Other The key issues debated by the Committee and the related recommendations are discussed below.

The Committee felt that the institution of nominee directors creates a conflict of interest that should be avoided. Such directors often claim that they are answerable only to the institutions they represent and take no responsibility for the company's management or fiduciary responsibility to other shareholders. It is necessary that all directors, whether representing institutions or otherwise, should have the same responsibilities and liabilities.

If the institution, whether as a lending institution or as investing institution, wishes to appoint its nominee on the Board, such appointment should be made through the normal process of election by the shareholders.

The Committee noted a dissenting view that FI nominees should not be granted any Board representation rights. Management should treat them on par with other investors and disseminate the same information that other shareholders would obtain. By virtue of their Board seat, FIs are placed in an advantageous position over the other shareholders, in terms of company price-sensitive information.

Based on the above distinction, the Committee makes the following mandatory recommendation:

Mandatory recommendation:
There shall be no nominee directors. Where an institution wishes to appoint a director on the Board, such appointment should be made by the shareholders.

An institutional director, so appointed, shall have the same responsibilities and shall be subject to the same liabilities as any other director. Nominee of the Government on public sector companies shall be similarly elected and shall be subject to the same responsibilities and liabilities as other directors.

The Committee discussed the following issues relating to compensation of independent directors:

Based on its deliberations, the Committee makes the following recommendation

Mandatory recommendation:
All compensation paid to non-executive directors may be fixed by the Board of Directors and should be approved by shareholders in general meeting. Limits should be set for the maximum number of stock options that can be granted to non-executive directors in any financial year and in aggregate. The stock options granted to the nonexecutive directors shall vest after a period of at least one year from the date such nonexecutive directors have retired from the Board of the Company.

Companies should publish their compensation philosophy and statement of entitled compensation in respect of non-executive directors in their annual report. Alternatively, this may be put up on the company's website and reference drawn thereto in the annual report.

Companies should disclose on an annual basis, details of shares held by non-executive directors, including on an "if-converted" basis.

Non-executive directors should be required to disclose their stock holding (both own or held by / for other persons on a beneficial basis) in the listed company in which they are proposed to be appointed as directors, prior to their appointment. These details should accompany their notice of appointment.

The Committee noted that the definition of independent directors should be clarified in the recommendations. It observed that the definition of independent directors as set out in the code of the International Corporate Governance Network may be referred to. The Committee also noted that the Naresh Chandra Committee report has attempted to define the term "independent director". The Committee was of the view that the same definition may be used to define independent directors.

An issue often raised in the context of independence is whether independent directors are entitled to any material benefits from the company other than sitting fees, remuneration, and travel and stay arrangements. Such benefits include stock options and performance bonuses that executive directors may be entitled to. The central issue is whether such benefits serve as incentives or hindrances to the objectivity of decision-making and hence, compromise its quality. It also needs to be considered that restrictions such as these could disenchant a person from accepting the position of independent director that carries onerous responsibilities without appropriate reward.

The Committee decided that the term "Independent director" shall have the same meaning as contained in paragraph 4.1 of the Naresh Chandra Committee report. Based on its deliberations, the Committee makes the following recommendation

Mandatory recommendation:
The term "independent director" is defined as a non-executive director of the company who:

• apart from receiving director remuneration, does not have any material pecuniary relationships or transactions with the company, its promoters, its senior management or its holding company, its subsidiaries and associated companies;

• is not related to promoters or management at the board level or at one level below the board;

• has not been an executive of the company in the immediately preceding three financialyears;

• is not a partner or an executive of the statutory audit firm or the internal audit firm that is associated with the company, and has not been a partner or an executive of any such firm for the last three years. This will also apply to legal firm(s) and consulting firm(s) that have a material association with the entity.

• is not a supplier, service provider or customer of the company. This should include lessor-lessee type relationships also; and

• is not a substantial shareholder of the company, i.e. owning two percent or more of the block of voting shares. The considerations as regards remuneration paid to an independent director shall be the same as those applied to a non-executive director.

It was suggested that personnel who observe an unethical or improper practice should be able to approach the independent audit committee without necessarily informing the Board. There should also be a mechanism for employees to be aware of this privilege. The Committee agreed with this suggestion. It also noted that the suggestion may be accepted, with one modification i.e. the word "board" be replaced with "supervisor". Based on the above, the Committee makes the following recommendation

Mandatory recommendation:
Personnel who observe an unethical or improper practice (not necessarily a violation of law) should be able to approach the audit committee without necessarily informing their supervisors.

Companies shall take measures to ensure that this right of access is communicated to all employees through means of internal circulars, etc. The employment and other personnel policies of the company shall contain provisions protecting "whistle blowers" from unfair termination and other unfair prejudicial employment practices.

It was also suggested that SEBI should monitor compliance with the recommendation above. The Committee noted that companies should affirm periodically (at least on an annual basis) that they have complied with this requirement. The Committee also noted that it was necessary to provide protection to the internal auditor by enhancing his independence. This can be done by mandating that the appointment, removal and terms of remuneration of the chief internal auditor must be subject to review by the Audit Committee. Based on this discussion, the Committee makes the following mandatory recommendation

Mandatory recommendation:

• Companies shall annually affirm that they have not denied any personnel access to the audit committee of the company (in respect of matters involving alleged misconduct) and that they have provided protection to "whistle blowers" from unfair termination and other unfair or prejudicial employment practices.

• The appointment, removal and terms of remuneration of the chief internal auditor must be subject to review by the Audit Committee.

• Such affirmation shall form a part of the Board report on Corporate Governance that is required to be prepared and submitted together with the annual report.

It was suggested to the Committee that the requirements relating to non-executive /independent directors and audit committees should be extended to subsidiaries of listed companies. Further, the scope of the Audit Committee should be enlarged to include review of investments made by subsidiaries and associates to ensure that Section 77 of Companies Act, 1956 is not violated.

The Committee noted the following additional suggestions:

• It may be difficult to monitor compliance with the suggestion, in the case of associate companies, insofar as it related to a review of investments. This requirement may, therefore, be made applicable to subsidiary companies only;

• It should be recommended to the Central Government that the Companies Act, 1956 should be amended to exclude common directorships in holding and subsidiary companies, in computing the limits on directorships that an individual may hold;

• The provisions relating to the composition of the Board of Directors of the holding company shall also be made applicable to the composition of the Board of Directors of subsidiary companies;

• At least one-third of the Board of Directors of the subsidiary company shall be non-executive directors of the parent company;

• The Audit Committee of the parent company shall also review the financial statements of the subsidiary company;

• The minutes of the Board meeting of the subsidiary company shall be placed for review at the Board meeting of the parent company; and

• The Board report of the parent company should state that they have reviewed the affairs of the subsidiary company also.

Based on the deliberations, the Committee makes the following mandatory recommendation

Mandatory recommendation:

• The provisions relating to the composition of the Board of Directors of the holding company should be made applicable to the composition of the Board of Directors of subsidiary companies.

• At least one independent director on the Board of Directors of the parent company shall be a director on the Board of Directors of the subsidiary company.

• The Audit Committee of the parent company shall also review the financial statements, in particular the investments made by the subsidiary company.

• The minutes of the Board meetings of the subsidiary company shall be placed for review at the Board meeting of the parent company.

• The Board report of the parent company should state that they have reviewed the affairs of the subsidiary company also.

It was suggested that SEBI should issue rules relating to real-time disclosures of certain events or transactions that may be of importance to investors, within 3-5 business days. These would include events such as-

1. a change in the control of the company,

2. a company's acquisition / disposal of a significant amount of assets,

3. bankruptcy or receivership,

4. a change in the company's independent auditors,and

5. the resignation of a director.

The Committee noted that there are certain practical problems in ensuring timely disclosures. For example, a business transaction that is under negotiations may have an impact on the market price. However, its disclosure may prejudice the underlying business negotiations.

The Committee also noted the issue of rumor verification by stock exchanges. It noted a view that Board decisions that were price sensitive should be disclosed to the markets within 15 minutes. Stock exchanges are currently responsible for rumor verification. The Committee however believed that this issue needs to be studied with much greater depth by SEBI and the stock exchanges, and should not be restricted to a corporate governance perspective alone.

The Committee was of the view that no recommendation would be made to SEBI in respect of this suggestion.

The Committee received the following suggestions

• The performance evaluation of non-executive directors should be done by a peer group comprising the entire Board of Directors, excluding the director being evaluated; and

• Peer group evaluation should be the mechanism to determine whether to extend / continue the terms of appointment of non-executive directors.

The Committee noted that evaluation of Board members is in a germane stage in India. It is necessary to have a robust process in place for such evaluation. It is also necessary to ensure continuity of top leadership, including CEO succession planning. However, the Committee believes that this should be of a recommendatory nature at first, before becoming a mandatory requirement. This will help companies develop robust processes for Board evaluation. This may be made mandatory after a period of 4 - 5 years.

Based on the above deliberations, the Committee makes the following nonmandatory recommendation

Non-mandatory recommendation:

The performance evaluation of non-executive directors should be by a peer group comprising the entire Board of Directors, excluding the director being evaluated; and Peer group evaluation should be the mechanism to determine whether to extend / continue the terms of appointment of non-executive directors.

It was suggested that rules should be put in place by SEBI regarding reports issued by security analysts.

The Committee noted that the integrity and credibility of reports issued by security analysts could be compromised owing to pressures to which the security analyst may be subject. This is because of the conflict of interest that arises between the stock analysts and their employing brokerage / investment- banking firms, on the one hand and the listed companies that the stock analysts write reports about, on the other hand.

Based on the discussions, the Committee makes the following mandatory recommendation

Mandatory recommendation:
SEBI should make rules for the following:

• Disclosure in the report issued by a security analyst whether the company that is being written about is a client of the analyst's employer or an associate of the analyst's employer, and the nature of services rendered to such company, if any; and

• Disclosure in the report issued by a security analyst whether the analyst or the analyst's employer or an associate of the analyst's employer hold or held (in the 12 months immediately preceding the date of the report) or intend to hold any debt or equity instrument in the issuer company that is the subject matter of the report of the analyst.