For financial years beginning on or after 1 January 2019, large private companies will need to adhere to the requirements contained in a new corporate governance code published by the Financial Reporting Council. The introduction of the new code followed multiple scandals which revealed poor corporate practices and neglect of stakeholders' interests. As a result, the code seeks to rebuild confidence and trust in these large private companies.
(1) Corporate governance statement
Under the new code, certain large private companies that have (i) more than 2,000 employees and/ or (ii) have a turnover of more than £200 million and a balance sheet total of more than £2 billion must produce a statement of corporate governance arrangements in its directors' report in its annual accounts. The statement must be published on the company's website as soon as reasonably practicable and be kept available for a certain period of time. Within this statement, the company must state which code it has applied; how it has applied the code and if it has departed from any code selected, the respects in which it did and its reasons for doing so.
These companies have a choice as to which corporate governance code they apply. Their options include the UK Corporate Governance Code which is a key source of corporate governance recommendations for companies with a premium listing, the QCA's Corporate Governance Code, which was designed to help smaller and medium sized quoted companies comply with the corporate governance requirements of the AIM rules and the Wates Principles which are discussed below.
Some qualifying companies may choose not to apply any recognised corporate governance code for the financial year- but that does not mean that they are off the hook! These companies must explain the reasons for their decision and explain what arrangements they made for corporate governance during the previous year.
The Wates Principles
The Wates Principles are a set of guiding principles for large private companies to use as a framework when making disclosures about their corporate governance arrangements. The six principles are (1) corporate purpose and leadership; (2) board composition; (3) director responsibilities; (4) opportunity and risk; (5) remuneration; and (6) stakeholder relations and engagement. While each principle is accompanied by a brief guidance note to help a company understand how to apply the principle in the most appropriate way, the principles are designed to be high level, flexible and ultimately a move beyond a 'box ticking' approach. Instead, they aim to acknowledge the wide variety of ownership structures amongst large private companies. Companies are not obliged to apply the Wates Principles but due to their succinct nature, they are expected to be the preferred corporate governance framework.
(2) Statement of engagement with employees
This new reporting requirement shows a shift in the importance of employee engagement as a marker of good corporate governance. The provision only applies to companies that have at least two out of three of the following: a turnover of more than £36 million, a balance sheet total of more than £18 million or more than 250 employees. These companies are required to produce a statement to be included in their directors' report which details the company's engagement with employees and summarises the effect of that engagement on the principal decisions taken during the financial year. Simply put, this reporting requirement involves a two-way process – the company must provide information, encouragement and transparency while also actively listening to and taking into account its employees' feedback. Since there is no prescribed approach, we can expect a variety of different methods to fulfill this requirement based on each company's structure and culture.
(3) Statement of engagement with suppliers, customers and others in a business relationship with the company
Similarly to the statement of engagement with employees, the same category of companies will also be required to summarise in their directors' reports how the directors have had regard to the need to foster business relationships with suppliers, customers and others, and the effect of that regard on the principal decisions taken during the financial year. Again, the company has the flexibility to decide how it chooses to fulfill this reporting requirement.
(4) 'Section 172(1) statement'
The last requirement also applies to companies that satisfy the criteria set out in point (2). The section 172(1) statement, which needs to be included in the company's strategic report and on its website, must describe how the directors have had regard to the matters set out in section 172(1)(a) to (f) of the Companies Act 2006 when generally performing their duty under section 172, i.e. the duty to promote the success of the company.
As previously mentioned, the code aims to mend the erosion of trust and confidence that occurred in the wake of multiple public scandals regarding the corporate governance of large private companies. Companies will need to publish their first report in 2020 at the earliest, so for now, it remains to be seen to what extent this corporate governance reform will lead to change.