BEIS report on corporate governance

BEIS report on corporate governance

In September 2016 BEIS launched an inquiry into corporate governance. We summarise the recommendations in their report published on 5th April 2017.

The report concludes that there is no need for a radical overhaul of corporate governance in the UK but makes a number of recommendations.

Key recommendations and observations

Cultural Change:

The central tenets of good corporate governance should be embedded in the culture of all companies, so that it permeates activity at every level and un every sphere

Changing shareholder structure: 

Changes in shareholder structure have produced ‘ownerless companies’ where no single investor has a sufficiently large stake in the business to act as a responsible owner.

Short termism vs long termism: 

By virtue of the requirements relating to consequences for the long term of boardroom decisions in the Companies Act, corporate governance also has a leading role in combatting the growing pressures for short-term behaviour

Section 172 Companies Act: 

The report acknowledges that the requirement under Section 172 Companies Act to ‘have regard to’ other stakeholders and considerations is lacking in clarity and strength but now is not the time to reframe the law

The committee believes that more effective measures are required to ensure that directors demonstrably take seriously their duties to have regard to other stakeholders and the long-term consequences of decisions. This can best be achieved by more specific and accurate reporting. The committee recommends that the Financial Reporting Council amends the UK Corporate Governance Code to require informative narrative reporting on the fulfillment of section 172 duties. Boards must be required to explain precisely how they have considered each of the different stakeholder interests, including employees, customers and suppliers and how this has been reflected in financial decisions.

The FRC should encourage companies to be more imaginative and agile in communicating digitally with stakeholders throughout the year and should actively push back on the use of boiler-plate statements in annual reports

The committee recommends that the FRC works with business organisations to develop appropriate metrics to inform an annual rating exercise. Companies must be obliged to include reference to this rating in their annual reports

Enforcement: 

The committee sees no reason to move from the approach of comply or explain

Additional powers to hold company directors to account:

The committee recommends that the government brings forward legislation to give the FRC the additional powers it needs to engage and hold to account company directors in respect of the full range of their duties. Where engagement is unsuccessful the committee supports the FRC in reporting publicly to shareholders on any individual or collective failings of the board. The committee recommends that the FRC be given authority to initiate legal action for breach of section 172 duties.

Readiness to sanction breach: 

Rather than introduce new legislation the committee urges the Secretary of State to be more prepared to use existing powers where there is any suspicion of serious wrongdoing that may be in breach of the law.

Investor forum: 

The committee recommends that the Investor Forum seeks to become a more pro-active facilitator of a dialogue between boards and investors.

Stakeholder advisory panels: 

The committee urges companies to consider establishing stakeholder advisory panels. It recommends that the UK Corporate Governance Code should be revised to require a section in annual reports detailing how companies are conducting engagement with stakeholders.

Stewardship code: 

The committee recommends that the FRC reviews its Stewardship Code with a view to providing more explicit guidelines on what high quality engagement would entail, a greater level of detail in terms of requirements and an undertaking to call out poor performance on an annual basis.

Transparency: 

The committee recommends that the government consults upon new requirements on listed and large private companies to provide full information on advisors engaged in transactions above a reasonable threshold, including on the amount and basis of payments and on their method of engagement.

Voting records: 

The committee recommends that the FRC includes in its revised Stewardship Code stronger provisions to require the disclosure of voting records by asset managers and undertakes to name those that subsequently do not vote.

NEDs: 

The committee recommends that the FRC includes best practice guidance on professional support for non-executive directors when it updates the Code and that companies include training of board members as part of reporting on their people or human resources policy. It recommends that the FRC updates the Code to provide guidance on how companies should identify clearly and transparently the roles of non-executive directors where they have particular responsibilities and how they should be held to account for their performance. It also recommends that NEDs should be required to demonstrate more convincingly that they are able to devote sufficient time to each company when they serve on multiple boards.

Private companies: 

The committee recommends that the FRC, Institute of Directors and Institute for Family Business develop an appropriate Code with which the largest privately-held companies would be expected to comply. They should contribute to the establishment of a new body to oversee and report on compliance with the Code which should include a complaint mechanism. The scheme would be funded by a small levy from members. Should the voluntary scheme fail to raise standards over three years a mandatory regulatory regime should be introduced.

Executive pay: 

High and unwarranted executive pay should be addressed for the benefit of society as a whole. A combination of heavier and lighter pressures should be applied in order to exert greater control on executive pay. These comprise reforms to the structure of executive pay; the process by which it is agreed, and reporting on pay.

Bonuses: 

The committee recommends that companies make it their policy to align bonuses with broader corporate responsibilities and company objectives and take steps to ensure that they are genuinely stretching. Policy in this respect would be considered by the FRC in their corporate governance rating system.

LTIPs: 

The committee recommends that long-term incentive plans (LTIPs) should be phased out as soon as possible. No new LTIPs should be agreed from the start of 2018 and existing agreements should not be renewed.

Deferred stock: 

The committee recommends that the FRC consult with stakeholders with a view to amending the Code to establish deferred stock rather than LTIPs as best practice in terms of incentivizing long-term decision making. The committee makes recommendations for a structure of executive pay, including clear criteria for bonuses

Shareholder votes: 

The committee prefers the threshold for a binding vote to be low and for companies to have one chance to resolve concerns. A 25% threshold would be consistent with the threshold for votes on a special resolution. It recommends the FRC revises the Code to include a requirement for a binding vote on executive pay awards the following year in the event of there being a vote of over 25% of votes cast. This requirement should be included in legislation at the next opportunity.

Remuneration committees: 

Employee representation on remuneration committees would represent a powerful signal on company culture and commitment to fair pay. This option should be included in the Code and the committee expects leading companies to adopt this approach. Chairs should also be responsible for driving discussions aimed at delivering simpler structures and justifiable levels of remuneration. The committee recommends that the chair of a remuneration committee be expected to resign if their proposals do not receive the backing of 75% of voting shareholders.

Pay reporting: 

Statistics should be presented consistently in such a way as to enable year on year comparisons with other companies in the same sector.

Reporting on a people policy: 

Companies should set out clearly their people policy, including their rationale for the employment model used, their overall approach to investing in and rewarding employees. The committee recommends that the Code be amended to require the publication of pay ratios between the CEO and both senior executives and all UK employees.

Composition of boards:

Companies must ensure that women are encouraged from early on in their careers to progress to executive director posts; the committee also supports the recommendation that all FTSE 350 listed companies disclose in their annual report the gender balance on the executive committee and recommend that the Government should set a target that from May 2020 at least half of all new appointments to senior and executive management level positions in the FTSE 350 and all listed companies should be women; the committee also makes recommendations on ethnic diversity including that all FTSE 100 companies publish workforce data broken down by ethnicity and by pay band; the committee also encourages social diversity.

Whilst the committee was not minded to recommend the compulsory requirement for companies over a certain size to include a worker on board, it encourages companies to consider recruitment of workers to boards.