Concept of Corporate Governance

The principles of good governance are as old as good behavior, which needs no
formal definition. However, in reference to corporate world, it has been defined by
various persons, some of whom is described below just in order to satisfy that the
vital details and spirit of the term are not missed. Sir Adrian Cadbury Committee,
which looked into corporate governance issues in U.K. defines Corporate Governance
as the system by which the companies are directed and controlled. The basic
objective of corporate governance is to enhance and maximize shareholder value and
protect the interest of other stake holders. According to World Bank, Corporate
Governance is Blend of law, regulation and appropriate voluntary private sector
practices,

Which enables the corporation to attract financial and human capital to perform efficiently,
and

Prepare itself by generating long term economic value for its shareholders,

While respecting the interests of stakeholders and society as a whole

Objectives of Corporate Governance

Good governance is integral to the very existence of a company. It inspires and

strengthens investor's confidence by ensuring company's commitment to higher
growth and profits. It seeks to achieve following objectives:

(i) A properly structured Board capable of taking independent and objective

decisions is in place at the helm of affairs;

(ii) The Board is balanced as regards the representation of adequate number of non-
executive and independent directors who will take care of the interests and well-
being of all the stakeholders;

(iil) The Board adopts transparent procedures and practices and arrives at decisions
on the strength of adequate information;

(iv) The Board has an effective machinery to subserve the concerns of stakeholders;

(v) The Board keeps the shareholders informed of relevant developments impacting
the company; (VI) The Board effectively and regularly monitors the functioning of
the management team; and

vil) The Board remains in effective control of the affairs of the company at all times.
The overall endeavor of the Board should be to take the organization forward,
maximize long-term values and shareholders' wealth.

Elements of good Corporate Governance Good governance is decisively the

manifestation of personal beliefs and values, which configure the organizational
values, beliefs and actions of its Board. The Board as a main functionary is primary

1
responsible to ensure value creation for its stakeholders. The absence of clearly
designated role and powers of Board weakens accountability mechanism and
threatens the achievement of organizational goals. Therefore, theforemost
requirement of good governance is the' clear identification of powers, roles,
responsibilities and accountability of the Board, CEO, and the Chairman of the
Board. The role of the Board should be clearly documented in a Board Charter. To
sub-serve the above discussion, the following are the essential elements of good
corporate governance:

Transparency in Boards processes and independence in the functioning of Boards.

The Board should provide effective leadership to the company and management for
achieving sustained prosperity for all stakeholders. It should provide independent
judgment for achieving company's objectives.

Accountability to stakeholders with a view to serve the stakeholders and account to

them at regular intervals for actions taken, through strong and sustained
communication processes.

Fairness to all stakeholders.

Social, regulatory and environmental concerns

Clear and unambiguous legislation and regulations are fundamentals to effective

corporate governance.

A healthy management environment that includes setting up of clear objectives

and appropriate ethical framework, establishing due processes, clear enunciation of
responsibility and accountability, sound business planning, establishing clear
boundaries for acceptable behavior, establishing performance evaluation measures.

Explicitly prescribed norms of ethical practices and code of conduct are

communicated to all the stakeholders, which should be clearly understood and
followed by each member of the organization. The objectives of the company must
be clearly documented in a long-term corporate strategy including an annual
business plan together with achievable and measurable performance targets and
milestones.

A well composed Audit Committee to work as liaison with the management,

internal and statutory auditors, reviewing the adequacy of internal control and
compliance with significant policies and procedures, reporting to the Board on the
key issues.

Risk is an important element of corporate functioning and governance, which

should be clearly identified, analyzed for taking appropriate remedial measures. For
this purpose the Board should formulate a mechanism for periodic reviews of
internal and external risks.

2
 A clear Whistle Blower Policy whereby the employees may without fear report to
the management about unethical behaviour, actual or suspected frauds or violation
of companys code of conduct. There should be some mechanism for adequate
safeguard to employees against victimization that serves as whistleblowers

India
The concept of good governance is very old in India dating back to third century B.C.
where Chanakya (Vazir of Parliputra) elaborated fourfold duties of a king viz.
Raksha, Vriddhi, Palana and Yogakshema. Substituting the king of the State with the
Company CEO or Board of Directors the principles of Corporate Governance refers to
protecting shareholders wealth (Raksha), enhancing the wealth by proper utilization
of assets (Vriddhi), maintenance of wealth through profitable ventures (Palana) and
above all safeguarding the interests of the shareholders (Yogakshema or safeguard).
Corporate Governance was not in agenda of Indian Companies until early 1990s and
no one would find much reference to this subject in book of law till then. In India,
weakness in the system such as undesirable stock market practices, boards of
directors without adequate fiduciary responsibilities, poor disclosure practices, lack
of transparency and chronic capitalism were all crying for reforms and improved
governance. The fiscal crisis of 1991 and resulting need to approach the IMF induced
the Government to adopt reformative actions for economic stabilization through
liberalization. The momentum gathered albeit slowly once the economy was pushed
open and the liberalization process got initiated in early 1990s. As a part of
liberalization process, in 1999 the Government amended the Companies Act, 1956.
Further amendments have followed subsequently in the year 2000, 2002 and 2003.
A variety of measures have been adopted including the strengthening of certain
shareholder rights (e.g. postal balloting on key issues), the empowering of SEBI (e.g.
to prosecute the defaulting companies, increased sanctions for directors who do not
fulfill their responsibilities, limits on the number of directorships, changes in
reporting and the requirement that a small shareholders nominee be appointed on
the Board of companies with a paid up capital of Rs. 5 crore or more) The major
corporate governance initiatives launched in India since the mid 1990s are discussed
below:

The CII Code

On account of the interest generated by Cadbury Committee Report of UK, the

Confederation of Indian Industry (CII) took special initiative with the objective to
develop and promote a code of Corporate Governance to be adopted and followed by
Indian Companies both in private & public sector, Banks and Financial Institutions.
The final draft of the code was circulated in 1997 and the final code called Desirable
Corporate Governance Code was released in April 1998. The Committee was driven
by the conviction that good corporate governance was essential for Indian
Companies to access domestic as well as global capital at competitive rates. The code
was voluntary, contained detailed provisions with focus on listed companies.

3
Kumar Mangalam Birla Committee Report

While the CII code was well received by corporate sector and some progressive
companies also adopted it, it was felt that under Indian conditions a statutory rather
than a voluntary code would be more meaningful. Consequently the second major
initiative was undertaken by the Securities and Exchange Board of India (SEBI)
which set up a committee under the chairmanship of Kumar Mangalam Birla in 1999
with the objective of promoting and raising of standards of good corporate
governance. The Committee in its Report observed the strong Corporate
Governance is indispensable to resilient and vibrant capital market and is an
important instrument of investor protection. It is the blood that fills the veins of
transparent corporate disclosure and high quality accounting practices. It is the
muscle that moves a viable and accessible financial reporting structure. In early
2000 the SEBI Board accepted and ratified the key recommendations of this
committee and these were incorporated into Clause 49 of the Listing Agreement of
the Stock Exchanges. These recommendations, aimed at providing the standards of
corporate governance, are divided into mandatory and non-mandatory
recommendations. The recommendations have been made applicable to all listed
companies with the paid-up capital of Rs. 3 crore and above or net worth of Rs.25
crore or more at any time in the history of the company. The ultimate responsibility
of putting the recommendations into practice rests directly with the Board of
Directors and the management of the company

Report of Task Force

In May 2000, the Department of Corporate Affairs (DCA) formed a broad based
study group under the chairmanship of Dr. P.L. Sanjeev Reddy, Secretary of DCA.
The group was given the ambitious task of examining ways to operationalise the
concept of corporate excellence on a sustained basis so as to sharpen Indias global
competitive edge and to further develop corporate culture in the country. In
November 2000 the Task Force on Corporate Excellence set up by the group
produced a report containing a range of recommendations for raising governance
standards among all companies in India. It also recommended setting up of a Centre
for Corporate Excellence.

Naresh Chandra Committee Report

The Enron debacle of 2001 involving the hand-in-glove relationship between the
auditor and the corporate client, the scams involving the fall of the corporate giants
in the U.S. like the WorldCom, Owest, Global Crossing, Xerox and the consequent
enactment of the stringent Sarbanes Oxley Act in the U.S. led the Indian Government
to wake up. A committee was appointed by Ministry of Finance and Company Affairs
in August 2002 under the chairmanship of Naresh Chandra to examine and
recommend inter alia amendments to the law involving the auditor-client
relationships and the role of independent directors. The committee made

4
recommendations in two key aspects of corporate governance: financial and non-
financial disclosures: and independent auditing and board oversight of management.

Narayana Murthy Committee Report

The SEBI also analysed the statistics of compliance with the clause-49 by listed
companies and felt that there was a need to look beyond the mere systems and
procedures if corporate governance was to be made effective in protecting the
interest of investors. The SEBI therefore constituted a committee under the
chairmanship of Narayana Murthy for reviewing implementation of the corporate
governance code by listed companies and issue of revised clause 49. Some of the
major recommendations of the committee primarily related to audit committees,
audit reports, independent directors, related party transactions, risk management,
directorships and director compensation, codes of conduct and financial disclosures.

J.J. Irani Committee Report

The Companies Act 1956 was enacted on the recommendations of the Bhaba
Committee set up in 1950 with the object to consolidate the existing corporate laws
and to provide a new basis for corporate operation in independent India. With
enactment of this legislation in 1956 the Companies Act 1913 was repealed. The need
for streamlining this Act was felt from time to time as the corporate sector grew in
pace with the Indian economy and as many as 24 amendments have taken place
since 1956. The major amendments to the Act were made through Companies
(Amendment) Act 1998 after considering the recommendations of Sachar Committee
followed by further amendments in 1999, 2000, 2002 and finally in 2003 through
the Companies (Ammendment) Bill 2003 pursuant to the report of R.D. Joshi
Committee. After a hesitant beginning in 1980, India took up its economic reforms
programme in 1990s and a need was felt for a comprehensive review of the
Companies Act 1956.

Unsuccessful attempts were made in 1993 and 1997 to replace the present Act with a
new law. In the current national and international context the need for simplifying
corporate laws has long been felt by the government and corporate sector so as to
make it amenable to clear interpretation and provide a framework that would
facilitate faster economic growth. The Government therefore took a fresh initiative in
this regard and constituted a committee in December 2004 under the chairmanship
of Dr. J.J. Irani with the task of advising the government on the proposed revisions
to the Companies Act 1956.The recommendations of the Committee submitted in
May 2005 mainly relate to management and board governance, related party
transactions, minority interest, investors education and protection, access to capital,
accounts and audit, mergers and amalgamations, offences and penalties,
restructuring and liquidation, etc.

Central Coordination and Monitoring Committee

5
A high powered Central Coordination and Monitoring Committee (CCMC) co-chaired
by Secretary, Department of Corporate Affairs and Chairman, SEBI was set up by the
Department of Corporate Affairs to monitor the action taken against the vanishing
companies and unscrupulous promoters who imsused the funds raised from the
public. It was decided by this committee that seven Task Forces be set up at Mumbai,
Delhi, Chennai, Kolkata, Ahmedabad, Bangalore and Hyderabad with Regional
Directors/Registrar of Companies of respective regions as convener, and Regional
Offices of SEBI and Stock Exchanges as Members. The main task of these Task
Forces was to identify the companies, which have disappeared, or which have
misutilised the funds mobilized from the investors and suggest appropriate action in
terms of Companies Act or SEBI Act

National Foundation of Corporate Governance

Recently the Ministry of Company Affairs has set up National Foundation for
Corporate Governance (NFCG) in association with Confederation of Indian Industry
(CII), Institute of Company Secretaries of India (ICSI) and Institute of Chartered
Accountants of India (ICAI). The NFCG would focus on the following areas:
Creating awareness on the importance of implementing good corporate governance
practices both at the level of individual corporations and for the economy as a whole.
The foundation would provide a platform for quality discussions and debates
amongst academicians, policy makers, professionals and corporate leaders through
workshops, conferences, meetings and seminars. Encouraging research capability
in the area of corporate governance in the country and providing key inputs for
developing laws and regulations, which meet the twin objectives of maximizing
wealth creation and fair distribution of this wealth. Working with the regulatory
authorities at multiple levels to improve implementation and enforcement of various
laws related to corporate governance. Working In close co-ordination with the
private sector, work to instill a commitment to corporate governance reforms and
facilitate the development of a corporate governance culture. Cultivating
international linkages and maintaining the evolution towards convergence with
international standards and practices for accounting, audit and non-financial
disclosure. Setting up of 'National Centers for Corporate Governance' across the
country, which would provide quality training to Directors as well as produce quality
research and aim to receive global recognition.

Need and Essence of Corporate Governance

A natural question to ask, given the theory behind corporate governance, is why do
we need to impose particular governance regulations through stock exchanges,
legislatures, courts or supervisory authorities? If it is in the interest of firms to
provide adequate protection to shareholders, why mandate rules, which may be
counterproductive? Even with the best intentions regulators may not have all the
information available to design efficient rules. Worse still, there is a danger that

6
regulators can be captured by a given constituency and impose rules favoring one
group over another

There are at least three reasons for regulatory intervention. The main reason
advocated in favour of mandatory rules is that if the founder of the company was
allowed to design and implement a corporate charter he likes, he may not clearly
address the issues faced by other shareholders and thus would, in the view of the
society, conjure inefficient rules. The functioning of the market for corporate control
is an example. In absence of regulations, founders could employ anti-takeover
defenses excessively and in the process not allow the capital employed, which is
owned by the shareholders, to be used most efficiently. Alternatively, shareholders
may favor takeovers that increase the value of their shares even if they involve
greater losses for unprotected creditors or employees.

Thus, in absence of regulations, the collective bargaining process may not yield
socially acceptable solutions and may be at the peril of one or multiple stakeholders
Another argument for mandating regulations of corporate governance comes from
the externality argument. An externality may be defined as a good, generated as the
result of an economic activity, whose benefits or costs do not accrue directly to the
parties involved in the activity.

An externality is created by one person and experienced by other (s) and may be
positive (a well-maintained garden) or negative (pollution). Bad corporate
governance practice by a firm can in the same vein be seen as a negative externality.
One corporate failure or scandal can potentially erode shareholders trust in the
whole of the corporate sector and thus negatively affect the businesses of honest
firms as well.

This theory is reinforced by the recent corporate scandals in the United States. A few
instances of fraud, as seen in the case of Enron and later on in WorldCom, destroy
the faith of investors in the entire corporate sector and thus hurt the larger interest of
the economy. Thus in such cases where private action fails to resolve widespread
externalities involving large numbers of parties, the state has the responsibility to
intervene to provide a level playing field and also to prevent market failure.

In case of dispersed shareholding, due to the (individual) large cost of monitoring the
company on a regular basis, there remains a possibility that management may
change the rules (to their advantage) ex post. Thus the final argument in support of
mandatory rules is to avoid a situation where efficient rules are designed initially but
due to lack of active tracking by dispersed shareholders, are altered or broken later.
While regulations are necessary, there are however, a few issues that need to be
considered.

The first relates to policing and punishment. The SEBI envisages that all these
corporate governance norms will be enforced through listing agreements between
companies and the stock exchanges. A little reflection suggests that for companies

7
with little floating stock which account for more than 85% of the listed companies
delisting because of non-compliance is hardly a credible threat. The SEBI can, of
course, counter that by stating that the reputation effect of de-listing can induce
compliance and, hence better corporate governance. The second issue is more
problematic, and it has to do with form versus substance.

There is a fear that by legally mandating several aspects of corporate governance, the
regulators might unintentionally encourage the practice of companies ticking
checklists, instead of focusing on the spirit of good governance. The fear is not
unfounded.

Take, for instance, the case of Korea. After the crash of 1998, a part of the IMF
bailout package was that a fourth of the board of every listed Korean company must
consist of independent directors. They do, but the directors are hardly independent
by any stretch of imagination. For most part, they are retired executives of the
chaebols, friends of business groups and politicians that have supported the business
in the past. And, in any event, they dont do what was intended namely, to speak
for shareholders and ensure that management does what is necessary to maximize
long-term shareholder value.

The third concern relates to apprehension about excessive interference. There is an

apprehension that over-regulation of corporate governance could disrupt the
functioning and quality of boards without resulting in any substantial improvement
in the standards of corporate governance. It needs to be ensured that we do not go
overboard with corporate governance regulations, and that unwittingly micro-
management of companies does not take place. This raises a question of how to trace
the line that divides voluntary from mandatory.

In an ideal world with efficient capital markets, such a question need not arise
because he markets would recognize which companies are well governed and which
are not, and reward and punish accordingly. Unfortunately, ideal capital markets
exist only in theory. The reality is quite different. Markets are often thin and shallow
and operate on the basis of ebbs and flows of pivotal stocks; informational
requirements are lax; and regulatory and policing devices leave much to be desired.
Thus, what is needed a small corpus of legally mandated rules, buttressed by a much
larger body of self-regulation and voluntary compliance.

Good governance is decisively the manifestation of personal beliefs and values which
configure the organizational values, beliefs and actions of its Borad. The Board as a
main functionary is primarily responsible to ensure value creation for its
stakeholders. The absence of clearly designated role and powers of Board weakens
accountability mechanism and threatens the achievement of organizational goals.
Therefore, the essence of good governance is a clear identification of powers, roles,
responsibilities and accountability of the Board, CEO and the Chairman of the Board

8
The corporate governance framework
in India primarily consists of the following legislations and regulations:

The Companies Act, 1956: Companies in India, whether listed or unlisted, are
governed by the Companies Act. The Act is administered by the Department of
Companies Act (DCA). Among other things, the Act deals with rules and procedures
regarding incorporation of a company; prospectus and allotment of ordinary and
preference shares and debentures; management and administration of a company;
annual returns; frequency and conduct of shareholders meetings and proceedings;
maintenance of accounts; board of directors, prevention of mismanagement and
oppression of minority shareholder rights; and the power of investigation by the
government, including powers of the CLB.

The Securities Contracts (Regulation) Act, 1956: It covers all types of tradable
government paper, shares, stocks, bonds, debentures, and other forms of marketable
securities issued by companies. The SCRA defines the parameters of conduct of stock
exchanges as well as its powers.

The Securities and Exchange Board of India (SEBI) Act, 1992: This established the
independent capital market regulatory authority, SEBI, with the objective to protect
the interests of investors in securities, and promote and regulate the securities
market.

The Depositories Act, 1996: This established share and securities depositories, and
created the legal framework for dematerialization of securities. Listing Agreement
with stock exchanges: These define the rules, processes, and disclosures that
companies must follow to remain as listed entities.

Internal corporate governance controls

Internal corporate governance controls monitor activities and then take corrective
action to accomplish organisational goals. Examples include:

Monitoring by the board of directors: The board of directors, with its legal
authority to hire, fire and compensate top management, safeguards invested
capital. Regular board meetings allow potential problems to be identified,
discussed and avoided. Whilst non-executive directors are thought to be more
independent, they may not always result in more effective corporate governance
and may not increase performance.[62] Different board structures are optimal for
different firms. Moreover, the ability of the board to monitor the firm's executives
is a function of its access to information. Executive directors possess superior
knowledge of the decision-making process and therefore evaluate top
management on the basis of the quality of its decisions that lead to financial
performance outcomes, ex ante. It could be argued, therefore, that executive
directors look beyond the financial criteria.[citation needed]

9
 Internal control procedures and internal auditors: Internal control
procedures are policies implemented by an entity's board of directors, audit
committee, management, and other personnel to provide reasonable assurance of
the entity achieving its objectives related to reliable financial reporting, operating
efficiency, and compliance with laws and regulations. Internal auditors are
personnel within an organization who test the design and implementation of the
entity's internal control procedures and the reliability of its financial
reporting[citation needed]
Balance of power: The simplest balance of power is very common; require that
the President be a different person from the Treasurer. This application of
separation of power is further developed in companies where separate divisions
check and balance each other's actions. One group may propose company-wide
administrative changes, another group review and can veto the changes, and a
third group check that the interests of people (customers, shareholders,
employees) outside the three groups are being met.[citation needed]
Remuneration: Performance-based remuneration is designed to relate some
proportion of salary to individual performance. It may be in the form of cash or
non-cash payments such as shares and share options, superannuation or other
benefits. Such incentive schemes, however, are reactive in the sense that they
provide no mechanism for preventing mistakes or opportunistic behavior, and
can elicit myopic behavior.[citation needed]
Monitoring by large shareholders and/or monitoring by banks and
other large creditors: Given their large investment in the firm, these
stakeholders have the incentives, combined with the right degree of control and
power, to monitor the management.[63]
In publicly traded U.S. corporations, boards of directors are largely chosen by the
President/CEO and the President/CEO often takes the Chair of the Board position
for him/herself (which makes it much more difficult for the institutional owners to
"fire" him/her). The practice of the CEO also being the Chair of the Board is fairly
common in large American corporations.[64]
While this practice is common in the U.S., it is relatively rare elsewhere. In the U.K.,
successive codes of best practice have recommended against duality.[citation needed]
External corporate governance controls[edit]
External corporate governance controls encompass the controls external
stakeholders exercise over the organization. Examples include:

competition
debt covenants
demand for and assessment of performance information (especially financial
statements)
government regulations
managerial labour market

10
 media pressure
takeovers
proxy firms

Companies Act 1956

Introduction
The Companies Act 1956 is administered by the Government of India through the
Ministry of Corporate Affairs and the Offices of Registrar of Companies, Official
Liquidators, Public Trustee, Company Law Board, Director of Inspection, etc. The
Act is 658 sections long. The Act contains provisions about Companies, directors of
the companies, memorandum and articles of associations, etc. This act states and
discusses every single provision requires or may need to govern a company. It
mentions what type on companies their differences, constitution , management,
members , capital, how should the shares should be issues, debentures, registration
of charge, at the end of the act it concludes the about winding up of a company,
discussing the situations a company needs to be winded up. The ways it should be
done by volunteer or through courts.

Provisions of the Act

Article 3 of the act describes the definition of a company, the types of companies
that can be formed e.g. public, private, holding, subsidiary, limited by shares,
unlimited etc. Further on in Article 10 E it explains about the constitution of board
of company, it explains the companies name, the jurisdictions, tribunals,
memorandums and the changes that can be made. Article 26 and further on
explains about the article of association of the company which a very important
part when forming a company and various amendments that can be made. Article
53 to 123,it explains about the shares, the share holders their rights, it explains
about debentures, share capital, their procedure and powers within the company.
Article 146 to 251 it explains about the management and administration of the
company and the provisions registered office and name. Article 252 to 323
elaborates on the provisions of duties, powers responsibility and liability of the
directors in the company which is a very integral part of the company when it is
formed. Article 391 to 409 explains about the arbitration, the prevention and
obsession of the company Article 425 to 560 it explains the procedure of winding
up of a company, the preventions the rights of shareholders, creditors, methods of
liquidations, compensation provided and ways of winding up the company. Article
591 and further on explains about setting up companies outside India and their fees
and registration procedure and all.

An overview of Companies Act 1956

Companies Act 1956 explains about the whole procedure of the how to form a
company, its fees procedure, name, constitution, its members, and the motive

11
behind the company, its share capital, about its general board meetings,
management and administration of the company including an important part
which is the directors as they are the decision makers and they take all the
important decisions for the company their main responsibility and liabilities about
the company matter the most. The Act explains about the winding of the business
as well and what happens in detail during liquidation period.

Company objective and legal procedure based on the Act

The basic objectives underlying the law are:

A minimum standard of good behaviour and business honesty in company

promotion and management.
Due recognition of the legitimate interest of shareholders and creditors and of
the duty of managements not to prejudice to jeopardize those interests.
Provision for greater and effective control over and voice in the management
for shareholders.
A fair and true disclosure of the affairs of companies in their annual published
balance sheet and profit and loss accounts.
Proper standard of accounting and auditing.
Recognition of the rights of shareholders to receive reasonable information
and facilities for exercising an intelligent judgment with reference to the
management.
A ceiling on the share of profits payable to managements as remuneration for
services rendered.
A check on their transactions where there was a possibility of conflict of duty
and interest.
A provision for investigation into the affairs of any company managed in a
manner oppressive to minority of the shareholders or prejudicial to the
interest of the company as a whole.
Enforcement of the performance of their duties by those engaged in the
management of public companies or of private companies which are
subsidiaries of public companies by providing sanctions in the case of breach
and subjecting the latter also to the more restrictive provisions of law
applicable to public companies.

Companies Act empowerment and mechanism

In India, the Companies Act, 1956, is the most important piece of legislation that
empowers the Central Government to regulate the formation, financing,
functioning and winding up of companies. The Act contains the mechanism

12
regarding organizational, financial, and managerial, all the relevant aspects of a
company. It empowers the Central Government to inspect the books of accounts of
a company, to direct special audit, to order investigation into the affairs of a
company and to launch prosecution for violation of the Act. These inspections are
designed to find out whether the companies conduct their affairs in accordance
with the provisions of the Act, whether any unfair practices prejudicial to the public
interest are being resorted to by any company or a group of companies and to
examine whether there is any mismanagement which may adversely affect any
interest of the shareholders, creditors, employees and others. If an inspection
discloses a prima facie case of fraud or cheating, action is initiated under provisions
of the Companies Act or the same is referred to the Central Bureau of Investigation.
The Companies Act, 1956 has been amended from time to time in response to the
changing business environment.

To obtain the registration of a company an application has to be filed with the

Registrar of Companies. The application must be accompanied by the following
documents,

1. Memorandum of Association
2. Articles of Association, if necessary and
3. The agreement, if any, which the company proposes to enter into with any
individual for his appointment as its managing or whole-time director or manager.

The articles of association of a company are its by-laws or rules and regulations
which govern the management of its internal affairs and the conduct of its business.
They are framed with the object of carrying out the aims and objects as set out in
the Memorandum of Association. According to Section 2(2) of the Companies Act,
1956 articles means the articles of association of a company as originally framed or
as altered from time to time in pursuance of any previous companies laws or of the
present Act, i.e. the Act of 1956.

The Articles regulate the internal management of the company. They define the
powers of its officers. In Naresh Chandra Sanyal vs Calcutta Stock exchange
association Ltd (AIR 1971 SC 422), the SC said that the articles of association also
establish a contract between the company and the members and between the
members inter se. This contract governs the ordinary rights and obligations
incidental to membership in the company.

Articles are like the partnership deed in a partnership. They set out provisions for
the manner in which the company is to be administered. In particular, they provide
for matters like the making of calls, forfeiture of shares, directors qualifications,
appointment, powers and duties of auditors, procedure for transfer and
transmission of shares and debentures.
1.2. Contents Of Articles Of Association
Articles usually contain provisions relating to the following matters-

13
1. Share capital including sub division thereof, rights of various shareholders, the
relationship of these rights, payment of commission, share certificates,
2. Lien of shares
3. Calls on shares
4. Transfer of shares
5. Transmission of shares
6. Forfeiture of shares
7. Surrender of shares
8. Conversion of shares into stock
9. Share warrant
10. Alteration of capital
11. General meetings and proceedings thereat
12. Voting rights of members, voting by poll, proxies
13. Directors, including first directors or directors for life, their appointment,
remuneration, qualifications, powers and proceedings of Board of directors
meetings
14. Dividends and reserves
15. Accounts and a
16. Borrowing powers
17. Winding up

Utmost care must be taken to prepare the articles of association of the proposed
company. They are certain matters in respect of which powers can be exercised by
the company only if the articles so provide and in the manner provided therein.
Therefore, the articles must contain provisions in respect of all matters which are
required to be contained therein so as not to hamper the working of the company
later. At the same time, the articles of association should not provide for matters in
respect of which it has no powers to exercise. It cannot, for example, provide for
expulsion of a member, as such a power is opposed to the fundamental principal of
company jurisprudence and, therefore, ultra vires the company.

1.3. Companies Which Must Have Articles (Section 26)

The following companies must have their own articles, namely

1. Unlimited companies
2. Companies limited by guarantee
3. Private companies limited by shares

The articles shall be signed by the subscribers of the Memorandum and registered
along with the Memorandum. A public company may have its own Articles of
association. If it does not have its own Articles, it may adopt Table A given in
Schedule I to the Act.

Section 27 provides that the regulations with respect to the aforesaid companies
should provide for the following:-

14
1. In case of unlimited companies, the articles shall state the number of members
with which the company is to be registered and if the company has a share capital,
the amount of share capital with which the company is to be registered.

2. In case of companies limited by guarantee, the articles shall state the number of
members with which the company is to be registered.

3. In case of private company having a share capital, the articles shall contain
provisions which-

a) Restrict the right to transfer shares

b) Limit the number of its members to 50 (not including employee-members), and
c) Prohibit any invitation to the public to subscribe for any shares in, or debentures
of, the company.

1.4. No Article Company

According to section 28(1), company limited by shares may either frame its own set
of articles or may adopt all of any of the regulations contained in Table A. but if it
does not register any Articles, Table A applies, if it does not have some regulations,
for the rest, as far as applicable, table A applies, insofar as its regulations are not
excluded [(section 28(2)].

Thus, in case of a limited liability company having share capital, if the articles do
not expressly exclude any or all provisions of table A, and at the same time not
providing anything for them, applicable clauses of Table A shall automatically apply
to it.
1.6. Alteration Of Articles
Sec. 31 of the Companies Act, 1956, provides that a company may by passing a
special resolution, alter regulations contained in its Articles any time subject to

a) the provisions of the Companies Act and

b) Conditions contained in the Memorandum of Association [Section 31(1)].

A copy of every special resolution altering the Articles shall be filed in Form no 23,
with the Registrar within 30 days its passing and attached to every copy of
the Articles issued thereafter. The fundamental right of a company to alter its
articles is subject to the following limitations:

a) The alteration must not exceed the powers given by the Memorandum of
Association of the company or conflict with the provisions thereof.
b) It must not be inconsistent with any provisions of Companies Act or any other
statute.
c) It must not be illegal or against public policies
d) The alteration must be bona fide for the benefit of the company as a whole.
e) It should not be a fraud on minority, or inflict a hardship on minority without

15
any corresponding benefits to the company as a whole.
f) The alternation must not be inconsistent with an order of the court. Any
subsequent alteration thereof which of inconsistent with such an order can be made
by the company only with the leave of the court.
g) The alteration cannot have retrospective effect. It can operate only from the date
of amendment. [Pyarelal Sharma v. Managing Director, J & K Industries Ltd.
[1989] 3 comp. L.J. (SL) 70].

h) If a public company is converted into a private company, then the approval of

the Central Government is necessary. Printed copies of altered articles should be
filed with the Registrar within one month of the date of Central Governments
approval. [Section 31 (2A)]
i) An alteration that has the effect of increasing the liability of a member to
contribute to the company is not binding on a present member unless he has agreed
thereto in writing.
j) A reserve liability once created cannot be undone but may be cancelled on a
reduction of capital.
k) An assumption by the Board of Directors of a company of any power to expel a
member by amending its Articles is illegal or void.

1.7.Procedures For Alteration Of Articles Of Association

For effecting alteration to the articles of association, the following procedures is
required to be followed-

1. Take the necessary decision by convening a Board Meeting to change all or any of
the existing Articles of Association and fix up the day, time, place and agenda for a
general meeting for passing special resolution to effect the change.

2. See that any such change in the Articles of the company conforms to the
provisions of the companies Act, 1956 and the conditions contained in the
Memorandum of Association of the company.

3. See that any such change does not increase the liability of any member who has
become so before the alteration to contribute to the share capital of or otherwise to
pay money to, the company.

4. See that any such change does not have the effect of converting a public company
into a private company. If such is the case, then make an application to the Central
Government for such alteration.

5. See that any such change does not provide for expulsion of a member by the
company.

6. Issue notices for the General Meeting proposing the Special resolution and
explaining inter alia, in the explanatory Statement the implication and reasons of
the changes being proposed.

16
7. If the shares of the company are enlisted with any recognised Stock Exchange,
then forward copies of all notices sent to the shareholders with respect to change in
the Articles of Association to the Stock Exchange.

8. Hold the General Meeting and pass the special resolution.

9. File with the stock exchange with which your company is enlisted six copies of
such amendments as soon as the company adopts it in General Meeting. Out of the
six copies, one copy must be a certified true copy.

10. Forward promptly to the Stock Exchange with which your company is enlisted
three copies of the notice and a copy of the proceedings of the General Meeting.

11. File the Special resolution with the concerned Registrar of companies with
explanatory statement in Form No.23 within thirty days of its passing after
payment of the requisite filing fee in cash as per Schedule X. If the Articles of
Association have been completely or substantially changed, file a new printed copy
of the Articles after paying the requisite fee in cash prescribed under Schedule X to
the Companies Act, 1956. payments upto Rs.50/-

12. Effect the changes in all copies of the articles of association.

13. Any alteration so made be as valid as if originally contained in the Articles of

Association and be subject to alteration by Special Resolution as above.

14. If the articles are altered pursuant to an order of the Company law Board made
under section 397 or 398 then see that such alterations is not inconsistent with the
said and if it is so then obtain first leave of the Company Law Board to make such
alteration.

Alteration of articles
The Articles of Association may be changed by the shareholders passing a special
resolution in a general meeting or by written resolution. A copy of the resolution
and the new articles of association must be sent to Companies House within 15
days. The changes to the Articles of Association cannot be made in breach of other
company law rules and there are protections against such changes where they
increase the liability of individual shareholders, vary the rights of any class of
shareholders or otherwise prejudice minority shareholders. Special resolutions
require the votes of 75% of members present in person or by proxy, who are
entitled to vote and do vote at the meeting. The meeting at which the resolution is
proposed must have had at least 14 days notice, unless a shorter period was agreed
by a majority in number of members holding at least 90% of the shares (95% in the
case of public companies). Alternatively, the written resolution procedure can be
used, and the special resolution will be passed if approved by shareholders
representing not less than 75% of the total voting rights of the shareholders entitled
to vote on the written resolution on the day it is circulated. This Special Resolution

17
- Alteration to Articles of Association is in open format. Either enter the requisite
details in the highlighted fields or adjust the wording to suit your purposes.

Any alteration must be made in good faith for the benefit of the company as a
whole: Sidebottom v Kershaw, Leese & Co [1920] 1 Ch 154, CA. This means the
company as an entity, or as the interest of an individual hypothetical
member: Greenhalgh v Arderne Cinemas Ltd [1951] Ch 286 at 291, [1950] 2 All ER
1120.

Constitution of Board of Directors Independent Directors

One of the canons of Corporate Governance is that Corporate Boards should include
significant proportion of independent non-executive directors in establishing that
control is a separated from ownership, such that the affairs of a corporation are
conducted in the interest of shareowners. The SEBI prescription that has now been
incorporated in the listing agreement of Stock Exchanges defines independence as
excluding any material pecuniary relationship or transactions with the company, its
promoters, its management of its subsidiaries that in the opinion of the Board may
affect directors independence of judgment. However, the monetary remuneration
received for being a director of the company itself is not construed as vitiating
independence. While SEBI has clarified that nominees appointed by financial
institutions as directors in a non government company should be considered as
independent directors, what will be the status of bureaucrats who by virtue of their
official position sit on the Boards of listed public sector companies. Similarly, when
as often is the case, paid executives of overseas corporations are appointed as
directors of their Indian subsidiary or affiliate, would they be deemed independent?
Further, when a relative of the promoter sits on the board of a company as a non-
executive director, would he be considered independent? The thorny issue is when
corporate bodies are shareholders and they have to be represented by some
individuals while asking board positions. Will representative(s) of major
shareholders nominated as non-executive directors on the board of directors of a
company be considered independent directors. While one cannot take a legalistic
view on these matters the spirit behind constituting maximum number of
independent directors on the board should be well appreciated. It may be useful for
SEBI and Stock Exchanges to issue some interpretative guidelines on these matters.

Meaning and DEFINITION OF DIRECTOR:

Statutory definition: As per sec 2(13) of Companies act, 1956 Director includes
any person occupying the position of a director by whatever name called.

Definition based on function:

A person is considered as a director, if he does whatever a director does normally.
Thus,where a person performs the functions of a director, he will be treated as a

18
director for the purposes of the act, though he may be called by a different name
and is not actually appointed on the board of the company.

Legal Position Of Directors:

It is difficult to define the exact legal position of the director of the company. The
CompaniesAct makes no effort to define their position. At various times they have
been described by judges as agents, trustees or managing partners.

Directors as agents:
The relationship between the company and the directors is that of principal and
agent and the general principles of agency will govern their relations.
Consequently, where the directors enter into contracts on behalf of the company, it
is the company and not the directors who are liable there under. But the directors
will be personally liable only in the following cases:

Where a director acts in his own name.

Where a director contract on behalf of the company without using the words
Limited or Private limited as a part of the name of a company.

Where a director enters into any agreement or contract in which it is not made
clear as to whether the director is signing in his personal capacity or as an agent of
company.
Directors as trustees:
The office of a director is an office of trust. The directors stand in a fiduciary
position towards the company. They are the trustees of:

Companys money and property: The property of the company must be applied for
the genuine purposes. If the property is misappropriated it would amount to breach
of trust.

The powers entrusted to them: The directors must exercise their powers bonafide
and for the benefit of the company. As a whole, not to promote their own personal
or private interests. They should not put themselves in a position where their duties
and personal interests may conflict.Where a director uses confidential information
of the company for his personal purposes, misappropriates or misuses the assets of
the company, he becomes accountable to the companyIf a director misuses his
fiduciary position and makes a secret profit, he is liable to pay it to the company.

Directors as officers of the company:

Amongst other persons, a director is also included in the definition of an officer of
the companyWhether or not a director is in the employment of the company, he
shall always be treated as an officer of the company.

Directors as officers in default (section-5):

19
a) A Whole time director or managing director is always covered in the definition of
officer in default.
b) Where a company has no wholetime director or managing director,or manager-A
director shall be treated as an officer in default if
i. he has been so specified by the board in this behalf.
ii. no director is so specified by the board.

Kinds Of Directors:
Under the Companies Act, 1956, the following kinds of directors are recognized:
Ordinary Directors
Ordinary directors are also referred to as simple directors who attends Board
meeting of a company and participate in the matters put before the Board. These
directors are neither whole time directors nor managing directors.

Whole-time/Executive Directors
Whole-time Director or Executive Director includes a director in the whole-time
employment of the company.

Additional Directors
Additional Directors are appointed by the Board between the two annual general
meetings subject to the provisions of the Articles of Association of a company.
Additional directors shall hold office only up to the date of the next annual general
meeting of the company. Number of the directors and additional directors together
shall not exceed the maximum strength fixed for the Board by the Articles.

Alternate Director
An Alternate Director is a person appointed by the Board if so authorised by
the Articles or by a resolution passed by the company in the general meeting to act
for a director called "the original director" during his absence for a period of not
less than three months from the State in which meetings of the Board are ordinarily
held. Generally, the alternate directors are appointed for a person who is Non-
resident Indian or for foreign collaborators of a company.

Professional Directors
Any director possessing professional qualifications and do not have any pecuniary
interest in the company are called as "Professional Directors". In big size
companies, sometimes the Board appoints professionals of different fields as
directors to utilise their expertise in the management of the company.

Nominee Directors
The banks and financial institutions which grant financial assistance to a company
generally impose a condition as to appointment of their representative on the
Board of the concerned company. These nominated persons are called as nominee
directors.

20
Disqualifications of a director:
Section 274(1) reads as under:
A person shall not be capable of being appointed director of a company, if the
director is

(a) Of unsound mind by a court of competent jurisdiction and the finding is in

force;

(b) An un discharged insolvent;

(c) Has applied to be adjudicated as an insolvent and his application is pending;

(d) Has been convicted by a court of any offence involving moral turpitude and
sentenced in respect thereof to imprisonment for not less than six months and a
period of five years has not elapsed from the date of expiry of the sentence;
e) Has not paid any call in respect of shares of the company held by him, whether
alone or jointly with others, and six months have elapsed from the last day fixed for
the payment of the call; or

(f) An order disqualifying him for appointment as director has been passed by a
court in pursuance of section 203 and is in force, unless the leave of the court has
been obtained for his appointment in pursuance of that section;

(g) Such person is already a director of a public companywhich-

(A) Has not filed the annual accounts and annual returns for any continuous three
financial yearscommencing on and after the first day of April,1999; or

(B) Has failed to repay its deposits or interest thereon on due date or redeem its
debentures on due dateor pay dividend and such failure continues for one year or
more:

Provided that such person shall not be eligible to be appointed as a director of any
other public company for a period of five years from the date on which such public
company, in which he is a director, failed to file annual accounts and annual
returns under sub-clause (A) or has failed to repay its deposit or interest or redeem
its debentures on due date or paid dividend referred to in clause (B).

Number of directors:
Sec 252 prescribes the mode of constitution of the board of directors. The purpose
of the section is to prevent the company from going into the hands of a single
person.The provisions relating to the minimum and maximum number of directors
are explained as follows:

1. Minimum number of directors[sec 252(1) and (2)]

Every public company shall have minimum of 3 directors.

21
 Every private company shall have a minimum of 2 directors.

Articles may stipulate higher minimum number:

When number of directors fall below statutory minimum:

The provisions as to number of directors are mandatory and any business

transacted after the number of directors fell below the statutory minimum was held
to be invalid

Where the minimum number of directors are three,but only two directors were
appointed, an allotment of shares by two directors was held to be invalid, though
two directors were sufficient to form a quoru

Remuneration of directors:
The remuneration payable to the directors of a company, including any managing
or whole-time director, shall be determined, in accordance the provisions given
below either by the articles of the company, or by a resolution ( special resolution if
the articles so require ), passed by the company in general meeting and the
remuneration payable to any such director determined as per the said provisions
shall be inclusive of the remuneration payable to such director for services
rendered by him in any other capacity. However, any remuneration for services will
not be so included if the services are of a professional nature and in the opinion of
the Central Government, the director possesses the requisite qualifications.

A director may receive remuneration by way of fees for attending each meeting of
the Board or of any committee thereof (Sitting Fees ).

A director who is in whole time employment of the company or a managing director

may be paid remuneration either by way of a monthly payment or at a specified
percentage of net profits of the company or partly by one and partly by the other.
Such remuneration cannot exceed 5 % of the net profits of the company, except
with the approval of the Central Government in case of one director and 10 % for all
such directors.

The provisions contained in the Companies Act, 1956 relating to the remuneration
of managerial personnel are not applicable to an independent private company.
However, an independent private company can appoint them in accordance with
the provisions contained in the Articles of Association (AOA).Compensation paid to
the director provided by for services provided by them to the company is called
remuneration. It is defined in explanation appended to section 198 of companys
act 1956 (herein after referred to as the Act).

Compensation paid to directors for services provided by them to the company is

22
called remuneration. It is inclusively defined in explanation appended section 198
of the Act.

It includes
(a) any expenditure incurred by the company in providing any rent-free
accommodation, or any other benefit or amenity in respect of accommodation free
of charge, to any of the persons specified in sub-section (1);
(b) any expenditure incurred by the company in providing any other benefit or
amenity free of charge or at a concessional rate to any of the persons aforesaid;
(c) any expenditure incurred by the company in respect of any obligation or service
which, but for such expenditure by the company, would have been incurred by any
of the persons aforesaid;
(d) any expenditure incurred by the company to effect any insurance on the life of,
or to provide any pension, annuity or gratuity for, any of the persons aforesaid or
his spouse or child.]
Any payment made by a company to its directors by whatever name called and
whether in cash kind or moneys worth, or by way of perquisite, amenity or benefit
or by discharging an obligation, amounts to remuneration under the act. The
definition is inclusive one. Hence a receipt by a director of some benefit, facility
amenity or fringe benefit from the company for his personal use or for use of his
spouse or family can still be remuneration even it is not covered by the parameters
laid down by this act.

In all the four clauses of the definition the word expenditure incurred is used. The
emphasis of the definition is on expenditure incurred by the company in providing
any benefit to the director.

The word expenditure is defined as the act of expending something, especially

funds; disbursement; something that is expended; expense

The word incur means to become liable or subject to. If you incur costs you have
to pay them. The expression expenditure incurred contemplates the idea of
spending money (either by paying out or becoming liable to pay).

In Indian Molasses Co ltd v. CIT, the Supreme Court held that Expenditure' is equal
to expense' and 'expense' is money laid out by calculation and intention. The idea of
spending' in the sense of paying out or away' money is the primary meaning and.
Expenditure' is thus what is 'paid out or given away' and is some- thing which is
gone irretrievably

In Madras Industrial Investment Corporation v.CIT, the Supreme Court held that
expenditure is not necessarily confined to money which has been actually paid out;
it covers a liability which has accrued or which has been incurred although it may
have to discharge at a future date. However, a contingent liability which needs to be

23
performed in future cannot be considered as expenditure Remuneration to be
computed in reference to a financial year
Section 198 and 309 of the Act contain provisions about managerial services or
remuneration and specify certain limits which are expressed in percentage terms .it
is relatable to financial year since the limits specified in section 198 or 309 are in
relation to or for a financial year.

Maximum Remuneration to Directors

Total managerial remuneration payable by a public company or a private company
which is a subsidiary of a public company, to its directors and its manager in
respect of any financial year shall not exceed eleven per cent of the net profits of
that company for that financial year

Section 309(1) of the act provides that the remuneration payable to directors
including any managing or whole time director shall be determined in accordance
with and subject to the provisions of section 198 and this section i.e. section 309
either by Articles of company, or by resolution ,or if the articles so require by a
special resolution passed by the company in the general meeting and the
remuneration payable to such director as aforesaid shall be inclusive of the
remuneration payable to such director for services rendered by him in any other
capacity.

In 1965 to make the provisions clear sub section 309(1) was amended, the
percentage limits stipulated in section 309(4),therefore apply to all remuneration
payable to part time directors in any capacity except the remuneration of
professional nature if the requirements of the proviso to section 309(1) are
complied with .The limits, however, do not seem to exclude the fees paid to
directors for attending for attending meetings of board as there is no provision in
section unlike section 198(2) as mentioned in Canara workshops Ltd. v. Union of
India

Fees for meetings of Board and committees

A director who is not a managing or whole time director may be paid fees for
attending meetings of board or of committees .(popularly called sitting fees).These
fees are outside the limit specified in 198(1) of the Act.

As per section 309(2) a director may receive remuneration by way of fees for each
meeting of the board, or a committee, attended by him .This provision indicates
that sitting fees is a species of species of a remuneration under this act, though it is
not be considered for the purposes of overall limit of 11% mentioned under section
198(1) of the Act. Sitting fees is not kept out from concept of the remuneration, but
it is excluded for the purpose of limit.

According to the proviso to section 310(1) of the Act no approval of the Central
Government under that section will be necessary for an increase in amount of
sitting fees so long as such increase is within the prescribed limit. The limit does

24
not apply to a private company which is not a subsidiary of private company. In
rule 10B of Companies (Central Governments) General rules and Forms, 1956:

(a) Companies with a paid-up share capital and free reserve of Rs 10 crore and
above or turnover of Rs 50 crore and above has a limit of sitting fees i.e. a sum of
twenty thousand rupees.
(b) For other companies Sitting fee not to exceed the sum of ten thousand rupees.

If Articles of a company prescribes a lesser amount sitting fees can be paid at higher
amount by amending the articles but not exceeding the above mentioned limits
Determining the Remuneration
Section 309 contains provisions regarding remuneration of Directors including
any managing or whole-time directors. Section 309(1) inter alia provides, that the
remuneration payable to the directors of a company including any managing or
whole time director, shall be determined , in accordance with and subject to the
provisions of section 198 of the Act and this section by-

(a) The articles of the company

(b) An ordinary resolution

If articles so require, by a special resolution

Where a case falls within the purview of schedule XIII , the appointment
remuneration payable to the managing or whole time directors referred to in part I
and part II respectively of the schedule shall be subject to approval by an ordinary
resolution passed at a general meeting although the appointment and the
remuneration is passed by board. It is subject to the articles if there are any, so far
as remuneration is concerned, requiring a special resolution. In the cases falling
under schedule XIII, an ordinary resolution required there under can be passed
even after the expiry of 90 days from the date of Boards resolution
Minimum Remuneration
A managing or whole time director of a company is not entitled to the substantive
remuneration as fixed by the board, in a financial year in which the company has
either loss or inadequate profit. Inadequate profit means profit which is not
adequate to pay the substantive remuneration of the managing or the whole-time
director because if it is paid it would exceed the five percent or the ten percent limit

Section 198(4) of the Act deals with the minimum remuneration payable to the
managing or the whole time directors. According to it, in the financial year of loss
or in adequate profit, a company cannot pay full remuneration as fixed by the board
but which is in excess of net profits in any financial year. It can pay minimum
remuneration and that to with the prior approval of the central government.

Section 198(4) provides that notwithstanding anything contained in section198 (1)

to198 (3) subject to the provisions of section 269, read with Schedule XIII, if, in any
financial year, a company has no profits or its profits are inadequate, the company

25
shall not pay to its directors, including any managing or whole-time director or
manager, by way of remuneration any sum exclusive of any fees payable to
directors under sub-section (2) of section 309, except with the previous approval of
the Central Government.

The requirement if government approval was dispensed with it in 1988 when

schedule XIII came to be incorporated in the Act, on the condition that there would
be10% cut in the salary. under schedule XIII as substituted on 14 July,1993 the
condition as to 10% cut in the salary was done away with ,thereby giving companies
freedom to pay the full salary in the event of loss or in adequate profits.

Section 198(4) is subject to schedule XIII .This means that no approval of the
central government for payment of minimum remuneration is necessary if such
remuneration is within the limit specified in section II of part II of the schedule
XIII.

Such remuneration may be paid by way of salary, dearness allowance ,other

allowances and perquisites but the total remuneration shall not exceed the
monetary limits laid down and conditions stipulated in subparagraphs(A), (B) and
(C) of the paragraph 1 of section II
Meetings of Members :
These are meetings where the members / shareholders of the company meet and
discuss various matters. Members meetings are of the following types :-

A. Statutory Meeting :
A public company limited by shares or a guarantee company having share capital is
required to hold a statutory meeting. Such a statutory meeting is held only once in
the lifetime of the company. Such a meeting must be held within a period of not less
than one month or within a period not more than six months from the date on which
it is entitled to commence business i.e. it obtains certificate of commencement of
business. In a statutory meeting, the following matters only can be discussed :-

The Board of Directors must prepare and send to every member a report called the
"Statutory Report" at least 21 days before the day on which the meeting is to be held.
But if all the members entitled to attend and vote at the meeting agree, the report
could be forwarded later also. The report should be certified as correct by at least two
directors, one of whom must be the managing director, where there is one, and must
also be certified as correct by the auditors of the company with respect to the shares
allotted by the company, the cash received in respect of such shares and the receipts
and payments of the company. A certified copy of the report must be sent to the
Registrar for registration immediately after copies have been sent to the members of
the company.

26
B. Annual General Meeting
Must be held by every type of company, public or private, limited by shares or by
guarantee, with or without share capital or unlimited company, once a year. Every
company must in each year hold an annual general meeting. Not more than 15
months must elapse between two annual general meetings. However, a company may
hold its first annual general meeting within 18 months from the date of its
incorporation. In such a case, it need not hold any annual general meeting in the year
of its incorporation as well as in the following year only.

Business to be Transacted at Annual General Meeting :

At every AGM, the following matters must be discussed and decided. Since such
matters are discussed at every AGM, they are known as ordinary business. All other
matters and business to be discussed at the AGM are specila business.

The following matters constitute ordinary business at an AGM :-

Consideration of annual accounts, directors report and the auditors

report
Declaration of dividend
Appointment of directors in the place of those retiring
Appointment of and the fixing of the remuneration of the statutory
auditors.

C. Extraordinary General Meeting

Every general meeting (i.e. meeting of members of the company) other than the
statutory meeting and the annual general meeting or any adjournment thereof, is an
extraordinary general meeting. Such meeting is usually called by the Board of
Directors for some urgent business which cannot wait to be decided till the next
AGM. Every business transacted at such a meeting is special business. An
explanatory statement of the special business must also accompany the notice calling
the meeting. The notice must should also give the nature and extent of the interest of
the directors or manager in the special business, as also the extent of the
shareholding interest in the company of every such person. In case approval of any
document has to be done by the members at the meeting, the notice mus also state
that the document would be available for inspection at the Registered Office of the
company during the specified dates and timings.

The Articles of Association of a Company may contain provisions for convening an

extraordinary general meeting. Eg. It may provide that "the board may, whenever it
thinks fit, call an extraordinary general meeting" or it may provide that "if at any
time there are not within India, directors capable of acting who are sufficient in
number to form a quorum, any director or any two members of the company may call
an extraordinary general meeting".

27
D. Class Meeting
Class meetings are meetings which are held by holders of a particular class of shares,
e.g., preference shareholders. Such meetings are normally called when it is proposed
to vary the rights of that particular class of shares. At such meetings, these members
dicuss the pros and cons of the proposal and vote accordingly. (See provisions on
variations of shareholders rights). Class meetings are held to pass resolution which
will bind only the members of the class concerned, and only members of that class
can attend and vote.

Unless the articles of the company or a contract binding on the persons concerned
otherwise provides, all provisions pertaining to calling of a general meeting and its
conduct apply to class meetings in like manner as they apply with respect to general
meetings of the company.

II. Meetings of the Board of Directors

- Meeting of the Board of Directors
- Meeting of a Committee of the Board

Notice of General Meeting

A meeting cannot be held unless a proper notice has been given to all persons
entitled to attend the meeting at the proper time, containing the necessary
information. A notice convening a general meeting must be given at least 21 clear
days prior to the date of meeting. However, an annual general meeting may be called
and held with a shorter notice, if it is consented to by all the members entitled to vote
at the meeting. In respect of any other meeting, it may be called and held with a
shorter notice, if at least members holding 95 percent of the total voting power of the
Company consent to a shorter notice.

Notice of every meeting of company must be sent to all members entitled to attend
and vote at the meeting. Notice of the AGM must be given to the statutory auditor of
the company.

Accidental omission to give notice to, or the non-receipt of notice by, any member or
any other person on whom it should be given will not invalidate the proceedings of
the meeting. The notice may be given to any member either personally or by sending
it by post to him at his registered address, or if there is none in India, to any address
within India supplied by him for the purpose. Where notice is sent by post, service is
effected by properly addressing, pre-paying and posting the notice. A notice may be
given to joint holders by giving it to the jointholder first named in the register of
members. A notice of meeting may also be given by advertising the same in a
newspaper circulating in the neighbourhood of the registered office of the company
and it shall be deemed to be served on every member who has to registered address
in India for the giving of notices to him.

28
A notice calling a meeting must state the place, day and hour of the meeting and
must contain the agenda of the meeting. If the meeting is a statutory or annual
general meeting, notice must describe it as such. Where any items of special business
are to be transacted at the meeting, an explanatory statement setting out all
materials facts concerning each item of the special business including the concern or
interest, if any, therein of every director and manager, is any, must be annexed to the
notice. If it is intended to propose any resolution as a special resolution, such
intention should be specified.

A notice convening an AGM must be accompanied by the annual accounts of the

company, the directors report and the auditors report. The copies of these
documents could, however, be sent less than 21 days before of the date of the meeting
if agreed to by all members entitled to vote at the meeting.

Quorum
Quorum refers to the minimum number of members who must be present at a
meeting in order to constitute a valid meeting. A meeting without the minimum
quorum is invalid and decisions taken at such a meeting are not binding. The articles
of a company may provide for a quorum without which a meeting will be construed
to be invalid. Unless the articles of a company provide for larger quorum, 5 members
personally present (not by proxy) in the case of a public company and 2 members
personally present (not by proxy) in the case of a private company shall be the
quorum for a general meeting of a company.

It has been held by Courts that unless the articles otherwise provide, a quorum need
to be present only when the meeting commenced, and it was immaterial that there
was no quorum at the time when the vote was taken. Further, unless the articles
otherwise provide, if within half an hour from the time appointed for holding a
meeting of the company, a quorum is not present in the person, the meeting :-

if called upon the requisition of members, shall stand dissolved;

in any other case, it shall stand adjourned to the same day in the next
week, at the same time and place, or to such other day and time as the
Board of Directors may determine.

Motion
Motion means a proposal to be discussed at a meeting by the members. A resolution
may be passed accepting the motion, with or without modifications or a motion may
be entirely rejected. A motion, on being passed as a resolution becomes a decision. A
motion must be in writing and signed by the mover and put to the vote of the
meeting by the chairman. Only those motions which are mentioned in the agenda to
the meeting can be discussed at the meeting. However, motions incidental or

29
ancillary to the matter under discussion may be moved and passed. Generally, a
motion is proposed by one member and seconded by another member.

Amendment
Amendment means any modification to a motion before it is put to vote for adoption.
Amendment may be proposed by any member who has not already spoken on the
main motion or has not previously moved an amendment thereto. There can be an
amendment to an amendment motion also. A motion must be in writing and signed
by the mover and put to the vote of the meeting by the chairman. An amendment
must not raise any question already decided upon at the same meeting and must be
relevant to the main motion which it seeks to amend. The chairman has the
discretion to accept or reject an amendment on various grounds such as
inconsistency, redundancy, irrelevance, etc. If the amendment is adopted on a vote
by the members, it is incorporated in the body of the main motion. The altered
motion is then discussed and put to vote and if passed, becomes a resolution.

Kinds of Resolutions
Resolutions mean decisions taken at a meeting. A motion, with or without
amendments is put to vote at a meeting. Once the motion is passed, it becomes a
resolution. A valid resolution can be passed at a properly convened meeting with the
required quorum. There are broadly three types of resolutions :-

1. Ordinary Resolution :
An ordinary resolution is one which can be passed by a simple majority.
I.e. if the votes (including the casting vote, if any, of the chairman), at a
general meeting cast by members entitled to vote in its favour are more
than votes cast against it. Voting may be by way of a show of hands or by a
poll provided 21 days notice has been given for the meeting.

2. Special Resolution :
A special resolution is one in regard to which is passed by a 75 % majority
only i.e. the number of votes cast in favour of the resolution is at least three
times the number of votes cast against it, either by a show of hands or on a
poll in person or by proxy. The intention to propose a resolution as a
special resolution must be specifically mentioned in the notice of the
general meeting. Special resolutions are needed to decide on important
matters of the company. Examples where special resolutions are required
are :-

To alter the domicile clause of the memorandum from one State to

another or to alter the objects clause of the memorandum.
To alter / change the name of the company with the approval of the
central government
30
 To alter the articles of association
To change the name of the company by omitting "Limited" or "Private
Limited". The Central Government may allow a company with charitable
objects to do so by special resolution under section 25 of the Companies
Act, 1956.

3. Resolution requiring Special Notice :

There are certain matters specified in the Companies Act, 1956 which may be
discussed at a general meeting only if a special notice is given regarding the proposal
to discuss these matters at a meeting. A special notice enables the members to be
prepared on the matter to be discussed and gives them time to indicate their views on
the resolution. In case special notice of resolution is required by the Companies Act,
1956 or by the articles of a company, the intention to propose such a resolution must
be notified to the company at least 14 days before the meeting. The company must
within 7 days before the meeting give the notice of the proposed resolution to its
members. Notice of the resolution is required to be given in the same way in which
notice of a meeting is given, or if that is not practicable, the company may give notice
by advertisement in a newspaper having an appropriate circulation or in any other
manner allowed by the articles, not less 7 days before the meeting.

The following matters requiring Special Notice before they are discussed before tha
meeting :-

To appoint at an annual general meeting appointing an auditor a

person other than a retiring auditor.
To resolve at an annual general meeting that a retiring auditor shall not
be reappointed.
To remove a director before the expiry of his period of office.
To appoint another director in place of removed director.
Where the articles of a company provide for the giving of a special
notice for a resolution, in respect of any specified matter or matters.
Please note that a resolution requiring special notice may be passed either
as an ordinary resolution (Simple majority) or as a special resolution (75 %
majority).

Registration of Resolutions and Agreements

A copy of each of the following resolutions along with the explantory statement in
case of a special business and agreements must, within 30 days after the passing or
making thereof, be printed or typewritten and duly certified under the signature of
an officer of the company and filed with the Registrar of Companies who shall record
the same :-

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 1. All special resolutions
2. All resolutions which have been unanimously agreed to by all the members
but which, if not so agreed, would not have been effective unless passed as
special resolutions
3. All resolutions of the board of directors of a company or agreement executed
by a company, relating to the appointment, re-appointment or renewal of the
appointment, or variation of the terms of appointment, of a managing director
4. All resolutions or agreements which have been agreed to by all members of
any class of members but which, if not so agreed, would not have been
effective unless passed by a particular majority or in a particular manner and
all resolutions or agreements which effectively bind all members of any class
of shareholders though not agreed to by all of those members
5. All resolutions passed by a company conferring power upon its directors to
sell or dispose of the whole or any part of the company's undertaking; or to
borrow money beyond the limit of the paid-up share capital and free reserves
of the company; or to contribute to charities beyond Rs50000 or 5 per cent of
the average net profits
6. All resolutions approving the appointment of sole selling agents of the
company
7. All copies of the terms and conditions of appointment of a sole selling agent or
sole buying or purchasing agent
8. Resolutions for voluntary winding up of a company

Minutes of Proceedings of Meetings

Every company must keep minutes of the proceedings of general meetings and of the
meetings of board of directors and its committees. The minutes are a record of the
discussions made at the meeting and the final decisions taken thereat.

Every company must keep minutes containing details of all proceedings at the
meetings. The pages of the minute books must be consecutively numbered and the
minutes must be recorded therein within 30 days of the meeting. They have to be
written directly on the numbered pages. Pasting or attaching of papers is not
allowed. Each page of every such minutes books must be initialed or signed and last
page of the record of proceedings of each meeting in such books must be dated and
signed by :-

in the case of the meeting of the Board of directors or committee

thereof, by the chairman of that meeting or that of the succeeding meeting,
and
in the case of a general meeting, by the chairman of the same meeting
within the aforesaid 30 days or in the event of the death or inability of that

32
 chairman within the period, by a director duly authorised by the Board of
directors for the purpose.

169. Removal of directors

(1) A company may, by ordinary resolution, remove a director, not being a director
appointed by the Tribunal under section 242, before the expiry of the period of his
office after
giving him a reasonable opportunity of being heard:
Provided that nothing contained in this sub-section shall apply where the company
has availed itself of the option given to it under section 163 to appoint not less than
twothirds
of the total number of directors according to the principle of proportional
representation.
(2) A special notice shall be required of any resolution, to remove a director under this
section, or to appoint somebody in place of a director so removed, at the meeting at
which he is removed.
(3) On receipt of notice of a resolution to remove a director under this section, the
company shall forthwith send a copy thereof to the director concerned, and the
director,whether or not he is a member of the company, shall be entitled to be heard
on the resolution at the meeting.
(4) Where notice has been given of a resolution to remove a director under this
section and the director concerned makes with respect thereto representation in
writing to the company and requests its notification to members of the company, the
company shall, if the time permits it to do so,
(a) in any notice of the resolution given to members of the company, state the
fact of the representation having been made; and
(b) send a copy of the representation to every member of the company to
whom
notice of the meeting is sent (whether before or after receipt of the
representation by
the company),
and if a copy of the representation is not sent as aforesaid due to insufficient time or
for the companys default, the director may without prejudice to his right to be heard
orally require that the representation shall be read out at the meeting:
Provided that copy of the representation need not be sent out and the representation
need not be read out at the meeting if, on the application either of the company or of
any other person who claims to be aggrieved, the Tribunal is satisfied that the rights
conferred by this sub-section are being abused to secure needless publicity for
defamatory matter; and the Tribunal may order the companys costs on the application
to be paid in whole or in part by the director notwithstanding that he is not a party to
it.

33
 (5) A vacancy created by the removal of a director under this section may, if he had
been appointed by the company in general meeting or by the Board, be filled by the
appointment of another director in his place at the meeting at which he is removed,
provided special notice of the intended appointment has been given under sub-section
(2).
(6) A director so appointed shall hold office till the date up to which his predecessor
would have held office if he had not been removed.
(7) If the vacancy is not filled under sub-section (5), it may be filled as a casual
vacancy in accordance with the provisions of this Act:
Provided that the director who was removed from office shall not be re-appointed as a
director by the Board of Directors.
(8) Nothing in this section shall be taken
(a) as depriving a person removed under this section of any compensation or
damages payable to him in respect of the termination of his appointment as
director as per the terms of contract or terms of his appointment as director, or
of any otherappointment terminating with that as director; or
(b) as derogating from any power to remove a director under other provisions
of this Act.

Role of Comptroller and Auditor General of India

The external audit in India like ours derives its mandate from (a) the Constitution of
India and (b) Comptroller and Auditor Generals (Duties, Power and Conditions of
Service) Act 1971. The system of government audit in India has a long history,
starting from the days of the East India Company. The Constitution of India has
vested this function with the Comptroller and Auditor General of India (CAG). The
CAG is the head of the Supreme Audit Institution of India (SAI) and he derives his
duties and powers from Article 149 to 151 of the Constitution of India and the
Comptroller and Auditor Generals (Duties, Powers and Conditions of Service) Act
1971.

Under provisions of the Constitution of India and the Act, the CAG is the sole
auditor of accounts of the Central Government and the State Governments. The
external audit set up in our democratic set up is a means through which the
legislative accountability of the executive is ensured in the matter of finance.

Under provisions of Section 19 (1) of the Act, the duties and powers of the CAG in
relation to the audit of the accounts of Government companies shall be performed
and exercised by him in accordance with the provisions of the Companies Act 1956.

Under sub section (2) of Section 19 of the Act, the duties and powers of CAG in
relation to the audit of the accounts of corporations (not being companies)

34
established by or under law made by Parliament shall be performed and exercised by
him in accordance with the provisions of the respective legislations.

The sub section (3) of Section 19 of the Act provides that the Governor of a State or
the Administrator of a Union Territory having a Legislative Assembly may, where he
is of opinion that it is necessary in the public interest so to do, request the CAG to
audit the accounts of a corporation established by law made by the Legislature of the
State or of the union territory, as the case may be, and where such request has been
made, the CAG shall audit the accounts of such corporation and shall have, for the
purposes of such audit, right of access to the books and accounts of such corporation:
Provided that no such request shall be made except after consultation with the CAG
and except after giving reasonable opportunity to the corporation to make
representations with regard to the proposal for such audit.

Further, under provisions of Section 19-A of the Act, the reports of the CAG in
relation to audit of accounts of a Government company or a corporation shall be
submitted to the Government or Governments concerned which shall lay it, as soon
as may be after it is received, before each House of Parliament or Legislature.

The provisions of Section 619(2) of the Companies Act provide that the auditor of a
Government Company shall be appointed or reappointed by the CAG. While
appointing auditors of Government Company, CAG has taken steps for ensuring the
independence of auditors by adopting the system of rotation of auditors, prohibition
of certain services etc. A system of rotation of the auditors of Government companies
every four years has been adopted as a good practice. Sub Section 3 ibid provides that
the CAG shall have power

(a) to direct the manner in which the companys accounts shall be audited by the
auditor appointed in pursuance of sub-section (2) and to give such auditor
instructions in regard to any matter relating to the performance of his functions
as such;
(b) (b) to conduct a supplementary or test audit of the companys accounts by such
person or persons as he may authorize in this behalf; and for the purpose of such
audit, to require information or additional information to be furnished to any
person or persons so authorized, on such matters, by such person or persons, and
in such form, as the CAG may, by general or special order, direct. Sub section (4)
ibid provides that the auditor aforesaid shall submit a copy of his audit report to
the CAG who shall have the right to comment upon, or supplement, the audit
report in such manner as he may think fit. Any such comment upon or
supplement to the audit report shall be place before the Annual General Meeting
of the Company in terms of sub section (5) ibid at the same time and in the same
manner as the audit report. Thus the provisions made in the statutes and rules
and orders there under are comprehensive and foolproof. Despite such elaborate
and strong control and checks, we find that the best results are not forthcoming.
True that Finance, Accounts and Audit cannot be held responsible wholly for the
failures but at the same time, all these players in the financial sector can play a

35
 very significant role in minimizing, if not eliminating, the deficiencies in the
system and practices and shortfall in performance. We are at the threshold of a
new age with newer challenges and newer opportunities as a result of increasing
global interests of corporate world in our economy and in order to shoulder the
increased responsibilities we have to emerge stronger in the days to come.

SECURITIES AND EXCHANGE BOARD OF INDIA (SEBI)

The SEBI was extablished under the Securities and Exchange Board of India (SRBI)
Act, 1992 as an independent capital market regulatory authority with the objective to
protect the interests of investors in securities, promote and regulate the securities
market in India. The scams committed by Harshad Mehta in early nineties and
subsequently rigging of share prices by Ketan Parikh resulted in heavy losses to
public and erosion of faith in the capital market. These circumstances resulted in
passing of an ordinance to empower the SEBI which inter-alia hiked the monetary
penalties for various offences to either three time the undue gains made by a market
player or a maximum of Rs. 25 crore whichever is higher (as against the monetary
limit of Rs. 5 lakh earlier). Besides, the SEBI has also been granted powers to search
and seize books of accounts and other documents of the stockbrokers and
intermediaries after obtaining the approval of a Magistrate. The strength of the
Board has also been increased from six to nine of which three are full time directors,
excluding the Chairman. The ordinance was confirmed to make the amendments
part of the SEBI (Amendment) Act 2002. The SEBI is playing an important role in
promoting good corporate governance as would be evident from the following
discussions on the functions and powers of the Board:

Functions

1. Regulating the business in stock exchanges and any other securities markets;

2. registering and regulating the working of stock brokers, sub-brokers, share

transfer agents, bankers to an issue, trustees of trust deeds, registrars to anissue,
merchant bankers, underwriters, portfolio managers, investment advisers and such
other intermediaries who may be associated with securities markets in any manner;

3. Registering and regulating the working of the depositories, participants,

custodians of securities, foreign in institutional investors, credit rating agencies and
other intermediaries as the Board may, by notification, specify in this behalf.

4. Registering and regulating the working of venture capital funds and collective
investment schemes including mutual funds;

5. Promoting and regulating self regulatory organisations;

6. Prohibiting fraudulent and unfair trade practices relating to securities markets;

7. Promoting investors education and training of intermediaries of security markets;

36
8. Prohibiting insider trading in securities;

9. Regulating substantial acquisition of shares and take-over of companies;

10.calling for information from, undertaking inspection, conducting enquiries and

audits of the stock exchanges, mutual funds and other persons associated with the
securities market and intermediaries and self regulatory organizations in the
securities market;

11.performing such functions and exercising such powers under the provisions of the
Securities Contracts (Regulation) Act 1956, as may be delegated to it by the Central
Government;

12.levying fee or other charges;

13.conducting research;

14.calling from or furnishing to any such agencies, as may be specified by the Board,
such information as may be considered necessary by it for the efficient discharge of
its functions; 15.performing such other functions as may be prescribed. Powers
The Board is vested with same powers as are vested in a civil court in respect of
following matters, namely:

1. the discovery and production of books of account and other documents at

such place and at such time as may be specified by the Board;

2. Summoning and enforcing the attendance of persons and examining them

on oath;

3. Inspection of any books, registers and other documents of stockbrokers,

subbrokers, share transfer agents etc.

4. For the protection of investors interests, the Board may issue regulations
for (Section 11A): The matters relating to issue of capital, transfer of securities and
other matters incidental there to; and The manner, in which such matters, shall be
disclosed by the companies.

5. The Board may issue directions under section 11B to:

Stock-brokers, sub-brokers, share transfer agents, bankers to an issue,

trustee of trust deed, registrar to; an issue, merchant banker, underwriter, portfolio
manager, investment adviser and such other intermediary who may, be associated
with securities market. Depository, depository participant, custodian of securities,
foreign institutional investor, credit rating agency or any intermediary associated
with the securities market Sponsors of venture capital funds, or collective
investment schemes including mutual funds And to any company with regard to
matters to be disclosed by the companies as specified in section 11A

37
 1. Different intermediaries mentioned above can commence functioning in
their respective activities only after registration with the SEBI and complying with
requirements as stated under specific regulations mentioned for each

2. Stock-brokers, sub-brokers, share transfer agents, bankers to an issue,

trustee of trust deed, registrar to; an issue, merchant banker, underwriter, portfolio
manager, investment adviser and such other intermediary who may, be associated
with securities market can not buy, sell or deal in securities except under, and in
accordance with, the conditions of a certificate of registration obtained from the
Board in accordance with the regulations made under this Act.

3. No Depository, depository participant, custodian of securities, foreign

institutional investor, credit rating agency or any intermediary associated with the
securities market, as the Board may notify by notification, shall buy or sell or deal in
securities except under and in accordance with the conditions of a certificate of
registration obtained from the Board in accordance with the regulations made under
this Act.

4. No person shall sponsor or cause to be sponsored or carry on or cause to be

carried on any venture capital funds or collective investment schemes including
mutual funds, unless he obtains a certificate of registration from the Board in
accordance with the regulations.

5. No civil court shall have jurisdiction to entertain any suit or proceeding in

respect of any matter which an adjudicating officer appointed under this Act or a
Securities Appellate Tribunal constituted under this Act is empowered by or under
this Act to determine and no injunction shall be granted by any court or other
authority in respect of any action taken or to be taken in pursuance of any power
conferred by or under this Act. However, appeals against the decision of the
Securities Appellate Tribunal can be preferred before a High Court

SEBI initiated several steps for strengthening corporate governance through

the amendment of the listing agreement like:

Strengthening of disclosure norms for Initial Public Offerings (IPOs)

following the recommendations of the Malegam Committee and other reports;

Providing information in directors report for utilization and end use of

funds and variation between projected and actual use of funds.

Inclusion of cash flow statement in annual reports;

Declaration of unaudited quarterly results;

Filing of Limited Review Report with stock exchanges;

Mandatory appointment of compliance officer for monitoring the share

transfer process and ensuring compliance with various rules, regulations;

38
 Dispatch of one copy of complete balance sheet to every household and
abridged balance sheet to all shareholders.

Timely disclosure of material and price sensitive information including

details of all material evens having a bearing on the performance of the company.

Issue of guidelines for preferential allotment at market related prices;

Issue of regulations providing for a fair and transparent frame work for
takeovers and substantial acquisitions

Clause 49 requirements of corporate governance

The rights of shareholders and key ownership functions

The corporate governance framework should protect shareholders rights and
facilitate the exercise of shareholder rights.Basic shareholder rights include the right
to:

1) Secure methods of ownership registration; The enactment of Depositories Act

in August 1996 paved the way establishing the National Securities Depositories
Ltd. (NSDL), the first depository in India. This depository established a national
infrastructure of international standard that handles most of the trading and
settlement in dematerialized form in Indian capital market. Later, a second
depository was introduced, the Central Depository Services Ltd. (CDSL), which
maintains equally high standards of safety and efficiency Registration in
depository and the unique account number is proof of ownership for the
shareholders.

2) Convey or transfer shares;

There are no restrictions on the transferability of shares, except in the case

where the Board may, subject to the right of appeal conferred by section 111 of
the Companies Act, decline to register the transfer of shares, not being fully paid
shares, to a person they do not approve; on which the company has lien. The free
transferability of shares cannot be restricted by private contractual agreements

3) Obtain relevant information on the corporation on a timely and regular basis;

Most of the financial and non-financial information on the companies is available on
their websites or other commercial websites free of cost. Apart from this regular
filings with Stock Exchanges, SEBI and DCA are also available for shareholders
scrutiny free of cost or at a nominal cost. Moreover, detailed annual accounts are
sent to each shareholder, which contain the chairmans letter, management
discussion and analysis, directors report with its annexes, report on corporate

39
governance, additional shareholder information, balance sheet, profit and loss
account with all its detailed schedules plus notes on accounts, auditors note, cash
flow statement, etc

4) Participate and vote in general shareholder meetings; Board of directors are

entrusted with the duty of convening the Annual General Meeting and Extra
Ordinary General Meeting. In addition, shareholders may ask the board of directors
to hold an Extra Ordinary General Meeting. This is usually known as Requisition
Meeting.

5) Elect and remove members of the board; Section 257 of the Companies Act, 1956,
enables shareholders to elect members of the Board of Directors. Section 284 of the
Companies Act enables a company to remove a director through an ordinary
resolution

6) Share in the profits of the corporation. A company can declare dividends only out
of current profits after providing for depreciation; or out of undistributed profits of
previous years after providing for depreciation; or out of monies provided by the
Central or State Government for the payment of dividend in pursuance to a
guarantee given by that Government. Section 205 207A of the Companies Act deals
with declaration and distribution of dividends. Even as the Board of directors are
responsible for the declaration of dividend, it has to be approved by the shareholders
in annual general meeting must approve such dividends. Shareholders also have the
power to reduce the quantum of dividend proposed by the Board of directors though
they can never enhance it. Board of directors can authorise interim dividend
provided the articles of association permit it. The amount of dividend along with the
interim dividend shall be deposited in a separate bank account within five days of the
declaration and should be used solely for payment of dividend. A company has to
compulsorily transfer a certain percentage of dividends to reserve subject to a
maximum of 10 per cent as per Companies (Transfer of Dividend to Reserves) Rules,
1975. A company can also pay dividend by capitalizing its reserves also known as
bonus dividend.

B. Shareholders should have the right to participate in, and to be sufficiently

informed on, decisions concerning fundamental corporate changes such as:

1) Amendments to the statutes, or articles of incorporation or similar governing

documents of the company; Shareholders have the right to participate, be sufficiently
informed and vote on amendments to company articles or statute; appointment and
removal of directors; appointment and removal of auditors; authorizing share
capital; issuing share capital; remuneration of board members; major corporate
transactions, such as acquisitions, disposals, mergers and takeovers; transactions
with related parties and changes to company business, or objectives among other

40
things. Some of these resolutions require simple majority of the shareholders while
others require 75 per cent majority

2) The authorization of additional shares; As mentioned earlier, pursuant to the

Companies Act, 1956, shareholders have the right to participate in the decision to
issue new shares. To raise fresh capital a company is required to pass a special
resolution (requiring approval by over 75% of shareholders, present and voting) to
this effect.

3) Extraordinary transactions

. Minority shareholders should be protected from abusive actions by, or in the

interest of, controlling shareholders, acting either directly or indirectly, and should
have effective means of redress. The Companies Act confers fairly strong rights to
shareholders in matters dealing with oppression by minority or mismanagement.
Section 397 of the Act deals with relief in the case of oppression and section 398 with
mismanagement. In either case, 100 or more shareholders, or a number representing
at least one-tenth of the total number of shareholders, whichever is less, can apply to
the Company Law Board if they believe that that the affairs of the company are being
conducted in a manner prejudicial to the public interest or to the interest of the
company, or in a manner oppressive to any shareholder. Shareholders can also file
an application if mismanagement arises due to a change in the board or control of
the company, which they believe, can result in affairs of the company being
conducted in a manner prejudicial to public interest or to the interest of the
company. In such cases, the CLB, can if it sees fit, order to end such
oppression/mismanagement by i) Directing the manner in which affairs of the
company would be conducted in the future; ii) Ordering the majority to purchase the
shares held by the oppressed minority; iii) Terminating, setting aside or modifying
any agreement with the management; or iv) By other means thought equitable

Comparative Analysis on Minority Rights on Oppression and

Mismanagement Under Companies Act, 1956 And Companies Bill, 2011
Minority Protection- Prevention of Oppression and Mismanagement under
Companies Act, 1956

The Rule of Minority:

The principle of rule by majority has been applicable to the management of the
affairs of the companies. The members pass resolutions on various subjects either
by simple majority or by special majority. Once a resolution is passed by the
requisite majority then it is binding on all the members of the company. On
becoming a member, each person impliedly gives consent to the will of the
majority. Thus, if the wrong is done to the company, it is the company which is the
legal entity having its own personality and that can only institute a suit against the

41
wrongdoer, and the shareholders individually do not have a right to do so.

Palmer has laid down two propositions after the case of Foss v/s Harbottle are as
follows:
1. The first proposition, which is that the court will not ordinarily intervene in the
case of an internal irregularity if the matter is one which the company can ratify or
condone by its own internal procedure.

2. The second is that where it is alleged that a wrong has been done to a company,
prima facie, the only proper plaintiff is the company itself.

The Advantages to the the rule in Foss v/s Harbottle:

1. Recognition of the separate legal personality of the company
2. Need to preserve right of majority to decide
3. Multiplicity of futile suits avoided
4. Litigation at suit of a minority futile if majority does not wish to
Acts held as Oppression
The following are the few acts which are said to be as oppression through various
judgments
1. Not calling a general meeting and keeping shareholders in dark.
2. Non-maintenance of statutory records and not conducting affairs of the company
in accordance with the Companies Act.
3. Depriving a member of the right to dividend.
4. Refusal to register transmission under will.
5. Issue of further shares benefiting a section of shareholders.
6. Failure to distribute the amount of compensation received on nationalisation of
business of company among members, where required to be so distributed.

Acts not held as Oppressive

The following are the few acts which are said not to be as oppression through
various judgments
1. An unwise, inefficient or careless conduct of director.
2. Non-holding of the meeting of the directors.
3. Not declaring dividends when company is making losses
4. Denial of inspection of books to a shareholder.
5. Lack of details in notice of a meeting.
6. Non-maintenance/Non-filing of records.
7. Increasing the voting rights of the shares held by the management.

The term of Mismanagement under Companies Act, 1956:

Mismanagement simply means inefficient or careless management of a companys
affairs or properties. Mismanagement of a company may be carried out by the
majority shareholders, who work towards their personal interests rather than the
interests of the company as a whole.

Section 398 of the Companies Act 1956 provides the circumstances the relief can be

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made available to the requisite number of members as laid down under Section 399
in case of mismanagement.

A Critique of the Corporate Governance Reforms Under the Companies

Act, 2013

This section discusses a few of the changes tabulated above in light of comparable
legislation in other countries.

A. Directors: Saliently, the new act defines the concept of Independent

Director. Previously, clause 49 of the Listing Agreement defined the concept;
the definition under the new companies act is stricter than the definition in
clause 49. However, the fraud at Satyam Computers teaches us that directorial
independence is likely to be compromised by social ties between the
promoter/ management and the independent director concerned. It is difficult
to define all the proxies of independence exhaustively. In this regard, it may
be helpful to take a leaf out of jurisprudence emanating from Delaware that
distinguishes independence from disinterest and determines whether a
particular director is disinterested, on a case by case basis. In other words, ex
post determination (instead of ex ante prescription) of independence, may
ensure genuine independence among independent directors.
The new act has incorporated a limitation of liability provision for the non-
executive directors. Accordingly, a non-executive director will be exempt from
liability for any action or omission under the act, unless the action/ omission
occurred with her knowledge, is attributable to the board process, the board
acted with the directors connivance or the director is negligent. The
exemption is a welcome addition; non-executive directors lend their time and
expertise to companies without being involved in day-to-day operations of the
company. They have to therefore rely on their executive counterparts for
information about the affairs of the company. The information asymmetry
makes them inefficient bearers of the risk of liability. However, it appears that
the protection available under the said provision should also have been
extended to actions/ omissions of the company, under acts other than the
companies act. Anecdotal evidence suggests that non-executive directors have

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 been prosecuted in the past in cases of cheque bouncing and environmental
disasters, without having knowledge of any violation. The absence of
protection from prosecution under these laws may inhibit supply of quality
expertise to companies on the one hand, and add to the cost of hiring non-
executive directors (through enhanced D and O insurance premium, for
example) on the other.

The new act also explicitly defines duties of all directors. It obligates the
directors to take a stakeholder approach in their decision-making and
consider the interests of community, employees, environment along with
shareholder in good faith. This explicit mandate marks a shift from a
shareholder-centric anglo-saxon model of corporate law to the stakeholder-
centric model of corporate law (that some continental economies like
Germany) have adopted. The Indian experiment is peculiar in the sense that
the stakeholder approach to corporate decision making is nonetheless situated
in a unitary board structure that is answerable to the shareholders (members).
Germany, for instance, has a two-tier board structure, to account for the
stakeholder approach. Furthermore, the new act has stopped short of
according explicit procedural rights to either of the stakeholders to enable
enforcement of these directorial duties
Finally, the new act also mandates that boards of certain prescribed
companies retain at least one woman director on their roster. Anecdotal
evidence after the new act entered into force indicates that some companies
are appointing women from the promoter group to comply with the mandate.
2 A research by Prime Database, a repository for directors, indicates that of
the 78 appointments made since the new act (and the Listing Agreement
amendments) entered into force and June 30 2014, of which, 25 % of the
appointments have been from the promoter group itself.

B. Related Party Transactions: The new act mandates that all companies take
approval from the board, audit committee as also shareholders (through
special resolution) for defined related party transactions over prescribed
thresholds. It also prescribes that all related parties recuse themselves from
voting on such resolutions. In other words, the act prescribes a majority of a
minority approval for related party transactions. The thresholds for
qualifying related party transactions (for seeking shareholder approval) are
defined as certain percentage of the companys turnover or net worth. As such,
smaller companies are likely to require complying with these provisions more
than companies with larger balance sheets. Furthermore, the provisions as
drafted apply to all companies, public and private. It appears that there is a
business case for exempting private companies from the ambit of these
provisions given the unity of ownership and control in the private company
structure. Accordingly, the risk of promoter group funneling corporate assets
through such transactions is lower in these types of companies. Finally, the

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 new act has defined the transactions that would constitute related party
transactions exhaustively. Recent anecdotal evidence however suggests that
the defined set of transactions is not comprehensive enough; for instance,
Cairn India lent INR 7500 Crores to its parent, Vedanta plc at an extremely
low interest rate in July this year. It could do the same without adhering to
any of the compliances prescribed in the aforementioned provisions because
loan transaction is not a qualifying related party transaction within the
meaning of law as it stands. (However, LIC in more precision may not
necessarily solve the issue since laws will always remain incomplete at the
penumbra, and may therefore be gamed again.
C. Executive Remuneration: The new act, strikingly, provides that independent
directors may not be paid in stock options. It permits them to be paid in
profit-linked commissions apart from sitting fees. The proscription on stock
options is a departure from the policy hitherto advised or adopted. Both the
Narayan Murthy Committee and the clause 49 (as it then stood), were
affirmative about compensating the independent directors in stock options. 3
Borrowing from the Dodd-Frank Act, the new Act also mandates disclosure of
ratio of directorial compensation and median employee-pay. The provision
relies on shame sanctions for excessive executive compensation and wastage
of corporate assets. It may be pointed out however that horizontal agency
costs rather than vertical agency costs are a peculiar feature of capitalist
systems with concentrated promoter shareholding. In such settings, there is a
risk that promoter-shareholder tunnels corporate assets to promoter-owned/
controlled vehicles through related party transactions and the like. Excessive
compensation is more prominent feature of well developed capitalist systems
where the decoupling between ownership and control is sharper and
executives impose vertical agency costs on shareholders at large including
through excess compensation.
D. Auditors: Auditor law in the new act incorporates the teachings of accounting
fraud at Satyam Computer Services in 2008. PwC failed to monitor and detect
fraudulent revenue recognition policies followed by the promoter-
management even though the firm audited the accounts for nearly a decade.
This had raised concerns about auditor-complicity in the accounting fraud.
Arthur Anderson, the erstwhile auditors to Enron Corporation (Enron) was
similarly impugned for the accounting fraud and the subsequent collapse of
Enron. The new act mandates rotation of auditor firms after two consecutive
terms of five years each, to mitigate the risk that auditor-independence is
compromised on account of either pecuniary consideration or social ties. It
provides a look-back period of five years before the audit firm can be
reappointed
E. Mergers and Acquisitions: The new act permits an Indian company to be
merged into a foreign company. Hitherto, there was no provision for an
Indian company to merge into a foreign company, although it could acquire
and merge a foreign company into it. Further, it enables the foreign company

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 to use IDRs as a transaction currency in such a merger. In other words, the
Indian shareholders of the merged company may be paid in IDRs as
consideration of the merger. Both these measures ought to be welcomed;
permitting an Indian company to merge into a foreign company allows the
Indian entrepreneurs to exit their business and gain better value for their
investments because of a wider universe of potential buyers to choose from.
Since the IDRs are derivatives instruments deriving their value from shares of
the foreign company and denominated in INR, Indian shareholders of the
merged Indian entity are not exposed to any currency risk. Finally, IDRs are
non-dilutive for the shareholders of the foreign surviving company and as
such, their shareholding in the foreign company remains identical pre and
post transaction. The new act permits the so-called shot-gun mergers
mergers between two or small companies and merger between a parent and its
wholly owned subsidiary without any approval from the NCLT 5 thus reducing
compliance requirements for transactions where all interests are privately
held. Finally, the new act prescribes a higher threshold for dissenting
shareholders\ creditors to challenge an arrangement or compromise before
the competent tribunal. It prescribes that members shall hold not less than 10
% of the outstanding share capital of the company to have any locus for
objecting the transaction. Likewise, creditors holding not less than 5 % of
outstanding debt may also challenge the transaction. The higher thresholds
prescribed for objecting to an arrangement mitigates the risk that hold-outs
without having adequate skin in the game obstruct a transaction beneficial
to all the shareholders concerned.
F. Class Action Rights: The new act strikes a significant blow for the cause of
shareholders by empowering them with class action rights. Accordingly, not
less than 100 members (if the company has share capital) and not less than 20
% of members (if the company does not have share capital) may file an
application at the National Company Law Tribunal (NCLT) for a host of
reliefs including preventing the company from acting ultra vires its
constituent documents, from breaching its constituent documents, preventing
the company from acting in violation of a resolution and claiming damages/
compensation from directors, auditors and consultants for any breach of duty
on the latters part to the company, if they are of the opinion that the affairs of
the company are being conducted in a manner prejudicial to the company or
its members. The new act also symmetrically empowers depositors of a
company. The substantive trigger for a class action suit is the opinion that
affairs of the company are being conducted in a manner prejudicial to the
company or members; this language borrows from Section 241 of the new act
that empowers members to move the NCLT on account of oppression. Section
241 is similar to Section 397 of the Companies Act, 1956. Jurisprudence
related to Section 397 teaches us that for cause to arise under the erstwhile
section 397, the majority shareholders shall have acted wrongfully towards the
minority shareholders qua shareholders, for a continuous period, leading up

46
 to the application.6 It appears that this threshold would apply to class action
litigation given the similarity in language and will therefore impose a higher
burden of proof on the class of shareholders moving the tribunal. The
deterrence sought to be achieved by the procedural remedy is likely to be
muted given the higher burden of proof imposed by the language. However,
inclusion of class action remedy mitigates the collective action dilemma
that would occur in the absence of such provision, where no member moves
the judicial authority to enforce their collective rights owing to, concentrated
costs and diffuse benefits of such recourse.
G. Tribunals and Authorities: The new act also establishes a new statutory
framework to replace the High Court and the Company Law Board under the
previous regime. It has constituted the NCLT and its appellate authority that
will perform the tasks and exercise the powers the High Court and the
Company Law Board exercised in the previous regime. The new regulatory
apparatus is empowered under the new law to adjudicate issues arising out of
oppression and mismanagement, approve schemes of merger and other
arrangements between shareholders/ creditors et al. Sections 407 through
434 of the new act deal with the NCLT and the appellate authority. The NCLT
shall have a President, Judicial and Technical Members. The President shall
have been a judge of the High Court for five years; the Judicial Members shall
have either been, advocate having experience of not less than a decade, a judge
of the district court for not less than half a decade or a judge of a high court of
not less than half a decade. The members of the Tribunal (and the technical
members of the appellate tribunal) are to be chosen by a committee consisting
of 3 bureaucrats and 2 Judges. The Madras Bar Association has filed a writ
petition in the Supreme Court alleging that the provisions of the new act
related to the NCLT are ultra vires the directions of the Supreme Court
regarding design of such tribunals.7 The Serious Fraud Investigation Office
and the NFRA are the other investigative/regulatory established under the
new act. The NFRA, established pursuant to Section 132 of the new act, shall
make recommendations to the central government on the formulation of and
laying down of accounting and auditing policies and standards. It is further
empowered to monitor and enforce compliance with the accounting
standards, oversee the quality of service provided by auditors and accountants
etc. The Central government has the discretion of consulting with and
examining the recommendations made by the NFRA, before prescribing the
standards recommended by the Institute of Chartered Accountants of India.
The SFIO will have the competence to investigate frauds relating to the
company. The establishment of SFIO gives the central government the option
of entrusting investigation into the affairs of a company, to the SFIO. The
SFIO will comprise of experts including from the field of banking, corporate
affairs, taxation, forensic audit and as such, is empowered to investigate
complex cases of fraud, capacity whereof, is not otherwise available to regular
enforcement authorities.

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