Why You Need Independent Directors on Your Board?

Last Updated at: Jan 13, 2021
Why you need independent directors on your board?
Why you need independent directors on your board?

While it is common to have directors in a company, independent directors are rare, but they are crucial. Who is an Independent Director? Why should a company consider having an independent director on board? Both of these questions are answered in this article.

It is common for any company to have directors but it is rare to have independent directors though they are crucial. Well, you could be confused regarding why your company should have such an independent director? In that case, you can get the answers to your questions cleared from our explanation here.

Business decisions are taken by board members of a company often have far-reaching consequences. Independence, in this scenario, becomes a cornerstone of accountability, transparency and fairness. Independent Directors like the word suggests, are ‘independent’ and therefore, not motivated by profits, sales or any other association with the company. They act as professionals giving advice on matters while taking board-decisions and are assumed to base their advice on their acumen of the legal, financial and business world. In this post, we cast light on the need for independent directors while also highlighting the role played by them in any business organization.

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Who is an Independent Director?

Independent Directors are directors who apart from receiving director’s remuneration do not have any other material pecuniary relationship or transaction with the company, its promoters, its management, or its subsidiary, which in the judgment of the Board may affect their independence of judgment. Section 149 of the Companies Act also mentions that the Independent Director must be a person of integrity, should not be a promoter himself or with his relatives of any holding or subsidiary company. Further, he must not have been an employee or auditor or legal consultant in any of the three financial years immediately preceding the financial year in which he is proposed to be appointed.

Moreover, an Independent Director should possess appropriate skills, experience and knowledge in one or more fields of finance, law, management, sales, marketing, administration, research, corporate governance, technical operations or other disciplines related to the company’s business.

Although it is public companies that are under an obligation to appoint an independent director, here is why you should consider having an independent director on your board:

  • They bring focus and perspective to the company: If we think about one of the world’s greatest industrial disaster, the Bhopal Gas Tragedy, the board of Dow Chemicals collectively had decided to stop funding for a maintenance valve that could’ve checked the poisonous gas from escaping. Had there been one conscious independent director voicing his opinion, the outcome could have been very different. Independent Directors, given their experience in business, add a fresh perspective that other routine directors may not possess.
  • Expertise & Impartiality: The Rule 5 of the Companies (Appointment of Directors) Rules, 2014 clearly lays down that Independent Directors must have experience in the areas of sales, governance, finance, law, taxation, company’s technical operations etc. There are no parallel stipulations for any other director appointed by the company. Thus, given their skills and knowledge in core areas and lack of alignment with material causes or financial pursuits, the company stands to gain.
  • Bridge in clearing deadlocks: If two or more board members disagree on a particular policy, it is often the independent director who is uniquely positioned (due to lack of familiarity, pecuniary gains or material relationships) to act as a neutral party, arbitrating internal conflicts between board members or stakeholders.
  • Limitations on remuneration & stakes: Because of a mandate that independent directors cannot be offered any equity or stake in the company, independent directors can only be given the sitting fee for attending meetings which can be a maximum of 1 lac rupees. Further, a maximum of 1% of the company’s net profits can be paid as remuneration to its independent directors. In case there is no managing director or whole-time director or manager, then a maximum of 3% of net profit can be paid. Thus, the basis of payment to the independent directors is the net profit of the company. The company is however not obligated to remunerate its independent directors.

To put it succinctly, an independent director, barring remuneration, doesn’t have any other material or pecuniary relationship or transaction with the company. Moreover, they get expertise, perspective, and impartiality to the decision-making process. They also make for great arbitrators during a disagreement between two or more directors of the firm.

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Avani Mishra is a graduate in law from the National Law Institute University, Bhopal. She qualified the Company Secretary course with an All India Rank 1 and is a recipient of the President’s Gold Medal for her academic distinctions. She also holds a B.Com degree with a specialization in Corporate Affairs and Administration.