MCA Clarifies on Legal Actions against Outside Directors

Recognizing the specific roles that different directors of a company play, section 149(12) of the Companies Act, 2013 contains a safe harbour provision that protects certain types of directors against liability. It relates to three types of directors, who are, for the sake of convenience, referred to as “outside” directors: (i) an independent director; (ii) a non-executive director who is not a promoter; (iii) a director who is not a key managerial personnel. The statutory provision states that such an outside director “shall be held liable, only in respect of such acts of omission or commission by a company which had occurred with his knowledge, attributable through Board processes, and with his consent or connivance or where he had not acted diligently.”  As discussed in an earlier post on this Blog, the contours of this novel provision are not entirely clear and could potentially lead to ambiguities and disputes.

In order to operationalize the safe harbour provision above, the Ministry of Corporate Affairs, Government of India (MCA) on 2 March 2020 issued a general circular that clarifies on prosecutions filed or internal adjudication proceedings initiated against outside directors. It states that outside directors should not be arraigned in any civil or criminal proceeding under the Companies Act unless they meet the criteria set out in section 149(12). Specifically, certain types of outside directors such as nominee directors (nominated by the Government or banks and financial institutions) or those appointed by adjudicatory bodies such as the National Company Law Tribunal would be covered by the circular’s ambit.

Not only is the nature of the directorship relevant, but also the nature of the default for which action is taken against the directors. For example, the circular cautions against pursuing outside directors for routine or administrative matters such as compliance that are generally outside their purview, except when a company does not have whole-time directors or other key managerial personnel.

The circular also requires the authorities to make a determination at the time of serving notices or conducting inquiry, inspection, investigation or adjudication on whether the concerned outside directors were in fact involved in the action being pursued. They must also call for and examine necessary documents to make the determination. In case of the specific aspect of attribution to the board process (i.e., one of the limbs of section 149(12), and perhaps the most expansive and ambiguous) the MCA states that “all care must be taken to ensure that civil or criminal proceedings are not unnecessarily initiated against [outside directors’, unless sufficient evidence exists to the contrary”. While examining the appointments, roles and responsibilities of outside directors, necessary regard must be had to the relevant filings that the company makes from time to time.

In all, this circular constitutes a standard operating procedure for company law authorities to follow when initiation legal action, whether civil or criminal, against directors. It also adds some context to the content of section 149(12). This also comports with the overall attempt to assuage the concerns of outside directors whose responsibility under the Companies Act may be considered excessive in the light of their limited involvement in the affairs of companies. In all, the circular limits legal or regulatory action merely by way of their position as directors of the companies, but it does not exonerate them for their involvement in specific matters, whether through omission or commission.

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

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