Companies (Miscellaneous Reporting) Regulations 2018

Lord Haskel Excerpts

Monday 9th July 2018 Lords Chamber

[The Parliamentary Under-Secretary of State, Department for Business, Energy and Industrial Strategy (Lord Henley) (Con)]

My Lords, I beg to move that the draft Companies (Miscellaneous Reporting) Regulations 2018, which were laid before the House on 11 June, be approved.

The United Kingdom has an international reputation for the strength of its corporate governance framework. It is an important factor in making the United Kingdom an attractive place in which to invest and do business. One of the reasons we have maintained this reputation is that we have kept our corporate governance framework up to date.

In this spirit, the Government published a Green Paper on corporate governance reform in November 2016. The Green Paper focused on ways of improving shareholder scrutiny of executive pay and strengthening boardroom engagement with employees and other stakeholders. It also looked at the case for strengthening corporate governance in large, privately held businesses.

The backdrop to the Green Paper was public disquiet about high levels of executive pay and continuing concern about a disconnect between remuneration and performance. There were also concerns about boardrooms being remote, unrepresentative and disconnected from their employees. There was heightened interest, too, in standards of corporate governance in large private companies in the wake of the failure of BHS and some other large private companies.

The Government received 375 written responses to the Green Paper from a wide cross-section of business, professional and trade bodies, and wider society. They also had the benefit of the BEIS Committee’s report on corporate governance. The Government’s response, announced last August, set out a package of reforms combining new statutory reporting requirements, changes to the UK corporate governance code and industry-led measures.

The draft regulations being debated today will implement the new company reporting elements of the reform package. First, all large companies will be required to explain in their annual reports how their directors have complied with the requirements of Section 172 of the Companies Act, including the need to have regard to employee interests and relationships with customers and suppliers. This new information will make it easier for shareholders to hold companies to account and encourage directors to think more carefully about how they are taking account of these matters.

Secondly, very large private companies will need to make a statement about their corporate governance arrangements, including whether they follow a corporate governance code and if so, how. Thirdly, quoted companies with more than 250 UK employees will be required to publish pay ratios comparing the CEO’s remuneration to median employee pay and employee pay at the 25th and 75th quartiles. The ratios will need to be accompanied by an explanation, including the reasons for any change to the ratio from year to year and whether the median pay ratio is consistent with the pay, reward and progression policies for UK employees as a whole. This information will give shareholders new information to assess whether pay at the top is justified and consistent with pay and incentive arrangements in the rest of the workforce.

Finally, quoted companies will be required to illustrate for shareholders the impact of future share price growth on the value of share-based incentive plans. This will give shareholders a better understanding of how significant share price growth over a performance period can increase executive pay. It will also encourage remuneration committees to avoid mechanistic pay outcomes linked to share price growth. None of these reporting requirements will apply to small businesses. The measures are aimed at quoted, large and very large companies. The total costs for business arising from the new reporting requirements are expected to be £16.7 million in year one, and £9.8 million annually thereafter.

The reporting obligations complement and reinforce other elements of the corporate governance reform package. For example, the new requirement for large private companies to make a statement about their corporate governance arrangements is linked to work being undertaken by James Wates and a business and wider society coalition group to develop voluntary corporate governance principles for use by large private companies. These principles are currently being consulted on with a view to finalising them by the end of the year. Other links are with the Financial Reporting Council’s UK Corporate Governance Code. The new requirement on companies to state how they have had regard to the employee and other wider stakeholder issues in Section 172 of the Companies Act will help to underpin revisions to the code.

These changes include a new provision requiring boards, on a comply or explain basis, to establish at least one of three robust methods for gathering the views of the workforce: a director appointed from the workforce, a formal workforce advisory panel or a designated non-executive director. The FRC has been consulting on these changes and expects to publish the final revised code this month. In addition, the Investment Association, at the Government’s request, has launched a public register of companies encountering significant shareholder dissent of 20% or more to executive pay packages and other resolutions. This is shining a light on companies which are not listening to their shareholders, and in particular on companies that face significant opposition in successive years.

I refer briefly to the final part of the regulations, which relates to reporting by community interest companies. The Companies (Audit, Investigations and Community Enterprise) Act 2004 requires CICs to produce a community interest company report annually, including information about directors’ remuneration. The obligation covering small CICs was inadvertently removed when associated provisions regarding small companies were repealed in the course of implementing the accounting directive in 2015. This was not part of the corporate governance reform package, but these regulations represent a good opportunity to correct the earlier error. It is uncontroversial and does not involve any change in policy. Indeed, small CICs have continued to file the information. I commend these regulations to the House.

[Lord Haskel (Lab)]

My Lords, I welcome any attempt to raise the reputation of business and to increase the trust and confidence in business in the eyes of the public, so I very much welcome these regulations, but I wonder how effective they will be.

These regulations require public companies and large private companies to publish pay ratios and other data to show that the directors are taking into account the broader interest of customers, employees and communities, as the Minister has explained. These data are useful to provide more information to enable shareholders to question the directors and, if necessary, to vote at shareholder meetings. But who are the shareholders? Many shares are held by institutions, which are reluctant to act as long as the financial returns are as expected. Frequently they have a limited and sometimes short-term interest in the company. Also, much share trading is carried out by algorithms—and who knows on what formula they base their decisions? There are still many day traders active, and their trading, again, is based purely on numbers. As I understand it, this is the way the majority of shares now change hands.

I ask the Minister: even if the published data leads to naming and shaming, how effective will these regulations be in changing behaviour? I know there is a lot of concern about misleading comparisons between companies, but perhaps we should ask for other data to be published, such as benchmarking data on productivity so that shareholders can compare how well their company is doing in comparison with competitors.

Surely, there must also be concern about the reliability of the numbers. The big four accountancy firms almost exclusively audit for the large companies that are the subject of these regulations; they are also their financial advisers. In their role as financial advisers to these companies, I am sure that they will have lots of schemes to make the ratios look a lot more attractive. This joint relationship has come in for a lot of criticism recently. Is there any sign of any change so that these regulations will become more effective?

I welcome the rules applying to large privately held businesses. Most respondents in the consultation wanted to see more data about these companies and I hope that these regulations will produce it. Generally, I welcome these regulations, but would like to see them widened and made more effective.

[Baroness Bowles of Berkhamsted (LD)]

My Lords, I first apologise to the Minister for being caught out—