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Are alternate directors obsolete?

“Alternate” means a person who acts as a deputy or substitute. An alternate director acts as the substitute for a director in cases of his absence for a prolonged period of time. The provisions relating to the appointment of the alternate directors were covered under Section 313 of the erstwhile Companies Act of 1956 and were later incorporated into the Companies Act 2013, almost verbatim. However, while the erstwhile company law allowed for the appointment of alternate directors in case of the absence of the original director from the State in which Board meetings are ordinarily held, the present law permits the appointment only when the original director is absent from India for more than 3 months. However, neither the erstwhile Act nor the law currently in force provides complete clarity on the role and status of an alternate director on the Board. It also raises a plethora of corporate governance issues.

A threat to corporate democracy?

The separation between ownership and management of the company is inevitable when it comes to large corporates with a wide range of geographically scattered shareholders. Therefore, the shareholders entrust a team of skilled professionals to manage the company, either selected from among themselves or externally, who constitute the Board of Directors of the company. The shareholders elect the Directors, and the Directors manage the company for them. This is corporate democracy in a nutshell.


Section 152(2) of the Companies Act 2013 provides that “save as otherwise expressly provided in this Act, every director shall be appointed by the company in general meeting.” The idea is that the investors of the company shall have a say in who handles the funds they have put into the company. However, the law allows for certain exceptions to this rule by granting the Board of Directors certain limited powers to appoint members to the Board directly. Section 161 of the Companies Act 2013 allows directors and alternate directors the appointment of additional directors without the approval of shareholders if permitted by the Articles of Association of the company.

According to Section 161(1), the Board of Directors may appoint any person as an Additional Director who shall hold office up to the date of the next annual general meeting or the last date on which the annual general meeting should have been held, whichever is earlier, if authorised by the Articles of Association. This provision is a relaxation given to ensure continuity of business, as meetings of shareholders are not frequent, and it may not be practical for the company to wait for the next general meeting to bring in a new person to the Board. It may also be required to ensure the necessary quorum for Board meetings, especially in emergencies like death or unexpected resignations or removals of Directors.


The period for which an Additional Director may hold office is constrained, that is, up to the date on which the next AGM is held or supposed to be held in case of unlisted companies and 3 months in case of listed entities.[1] If the Additional Director so appointed fails to get regularised in the next AGM, his term of office shall cease. Hence, this is a short leash provided to the management of the company to induct a new member to the Board immediately and obtain the blessings of the owners later.

Contrary to the above provisions, the powers given to the Board to appoint Alternate Directors is a much wider and unrestricted power, as the appointment is not subject to ratification by the shareholders. The period of appointment of the Alternate Director can be as long as that of the Original Director, and he shall vacate the office when the Original Director returns to India.


The practical ramifications of these provisions are that a person who was not selected by the owners of the company can be a permanent part of the Board and management of the company without ever requiring the approval of shareholders. He may remain Director indefinitely unless the shareholders take active steps and remove him from the position. But even such a removal would not vitiate the acts he did as a director of the company during his tenure, because the appointment was not illegal. This creates a unique situation in which the company and its owners are bound by the acts and deeds of an agent that they did not appoint, which, in the opinion of the author, violates the essence of shareholders' democracy and good corporate governance.

 

Digital Era and Obsolete Role of Alternate Directors

The provisions for alternate directors were crafted at a time when the absence of a director from the country meant a near-absolute inability to attend Board meetings and participate in the affairs of the company, creating a situation requiring the appointment of an alternate person for the director who is permanently stranded in some corner of the world. The Companies Act, 1956 did not provide for virtual/ electronic meetings, and a director permanently residing outside the state where Board meetings were ordinarily held, would naturally face difficulty in attending the meetings.


Then, the Companies Act 2013 came with a revolutionary breakthrough, that is, the introduction of provisions for holding meetings through Video Conferencing or Other Audio-Visual Means. However, the legislature adopted the erstwhile provisions relating to alternate directors into the new Act with little to no modifications. In the new digital era, where Board meetings can be conducted anywhere, and directors can attend meetings from different countries through electronic means, it is not just a possibility but a rather common scenario where the original director and alternate director are present at the meeting together, thus revealing this legal blackhole.


This raises the question, does a non-resident director attending the meeting through VC/OAVM constitute him “returning to India”? If so, does the term of the Alternate Director appointed in his stead cease when the Original Director starts participating in the affairs of the Board through electronic means? Or is the provision to be given a strict and literal interpretation?


It is high time that the legislature revisits the provisions relating to alternate directors and checks their relevance in the new digital era of virtual Board meetings.

 

Grey areas in law

The redundancy of the concept aside, to this date, the legislature has not provided any clarity on the powers and status of an alternate director. The only aspect the law specifies is the term of the Alternate Director. On the other aspects, since the Act does not state to the contrary, we are to assume that an alternate director has the same powers, rights and status as any other director, including the right to attend the Board meetings and speak, participate and vote in them. His name appears on the Master Data of Signatories in the MCA Database; he gets notices and proceedings of the meetings, and he is counted for the purpose of quorum.


Unlike in shareholders meetings, the law does not allow directors to participate in the Board meetings through proxies or authorised representatives. A proxy is an agent authorised to act on behalf of another party. Under Companies Act, 2013, a proxy has only very limited powers. A proxy can cast a vote at general meetings at the instance and as per the instructions of the shareholder but cannot speak or otherwise participate in the meeting.


Unlike a proxy, an alternate director is, for every intent and purpose, a director of the company, who attends, participates and votes in Board meetings, and takes part in the regular management of the company. Hence, it can be safely said that an alternate director is not akin to a proxy for a shareholder.


This raises several questions.

  1. If the original director attends the meeting through Videoconferencing or Other Audiovisual Means, can the alternate director attend and participate in the meeting?

  2. Once an alternate director is appointed, are there any restrictions on the rights and powers of the original director during his absence from India?

  3. Will the original and Alternate Director be counted as one for the purpose of quorum or as two separate directors?

  4. Do the alternate directors and original directors each get an individual vote, or can the original director alone vote at the meeting?

  5. If the original director is interested in a transaction but the alternate director is not, can the alternate director be present at the meeting during the discussion of the item and participate in it?

At the root of all these questions lies the underlying issue of whether there exists a principal-agent relationship between the alternate director and the original director. If yes, whether the alternate director is duty-bound to vote at Board meetings at the behest of the original director.

 

Principal-Agent Relationship

In the author's opinion, the Original Director and Alternate Director do not have a principal-agent relationship. The Alternate Director is neither bound by the instructions of the original director nor are his actions attributable to the original director. He is an officer and agent of the company, not of the original director. He is not a proxy or representative of the original director. The law does not provide immunity to alternate directors, who are liable for their actions just like any other. The law cannot impose liability without agency and sovereignty. Hence, it can only be concluded that the alternate director is as much an officer of the company as any other director on the Board. It is also pertinent to note that the alternate director is not nominated or selected by the original director but collectively appointed by the Board of Directors.


In the author's opinion, this means that the original director and alternate director are to be treated as two separate, independent, and autonomous individuals. This means that the alternate director can still attend the meeting even when the original director is present through videoconferencing, and they shall be counted as two for the purpose of quorum. They should even get two separate votes.


There is another school of thought that the appointment of an alternate director would imply an automatic moratorium on the powers, duties and responsibilities of the original director. Since the spirit of the law was to account for a situation where a director is unable to participate in the affairs of the company due to geographical constraints, once the company avails of the remedy provided to bridge that constraint, the original director can no longer exercise his rights and powers through other means. This would also mean that an original director voluntarily attending a Board meeting through electronic means would constitute his returning to India, making the purpose of appointment of the Alternate Director redundant, thus ceasing his term of office.


However, the author does not share this view, as this is a rather restrictive interpretation to adopt and does not have the backing of the law. The letter of the law does not explicitly provide for the suspension of duties and powers of the original director after the appointment of the alternate director. Nor does it place any restriction on the rights of the alternate director in the event of availability of the original director to participate in the affairs of the Board from remote.

 

Conclusion

The Companies Act, both the erstwhile and the present one, only restricts the term of office of the alternate director to be determined on the basis of the term of the original arrival back in India. The Act does not mention any limitations on his powers or duties as director and treats him like any other director of the Board. Why would the legislature leave such huge gaps in law and leave the corporates in utter confusion?


The only explanation is that while drafting these provisions, the lawmakers did not anticipate a situation where an original director and alternate director could attend meetings and participate in the company's management at the same time. In other words, the lawmakers did not account for the digital revolution while incorporating these provisions into the new company law.


In the author's opinion, the provision for the appointment of an alternate director shall be repealed for two reasons. Firstly due to its redundancy in the digital world, and secondly due to its threat to corporate democracy. It is not ideal for a person who is not appointed by the shareholders to occupy a position on the Board of Directors for an indefinite period of time, with no requirement for ratification from the shareholders. The legislature needs to review these provisions and update them according to the changing trends of the corporate world.

 

 

Kavya R Das, LLB, ACS

Company Secretary.


Reference

[1] Regulation 17(1C) of the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015

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