The FRC has today published its proposed new UK Corporate Governance Code for consultation. As expected, the FRC has carried out a fundamental review of the Code, with a particular focus on the themes of corporate and board culture, stakeholder engagement, long-term decision-making, remuneration committees and diversity. The FRC is also consulting on updated guidance on board effectiveness.
So, what changes does the new Code propose for remuneration?
The new Code gives the remuneration committee a broader role. Its remuneration setting responsibilities now extend to senior management, in addition to directors, and it has oversight responsibility for remuneration and workforce policies and practices for the employees as a whole. In the government's white paper on corporate governance, it invited the FRC to give remuneration committees broader responsibility for overseeing pay and incentives across their company. The new Code goes further than this – ‘workforce policies and practices’ is a wide term encompassing the full range of HR policies – and oversight of these would push the committee out of remuneration and into the wider HR space.
The accompanying revised guidance on board effectiveness envisages that the term captures policies that have an impact on the experience of the workforce and drive behaviours, referring specifically to policies around recruitment and retention, promotion and progression, performance management, training and development, reskilling and flexible working.
Although the new Code provides that this oversight responsibility falls to the remuneration committee, the guidance states that this responsibility could, alternatively, be delegated to another committee with relevant responsibilities, eg a sustainability committee or corporate responsibility committee. If this responsibility is delegated to the remuneration committee, this will result in the committee having a significantly larger role than it does presently. If boards choose to delegate it to a different committee, the relevant committees will need to adopt an integrated approach to ensure that the oversight piece feeds into the remuneration committee’s consideration of executive remuneration.
The annual report should describe the work of the remuneration committee. A list is provided of what should be included - some of this simply reflects the current Companies Act reporting requirements for DRRs. In addition, the new provision states that the description should explain the company’s approach to investing in, developing and rewarding the workforce, and what engagement has taken place with the workforce to explain how executive remuneration aligns with wider company policy.
Remuneration committee chairs should be independent and have served for at least 12 months on a remuneration committee before becoming chair. The need for 12 months’ previous experience provision was expected and was heralded by the government response. However, if the committee is given the broader oversight role, there may be some sense in allowing a person with broader relevant experience (in HR or compensation) to become the chair – it will be interesting to see to what extent companies rely on the ‘comply or explain’ principle in relation to this provision.
The new Code states that remuneration schemes and policies should provide boards with the discretion to override formulaic outcomes and should allow the company to apply clawback and malus to awards, where appropriate. The new Code lists the items the remuneration committee should address when determining executive director remuneration policy and practices, which is broken down by key themes: (i) clarity, (ii) simplicity, (iii) predictability, (iv) proportionality and reward for individual performance, and (v) alignment to culture. The requirements for clarity, simplicity and predictability are presumably designed to encourage remuneration committees to veer away from complex LTIP structures – a move suggested by the white paper – in favour of simpler incentive structures using restricted shares. The new Code also states that the range of possible award values should be identified and explained at the outset.
There is a positive emphasis, both in the new Code and the accompanying guidance, on promoting longer term shareholdings – the new Code increases the holding period requirement for share-based remuneration from three to five years (including post-employment periods). This change was expected but will have limited impact for the many companies which have already included a two year post-vesting holding period into their incentive plans as a response to recent institutional investor pressure for this change to be made.
The deadline for comments is 28 February 2018. The new Code is expected to apply for reporting years beginning on or after 1 January 2019.