Remuneration Guidelines in India and Severance Packages
This paper will firstly deal with the remuneration guidelines in place in India for directors of companies. Secondly, this paper will deal with how severance packages across the globe are offered and as to why they are offered. This paper will highlight the importance of regulations for the remuneration of directors and also aim to highlight the importance of severance packages.
REMUNERATION GUIDELINES IN INDIA
Section 197 of the Companies Act 2013 talks about the overall maximum managerial remuneration and managerial remuneration in case of absence or inadequacy of profits. It is important to understand what constitutes a managerial position that entitles a person to receive managerial remuneration. Though the term managerial position has not been defined in the act, a reference to section 197 unequivocally suggests that directors, including managing director and whole-time director of the company and manager constitute managerial personnel.
An executive in a company, howsoever, lofty position he may be holding in the company will not come under the realm of managerial personnel and accordingly any remuneration or compensation package received by him will not be counted as managerial remuneration contemplated in the Act. Even a person carrying administrative designation of manager like a general manager or any functional manager will not be included as manger personnel.
Section 197(1) states that the maximum managerial remuneration paid by a public company to its directors, including managing director and whole time Director and its manager shall not exceed 11% of the net profits for the financial year. Subject to the provisions of Schedule V, the payment exceeding 11% can also be authorized by the company in the general meeting, with the approval of the Central Government.
Now moving onto another type of directors namely independent directors. Independent Director may receive remuneration by way of:
· Sitting Fees or
· Re-imbursement of expenses for participation in the board and other meetings or
· Profit related commission as may be approved by the members.
Sub-section 5 and 6 lay down the manner by which the remuneration may be paid to the managerial personnel. According to sub-section 6, a director may be paid remuneration either by way of a monthly payment or at a specified percentage of the net profits of the company or partly by one way and partly by other. Moving onto the second half of the paper, companies do go through bad times and thus have to layoff certain members and that’s where the idea of severance packages kicks in.
WHY ARE SEVERANCE PACKAGES OFFERED?
One of the biggest questions that come up related to this topic is that why is severance compensation even given to employees. To begin, severance compensation is the compensation and/or benefits an employer provides to an employee after employment is over. Not all circumstances call for the company to give a severance package, some cases that call for giving a severance package include layoffs, that particular job being eliminated, sometimes even a mutual understanding to part ways and in some cases even the employee is being relocated to another location. Severance packages are not offered to the employees who commit fraud, a felony or violate some code of conduct prescribed by the company.
Severance packages are not only offered when the termination of employment is from the side of the employer, it can also be offered when the termination of employment is done from the side of the employee for a valid reason. Couple of valid reasons can be significant reduction in pay, relocation to another location or it can also be the fact that the employee now has a reduced role in the company with lesser number of responsibilities.
The main purpose for the company to provide a package of this sort is to attract and retain senior employees and for the employee, it is to have a safety net against potential loss of employment and these packages typically give the employee sufficient time to find a new job. Most companies have a clause in their contract, that when these packages are given to the directors they in turn waive all the rights to sue the company. These kinds of packages typically help the company save many litigation costs.
Coming to the main question as to why severance packages should be given, one of the most basic reasons that most employers provide so is just the simple fact that it is the right thing to do. Most employers give these packages because they feel it is their responsibility to give their ex-employee some kind of compensation for his services to the company. Another main reason as to why most employers give compensation is for the simple fact that it keeps the morale of the remaining employees going and keeps them in good spirits. No employee wants to work at a company where they feel that when they are let off from their duties, then they will not get any compensation.
Another reason as to why most employers give a severance package to their employees is simply because they want to avoid negative press. Huge companies when they let go off a substantial number of employees, this usually attracts a lot of negative press from all local news channels which in turn harms the reputation of the company and this could interfere with future hiring by the company. Now, one way companies can avoid this is by offering severance packages, even if the company lays off a substantial amount of employees, it can at least save face by coming out with the fact it gave all the fired employees some sort of compensation.
TYPES OF SEVERANCE PACKAGES
There are typically two types of severance packages that are available to most employees depending on what kind of salary they are being paid. There are typically two kinds of salaries that are offered to employees, one being with stock incentives and the other one being without stock incentives.
Starting with the salary without any stock incentives, the severance package is typically a multiple of the base salary that is being offered plus a bonus amount. Now coming to the salaries that also include stock options, which are called ESOPs (Employee Stock Ownership Plan), in these cases the severance package is usually just the regular multiple of the base salary plus bonus and the added instant vesting of the ESOPs.
SEVERANCE PACKAGES IN INDIA
Coming to the legal aspect of this and how this works out for shareholders. In India some part of the salary that is being offered to the executive directors has to be approved by the shareholders. Now if in the initial contract, there was no severance package offered to the directors, then for the company to offer a severance package would be against the Companies Act, 2013 unless the shareholders change their minds later on.
Now, if the shareholders do not change their mind, the company makes the employee sign a ‘separation agreement’ stating that then trumps the original contract between the employer and the employee. These agreements are 100% legal but increase non-transparency between the company and the shareholders. One such example of a separation agreement that took place, which did not go down too well with the shareholders, was the deal that Infosys took part in with their former Chief Compliance Officer and Executive Vice President named David Kennedy.
On 31st December, Infosys came out with a statement that they have a signed a separation agreement with Mr. David Kennedy and that he will receive $868,250 as his severance package. This brought about quite an uproar among the shareholders and even a top official from a proxy firm named InGovern Research gave a statement saying that he was shocked at the amount of compensation being given to an employee who had only worked for two years with the company.
Needless to say, severance pay is necessary for any departing employee. Every departing employee will always have a time where he or she is without a job after being let go from a previous job. During this time, he or she will not be earning any money and this is where we feel that severance pay should serve its purpose. Severance pay during this time will help the individual and his or her family survive as well.
Secondly, severance pay is necessary because of the simple reason that the departing worker has worked for a certain number of years at the company and this he or she should be compensated for his or her work. Thirdly, severance pay should not only be offered to the executives of the company but also should be offered to the non-managerial positions. They also have the right to severance pay as they have also served diligently to the company.
Lastly, when severance pay is being given to any employee the number of years he or she has worked at the company should be an integral factor.The number of years an employee has worked at a company clearly shows how loyal he or she is to the company and thus we feel it should be an integral part of determining his or her severance pay.
1. Companies Act, 197 (2013).
2. G.K Kapoor, Corporate Laws (University Edition) (3 ed. 2015).
3. CHAPTER XIII Appointment and Remuneration of Managerial Personnel (Sections 196 -205) Read with Companies (Appointment and Remuneration of Managerial Personnel) Rules, 2014 and Schedule V.
4. Everett Hawkins, Dismissal compensation : voluntary and compulsory plans used in the United States and abroad, Journal Of Political Economy (1940), https://www.jstor.org/stable/1829329?seq=1
5. InGovern Research Services, A Note On Executive Severance Packages (1st edn, InGovern 2017) http://www.ingovern.com/wp-content/uploads/2017/06/InGovern-Note-on-Executive-Severance-Packages.pdf
6. Felice B. Klein and others, 'Executive Severance Agreements: Making Sense Of An Emerging, Yet Fragmented, Research Field'  Oxford Research Encyclopedia of Business and Management.
7. Jochelle Mendonca, 'Another Change At Infosys As Compliance Chief David Kennedy Quits' (The Economic Times, 2017) <https://economictimes.indiatimes.com/tech/ites/another-change-at-infosys-as-compliance-chief-david-kennedy-quits/articleshow/56276781.cms?from=mdr>
ABOUT THE AUTHOR
This blog has been authored by Shubham Ranjan & Shravan Subramanian who are 4th Year B.A., LL.B. (Hons.) students at Jindal Global Law School, Sonepat.
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