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UK government puts forward 'wide-ranging' package of corporate governance reforms

A new public register of listed companies whose shareholders have objected to executive pay will form an important part of the UK government's corporate governance reforms, business secretary Greg Clark has announced.30 Aug 2017

Listed companies will also be required to publish and justify the pay ratio between their chief executive and average UK worker, while a new requirement to explain publicly how companies take the interests of their employees into account will be included in a refreshed version of the UK's Corporate Governance Code.

The government has also proposed measures to improve corporate governance at large privately-held businesses, which are not subject to the code in the same way as publicly-held businesses. It will commission the Financial Reporting Council (FRC) to develop a set of voluntary corporate governance principles for these businesses, as well as introduce a requirement through secondary legislation for them to disclose their corporate governance arrangements in their directors' report and on their website.

The government's response to last year's green paper on corporate governance reform was criticised by some business groups for dropping the Conservative Party's 2017 manifesto commitment to introducing annual binding shareholder votes on executive pay. However, incentives expert Suzannah Crookes of Pinsent Masons, the law firm behind Out-Law.com, said that the government's intention "seems to be a wide-ranging package to support changes in approach through a number of measures".

"This addresses concerns raised during the consultation that the imposition of further regulation alone could lead to 'tick-box' compliance, rather than improvements in attitude and engagement," she said.

"As had been reported in advance, shareholders will not see new binding votes in relation to remuneration matters. The package of measures overall will, however, bring voting outcomes into sharper focus, for example through the new register of companies having a vote of 20% or more against. It is to be hoped that existing shareholder powers to vote for or against remuneration resolutions and re-election of directors will be used effectively, to enhance good stewardship and encourage good governance," she said.

"The paper sets out a number of areas where industry bodies including the FRC, FCA and IA will be asked to provide further input in developing best practice. In ensuring a practical and effective approach to achieving some of the behavioural changes the government is seeking to implement, the involvement of those with the in-depth knowledge of certain areas will be invaluable. There is potentially much to be gained by engagement at this level," she said.

Remuneration expert Graeme Standen of Pinsent Masons said: "Although the abandonment of binding pay approvals has been seen as a climbdown, it would have been difficult to legislate well for these, and also difficult for companies and investors to implement them," and noted that "Introducing binding annual approvals might even have somewhat discouraged investors from voting against pay packages in the same way as they will at present, for fear of disproportionate disruption and distraction of FTSE boards."

The government intends to take forward four main strands of reform through a mixture of secondary legislation, which will be in place by June 2018 and reforms to the Corporate Governance Code. The FRC, which publishes the code and oversees compliance, intends to consult on a "fundamental review" of it later this year. The revised code would then be published by mid-2018, and apply to the majority of premium-listed companies in 2019.

Companies will be required to report annually on the ratio of chief executive pay to average UK worker pay. This requirement will be imposed via secondary legislation. The figure should be accompanied by an explanation of the changes in the ratio from year to year, along with the "context" of pay and conditions across the wider workforce.

The government will also require companies to explain more clearly the use of, and a range of potential outcomes from, any complex long-term incentive plans (LTIPs) as a form of executive pay as part of their remuneration policy. It will also announce plans shortly to take forward its manifesto commitment to commission an examination of the use of 'share buybacks' to ensure that they cannot be used to artificially hit performance targets and inflate executive pay.

"Companies will welcome comments in relation to the use of LTIP arrangements," said Crookes.

"The clear recognition that a variety of structures can be effective will help companies move away from a 'standard' LTIP model, and develop arrangements which are tailored to their particular needs. Many see the LTIP as an important part of a remuneration package designed to support the longer-term development of a business, and previous suggestions that LTIPs should be abolished had caused a degree of concern in this area," she said.

Listed companies will be given three options for demonstrating their commitment to ensuring employees' interests are better represented at board level. These will be incorporated into the UK Corporate Governance Code and are: assigning a non-executive director to represent employees; creating an employee advisory council, and nominating a director from the workforce. The Code operates on a 'comply or explain' basis, meaning that companies will either have to introduce one of the three options or explain why they have chosen not to do so.

The world's first public register of listed companies that have suffered at least a 20% 'no' vote on the approval of the annual directors' remuneration report will be ready by the end of this year, and available in time for the 2018 AGM season. It will be overseen by the Investment Association (IA), which represents the interests of the UK's largest institutional investors and is an "active and influential monitor of, and standard setter for, executive remuneration", according to Standen.

"While AGM voting outcomes, and often IA criticism of a specific pay proposal, are already in the public domain, this register is likely to intensify public pressure and media focus on those companies causing investor concern. This should enhance the influence over those companies of the IA itself, the pensions industry, large individual institutional shareholders and the major proxy advisers," he said.

"By setting out a company's explanation of how it proposes to address investor concerns, or revealing the lack of such an explanation to date, the register should also encourage better ongoing engagement between boards and shareholders about remuneration issues. The register will probably apply even greater pressure to any company which suffers repeated significant dissent over remuneration," he said.

Although the register would only directly apply to listed companies, Standen pointed out that FTSE governance and remuneration reforms "tend to influence practices and perceptions at AIM and large private companies over time".