charitable trust serving community).

Scholars such as Umakanth Varottil and Mihir Naniwadekar (the authors) may not agree with this view. They argue that prima facie, it may appear that under Section 166(2), directors can treat non-shareholders’ interests as an ‘end’ in itself (called the pluralist model). However, on digging deeper, it appears that India has adopted the enlightened shareholder value model, i.e., whereby non-shareholders’ interests are given importance only to ultimately enhance the shareholders’ interests.

We would explain their reasons to arrive at this inference and simultaneously explain why we disagree with their opinion specifically in the context of NDs.

First, the authors have reasoned that since the non-shareholder stakeholders cannot enforce their so-called right given under Section 166(2) in case directors ignore their interests, India does not still have a pluralist model. While this viewpoint is correct, it only focuses on the failure of Section 166(2) to provide a ‘sword’ in the hands of non-shareholder stakeholders if the directors fail to work for their welfare while neglecting the ability of the provision to provide a ‘shield’ in the hands of a non-shareholder stakeholder or a director in case the director prioritizes the non-shareholder stakeholders’ interest over that of the shareholders or company as a whole. It is this ‘shield’ offered by s 166(2) against legal action that should allow NDs to accord precedence to the nominator’s interest should he so choose.

Further, the authors interpret Section 166(2) in light of the committee reports and legislative debates preceding the enactment of the provision. This is not the most appropriate route, especially while interpreting the duties and liberties of NDs under Section 166(2). This is because the language of Section 166(2) is clear to the extent that it does not give rise to the kind of enforcement problems in the context of NDs’ duties that the authors had discussed. Therefore, as per the rule of literal interpretation, one need not refer to these legislative debates to interpret Section 166(2).

Lastly, another concern that the authors had in stating that Section 166(2) adopts a pluralistic approach was that it would give unbridled discretion to directors by allowing them to work for the benefit of any stakeholder at the cost of the company’s interest. However, this concern would not apply with equal rigour to NDs as they need to strike a balance between the company’s and their nominator’s interest.

Hence, in the Indian context, it may be legally possible for NDs to accord priority to the nominator’s interest and principles such as the business judgment rule would, in many situations, stop the court from interfering with the exercise of NDs' discretion regarding when to accord priority to the nominator’s interest over that of the company and vice-versa.

Whether it is possible for the NDs' duties to be dynamic?

Another independent remark that the Supreme Court made regarding the NDs' duties was that it is acceptable for the directors to not act as objectively as they should otherwise, if there are sufficient number of IDs on a company’s board to act with objectivity (para 19.23). Likewise, the Court seemed to imply that even if the ND was giving priority to the nominator’s interest, it was plausible to do so given that the ND was acting for its nominator which is a large charitable trust working for the society’s welfare (para 19.24).

These remarks by the Court have the following implications and/or raise the following legal questions:

a) Can there be other set of circumstances that can influence a NDs' duties so drastically that it becomes justified to give priority to the nominator’s interest over that of the company? Such varying circumstances can be if a ND is appointed as a result of a joint venture agreement or the total number of NDs on a company’s board.

b) On a separate note, can, by analogy, this dynamism also exist in relation to normal directors’ duties? For example, can a normal director who is a promoter show less objectivity in relation to running the company’s affairs if there are sufficient number of IDs on the board?

Conclusion

Hence, the language of Section 166(2) of the 2013 Act and the recent Tata-Mistry ruling have introduced new possibilities regarding the role and duties of NDs. Therefore, we require not just strengthening of the role of NDs but also clarification regarding the NDs’ role. Reforms have been and are being brought relating to the institution of IDs; should not nominee directors be next in line? Are the law and policy makers listening?

The authors are Priya Garg, Anamika Dudvani and Namrata Rawat.

Priya is a trustee of The Corporate House and an Assistant Lecturer at Jindal Global Law School and Visiting Faculty at NALSAR, Hyderabad.

Anamika and Namrata are student research fellows at The Corporate House.