The Association of British Insurers (ABI) and the National Association of Pension Funds (NAPF) have published an updated Statement of Best Practice on Contracts and Severance Policies for directors and senior executives (the Statement). The Statement is intended to emphasise certain aspects of the Combined Code and provide guidance on shareholders’ expectations (it does not introduce any significant new obligations which companies should not already be complying with). The main changes to the Statement are the inclusion of the following principles:
- Companies should disclose key elements of directors’ contracts on their website and summarise them in the Remuneration Report (2.7). This adds to the requirement in the CBI’s guidance on directors’ contracts and severance (the CBI statement) which states that companies should announce the key details of directors’ contracts to shareholders at the earliest opportunity. (Paragraph 1 of the CBI statement).
- Contract policy including terminations and the approach to mitigation should be clearly explained in the Remuneration Report and corporate objectives set for executives should be clear (3.2). This reflects the requirements of the Directors Remuneration Report Regulations.
- The policy and objectives on directors’ contracts should also be clearly stated in the Remuneration Report (3.3). This reflects the recommendation in paragraph 3.1 of the existing ABI Guidelines on Policy and Practice in Executive Remuneration (the ABI guidelines).
- No director should be entitled to discretionary payments in the event of termination of their contract arising from poor corporate performance and Remuneration Committees should consider retaining their discretion to reclaim bonuses if performance achievements are subsequently found to have been significantly misstated (3.8). This reflects the recommendation in paragraph 1.8 of the ABI guidelines.
- Contracts should not, in any circumstances, provide additional compensation for severance as a result of change of control in line with 3.8 of the ABI guidelines (3.9). The previous version of the Statement had envisaged additional compensation being paid in highly exceptional circumstances, such as the retirement of a new chief executive of a troubled company.
- The ABI and NAPF are not supportive of the liquidated damages approach to contract setting, which involves agreement at the outset on the amount that will be paid in the event of severance. Phased payments will generally be appropriate for fulfilling compensation on early termination (3.10). In the previous version of the Statement it was acknowledged that shareholders did not believe the liquidated damages approach to be desirable. Boards adopting such an agreement would have to justify their decision and should therefore have considered a modified approach.
- Arrangements that guarantee pensions with limited or no abatement on severance or early retirement are no longer regarded as acceptable, except where they are generally available to all employees. Where opportunities arise, existing contracts should be amended and such conditions should not be included in new contracts (3.11). This reflects the recommendation in paragraph 3.9 of the ABI guidelines.
In addition to these amendments the format of the Statement has changed and contains several provisions which have been redrafted for clarification but contain substantially the same guidance as before.