The Latest Developments in the Evolving World of UK Corporate Governance….

Following their U-turn on the reporting elements of the proposed reforms to corporate governance contained in the secondary legislation, we now know that the primary legislation due to be laid before parliament will not go ahead. The government has finally acknowledged that it does not intend to make necessary reforms to rebuild trust and confidence in our largest companies. The news leaves the Financial Reporting Council in limbo. They rightly resourced up to meet the intended scope of their enhanced responsibilities. Those individuals must be wondering what comes next for them.

The FRC’s response was to express disappointment. They also provided some indication of what we can expect in response to their own consultation on reforms to the UK Corporate Governance Code. The announcement lacks clarity and will leave companies unsure of how to proceed, particularly in the internal control environment.  There is reference to 18 principles with more than half being dropped. We’ve tried to reconcile the points in the consultation document to this number, without success. But we have taken their wording and compared it the consultation document.

There will be enhanced requirements to evidence the strength of the internal control environment. It seems to be unlikely the scope will be as broad as originally proposed – perhaps limited to financial controls or financial and compliance. Additional time will be allowed for implementation. Guidance will be provided alongside the refreshed Code which should help companies to appreciate how to apply a principles-based approach. It’s likely they will also emphasise again the existing requirements to attest to the effectiveness of all material controls and to report on a comply or explain basis.

The briefing from the FRC says there will be some changes incorporated in the revised code to streamline requirements and reduce duplication. Although not yet clear, we suspect this may mean:

• Continuing to press for reporting on the activities and outcomes of governance practices which is consistent with guidance already presented;
• Some amendments to encourage greater clarity on environmental and social matters, as well as on embedding a positive culture;
• Removing duplication with matters covered by the Audit Committee and External Audit: Minimum Standard requirements;
• Requiring more specific reporting of the factors incorporated into remuneration policies; and
• Strengthening the links between the Remuneration Policy and wider corporate governance disclosures.

On the other hand, the briefing note indicates that these items will not be taken forward:

• Recommendations associated with consideration and disclosure of director commitments and capacity;
• Requirements for greater focus on ED&I targets, including giving more weight to protected and unprotected characteristics;
• Improving clarity on succession planning and appointments;
• Changes to the Board Evaluation process, replacing this language with requiring a Board Performance Review;
• The need for Audit Committee oversight of the Audit and Assurance Policy as this reporting requirement was in the secondary legislation;
• Additional requirements for the Audit Committee to engage with shareholders;
• Expanding the remit of the Audit Committee to include ESG and Sustainability reporting; and
• Introducing specific malus and clawback options with associated disclosures.

This announcement will again leave companies searching for answers as to how to respond. Our advice is:

1. To continue what you have started if it adds commercial value to the business, for example strengthened internal controls in non-financial areas or improved assurance mapping.Better controlled businesses deliver enhanced performance and fewer surprises.The building blocks of any reporting obligations are good practice regardless of the regulation.
2. Focus first on the financial control environment to pilot your approach – before widening where there is added value. Understand the technology or infrastructure needs you might have, and identify how the culture and mindset of your organisation needs to adapt.
3. Review the reports and guidance that has been issued in the last 12 to 24 months by the FRC and other regulators. The FRC has indicated it is looking again at non-financial disclosures. There are increasing expectations and obligations around environmental and societal reporting.
4. Be prepared for greater challenge from the FRC on a comply or explain basis. They have indicated they believe this is a mechanism that already exists for stronger corporate governance.
5. Consider carefully the full range of stakeholders, perhaps thinking through the lens of s172 of the Companies’ Act. Do you have an inventory of the commitments and disclosures you make to them? Are you confident these commitments and disclosures are underpinned by appropriate processes and controls?

We believe companies need to be prepared for the proposed reforms to emerge again in the future. But more importantly, we believe in good governance. Embedded within companies. With directors taking accountability. We also believe in supporting governance professionals who have rightly focussed on these improvements.

Carolyn Clarke, Carrie Stephenson, Michael Lucas, Steve Brown

Brave Within LLP

8^th November 2023