Introduction– The Companies Act, 2013 (“The Act”) defines a director to mean a director appointed to the Board of a company. The Act consists of the concept of an ‘officer who is in default for the purposes of affixing liability. Liability applies on such person in respect of any contravention of the provisions of the Act by the company. The ambit of ‘officer who is in default’ is wide and includes, inter alia, every whole-time director. The Most Significant Liabilities for a Company Director are;
1. Liability to the company:
- Breach of fiduciary duty: Directors hold the office of trust along with power and are expected to exercise this power in the best interest of the company. If someone discharges such duties dishonestly, they commit a breach of fiduciary duty. In conflicts of interest, the concerned director should make complete disclosures and obtain the confidence of stakeholders to prevent liability.
- Ultra-vires act: Directors have powers subject to the Companies Act, Memorandum, and Articles of Association, and exceeding these makes them personally liable. But if acts are intra-vires they can be ratified by the shareholders in the general meeting.
- Negligence: As long as the Directors exercise reasonable care and due diligence, they are fulfilling their duties. Failing to exercise such care and caution may deem them negligent, resulting in personal attribution of subsequent damages. The subsequent damages will be attributed to them personally. However, it’s important to note that an error of judgment does not qualify as negligence.
- Mala fide acts: Directors are trustees for the money and property of the company. If they misuse their powers, they hold the responsibility for breaching the trust of their office. They may have to reimburse the company for any loss suffered due to such an act.
2. Liability to third parties
Directors, as company agents, are typically not personally liable for transactions with third parties. The most significant liabilities for a company director (personal liability) is only in exceptional circumstances when they enter into a contract in their personal capacity. Additionally, individuals may face personal liability when they fail to disclose the principal. They are liable for pre-incorporation and unauthorized contracts exceeding company’s authorized powers, not ratified later.
3. Criminal liability of directors-
- Liability based on attribution– The debate on whether the director is held responsible for criminal acts of the company by applying the concept of alter-ego is settled by the Supreme Court in Sunil Bharti Mittal v. Central Bureau of Investigation. In the case, the Court stated that they can only apply the concept of alter-ego to hold the company liable for the acts of the directors. However, unless the statute explicitly provides otherwise, the company cannot hold any director accountable for the criminal offenses committed.
- Vicarious liability– A significant question is a matter of debate in the Indian Corporate landscape, i.e. can a company be held responsible for the criminal act done by its employees? The Supreme Court settled this question in the case of Iridium India Telecom Ltd. v. Motorola Incorporated, wherein, the Supreme Court analyzed the criminal liability of the company for the action of its employees. In this case, the court observed that it attributes the criminal liability arising from the actions of the person in control of the company to the company but not vice versa.
- Fraud under the Companies Act – Section 447 of the Act defines fraud as an act with the intent to deceive, gain undue advantage, or harm the interests of a person, company, shareholders, or creditors. Punishment includes imprisonment up to 10 years. If directors actively participate with criminal intent, they can face prosecution, as the Indian Penal Code does not include provisions on vicarious liability.
- Liabilities in case of Independent Directors and Non-Executive Directors- The Independent Directors and Non-Executive can be held liable only if the following conditions are satisfied: – Acts of omission or commission by a company which had occurred with his knowledge, attributable through Board Process; and – with his consent or connivance or where he had not acted diligently.
Safeguarding tools
- Indemnification– It is settled law in India that companies are criminally liable for offenses committed by its employee if committed within the scope of their employment. However, courts have repeatedly established that holding an employee liable for the offenses committed by the company is not true. Nevertheless, the jurisprudence on this subject is still under development. Hence, it is important for directors to hedge the risk arising therefrom. As there is no bar under the existing provisions of the Companies Act, directors must insist on the indemnification clause. The shareholder’s agreement and the appointment letter issued by the Company both insist upon this. The foregoing mechanism will help the directors to safeguard themselves in case of any claim arising from any third party due to their bonafide actions in the company.
- Directors & Officers Liability Insurance: Another tool available to the directors is to push the company to obtain the Directors and Officers Liability Insurance to hedge against any pecuniary liability arising on the directors.
Ideally, these insurances should have a part of the sum assured reserved for non-executive directors.
NOTE: To ascertain the most significant liabilities for a company director, it is immaterial whether the director participated or not. When the director receives contravention information from board proceedings, they are considered accountable and deemed liable. Therefore, it is essential for a director to ensure that they record any objection raised by them at a board meeting in the minutes and that they read any minutes received.
About The Author
Rajesh
MBA Finance
With a wealth of expertise in the insurance realm, Rajesh is a distinguished writer specializing in articles focusing on directors and officers insurance for SecureNow. Boasting 9 years of experience in the industry, he profoundly understands the complexities surrounding directors and officers liability coverage. Their articles delve into the intricacies of D&O insurance, providing readers with invaluable insights into risk mitigation strategies and policy considerations. Renowned for their comprehensive knowledge and attention to detail, Rajesh is dedicated to delivering informative and engaging content that empowers individuals and businesses to navigate the complexities of insurance with confidence.
