The idea that directors owe a fiduciary duty towards the company has been deep instilled in the very being of the corporate world – not only in spirit, but also in law. Section 166 of the Companies Act, 2013 (‘Act’) provides that “a director 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.” While section 166 of the Companies Act, 2013 sets out the duties of a director towards the company and its stakeholders in general, one must note that a company also has certain specific set of stakeholders, say lenders, whose interests must also be taken care of – enter “Nominee Directors.”
Nominee directors are usually appointed by financial institutions or investors, generally referred to as nominators, on the board of the borrower company for the purpose of representing and safeguarding their interest thereof. However, regardless of its appointment by a specific stakeholder, a Nominee Director is not relieved of his general duties as a director of the company inter-alia duties under section 166 of the Act. This dual role of a Nominee Director has given way to years of debate with respect to a Nominee Director’s actions affecting the company vis-à-vis its nominator.
While much has been deliberated on this state of pseudo-conflict, the conundrum has now come to rest as the Hon’ble Supreme Court, in its landmark judgement in Tata Consultancy Services Limited v. Cyrus Investments Private Limited & Ors. clarified that while a nominee director is entitled to take care of the interests of the nominator, he is duty bound to act in the best interests of the company and not fetter his discretion.[1]
In this article, we shall throw light on the role and nature of Nominee Directors, and discuss their rights, duties and actions in case of conflict, in light of the Apex Court’s order in Tata Consultancy vs. Cyrus Investments (supra).
Prior to the discussion with respect to the rights and duties of a Nominee Director, it is important to understand who is a Nominee Director; what are its defining features; and how and when are they appointed.
Colloquially, a Nominee Director is a representative of a stakeholder/ stakeholder group (nominator) on the board of a company, appointed as such to ensure that the interests of the nominator are safeguarded. Strictly speaking, the provisions for appointment of nominee directors are primarily set out in sections 149 (7) and 161 (3) of the Companies Act, 2013, wherein the latter provides that-
“161 (3). Subject to the articles of a company, the Board may appoint any person as a director nominated by any institution in pursuance of the provisions of any law for the time being in force, or of any agreement or by the Central Government or the State Government by virtue of its shareholding in a Government company.”
Further, Rule 18(3) of the Companies (Share Capital and Debentures) Rules, 2014 also provides that it is one of the duties of the debenture trustee to nominate a director on the board of the issuer company in case such company defaults with respect to service of the debenture (interest or redemption) or with respect to creation of security.
At the outset, one must note that appointment of a nominee director on the board of a company is not a straightjacket requirement, and is instead subject to the existence of stakeholders who are entitled to act as nominator, either by law or by way of an agreement entered into by the company.
A nominee director may be appointed under several circumstances inter-alia;
Having understood the various scenarios that warrant the appointment of Nominee Directors, the next question would be manner of appointment and holding office.
In this pretext, it must be noted that section 152(6) of the Act at least 2/3rd of the directors of a public company shall be appointed by the shareholders in a general meeting, and whose office shall be liable to retire by rotation. The remaining 1/3rd directors may be permanent. The said requirement often gives the impression that nominee directors, appointed at the behest of the nominator shall not constitute more than 1/3rd of the total number of directors – however, such is not the case. If it were to be interpreted as such, a majority of companies (think JVs) would be running bad in law as their board significantly comprises of nominee directors only.
Section 152 (6) requires that the director must be appointed by the shareholders – which by its very essence shall include appointment of directors nominated by the nominator, and ratified by the shareholders in the general meeting. Undoubtedly, such directors would also be classified as having been appointed by the shareholders.
A detailed analysis of the provisions with respect to appointment and office of Nominee Director has been done in our article titled Note on Nominee Directors[2]
Thus, from the discussion above, the defining features of a Nominee Director may be enlisted as follows –
A nominee director oversees the operations of the company, to ensure that the policy decisions are based on sound commercial lines and rationality, with adequate safeguards such that the interests of the nominator are not jeopardized;
The nominee director also acts as liaison between the investee company and the nominator for regular flow of information. Here, it must be noted that the question of confidential information being shared by the Nominee Director would crop up.
In this regard, reference may be made to guiding judicial principles which suggest that while the Nominee Director has the right to receive information about the Company[3], a nominee director is not bound to share information with the nominator merely by virtue of such nomination; rather, such duty of sharing information may arise out of separate agreement entered into between the nominator and the nominee. The said principle was also appreciated in Hawkes v Cuddy[4].
The nominee director actively involves in discussions pertaining to the financial performance of the company, future plans, fund raising, etc. The objective is to apply his/her expertise on the matters placed before the board with the intent to protect the interests of the nominator.
Though a nominee director has allegiance towards the nominator, the nominee director is always expected to abide the code of conduct for directors & key managerial personnel. The responsibility adds up where the investee company is a listed entity, as there are compliance requirements in respect of un-published price sensitive information.
In Harkness V Commonwealth Bank of Australia Ltd (1993) 32 NSWLR 543, it was held that the duty of confidentiality of a director was greater than the duty he owed to his nominator. (See discussion below)
As per Section 149(6) of the Companies Act, 2013, an independent director means a director other than a managing director or a whole-time director or a nominee director who does not have any material or pecuniary relationship with the company/ directors and fulfils such other criteria as specified in the Act.
Thus, it explicitly clear that a nominee director is not considered as independent director under the Act.