The Companies Act, 2013, has introduced significant changes which highlight the protection of the interests of shareholders and other stakeholders. This has a direct correlation to the role of the directors and officers of companies, making them more susceptible to risk.
The new and improved regulations and the increased responsibilities accorded to the directors and officers heighten the chance of their being held personally accountable for acts they commit either unintentionally or wrongfully, thereby attracting significant legal costs or other financial burdens. As a result, directors’ and officers’ liability insurance (D&O) has been gaining popularity.
D&O can protect the directors and officers of a company or the company itself from any claims arising and provide them cover against any legal expenses and in defending against criminal or civil actions arising out of such claims.
Growth in India
D&O has been widely popular in the West where the laws ensure that directors are indemnified by companies for any personal liability that may arise due to their position, and also comes into play elsewhere. While it is a newer concept in India, newspapers report that the D&O industry has been growing by 20% a year.
The surge in companies opting for D&O policies can be attributed to the following changes in the 2013 act.
Class action: In the aftermath of the Satyam scam, there was a realization that investors and shareholders in India could not file a suit against the company for damages. This flaw has been remedied by section 245 of the 2013 act, whereby a class action suit may be brought against the company or any of its directors by its members or depositors before the National Company Law Tribunal.
Deduction of premium from remuneration: The escalation in the procurement of D&O policies also emanates from section 197(13) of the 2013 act, whereby D&O insurance has been conferred recognition.
The provision states that if an insurance policy has been taken out by a company on behalf of any of its directors or officers including the CEO or CFO, indemnifying any of them against any liability (i.e. negligence, default, misfeasance, breach of duty or breach of trust) which may be proved in relation to the company, the premium paid is not to be treated as part of the remuneration payable to any such directors or officers. However, if any of these persons are proved to be liable, the premium paid on such insurance will be treated as part of the remuneration.
This differs considerably from the position under section 201 of the Companies Act, 1956, which mandated that any provision indemnifying any officer or director against any liability by way of any law would be void. The only exception would be where a judgment was given in favour of the officer or director or the officer or director was acquitted or discharged by the court.
Definition of “officer in default”: Section 2(60) of the 2013 act widens the ambit of the officers who can be held in default by also including key managerial personnel, share transfer agents, registrars, merchant bankers and every director in respect of a contravention of the provisions of the act who was aware of such contravention by virtue of being the recipient of any proceedings of the board or participation in such proceedings without objecting to the proceedings, or where the consent of such a director was obtained.
Codification of the duties of the directors: Section 166 of the 2013 act specifically lays down a list of duties that each director has to abide by, including but not limited to exercising their duties with reasonable skill and care and acting in good faith, and also stipulates that a penalty of ₹100,000 to ₹500,000 (US$1,600-8,000) may be levied on a director if the provisions of the section are contravened.
If a company has D&O insurance, then in a situation where a class action suit has been filed, the legal expenses for all court proceedings can be recovered and would be recoverable even before the court has pronounced its judgment. The essence of providing such coverage is to ensure that directors who work in the best interests of the company are secure and are protected in case such a suit arises. It is crucial to note that D&O policies contain exclusions whereby if the act of the insured is dishonest and malicious and has been knowingly committed then insurance cover will not be provided.
While relatively few Indian companies have taken out such policies, given the current scenario of regulations and the scams that have hit the Indian market over the past few years, it is advisable that all companies irrespective of their size obtain a D&O policy in order to protect themselves.
Khaitan Sud & Partners is a fast growing law firm providing specialist legal services to both domestic and international clients. Riddhi Sancheti is an associate at the firm.
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