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Analyzing the concept of Nominee Director

A nominee director is an individual who has been nominated by an organization, to be a part of the board of directors of a company, in which the organization holds a specific interest. This specific interest may align with financial assistance given to another company or by the way of substantial control as equity share capital. Due to the strategic nature of this investment, it directly affects the financial position of the nominating organization.

Thus, it is a usual practice to appoint such a person in order to monitor the functioning of the company as well as guide them with a perspective of an investor. Such a director plays a number of roles and responsibilities such as adequate disclosure of interest, reporting to the nominator and protection of the interest of the company. However, when nominee directors are holding such a position in specialized entities, the person needs to follow certain roles and responsibilities which may be statutory provisions.

The idea is to safeguard the interests of the nominating company as far as possible, without conflicting it with the interests of the investee company. Nominee Directors are in the same position and they owe the same fiduciary duty to the company as any other director. A nominee director is a non-executive director; however, he/she is active in decision making in financial matters of the investee company, fund-raising plans such as debt-raising and investment planning. He/She presents the expertise at the disposal of the Board. All such activities have a bearing on the interests of the nominator.

In some situations where financial institutions are involved, it is observed that companies are heavily funded by financial institutions. Public financial institutions run by the government, development financial institutions have huge reserves of funds. They deploy this funding in various securities as investments. Commercial banks in the country also deal with funding companies with their capital requirements. They offer term loans and equity investments. As collateral for this finance, these institutions reserve a charge on the assets of these companies. It is also common to see these institutions nominate their supervisor on the board of the assisted company to oversee the management of the company.

A number of developments have been indicative of corporate governance challenges and the rising liability exposure to financial institutions. The unexpected default at Infrastructure Leasing & Financial Services, caused a liquidity crisis for non-banking financial companies. Hence, such a requirement is deemed necessary in an aftermath of such situations.
  1. Appointment

    Under the Companies Act, 2013, the appointment of a nominee director is made in accordance with section 161(3):
    �Subject to the articles of the 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.�

    This entails appointment of a nominee director must be provided for in the articles of association of the company. Article 152 of the companies act also mandates that �the power to nominate must emanate from either the articles of association of the investee company or any shareholders agreement between the shareholders.

    The banks IDBI, IFCI, LIC, SFCs, and UTI in India can appoint nominee directors on the board of assisted companies, even without complying with the provision of articles of association or Companies Act, 2013
  2. Liabilities of a nominee director

    The duties of a nominee director as a part of the non-executive directors does not differ from an executive director. This implies that a nominee director usually has an equal footing.
    Therefore, under Section 149(12) nominee directors are liable in respect of any 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.

    In the case of M/S Daewoo Motors India Ltd. vs. WG CDR, it was decided that �the mere fact that the applicant was only a nominee director of the company would not by itself be a ground to absolve the applicant from liability of compliance with directions contained in Section 454 (2) of the erstwhile Companies Act, 1956.�

    The recent circular released by the Ministry of Corporate Affairs clarified that non-executive directors including the nominee director should not be implicated in any criminal or civil proceedings under the Companies Act unless they were a part of such a default/non-compliance committed by the company.

    It includes such acts by a company which had occurred with the knowledge of such directors, attributable through Board processes with their consent or connivance or where they did not act diligently. It also lays down the standard operating procedure required to be followed in the ongoing cases by the registrar.
  3. Responsibilities as per Companies Act, 2013

    It has been mandated as a rule that directors cannot, under the companies act 2013, unless authorized by the articles of association, transfer to others any duties which have been imposed on them, which involve the exercise of judgment and discretion. They cannot delegate the powers held by them on behalf of the shareholders.

    Even though he is a non-executive director on the board, he should know that his involvement in crucial matters will have long-term effects on the company even though his appointment may be temporary based on the specific interest of the nominator. This is necessary because Nominee Directors are answerable to the body of shareholders. Nominee Directors are in the position of accountability.

    In Harkness V Commonwealth Bank of Australia Ltd, the judge held that the duty of confidentiality of a director was greater than the duty he owed to his nominator.
  4. Other statutory provisions

    1. Income Tax Act, 1961

      Under the Income Tax Act, 1961, several courts have held that in order to determine liability under 278B, nominee directors as part of the non-executive directors must have knowledge of the commission of such act.

      The Supreme Court ruled that the proceedings against the Directors would be maintainable as long as the complaint clearly stated that they were being treated as principal officers of the company. If the offense is shown to have been committed by the company, then the directors in charge of its affairs are liable.

      The burden of proof shifts to the directors to show that the offense occurred without their knowledge or that they had exercised all due diligence to prevent the commission of such offense. This was held in Madhumilan Syntex Limited & Ors vs Union of India & Anr
    2. Foreign Exchange Regulation Act

      It has been ruled by the Delhi High Court that a Director could be made accused only when in the complaint, he/she is in charge and responsible for the day to day affairs of the company, otherwise, the complaint shall be quashed at the very threshold by the High Court in a petition under Section 482 of Cr PC.

    3. Negotiable Instruments Act, 1881

      In K.K. Ahuja v. V.K. Vora, dealing with the vicarious liability of directors in a case of dishonor of cheque stated that it is necessary to show he was in charge of, and was responsible to the company, for the conduct of the business of the company is necessary to bring the case under Section 141(1) of the Negotiable Instruments Act. 1881. In order to determine if non-executive directors act as in charges of the business or not, a reference to Supreme Court judgments has been made.

      In Pooja Ravinder Devidasani v. State wherein it was held that non-executive Director is the custodian of the governance of the Company but does not involve in the daily affairs of the running of its business and only monitors the executive activity.

      This was further supported by Girdhari Lal Gupta Vs. D.H. Mehta, where the Supreme Court held that a person �in charge of a business' means that the person should be in overall control of the day-to-day business of the Company.

    4. The Central Goods And Services Tax Act, 2017

      This law gives tax authorities the right to extract the full claim with interest and penalties from non-executive directors exposing their personal assets. Such an action may be taken if it has been proven that the directors were in breach of their duty or that there has been gross neglect or misfeasance on the part of the directors. Thus, Nominee Directors can also be penalized for non-compliance under GST.
  5. Watchdog of the nominator vs Director of the company

    Nominee directors are more than often confronted with the dilemma of choosing the interest of their company or their responsibility as a nominee in an investee company. Courts have held that directors act as agents, trustees or representatives of the company because of the fact that vis-a-vis the company they act in a fiduciary capacity.
The fiduciary duty of a nominee director often clashes with the duty towards the nominator. In other words, a nominee director has a dual, conflicting role to play. Indian courts have, in several cases dealt with similar conundrums.

Lord Denning had stated that directors have an overarching duty of �undivided loyalty� towards a company. Lord Denning mentions the principle by Lord Cranworth L.C. in Aberdeen Railway Co. v. Blaikie Brothers to simplify his stance. He observed that no person having duties that are fiduciary in nature can be allowed to enter into a binding agreement which would result in him disregarding his duties or acting in contravention of such duties.

The Company Law Board in Aes Opgc Holding (Mauritius) v Orissa Power Generation made it clear that a nominee director�s primary responsibility is with the nominator, to the extent it does not conflict with the interests of the company. In a situation of conflict of interest, s/he must go with the interest of the company.

Conflict of interest would arise when a person owes allegiance to two or more entities/persons and is placed in a situation to take a decision which would affect the interest of all those to which/whom he owes allegiance. If a director of a company is placed in such a situation either he should recuse himself or he is duty-bound to take the decision which would be in the interest of the company failing which he would be in breach of his fiduciary duties. It is more so in the case of nominee directors when there is a clash of interest between the company and their nominators.

Such an opinion was also stated by the Gujarat High Court in the case of Ionic Metalliks vs. Union of India by stating:
�nominee directors must be especially mindful about not only acting in the interests of their nominators, but acting in the best interests of the company and its shareholders as a whole�
However, in the event of doubt on the efficacy of the nominee director where the shareholders believe that the director has not acted in compliance with his fiduciary duty the nominating shareholder can opt to take derivative action against the director and proceed against him in a court of law.

The Delhi High Court ruled, in the case of Rajeev Saumitra vs. Neetu Singh, that if a director has acted in a manner which was in conflict between its personal interests and its duties to the company, without the consent of the company, the director would be liable to �pay over to the company which he or she has betrayed by disloyalty�.

A similar opinion was cited in Starlite Real Estate (ASCOT) Mauritius Ltd. & Ors. vs. Jagrati Trade Services Pvt. Ltd by the Calcutta High Court by stating �where some wrong is being done to the company by the directors in control, derivative action by the shareholders, even if they are in minority, becomes imperative to protect the interest of the company.�

Nominee director is a post created for an investee company by a nominator who has a vested financial interest in the operation of the company. This, nominee director not only acts as a watchdog of the affairs of the company but also provides timely information of risk and profit indicators.

However, in order to serve a purpose to the company he/she is working in, he/she is mandated to keep the company�s best interests above its loyalty to the nominator. This not only ensures better corporate governance practices by the way of additional expertise but also keeps the investments safe with a double blanket of caution.

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