With the regulatory authorities laying a strong emphasis on the need for good corporate governance, having proficient Independent Directors on Boards has become the norm. Instances of frauds, inequality, mismanagement and lack of accountability in the decisions that are taken by the Board are notably reduced when Directors have both, independence and accountability for their actions.
An Independent Director has been defined under Section 149 (6) of the Companies Act. While the legal definition is quite long, to summarize, an Independent Director:
- Is not a managing director, nominee director or a whole time director of the company,
- Has the necessary expertise and qualifications to act as an Independent Director,
- Is not the promoter and is neither related to the promoters or directors of the company or any of its associate companies,
- Does not have, and has no relatives enjoying, any pecuniary relationship with the company or its associate companies for a specified financial period.
- Does not hold, and has no relatives holding, a key managerial position or employment with the company or any of its associate companies in the last three financial years,
- Is not, nor has relatives employed as, an employee, proprietor or partner in the last three financial years in an auditing firm, company secretary firm, cost auditing firm, or legal or consulting firms employed by the company or its associate companies, with some further limits specified.
- Does not, and has no relatives, holding 2% or more of the voting rights in the company.
- Is not a CEO or director of a non-profit organisation or related to anyone that receives a specified part or more of its earnings from the company or its associates or from an individual holding certain percentage of voting rights in the company.
An Independent Director is liable for any foul play occurring due to negligence or errors of omission or commission in board processes, which might happen with their knowledge or consent, or when they are not diligent in discharging their duties. Though Independent Directors are immune to the errors made by other non-Independent Directors of the company, they can be held accountable for passive negligence. If an Independent Director is present in a board meeting where a management decision lead to a subsequent catastrophe, they cannot claim innocence citing that it happened without their approval unless their pushbacks are recorded in the minutes of the meeting. If the Independent Director is found liable, either actively or passively, for any errors which have caused financial grief to any stakeholder, they will be held responsible. Independent Directors may have to contend with legal implications involving considerable financial expenses for their defence due to the sensitive nature of their work. Such expenses can pose severe financial losses for Independent Directors and the company itself. Can such expenses be adequately covered?
This is where a D&O Policy can come to the rescue. A Directors and Officers Liability Policy covers the financial liability incurred by Independent Directors for any mistakes that they commit in the discharge of their duties. The policy covers:
- Litigation costs
- Settlement paid to third parties who filed the lawsuit
- Personal liability suffered by Independent Directors
- Expenses on regulatory or administrative inquiries launched on Independent Directors
- Expenses incurred on public relations activities
Why a D&O policy offers safety for Independent Directors
In case of any negligence or error on the part of an Independent Director, there is potential financial loss, and loss of goodwill and reputation at stakes. The directors can incur considerable financial liabilities due to their unintended actions that might drain their savings and expose them to further financial Risks. Moreover, rebuilding their goodwill and reputation also involves significant expenses. A Directors and Officers Liability Policy enables Independent Directors to work efficiently without the fear of facing the repercussions of any unintended actions. Given the stringent measures being introduced by the government regulators over the course of time to improve the corporate governance standards in the country, the burden of an Independent Directors’ responsibilities has increased significantly.
In India, though D&O Insurance is not mandatory as per The Companies Act, it’s an absolute necessity for any organisation to stay secured from various risk exposure. All businesses are exposed to risks in terms of Directors’ and Officers’ liability claims. Comprehensive protection in the form of Directors’ & Officers’ Liability Policy is thus a priority for both Independent Directors and Companies to manage these claims and litigations effectively.