Wednesday, August 13, 2014

Guest Post: Corporate Law Reforms and Whistleblowing

[The following post is contributed by Suprotik Das, a 3rd year law student at the Jindal Global Law School, Sonepat, Haryana]

Last year, with the advent of the Companies Act, 2013 (the Act), the thrust has been toward fraud protection and having an effective corporate vigil mechanism. Companies in India are now required to have an appropriate whistle blower protection policy in place. In this regard, section 177(9) of the Act mandates that every listed company or such class or classes of companies, as may be prescribed, shall establish a vigil mechanism for directors and employees to report genuine concerns in such manner as may be prescribed. However, the Ministry of Corporate Affairs has still not notified what exactly a ‘genuine concern’ entails.

Under section 177(10), the vigil mechanism under sub-section (9) shall provide for adequate safeguards against victimisation of persons who use such mechanism and make provision for direct access to the chairperson of the Audit Committee in appropriate or exceptional cases.The proviso to the section requires such mechanism to be disclosed by the company on its website as well as in the board’s report.

In 2014, keeping in line with the growing role of corporate governance, the Ministry of Corporate Affairs notified Chapter XII of the Act which is implemented through The Companies (Meetings and Powers of Board) Amendment Rules, 2014 and expanded the ambit of the whistleblower protection norms under Section 177 (9) and (10).

As per rule 7(1), the following classes of companies need to have a vigil mechanism to report genuine concerns or grievances –

(a) Companies which accept deposits from the public;

(b) Companies which have borrowed money from banks and public financial institutions in excess of fifty crore rupees.

As per rule (2), where companies are required to constitute an audit committee, such committee shall oversee the vigil mechanism and if any of the members of the committee have a conflict of interest in a given case, they should recuse themselves and the others on the committee will deal with the matter on hand.

As per rule (3), in case of other companies, the Board of directors shall nominate a director to play the role of audit committee for the purpose of vigil mechanism to whom other directors and employees may report their concerns.

On April 17, 2014, the Securities and Exchange Board of India (SEBI) released a circular to amend Clauses 35B and 49 of the SEBI Equity Listing Agreement. The circular makes significant changes to the scope of whistle blowing protection in India. 

As per Clause 49. I. B. 1. e., the company should devise an effective whistle blower mechanism enabling stakeholders, including individual employees and their representative bodies, to freely communicate their concerns about illegal or unethical practices. However, it is still unclear as to the ambit of the illegal or unethical practices. Do they mean fraud or embezzlement or securities violations? We are still unclear with respect to the term illegal or unethical practice.
Clause 49. II. F. categorically lays out a Whistle Blower Policy to be followed-

1. The company shall establish a vigil mechanism for directors and employees to report concerns about unethical behaviour, actual or suspected fraud or violation of the company’s code of conduct or ethics policy.

2. This mechanism should also provide for adequate safeguards against victimization of director(s) / employee(s) who avail of the mechanism and also provide for direct access to the Chairman of the Audit Committee in exceptional cases.

3. The details of establishment of such mechanism shall be disclosed by the company on its website and in the Board’s report.

Victimisation of whistlebowers was a point that was not addressed before. However, safeguards and policies should clearly be laid down by companies to prevent termination, demotion and punishment of whistleblowers.

Financial incentives can be another step towards effectively unearthing fraud. This is present in the United States with the Dodd–Frank Wall Street Reform and Consumer Protection Act. Section 922 of that Act mandates that 10% to 30% of what has been collected in monetary sanctions, exceeding $1 Million, will be given to whistleblowers. In determining the amount, the Securities and Exchange Commission will take the following into account:

1.         The significance of the information;

2.         The degree of assistance provided by the whistleblower; and

3.         The interest of the government in deterring violations of securities laws.

Incentives of this nature, however, are absent in India.

Clause 49. III. D. 18 requires a qualified and independent Audit Committee to review the functioning of the Whistle Blower mechanism. As per Clause 49. VII. H. 2., the details of the vigil mechanism should be disclosed by the company on its website and in the Board’s report.
The revised Clause 49 would be applicable to all listed companies with effect from October 01, 2014. The provisions of Clause 49(VII) as given in Part-B shall be applicable to all prospective transactions. For unlisted companies, the 2014 Rules under Chapter XII as well as section 177(9) and (10) will be applicable.

The circular states that for other listed entities such as banks, financial institutions, insurance companies, NBFCs, which are governed by other statutes, Clause 49 will be applicable to the extent there is no conflict with their statutes, rules or guidelines. However, Clause 49 is not applicable to Mutual Funds.

Tracing the legislative history, it is found that the Companies Bill, 2011 made amendments to the Statement of Objects and Reasons included in the Companies Bill, 2009. Clause 5(d) illustrates whistle blowing provisions so as to facilitate ethical corporate behaviour, while rewarding employees for their integrity and for providing valuable information to the management on deviant practices. In my opinion, the Ministry should provide clarity on some of the terms in the Act, Rules and circulars so as to define the scope of some terms such as ‘genuine concerns’ and ‘illegal and unethical practices’.

Although the objectives set out by the Bill have not been achieved yet, significant strides have been made in that direction. The new benevolence in Corporate Governance is a welcome step for Indian Companies and more importantly, for employees in Indian Companies who seek to uncover and report instances of fraud, embezzlement, or securities law violations or other illegal or unethical conduct.

- Suprotik Das

No comments: