UK: FRC mulls remuneration changes to corporate governance code 

The United Kingdom’s Financial Reporting Council (FRC) has launched a consultation on proposed changes to the Corporate Governance Code (the Code) that would simplify some of the disclosures included in remuneration policies, introduce a requirement to consider Environmental, Social, and Governance (ESG) performance when making decisions related to directors’ remuneration, and require a fuller description of malus and clawback terms. The consultation extends to 13 September 2023, with a revised version of the Code taking effect for financial years starting on or after 1 January 2025. The consultation is in response to the government’s proposed legislative and governance reforms described in “Restoring trust in audit and corporate governance.”

These changes are likely to have support from most companies and investors as they update the Code to reflect the evolution of corporate governance strategies, particularly in relation to ESG. The changes also introduce some welcome simplifications to reporting, as many companies have felt encouraged by the previous Code to include boilerplate disclosures to demonstrate their compliance.

Currently, premium listed companies on the Main List of the London Stock Exchange must explain, in their annual report, how they applied the Code during the financial year, including its general principles and compliance with the Code’s more detailed provisions — or explain their reasons for noncompliance. 

• A new principle will introduce a requirement to align remuneration outcomes with a company’s performance, purpose and values, including its ESG objectives. Remuneration committees will also be required to explain how the policy supports these objectives.
  
  
• The FRC believes that companies have adopted a generic approach to compliance with the disclosure requirement related to Provision 40 of the current Code. Provision 40 requires the remuneration committee to address clarity, simplicity, risk predictability, proportionality and alignment to culture when determining executive remuneration, and companies often parrot wording directly from the Code. Under the proposed changes, Provision 40 (which describes factors that remuneration committees should address in setting executive remuneration) and Provision 41 (which lists the aspects of the remuneration committee’s work that should be reported in company annual reports) would be replaced with a broader requirement that requires remuneration committees to consider workforce remuneration and related policies and the alignment of incentives and rewards with their culture, when setting the policy for executive director remuneration.
  
  
• The remuneration committee would also have to include, in the annual report, an explanation of the company’s approach to investing in, and rewarding, its workforce.
  
  
• Remuneration committees would no longer be required to cite internal and external measures when disclosing the reasons why remuneration is appropriate. For example, data already available in gender pay gap reports and company disclosures on websites no longer needs to be repeated in annual reports.
  
  
• The annual remuneration report would have to include a description of malus and clawback arrangements, and how they would be applied. Companies would also have to disclose if malus and clawback arrangements were used during the reporting period, or during the previous five-year period.
  
  
• Malus and clawback clauses would have to be included in directors’ contracts and other agreements or documents that relate to director remuneration, to increase their enforceability.
  
  
• The annual remuneration report would have to describe the approach to succession planning for the board and senior roles as it relates to the company’s strategy. It should include the gender balance of senior management and their direct reports, and the appointment of board and senior management (including the search and nomination procedures and promotion of diversity). The remuneration committee should explain its role in the development of a diverse succession pipeline and the effectiveness of its diversity and inclusion policy.
  
  
• The new Code will be strengthened in two areas related to directors’ time commitments. While the FRC does not consider it helpful to specify a maximum number of board appointments, board performance evaluations should consider each director’s commitment to other organisations, and how directors are able to make sufficient time available to discharge their role effectively. Annual reports should also include more information on directors’ other time commitments and how they manage these.

• UK corporate governance code (FRC, May 2023)
• Restoring trust in audit and corporate governance (Department for Business, Energy & Industrial Strategy, May 2022)