New legislation came into force from 1 January 2019 which imposes new reporting requirements for certain companies in relation to pay.
These obligations, which aim to boost confidence in the way in which large companies are run, are designed to force companies to justify the salaries for their top executives. They also facilitate a greater understanding between the board and its wider stakeholder base, and crucially, directors can incur criminal liability for failing to comply.
One of the more headline-grabbing regulations is the statutory requirement for companies with over 250 UK group employees to report annually on the ratio of total CEO pay to the median, lower and upper percentile full-time equivalent of their UK employees.
Companies have three choices when it comes to the method by which they calculate these ratios, depending on their respective circumstances.
But in all cases, the ratios will be calculated on a full-time equivalent basis, including wages and salary, pension contributions, and variable pay such as bonuses. The ratios are then disclosed in a prescribed table, accounting for the previous ten years (although companies are free to disclose beyond this).
Those employers affected will also need to include within their remuneration report:
- an explanation of the financial modelling used to determine the full-time equivalent
- remuneration clarification on why the ratio may change from year to year
- whether the company believes the median ratio is consistent with the company's wider policies on employee pay, reward and progression.
Companies will also need to report on how changes in their share prices would affect any new long-term incentive awards for executives.
Early preparation is recommended, particularly as the calculations involved can be relatively complex and companies will need to ensure they have the relevant data for the preceding ten years to meet the next reporting deadline.
One way to prepare would be for a company to conduct a test run, for instance looking at the 2018 financial year, which can flag if any information still needs to be obtained. Proper planning will also be beneficial if the gap between the pay of the company's CEO and its employees appears on its face to be unjustifiably wide.
In this scenario, the company would then be able to plan the best way of presenting and reporting the pay ratio to reduce any PR impact or effect on its employees' morale.
So what next for executive pay reporting? Some have called for the rules to be tightened further, a key proponent being the Business, Energy and Industrial Strategy Committee (BEIS).
In March, the BEIS made several recommendations, including that companies should also be required to appoint at least one employee representative to the company's remuneration committee, ensuring a link between executive pay and the workforce as a whole.
The government recently addressed each of the BEIS' recommendations in turn, but have stated a reluctance to implement any further changes to executive pay reporting until the successful implementation of the recent reforms. For now then, it's wait and see.
Equality and fairness in pay is a hot topic, evidenced also by the gender pay gap reporting obligations which came into effect at the start of this year and the government's consultation on ethnic pay reporting which completed in January.
There is a clear intention for companies to be held to account for the way in which they pay their staff and afford them opportunities.
Gender pay gap reporting
Former UK Prime Minister, David Cameron, pledged to close the gender pay gap "within a generation". UK employers with 250 or more employees are in the second year of requirements to publish gender pay gap (GPG) data annually on their company website and a government official portal.
30 March and 4 April 2019 marked the second annual reporting deadlines for public sector companies and private companies respectively. Results have sparked debate, and also highlighted the scale of the challenge ahead. Latest 2019 reports show a median GPG in the UK of 9.6%, a marginal decrease from 9.7% in 2018. Yet 45% of reporting employers have seen an increase in their GPG over the year.
Clearly this raises concerns about whether the regulations are having an impact, but there may be legitimate reasons why the increase has occurred. For example, companies may be hiring more women into junior positions with the intention of them moving into more senior roles in the future, with a short term effect of widening the gap.
Alternatively, employers may still be adapting to the regulations: last year's reports stated that 48% of employers did not accompany their report with any sort or action plan to reduce the gap (which has also led to some commentators calling for mandatory publication of action plans).
The Equality and Human Rights Commission, the public body tasked with holding organisations to account for failing to report their GPG, notes the challenge ahead. In May 2019, it named and shamed 47 organisations on its website for failing to report their GPG by this year's deadlines.
Whilst the risk of reputational damage should encourage companies to meet the deadline, even more critical is the risk of facing an unlimited fine if they fail to remedy the situation (although some criticise the lack of "teeth" in the legislation).
Efforts to reduce the GPG also extend to France and Germany.
In France, similar measures have been taken to address the gender pay gap. These apply to companies with over 50 employees (rather than 250 employees as in the UK) and therefore will catch a wider pool of employees. Read our comments on the rules in France.
Despite the obligation to pay equal pay for equal work regardless of gender, the gender pay gap in recent years has still stood at around 21%. Since 2017, the following measures have been taken in Germany to eliminate pay difference and introduce more transparency:
- Individual employees (both male and female) of companies with more than 200 employees can request data to help them understand how their salary compares with members of the opposite sex in similar jobs, and the criteria and procedure for determining both their own pay and that of the comparator. However, for data protection reasons, this right only applies if six or more employees of the opposite sex work in a comparable role. This is slightly more onerous on the employee than the regime in the UK and France, because it requires the employee to request the data, rather than placing an obligation on the company.
- Companies with more than 500 employees are encouraged to conduct internal equal pay audits to review their remuneration schemes and the actual remuneration paid. These audits remain optional.
- Companies with more than 500 employees which are already obliged to prepare management reports (such as public companies), are encouraged to carry out the audit detailed above, and must also report on the resulting equal treatment and equal pay data. Results are published for the period two years prior, and so 2018 was the first reporting year (reporting 2016 results).
Beyond Europe, recently all 29 members of the US women's world cup winning football team decided to take legal action against the US Soccer Federation, arguing that in addition to not being paid equally as the men's national team, they were not receiving the same working rights because of their gender.
With awareness around gender pay on the rise, it will continue to be a hot topic of discussion each year, particularly following the reporting deadlines. If the pace of change is considered too slow, it would not be surprising if further obligations are imposed in the future under new reforms.
Ethnicity pay gap reporting
With gender pay reporting now in full swing in the UK, there have also been calls for employers to report on their ethnicity pay gap, and it is looking increasingly likely that this requirement will evolve. Some employers already report their ethnicity pay gap voluntarily, so legislating in this area would create consistency across the board.
On 11 January 2019, the government completed its consultation into the specific ethnicity pay information that should be UK reported by employers to tackle inequality in the workplace. As part of this, it sought views on whether reporting obligations should only apply to organisations with 250 or more employees (as for gender pay gap reporting), or include others.
The form of reporting was also considered, with three potential models suggested:
- One pay gap figure which compares the average hourly earnings of ethnic minority employees as a percentage of white employees.
- Several pay gap figures comparing average hourly earnings of different groups of ethnic minority employees as a percentage of white employees.
- Ethnicity pay information by pay band or quartile, showing the proportion of employees from different ethnic groups by £20,000 pay bands or by pay quartiles.
These models show that the government not only appreciates the advantages of having an approach consistent with that for gender pay, but also understands that a one-size-fits-all model may not be appropriate. Equally, the more complex the reporting, the greater the likelihood employers will fail to report.
There are also some practical issues at play, which employers are unlikely to have experienced when reporting gender pay gaps. For example, organisations may not keep data on their employees' ethnicity.
If this is the case and ethnicity pay reporting becomes mandatory, they would need to put in place suitable systems for collecting such data. Further, employees are not legally obligated to disclose their ethnicity, meaning data collected may not be truly representative and may distort the gap.
Where organisations only employ a few ethnic minority workers, employers would also need to take care to ensure their report does not make it possible to infer how much those workers are paid. If it did, such a report may be deemed to include personally identifiable data, posing a data protection risk.
Several campaigners believe greater transparency on pay would be a driving force in reducing the pay gap amongst various groups of employees. It appears the UK workforce largely agrees; a recent survey from a sample of more than 2,000 full-time employees shows a majority of British workers are in favour of new legislation requiring workers to make certain personal information, such as monthly income and tax returns, publicly available.
One argument by those in favour is that greater pay transparency puts pressure on employers having to justify the pay gaps amongst their workforce, in turn leading to them taking positive action. The UK would not be the first to trial this; Norway has required its citizens to make their earnings publicly available for inspection since the 1800s.
Whilst we are still awaiting developments to the consultation on ethnicity pay gap reporting, in our view, it seems likely that mandatory reporting on the pay gaps between various groups in the workplace will increase, extending to ethnicity, as well as potentially other protected characteristics such as disability and sexuality.
A recent government consultation on whether employers with more than 250 employees should be required to publish family-related leave and pay policies suggests that this type of reporting may be expanded even more broadly in the future.