Ashurst Governance and Compliance Update Issue 18

FCA publishes new diversity disclosure rules

Diversity in the board and beyond: FCA publishes final rules requiring reporting on targets and further transparency

The Financial Conduct Authority has published its long-awaited policy statement in response to the consultation (CP21/24) it launched in August 2021 and in which it proposed significant changes to its rulebooks, specifically the Listing Rules and Disclosure Guidance and Transparency Rules (DTRs), on the issue of board and senior management diversity. The final rules are broadly similar to those proposed in the consultation.

1. What is the purpose of the new rules?

The FCA is seeking to increase transparency for investors on the diversity of boards and executive management. Setting targets on a ‘comply or explain’ basis for the representation of women and people from a minority ethnic background is designed to create a positive reporting benchmark to encourage progress, both at senior levels of listed companies and throughout their businesses.

The FCA is also seeking to improve consideration of broader diversity aspects within diversity policies and related disclosures by companies who disclose those policies under the DTRs. In turn, this should provide additional information for investors to consider as part of their investment decisions.

2. What do the rules require?

The FCA is introducing new ongoing listing obligations in both Chapter 9 and Chapter 14 of the Listing Rules to require in scope companies to include a statement in their annual financial reports setting out whether they have met the specific board diversity targets.

The targets operate on a 'comply or explain' basis as at a chosen reference date within an in scope company's accounting reference period: if a company has not met the targets on the specified date, it must explain why not. The FCA believes that this will give companies flexibility to provide relevant context on their approach to board diversity, whether or not these targets are met.

The targets are:

• At least 40 per cent of the board should be women – thus a target beyond the 33 per cent set by the Hampton-Alexander Review but which accords with the aspirational targets set by its successor review body: FTSE Women Leaders Review.
• At least one senior board position (Chair, Chief Executive Officer, Chief Financial Officer or Senior Independent Director) should be a woman – a proposal which echoes the recommendation of the final report of the Hampton-Alexander Review and also accords with the FTSE Women Leaders Review.
• At least one member of the board should be from a minority ethnic background (as defined by the Office for National Statistics excluding those listed by the ONS as coming from a white ethnic background) – thereby echoing the recommendations of the Parker Review for the FTSE 250.

Companies will also have to set out in their statements:

• The reference dates used, and where this is different from the reference date used in respect of the previous accounting period, an explanation of why.

• Any changes to the board that have occurred between the reference date and the date on which the annual financial report is approved that have affected the company's ability to meet one or more of the targets.

Alongside the 'comply or explain' disclosures, in scope companies will also have to publish numerical data on the sex or gender identity and ethnic diversity of their board, senior board positions (i.e. Chair, SID, CEO, CFO) and executive management. This data should be reported in a standardised table format (set out at the end of this update) as at the same reference date used for the 'comply or explain' statements.

Flexibility has been provided in relation to the format of the table for reporting sex or gender identity, in order for companies to reflect their approach to data collection. That approach to data collection must also be disclosed and guidance has been provided to assist companies in doing so.

3. What is meant by executive management?

This has been defined as the executive committee or most senior executive or managerial body below the board, including the company secretary but excluding administrative or support staff. If there is no executive committee or body, it means the most senior level of managers reporting to the chief executive.

4. Are there any dispensations?

As well as the adjustments for issuers with board members or executive management located overseas (see 'What changes have been made since the consultation proposals?' below), closed-ended investment funds and sovereign controlled companies will be permitted to adjust their disclosures on senior board positions and their numerical data disclosures in the event that these are inapplicable to the fund, provided they set out why they are inapplicable.

5. What does the guidance say?

Guidance states that an in-scope company might also wish to include the following further information so as to add context to its disclosures:

• A brief summary of any key policies, procedures and processes, and any wider context that it considers contributes to improving the diversity of its board and executive management.
• Any mitigating factors or circumstances which make achieving diversity on its board more challenging, such as the size of the board or the country in which its main operations are located.
• Any risks it foresees in being able to meet or continue to meet the board diversity targets in the next accounting period, or any plans to improve the diversity of the board.

6. What do the changes to the DTRs require?

The changes here augment existing DTR requirements as regards board diversity policy disclosures so as to:

• Expand the disclosure obligation beyond the board and require a description of how any policy applies to the board's key committees – e.g. the audit, remuneration and nomination committees.
• Clarify that the aspects of diversity to which any such diversity policy may apply could consider wider diversity characteristics.

New guidance also encourages companies to add numerical data on the diversity of members of the board and its committees when discharging their existing obligation to describe the results of the implementation of their diversity policy during the reporting period.

7. Which companies are in scope?

The scope of the new rules remains as in the consultation.

The changes to the Listing Rules apply to UK and overseas companies with equity shares, or certificates representing equity shares, admitted to either the premium or standard listing segments of the FCA’s Official List. Open-ended investment companies, shell companies, issuers of debt securities and securities derivatives are not caught.

The DTR changes apply to certain UK issuers admitted to UK regulated markets, such as the main market of the London Stock Exchange and, again, through the Listing Rules to certain overseas listed companies, subject to certain existing exemptions.

8. What changes have been made since the consultation proposals?

The rules are broadly similar to those consulted on with the following notable differences:

• The proposals envisaged that data on women's representation should include those self-identifying as women. This received significant adverse feedback on the basis that it may constitute a breach of the Equality Act 2010, lead to there being more men by sex on boards, thereby undermining the stated purpose of improving diversity, and reduce consistency with other data, including that prescribed by the Companies Act 2006. Consequently, additional flexibility has been given to companies on:
  
  -  how they collect and report data relating to the representation of women. To this end, new guidance has been added to provide that a company may add to the categories included in the relevant standardised data table to reflect the basis on which it has collected data; and
  -  the data reporting requirements for companies with board members or executive management situated overseas. Feedback noted that local privacy and data protection laws may prevent companies asking for the relevant data which is required to be reported.
• Given this flexibility, the requirements for further disclosure on a company's approach to collecting relevant data have been added so as to enable investors to meaningfully compare data provided by different issuers. Explanations should include the method of collection or source of the data and, where data collection is based on the self-reporting of the individuals concerned, a description of the questions asked should be disclosed.
  
  Thus, companies may determine themselves how best to collect and report data but will be required to explain the approach they have taken and be expected to take a consistent approach. The FCA believes that this will enable companies to 'harness existing methods and data they already gather' to meet other legal obligations or voluntary initiatives, or to adopt their own preferred approach in the context of their business. It will also give companies the flexibility to manage any privacy and data protection issues that may arise depending on their existing reporting and in the context of their own workforce.
• Finally, changes have been made to the language of the proposed target to be disclosed against in relation to individuals from minority ethnic backgrounds and provide that 'Other ethnic group' includes Arab.

9. When do the rules apply?

The new rules apply to financial periods of in scope companies beginning on or after 1 April 2022. Early adoption is encouraged, particularly by companies with a 31 December 2021 year end.

10. Will the rules be reviewed?

The FCA has stated that it will review the impact of its changes in three years' time at which stage it will consider the whether to revise the nature or level of the targets in the rules (including extending them further down management structures), and whether to consider targets on other aspects of diversity, such as sexual orientation or socio-economic background.

11. What is the format of the 'standardised' disclosure tables?

Table 1: Reporting table on sex/gender representation

Table 2: Reporting table on ethnicity representation

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