Andrew Holt talks to David Styles, director of corporate governance at the Financial Reporting Council, about the challenges his organization has faced and the focus on the horizon
Corporate governance made the UK business headlines with regularity in 2016, usually for all the wrong reasons. It is no surprise therefore that David Styles, director of corporate governance at the Financial Reporting Council (FRC) in London, has been busy. ‘This year we have achieved a lot,’ he says. ‘We have published a new code [the UK Corporate Governance Code], albeit it with minor changes and some [parts of the FRC’s Guidance on Audit Committees].’
Work has been stacking up on the issue of corporate governance at the UK’s independent regulator responsible for promoting high-quality corporate governance, with bad publicity emanating from criticism of Philip Green over the dealings that led to the demise of high street retail group BHS and Mike Ashley’s Sports Direct’s working practices.
Lack of trust in business
As a result, a major inquiry by the UK parliamentary Business Innovation & Skills (BIS) Committee on corporate governance was launched later in the year. ‘What has happened recently, the major inquiry by the select committee followed by a consultation by the government on a similar area, is all about a widening lack of trust in business, and the need for business to take a voice in wider society,’ says Styles. ‘But it is also about corporate governance and what that means.’
He notes that the UK Corporate Governance Code has developed over a number of years to address such issues by setting good governance standards. But he adds that while effective, the FRC approach can only go so far. ‘A lot of governance is in the law, in terms of what shareholders have rights to do and there is more governance in the listings rules,’ he explains.
‘We [at the FRC] have a flexible system, underpinned by good, hard rules. But there are other laws, regulations and regulatory authorities – tax, the environment, consumers, competition law – that impact on the way companies behave.’
So is there an impetus for an all-embracing approach from government? It is something UK Prime Minister Theresa May has alluded to since taking office in the summer of 2016, though the government’s recent green paper on the issue was criticized for being watered down.
Interestingly, Styles does not share this view. ‘I think the green paper is very green, in that it is a very good consultation paper in terms of breadth on governance,’ he says. ‘There appears to be this idea that unless you make a regulatory change it has been watered down. Through the code we have managed to achieve quite a lot of change over its 25 years.’
Styles condenses the issues raised in the green paper down to three key questions the British government needs to address: What do you do about governance at large private companies? What do you do about remuneration? And what do you do about a broader stakeholder view on the company board? ‘The government is going to have to address all these key elements. Whether it addresses them through the law or through a regulator or through a code-based approach, it will have to use the correct tool in each case to get the answer it wants.’
To these issues the FRC has a prepared response, which it gave to the BIS select committee last year. ‘On private companies, we said we are willing to assist with best practice in terms of private company governance,’ says Styles. ‘Whether that is a code or a set of reporting requirements supported by best practice needs to be worked out. We have said we are willing to help with that.
‘On remuneration we have said we are willing to look at what happens when there is significant opposition to resolutions, and we are willing to strengthen the role of the remuneration committee. When it comes to the stakeholder voice on the board, if the government wants a code-based solution that allows companies to approach this, we are happy to consult on the code to bring that about.’
Room for improvement
The FRC has just published its review of 2016, Developments in Corporate Governance and Stewardship, which shows some gradual improvement among companies. ‘There has been a small increase in compliance with the code,’ says Styles. The figures show that full code compliance among FTSE 350 companies is 62 percent ‒ up from 57 percent last year ‒ and 90 percent of FTSE companies report that they comply with all but one or two of the code’s 54 provisions. ‘We think though there is room for improvement,’ admits Styles.
As a result of constantly assessing the best governance, things do not ‒ and cannot ‒ stand still at the FRC. Styles expects another major consultation this year, beginning in the summer, resulting in a new code published at the end of the year.
The other important area he is planning to update is the FRC’s Guidance on the Strategic Report to reflect changes arising from the implementation of the EU directive on non-financial and diversity information. The government has recently published new regulations to implement the directive, which will amend the existing strategic report requirements in company law in respect of non-financial reporting.
‘The new regulations are substantially aligned to pre-existing requirements in the strategic report, therefore there will be limited changes, in practice, for companies,’ says Styles. ‘We have also said companies should consider reporting how they apportion funds between pensions and research and development, and how that fits with the overall company strategy.’ This links governance in a wider sense to an effective company culture.
Styles is also finishing work on stewardship tiering, which places asset managers into tiers based on the quality of their stewardship code statements. There are around 40 asset managers who are in tier three, the lowest tier. These will be removed from the list of signatories by the middle of the year if they do not improve.
Tier three is defined in damning terms. ‘Significant reporting improvements need to be made to ensure the approach is more transparent,’ Styles observes. ‘Signatories have not engaged with the process of improving their statements and their statements continue to be generic and provide no ‒ or poor ‒ explanations where they depart from provisions of the code.
‘This is a new development for the FRC, in terms of making our assessments public. I would say it has been a very constructive exercise.’