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UNIT – 1
INTRODUCTION AND JURISPRUDENCE

Concept of Corporate Governance

“Corporate Governance is not just about making the right decision; it is about the process
of making right decision”
Corporate Governance refers to the way in which the companies are governed. It is a system
of rules, practices and processes that a firm uses to direct the organization towards achieving
its overall objectives. Corporate Governance essentially involves the management and the
board of the company taking decisions and formulating policies at the corporate level. It
includes the balancing relationships between many stakeholders involved. It encompasses
practically every sphere of management.

Sum up:
 Doing right things in right way- to run a company in a manner to achieve its
objective and maximize the profit.
 Good governance incorporation helps companies in attracting investors, increases
sales, & ultimately enhance profit.

Definitions
According to OECD (2004) concept of Corporate Governance – “Corporate Governance
involves a set of relationship between a company’s management, its board, its shareholders and
other stakeholders. Corporate governance also provides the structure through which the
objectives of the company are set, and the means of attaining those objectives and monitoring
performance is determined”

President of CONFEDERATION OF INDIAN INDUSTRIES (CII), Shekhar Dutta said

that “the Corporate Governance is a phrase which implies transparency of management system
in business and industry, be it private sector, public sector of the financial institution – all of
which are corporate entities. Just as so also, the debate on Corporate Governance seeks
transparency in the corporate sector”.
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“Corporate governance is to conduct the business in accordance with the owners or

shareholder’s desires, which generally will be to make as much money as possible while
conforming to the basic rules of the society embodied in law and customs”. –Milton
Friedman.

"Corporate Governance is the application of Best Management Practices, Compliance of Laws

in true letter and spirit and adherence to ethical standards for effective management and
distribution of wealth and discharge of social responsibility for sustainable development of all
stakeholders."- ICSI

Need for Corporate Governance

(i) Wide Spread of Shareholders:
Today a company has a very large number of shareholders spread all over the nation
and even the world; and a majority of shareholders being unorganised and having
an indifferent attitude towards corporate affairs. The idea of shareholders’
democracy remains confined only to the law and the Articles of Association; which
requires a practical implementation through a code of conduct of corporate
governance.

(ii) Changing Ownership Structure:

The pattern of corporate ownership has changed considerably, in the present-day-
times; with institutional investors (foreign as well Indian) and mutual funds
becoming largest shareholders in large corporate private sector. These investors
have become the greatest challenge to corporate managements, forcing the latter to
abide by some established code of corporate governance to build up its image in
society.

(iii) Corporate Scams or Scandals:

Corporate scams (or frauds) in the recent years of the past have shaken public
confidence in corporate management. The event of Harshad Mehta scandal,
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which is perhaps, one biggest scandal, is in the heart and mind of all, connected
with corporate shareholding or otherwise being educated and socially conscious.

(iv) Greater Expectations of Society of the Corporate Sector:

Society of today holds greater expectations of the corporate sector in terms of
reasonable price, better quality, pollution control, best utilisation of resources etc.
To meet social expectations, there is a need for a code of corporate governance, for
the best management of company in economic and social terms.

(v) Hostile Take-Overs:

Hostile take-overs of corporations witnessed in several countries, put a question
mark on the efficiency of managements of take-over companies. This factors also
points out to the need for corporate governance, in the form of an efficient code of
conduct for corporate managements.

(vi) Huge Increase in Top Management Compensation:

It has been observed in both developing and developed economies that there has
been a great increase in the monetary payments (compensation) packages of top
level corporate executives. There is no justification for exorbitant payments to top
ranking managers, out of corporate funds, which are a property of shareholders and
society.

Principles of Corporate Governance

Accountability - “You can’t manage what you cannot measure “
The corporate governance framework should provide for the strategic guidance of the
company, the effective monitoring of management by the board, and the board’s
accountability to the company and shareholders.

Fairness - “The fairness of markets is closely linked to investor protection and, in

particular, to prevention of improper trading practices, which leads to confidence in the
markets “
The corporate governance framework should protect shareholder rights and ensure the
equitable treatment of all stakeholders, including minority and foreign shareholders.

Transparency - “Sunlight is the best disinfectant “

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The corporate governance framework should ensure that timely and accurate disclosure is
made on all matters regarding the company, including its financial situation, performance,
ownership, and governance structure.

Responsibility –
An effective system of corporate governance must strive to channel the self-interests of
managers, directors, and the advisers upon whom they rely, into alignment with corporate,
shareholder and public interests.

The Evolution of the Modern Corporation Vis-À-Vis Corporate Governance

 What is corporation?
Corporation, specific legal form of organization of persons and material resources, chartered
by the state, for the purpose of conducting business.

 History of Corporation
Corporations have existed since the beginning of trade. From small beginnings they assumed
their modern form in the 17th and 18th centuries with the emergence of large, European-
based enterprises, such as the British East India Company. During this period of colonization,
multinational companies were seen as agents of civilization and played a pivotal role in the
economic development of Asia, South America, and Africa. By the end of the 19th century,
advances in communications had linked world markets more closely, and multinational
corporations were widely regarded as instruments of global relations through commercial ties.
While international trade was interrupted by two world wars in the first half of the twentieth
century, an even more closely bound world economy emerged in the aftermath of this period
of conflict.

Over the last 20 years, the perception of corporations has changed. As they grew in power and
visibility, they came to be viewed in more ambivalent terms by both governments and
consumers. Almost everywhere in the world, there is a growing suspicion that they are not
sufficiently attuned to the economic well-being.

The rising awareness of the changing balance between corporate power and society is one
factor explaining the growing interest in the subject of corporate governance. Once largely
ignored or viewed as a legal formality of interest mainly to top executives, boards, and lawyers,
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corporate governance for some time now has been a subject of growing concern to social
reformers.

 History of Anglo American Corporation

Sir Ernest Oppenheimer Morgan, he formed the Anglo American Corporation of South Africa,
Ltd., to exploit the east Witwatersrand goldfield. Two years later he formed Consolidated
Diamond Mines of South West Africa, Ltd. (reformed as the Namdeb Diamond Corp. in 1994).
This diamond prospecting corporation was so successful that he gained control of the De Beers
Consolidated Mines, which once dominated the world diamond market, and in 1930 established
The Diamond Corporation, Ltd. Anglo American has a primary listing on the London Stock
Exchange and is a constituent of the FTSE 100 Index. The company has a secondary listing on
the Johannesburg Stock Exchange. In the 2020 Forbes Global 2000, Anglo American was
ranked as the 274th -largest public company in the world.

 History of Corporate Governance

The term “Corporate Governance” first appeared in the Federal Register in the US in 1976.
Officially naming the term allowed regulators and companies to start defining how structured
boards and best practices could be quantified into a benchmark. The first evidence of this was
the New York Stock Exchange requiring listed companies to incorporate an audit committee
to their board, the members of which must be Independent Non-Executive Directors (INEDs).
Governance, however, is constantly evolving, with an era of economic decline propelling
changes forward.

By 2007, banks had been taking excessive risks and there was growing concern about a possible
collapse of the world financial system. Governments sought to prevent fallout by offering
massive bailouts and other financial measures. The collapse of the Lehman Brothers bank
developed into a major international banking crisis, which became the worst financial crisis
since the Great Depression in the 1930s. Congress passed the Dodd-Frank Wall Street Reform
and Consumer Act in 2010 to promote financial stability in the United States. The fallout from
the financial crisis has placed a heavier focus on best practices for corporate governance
principles. Boards of directors feel more pressure than ever before to be transparent and
accountable.
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 Anglo-US Model
The Anglo-US model is also recognized as the Anglo-Saxon model of corporate governance.
It holds bases in Britain, Canada, America, Australia and CommonWealth Countries including
India. It is a shareholder-oriented model, meaning, the rights of shareholders are given
importance. The organizations are run by managers having negligible ownership stakes and the
Directors are rarely independent of management. Small investors are encouraged and large
investors and discouraged from actively participating in corporate governance. Institutional
investors like banks and mutual funds have the right to sell their shares if they are not satisfied
with the performance of the organisation.
Shareholder approval required in two important decisions;

 Election of director
 Appointment of auditor

Three key players Management, Director and Shareholder also refer as "Corporate
Governance Triangle".
Directors

Management Shareholders

 The German Model

The German Model is also recognized as the European model or Continental model. This model
considers the workers as the key stakeholders and they should have the right to participate in
the management of the company. Corporate governance through the German model is carried
via a two-tier board model. These two boards are-

 Supervisory Board- The members of the supervisory board are elected by the
shareholders of the organization. The employees also elect their representatives which
can essentially constitute one-third or half of the board.
 Executive Board- The Executive Board is appointed by the Supervisory board and is
monitored by the same. The Supervisory board reserves the right to dismiss or re-
institute the Executive board.
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 Stages of development of Corporate Governance in USA

Years Developments
1977 The Foreign Provides for specific provisions regarding establishment,
Corrupt maintenance and review of systems of internal control.
Practices Act
1979 Prescribed mandatory reporting on internal
financial controls.
US Securities
Exchange
Commission
1985 Treadway Emphasized the need of putting in place a proper control
environment, desirability of constituting independent boards and
commission
its committees and objective internal audit function. As a
consequence, the Committee of Sponsoring Organisations
(COSO) took birth.
1992 COSO issued The Committee of Sponsoring Organizations of the Treadway
Commission (COSO) issued Internal Control – Integrated
Internal Control –
Framework. It is a framework “to help businesses and other
Integrated entities assess and enhance their internal control systems”.
Framework.
2002 Sarbanes – The Act made fundamental changes in virtually every aspect of
corporate governance in general and auditor independence,
Oxley Act
conflict of interests, corporate responsibility, enhanced financial
disclosures and severe penalties for wilful default by managers
and auditors, in particular.

Sarbanes-Oxley Act of 2002

In 2002, the United States Congress passed the Sarbanes-Oxley Act (SOX) to protect
shareholders and the general public from accounting errors and fraudulent practices in
enterprises, and to improve the accuracy of corporate disclosures.

The summary highlights of the most important Sarbanes-Oxley sections for compliance are
listed below;

Sarbanes-Oxley Act
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SOX Section 302 – Corporate a) CEO and CFO must review all financial
Responsibility for Financial reports.
b) Financial report does not contain any
Reports
misrepresentations.
c) Information in the financial report is
“fairly presented”.
d) CEO and CFO are responsible for the
internal accounting controls.
e) CEO and CFO must report any
deficiencies in internal accounting
controls, or any fraud involving the
management of the audit committee.
f) CEO and CFO must indicate any
material changes in internal accounting
controls.
SOX Section 401: All financial statements and their requirement to
Disclosures in Periodic be accurate and presented in a manner that does not
contain incorrect statements or admit to state material
Reports
information. Such financial statements should also
include all material off-balance sheet liabilities,
obligations, and transactions.

SOX Section 404: All annual financial reports must include an Internal
Management Assessment of Control Report stating that management is responsible
for an “adequate” internal control structure, and an
Internal Controls
assessment by management of the effectiveness of the
control structure. Any shortcomings in these controls
must also be reported. In addition, registered external
auditors must attest to the accuracy of the company
management’s assertion that internal accounting
controls are in place, operational and effective.
SOX Section 409: Real Time Companies are required to disclose on a almost real-
Issuer Disclosures time basis information concerning material changes in
its financial condition or operations.
SOX Section 802 Criminal This section specifies the penalties for knowingly
Penalties for Altering altering documents in an ongoing legal investigation,
audit, or bankruptcy proceeding.
Documents

 Development of Corporate Governance in Uk

 THE CADBURY REPORT 1992
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Due to several scandals and financial collapses in the UK in the late 1980s and early 1990s,
London Stock Exchange setup the Cadbury Committee in May 1991 to raise the standard of
corporate governance. This report recommended mainly;

 The CEO and Chairman of companies should be separated;

 Boards should have at least three non-executive directors, two of whom
 should have no financial or personal ties to executives; and
 Each board should have an audit committee composed of non-executive directors.

 THE GREENBURY REPORT, 1995

The Confederation of British industry set up a group under the chairmanship of Sir Richard
Greenbury to examine the remuneration of the directors. It recommended the formation of
remuneration committee composed of non-executive directors. Its recommendation was
incorporated in the Listing rules of The London Stock Exchange.

 THE HAMPEL REPORT, 1998

The Hampel Committee was established in November, 1995 to review and revise the earlier
recommendations of the Cadbury and Greenbury Committees. An important development was
in the area of accountability and audit. The Board was identified as having responsibility to
maintain a sound system of internal control, thereby safeguarding shareholders’ investments.
Further, the Board was to be held accountable for all aspects of risk management
Recommendations of this Report and further consultations by the London Stock Exchange
became the Combined Code on Corporate Governance.

 THE UK STEWARDSHIP

The UK Stewardship Code traces its origins to ‘The Responsibilities of Institutional

Shareholders and Agents: Statement of Principles,’ first published in 2002 by the Institutional
Shareholders Committee (ISC), and was converted to a code in 2009.
The Stewardship Code aims to enhance the quality of engagement between
institutional investors and companies to help improve long-term returns to shareholders and
the efficient exercise of governance responsibilities. Engagement includes pursuing purposeful
dialogue on strategy, performance and the management of risk, as well as on issues that are the
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immediate subject of votes at general meetings. The Code is addressed in the first instance to
firms who manage assets on behalf of institutional shareholders such as pension funds,
insurance companies, investment trusts and other collective investment vehicles

 History of Corporate Governance in India

Evidence of Corporate Governance from The Arthashastra;

Kautilya’s Arthashastra; The substitution of the state with the corporation, the king with
the CEO or the board of a corporation, and the subjects with the shareholders, bring out the
quintessence of corporate governance, because central to the concept of corporate governance
is the belief that public good should be ahead of private good and that the corporation’s
resources cannot be used for personal benefit.
Kautilya’s Arthashastra maintains that for good governance, all administrators, including the
king are considered servants of the people. Good governance and stability are completely
linked. If rulers are responsive, accountable, removable, recallable, there is stability. If not
there is instability. These tenets hold good even today.

Ramayana: The Ramayana, the saga of Rama’s life written by Valmiki, is widely acclaimed
as among the greatest of all Indian epics. In fact, this famous Grantha carries useful tips on
ethics and values, statecraft and politics, and even general and human resources management.
With Rama Rajya as a model for good governance, the Ramayana is a must read for
practitioners of statecraft.

Bhagwad Gita: In Bhagwad Gita, Lord Krishna details the divine treasure as fearlessness,
purity of heart, steadfastness in knowledge and yoga, charity, self-control, and sacrifice, study
of scriptures, austerity and uprightness. The Bhagavad Gita emphasized the concept of duty
and its importance for good leadership.
Corporate Governance is managing, monitoring and overseeing various corporate systems in
such a manner that corporate reliability, reputation is not put at stake. Corporate Governance
pillars on transparency and fairness in action satisfying accountability and responsibility
towards the stakeholders.

Statutory Development of Corporate Governance;

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Corporate governance was never on the agenda of Indian companies until the early 1990s. After
the financial crisis of 1991, the concept of corporate governance gained traction. The crisis
prompted a slew of reforms aimed at liberalising the previously closed economy. Some reforms
were implemented, such as the reduction of state-aided financing and the privatisation of
companies. Furthermore, increased competition with the global market has encouraged Indian
businesses to tap into global resources. Corporate governance reforms resulted from the
increased interaction with the global market. Major corporate governance initiatives were
launched in India in the mid-1990s as part of the government's effort to improve the country's
governance climate.
In India first initiative is taken by Confederation of Indian Industry (CII) in 1996, CII took
first initiative on corporate governance and also recognized as first institutional step in Indian
corporate industry with the aim to expand and promote a code of conduct for corporate
governance for Indian corporate sector.

India’s corporate community experienced a significant shock in January 2009 with damaging
revelations about board failure and colossal fraud in the financials of Satyam. The Satyam
scandal also served as a catalyst for the Indian Government to rethink the corporate
governance, disclosure, accountability and enforcement mechanisms in place. In addition to
the CII, the National Association of Software and Services Companies also formed a Corporate
Governance and Ethics Committee, chaired by N.R. Narayana Murthy, one of the founders of
Infosys and a leading figure in Indian corporate governance reforms. The Committee issued its
recommendations in mid-2010.

Kumar Mangalam Birla Committee 1999; The Securities and Exchange Board of India
(SEBI) had set up a Committee on May 7, 1999 under the Chairmanship of Kumar Mangalam
Birla to promote and raise standards of corporate governance. The Report of the committee
was the first formal and comprehensive attempt to evolve a Code of Corporate Governance, in
the context of prevailing conditions of governance in Indian companies, as well as the state of
capital markets at that time. The recommendations of the Report, led to inclusion of Clause 49
in the Listing Agreement in the year 2000.

Mandatory Recommendations;
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The mandatory recommendations apply to the listed companies with paid up share capital of
3 crores and above.

 Composition of board of directors should be optimum combination of executive & non-

executive directors.
 Audit committee should contain 3 independent directors with one having financial
and accounting knowledge.
 Remuneration committee should be setup
 The Board should hold at least 4 meetings in a year with maximum gap of 4 months
between 2 meetings to review operational plans, capital budgets, quarterly results,
minutes of committee’s meeting.
 Director shall not be a member of more than 10 committees and shall not act as
chairman of more than 5 committees across all companies.

 Indian Model of Corporate Governance

The Indian model can be essentially seen as a mix of the Anglo-US model and the German
model of corporate governance. This mix is essential as there are various kinds of companies
that are incorporated in India i.e. Private Companies, Public Companies and Public Sector
Undertakings (PSU’s) with distinct shareholding patterns. The framework should be such as to
uphold the principles of fair representation, transparency and integrity.

 Various Theory in Corporate Governance

AGENCY THEORY
What is an agency?
An agent is a person who works for, or on behalf of, another. Thus, an employee is an agent of
a company. But agency extends beyond employee relationships. Independent contractors are
also agents.
Example; lawyers, and accountants are agents of their clients. The CEO of a company is an
agent of the board of directors of the company. Thus, the agency relationship extends beyond
the employee into many different economic relationships. The entity—person or corporation—
on whose behalf an agent works is called a principal.
Agency theory is the study of incentives provided to agents. Incentives are an issue because
agents need not have the same interests and goals as the principal. Attorneys hired to defend a
corporation in a lawsuit have an incentive not to settle, to keep the billing flowing. (Such
behaviour would violate the attorneys’ ethics requirements.) Automobile repair shops have
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been known to use substandard or used replacement parts and bill for new, high-quality parts.
These are all examples of a conflict in the incentives of the agent and the goals of the principal.

Agency theory relative to corporate governance assumes a two-tier form of firm control:
managers and owners. Agency theory holds that there will be some friction and mistrust
between these two groups. The basic structure of the corporation, therefore, is the web of
contractual relations among different interest groups with a stake in the company.

The Role of Agency Theory in Corporate Governance?

Agency theory is used to understand the relationships between agents and principals. The agent
represents the principal in a particular business transaction and is expected to represent the best
interests of the principal without regard for self-interest. The different interests of principals
and agent’s may become a source of conflict, as some agents may not perfectly act in the
principal’s best interests. The resulting miscommunication and disagreement may result in
various problems within companies. Incompatible desires may drive a wedge between each
stakeholder and cause inefficiencies and financial losses. This leads to the principal-agent
problem. The principal-agent problem occurs when the interests of a principal and agent are in
conflict. Companies should seek to minimize these situations through solid corporate policy.
These conflicts present normally ethical individuals with opportunities for moral hazard.
Incentives may be used to redirect the behaviour of the agent to realign these interests with the
principal’s.
Corporate governance can be used to change the rules under which the agent operates and
restore the principal’s interests. The principal, by employing the agent to represent the
principal’s interests, must overcome a lack of information about the agent’s performance of the
task. Agents must have incentives encouraging them to act in unison with the principal’s
interests. Agency theory may be used to design these incentives appropriately by considering
what interests motivate the agent to act. Incentives encouraging the wrong behaviour must be
removed and rules discouraging moral hazard must be in place. Understanding the mechanisms
that create problems helps businesses develop better corporate policy.

Agency loss drops when the following situations occur:

 The agent and principal hold similar interests and desire the same outcome.
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 The principal is mindful of the agent's activities, so the principal has a keen knowledge
of the level of service they are receiving.
If neither of these events occurs, agency loss is likely to climb. Therefore, the chief challenge
involves persuading agents to prioritize their principal's best interest while placing their self-
interest second. If done correctly, the agent will nurture their principal's wealth, while
incidentally enriching their bottom lines.

STEWARDSHIP THEORY
Introduction: Stewardship Theories
Stewardship theories argue that the managers or executives of a company are stewards of the
owners, and both groups share common goals. Therefore, the board should not be too
controlling, as agency theories would suggest. The board should play a supportive role by
empowering executives and, in turn, increase the potential for higher performance. Stewardship
theories argue for relationships between board and executives that involve training, mentoring,
and shared decision making. Most theories of corporate governance use personal self-interest
as a starting point. Stewardship theory, however, rejects self-interest. Agency theory begins
from self-interested behaviour and rests on dealing with the cost inherent in separating
ownership from control. Managers are assumed to work to improve their own position while
the board seeks to control managers and hence, close the gap between the two structures.

Identification
Agency and stewardship theories begin from two very different premises. The basic agency
problem revolves around individuals considering themselves only as individuals, without any
other meaningful attachments. However, stewardship theory holds that individuals in
management positions do not primarily consider themselves as isolated individuals. Instead,
they consider themselves part of the firm.
Managers, according to stewardship theory, merge their ego and sense of worth with the
reputation of the firm.

Policies
If a firm adopts a stewardship mode of governance, certain policies naturally follow. Firms will
spell out in detail the roles and expectations of managers. These expectations will be highly
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goal-oriented and designed to evoke the manager’s sense of ability and worth. Stewardship
theory advocates managers who are free to pursue their own goals. It naturally follows from
this that managers are naturally “company men” who will put the firm ahead of their own
ends. Freedom will be used for the good of the firm.

Consequences
The consequences of stewardship theory revolve around the sense that the individualistic
agency theory is overdrawn. Trust, all other things being equal, is justified between managers
and board members. In situations where the CEO is not the chairman of the board, the board
can rest assured that a long-term CEO will seek primarily to be a good manager, not a rich man.
Alternatively, having a CEO who is also chairman is not a problem, since there is no good
reason that he will use that position to enrich himself at the expense of the firm. Put differently,
stewardship theory holds that managers do want to be richly rewarded for their efforts, but that
no manager wants this to be at the expense of the firm.

The Cadbury Committee 1992 defined corporate governance as “the system by

which companies are directed and controlled.” Numerous theories have been
proposed on corporate governance best practice, none more popular than the
shareholder and stakeholder theories;

SHAREHOLDER THEORY
The shareholder theory was originally proposed by Milton Friedman and it states that the sole
responsibility of business is to increase profits. It is based on the premise that management are
hired as the agent of the shareholders to run the company for their benefit, and therefore they
are legally and morally obligated to serve their interests. The only qualification on the rule to
make as much money as possible is “conformity to the basic rules of the society, both those
embodied in law and those embodied in ethical custom.” The shareholder theory is now
seen as the historic way of doing business with companies realising that there are disadvantages
to concentrating solely on the interests of shareholders. A focus on short term strategy and
greater risk taking are just two of the inherent dangers involved. The role of shareholder theory
can be seen in the demise of corporations such as Enron and WorldCom where continuous
pressure on managers to increase returns to shareholders led them to manipulate the company
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accounts.

STAKEHOLDER THEORY
Stakeholder theory, on the other hand, states that a company owes a responsibility to a wider
group of stakeholders, other than just shareholders. A stakeholder is defined as any
person/group which can affect/be affected by the actions of a business. It includes employees,
customers, suppliers, creditors and even the wider community and competitors. Edward
Freeman, the original proposer of the stakeholder theory, recognized it as an important element
of Corporate Social Responsibility (CSR), a concept which recognizes the responsibilities of
corporations in the world today, whether they be economic, legal, ethical or even philanthropic.
Nowadays, some of the world’s largest corporations claim to have CSR at the centre of their
corporate strategy. Whilst there are many genuine cases of companies with a “conscience”,
many others exploit CSR as a good means of PR to improve their image and reputation but
ultimately fail to put their words into action.
Recent controversies surrounding the tax affairs of well-known companies such as
Starbucks, Google and Facebook in the UK have brought stakeholder theory into the spotlight.
Whilst the measures adopted by the companies are legal, they are widely seen as unethical as
they are utilising loopholes in the British tax system to pay less corporation tax in the UK. The
public reaction to Starbucks tax dealings has led them to pledge £10m in taxes in each of the
next two years in an attempt to win back customers.

Concept of Majority Vs Minority

As a company is an artificial person with no physical existence, it functions through the
instrumentality of the board of directors who is guided by the wishes of the majority, subject,
of course, to the welfare of the company as a whole. It is, therefore, a cardinal rule of company
law that prima facie a majority of members of the company are entitled to exercise the powers
of the company and generally to control its affairs.
The rule of majority was established way back in 1843 in the case of Foss v. Harbottle wherein
it was held that the Courts would not generally interfere with the decisions of the company
which it was empowered to take insofar they had been approved of by the majority and made
exceptions to breaches of charter documents, fiduciary duties and frauds or oppression and
inadequate notice to the shareholders.
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Berle and Means’s the Modern Corporation and Private Property

Berle and Means argued that the structure of corporate law in the United States in the 1930s
enforced the separation of ownership and control because the corporate person formally owns
a corporate entity even while shareholders own shares in the corporate entity and elect
corporate directors who control the company's activities. The Modern Corporation and Private
Property, first brought forward issues associated with the widely dispersed ownership of
publicly traded companies. Berle and Means showed that the means of production in the US
economy were highly concentrated in the hands of the largest 200 corporations, and within the
large corporations, managers controlled firms despite shareholders' formal ownership.
Compared to the notion of personal private property, say as one's laptop or bicycle, the
functioning of modern company law “has destroyed the unity that we commonly call property”.
This occurred for a number of reasons, foremost being the dispersal of shareholding ownership
in big corporations: the typical shareholder is uninterested in the day-to-day affairs of the
company, yet thousands of people like him or her make up the majority of owners throughout
the economy. The result is that those who are directly interested in day-to-day affairs, the
management and the directors, have the ability to manage the resources of companies to their
own advantage without effective shareholder scrutiny.

Most contemporary observers distinguish between the board and management, Berle and
Means did not. For Berle and Means, "managers consist of a board of directors and the senior
officers of the corporation." To be sure, in legal terms, the board is not an independent entity.
As Berle and Means put it, "Since direction of the activities of the corporation is exercised
through the board of directors, we may say for practical purposes that control lies in the hands
of the individual or group who have the actual power to select the board of directors..." Note,
however, that for Berle and Means, the board (1) is a component of what they call management
and (2) directs the activities of the corporation. Because their key point about the separation of
ownership from control is that managers become a self-perpetuating oligarchy, this means that
it is the board, and not simply the officers, whom Berle and Means view as in control of the
firm. Simply because Berle and Means held this view does not mean that is correct, of course.
It is entirely possible that the managers have usurped power from the board in the same way
that the board took power from the stockholders. This has in fact been the dominant view
among those who have studied board-management relations. For the moment, though, let us
assume that Berle and Means were correct, and address the implications of their view.
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Corporate Management and Corporate Governance

 Management develops and implements corporate strategy and operates the company's
business under the board's oversight, with the goal of producing sustainable long-term
value creation.

 Management, under the oversight of the board and its audit committee, produces
financial statements that fairly present the company’s financial condition and results of
operations and makes the timely disclosures investors need to assess the financial and
business soundness and risks of the company

 Effective corporate governance requires a clear understanding of the respective roles of

the board, management and shareholders; their relationships with each other; and their
relationships with other corporate stakeholders.

Stakeholder of the Modern Corporation

When we are linking corporate governance and stakeholders, together, we already have
stakeholder’s theory that is being implemented in corporate governance. Corporate governance
is more concerned with many stakeholders and the goals for which the corporation is formed.

Stakeholders, from the term itself we can understand that they are the persons who are
the backbone of the company. They include investors, employees, customers, and suppliers as
well. Thus they are the risk-takers of such organizations whose basic or primary duty is to
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provide funding for the smooth functioning of the organization. However, these stakeholders
can be further categorized into internal stakeholders as well as external stakeholders.

 Internal stakeholders; are those people who derive their interest from the company
through a direct relationship, thus they are the people who are directly impacted through
the business of the company.
 External stakeholders; are those people who don’t have a direct relationship with the
company, normally they are a group of individuals or organizations that are impacted
by the business of the company.

Thus, the principal stakeholders of the corporation are the shareholders, management, and the
other board of directors. Other stakeholders include the customers, creditors, suppliers,
employees, regulators, and also the community at large.

 Stakeholder Vs. Shareholder

Stakeholders Shareholders

Definition

Stakeholders are individuals or Shareholders are individuals or

organization that has an active interest in organizations who are the holders of one
the functioning of a company or more shares of the company.

Impact

The events in a company can directly or Shareholders are always directly

indirectly impact stakeholders impacted by events in a company

Roles

Stakeholders cannot be shareholders in a Shareholders are stakeholders in a

company company

Monetary Benefit

Not all stakeholders receive monetary All shareholders receive monetary

benefit benefit
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Types

They can be of various types such as There are two types of shareholders,
employees, creditors, government, namely, equity shareholders and
suppliers, customers preference shareholders.

Focus Area

The performance of the Company Majorly focused on the return on

investment (ROI)

Role of shareholder in Modern Corporation

The shareholders are the owners of the company and provide financial backing in return for
potential dividends over the lifetime of the company. A person or corporation can become a
shareholder of a company in three ways:

 By subscribing to the memorandum of the company during incorporation

 By investing in return for new shares in the company
 By obtaining shares from an existing shareholder by purchase, by gift or by will

NOTE - Subscribers are usually the party who initiate the incorporation of a company and
automatically become the first shareholders after incorporation. While it is possible for
shareholders to transfer their shares, it is also possible for private companies to place
restrictions on this process in the articles of the company.

 Important Role of Shareholder in Decision Making

There are two types of shareholder resolutions;
a. ordinary
b. special
and both have distinct rules and requirements.
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An ordinary resolution requires a simple majority of the members present to vote in favour of
the resolution and this is acceptable for the majority of shareholder decisions.
And special resolution requires votes cast in favour of the resolution, whether on a show of
hands or electronically or on a poll, as the case may be, by members who, being entitled so to
do, vote in person or by proxy or by postal ballot, are required to be not less than three times
the number of the votes, if any, cast against the resolution by members so entitled and voting.

NOTE - Votes at general meetings can be cast either by way of a show of hands or by poll.
A show of hands results in every shareholder or proxy present having one vote only, while a
poll allows each shareholder to have one vote for each share they hold.

Role of state in providing effective corporate governance regime for corporation

The public outcry over the recent scandals has made it clear that the status quo is no longer
acceptable: the public is demanding accountability and responsibility in corporate behaviour.
It is widely believed that it will take more than just leadership by the corporate sector to restore
public confidence in our capital markets and ensure their ongoing vitality. It will also take
effective government action, in the form of reformed regulatory systems, improved auditing,
and stepped up law enforcement.

The organizational framework for corporate governance initiatives in India consists of the
Ministry of Corporate Affairs (MCA) and the Securities and Exchange Board of India
(SEBI). SEBI monitors and regulates corporate governance of listed companies in India
through Clause 49. This clause is incorporated in the listing agreement of stock exchanges with
companies and it is compulsory for listed companies to comply with its provisions. MCA
through its various appointed committees and forums such as National Foundation for
Corporate Governance (NFCG), a not-for-profit trust, facilitates exchange of experiences
and ideas amongst corporate leaders, policy makers, regulators, law enforcing agencies and
non- government organizations.

Sum up:
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Legislative Initiatives

 New Companies Act – inducing good CG practices through self-regulation, responsive

legal framework based on shareholders’ democracy; disclosure based regime; rational
penal provisions with built-in deterrence and effective protection.

 Amendments to the Acts governing three professional institutes (ICAI/ICSI/ICWAI)

(ICAI/ICSI/ICWAI) with a view to strengthen the disciplinary mechanism and bring
transparency in their working.

 Notification of Accounting Standards with a view to bring the disclosure norms in tune
with the international reporting standards.

 SEBI – Clause 49 – Appointment of IDs, Audit committee, Code of conduct,

disclosures of related party transactions, remunerations, compliance of accounting
standards, certifications of CEO & CFO, Compliance Certification & Whistle-blower
policy (optional).

Other initiatives

 Setting up of Investor Education and Protection Fund.

 Empowering investors through the medium of education and information with the help
of investor associations, VOs, NGOs, etc.

 Launching of websites – www.investorhelpline.in and www.watchoutinvestors.com.

 Setting up of NFCG in partnership with stakeholders – CII, ICAI & ICSI.

Conclusion
Corporate Governance is the soul of an organization hence it should be strictly adhered to while
indulging in business to work towards social and economic development. Corporate
Governance essentially acts as a guiding principle to direct operations, supervise processes,
analyse procedures, penalize mismanagement, impact on the climate etc. A strong corporate
governance structure benefits all the stakeholders as well as the organization as a whole while
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maintaining integrity. A bad corporate governance structure can lead to insolvency, frauds and
scandals and in extreme cases, can lead to the breakdown of the business.
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UNIT – 2
BOARD OF DIRECTORS AND DIRECTOR’S DUITIES

Introduction
Corporate law being an economic law has to be dynamic and it has been so in India as is evident
from the frequent amendments that are being brought in the corporate laws periodically. The
legal provisions have been interpreted and supplemented by judicial pronouncements which
fill up the gaps in the legislations. Therefore, when we consider the role and responsibilities of
directors we have not only to refer to legal provisions as per enactments but also consider the
judicial pronouncements. We have tried to cover the areas of relationship between the directors
and the company and the shareholders, duties and obligations of the directors, their liabilities
etc. both in terms of their individual capacity and the Board as a whole and also the broad steps
needed for ensuring good corporate practices leading to good corporate governance.

Meaning of Board of Directors

A board of directors is essentially a panel of people who are elected to represent shareholders.
A board of directors, also known as a “board” or "BoD,". The board acts as a governing body
for a company or corporation. Their primary goal is to protect the assets of the shareholders by
ensuring an organization's management acts on their behalf and that they get a good return on
their investment (ROI) in the company. They do this by meeting regularly to create policies for
overall company oversight and management. Every public corporation is required by law to
appoint a board of directors; many non-profit organisations and private companies, while not
compelled, do so.

Definition of Director:
Directors are professionals deputed by the Company to run its business. They are officers who
control the overall functioning of the Company involving day to day management and
superintendence of the company’ affairs. Section 2(34) of Companies Act, 2013 defines
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director means a director appointed to the Board of a Company. Directors are collectively
referred to as the Board of Directors. Only an individual person can be appointed to hold the
position of director. An artificial person or an entity cannot be appointed as director of a
company.

Duties of directors: Provided Under Section 166

(1) Subject to the provisions of this Act, a director of a company shall act in accordance with
the articles of the company.
(2) A director of a company shall act in good faith in order to promote the objects of the
company for the benefit of its members as a whole, and in the best interests of the company,
its employees, the shareholders, the community and for the protection of environment.
(3) A director of a company shall exercise his duties with due and reasonable care, skill and
diligence and shall exercise independent judgment.
(4) A director of a company shall not involve in a situation in which he may have a direct or
indirect interest that conflicts, or possibly may conflict, with the interest of the company.
(5) A director of a company shall not achieve or attempt to achieve any undue gain or
advantage either to himself or to his relatives, partners, or associates and if such director is
found guilty of making any undue gain, he shall be liable to pay an amount equal to that gain
to the company.
(6) A director of a company shall not assign his office and any assignment so made shall be
void.

Legal Nature of Board of Director

When we consider a company as a separate legal entity, then the directors are considered as
the mind and the will of the company as they control the actions of the company. In simple
words, they are the brain of the company. Their role is important in the overall administration
and management of a Company. They act in multiple capacities at different times to run the
Company in an efficient manner.
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As observed by the lordship in the case of Ram Chand & Sons Sugar Mills Pvt. Ltd. v.
Kanhayalal Bhargava that the position held by the directors in a Company is a difficult subject
to explain. To understand the position of director in a better way, we refer to Justice Bowen’s
observations in a well decided case of Imperial Hydropathic Hotel Co. Blackpool vs.
Hampson, which is as follows:

“Directors are described sometimes as agents, sometimes as trustees and sometimes as

managing directors. But each of these expressions is used not as exhaustive of their powers
and responsibilities, but as indicating useful points of view from which they may for the moment
and for the particular purpose be considered.”

This summarises the multi-dimensional position of a director in the capacity of agents or

trustees to the Company even though they are not considered the same in true legal sense.

 Directors as agents of the Company:

It is established in the case of Ferguson v. Wilson that the directors are considered as “agents
of the Company '' in the eyes of law. Company is an artificial person created by law and cannot
act on its own. It operates through its directors i.e. agents of the Company.

A director derives his authority to act as agent of the Company by virtue of its Articles
of Association which are drafted in accordance with provisions of the Companies act. Thus,
his actions as an agent are considered as “actions of the Company” itself. However, the director
is not held personally liable for his acts unless specifically provided in the law. Wherever a
liability would attract to an agent; directors would be held liable whereas where the liability
would attract to the principal, the burden of liability will be shifted to the company.

Liability of a director while acting as an agent:

The relation of the directors with the company is guided by the general principle of agency. If
directors have any personal interest in a transaction of the Company, then they have to disclose
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the same like an agent. The directors of a company cannot be made liable merely because he
is a director if he has not given any personal guarantee for a loan taken by the company as
observed by his lordship in Indian Overseas Bank v. RM Marketing. Directors can incur a
personal liability when they enter the contract in their own names, when they use the name of
the company for fraudulent purposes and when they exceed their powers entrusted with them.

The directors must act in the name of the company and within the scope of their
authority. If the directors enter into a contract which is beyond their powers but within the
powers of the company, the company may ratify it. However, in case of a contract which ultra-
vires the company, the company cannot ratify it and neither the company nor the directors are
liable on it. In such cases, the directors may be held liable for breach of implied warranty of
authority.

NOTE –
 It is important to note that directors are agents of the company but not the agents of the
members of the company. A company is a distinct legal entity apart from its
shareholders. The directors are the agents of the institution i.e. Company and not of its
individual members.

 The directors are not considered as agents in any legal statute. Agents are appointed by
the principal whereas directors are elected by the shareholders of the Company. Agents
work on commission basis but that’s not the case of directors. Also, an agent is not
required to disclose the name of his principal but a director has to do the same.
Therefore, the directors are not the agents in the true legal sense.

 Directors as Trustees of the Company:

Directors are often referred as “trustees of the company”. They are treated as trustees of the
Company with regards to the money and the property of the company they handle. They
undertake all the transactions on behalf of the company and utilise the company’s funds in the
best possible manner to gain profits.
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The directors are also the trustees in respect of powers entrusted to them. They must exercise
these powers bonafide and for the overall benefit of the company. They have power to
utilise the funds of the company, to declare dividend in the general meeting, to make calls and
even to forfeit shares, to approve the transfer of shares and accept the surrender of shares.
As observed by his Lordship Romilly in York and North Midlands Railway Co.
v. N. Hudson. Directors are also required to consider the interests of all stakeholders such as
labour, customers, consumers, suppliers which are affected by operations of the company;
while executing their functions as trustees of the Company.

Liabilities as trustees of Company:

Madras High Court has observed in a well decided case of Ramaswami iyer v. Brahmayya
and Co. (1966) that the directors of a company are trustees for the company and with reference
to their power of applying funds of the company and for misuse of the power they could be
rendered liable as trustees and on their death, the cause of action survives against their legal
representatives. In this case his lordship also mentions about the liabilities that a director can
incur as a trustee while asserting the role of director as trustees of the Company.

NOTE –
 It is important to note that directors are trustees of the company but not for individual
shareholders of the company. The directors are also not responsible as trustees for the
debt due to a company or for the creditors of the company even though they are trustees
of the assets of the Company.
 In terms of Trust laws in India, a trustee holds legal ownership over the trust property
of which the equitable ownership lies with the beneficiary. Considering this
explanation, directors are not considered as full- fledged trustees of the Company.
Unlike a trustee, the property of the company is not legally vested in him. Also, a trustee
executes contracts in respect of the trust property in his own name whereas directors do
the same under the common seal of the company and not in his personal capacity.
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Concluding above discussion board of directors is not a mere agent nor trustee of the
company, but rather is a sui generis body - a sort of Platonic guardian - serving as the nexus
for the various contracts making up the corporation. A board of directors primarily functions
as a fiduciary, acting on behalf of the organization's shareholders. A fiduciary is bound legally
and ethically to act in their best interests. “Director” is the general term for those who serve
on the board.

One’s fiduciary duties as a director reflect a relationship of trust and loyalty between yourself,
the company, its members, and stakeholders. The expectation is that you will act in good faith,
and in the best interests of the company.
These duties overlap and inter-connect with your common law duties - operating with
skill and care as a director - and also the statutory duties as laid down in the Companies Act,
2013.

Constitution of Board of Director:

Section 149 of the Companies Act, 2013 provide minimum and maximum number of the
director that shall be in the company. The minimum number of director’s in;

 Private limited company - 2

 Public limited - 3
 Opc - 1.

However, maximum number of directors in a company irrespective of its ownership is 15. The
company can extend its directorship beyond 15 by passing a special resolution in the general
meeting.
 There shall be one Resident Director who has stayed in India for at least 182 days in
the previous year.
 It is mandatory rule for all the companies. Some specified company shall appoint at
least one-woman director in the company.
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Qualification for Appointment as Director

The Act has a dedicated provision which is Section 162 that underlines the reasons for which
a person may not appoint as a director. There is no such provision regarding the qualification
under the Act. However, requirements can be listed as below:

 The person must have completed the age of eighteen or above.

 Nationality can be that of Indian or otherwise.

 The person should have his own Digital Signature Certificate (DSC) through which
Director’s Identification Number (DIN)shall be obtained.

 The person has to furnish a written declaration expressing his consent to act in the
position of Director and he is not a person who falls under the category of disqualified
members.

 There is no academic qualification that needs to be held by the person who is desirous
of obtaining the directorship of a company.

 In the case of Saraswathi Vilasam Shanmugha Nandha Nidhi Ltd. Vs. Daiva
Sigamami Mudaliar, the Madras High Court has stated that “There is nothing in any
provisions of the Companies Act which precludes a company from prescribing
additional qualifications for directorship if the articles so provide. There is nothing
unreasonable in having a non-statutory minimum age-limit for Directors with a view to
justify confidence in mature judgment”.
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Disqualifications for Appointment of Director

The relevant provision of the law that deals with the disqualification of directors are Section
152, 164, 165, and 188 of the Act and The Companies (Appointment and Qualification of
Directors) Rules, 2014.

 Under Section 164 (1)

 Person will not hold eligibility for a directorship in the company if he has been
declared to be a person with unsound mind by a competent court.
 Person is insolvent and has undischarged liabilities or has a pending application in
the court to be adjudged as insolvent.
 The court has adjudged the person to be guilty of a crime involving moral turpitude.
The sentence for the same being more than six months, the eligibility shall be
withheld subject to passing of five years from such sentence.
 If the sentence of his crime exceeds that of seven years. he shall be deemed ineligible
for the post of director in any company.
 An order warranting the disqualification of the person is ruled by a competent court
and during the application of such order, the person cannot become a director.
 The person has failed to pay the amount due on his shares and a period of half a year
has gone by without his paying the due.
 The person has been involved in a related party transaction in the past five years.
 The person cannot be appointed as a director unless he is allotted a Director’s
Identification Number (DIN).

 Under Section 164 (2)

The person shall not be eligible for re-appointment in the company or any other
company if such company has failed to furnish the returns or statement of finance
consecutively for a period of three years or as stated in Section 164(2)(b) “has failed to
repay the deposits accepted by it or pay interest thereon or to redeem any debentures
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on the due date or pay interest due thereon or pay any dividend declared and such failure
to pay or redeem continues for one year or more”

 Other Disqualifications
 Section 165 of the Act prohibits persons from holding the position of a director in
more than twenty companies.
Note - For counting the limit, dormant company and company licenced under
section 8 subject to condition are excluded.
 If the e-form DIR-3 KYC of the person who is a director is not filed, the
directorship of such person will be disqualified.
 If the e-form ACTIVE is not filed by the prescribed company, then the Directors
of such company will be categorized as Director of ACTIVE non-compliant
company.
 Rule 7(8) of the Rules states that “No person shall hold the position of small
shareholders’ director in more than two companies at the same time”. The second
company must not be such that it is in a position to cause conflict with the first
company or is a competitor of the first company.

Composition of Board

 Executive Director– A director who is employed in the company and closely witness
daily affairs of the company are known as executive directors. They possess deep
knowledge of the company. This class includes managing directors and whole time
directors also.
 Non- Executive directors– Directors who are neither employed nor are they closely
involved in the day to day management of the company are known as non-executive
directors. This class majorly includes professional directors, nominee directors etc. who
have unbiased attitude towards the company.
 Independent directors– As the name suggests such directors are not related in certain
ways with the company. They are not Managing directors, whole time directors or
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nominee directors, such directors have to comply with the criteria’s given in section
149(6).
 Nominee director– Such directors are appointed by third party subject to the articles
of the company in pursuance with the law or any provisions for the time being in force.
For example, a director appointed by bank.
 Shadow Director- A person, not officially appointed a Director in the company, but
the Board generally acts on his directions, he is known as a “Shadow Director” of the
company and is made liable as a director, if need be.
 Woman director– Following companies must have at least one director as woman-
1. Every listed company and
2. Every public company having paid up share of 100 crores or more
3. Every public company having turnover of 300 crores or more.

Vacancy shall be filled by 3 months from such vacancy or immediate next board meeting after
such vacancy whichever is later.

Committees of the Board

 Audit Committee
Composition –
 Minimum 3 directors with majority of Independent Director.
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 Members including the Chairman of Audit Committee should be able to read

and understand financial statement.
Composition as per clause 49 of Listing Agreement:
 Minimum of 3 Director of which 2/3rd are independent Directors.
 All members should be financially literate and at least 1 member shall have
accounting or related financial management expertise.

Function of Audit Committee:

 To recommend appointment, remuneration and terms of appointment of the
Auditor of the Company.
 To establish a Vigil Mechanism Policy.
 To call for remarks of the auditors about the internal control system.
 At the Annual General Meeting, the chairman of the Committee should be
present to answer the shareholder’s inquiry.
 To discuss any issues related to internal and statutory auditors and the
management of the Company.

Nomination and Remuneration Committee

Composition
Minimum of 3 Non-Executive Directors out of which two shall be Independent
Directors. Chairperson shall be an Independent director.

Function
 Recommendation of success plans for the directors.
 To review the elements of the remuneration package, structure of remuneration
package.
 To review the changes to remuneration package, terms of appointment, severance fee,
requirement and termination policies and procedures.
 To recommend the shortlisted candidates who are qualified to be director and who can
be appointment in senior management.
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 The Committee can be present at the General Meeting to answer the shareholder’s
queries.

Stakeholders Relationship Committee

Composition
 As per the SEBI Listing regulations the Committee should consist of least three
directors, with at least one being an Independent director, shall be members of the
committee and in case of a listed entity having outstanding SR equity shares, at least
two-thirds of the committee shall comprise of independent directors.
 The chairperson of the Committee shall be a non-executive director and such other
members as may be decided by the Board.

Function
The Committee shall resolve complaints related to transfer/transmission of shares, non-
receipt of annual report and non-receipt of declared dividends, general meetings,
approve issue of new/ duplicate certificates and new certificate on split/consolidation/
renewal etc. approve transfer/transmission, dematerialization.

Corporate Social Responsibility Committee

Composition
 In case of Listed Company at least 3 Directors out of which 1 should be an
Independent Director.

Function
 To suggest and devise a CSR Policy according to the Schedule VII of
Companies Act, 2013 to the board.
 To recommend the amount of expenditure of the devised policy above.
 To monitor the CSR Policy of company from time to time and prepare a
transparent monitoring mechanism.
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 Institution of a transparent monitoring mechanism for implementation of the

CSR projects or programs or activities undertaken by the company.

Companies Act 2013 Vs Companies Act 1956

The Companies Act, 2013 has been passed by Lok Sabha as well as Rajya Sabha and the
President has given his consent to the same in August 2013.
The Companies Act, 1956 (existing Act) contains 658 sections and XV schedules. The
Companies Act 2013 has 464 sections and 7 schedules.
The Act, has lesser sections as the Companies will be governed more through the rules.

Point Companies Act 2013 Companies Act 1956

Formation of  One Person can form a One  One Person can’t form a
company Person Company. company.

 Minimum 2 for a private  Minimum 2 for a private

company other than OPC. company.

 Minimum 7 for a public co.  Minimum 7 for a public co.

Types of companies 15 Types of Companies.  10 Types as under.
that can be formed
Maximum number 200 (for a private company 50
of members allowed other than OPC)
in private company
Entrenchment Articles may contain such No enabling provisions in 1956
provisions in Articles provisions Act for articles to contain
entrenchment provisions.

Key Managerial Personnel under Companies Act, 2013

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Under Section 2 of the Companies Act 2013, Key Managerial Personnel in

reference to a company are as follows:

Chief Executive Officer/Managing Director

The managing director or chief executive officer is responsible for running the whole company.
Also, the managing director has authority over all operations and has the most power in a
managerial hierarchy. Mostly, a managing director is also called a Chief Executive Officer (CEO).

Company Secretary

A company secretary is a senior level employee in a company who is responsible for the looking
after the efficient administration of the company. The company secretary takes care of all the
compliances with statutory and regulatory requirements. He also ensures that the targets and
instructions of the board are successfully implemented.

Whole Time Director

A Whole Time Director is simply a director who devotes the whole of his working hours to the
company. He is different from independent directors in the sense that he has a significant stake in
the company and is part of the daily operation. A managing director may also be a whole time
director.

Chief Financial Officer

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Chief Financial Officer (CFO) is a senior level executive responsible for handling the financial
status of the company. The CFO keeps tabs on cash flow operations, does financial planning,
and creates contingency plans for possible financial crises.

Meaning of Company Secretary under Companies Act, 2013

Firstly, for the meaning of the Company Secretary, the Companies Act refers to Section 2(1)(c)
of the Company Secretaries Act, 1980.

According to Section 2(1)(c) of the Company Secretaries Act, 1980, company secretaries are
the people who are the member of the Institute of Company Secretaries of India. Hence, he is a
member of ICSI and performs various ministerial and administrative functions of the
organization.

 Major Roles/Duties of Company Secretary according to Companies Act, 2013

1. Firstly, to assist the Board in the conduct of the affairs of the company.

2. Secondly, to provide guidance to the directors about their duties.

3. Ensuring and Complying with Corporate Governance.

4. Ensuring that the company complies with secretarial standards.

5. To take the required permissions from the board and various government bodies. Hence, he
also has to follow the provisions regarding the permission acquisition.

6. Lastly, to facilitate the convening of meetings.

 Major Rights of Company Secretary

1. Firstly, he can supervise, control and he can direct subordinate officers and employee.

2. Secondly, he can sign and authenticate the proceeding of meetings.

3. He has a right to blow the whistle whenever he finds necessary.

4. He can attend the meetings of the shareholders and the Board of Directors.

5. He can sign any contract/agreement on behalf of the company.

6. Lastly, at the time of liquidation, he can claim his dues like a creditor.
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UNIT – 3
GENERAL MEETING

Introduction
A company is an artificial person and it can act on its own name. But for acting in any manner
it needs a natural person who can act on its behalf. The act done by such individual within his
legal capacity binds the company as well. In India, a company is regulated by the Companies
Act, 2013 (hereinafter referred as ‘the Act’). A company is a legal entity which is formed to
pursue some business for which it enters into transactions with various individuals. A company
needs assistance from its human resources to perform in the best manner possible. In absence
of any human, no meeting is possible. Law empowers the members to do certain things. This
right is reserved for them to do the act in company’s general meetings.
A meeting may be generally defined as a gathering or assembly or getting together
of a number of persons for transacting any lawful business. There must be at least two persons
to constitute a meeting. Therefore, one shareholder usually cannot constitute a company
meeting even if he holds proxies for other shareholders. However, in certain exceptional
circumstances, even one person may constitute a meeting.

General Meetings can be broadly categorised as follows:

 Annual General Meeting
 Extra-Ordinary General Meeting
 Meeting of a Class of Members
 Meetings of Debenture Holders, Creditors etc.
 Other Meetings

Convening Valid General Meeting:

The essentials of a valid meeting are that the meeting should be:
1. Properly convened:
a. The meeting must be called by proper authority; and
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b. Proper notice must be served.

2. Properly constituted:
a. Proper quorum must be present in the general meeting.
b. Proper chairman must preside the meeting.

3. Properly conducted:
a. The business must be validly transacted at the meeting i.e. resolutions must be properly
moved and passed, and voting by show of hands and on poll. b. Proper minutes of the meeting
must be prepared.

Member of the company

Section 2(55) of the Act defines the term member. In standard business use, the term ‘Member’
indicates an individual who holds shares in a company. The members or the shareholders are
the genuine owners of a company. They all establish the company as a corporate body.
By definition, the expression “Member” in connection to a company implies one who
has consented to turn into the member of the company by entering his name into the ‘Register
of Members’. A person is considered as the member of a company when he/she gives his/her
assent to be a member of the company in writing and only purchase shares according to his
membership. The name of the member of the company is entered as ‘Beneficial owner in the
record of depository’.

To gain the membership of the company, the accompanying two components

must be displayed:

An agreement to turn into a member.

•+
The entry of the name of the individual so agreeing, in the Register of
members of the company.
• The enlisted individual ought to be a fit for getting into an agreement with the
company. However, a carrier of share warrant isn’t a member of the company.
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Modes of Acquiring Membership

As per Section 2(55) of the Companies Act, 2013, a person may acquire the membership
of a company:
(a) by subscribing to the Memorandum of Association (deemed agreement); or
(b) by agreeing in writing to become a member:

(i) by making an application to the company for allotment of shares; or

(ii) by executing an instrument of transfer of shares as transferee; or
(iii) by consenting to the transfer of share of a deceased member in his name; or
(iv) by acquiescence or estoppel.

(c) by holding shares of a company and whose name is entered as beneficial owner in the
records of a depository (Under the Depositories Act, 1996) and on his name being entered in
the register of members of company. Also every such person holding shares of the company
and whose name is entered as beneficial owner in the records of the depository shall be deemed
to be the member of the concerned company.

 The person desirous of becoming a member of a company must have the legal capacity of
entering into an agreement in accordance with the provisions of the Indian Contract Act,
1972.
Section 11 of the Indian Contract Act lays down that Every person is competent to
contract who: -
(i) is of the age of majority according to the law to which he is subject.
(ii) is of sound mind.
(iii) is not disqualified from contracting by any law to which he is
subject.

Who is the promoter of a company in India?

The promoter of a company can be an individual, partners, syndicate and not necessarily the
owners. Some of them may have legal relations with the company, while some may not. The
Indian Companies Act, 2013 defines the concept of a promoter in company law but does not
assign any specific legal position to them. The promoter of a company is in association with
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the company from the ideation process to its incorporation. Promoters are the individuals who
work rightfully and consistently to bring ideas to life.

Definition:
According to section 2(69) of the Companies Act, 2013 the term ‘Promoter’ can be defined
as the following:
 A person who has been named as such in a prospectus or is identified by the company in
the annual return in section 92; or
 A person who has control over the affairs of the company, directly or indirectly whether as
a shareholder, director or otherwise; or
 A person who is in agreement with whose advice, directions or instructions the Board of
Directors of the company is accustomed to act.

What Is an Institutional Investor?

Not all investors in the stock market are individuals who buy and sell their own hand-picked
stocks and bonds. Some are large entities trading securities on a large scale, usually on behalf
of individuals: Pension plans, mutual funds, commercial banks and more. Such entities are
known as institutional investors, and they account for the majority of trades in the market.
Sum Up:
 Institutional investors are legal entities that participate in trading in the financial
markets.
 Institutional investors include the following organizations: credit unions, banks,
large funds such as a mutual or hedge fund, venture capital funds, insurance
companies, and pension funds.
 Institutional investors exert a significant influence on the market, both in a
positive and negative way.

Institutional Investors Vs Other Investor

 An institutional investor is a person or organization that trades securities in large enough
quantities that it qualifies for preferential treatment and lower fees. A retail investor is an
individual or non-professional investor who buys and sells securities through brokerage
firms or savings accounts like 401(k)s.
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 Institutional investors do not use their own money, but rather invest other people's money
on their behalf. Retail investors are investing for themselves, often in brokerage or
retirement accounts.

 They include foreign securities, government business loans, changed banking policies,
interest rates, and more. If individuals work as retail investors, institutional investors are
more likely to conduct wholesale purchases.

Role of Institutional Investors in Corporate Governance

The institutional investors who have an interest in promoting a longer term healthy business
create these forces or countervailing balance sheet. Through the active implementation of
corporate management by organizations’ boards, institutional investors ensure that
corporations place the organization's long-term interests in the interests of the corporation and
that corporations put shareholders over the interests of the managers. The point here is that
institutional investors represent many shareholders and can therefore effectively check the
management class's tendency to place its own interests first. The second dimension relates to
their monitoring of the health of the company as they also serve on the board of certain
corporations, so they have the experience and skills needed in governing organizations.
The trend of ownership shifted from reduced individual ownership to increased
institutional ownership over the 20th century. It is also no surprise that institutional investors
are looking at corporate governance more closely as effective management incorporates more
openness and accountability

General Meeting as a Controlling Organ Over the Board

At an AGM, there is often a time set aside for shareholders to ask questions to the directors of
the company. Activist shareholders may use an AGM as an opportunity to express their
concerns. An annual general meeting, or annual shareholder meeting, is primarily held to allow
shareholders to vote on both company issues and the selection of the company's board of
directors. In large companies, this meeting is typically the only time during the year when
shareholders and executives interact.
Example; Public company is required to have at least two-thirds of its directors liable to retire
from their position by rotation. Such directors are appointed by the shareholders in general
meetings by an ordinary resolution of the company, and they are required to retire within a
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maximum period of three years from their appointment date. Any reappointment of such
directors requires fresh shareholders’ approval.

Weakened position of general meeting in 21st century

The future of the annual general meeting (AGM) has been a focus of some concern, as declining
attendance and voting at AGMs globally has led to questions about whether they are fit for
purpose in the 21st century.
Under the extant provisions, only meeting of the board of directors can be held through
videoconferencing (VC) and other audio-visual means (OAVM). In view of the current extra-
ordinary circumstances due to the pandemic caused by COVID-19 prevailing in the country,
requiring social distancing, it is difficult for companies to obtain shareholders’ approval by
conducting general meetings. Taking into consideration this situation, the Ministry of
Corporate Affairs (MCA) had provided a framework for conducting extra-ordinary general
meeting of the company through VC or OAVM. MCA issued another Circular and permitted
the companies to hold the annual general meeting through VC or OAVM during the calendar
year 2020.
Certain Challenges Are as Follows:
 According to the extant provisions of the Act, the annual general meeting of the
company shall be called during business hours i.e. between 9 a.m. to 6 p.m. According
to the MCA directions, the convenience of different persons positioned in different time
zones shall be kept in mind before scheduling the meeting. Listed entities shall balance
the two provisions for conducting the meeting, however ensuring convenience of
shareholders in different time zones is difficult.

 Taking into consideration the difficulties involved in dispatching of physical copies of

financial statements (including Board’s Report, Auditor’s Report, or other documents
required to be attached), MCA has permitted sending such documents by e-mail to the
members, trustees for the debenture-holders, or any other person entitled to receive such
documents.

 One of the biggest challenges for listed companies is to get the e-mail addresses of the
members (holding shares in physical form) registered for sending financial statements.
This will also enable the shareholders to cast their vote through remote e-voting or
through e-voting during the meeting. Presently, even in the lockdown, the depositories,
Registrar and share transfer agents and companies are taking adequate steps for the
registration of e-mail addresses of such shareholders. However, for certain listed
companies some shareholders are either not traceable or their contact details are not
updated.
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 Considering the fact that the member would be attending the general meeting through
VC or OAVM, the concept of proxy has become redundant. As per the MCA Circular,
such member would be counted for the purpose of reckoning the quorum under the Act.

Resolution in Company

The ownership of the corporation is diluted across its numerous shareholders, many of whom
have no involvement with the corporation, thus the decisions are taken through Resolution, by
Majority of votes.

Company is required to take many decisions for growth of the business and to fulfil legal
requirement of the laws. As company is an artificial person, it cannot take decisions by itself
and requires decision of members and directs. Most decisions beyond the normal day-to-day
running of a business will require a resolution.

Resolution shall be an ordinary resolution if the votes cast in favour of the resolution exceeds
the votes, if any, cast against the resolution by the members. A resolution shall be special when
it is duly specified in the notice, calling the general meeting and votes cast in favour is three
times the votes cast against the resolution.

Resolutions are broadly classified as:

 Resolutions passed by the Board

 Resolutions passed by the Members

Board resolutions are formal documents relating to the decisions passed at a Board Meeting.
The statutory provisions relating to Board resolutions are Section 179 of the Companies Act,
2013 and Secretarial Standards issued by the Institute of Company Secretaries of India (ICSI).
A resolution is a formal way in which a company can note decisions that are made at a meeting
of company members.

The Act generally clearly demarcates the resolutions that are required to be passed by
the members in general meetings and the resolutions that can be passed by Directors in a Board
Meeting.
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Types of shareholder resolutions:

 Ordinary Resolution: As per section 114 of Companies Act, 2013, a resolution is

called an ordinary resolution when in general meeting, the vote casted whether by
showing of hands, on poll, etc. In the favour of resolution by the members of the
meeting who are eligible to do so. Any resolution should get more than 50% of the
voting in favour, in order to win. Some situations for ordinary resolution are:

 Appointment of Auditors 149

 Declaration of Dividend 149
 Consideration of the Financial Statements, reports of the Board of Directors
and Auditors 150
 Appointment of Director in place of those retiring 150;
 Ratification of Appointment of Statutory Auditors and fixing their
remuneration.

 Special Resolution: Special resolutions are also known as “Extraordinary

Resolutions”. These resolutions are more useful to take some more serious and
important decisions of the company. All the special resolutions that are to be passed in
the meeting should be prior mentioned in the notice of the meeting. The process is as
same as of the ordinary resolution, but the difference is that, these requires at least 75%
of the votes in favour to win and sometimes as much as 95%. Some types of special
resolutions are:

 Making change in the name of the company

 Changes in Articles of Associations
 Changing a private company to a public company and vice a versa

It can be said that all resolution which are not Ordinary resolutions, are Special resolutions.

Quorum
A ‘Quorum’ in simple words means the minimum number of members that have to be present
in a meeting. Under the Act, the quorum for a General Meeting, a Board Meeting and an
Extraordinary General Meeting is enumerated within its provisions.

Quorum Required for a General Meeting

Section 103 of the Act states the quorum required for a General Meeting. Under this Section,
unless the Articles of Association of the company provide for a larger quorum, the minimum
quorum must be:
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For public companies For private companies

 5 members to be present if as on the In the case of a private company regardless

date of the meeting being held, the of the number of members, two members
must be present for the quorum to be met for
number of members in the company a meeting.

does not exceed one thousand.

 15 members to be present if as on the

date of the meeting there are more

than one thousand members but less

than five thousand members.

 30 members to be present if as on the

date of the meeting there are more

than five thousand members.

Quorum Required for a Board Meeting

Section 174 (1) of the Act

The quorum for a board meeting must be
1/3rd of the total number of directors
or
2 directors
Whichever is the higher number.
Therefore, in case, there are only three directors in a company, then at least two must be present
even though 1/3rd would entail that only one director needs to be present. If the directors are
not physically present but take part in the meeting via any audio/visual means, they too shall
be considered part of the quorum.
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UNIT – 4
OTHER STAKEHOLDER’S

What is Shareholder Supremacy?

Shareholder supremacy is a shareholder-centric form of corporate governance that focuses on

maximizing the value of shareholders before considering the interests of other corporate
stakeholders, such as society, the community, consumers, and employees.

So, we can say that Shareholder supremacy is a theory in corporate governance holding
that shareholder interests should be assigned first priority relative to all other corporate
stakeholders. A shareholder supremacy approach often gives shareholders power to intercede
directly and frequently in corporate decision-making, through such means as unilateral
shareholder power to amend corporate charters, shareholder referenda on business decisions
and regular corporate board election contests. The shareholder supremacy norm was first used
by courts to resolve disputes among majority and minority shareholders, and, over time, this
use of the shareholder supremacy norm evolved into the modern doctrine of minority
shareholder oppression.
James Kee writes, "If private property were truly respected, shareholder interest would be the
primary, or even better, the sole purpose, of the corporation".

Criticisms of Shareholder Supremacy

Although shareholder supremacy may be favoured by most, there are many limitations and
disadvantages to a shareholder-centric approach of corporations. Some key problems include
the following:
 Corporate decisions and strategy may transition into reaching short-term goals, which
may result in hasty decision-making and decisions characterized by short-term
incentives and bonuses to meet certain targets.
 Lack of willingness to take on risks and invest in new technologies may limit the growth
of corporations and the potential to improve overall well-being with better products.
 More dividends paid out by corporations to provide income to shareholders instead of
using the generated cash to make more and better strategic investment decisions, e.g.,
research and development.
 The doctrine of shareholder's supremacy is criticized for being at odds with corporate
social responsibility and other legal obligations because it focuses solely on
maximizing shareholder profits.

Stakeholder democracy

‘Stakeholder democracy’ is an intriguing idea. The basic proposition – that stakeholders

participate in processes of organizing, decision making, and governance in corporations – is
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for many people an alluring prospect. It chimes well with current demands for greater corporate
accountability and offers a compelling evaluative framework for assessing corporate
responsibilities to society. However, in an age of intensified shareholder capitalism and
increasingly complex global market systems, it can also appear to be little more than a
hopelessly idealistic vision. Even beyond the narrow remit of management and academia, the
application of stakeholder thinking to broader society has become increasingly popular over
the last decade, leading to what some have referred to as ‘stakeholder capitalism’. It is in this
context that the term ‘stakeholder democracy’ has gained some momentum.

Workplace democracy, and ‘the search for effective means by which employees
might exert equitable influence over matters affecting their working lives is as old as
capitalism’. The main issues in workplace democracy are employee participation in decision
making, inclusion of employees in corporate governance processes, and co-determination of
organizational strategy. There are various instruments and institutional arrangements that have
been discussed in this respect, varying from works councils (or other employee bodies invested
with certain participatory rights) right up to increased levels of ownership in the firm. Particular
attention in this latter context is directed to cooperatives as an example of democratic
governance of a corporation and as an alternative model of corporate governance beyond the
market and hierarchy set-up. There is, however, some ambiguity about the results of these
versions of democratic inclusion of employees. On the one hand, there is the expectation that
more democratic organizations will benefit from more committed and responsible employees,
and that enhanced levels of discretion will lead to more innovative firms. On the downside,
critics argue that democratic processes are time and labour intensive and could lead to sub-
optimal decisions with ultimate negative effects on performance and efficiency. Hence, those
in power, in most cases shareholders and senior management, cannot be expected to voluntarily
give up their power. At best, business firms can be ‘democratic hybrids’ combining
bureaucratic systems asking for obedience with pockets of democratic self-determination by
employees.

Stakeholders and their Effect on Business

The various stakeholders are shareholder, employees, customers, government, lenders and
others and they all have different interests. With the dynamic world, the influence of the
stakeholders on setting goals also changes; day-to-day, it becomes tougher for managers to take
decisions as in this competent environment they cannot afford to neglect the interest of single
stakeholder. Before coming to any conclusion it is preferable if managers analyses their
stakeholders thoroughly, sometimes a minor conflict causes big problems.

Shareholder and their interest

Shareholders are the real owner of the business and their main interest is to maximize their
wealth. They want that the share price rise as much as possible and if firm unable to fulfil their
expectations they can sell their shares that means managers need to consider their interest.
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Employees and their interest

Employees are the assets of the business; no doubt they can also be the firm competent edge.
Employees also have their interest like future and carrier development; want some bonus or
rewards for them performance etc. If managers do not fulfil their interest for the sake of earning
more profit, the firm not only loses its employees but also loses market reputation. The ongoing
dispute between British Airways and Cabin Crew is the best example of management-
employee dispute. British Airways want to save 62.5 million pounds annually by cost cutting
in order to remain competent in the market. This year, they have already taken 22 days of strike,
costing the company more than 150 million pounds. Freeman argued over dispute that company
should create values with its employees. British Airways management is thinking about
increasing profit by cost cutting but they are not bothered about their relationship with
employees, costing them more than 150 million pounds lose during strikes, moreover market
reputation and share price also get affected by this dispute.

Customer and their interest

Customer is the God, every firm produce product for their customers considering their
expectations and interest. The customer’s interest and expectations is Quality for Price. In
today’s world customer is more aware and conscious, a firm can afford billions of dollars of
loss but it cannot afford to lose its customers. The best example for this is Toyota, in 2010
when it faced the quality problem; the company took a step ahead and recalled more than
9million cars from all around the world; which ultimately cause company loss of billions of
dollars. No doubt, with the news of allegation of using poor quality of spare parts, the company
lost its share price in the market, button February 5, 2010 when Akio Toyoda, president of
Toyoda apologized and announced the recall of the Toyota cars, the company’s share price
ended 4.5% higher 74.71 on the New York Stock Exchange; Investors relieved that
announcement as a concrete step to deal with the quality crisis. This case also reveal that share
price also get affected by customer satisfaction; as if customers are not satisfied, they can
switch to some other product adversely affect sales and profit which ultimately affect the share
price of the company.

Creditors and their interest

The primary objective of lenders is to get back the amount with interest on time. Some scholars
argue that lenders can secure themselves by contracts. But it doesn’t mean that lenders are not
at all interested in the market performance of the company. Lending institutes lend money to
the firms by considering its market value and previous performance. That means they are not
only interested in their returns on time but also in market value of the firm and long-term
relationships.

Community and their interest

Business exist in a social environment, business and community have organic relationship. The
stakeholder theory state that the main purpose of the businesses not only to maximize wealth
but it should also do some social activities because business directly or indirectly affect the
environment and society. Tata Group is committed to improve the quality of life of
communities they serve.
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Government and their interest

Governments principle purpose is to ensure that corporate operate according to the law imposed
on it and do business by fair means. Government impose lawn the business in order to protect
the rights of their citizens moreover they form apex bodies to keep eye on the businesses, as
SEBI (Security and Exchange Board of India), its main purpose is to guard the interests of
investors in securities and to standardize the security market.

Side Effects from Shareholder Primacy; On Other Stakeholders

When asked to explain exactly why corporations should focus solely on maximizing
shareholder value, non-experts typically put false claims like “shareholders own corporations”
or “the law says corporations must maximize profits for shareholders”. Shareholder primacy
proponents who are more educated usually rely on a claim: that shareholders are the only
"residual claimants" in corporations.

Example of lack of right in recent insolvency law; Operational creditors are mostly
unsecured under the IBC, and according to the liquidation waterfall under section 53 of the
code, they rank much lower than other types of creditors. Furthermore, creditors are treated
differently. The Hon'ble NCLAT stated in the landmark Essar Steel Insolvency case that
"secured financial creditors have primacy over operational creditors."
We can say that Financial Creditors are given priority because they are members of the
Committee of Creditors and are eligible to vote. Operational creditors, on the other hand, are
not included in this category of creditors. For e.g., despite the reality that the application was
filed by the Operational Creditors, the respective class lacks locus standi in forming any
opinion in CoC meetings and thus cannot convey any opinion in the formation of a Resolution
Plan.
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This is why as operational creditor are unable to assess the debtor's viability and
feasibility. They are creditors in relation to the debtor's provision of goods and services, and
they are more concerned with recovering their debt than with ensuring the debtor's survival as
a going concern.

However, it is not accurate to treat shareholders as the sole residual claimants in a company
that is not insolvent or in any case. In fact, it is highly misleading to suggest that only
shareholders are legally entitled to receive each and every penny of corporate profit left
over after the fixed claims of other stakeholders have been paid. To the contrary, the
corporation as a legal entity is its own residual claimant, with legal title to its profits;
shareholders are only legally entitled to whatever dividends the board of directors might, in its
business judgment, declare. The interests of creditors, employees, suppliers, and taxing
authorities are likewise neither fixed nor static.
Possibly minor, negative side effect of the shift to shareholder-centric corporate
governance. While shareholder primacy may allow shareholders to do only a little better at the
expense of creditors, it may allow shareholders to do a lot better at the expense of employees,
suppliers, consumers, local communities, and the Internal Revenue Service.

Good Corporate Governance Include Fair and Equal Conduct for All -

Shareholder supremacy raises problems of efficiency as well as equity, which will lead to not
fulfilment of corporate governance norms. In the context of the shareholder–creditor conflict,
it is easy to see how changing corporate law and practice to make it easier for shareholders to
benefit at creditors’ expense permits a one-time increase in shareholder wealth, while
simultaneously making it more difficult and expensive for corporations to borrow in the future.
A similar problem arises when a shift to shareholder primacy allows shareholders to exploit
other corporate stakeholders.

Margaret Blair rightly said; How board-centric governance can encourage nonshareholder
stakeholders to make vital specific investments in corporate production that cannot be fully
protected by contract or law?
Stakeholders make such specific investments not because they are fully protected by
law or contract, but because they believe a board-governed, managerialist firm will, to some
extent, respect their contributions and treat them fairly.

By contrast, stakeholders rationally distrust dispersed shareholders who can personally profit
from threatening to expropriate or destroy the value of stakeholders’ specific investments. This
makes it harder for shareholder-focused public corporations to attract dedicated employees,
loyal customers, cooperative suppliers, and support from local communities. Shifting public
corporations from the managerial model to the shareholder-centric model thus can produce a
one-time increase in “shareholder wealth,” while simultaneously eroding public corporations’
long-term ability to generate profits, just as “fishing with dynamite produces a one-time
increase in catch size while eroding long-term fishing returns.”
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The rights of two other important stakeholders in a company – lenders and

customers.

LENDERS:

People who lend money to a company are its lenders. Companies may raise money in the form
of loans from banks or bonds issued to investors. What lenders are chiefly concerned about is
the timely recovery of their money. Rights of lenders are protected by a document called bond
indenture. It contains positive and negative covenants that state the activities a company must
and must not indulge in, respectively. The indenture is enforceable by law.

If a company violates its covenants, the lenders have the right to revoke further credit lines and
request the immediate repayment of outstanding dues. Lenders’ rights are also protected by
their preference over shareholders. Profits of a company are either used to pay dividends to
stakeholders or retained for further use. However, before they can be deployed to either use,
they must be used to repay the debt obligations for the period. This privilege also holds at the
time of dissolution of the company.

CUSTOMER:

Consumer rights is a subject of immense popularity these days. Companies earn their income
from customers and must therefore be sensitive towards their rights. They make a lot of efforts
to ensure that there is transparency in their operations and consumers can consult them
immediately if they feel their rights have been violated in any way. Most companies have a
dedicated customer service team to look into such matters. However, the government plays a
central role in ensuring the customer rights are not abused. Customers are basically concerned
about the quality of the product and the price at which it is sold.

Most of the consumer rights in India are protected by The Consumer Protection Act, 1986.
However, some other legislations also spell out consumer rights in specific areas. Generally
speaking, consumer rights are marginalized the most when a small group of companies
dominate the market. Such dominance is prevented by antitrust laws that ensure that no
company becomes too big to monopolize the market. In India, this is done through the Antitrust
Act, 2002, the Competition Commission of India (CCI) and the Competition Appellate
Tribunal (CAT).

One should not underestimate the importance of stakeholders. If you can engage most (or all)
of your stakeholders, it can massively benefit both your organization and the people you
impact. Specifically, stakeholder engagement can help:

 Empower people – Get stakeholders involved in the decision-making process

encourage them to work more efficiently in the benefit of company.
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 Create sustainable change – Engaged stakeholders help inform decisions and provide
the support you need for long-term sustainability

 Build relationships – Create mutually beneficial relationships, build on existing

relationships or foster new ones.

 Build a better organization – Engaging with stakeholders can bring important issues
to light and encourage your organization to develop corporate social responsibility
which is crucial part of today’s corporate governance.

 Increase success – Engaging influential groups (who might otherwise hold you back)
and turning them into supporters and advocates can boost your chances of success.

 Educate – Stakeholders can be a valuable source of information for your organization,

and they may learn something from you, as well.

To sum it up, stakeholder engagement can help any organization (and the people around it)
achieve better outcomes, whether it’s education, connection, engagement or profit.

Conclusion

Companies have realised that their success is not just an outcome of the management and large
shareholders’ efforts. There are a lot of stakeholders who contribute to it. As a result,
stakeholder rights are should be add very high on their list of priorities. The sum total of all the
mechanisms put in place by a company to protect stakeholder rights, along with shareholder’s
rights, is referred to as its corporate governance structure. It consists of policies, procedures
and regulations that define how the management must deal with its stakeholders, and the
remedies available to them in case of a violation. In today’s competitive world it is very
difficult for any corporate to achieve success without securing stakeholders rights. Hence, any
governance structure of corporate must give proper recognition to stakeholders right for
stablishing good corporate governance.
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UNIT – 5
REMEDIES AGAINST CORPORATS ABUSES AND THEIR EFFICACY

Introduction

Corporate vehicles play an essential role in the global economic system. Corporate entities
have been credited for their immense contribution to rising prosperity in market-based
economies. They are the basis of most commercial and entrepreneurial activities in market-
based economies and contribute to the prosperity and globalisation of any country.

In recent years, corporate abuse i.e. the issue of the misuse of corporate structure entities for
illicit purposes has drawn increasing attention from policy makers and regulators. There has
been growing concern that these vehicles may be misused for illicit purposes, such as money
laundering, bribery and corruption, shielding assets from creditors, illicit tax practices, market
fraud, and other illicit activities.

As we all know justice is crucial in society to set a good example for all, i.e. if you done
something wrong you have to pay for it. It is necessary to puts across a message that any
corporate action which falls beyond the prescribed code of conduct shall entail consequences
both for the companies and their Boards alike.

Corporate abuse Definition

Corporate abuse refers to incidents that involve unethical behaviour on behalf of a corporation;
a case of corporate abuse may be a scandal, fraud, or negligence toward the corporation's
employees and/or the local community. A corporate scandal is a scandal involving allegations
of unethical behaviour by people acting within or on behalf of a corporation.

Derivative Suit

A derivative action, also called the shareholder derivative suit, comes from two causes of
action, actually:
 It is an action to compel the corporation to sue and
 It is also an action brought forth by the shareholder on behalf of the corporation for
redressal against harm to the corporation.

Such an action allows the shareholders monitoring and redressal of any harm caused to the
corporation by the management within, in a case where it is unlikely that the management itself
would take measures to redress the harm caused. Thus, the action is ‘derivative’ in nature
when it is brought by a shareholder on behalf of the corporation for harm suffered by all the
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shareholders in common. This happens when the defendant is someone close to the
management, like a director or corporate officer or the controller. If the suit is successful, the
proceeds are forwarded not to the shareholder who brought the suit but to the corporation on
behalf of which the cause of action was established.

Derivative Injury Suits can be said to be the corollaries to ‘penetration of the corporate
veil’ by Courts. Derivative suits are filed by the shareholders on behalf of all shareholders in
common in response to any injury suffered by the Company. In such cases, whatever remedy
that the Court awards would be with respect to the Company, and the legal costs are also borne
by it.

Derivative Suits in India

Derivative suits in India are still couched in Common law principles, though many jurisdictions
have codified the same in their Company regulation statutes. It is curious to note that despite
many jurisdictions like the UK, Singapore and Hong Kong having amended their company law
statutes to include derivative suits, in India, the deliberations done on the Companies Act, 2013
are silent on the issue. In Derivative Suits, the plaintiff is supposed to demonstrate a prima
facie case showing that, firstly, the action is likely to succeed had the Company initiated the
action, and secondly, the case falls within the exception to the case of Foss v. Harbottle.

While the Companies Act, 2013 does provide, under Chapter XVI, sections for the
prevention of Oppression and Mismanagement, it does not specifically provide for Derivative
Suits. Rather, it provides for a remedy which closely resembles a direct suit. The cost element
associated with Derivative Suits can play a public function among the diversity of shareholders
in India.

In Rajahmundry Electric Supply Corp. Ltd. v. Nageshwara Rao, the Supreme Court was
dealing with an appeal arising from a case of misappropriation of funds by the directors of the
company. Here the Court reiterated that courts generally do not interfere with the functioning
of the company unless the directors are not acting in accordance with the articles of association
of the company. However, the Supreme Court, in later cases has admitted the possibility of
adjudicating a Derivative Suit under three conditions, i.e.,

 Where an ultra vires or illegal transaction takes place;

 In cases of matters which require a special resolution; and
 In cases of fraud committed on the minority itself.

Derivative suits provide a unique corporate remedy which would be immensely useful, given
the manner in which shareholders would be dispersed thus, increasing costs should they sue as
a Direct action. After the codification of Director’s Duties through the Companies Act, 2013,
several questions remain as to the omission of provisions for statutory derivative suits which
appear in the Company Law statues in other Common law jurisdictions like the UK, Hong
Kong and Singapore. Derivative suits would soon become a popular remedy and in such a case
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its statutory insertion would become necessary and though Common Law principles should
also be affirmed while adding the aforementioned.

Representative Suit

Order I Rule 8 of the Code of Civil Procedure 1908 deals with representative suit. A
representative suit is a suit that is filed by one or more persons on behalf of themselves and
others having same interest in the suit. The general rule is that all persons interested in a suit
ought to be joined as parties to it. Rule 8 forms an exception to this general rule. The rule
enacted is for convenience based on reason and good policy as it saves from expense and
trouble which would otherwise have to be incurred in such cases.

What are Representative Suits?

Simply said, a representation suit is a suit filed by or against one or more persons, on behalf of
other persons who are similarly interested in that suit, i.e., a suit filed in a representative
capacity.

For Example, where A, on behalf of all creditors of B, sues B, it would be a suit filed in
representative capacity.

Object

The object is to facilitate judicial decisions in cases involving the common interest of a large
number of people. Where the common right or interest of a community on members of an
association or large sections is involved, there will be insuperable practical difficulty in the
institution of suits under the ordinary procedure, where each individual has to maintain an
action by a separate suit.

Representative suits helps in avoiding numerous suits being filed for the decision of a common
question. It, therefore, saves time and expense by ensuring a single comprehensive trial of
question in which several people are interested so as to avoid harassment to parties by
multiplicity of suits.

In T.N. Housing Board V. T.N. Ganapathy the Apex court held that Order 1 Rule 8 being an
enabling provision, does not compel an individual to represent other persons having
community of interest if his action is otherwise maintainable without joining the rest in
this suit. In other words, it does not debar a member of a community from maintaining a suit
in his own right in respect of a wrong done to him.

Conditions
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The Supreme Court in Kalyan Singh v. Chhoti laid down the prerequisite conditions in order
to file a representative suit. These are:

 The parties must be numerous.

 They must have the same interest in the suit.
 Permission or direction to file the representative suit must be given by the court.
 Notice must be issued to the parties who are proposed to be represented by the suit.

Thus, a representative suit eases the burden of Court where several people may be interested
in the outcome of a litigation by preventing multiplicity of suits. It enables the Court to decide
matters involving a community of interest.

Class Action Suits

The concept of Class Action Suits is among one of the many novelties introduced by the
Companies Act, 2013. Thought the concept per se is not new but in Indian context it has found
statutory recognition and enforceability now only by means of Companies Act 2013.

The first time class action suit came to the spotlight in the context of securities market was
when the Satyam scam broke out in 2009. At that time, the Indian investors in India couldn’t
take any legal recourse against the company while their counterparts in USA filed class action
suit claiming damages from the company and the auditing firm. Credit to the Satyam scam,
India has introduced class action suit in the new Companies Act, 2013 by means of Section
245.

What is this ‘Class Action’ all about?

‘Class Action’, which is also known as ‘Representative Action’, is actually a form of lawsuit
where a large group of people collectively bring a claim to the court through a representative.

In simple terms, it is a procedural device enabling one or more plaintiffs to file and prosecute
a litigation on behalf of a larger group or class, wherein such class has common rights and
grievances.

Who Can File Class Action:

Members or depositors, as mentioned below are of the opinion that the management or conduct
or conduct of the affairs of the company are being conducted in a manner prejudicial to the
interests of the company or its members or depositors file an application before the Tribunal
on behalf of the members or depositors.

 Number of members required to file class-action are:

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In the case of a company having a Share Capital;

 Not less than one hundred members of the company or

 Not less than five per cent of the total number of its members,
Whichever Is Less

OR
 Any member or members holding not less than five per cent of the issued share capital
of the company, subject to the condition that the applicant or applicants has or have
paid all calls and other sums due on his or their shares.

In case of company Not Having Share Capital;

 Not less than one-fifth of the total number of its members.

 Number of depositors required to file class-action are:

 Not less than 100 depositors or not less than five per cent of the total number of
depositors, Whichever Is Less; or

 Any depositor or depositors to whom the company owes five per cent of the total
deposits of the company.

Against Whom Class Action Can Be Filed:

The members or depositors can claim damages or compensation or demand any other suitable
action from or against:

 The company or directors for any fraudulent, unlawful or wrongful act or omission or
conduct.

 The auditor including audit firm of the company for any improper or misleading
statement of particulars made in his audit report or for any fraudulent, unlawful or
wrongful act or conduct; or
 Any expert or advisor or consultant or any other person for any incorrect or misleading
statement made to the company or for any fraudulent, unlawful or wrongful act or
conduct or any likely act or conduct on his part.

In case of any suit against auditor or audit firm, the liability shall be of the firm as
well as of each partner who was involved in making any improper or misleading statement of
particulars in the audit report or who acted in a fraudulent, unlawful or wrongful manner.
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The provision of Class Action in the Companies Act ensures that the management of a company
prioritizes the interest of the stakeholders and the company against its own and make them
answerable to the stakeholders of the company for their acts. It makes the management more
responsible towards their fiduciary duties in relation to the company. The legal backing to a
Class Action has given a stronger foothold to the minority. All Class Action applications, an
alternate remedy under the Companies Act may sometimes prove to be a safer bet for the
shareholders and depositors. However, the possibility of a Class Action suit filing is a welcome
introduction.

Oppression and Mismanagement

In the world of various myths or manipulations of truth, another major misunderstanding about
corporate democracy, is that of accepting what the majority admits without seeking out the
other side of the storey. It is the human perception of accepting or believing on those thing
which is said by many people without thinking that other side may exist. It is fundamental that
corporate management is also based on majority decision, but it took time to understand that
minority right should not be neglected. Majority shall prevail over minority is the basic rule
defining Shareholders democracy in every corporation but there must be a proper check on the
majority to ensure that the power of majority does not leads to oppression and suppression of
minority. The minority interests should also be given the privilege to make their opinions and
to report to board if they find any deficiency in the functioning of the company. Thus, it is
necessary to ensure that power of larger part should not go beyond the limits and does not lead
to abuse of minority and misadministration of company. Minority interests must be given voice
to spread their words at the dynamic level.

In corporate world majority and minority is identified by the shareholding and voting rights. It
is but obvious that one who has power in his hand will do whatever he wants to do like he
would start controlling management of the company without intervention of someone else.
Even if few raises voice it will be suppressed by passing resolution in general meeting with
majority. Thus, chances of abuse of power and control of management of company in the hands
of majority lead to mismanagement and oppression.

Although the term ‘oppression’ and ‘mismanagement’ is nowhere defined under percent Act
but according to general meaning of this word;

OPPRESSION
Oppression has been explained by Lord Cooper in the case Elder v. Watson Ltd Exercising
of power in an unjust manner without the consent of the other party is oppression. Oppression
in common language refers to an act or situation of subjecting to cruel or unjust impositions.

MISMANAGEMENT
Mismanagement means the company operation conducted in a manner which harms the public
interest or the company. It is the process or practice of managing badly or dishonestly.
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Mismanagement is the lack of fair dealing in the works of the company which can be harmful
to some of the members of the company or the shareholders.

Hence, the terms has not been defined in the companies act and it is the power or the right of
the court to decide whether the act is oppression or mismanagement of minority shareholders
or not.

Cases Which Can Be Said as Mismanagement

 Prevention of Directors of the Company from functioning.

 Violation of statutory provisions
 Violations of provisions of Memorandum of Associations and Article of Association of
the company.
 Funds misuse etc.

Majority Rule of the Company- FOSS V. HARBOTTLE

Corporate democracy finds its roots in the concept of majority rule. The principle of majority
originated in the rule of Foss v Harbottle which provided that the individual shareholders have
no cause of action in law for any wrongdoing by the corporation and the action brought about
in respect of such losses shall be brought either by the corporation itself or through a derivative
action.
While majority rule is the common norm, it often overshadows minority rights. The
objective is to strike a balance between the interest of the small/individual shareholders and the
effective control of the company. Therefore, the Indian company law, 2013 has put in place
section 241 to 246 to safeguard minority rights.

Remedies Against Oppression and Mismanagement

Tribunal plays an important role in providing remedies to the minority shareholders. Section
241 of the Companies Act, 241 empowers and encourages the minority shareholders to file an
application to the tribunal for relieve in case of oppression.

The application can be filed to the tribunal when the company conducted any affair in a manner
prejudicial to:

 Its interests
 Its members
 Any class of members

The Central Government can apply to the tribunal in its own Relief against; any affair
conducted in the company in a manner prejudicial to public interest, oppressive to any member
or to the interest of the company.
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If any act of Oppression or Mismanagement is committed under Section 241 of the companies’
act, 2013 then any member of the company can make an application to the Tribunal for an
order under Section 244 of the companies’ act.
As a result, we can say that the rights of minority shareholders in Indian companies have been
protected if the company is involved in oppression or mismanagement, prejudicial to the affairs
of the company and public interest. The Companies Act, 2013, ensures the rights of the
minority shareholders and protects it in every possible manner. The Act and Courts try to keep
a balance between the Rights of Majority and protection of the interests of the minority
shareholders in the company from Oppression and Mismanagement.

Difference between application for prevention of oppression and mismanagement

u/s 241 to 244 and Class Action Suits under Section 245;

Point of Prevention of oppression Class Action Suit

Difference and mismanagement
Who can file Members of the Company Members as well as deposit
application? holders of the company.
Against whom Company and its
statutory Company, Any of its directors
application can be appointees. Auditor, including audit firm
Expert or advisor or consultant
filed?
or any other person.
Matters for which Any current or past activity or to Any current, past or future
application can be prevent recurrence activity, including to desist from
one or more particular action that
filed.
have not been taken yet.

Sum Up –

The scope of remedies has also been expanded in the new Act, wherein the concept of prejudice
caused to any member as an objectionable conduct have been introduced which is different
from oppressive behaviour of any member.
A company is a group of individuals or entities operating with a common objective of
achieving the aim of the company's creation and gaining maximum benefit. There are variations
in individual preferences and beliefs that contribute to the creation of a majority and a minority
party in a company. Under strict judicial securitization, these groups need careful balance such
that the status of any of the groups is not misused or abused.

The Corporate Governance Committee Report of the Securities and Exchange Board of
India, popularly known as Uday Kotak Committee Report points out two different styles of
running a company in India i.e., Raja (Monarch) and the Custodian (Trusteeship) model.

The Monarch model aims at advancing the interest of the promoters of the company even at
the expense of stakeholders by utilizing the energies of the management, promoters, and the
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board. In this model, it is observed very clearly that the board and the management personnel
depend upon the promoters or majority shareholders of a company due to the existence of
power with them.
Whereas, in the Custodian model, the company aims to act in the interest of all stakeholders
including investors, employees, customers, shareholders, etc. In India, most of the companies
are seen to follow the Monarch model.

Therefore, it can be said that similar to sovereign democracy, corporate democracy also worked
according to the rule of the majority. Then, how to avoid oppression by a majority dictatorship
that steamrolls minority shareholders remains a big issue. Company law intervenes here to
moderate the actions of dominant shareholders to ensure that the interests of the minority are
not adversely affected. Hence, new corporate law provides number of remedies against
corporate fraud to promote corporate governance.

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