Corporate governance continues to be a rapidly evolving area. Recently the spotlight has shifted to focus on the need for improved transparency and accountability in the corporate governance of large private companies in the wake of a number of high profile corporate failings. The Government launched a number of initiatives in this area. The latest raft of proposed changes are considered below and will have an impact on large private companies.
The changes will be implemented via the Companies (Miscellaneous Reporting) Regulations 2018 (Regulations). The Regulations will require certain large private companies:
- to report on their corporate governance arrangements
- to explain how directors comply with their duty under section 172 of the Companies Act 2006 to have regard to the interests of key stakeholders.
The Regulations impose different obligations on different types and sizes of company and there has been some criticism around the confusion over which companies are in or out of the scope of the Regulations. The Regulations do not apply to LLPs. FAQs have been published to provide guidance on managing compliance with the Regulations.
The FRC has also published a consultation on the Wates Corporate Governance Principles for Large Private Companies (Principles). The Principles are a voluntary code aimed at large private companies but it is hoped that publication of the Principles may see a shift in attitudes to corporate governance in private companies of all sizes.
Section 172 statement
Companies will be required to include a statement in their strategic report and on a website explaining how the directors have had regard to the matters in section 172 of the Companies Act 2006 when performing their duty to promote the success of the company. These matters include the likely consequences of any decision in the long term, the interests of employees, the need to foster the company's business relationships with suppliers, customers and others, the impact of the company's operations on the community and the environment, the desirability of the company maintaining a reputation for high standards of business conduct, and the need to act fairly as between members of the company.
The requirement will apply to companies meeting 2 out of 3 of the following:
- turnover of more than £36 million
- balance sheet total of more than £18 million
- more than 250 employees.
New corporate governance reporting requirement
The Regulations introduce a new corporate governance reporting requirement for all companies in scope that do not have an existing reporting requirement.
The directors’ report must include a statement of corporate governance arrangements which states:
- which, if any, corporate governance code the company applies;
- how the company applies that code; and
- if the company departs from that corporate governance code, how it did so and why.
If no corporate governance code has been applied, the statement of corporate governance must explain the reasons for that decision and the corporate governance arrangements which have been applied.
The in scope test for the new corporate governance statement is:
- more than 2,000 employees; or
- turnover of more than £200 million and a balance sheet over £2 billion.
Every company meeting the threshold must comply, including subsidiaries as the aim is to encourage good subsidiary corporate governance. The FAQs suggest, however, that a subsidiary of a premium-listed company could, in principle, state that it did not apply a code because its parent applied the UK Corporate Governance Code which was applied throughout the group. The subsidiary would still need to explain how the Code actually applies to governance arrangements in the subsidiary.
Corporate governance principles for large private companies
There are 6 proposed Principles which focus on fundamental aspects of business leadership and performance. The consultation notes that a one-size fits all approach to corporate governance in large private companies is not appropriate and the Principles are not intended to be a checklist. Instead, companies will be encouraged to demonstrate how the application of the Principles has resulted in improved corporate governance outcomes.
Companies will be expected to adopt the Principles on an "apply and explain basis". Each Principle will be supported by non-exhaustive guidance designed to assist companies apply the relevant Principle in practice.
An effective board promotes the purpose of a company, and ensures that its values, strategy and culture align with that purpose.
Effective board composition requires an effective chair and a balance of skills, backgrounds, experience and knowledge, with individual directors having sufficient capacity to make a valuable contribution. The size of a board should be guided by the scale and complexity of the company.
A board should have a clear understanding of its accountability and terms of reference. Its policies and procedures should support effective decision-making and independent challenge.
Opportunity and risk
A board should promote the long-term success of the company by identifying opportunities to create and preserve value and establish oversight for the identification and mitigation of risk.
A board should promote executive remuneration structures aligned to sustainable long-term success of a company, taking into account pay and conditions elsewhere in the company.
A board has a responsibility to oversee meaningful engagement with material stakeholders, including the workforce, and have regard to that discussion when taking decisions. The board has a responsibility to foster good relationships based on the company’s purpose.
The Regulations were made on 17 July 2018. The reporting requirements will come into force on 1 January 2019 applying to financial years beginning on or after 1 January 2019, with reporting effectively commencing in 2020 for the previous year.
The consultation on the Principles closes on 7 September 2018. The final Principles and supporting guidance will be published in December 2018.
The Principles have been developed following the Government's Green Paper in 2016 and the BEIS Select Committee report in April 2017 which considered the need for improved transparency and accountability in the corporate governance of large private companies.
Our Corporate Timeline of Legal Developments tracks the key dates in the implementation of the above changes and the consultation in relation to the Principles.
Our employment briefing for more on pay ratio reporting.