India: Director's Liability: Revisiting The Principles Of Vicarious Liability

Introduction

With the enactment of the Companies Act, 2013 ("CA 2013") in India, the duties of a director have been codified. The CA 2013 introduces terms such as, 'reasonable care', 'independent judgment' and 'reasonable and due care'.  The CA 2013 also fastens liability for acts committed by the company on an 'officer who is in default' by virtue of them occupying key positions in the company such as being a managing director or a whole-time director. Similarly, other economic and labour law related enactments such as the Income Tax Act, 1961, Negotiable Instruments Act, 1881, Foreign Exchange Regulation Act, 1973, Securities and Exchange Board of India Act, 1992, Employees Provident Funds and Miscellaneous Act, 1952 to name a few also fasten vicarious liability on the directors for acts committed by the company. This article focuses on answering few questions surrounding attribution of vicarious liability to directors such as: When can a director be held vicariously liable for acts committed by the company? Can directors be held criminally liable only if the statute provides for such a liability or can a deeming fiction be created under law? What is the threshold required for prosecuting the directors of a company? Most importantly, can a director or an officer of a company be prosecuted for an offence without arraigning the company itself as an accused? Can directors and the company be simultaneously prosecuted?

Setting the framework: Evolution of Corporate Criminal Liability Jurisprudence in India

A constitution bench of five Judges in Standard Chartered Bank v. Directorate of Enforcement1  had held that a company can be prosecuted and convicted for an offence which requires a minimum sentence of imprisonment. However, the constitution bench categorically clarified that it is not expressing any opinion on the question whether a corporation could be attributed with requisite mens rea to prove the guilt.

Thereafter, a division bench of the Supreme Court in Iridium India Telecom v. Motorola Incorporated and Others2  had laid down that the criminal intent of the "alter ego" of the company, that is the personal group of persons that guide the business of the company, would be imputed to the company.

Vicarious Liability: When?

The Supreme Court in Sunil Bharti Mittal v. Central Bureau of Investigation and Others3 was faced with the issue as to when can a director/person in charge of the affairs of the company be prosecuted for an offence committed by the company. The Court relying upon Iridium stated that the principal of attribution is applied to impute criminal intention to the company on account of criminal intention of its alter ego and cannot be applied in a reverse scenario to make the directors liable for offences committed by the company.

The three bench laid down that a director can only be prosecuted if there is sufficient evidence of his active role coupled with criminal intent or where the statutory regime itself attracts the doctrine of vicarious liability, by specifically incorporating such a provision. The Supreme Court categorically laid down that, "When the company is the offendor, vicarious liability of the directors cannot be imputed automatically, in the absence of any statutory provision to that effect." It was surmised that it is a cardinal principle of criminal jurisprudence that there is no vicarious liability unless the statute specifically provides for it. 

Furthermore, earlier division bench decisions of the Supreme Court in J.K Industries Limited and Others v. Chief Inspector of Factories and Boilers and Others4 and P.C Agarwala v. Payment of Wages Inspector, M.P and Others5 have held that for vicarious liability under strict liability statutes, a person in charge would be deemed to be responsible for the acts of the company.

In the above backdrop, it is apt to examine the recent decision of the CCI in Ministry of Agriculture v. Mayhco Monsanto Biotech (India) Limited6 ("Monsanto") wherein the CCI was grappling with the issue of whether a director or an officer of a company be prosecuted for an offence without arraigning the company itself as an accused and whether directors and the company be simultaneously prosecuted? The judicial fora has seen a divergence of opinion on this point.

The Hon'ble Supreme Court while dealing with a similar issue in State of Madras v. CV Parekh7 under the Essential Commodities Act, 1955 held that the liability of the person-in-charge of the company is binding when a contravention is committed by the company and if the company is not prosecuted, the person-in-charge of the company could not be fastened with liability.

Subsequently, in Sheoratan Agarwal v. State of Madhya Prasesh8, it was clarified by a division bench of the Hon'ble Supreme Court that, "the company alone or the person-in charge of and responsible for the conduct of the business of the company alone, may be prosecuted for the acts of the company as there is no statutory requirement that such person cannot be prosecuted unless the company is also arraigned as an accused alongside him." This was in contrast to the earlier decision of the Supreme Court in CV Parekh.

The Supreme Court thereafter in Aneeta Hada v. Godfather Travels and Tours (P) Ltd9 while adjudicating a dispute under the Negotiable Instruments Act, 1881 ruled that the prosecution of a company is a condition precedent if its officer-in charge or responsible for the conduct of its business is to be prosecuted.

The CCI in Monsanto was dealing with the issue on whether under Section 48 of the Competition Act, 200210, a director can be simultaneously proceeded along with that of the company or a conviction on the company is a condition precedent to proceed against the director. The CCI observed that:

  1. Under Indian law, numerous statutes impose vicarious liability for the acts of the company upon its directors and other officers key managerial positions.
  2. Such provisions generally contain an exception stating that the director shall not be held vicariously liable for the acts of the company if he is able to prove that the alleged act was committed without his knowledge and negligence and has exercised all due diligence to prevent the commission of the offence.
  3. Vicarious liability is attached on the officer-in-charge and responsible for the conduct of business of the company by fiction of law in spite of the fact that such person may or may not have been directly responsible for the commission of such offence by the company.
  4. A person vicariously liable for acts of the company may be prosecuted simultaneously with the company.
  5. The Competition Commission of India is not required to first record a conviction against the company to proceed against the directors.

Key Takeaways

The decision in Monsanto has clarified many principles in relation to vicarious liability of directors for acts committed by the company and has clearly laid down that a prosecution can be initiated simultaneously against a director. In this context, the directors must ensure that they exercise all due diligence while carrying out their functions. The onus of proof that the offence was committed without his knowledge and all required due diligence was exercised would lie on the director itself as the law pertaining to liability of directors is becoming stricter in India.

In this context, negotiation of director indemnification clauses in shareholder and director agreements becomes extremely important and must be cautiously negotiated. Any properly negotiated indemnity clause should cover directors for indemnification from any proceedings brought by a third party for both costs of fighting the case and liabilities incurred.

In addition to indemnification protection, the directors should specifically seek directors and officer's liability insurance ("D & O Insurance") protection. Of late, this has become increasingly popular and relevant in India. The D & O Insurance should cover within its ambit liabilities for which the company cannot indemnify the director. It must be seen that the indemnification and insurance provisions for directors protect them fully even post expiry of their term as directors in the company.

Finally, recent changes proposed to the Prevention of Corruption Act, 1988 ("POCA") introduced pursuant to the Prevention of Corruption Amendment Bill, 2013 ("POCA 2013 Bill") contemplates holding companies liable "if any person associated with the commercial organisation offers, promises or gives a financial or other advantage to a public servant." The question arises at what stage will the board or top management of a large company be held vicariously liable for the acts of a few bad employees in their corporate empire? The charging section of the POCA 2013 Bill in its original form contained a familiar "out" for vicarious liability of directors where the alleged offense was committed without the director's knowledge and the director had exercised all due diligence to prevent the commission of the offence. However, that has been diluted by the 2015 Amendments moved in Rajya Sabha to the POCA 2013 Bill which makes an officer-in-charge liable only if it is proved that the offence was committed with the consent or connivance of such an officer-in-charge. But the Prevention of Money Laundering Act, 2002 ("PMLA") considers offences under POCA as a scheduled offence and provides for a similar vicarious liability provision as envisaged in the POCA 2013 Bill in its original form.11 Hence, in a prosecution under PMLA for violation of POCA against the company, the burden of proof would shift to the top management impleaded therein to demonstrate that they had no knowledge of such practices and hard undertaken all diligence in order to discharge the burden.

Footnotes

1 (2005) 4 SCC 530

2 (2011) 1 SCC 74

3 Criminal Appeal No. 35 of 2015 (arising out of Special Leave Petition (Crl.) No. 3161 of 2013)

4 (1996) 6 SCC 665

5 (2005) 8 SCC 104

6 (2016) 137 SCL 373

7 [1970] 3 SCC 491

8 [1984] 4 SCC 352

9 [2008] 85 SCL 56

10 Section 48: Contravention by companies. —

"(1) Where a person committing contravention of any of the provisions of this Act or of any rule, regulation, order made or direction issued thereunder is a company, every person who, at the time the contravention was committed, was in charge of, and was responsible to the company for the conduct of the business of the company, as well as the company, shall be deemed to be guilty of the contravention and shall be liable to be proceeded against and punished accordingly: Provided that nothing contained in this sub-section shall render any such person liable to any punishment if he proves that the contravention was committed without his knowledge or that he had exercised all due diligence to prevent the commission of such contravention.

(2)  Notwithstanding anything contained in sub-section (1), where a contravention of any of the provisions of this Act, or of any rule, regulation, order made or direction issued thereunder has been committed by a company and it is proved that the contravention has taken place with the consent or connivance of, or is attributable to any neglect on the part of, any director, manager, secretary or other officer of the company, such director, manager, secretary or other officer shall also be deemed to be guilty of that contravention and shall be liable to be proceeded against and punished accordingly.

Explanation—For the purposes of this section

(a)  "company" means a body corporate and includes a firm or other association of individuals; and

(b)  "director", in relation to a firm, means a partner in the firm."

11 "Section 70. Offences by companiesWhere a person committing a contravention of any of the provisions of this Act or of any rule, direction or order made thereunder is a company, every person who, at the time the contravention was committed, was in charge of, and was responsible to the company, for the conduct of the business of the company as well as the company, shall be deemed to be guilty of the contravention and shall be liable to be proceeded against and punished accordingly: Provided that nothing contained in this sub-section shall render any such person liable to punishment if he proves that the contravention took place without his knowledge or that he exercised all due diligence to prevent such contravention."

This article was first published in in Businessworld dated 27 January 2017.

The content of this document do not necessarily reflect the views/position of Khaitan & Co but remain solely those of the author(s). For any further queries or follow up please contact Khaitan & Co at legalalerts@khaitanco.com

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