UK: The UK Corporate Governance Code 2014

Last Updated: 2 December 2014
Article by Clive Hopewell

Overview

This article will briefly consider the new Corporate Governance Code, published 17 September 2014, and in particular its novel demand for a ''viability statement''.

The UK Corporate Governance Code (''the Code'') comprises a collection of corporate governance recommendations for those companies with a premium listing of equity shares, whether incorporated in the UK or elsewhere. It requires that all such companies include a statement in their annual financial reports demonstrating how they have sought to apply the principles of the Code.

Oversight, review and enforcement of the Code falls under the remit of the Financial Reporting Council (''FRC'') whose mandate is to improve public confidence in corporate governance.

There are currently two versions of the Code in operation:

  • September 2012: Applies to reporting periods (as referred to in 1.1.3) beginning on or after 1 October 2012 and before 1 October 2014 (the ''2012 Code'').
  • 17 September 2014: A new edition of the Code which applies to reporting periods commencing on or after 1 October 2014 (the ''2014 Code'').

The Corporate Governance Code 2014

The principal alterations made in the 2014 Code revolve around directors' remuneration, engagement with shareholders when there are significant votes against a resolution at a general meeting, and risk management and going concern statements.

As may be observed, the issues addressed by the 2012 and 2014 Codes are usually a reflection of pressing shareholder concern around the time of publication, with recent dispute over the remuneration of the directors of certain larger Plc's a particular example1. For instance:

  • Principle D.1 of the 2014 Code has altered the 2012 Code with new wording that requires remuneration policies to be designed to deliver long-term benefit to the company rather than short-term benefit to management. Boards of listed companies now need to demonstrate how this long-term benefit is being achieved more clearly to shareholders.
  • Principle D.1.1. of the 2014 Code also stipulates that schemes should include provisions that would enable a company to recover sums paid, specifying the circumstances in which it would be appropriate to do so.

The heightened levels of shareholder protection incorporated in the 2014 Code further extend beyond directors remuneration to risk management and increased shareholder engagement, to the effect that:

  • Under Provision E.2.2., a company that has received a significant vote against any resolution, is to announce the actions it intends to take to understand the reasons behind the vote;
  • Under Provision C.2.1., companies should robustly assess their principal risks and confirm that they have done so in their annual report. The annual report should also describe how those risks are being managed or mitigated.

The above Principles and Provisions clearly show a trend towards giving shareholders greater oversight concerning directors' capacity to enrich themselves, potentially at the expense of the company, and to ensure that directors are mindful on a day-to-day basis of the risks and challenges facing their company. The new guidelines concerning directors remuneration further enforce this by stipulating at Provision D.2.4. that shareholders should be invited to approve all new long-term incentive schemes and significant changes to existing schemes. Furthermore, Provision D.1.1. specifies that when a company is formulating performance related schemes for its directors, in line with the guidelines in Schedule A, it must ensure that those schemes contain provisions that would allow the company to recover monies paid, or withhold monies payable, under a scheme.

The increased shareholder protection these modifications represent is further enhanced by the 2014 Code's introduction of viability statements under Provision C.2.2.

Viability Statements

Provision C.2.2. introduces the need for companies to produce a statement in their annual report which confirms the board's reasonable evaluation of the company's likely overall viability during the course of a specified period. This evaluation must be based on a wide ranging and thorough assessment of the company's market and financial position and the primary risks the company may be exposed to during the period in question.

The FRC advises that companies make two separate statements, one relating to an accounting basis assessment under Provision C.1.3 and another relating to a broader assessment of viability over time. This would suggest that the viability statement itself is to be written from an overarching business perspective, rather than an purely accounting or financial one. The proposed statements would cover matters under consideration by the directors when making the assessments. The aim is to encourage companies to provide disclosure tailored to the specific circumstances of the company and not to use standardised terms and phrases which contain no real assessment of the company's likely risk and progress from the perspective of its directors.

The FRC expects that the period assessed by companies in their viability statements will be significantly longer than 12 months and that the viability statement will look forward to long-term solvency and liquidity2. It will fall upon the directors to explain their reasons for choosing the length of time they have decided to analyse.

Under Provision C.2.2., the directors should draw attention to any qualifications or assumptions they have made in their viability report.

At the time of the FRC's May 2014 consultation regarding the changes to be made to the Code, the risk to directors inherent in giving a prospective statement about viability in their company's annual report was the issue which caused the most consternation amongst participants. The FRC decided to retain the wording of Provision C.2.2. however, it was clarified that directors could still exclude liability if the viability statement proved inaccurate, so long as it was made honestly and in good faith at the time of its publication.

This exclusion from liability is available to directors through Section 463 of the Companies Act 2006. Section 463(3) stipulates that a director of a company is liable only for loss suffered from a strategic report if it contains a deliberately untrue or misleading statement or omits information that should have been included (this seems unlikely given the wide drafting of Provision C.2.2.). Beyond this a director is not liable for information given within a director's report. This removes many of the more burdensome implications of the new viability statement requirement.

Comment

Ultimately, as has been alluded to above, one of the key aims of the original Corporate Governance Code was to encourage transparency and improve communication between boards of public companies and their shareholders. The new 2014 Code, and in particular the new viability statement requirement, is intended to take this further as a catalyst to improve the frequency and quality of communication between directors and shareholders.

We are unlikely to see boards making bold assessments and forecasts about the future but it does make sense to require boards to turn their minds to the future as well as the past in their annual reports.

Footnotes

[1] http://www.bbc.co.uk/news/business-28261916

[2] See Para 2 of the FRA's update (17 Sep 2014):
https://www.frc.org.uk/News-and-Events/FRC-Press/Press/2014/September/FRC-updates-UK-Corporate-Governance-Code.aspx

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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