Enhancing Shareholders’ Say on Executive Compensation in India – A Regulatory Roadmap

While the Covid-19 pandemic had a detrimental impact on the revenues and profits of a majority of Indian companies, executive compensation increased steadily. In recent times, the Indian corporate space has witnessed unprecedented shareholder activism thwarting the proposed pay increases for the directors in companies like Hero MotoCorp, Eicher Motors, and Balaji Telefilms. A fresh debate has erupted on issues like excessive executive remunerations, not based on performance, and the minority shareholders lacking an adequate say in such matters. In this paper, an attempt has been made to undertake a thorough study of the evolution of the executive compensation mechanism in Indian companies, the existing legal and regulatory regime for executive remuneration, and the ‘say on pay’ available to the shareholders to identify the gaps that exist. A detailed analysis of the roles played by the nomination and remuneration committees, independent directors, proxy advisory firms, and institutional investors has also been undertaken. It also explores the comparative status of shareholders’ involvement in compensation matters in companies with dispersed shareholding patterns as found in the US and the UK, vis-à-vis those with concentrated shareholding which abound in India. Further, certain anomalies existing in the Companies Act, 2013 and the SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015 have been highlighted by analysing a few recent Indian case studies on executive pay. The paper is concluded by making recommendations for enhancing shareholders’ say on executive compensation matters in Indian companies.

Indian corporate space has, in the recent past, witnessed some unprecedented instances of shareholders disapproving board proposals for pay hikes for company executives in leading firms like Eicher Motors, Hero MotoCorp and Balaji Telefilms. The simmering discontent of the shareholders became vociferous also because of the bad timing of such moves, which came amidst the havoc triggered because of the Covid-19 pandemic on the revenues and profits of substantial number of Indian companies. In turbulent times, what the shareholders value the most is the company boards leading from the front with added agility and resilience, demonstrating compassion and empathy and maintaining transparency in all their acts.

The board of directors has primary responsibility for corporate governance. Directors apply their wisdom in setting the company goals and in providing the direction for accomplishing those goals. Acting as the custodians of the shareholders’ faith, they steer the company and therefore need to be compensated for their services. However, shareholders have for ages complained about the top executives getting overpaid irrespective of their performance. According to them, what is paid to one person diminishes the resources available to others, and it is unconscionable to benefit one individual at the expense of shareholders and employees. No wonder, worldwide, the surging shareholder activism has ignited a fresh debate about executive compensation, the contribution to be rendered by minority shareholders in corporate governance and the legitimate place for shareholder democracy and the subject has consistently attracted the attention of industrialists, academicians, and policymakers.

After decades of the relentless struggle by the shareholders, a check on the executive compensation first appeared by way of the legislation adopted by the British Parliament – the Directors’ Remuneration Report Regulations, 2002, which required public companies to permit their shareholders to have a mandatory yet non-binding vote on the compensation of their top executives, leading to the term “Say on Pay”. Since then, there has been a deluge of such legislation enacted in countries across the world. In the US, the campaign for say on pay started with the regulations issued by the Securities and Exchange Commission (hereinafter “SEC“) in 2007 and in the next two years itself, it secured tremendous traction with more than 400 companies seen seeking approvals for the management compensation. In short, the say on pay means the ability of the shareholders to actively participate in deciding executives’ compensation. Though the legislation came later, the shareholders of Vodafone (UK; 2001) and Tesco (US; 2007) raised their voices against the compensation resolutions much earlier, marking the first signs of the success of this campaign.

In US, UK, and Australia, where dispersed shareholding in public corporations is common, have viewed say on pay as a viable way of securing shareholder control over management to mitigate excessive agency costs linked to the separation of ownership and management. In a country like India, where the companies exhibit concentrated ownerships, these enactments were caused by the demands for bringing down the concentrated shareholding, for protection of the interests of the foreign institutional investors with increasing ownership interests in firms and the solid domestic social pressures against the rising income inequality.

In this paper, the author aims to analyse the present status of executive remunerations and the existing legal and regulatory regime in India in this regard. An examination of the executive remuneration status in the UK and the US follows next. The paper then assesses the various lacunae and anomalies in the existing Indian legal and regulatory provisions. The paper is concluded by making recommendations for enhancing shareholders’ say on executive compensation matters in Indian companies.

Excessive executive remuneration without a linkage to performance has been a contentious issue in India. Even graver problem is the vast disparity between the salaries of the top executives of the companies and the median employees. The oft-repeated argument regarding a dearth of talent at the top level does not hold much ground. Various studies on compensation provisions for executives in Indian companies have indicated a consensus on the following three findings – (a) the remuneration has no linkage with performance, and more often than not, the executives who get paid the highest do not belong to the top-performing firms; (b) the gap between the compensation levels of the senior company executives and the median employees is alarmingly high; and (c) the compensation levels of promoter Chief Executive Officer (hereinafter “CEO“) is invariably way above those of the professional CEOs.

In India, traditionally statutory employment laws have governed the conditions of employment and compensation of a significant proportion of the working force. The senior executives were usually kept exempt from the application of the above laws, and the matters related to their compensation were to be dealt with in accordance with their specific appointment contracts. However, as India’s corporate ecosystem ushered in a new regime, post the 1991 economic liberalisation policy, demands for transparency and parity in executive remuneration found a renewed voice. The May 2005 report of the Dr J. J. Irani Committee emphasized the necessity of adopting solid remuneration policies so as to attract and retain good human resources, as well as to foster greater fairness and reasonableness, which is essential for the advancement of corporate governance standards. The J J Irani committee report and the massive hue and cry about the compensation revision of some senior executives in India in the middle of the US-led financial crisis in 2008 led to a revamp of the Indian company law. Provisions related to executive compensation (or “managerial remuneration” in the Indian legal parlance) were given a relook. The Companies Act, 2013 (hereinafter “Act“) and the Securities and Exchange Board of India (hereinafter “SEBI“) (Listing Obligations and Disclosure Requirements) Regulations, 2015 (hereinafter “SEBI LODR Regulations, 2015“) now govern such matters.

It would be worthwhile to look at the existing Indian legal and regulatory provisions regarding managerial remuneration. “Remuneration” has been defined as “any money or its equivalent given or passed to any person for services rendered by him and includes perquisites as defined under the Income Tax Act, 1961.” Explanation B to Schedule V also provides that remuneration shall also include “reimbursement of any direct taxes to the managerial person”.

Regarding any financial year, the total managerial remuneration that a public company may pay to its directors, including the managing director and the full-time director, and its manager may not exceed 11 per cent of the company’s net profits computed for that financial year. The company’s shareholders in the general meeting may, subject to Schedule V to the Act, authorise payments of remuneration exceeding 11 per cent of the company’s net profits. For the aforementioned 11 per cent ceiling to apply, §197(2) indicates that fees payable to directors for attending meetings of the Board, Committees, and other meetings shall be disregarded. These provisions do not apply to private companies. The provisions further state the individual remuneration thresholds to be complied by the company concerning remuneration paid to executive and non-executive directors.

In accordance with §197(2), directors of a company are to be paid remuneration that is set out in the articles of the company, by a resolution, or, if the articles require, by a special resolution passed by the company in a general meeting held for this purpose.

Directors and managers can be paid compensation either through a monthly payment or by a percentage of the company’s net profits, or in part by one and part by the other.

Directors who draw or receive remuneration above the limits prescribed under §197 or who do not obtain approval as required shall refund such sums to the company and hold such sums in trust for the company until they have been refunded.

Provisions of Schedule V of the Act shall be applicable if the company suffers a loss or has inadequate profits. In addition, any provision in the company’s articles of association or memorandum of association, any agreement entered into by it, or any resolution passed in this regard that purports or has the effect of increasing the amount of managerial remuneration shall not take effect unless it is in accordance with the conditions specified in Schedule V.

All fees or compensation paid to non-executive directors, including independent directors, should be recommended by the company’s board of directors, and approved by shareholders in a general meeting. It is up to the shareholders to determine the maximum number of employee stock options that may be granted to non-executive directors in a given financial year and in aggregate. In the event that the annual remuneration payable to a single non-executive director exceeds 50 per cent of the total remuneration payable to all non-executive directors, a special resolution shall be required to be passed by the shareholders.

In case an executive director is a promoter or a member of the promoter group, the compensation payable to that executive director will need to be approved by the shareholders in a general meeting if it exceeds certain financial thresholds. Such approval of the shareholders shall be valid only until the expiration of such a director’s term.

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