‘Shorter, sharper’ corporate governance code puts emphasis on relationships

Out-Law News | 17 Jul 2018 | 10:12 am | 3 min. read

The UK’s Financial Reporting Council (FRC) has published the final version of the revised Corporate Governance Code, with a focus on the relationship between companies, their shareholders and stakeholders, and corporate culture.

The publication of the code (20 page / 269KB PDF) follows months of consultation. A draft version of the new code was published last December, and the final version has taken into account comments received since then.

The code calls on companies to engage more with their workforces by appointing a director from among employees; instituting a formal workforce advisory panel, or designating a non-executive director to look after workforce issues. Employees also need to have a means of raising concerns in confidence.

The code says companies should engage regularly, beyond annual general meetings, with their shareholders to understand views on governance and performance. Boards should take effective action when they receive significant shareholder votes against resolutions.

There is an emphasis on the importance of independence within the boardroom and a focus on diversity and succession planning within the boardroom. The new code clarifies factors which could limit a non-executive director’s independence and specifies that a chair should not serve for more than nine years as a director, including their time in the chair, although there is an acknowledgement there could be a limited extension.

The code also includes provisions setting out how a company should design its remuneration policies. Executive remuneration should be aligned to a company’s purposes and values and linked to long-term strategy, and companies should have formal and transparent procedures for developing executive remuneration policy.

However unlike in the previous draft of the new code, the remuneration committee will not be required to “oversee” workforce pay, but simply “review” it.

Corporate governance expert Martin Webster of Pinsent Masons, the law firm behind Out-Law.com, said: “The FRC appears to have listened to many of the responses it received during the consultation and rowed back on a number of the changes it put forward last December. On deciding whether a non-executive director is independent we seem to be back where we were in the last version of the code, with the board retaining its discretion to explain why a director is viewed as independent despite, for example, more than nine years' service."

“But on the issue of engagement by the board with their workforce there has been a tightening of the code's position. Last year's draft said that directors would 'normally' need to appoint a worker to the board, designate a non-executive director to liaise with the workforce, or have a formal workforce advisory panel,” Webster said.

“Now we are told that one of those three options 'should be used'. There is, however, a let-out: if none of those three is chosen, the board can explain what alternatives it has put in place and why it considers them more effective,” Webster said.

The corporate governance code is not designed as a rigid set of rules, but asks companies to apply its principles and report on the application of these. The principles are supported by provisions which companies should comply with, or explain why they are non-compliant.

Share plans and incentives expert Lynette Jacobs of Pinsent Masons said that "companies will need to consider if they comply, or explain their non-compliance, with a new remuneration provision in the code, to develop a formal policy for post-employment shareholding requirements".

Jacobs said that while a few companies have recently inserted a share retention requirement into their remuneration policies, understood to be with the intention that this may prevent departing directors from making decisions adverse to shareholders' interests in the immediate period before they leave the company, it is not yet common practice.

"It will be interesting to see if this new provision results in an increasing adoption of post-employment shareholding requirements. This new provision, along with another new remuneration provision, for share awards granted to executive directors to be 'released for sale on a phased basis' will also assist companies in circumstances where it becomes appropriate to apply clawback," she said. "The inclusion of these new provisions may also be in response to the Carillion affair".

The government is introducing secondary legislation to require all companies of a significant size to explain how their directors are complying with section 172 of the Companies Act 2006, which covers boards’ responsibilities towards stakeholders.

The revised version of the code is shorter than previous iterations. It has fewer provisions and ‘supporting principles’ have been removed. 

The FRC’s executive director of corporate governance and reporting, Paul George, said: “The new code has set a higher standard for UK corporate governance that businesses must now step up to meet. Not only must leaders engage with the letter of the new code, but to begin restoring public trust they must also engage with its spirit if the UK is to continue setting a benchmark for high-quality corporate governance internationally.”

Earlier this year the government announced it was carrying out a comprehensive review of the FRC’s governance, impact and powers. That review is ongoing and is scheduled to be completed by the end of 2018.