The GC100 and Investor Group has published a revised version of its guidance on directors’ remuneration reports and policies, which all UK incorporated companies listed on the LSE, in any EEA state or on NYSE or NASDAQ are required to produce. Whilst the revised Guidance largely follows the previous version, it also includes some important updates which companies will need to carefully consider in preparing their next report and updated policies.
This article sets out the key revisions made to the Guidance, including strengthened guidance on the requirement for policies to impose a maximum salary for directors, the use of discretion within policies and the approach to disclosure of performance targets for directors’ annual bonuses, which is an issue that has received particular investor scrutiny. The updated Guidance is available in the GC100 section of the Practical Law website.
In-scope companies are required to produce a directors' remuneration policy to be submitted for approval by a binding vote of shareholders at least once every three years. Companies must also submit their annual report on directors' remuneration to an advisory vote of shareholders every year.
The Guidance, first published on 12 September 2013, was introduced to assist companies in satisfying the requirements of the Regulations, and is therefore an important source of guidance to be considered when drafting remuneration policies and reports. The latest version of the Guidance includes all updates made in 2014 and 2015 by the Group, as well as new provisions for 2016.
This revised Guidance comes at a time of continued scrutiny of directors' pay (from investors, the media and the government), including the Executive Remuneration Working Group's recent publication of its Final Report, which we covered in our bulletin here, and Theresa May's proposal to further strengthen the current regime by moving to an annual binding vote on the actual amounts to be paid to directors. Themes found in the Guidance echo the Working Group's Final Report.
Commentary in the revised Guidance highlights the improved quality of remuneration reporting since the introduction of the Regulations, but indicates there is still room for development. The Guidance emphasises the importance of clarity and conciseness in reporting and recommends that remuneration committees focus on how to make reports easier for stakeholders to understand.
Important amendments in the updated 2016 Guidance include:
- Inclusion of a maximum. The Regulations require that remuneration policies specify a “maximum” that may be paid in respect of each component of remuneration. Whist this is generally complied with in respect of components such as bonus and LTIP, the approach to specify a maximum in respect of base salary has been far more mixed. The revised Guidance has been strengthened in this regard, and it now specifically provides that a maximum for salary must be stated. Maximum salary that might be paid must be explained in monetary terms or any other way appropriate to the company (e.g. percentage of salary) as well as being disclosed at an individual executive director level.
- Exercise of discretion. A key issue that companies have faced is including a broad discretion under the terms of the policy, which shareholders have not accepted, and companies in this position have had to issue assurances outside of the remuneration policy. The revised Guidance states that this practice is not desirable, and instead recommends that the policy itself includes a full explanation and well-drafted description of the discretion to provide that it will only be exercised within a specified maximum. In the event that an assurance still needs to be given, it is now recommended that it is provided after publication of the annual report but prior to the AGM on the basis that it would bind the company, that it should be disclosed in the accounts and reports section of the company’s website and that it is set out in remuneration reports in the following years of the policy’s term.
- Disclosure of bonus targets and commercially sensitive information. A key issue for many companies relates to when it is appropriate not to disclose performance measures or targets which contain commercially sensitive information. This has been a contentious issue for many investors, with some voting against reports that do not include adequate disclosure. The Guidance now includes confirmation that where information is not included on the basis that it is commercially sensitive, the particulars and the reason for the omission must be given in the remuneration report and an indication given of when (if at all) the information is to be reported.
- Link between remuneration and the company’s strategy. The Guidance recommends that the chairman’s statement should contain an appropriate explanation of the link between remuneration and the company’s strategy. It notes that demonstrating this linkage will be crucial for companies as their remuneration structures evolve, discretions are exercised and remuneration policies come up for renewal. Whilst the Guidance acknowledges that there is already a requirement to include this as part of the future policy table, it indicates that investors expect that this should be drawn out by relevant disclosures in the annual remuneration report. The Guidance also recommends companies cross-refer to the Strategic Report and remuneration committees should consult the Financial Reporting Lab insight report on clear and concise reporting in an aim to produce a “joined-up” report.
Other points on which there is updated guidance include the disclosure of prospective pension entitlements for a director who leaves part-way through a year, the choice of comparator groups for CEO pay comparisons and additional guidance around reporting on the single total figure of remuneration.
The revised Guidance includes some important updates to consider. The strengthened focus on ensuring that a maximum is stated for each component of remuneration comes against varying degrees of compliance with this requirement, particularly in respect of salary. A number of considerations arise in obtaining a maximum on salary, including retaining sufficient flexibility and avoiding a ‘race to the top’ where the stated maximum is perceived as a target level of remuneration (particularly by new recruits). It is clear, however, that investors will increasingly demand full compliance with this requirement, so companies will need to consider these issues carefully. Similarly, the increased focus on the scope of discretions within the policy means companies will need to give very careful consideration in drafting their next policy. As discussed in our previous briefing here, remuneration policies have legal effect, and so any limit on the ability for directors within the policy will override a wider discretion included in their contractual arrangements (such as a share plan). Companies should therefore approach the drafting of such parts of the policy with the same level of attention as the drafting of service contracts or share plans.
The guidance on the disclosure of bonus targets and reliance on information being ‘commercially sensitive’ to justify delayed disclosure is added to the Guidance, but represents the existing views of investors. This does, however, highlight that this is seen as a key issue for investors.
One aspect of the recent Executive Remuneration Working Group’s Final Report that is not expressly addressed in the revised CG100 Guidance is the focus on companies having more flexibility to design and use alternative remuneration structures, tailored to the company’s specific circumstances, rather than reliance on the traditional LTIP model (as discussed in our briefing here). It therefore remains to be seen what level of appetite investors will have for supporting more flexible approaches.