Author: Jeffy Johnson, I year of LLM Corporate and Commercial Law from School of Law, CHRIST (Deemed to be University)
THE NEW REGIME: 2013 ACT
Section 198 of the Companies Act down a limit on the remuneration in India it is to be considered an administrative imposition. This helps in controlling unregulated pay or excessive remuneration being granted to directors. It is not arbitrary, but it regulates the usage of corporate power. This, in turn, prevents undue influence on pay and performance. A means of accountability will be developed in companies. Shareholders will have the decision-making power to ensure and look into the welfare and betterment of the company. Other components such as profits, size of the corporates, and so on are ignored in the presence of this standard that states the prescribed ceilings in the overall markets.
An additional check on executive remuneration is provided in Section 200 of the Companies Act. This prevents free of taxes to executives who receive pay from the companies. This facilitates maintaining transparency and a check and balance system on the remuneration scale of the executives. Only public and private, which are subsidiaries of public companies, fall under this purview.
The private companies enjoy the exception to this Section without any inference of statutory ceiling. Shareholders' take and opinion should be exercised reasonably with due diligence on the executive remuneration 1956 Act critiqued for the flaws for not safeguarding the minority shareholders. The deadlocks were expected to be met by the proposed Company Law Bill of 2009[1].
DISCLOSURE REQUIREMENT: SCHEDULE V & COMPANIES ACT, 2013
Schedule V of the SEBI (LODR) Regulations, 2015, deals with all financial transactions that should be disclosed in the annual report of the non-executive directors. It also goes on to lay down the criteria of making payments to non-executive directors as well. It also considers the disclosures concerning remuneration that includes all the elements of the pay package of directors concise under salary, bonuses, stock options, etc.[2], secondly, regarding fixed component and performance-linked incentives. Then Service contracts, notice period, and severance fees. Lastly, details of stock options, if any, in scenarios where they are issued at a discount along with the period over that is accrued and over which is exercisable.
Section 197(16) of the Companies Act 2013 was inserted by The Companies (Amendment) Act, 2017. In his report, it deals with the company's auditor shall as per Section 143. The statement as to whether the company's remuneration is paid to the directors is in line with the provisions of this section. And also in case, the compensation paid to any director is over the limit prescribed in this section to provide information regarding the same.
JUDGMENTS ON EXECUTIVE REMUNERATION
In Swabey v. Port Darwin Gold Mining Co. Ltd 1899., In Swabey Case, in the company's articles, "the directors shall each receive by way of remuneration out of company funds in each year the sum of £200, and the chairman also £100 per annum." It means that a director who makes his resignation from the company during the current year is concluded that the resigned director is provided with an apportioned portion of the remuneration of that year[3].
In many cases, the court went on the erroneous assumption in Swabey v. Port Darwin Gold Mining Co. Ltd. (1899) 1 Meg 385. the articles of the company mentioned that the remuneration has to be paid to the directors “at the rate of £200 per annum," was stated in this judgment. But this was irrelevant. This is because the remuneration clause did not have ‘at the rate’ words in it. The terms mentioned in the clause were extracted from the registered articles, and the decision in the case was grounded as it lacked accuracy. Thus it needed reconsideration, as highlighted in Inman v. Ackroyd (1901)[4].
In the case of Canara Workshops Ltd. vs. Union of India 1965[5], the legislature intends that the remuneration earned in whatever capacity should be brought within a particular limit, it has been so expressed in clear terms; section 348(1), which pertains to the remuneration of the managing agent, is an example. If the limit of 11 percent. Specified in section 198(1) was intended to cover every kind of remuneration earned in whatever capacity, then there would have been no need to enact the prohibition contained in section 348(1). It is because of the limit of 11 percent. It is confined only to managerial remuneration and does not extend to any other kind of remuneration, that there was the necessity for section 348(1). In my view, the compensation payable to directors under section 309[6] is part of the managerial remuneration dealt with under section 198. The limitations in section 309 do not extend to any other kind of remuneration earned in a capacity different from that of the director.
Executive remuneration is provided in Section 309. The section states that compensation should be paid to the directors. The determination of the compensation can be decided through articles of the company or by passing a resolution in the general meeting[7]. It can be a special or ordinary resolution as provided in the articles of the company.
Ruby Mills Limited And Another vs. Union Of India And Another 1984[8] "Having given our careful thought to this matter, we have concluded that section 198 was intended to apply to remuneration for managerial and, therefore, we have recommended the addition of the word 'managerial' between the words 'total ' and 'remuneration' in sub-section (1)."
Commissioner of Income Tax Vs. Amalgamation Pvt. Ltd 1997[9], the directors of the subsidiary companies entered into a service agreement. These subsidiary companies were not identified as the directors of the assessee company. Section 198 of the Companies Act, 1956 ‘fixing a ceiling on the overall managerial remuneration at 11% of the company's net profits, it was impossible for the subsidiary companies to pay the contracted remuneration to the persons concerned’. In 1959 the assessee company’s board of directors passed a resolution to resolve the remuneration to be paid to the subsidiary company’s nine directors will be paid according to the terms contracted by them. And any amount above the maximum amount permissible under the 1956 Act will be fulfilled by the assessee company.
R. Balarami Reddy vs. Sutanu Sinha 2020[10] In the case of R. Balarama Reddy, the main question was permissible under Section 197 of the Companies Act, 2013. In the current situation, the Companies Act, 2013 provides that the company cannot pay remuneration more than the prescribed level. In case any payment is made in excess to managerial persons by the company if need to refund such payments. The claim made in the case was not accepted as there was no central government approval taken.
EXECUTIVE REMUNERATION IN THE UNITED KINGDOM: LAWS AND REGULATIONS
EXISTING UK REGIME
There is no statutory limit or set of prescribed structures available in the United Kingdom for executive remuneration. The companies on the London Stock Exchange’s primary market are premium listed companies, and many of the other quoted companies must strictly adhere to the United Kingdom Corporate Governance Code.
This Code provides principles and guidelines on components of the directors’ remuneration and its extent. It also makes it a need for companies to comply with it and explains the consequences for non-compliance. These principles provided in the code are backed by the best practice guidelines recommended by investors to the shareholders related to voting on such resolution provided by the companies is published.
Section D of the UK Corporate Governance Code[11] sets out specific remuneration requirements for directors. No restrictive caps should be laid down for the remuneration levels; instead, they should be sufficient to safeguard individual quality. The performance of the individual should be giving a significant proportion of the remuneration. Supporting this Association of British Insurers (ABI) Principles of Executive Remuneration (29 September 2011)[12] made a recommendation that policies relating to remuneration should give prime importance to performance. There should be a promotion of the company’s sustainable financial health and effective risk management mechanism.
It should allow executives to have an interest similar to the shareholders and hold a significant stake in the corporate. National Association of Pension Funds (NAPF) 2011 and Corporate Governance Policy and Voting Guidelines (November 2011) laid down specific issues. Specifically, that led to a voting sanction that includes in circumstances of excess inflation base salary increases as well.
Remuneration should be given due consideration by the remuneration committees and what compensation will be expected in the times of early termination. The purpose of this is to avoid poor performance from validation and reward.
The corporates should adopt a transparent method setting up of remuneration policies as well as executive’s pay. Pensions Investment Research Consultants says that the divergences present in the current or existing remuneration policy should be scrutinized and approved by the owners of the company the shareholders.
There should be a remuneration committee that the board should set up, and it should consist of non-executive directors who decide the remuneration for top executives. This compensation includes both pension and termination payments. If the chairman wishes to be a committee member, he should be independent on his appointment. Publishing the terms of reference is a mandate by the remuneration committee. The PIRC has made a recommendation that the remuneration committee should consist of an employee representative. This will ensure better decision-making[13].
The executives are not entitled to decide once their remuneration. There can be consultation taken from the chief executive regarding the proposal of compensation by the remuneration committee. This is allowed if the chief executive is the authority responsible for the appointment of any consultants. However, NAPF states that ‘remuneration consultants should not be involved in the decision-making process. This is a voluntary code, and it states how a conflict of interest may arise between client companies and remuneration consultants. This can be curbed to a certain extent by integrity, competence, confidentiality, due care, objectivity, and transparency principles[14].
In the United Kingdom, the shareholders are not happy after consulting a remuneration consultant as their advice only leads to executive remuneration upwards. However, these numerous FTSE 100 companies instruct such consultants for no good. NAPF notes ‘that shareholders may vote against schemes if there is poor alignment between the incentives and shareholders' interests.
DIRECTOR’S ENTITLEMENT TO REMUNERATION
The case of Hutton V. West Cork Railway Co[15] stated that it could be said as a default that directors have no law that governs the remuneration entitled to them. Unless the contrary is enshrined in the company's Articles of Associations, it can be utilizing a separate service contract or AoA[16]. In the case of Re Lundy Granite Co[17], it was held that The article of association lays down explicit provisions and a decision-making process to ascertain the remuneration of the directors. Suppose there is an appropriate provision for executive pay. In that case, directors will be treated as ordinary creditors of the company during the winding up[18], and remuneration will be payable whether the company makes a profit or not. In Re George Newman and Co[19], the company's directors have no power to pay themselves or others in the company. It requires the approval of the constitution of the company.
The House of Lord’s case of Guinness PLC V. Saunders[20] held that according to the articles of association of the company, the payment of the directors is void if not decided by the whole board. In the case of Brown and Green Ltd v Hays[21], where the directors pay the remuneration to themselves from the company's funds, it is not entertaining, and the director is compelled to restore it. However, they thought it is permissible. In the case of Re Richmond Gate Property Co Ltd[22], it was stated that the court in cases where the articles association fails to determine the remuneration, the court has the authority to determine the director’s salary.
REMUNERATION DISCLOSURE REQUIREMENTS AND SHAREHOLDERS
It is the sole responsibility of the directors to disclose information concerning executive remuneration. Before CA 2006 in CA 1985[23], the disclosure requirements were of limited nature. According to Section 232, the mere need for the directors to disclose the emoluments of the directors and the chairman's highest payment, all the directors aggregate emoluments and loss of office payments.
The information that failed to provide the highest-paid directors was or on the remuneration of individual directors. The Act did not lay down any mechanism in which the disclosure could be made, and the components of the remuneration package of the highest-paid director were not broken down. The examination of executive remuneration was an arduous task, and also, the shareholders only have access to limited information[24].
The limitation in the CA 1985 paved to the Directors’ Remuneration Report Regulations 2002 (DRRR 2002)[25] that put in numerous new provisions into the CA 1985. Later it was transplanted to the CA 2006. The Enterprise and Regulatory Reform Act 2013[26] disclosure requirements were introduced in the CA 2006.
When an efficient framework is created to ensure accountability and transparency, only disclosure requirements can be optimal. If the disclosure requirement provides information regarding executive remuneration, the shareholders will rale the right decision. In scenarios where the shareholders do not approve the remuneration report, the company needs to reconsider the remuneration system.
THE PRINCIPLES OF REMUNERATION FOR 2021
The revised Principles of Remuneration for 2021 was published by the Investment Association (IA). This was done along with the letter to the Remuneration Committee (REMCO) chaired with guidance on the COVID-19 impact. According to the Investment Association, the shareholders will scrutinize the executive remuneration intensely due to the pandemic. It also says that the remuneration committee should exercise reasonableness, be diligent, and not negate the executive or isolate them. As the pandemic has affected the companies, they are against provided remuneration to the executives to reduce pay.
The REMCOs motivate to seek a nexus between incentivizing the management. The reality reflects the shareholders, including the employees and the society that is the stakeholders at large. In scenarios where corporates have raised the capital from government support or shareholders, the Investment association says there is no need for bonus payments to the executives for 2020-2021 unless it is unavoidable.
The changes to the Principles for 2021 introduced are as follows. The shareholding policies Post-employment are REMCOs duty to make sure that they need effective post-employment shareholding policies in situ and state how such policies are being enforced after a director has left the corporate. Then the utilization of non-financial performance measures in variable remuneration, the Investment Association be precautious against the increasing use of strategic and private performance metrics for annual bonuses[27].
Where non-financial measures are used, the IA wants the companies to possess a disclosure requirement to showcase the particular achievement which has led to the payment of those elements. Deferral of bonuses the whole portion of a bonus above 100% of salary must now be deferred into shares. There's also a renewed specialization in the extent of executive pensions, which is discussed within the letter to the Remuneration Committee Chairs.
CONCLUSION AND SUGGESTION
APPROVALS REQUIRED FOR DIRECTORS' REMUNERATION
Concerning the approval needed for the directors’ remuneration in India in a listed public company and other specific public companies, it should have a nomination and remuneration committee. The committee must ensure and make suggestions as well as recommend policy concerning the remuneration of the directors. The committee gives these recommendations to the board. The maximum managerial in a public company paid to its directors is 11% of its net profit in any financial year. This threshold prescribed in the Companies Act, 2013 can only exceed if it is permitted and approved by the company's shareholders subject to the provision in the 2013 Act. The managing director, whole-time director, or manager's remuneration should not be more than 5% of its net profit. In scenarios where more than one director is present, the total remuneration should not be more than 10% of the company's net profits. In the case of other directors, it should not be more than 1% paid as remuneration from the net profits if there is a whole-time director or manager or 3% in any other matter. This can occur except with the company's prior approval by passing a special resolution in the general meeting. The board's approval to the executive pay is subject to the resolution passes in the coming general meeting of the company in case it is needed as per the Companies Act, 2013.
In the United Kingdom, the quoted company’s directors’ remuneration report must be approved by the board of directors. It also requires signing on behalf of the board by the secretary or the director. These quoted companies' directors’ remuneration reports should consist of the directors’ remuneration policy. This remuneration policy depends on the shareholder’s binding vote for a minimum of 3 years the annual report on the remuneration when implemented in the financial year being a report on. As well as how the current policy requires to be implemented in the coming financial year depends on the shareholders’ annual advisory vote.
LEVEL OF DISCLOSURE
Concerning depends of Indian companies’ disclosure, the annual returns should include the disclosure requirement regarding key managerial personnel and directors. The board report should contain an extract of the annual return of the company. In the list companies, the registrar of the companies and stock exchange file the annual returns.
Whereas in the United Kingdom, the annual accounts of all companies should consist of the directors’ benefits and remuneration in detail. According to the Companies Act 2006, the quoted companies should provide a detailed remuneration report every year to their shareholders.
REMUNERATION COMMITTEE
In India, public companies can be listed or unlisted. The remuneration committee should accept the director's remuneration, and it should be within limits specified. The remuneration committee will include a minimum of 3 non-executive independent directions, and this will include a nominee director as well.
Whereas in the United Kingdom, the remuneration committee of quoted companies should consist of 3 members. In this, all must be independent. That is, the chairman should be independent, and the non-executive director should be present. It should execute the task of ascertaining the remuneration for all executives and the chairman. It does not encourage non-executive directors’ performance-based remuneration and share option.
EXECUTIVE REMUNERATION: CURRENT TIME COVID 19 SOLUTION TO KEEP UP THE SPACE
Firstly, when it comes to appreciating the executives' actions, there should be a broader approach. It should be done reasonably, and it should encourage both the scrutiny of the shareholders. There should be consistency and fairness employed; favourable reward should be rendered; simultaneously, companies facing difficulty remunerating their executives should have favourable reward interventions and analyse the trends. They should decide on executive remuneration programs in the coming year when the market is analysed. They should always keep in mind the long-term perspective of the programs as the shareholders’ expectations. There should be a better retention program, special award schemes to encourage the critical talent of the executives. There is a requirement to modify the pay rates of the jobs as well. The workforce strategy should be upgraded. To conclude, the executive remuneration should agree with the changing times. The Board should have oversight and should ensure the profitability of the company.
SUGGESTIONS AND FINDINGS
The fact that executives are remunerated excessively is due to the notion that this will aid them to perform efficiently towards the betterment of the company and its shareholders. It is to be understood that increasing the remuneration of the executives does not result in a hike in their productivity level. The remuneration Committee should set up more effective performance targets and create a coping mechanism against blind faith in the benchmarking system.
This research showcases that the executives are concerned about their respective roles. The corporate governance is weak, and the board of directors is not bothered about the shareholders’ interest. All this does not cause any barrier to the remuneration of the executive. Thus the corporate governance is not good is a huge constraint. There is no accountability from the board to the shareholders. There is a need for reform in corporate governance. This will create a regulatory rein over the remuneration of the executive, but this is possible only through an amendment of the existing policies. Issues such as agency problems, corporate governance structure, and other related components do not allow the board of directors to favor the shareholders. There are many externalities that good corporate governance has to overcame. These externalities do not directly affect the governance decision making, but it does have an adverse effect. In scenarios where the executives are remunerated excessively, it is because there is poor corporate governance. The solution to this is that if the shareholders invest in a sound corporate governance system, the excessive executive remuneration can be regulated and reduced.
[1] CHAPTER XIII.APPOINTMENT AND REMUNERATION OF MANAGERIAL PERSONNEL. Companies Act, 2013 Available at:<https://taxguru.in/company-law/managerial-remuneration-companies-act-2013.html> [Online] [Accessed 4 March 2021]. [2] I. Sridhar. Corporate Governance in Listed Companies in India. Available at:<https://www.coursehero.com/file/16769848/Clause-49-Listing-Agreement-by-ISridhar/> [online] [Accessed 10 March 2021]. [3] (1899) 1 Meg 385 [4] 1 KB 613 [5] 1966 36 CompCas 553 Kar [6] 309. Remuneration of directors. [7] Managerial Remuneration. September, 2020. Available at: <https://cleartax.in/s/managerial-remuneration> [Online] [Accessed 20 March 2021]. [8] (1985) 57 Comp. Cas. 193 (Bom.) [9] AIR 1997 SC 2404 [10] [2020]219CompCas281 [11] Section D: Remuneration Executive directors’ remuneration should be designed to promote the company's long-term success. [12] PLC Share Schemes & Incentives. New ABI executive remuneration guidelines: September 2011. [Online] Available at: <https://uk.practicallaw.thomsonreuters.com/9-508-6287?transitionType=Default&contextData=(sc.Default)&firstPage=true> [Accessed 4 March 2021]. [13] Available at: < https://www.pirc.co.uk/>[online] [Accessed 3 March 2021] [14] Available at :< https://www.remunerationconsultantsgroup.com/?P=THE_CODE#> [online] [Accessed 3 March 2021] [15] (1883) 23 Ch D 654 [16] Charlotte Villiers, Maria Isabel and Huerta Viesca, ‘Controlling Directors’ Pay in English Law and Spanish Law’ (1995) 2(4) Maastricht J. Eur. & Comp. L. 377, 381. [17] (1872) 26 LT 673 [18] The Insolvency Act 1986, Part 4, Chapter V, s 107. [19] [1895] 1 Ch 674 [20] [1990] 2 AC 663 [21] (1920) 36 TLR 330 [22] [1965] 1 WLR 335 [23] CA 1985. Available at: <https://www.legislation.gov.uk/ukpga/1985/6/contents/enacted>[Online] [Accessed 8 March 2021] [24] Charlotte Villiers, ‘Narrative Reporting and Enlightened Shareholder Value Under the Companies Act 2006’ in Keay A and Loughrey J (eds), Directors’ Duties and Shareholder Litigation in the Wake of the Financial Crisis (Edward Elgar Publishing 2013) 97. [25] The Directors' Remuneration Report Regulations 2002. Available at: <https://www.legislation.gov.uk/uksi/2002/1986/contents/made>[online] [Accessed 8 March 2021] [26] Enterprise and Regulatory Reform Act 2013. Available at: <https://www.legislation.gov.uk/ukpga/2013/24/contents/enacted> [online] [Accessed 8 March 2021] [27] Baker McKenzie.United Kingdom: Revised IA Principles of Remuneration for 2021 and updated guidelines from the ISS. A focus on the impact of the pandemic on executive remuneration. November 26 2020. Available at:< https://www.lexology.com/library/detail.aspx?g=d594cd47-8de3-4d75-b1f4-a54cfca2a580>[Online] [Online] Accessed [February 24 2021]