Statutory reporting obligations for quoted and other companies

The Companies (Miscellaneous Reporting) Regulations 2018 (the Regulations) along with related Frequently Asked Questions (BEIS FAQs) have been published by the Department for Business, Energy and Industrial Strategy. These follow on from the Government Green Paper on Corporate Governance Reform and its response issued in August 2017.  The new statutory reporting obligations involve increased statutory disclosures in annual reports, and in some cases on websites, by quoted and other types of public and private companies in the areas of section 172 Companies Act 2006 (the Act), engagement with employees and other stakeholders, remuneration matters and corporate governance arrangements. 

The new disclosure requirements came into effect for companies with financial years beginning on or after 1 January 2019 and so companies will need to comply from 2020 onwards. 

Although companies may be confident in their existing corporate governance procedures, thought should be given to any new arrangements that may need to be put in place for 2019 to enable reporting in 2020, bearing in mind in particular that these disclosures are statutory rather than "comply or explain". The fact that shareholders will in future have detailed information on which to challenge companies means that record-keeping will become more important than ever.  Preparation is key.

The key new disclosures in the Regulations are summarised in the table below. This is followed by more detailed analysis of the changes. 

Section 172(1) reporting

Section 172(1) of the Act requires a director to act in the way he or she considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole. In exercising that duty, there is a non-exhaustive list of matters to which the director must have regard. These include the interests of the company's employees and the need to foster the company's business relationships with suppliers, customers and others.

The Government believes that requiring companies to disclose how directors have had regard to these interests will encourage directors to think more carefully about how they are taking these matters into account and will encourage better boardroom engagement with employees and other stakeholders. It will also give shareholders more information with which to hold boards to account.

All UK incorporated companies (other than small and medium-sized companies as defined in sections 465-467 of the Act) will be required, therefore, to publish in the strategic report a separately identifiable statement describing how the directors have had regard to the matters set out in section 172(1) (a) to (f) of the Act in fulfilling their statutory duty. The Regulations contain no details as to the content of the statement. There is, however, a range of guidance for companies that they may find helpful. This includes: the BEIS FAQs mentioned earlier (November 2018 version); the 2018 FRC Guidance on the Strategic Report; and GC 100 guidance on directors' duties: section 172 and stakeholder considerations. We mention each of these briefly below. 

As regards contents, the BEIS FAQs state that while the information to be contained in the section 172 statement will depend on each company's individual circumstances, companies will probably want to cover some or all of the following:

• the issues, factors and stakeholders that the directors consider relevant in complying with section 172 and how they decided that;
• the main methods that directors used to engage with stakeholders and understand the issues to which they should have regard; and
• information on the effect of that regard on the company's decisions and strategies during the year, shedding light on matters that are of strategic importance to the business.

The 2018 FRC Guidance on the Strategic Report also has a section on the contents elements for section 172 reporting. As well as reiterating the underlying requirements and also the 3 items listed above in the BEIS FAQs, it has a section on "issues, factors and stakeholders" as regards the section 172 statement and covers matters including the importance of the long-term, stakeholders, principal decisions, capital allocation and dividend policy and also culture.

In October 2018, at the invitation of the Government, the GC 100 published guidance on section 172 of the 2006 Act and stakeholder considerations. It aims to provide practical help to directors on the performance of their duty under section 172 (duty to promote the success of the company), with a focus on wider stakeholder considerations. It concentrates very much on the underlying section 172 duty and how directors might comply with it and says little specifically regarding reporting on how the section 172 duty has been applied, other than that: the process for board papers should ensure that stakeholder factors are addressed where judged relevant, with appropriate inputs to assess them; there should be a consistent approach to minute taking, whether brief or detailed and as to when section 172 factors are minuted; and that the direct connection between these reporting obligations and how boards address stakeholder considerations will need consideration and boards should bear in mind these obligations in assessing their approach.

Reporting on employee engagement

In addition to the new section 172(1) reporting requirement mentioned above, the Regulations contain reporting requirements on engagement with employees (see this section) and also with other stakeholders (see the section below) to be included in the directors' report. The BEIS FAQs state that this is so that, even if directors did not judge these matters sufficiently important to be included in the strategic report as part of section 172 reporting, they would still have to include information about these two important aspects in the directors' report. That said, the information on these two areas can instead feature in the strategic report if a company considers that appropriate.

The disclosure obligations in this area apply to UK incorporated companies (other than small companies) with more than 250 employees on average during the financial year. Individuals employed to work wholly or mainly outside the UK need not be taken into account. For a parent company, the figure of 250 refers to employees of the group.

For companies within scope, a statement must be included in the directors' report setting out the action that has been taken during the financial year to introduce, maintain or develop arrangements aimed at:

• providing employees systematically with information on matters of concern to them as employees;
• consulting employees or their representatives on a regular basis so that the views of employees can be taken into account in making decisions which are likely to reflect their interests;
• encouraging the involvement of employees in the company's performance through an employees' share scheme or by some other means;
• achieving a common awareness on the part of all employees of the financial and economic factors affecting the performance of the company; and
• summarising how the directors have engaged with employees and had regard to their interests, and the effect of that regard, including on the principal decisions taken by the company during the financial year.

These new employee engagement disclosures dovetail with the change to the 2018 UK Corporate Governance Code (the 2018 Code) to require the board (on a "comply or explain" basis) to establish one or more methods for gathering the views of the workforce. The 2018 Code provides for the following methods: a director appointed from the workforce; a formal workforce advisory panel; a designated non-executive director ;or alternative arrangements. Companies will need to decide which, if any, of these methods (or a combination of more than one) is best suited to them.

Reporting on engagement with suppliers, customers and others

The disclosure obligations in this area apply to UK incorporated companies (other than small companies) but there is an exemption for companies which satisfy two or more of the following:

• turnover is not more than £36 million
• the balance sheet total is not more than £18 million; and
• there are no more than 250 employees on average for the relevant year.

Companies in scope must include a statement in the directors' report summarising how the directors have had regard to the need to foster the company's business relationships with suppliers, customers and others and the effect of that regard, including on the principal decisions taken by the company during the financial year.

Sensitive information

In the case of both disclosure statements mentioned above, there is an exemption which allows the company to withhold information about impending developments or matters in the course of negotiation if their disclosure would, in the opinion of the directors, be seriously prejudicial to the interests of the company.

Statement of corporate governance arrangements

The rationale for this change is that companies other than listed companies can have a large economic importance and their conduct can have a significant impact on their many employees, suppliers and customers as well as on others. Therefore, the Government's intention is that the new disclosure by such companies of their corporate governance arrangements will encourage their directors to consider the robustness of their existing arrangements and how they are communicated externally. It is hoped that this transparency should, in turn, strengthen public confidence in the way very large companies are run.

Therefore, there is a new requirement for a statement of corporate governance arrangements to feature in the directors' report which should state:

• which code, if any, a company has applied (or if no code is applied, the reasons for that and what arrangements for corporate governance were applied);
• how the company applied the code; and
• any departures from the code and reasons for them.

As to which companies are caught by the new requirement, the Government has set two thresholds. For the employee threshold, it has chosen the larger of the two thresholds that it was considering, namely companies with more than 2000 employees.  And, it has also set a second threshold of turnover of more than £200 million together with a balance sheet total of more than £2 billion.  If either or both of the above thresholds are met, the company must disclose its corporate governance arrangements, unless it is a company that is already required to report this under Rules 7.2.1 – 7.2.11 of the DTRs.  Hence the FAQs talk about this requirement applying to very large private or public unlisted companies. 

As regards what voluntary corporate governance code such companies might choose to apply, companies can choose the most appropriate code for them. For example, the BEIS FAQs state that a subsidiary can, if the circumstances warrant it, state that it does not apply a code itself as its parent applies the UK Corporate Governance Code throughout the group. BEIS states that this may shorten the subsidiary's statement, but it still needs to explain how the Code applies to governance arrangements in the subsidiary and its directors.  Another option is the Wates principles on Corporate Governance for Large Private Companies  (the Wates Principles) which were finalised in December 2018. They have been produced by a coalition group including, amongst others, the FRC, the Institute of Directors, the Confederation of British Industry and the Institute of Chartered Secretaries and Administrators. 

Application to subsidiaries

It is worth briefly reiterating that each of the reporting requirements discussed already (section 172; engagement with employees; engagement with suppliers, customers and others; and corporate governance arrangements) can also apply to a subsidiary of a listed (or unlisted) group if it meets the trigger thresholds.  The BEIS FAQs confirm this. See  BEIS FAQs 9 – 13 for a variety of FAQs on subsidiaries and parent companies.

Directors' remuneration report

A number of amendments have been made to the contents of the directors' remuneration report as set out below.  These are designed to address the perception that executive pay is not sufficiently linked to workforce pay generally nor the company's long-term performance.  The GC100 and Investor Group has updated its guidance on executive remuneration reporting to take account of the changes.

These changes are relevant to quoted companies as defined in section 385 of the Act since they are required to publish directors' remuneration reports. A quoted company is a UK incorporated company which is quoted on the UK Official List, the New York Stock Exchange, NASDAQ or a recognised EEA stock exchange. It does not include AIM companies.

Exercise of discretion

The first section of the directors' remuneration report consists of the "Annual Statement". This is a summary of certain key information from the chair of the remuneration committee. The Regulations require the Annual Statement to include a summary of any discretion which has been exercised in the award of directors' remuneration. No further detail is given but this appears to cover discretion exercised both in relation to who is granted an award and at what level, as well as discretion exercised in relation to vesting, for example in assessing whether someone is a good or bad leaver or whether an award should be scaled back (where there is a power to do so).

Share price appreciation

The section of the directors' remuneration report referred to as the "Annual Report on Remuneration" looks back at remuneration for the financial year under review. The Regulations introduce a new disclosure requirement in relation to performance-related awards included in the single figure table showing each director's total remuneration. The amount of the award that is attributable to share price appreciation must be shown (or an estimate of that amount where it is not ascertainable). Also, where a discretion has been exercised in relation to an award, the company must state whether the discretion was exercised as a result of share price appreciation or depreciation. 

There is an additional obligation to show, in the directors' remuneration policy, for each executive director, in relation to performance targets or measures relating to more than one financial year, an indication of the maximum remuneration receivable assuming company share price appreciation of 50 per cent over the performance period. A short description of the basis of the calculation must also be given.

Pay ratios

The disclosures in relation to pay ratios apply to companies with more than 250 UK employees on average. For a parent company, this includes employees of the group.

The disclosures must be made in the form of a table containing information specified in some detail in the Regulations and the FAQs. In essence, the company has to identify the total figure for CEO pay from the single total figure table. This includes all elements of pay, including bonuses and share awards. The company must then identify similar total figure amounts for employees whose pay and benefits are on the 25th, 50th and 75th percentiles of pay and benefits of the company's UK employees for the relevant financial year. These are called Y25, Y50 and Y75 respectively. The ratio between CEO pay and the three comparators must then be set out. One or more components of pay, other than salary, may be omitted for employees generally, provided an explanation is given. However, given that no component of CEO's remuneration may be omitted, this could distort the ratios. Reasonable estimates of pay components may be used where necessary.

There are three methods for calculating Y25, Y50 and Y75 (Options A, B and C) and these are set out in detail in the Regulations and the FAQs. Although the company may choose which method to adopt, the FAQs make clear that companies should use Option A wherever possible and reasonable as it is the most statistically accurate method. It involves calculating the full-time equivalent remuneration of all UK employees. However, because the gathering of this data may be challenging, particularly for larger employers, Option B allows the company to use the data they have collected for gender pay reporting purposes and Option C allows the use of other recent pay data.  An explanation must be given of why the particular method was chosen and some details of the methodology.

Going forward, companies will need to disclose pay ratio figures for previous years, as well as the year under review, up to a maximum of ten years, although not going back before the new disclosure requirements applied.

In addition to the table, a narrative must be included explaining the following:

• any changes in the pay ratios compared to the previous year;
• whether the change is attributable to certain specified factors, for example a change in the remuneration of the CEO or of UK employees taken as a whole; 
• any trend in the median pay ratio over the period of financial years covered by the pay ratios table; and
• whether and, if so, why the company believes the median pay ratio for the relevant financial year is consistent with the pay, reward and progression policies for the company's UK employees taken as a whole.

Government review

After five years the government will review the impact of the new provisions on board engagement with stakeholders as well as the extent to which large private companies have adopted good corporate governance principles. The Government will also be keeping an eye on remuneration levels and structures.

Further information 

For more information about these reforms, please speak to your usual Ashurst contact or to anyone listed below. (This briefing was first published in June 2018 and updated in February 2019.)