UK Reforms on Executive Remuneration Continue

The Business Secretary Vince Cable gave a speech to the House of Commons in January 2012 outlining new proposals for executive pay.

The Department for Business Innovation & Skills (BIS) issued a consultation paper on executive pay in listed companies during 2011.  In essence it stated that whilst executive remuneration is an important part of promoting growth, the link between remuneration and performance has been less clear in the previous decade. Ideas were presented to stimulate discussion about remuneration reports, the role of shareholders, the structure of remuneration and remuneration committee composition, many of the same issues that have been dealt with by regulators here in Australia over the last couple of years.

As in Australia, the general consensus of respondents to that paper was that the remuneration landscape should be improved. The disparity arose over how that improvement could be achieved:

  • more than half of the respondents wanted remuneration packages to be simplified.
  • the majority were against shareholders being given a binding vote on remuneration reports as a whole, with some suggesting that a binding vote on a future-looking part of a report might be more practical.
  • the option for having  shareholders or employees on remuneration committees was generally not accepted on the basis that shareholders and employees would not have the breadth of knowledge and overview of the company that board members have.

New Proposals

In his speech on the 23rd of January, Mr Cable identified four key areas for further review:

  • transparency
  • shareholder involvement
  • diversity of boards and remuneration committees
  • best practice.
Transparency in Remuneration Reports

The Government intends to introduce secondary legislation in 2012 which will require companies to publish more informative remuneration reports. Remuneration reports will be required to have two sections, one outlining future policy on executive pay and one outlining the implementation of pay policy in the year post. Clearly these two sections will be referenced by shareholders and others reviewing executive remuneration in listed companies.

In response to the issue of the relationship between executive and broader employee pay, an explanation will be required as to why specific benchmarks have been used, how employee earnings have been taken into account and how employees have been consulted.

As for the previous year’s policy, a single figure for each director’s total pay will be required and an explanation of how company performance and pay awards are related. Companies will need to produce a distribution statement comparing executive pay to dividends, business investment, taxation and staffing costs.

The issues of employee representation on boards and pay ratios (between CEOs and average employees) were also discussed by Mr Cable.    He explained that whilst worker participation would be a good idea for many companies and he welcomed worker participation on a non prescriptive basis, it would be difficult for a large number of FTSE companies, whose employees are predominantly overseas.

Similarly, in relation to pay ratios, Mr Cable presented the view that these should not be mandated or prescribed due to the discrepancy between companies that have large numbers of unskilled workers and those that outsource their unskilled labour which would produce meaningless figures with respect to ratios.

Shareholder Involvement

As in Australia, UK shareholders can expect further voting rights in terms of future pay policy, at listed companies. Issues under review include director notice periods if longer than a year and exit payments comprising more than one year’s salary. The consultation is also to consider the percentage of shareholder support required to pass proposals and, in particular, whether the threshold should be increased to 75%.

Diversity of Boards and Remuneration Committees

Mr Cable stated that diverse remuneration committees are needed in order to reform executive pay and that the best way to achieve this is through diversification of boards. He suggested more appointments of public servants, lawyers, academics and those who have not previously been directors.

It was noted that approximately 6% of remuneration committee members in the FTSE 350 are also executives of other companies and that the Government would look at mechanisms to limit this potential conflict of interest.

In response to concerns that pay is not related to performance, the Government will also request that the Financial Reporting Council (the UK’s independent regulator responsible for promoting high quality corporate governance) amends the UK Corporate Governance Code so that all large public companies are required to adopt clawbacks that give them the ability to recoup pay when performance has not lived up to expectations. Again, this appears to mirror similar reforms here in Australia.

Best Practice

As the fourth part of the Government’s plans, Mr Cable encouraged companies and shareholders to take responsibility for changes to executive pay going forward. The High Pay Commission will monitor “the state of pay at the top”.

Whether these reforms will leave the UK with the toughest rules in the world on executive pay and whether they will have any impact on executive pay is still to be seen.  The detail of these initiatives will shed more light on the potential of these reforms to influence pay decisions.

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