It is worth keeping an eye on UK executive pay governance developments to assess the likelihood they could filter down to Australia. Fortunately, it is likely that changes resulting from Therese May’s elevation to the UK Prime Ministership will not match her initial populist rhetoric.

 

Theresa May’s UK government issued its Green Paper on Corporate Governance Reform on 29 November 2016 seeking submissions by 17 February (see HERE). Several Australian institutional investors with a presence in the UK are making submissions.

The Green paper follows the announcements of Mrs May at the time of her promotion to the PM role and covers three areas:

• Executive pay
• Strengthening the “voice” of employees, customers and suppliers; and
• Corporate governance in the UK’s largest privately-held businesses

 
Mrs May introduced the proposals by explaining that in recent years, the behaviour of a limited few has damaged the reputation of the many. She said that big business must earn and keep the trust and confidence of their customers, employees and the wider public for people to retain faith in capitalism and free markets.

The overriding principle on which the Green Paper section on executive pay is based is:

• The Government wants to ensure companies retain the flexibility to set remuneration policy and pay that is appropriate for their business needs and strategy, while giving proper consideration to the views and concerns of shareholders and having appropriate regard for the interests of employees and other stakeholders.

 
The executive pay section of the Paper therefore seeks views on:

• Whether shareholder voting rights should be extended. This might involve making all or some elements of the executive pay package subject to a binding vote. This could be the full remuneration report or refer only to variable pay elements of the pay award (such as the annual bonus, the LTI Plan and any proposed increase in basic salary). It could be applied annually to all companies or only to companies that have encountered significant shareholder opposition to the remuneration report.
• Encouraging greater shareholder engagement with executive pay. This could involve requiring the current binding vote on the executive pay policy to be held more frequently than every three years, but no more than annually. Alternatively, it could mean allowing shareholders to bring forward a binding vote on a new policy earlier than the mandatory three-year deadline.
• Strengthening the role of remuneration committees, including improved engagement with shareholders and employees. The Paper puts the option forward that the Corporate Governance Code could be strengthened to be more specific on how companies should engage with shareholders on pay, including where there is significant opposition to a remuneration report
• Further improving transparency on executive pay. The suggestion here is whether companies should publish ratios comparing the CEO pay to pay in the wider company workforce. There is a further question as to whether companies should be required to provide full disclosure of performance targets.
• Improving the effectiveness of long-term pay incentives. The questions here focus on the alternative of providing “restricted share awards” in lieu of the current LTI arrangements and/or extending the performance or vesting period to a minimum of 5 years. The Paper also raises the question whether there should be share ownership guidelines for executives.

 
Subject to the level of consultation and submission influencing the Government’s thinking, but Mrs May’s binding say-on-pay vote reform may not apply to all elements of pay and to only some companies. It is worth noting that the Paper poses 14 questions across these areas of pay and governance, and within those questions provides 16 various options for consideration.

 

The questions also raise the prospect the binding vote may only apply to companies that experienced investor dissent the year before or companies that had lost their existing annual advisory vote. This aspect has hallmarks of Australia’s two strikes rule.

 

The Green Paper acknowledges the problems of reporting the ratio of CEO and worker pay but notes the benefit of such pay comparison is that boards will be required to explain it in the context of the company’s performance and the pay of the wider employee population. The obvious benefit from the perspective of transparency is that the CEO and worker pay ratio can be measured over time providing more transparency over executive pay.

Many are likely to welcome the softening of the approach to shareholder committees. The Paper suggests that remuneration committees should consult more widely with shareholders and the company workforce.

The concept of employees having a compulsory board position appears to have been rejected.

In the end, there seems to be acknowledgement that further legislative or regulatory reform may not be required. The changes that eventuate may be reflected in the UK Corporate Governance Code or through the Financial Reporting Council’s (FRC) guidelines rather than legislation.

It is clear that the paper tries to dampen expectations. However, the likelihood is that there will be some legislative change to indicate the government is “doing something”. A reasonable possibility is a sort of 2 strikes law. This may require companies to seek a binding resolution on pay policy annually, instead of 3 years currently, at least for a period if they incur a strike, or 2 strikes, of 25% or more “no” votes on its non-binding pay outcomes vote. See the UK Investor Association’s proposal suggesting this is due out later this week.

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