Independent Director Vacancy and a Related-Party Machinery Purchase
Zenith Precision Limited is an unlisted Indian public company with paid-up equity capital of ₹18 crore, turnover of ₹140 crore in the last financial year, and outstanding borrowings of ₹60 crore. Its board has seven directors: a promoter-chairman, his brother as managing director, two non-executive promoter nominees, two independent directors and one professional director. One independent director resigned on 15 May 2025 citing health reasons; the other independent director chairs the audit committee. On 1 June 2025 the company proposes to buy machinery worth ₹22 crore from a promoter-owned entity. Net worth is ₹80 crore. The purchase is not in the ordinary course of business and is not at arm's length. The CFO wants to sign the contract immediately and fill the independent director vacancy after the annual general meeting.
1. What is Zenith's independent director requirement, and what does the resignation do to board and audit committee composition?
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Zenith is an unlisted public company. Under the prescribed rules, an unlisted public company must have at least two independent directors if it has paid-up share capital of ₹10 crore or more, turnover of ₹100 crore or more, or aggregate borrowings, debentures and deposits of ₹50 crore or more. Zenith meets all three tests - ₹18 crore capital, ₹140 crore turnover and ₹60 crore borrowings - so it needs at least two independent directors.
After the resignation, only one independent director remains. The board is non-compliant. The vacancy should be filled promptly. The board can appoint an additional director under Section 161(1) if the articles permit, but that appointment must be regularised by the members at the next general meeting; alternatively, an extraordinary general meeting can be convened. The company should also check the cooling-off and eligibility criteria before appointing anyone.
The audit committee is affected because the remaining independent director chairs it. The audit committee rules apply to a public company with paid-up capital of ₹5 crore or more, and Zenith qualifies. The committee must have at least three directors, with independent directors forming a majority. With only one independent director, a three-member committee cannot have an independent majority. The committee should be reconstituted after the vacancy is filled, and it should not transact business in the meantime if it is not validly constituted.
2. Can the ₹22 crore related-party purchase proceed on board approval alone? Set out the approvals and voting restrictions, and explain the CFO's position.
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No. Section 188 applies because the purchase is not in the ordinary course of business and not at arm's length. The prescribed threshold for purchase of property is 10% of net worth. Zenith's net worth is ₹80 crore, so the threshold is ₹8 crore. The proposed purchase is ₹22 crore and therefore exceeds the threshold.
The company must obtain: (i) approval of the board at a board meeting - not by circulation; and (ii) prior approval of the members by ordinary resolution. The related party - the promoter-owned seller and any related parties - cannot vote to approve the resolution. The explanatory statement must disclose the name of the related party, the nature of the relationship, the material terms, the arm's-length basis or justification, and the board's recommendation. Audit committee approval should also be obtained because the company has a validly constituted audit committee and related-party transactions fall within its role.
The CFO cannot sign the contract immediately. Signing before the approvals would expose the company to the contract being voidable at the option of the board and to penalties. The interested director should disclose his interest under Section 184 and not participate in the board discussion or vote.
3. The company is considering appointing the existing professional director as an independent director. What eligibility checks and process apply?
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The professional director must satisfy the independent director criteria in Section 149(6). Key checks: he must not be a promoter or a relative of a promoter or director; he must not have a pecuniary relationship with the company, its holding, subsidiary or associate company, or their promoters or directors, during the current and two preceding financial years, apart from remuneration as an independent director; he must not be a material supplier, service provider, lessor or lessee; and he must not have been a key managerial person or employee in the preceding three years. If he receives consultancy fees or any other payment from the company or the promoter, that may disqualify him unless it falls within the permitted remuneration.
The company should obtain a declaration of independence, a DIN and consent to act, and check his other directorships and committee memberships. The appointment should be approved by the board and then by the members; the explanatory statement must state the justification for his independence. He should be appointed for a term of up to five years and is not liable to retire by rotation. If the company cannot satisfy the independence tests, it should recruit an external candidate rather than misclassify the professional director.