Last week, the Financial Reporting Council (FRC) published its Annual Review of Corporate Governance Reporting. It's the second time that the FRC has reviewed how UK premium listed companies have reported on their application of the 2018 UK Corporate Governance Code (UKCGC). The review considers the clarity and quality of reporting on the UKCGC including the transparency and integrity of board decision-making and how a listed company demonstrates accountability to investors and wider stakeholders.

This update focuses on those aspects of corporate governance reporting which, in the FRC's view, could be improved. However, the FRC did note that overall it continued to see improved reporting. In particular, the FRC has seen an improvement in reporting on environmental and social issues, with better quality information on the issues under consideration and how those have been considered at board-level. So it's not all bad particularly in the circumstances of the last 12 months.

What is the key message from the FRC?

The FRC's key message is that good reporting is characterised by clear and consistent explanations, supported by real-life examples of application and cross-referencing between related initiatives and sections.

Has the FRC provided detail on its reporting expectations?

Yes. The FRC has the following reporting expectations:

• Greater attention to the alignment between reported good governance and company practices and policies, strategy and business models.
• Increased focus on assessing and monitoring culture by using different methods and metrics.
• Better reporting of succession planning, and how this links to assuring the make-up of the board and delivering diverse challenge.
• Improved reporting on outcomes and actions, rather than declarations or statements of intent without detail.
• Increased focus on assessing and ensuring the effectiveness of the risk management and internal control systems.
• Better explanation of how executive remuneration is aligned to a company’s purpose, values and strategy.

The FRC has also asked companies to be clear about the following topics:

• Departures from the provisions of the UKCGC and providing a detailed explanation - companies should name the relevant provision in their compliance statement and should provide an explanation or signpost to where the explanation can be found.
• Engagement with shareholders and the workforce in relation to remuneration and the impact on remuneration policy and outcomes.
• The impact of engagement with stakeholders, including any areas where the company failed to meet targets.
• The impact of engagement with stakeholders, including shareholders, on decision-making, strategy and long-term success.
• Explaining diversity policies with objectives and targets and demonstrating their connection to company strategy.
• The relationship and level of oversight between the board and committees.

What areas for improvement were identified by the FRC?

The FRC considers that reporting could be improved in the following areas:

• disclosures of non-compliance with UKCGC: there is still room for improvement in relation to the quality of explanations when departing from the UKCGC. The FRC notes that it continues to see the use of boilerplate statements and comments that "These statements are seldom substantiated by actions or examples, and therefore do not offer insight into company governance". The FRC was disappointed that the quality of explanations provided for non-compliance this year has not significantly improved.
• diversity and inclusion and succession planning at board-level and through the pipeline:  The FRC observes that there is often a lack of cohesion between policies and succession plans. Only minimal information was provided on how diversity and inclusion policies and objectives were linked to company strategy.
• reporting on risk management: The FRC noted that very few companies had commented on how they had reviewed the effectiveness of their risk management and internal control systems. 
• alignment of remuneration arrangements with company strategy: Although most companies confirmed that their remuneration arrangements support company’s strategy, only some of them explained how. In particular, the FRC flagged that very few companies provided an explanation of how remuneration is aligned with company purpose and values.

What does good governance reporting look like? 

The FRC notes that "The best governance reporting offers transparency that goes beyond broad-brush declarations and sets out clearly and concisely how the Principles of the Code were applied and the nature of compliance with the Provisions of the Code." 

The FRC wants companies to go beyond declarations of intent and boilerplate comments and focus on demonstrating the impact of actions.

How should a company explain non-compliance with the UKCGC?

An effective explanation should:

• set the context and background
• provide a convincing rationale for the approach being taken
• consider any risks inherent in the non-compliance
• describe any mitigating actions which the company has taken
• set out when the company intends to comply with the relevant provision
• be understandable and persuasive

This reflects the FRC's view that "regrettably, too many companies continue not to be transparent about their compliance with the Code, thereby misleading the reader."

What guidance is available from the FRC?

In February 2021, the FRC issued Improving the quality of ‘comply or explain’ reporting  which is intended to help companies improve transparency when reporting against the UKCGC. It also contains guidance on how to achieve good quality explanations when departing from the UKCGC.

How will corporate governance reporting be affected by the transition from the FRC to ARGA?

The FRC notes that it expects to have more powers to take action against those companies that fail to apply the Principles of the UKCGC or when departing from the provisions of the UKCGC do not offer an effective explanation. 

The full review which runs to 53 pages is available at https://www.frc.org.uk/news/november-2021/uk-corporate-governance-code-reporting

If you would like to discuss corporate governance please contact Nick Graves, Dominic Davis, Rupert Weston or another member of the Burges Salmon Corporate Group.