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Executive remuneration: BIS consultation on revised remuneration reporting regulations
Practical Law UK Legal Update 7-520-1071 (Approx. 9 pages)
Executive remuneration: BIS consultation on revised remuneration reporting regulations
by PLC Corporate
| Published on 28 Jun 2012 • United Kingdom |
The Department for Business Innovation & Skills has published a consultation paper on revised remuneration reporting regulations. (Free access)
Speedread
On 27 June 2012, BIS published a consultation on executive remuneration reporting requirements, together with draft regulations which set out the proposed form and content of the directors' remuneration report. The draft regulations propose that the directors' remuneration report will be in two parts:
- A future remuneration policy report, which will be required when a shareholder binding vote is proposed, at least every three years.
- An implementation report, which will be required annually and will be subject to an advisory vote.
The proposed form and content of these reports, as set out in the draft regulations, follows the proposals announced by the Business Secretary on 20 June 2012. The draft regulations will apply to all quoted companies and will revoke and replace Schedule 8 of the Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008 (SI 2008/410).
The government believes that the draft regulations should be supplemented by clear guidance on the level of detail and type of information that should be reported, which should be jointly agreed by business and investor communities.
It is proposed that the provisions will take effect for companies whose financial year ends after October 2013. Responses to the consultation are requested by 26 September 2012.
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Background
Since 2002, quoted companies have been required to produce a directors' remuneration report (section 420 of the Companies Act 2006). The requirements for the form and content of the directors' remuneration report are currently set out in Parts 2 and 3 of Schedule 8 to the Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008. For further details, see Practice note, Directors' remuneration: corporate governance issues: directors remuneration report.
Although the requirement to report led to improved transparency on pay, over time, the directors' remuneration reports have become increasingly lengthy and complex as a result, the government has consulted extensively on changes to the executive remuneration framework. For further details, see Practice note, Directors' remuneration: corporate governance issues: BIS: executive paper pay .
On 20 June 2012, the Business Secretary made a statement to the House of Commons announcing the government's proposals on directors' remuneration. The announcement set out proposals for a binding vote on future remuneration policy and an advisory vote on the implementation of the remuneration policy. The announcement stated that the government would be consulting on regulations setting out how companies must report directors' remuneration (see Legal update, Executive remuneration: government proposals on voting and reporting).
Consultation on revised remuneration reporting regulations
Following the Business Secretary's announcement on the government's proposed changes to the executive remuneration framework, on 27 June 2012, BIS published its consultation on revised remuneration reporting regulations. The consultation seeks views on the government's proposals to increase the transparency in the reporting of directors' remuneration and specifically on the draft regulations which will determine the content of the directors' remuneration report.
The draft Large and Medium-sized Companies and Groups (Accounts and Reports)(Amendment) Regulations 2012, which are set out in Annex B to the consultation (draft regulations), will revoke and replace Schedule 8 of the Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008 (SI 2008/410). The draft regulations will be made under section 421 of the Companies Act 2006.
Consistent with the current regime, the draft regulations will apply to the remuneration of all directors of quoted companies, but will be most relevant for executive directors.
Reporting proposal
As announced on 20 June 2012 (see Legal update, Executive remuneration: government proposals on voting and reporting), the government proposes that to ensure greater transparency and to facilitate the new shareholder voting regime, the directors' remuneration report will comprise two reports:
- The policy report, which will contain the forward-looking remuneration policy and the termination policy. The policy report will be required when a shareholder vote is proposed (at a minimum every three years) and will be subject to a binding vote.
- The implementation report, which will disclose how the policy has been implemented during the reporting year and will include disclosures of a single remuneration figure for each director. The implementation report will be required annually and will be subject to an advisory vote.
The directors' remuneration report will remain a legally required standalone report, however, companies are not precluded from including the information about remuneration elsewhere in the annual report.
Chairman's summary statement
To improve transparency and the make it easier for shareholders to find key information on pay, paragraph 2 of the draft regulations provides that the directors' remuneration report must contain a statement by he chairman of the remuneration committee summarising the contents of the report.
Policy report
The government proposes that the policy report will include the following information.
Pay policy table
A table which sets out how the company structures pay and the policy for each element of that pay package. The government is not proposing to prescribe the exact format of the table but an example is provide in Annex A to the consultation. Paragraphs 18 to 20 of the draft regulations provide that for each element of pay, the table will include:
- Purpose: how it supports the company's short and long term strategic objectives.
- Operation: how each element of pay operates, including whether claw back and malus are possible.
- Performance metrics: a summary of the performance metrics, relative weighting and time period over which they are measured.
- Changes to policy: whether there have been any changes to that element and if so why.
To put these disclosures in context, the government proposes that the table is accompanied by an explanation of whether the remuneration policy for directors is different to that of other employees and if so why. For variable elements of pay, the report must also explain why performance metrics were chosen or provide an explanation if none have been applied (paragraph 20 of the draft regulations).
Service contracts
A statement setting out all provisions that relate to remuneration contained in the directors' service contracts (paragraph 21 of the draft regulations).
Scenarios
To improve transparency about potential levels of pay and in line with current best practice, the policy report will need to set out, in graphical form, what the directors will get for threshold, maximum and below-threshold performance. The government expects that this will provide an indication of the expectations of the remuneration committee when setting pay rather than estimates of future pay packages (paragraphs 22 and 23 of the draft regulations).
Relative importance of the spend on pay
To address shareholders' views that in order to get a holistic understanding of the company's policy on pay, it is important to understand how spend on pay relates to other factors, the government proposes that the policy report should set out the percentage change in profit, dividends and overall expenditure on pay in the reporting year (paragraph 24 of the draft regulations).
Termination payment policy
It is proposed that the policy report will set out the company's approach to termination payment and set out a framework for how the company will calculate termination payments and should include, as a minimum, the principles on which the determination of the payment will be made, including:
- How each element of pay will be dealt with when calculating the exit payment.
- Whether the company will distinguish between different types of leaver.
- How performance will be taken into account.
(Paragraphs 25 and 26 of the draft regulations.)
Employee context
To improve the information disclosed about the wider employee context, the government proposes that the policy report should be more specific about the pay policy in the whole organisation and set out:
- Whether comparison metrics were taken into account and if so what those metrics were.
- How the information was taken into account.
- The percentage increase in pay of the workforce and the percentage increase in pay of the CEO.
The government does not believe there should be a statutory requirement for companies to consult with employees on pay, but proposes that the policy report should disclose if the company has sought employee views on the remuneration policy (paragraphs 27 to 30 of the draft regulations).
Implementation report
The government proposes that the implementation report will include the following information.
Single total figure of remuneration for each director
It is proposed that the implementation report will include a single figure for total remuneration for each person who served as a director at any time during the financial year. There will also be a separate disclosure on termination payments. The consultation proposes a set methodology for the calculation of this figure and builds on the report produced by the FRC's Financial Report Lab (for further details, see Legal update, Executive remuneration: Financial Reporting Lab report on a single figure for remuneration).
The government proposes that the figure should be set out in a table and be comprehensive (include all types of reward received by the director), reflect actual pay earned and be consistent with regard to the components of pay included and how each component is measured.
Paragraphs 3 to 9 of the draft regulations stipulate the form of the table, which should include a total figure broken down by the following amounts:
- Salary: Full salary
- Benefits: All taxable benefits including dividends received in cash over the vesting period of long term incentives and deferred awards.
- Pension: All pension related benefits. The benefit an individual receives under a defined benefit pension scheme should be calculated using the HMRC methodology using an annual multiplier of 20. Unfunded pension schemes will also be caught.
- Bonus: Full bonus awarded in relation to the financial year.
- LTIPs: All other awards where final vesting is determined as a result of performance conditions that end in the year being reported on.
- Claw back: Formal claw back should also be disclosed.
The government proposes to supplement the information in the single figure relating to long term incentives and annual bonuses with details on performance against conditions (paragraph 8 of the draft regulations).
Total pension entitlements
The total figure for final salary pensions will also be supplemented with information on the accrued value of the pension were the director to retire at the end of the year and any additional benefit were the director to retire early (paragraph 10 of the draft regulations).
Termination payments
The implementation report will need to restate details of termination payments made, including the level of compensation received broken down into key elements, an explanation of how each element was calculated and how the decision made related to the policy on termination payments (paragraphs 11 and 12 of the draft regulations).
Detail on variable pay that has been awarded in the reporting year
The government proposes that the implementation report should contain information about awards made in the financial year under LTIPs including, the type of scheme, basis of award, face value, vesting maximum, percentage of the award that would vest at threshold performance, date performance period ends and a summary of the performance criteria (paragraph 12 of the draft regulations).
Comparison of overall performance and pay
Companies are currently required to publish a performance graph demonstrating total shareholder return over the previous five years. Shareholders feel this is of limited value. Therefore, the government proposes that companies should be required to produce a graph comparing company performance with the pay of the CEO (paragraph 13 of the draft regulations).
Statement of directors' shareholding
The implementation report should set out total shareholdings of directors including, any share ownership requirements and whether they have been met, and the total number of shares and share options for each director (broken down as owned outright, subject to deferral and subject to performance conditions) (paragraph 14 of the draft regulations).
Provision of advice
Although the UK Corporate Governance Code requires a statement to be made if the consultants who advise the remuneration committee have any other connection with the company, the government believes more information should be disclosed. It is prosed that the implementation report should include: details of consultants who provided advice about remuneration to directors; whether they provide other services to the company; how they were selected; and the total cost of advice received and the basis on which they were paid (paragraph 15).
Statement of shareholder voting
It is proposed that the implementation report should include details about how shareholders voted on both the previous year's binding and advisory vote (including percentage of votes cast and percentage that abstained), reasons for significant dissent (if known) and any action taken by the remuneration committee in response (paragraph 16 of the draft regulations).
Provisions of the implementation report subject to audit
The government recognises that audit is a costly process for companies. Therefore, paragraph 32 of the daft regulations states that only the following disclosures should be subject to audit:
- Single total remuneration figure.
- Detail of performance against metrics for variable awards (included in the single figure).
- Total pension entitlements (defined benefit schemes).
- Termination payments made.
- Detail on variable pay awarded.
Next steps
The consultation closes on 26 September 2012. It is proposed that the provisions will take effect for companies whose financial years end after October 2013.
The government will work with the UKLA to consider whether any requirements of the Listing Rules need to be reviewed.
As the draft regulations are designed to provide a framework within which companies and their shareholders can agree and implement a pay policy, the government believes they should be supplemented by clear guidance on the level of detail and type of information that should be reported, which should be jointly agreed by business and investor communities. Such guidance should be in place before the proposals take effect in late 2013.
The consultation also confirms that the government is considering the feedback to its narrative reporting consultation and is considering a route that will make legislative changes only where necessary, alongside guidance, and will publish draft regulations in due course. It is intended that all changes to the reporting framework will take place at the same time.