UK Corporate Governance Code

TheUK Corporate Governance code,formerly known as the Combined Code(from here on referred to as "the Code" ) is a part ofUK company lawwith a set of principles of goodcorporate governanceaimed at companies listed on theLondon Stock Exchange.It is overseen by theFinancial Reporting Counciland its importance derives from theFinancial Conduct Authority'sListing Rules.The Listing Rules themselves are given statutory authority under theFinancial Services and Markets Act 2000and require that public listed companies disclose how they have complied with the code, and explain where they have not applied the code – in what the code refers to as 'comply or explain'.Private companies are also encouraged to conform; however there is no requirement for disclosure of compliance in private company accounts. The Code adopts a principles-based approach in the sense that it provides general guidelines of best practice. This contrasts with a rules-based approach which rigidly defines exact provisions that must be adhered to. In 2017, it was announced that theFinancial Reporting Councilwould amend the Code to require companies to "comply or explain" with a requirement to have elected employee representatives on company boards.

Logo of the Financial Reporting Council

In July 2018, the Financial Reporting Councilreleased the new 2018 UK Corporate Governance Code, which is designed to build on the relationships between companies, shareholders and stakeholders and make them key to long-termsustainable growthof the UK economy.

Origins

The Code is essentially a consolidation and refinement of a number of different reports and codes concerning opinions on good corporate governance. The first step on the road to the initial iteration of the code was the publication of theCadbury Reportin 1992. Produced by a committee chaired bySir Adrian Cadbury,the Report was a response to major corporate scandals associated with governance failures in the UK. The committee was formed in 1991 afterPolly Peck,a major UK company, went insolvent after years of falsifying financial reports. Initially limited to preventing financial fraud, whenBCCIandRobert Maxwellscandals took place, Cadbury's remit was expanded to corporate governance generally. Hence the final report covered financial, auditing and corporate governance matters, and made the following three basic recommendations:

• the CEO and chairman of companies should be separated ensuring the absence of CEO duality
• boards should have at least three non-executive directors, two of whom should have no financial or personal ties to executives
• each board should have an audit committee composed of non-executive directors

These recommendations were initially highly controversial, although they did no more than reflect the contemporary "best practice", and urged that these practices be spread across listed companies. At the same time it was emphasised by Cadbury that there was no such thing as "one size fits all".In 1994, the principles were appended to theListing Rulesof theLondon Stock Exchange,and it was stipulated that companies need not comply with the principles, but had to explain to the stock market why not if they did not.

Before long, a further committee chaired by chairman ofMarks & SpencerSir Richard Greenburywas set up as a 'study group' onexecutive compensation.It responded to public anger, and some vague statements by the Prime MinisterJohn Majorthat regulation might be necessary, over spirallingexecutive pay,particularly in public utilities that had beenprivatised.In July 1995 theGreenbury Reportwas published. This recommended some further changes to the existing principles in the Cadbury Code:

• each board should have a remuneration committee composed without executive directors, but possibly the chairman
• directors should have long term performance related pay, which should be disclosed in the company accounts and contracts renewable each year

Greenbury recommended that progress be reviewed every three years and so in 1998Sir Ronald Hampel,who was chairman and managing director ofICI plc,chaired a third committee. The ensuingHampel Reportsuggested that all the Cadbury and Greenbury principles be consolidated into a "Combined Code". It added that,

• the Chairman of the board should be seen as the "leader" of the non-executive directors
• institutional investors should consider voting the shares they held at meetings, though rejected compulsory voting
• all kinds of remuneration including pensions should be disclosed.

It rejected the idea that had been touted that the UK should follow the German two-tier board structure, or reforms in the EU Draft Fifth Directive on Company Law.A further mini-report was produced the following year by the Turnbull Committee which recommended directors be responsible for internal financial and auditing controls. A number of other reports were issued through the next decade, particularly including theHiggs review,fromDerek Higgsfocusing on what non-executive directors should do, and responding to the problems thrown up by the collapse ofEnronin the US.Paul Mynersalso completed two major reviews of the role ofinstitutional investorsfor the Treasury, whose principles were also found in the Combined Code. Shortly following the collapse ofNorthern Rockand theFinancial Crisis,theWalker Reviewproduced a report focused on the banking industry, but also with recommendations for all companies.In 2010, a newStewardship Codewas issued by theFinancial Reporting Council,along with a new version of the UK Corporate Governance Code, hence separating the issues from one another.

Contents

Section A: Leadership

Every company should be headed by an effective board which is collectively responsible for the long-term success of the company.

There should be a clear division of responsibilities at the head of the company between the running of the board and the executive responsibility for the running of the company's business. No one individual should have unfettered powers of decision.

The chairman is responsible for leadership of the board and ensuring its effectiveness on all aspects of its role.

As part of their role as members of a unitary board, non-executive directors should constructively challenge and help develop proposals on strategy.

Section B: Effectiveness

The board and its committees should have the appropriate balance of skills, experience, independence and knowledge of the company to enable them to discharge their respective duties and responsibilities effectively.

There should be a formal, rigorous and transparent procedure for the appointment of new directors to the board.

All directors should be able to allocate sufficient time to the company to discharge their responsibilities All directors should receive induction on joining the board and should regularly update and refresh their skills and knowledge.

The board should be supplied in a timely manner with information in a form and of a quality appropriate to enable it to discharge its duties.

The board should undertake a formal and rigorous annual evaluation of its own performance and that of its committees and individual directors.

All directors should be submitted for re-election at regular intervals, subject to continued satisfactory performance.

Section C: Accountability

The board should present a balanced and understandable assessment of the company's position and prospects.

The board is responsible for determining the nature and extent of the significant risks it is willing to take in achieving its strategic objectives. The board should maintain sound risk management and internal control systems.

The board should establish formal and transparent arrangements for considering how they should apply the corporate reporting and risk management and internal control principles and for maintaining an appropriate relationship with the company's auditor.

Section D: Remuneration

Levels of remuneration should be sufficient to attract, retain and motivate directors of the quality required to run the company successfully, but a company should avoid paying more than is necessary for this purpose. A significant proportion of executive directors’ remuneration should be structured so as to link rewards to corporate and individual performance.

There should be a formal and transparent procedure for developing policy on executive remuneration and for fixing the remuneration packages of individual directors. No director should be involved in deciding his or her own remuneration.

Section E: Relations with Shareholders

There should be a dialogue with shareholders based on the mutual understanding of objectives. The board as a whole has responsibility for ensuring that a satisfactory dialogue with shareholders takes place.

The board should use the AGM to communicate with investors and to encourage their participation.

Schedules

Schedule A

The design of performance-related remuneration for executive directors

This goes into more detail about the problem of director pay.

Schedule B

Disclosure of corporate governance arrangements

This sets out a checklist of which duties must be complied with (or explained) under Listing Rule 9.8.6. It makes clear what obligations there are, and that everything should be posted on the company's website.

Compliance

In its 2007 response to a Financial Reporting Council consultation paper in July 2007Pensions & Investment Research Consultants Ltd(a commercial proxy advisory service) reported that only 33% of listed companies were fully compliant with all of the Codes provisions.Spread over all the rules, this is not necessarily a poor response, and indications are that compliance has been climbing. PIRC maintains that poor compliance correlates to poor business performance, and at any rate a key provision such as separating the CEO from the Chair had an 88.4% compliance rate.

The question thrown up by the Code's approach is the tension between wanting to maintain "flexibility" and achieve consistency. The tension is between an aversion to "one size fits all" solutions, which may not be right for everyone, and practices which are in general agreement to be tried, tested and successful.If companies find that non-compliance works for them, and shareholders agree, they will not be punished by an exodus of investors. So the chief method for accountability is meant to be through themarket,rather than throughlaw.

An additional reason for a Code, was the original concern of theCadbury Report,that companies faced with minimum standards in law would comply merely with the letter and not the spirit of the rules.

The Financial Services Authority has recentlyproposed to abandon a requirement to state compliance with the principles (under LR 9.8.6(5)), rather than the rules in detail themselves.

See also

• Corporate Governance
• Corporate Social Responsibility
• Stewardship Code
• Worker representation on corporate boards of directors
• UK company law
• UK labour law

Company reform reports

• Greene Committee(1926) Report of the Company Law Amendment Committee (Cmnd 2657, 1926)
• Cohen Committee(1945)
• Jenkins Committee(1962)
• Alan Bullock(1977)Report of the committee of inquiry on industrial democracy,on worker codetermination
• Cork Report,Insolvency Law and Practice, Report of the Review Committee(1982) (Cmnd 8558)
• Cadbury Report(1992),Financial Aspects of Corporate Governance,on corporate governance generally. Pdf filehere
• Greenbury Report(1995)Directors' Remuneration, Report of the Study GroupPdfhere
• Hampel Report(1998),Review of corporate governance since Cadbury,hereand online with the EGCIhere
• Turnbull Report(1999) on internal controls to ensure good financial reporting
• Myners Report(2001),Institutional Investment in the United Kingdom: A Reviewon institutional investors, Pdf filehereandReview of ProgressReporthere
• Higgs Report(2003)Review of the role and effectiveness of non-executive directors.Pdfhere
• Smith Report(2003) on auditors. Pdfhere

References

• S Arcot and V Bruno, ‘In Letter but not in spirit: An Analysis of Corporate Governance in the UK’ (2006)SSRN
• S Arcot and V Bruno, 'One Size Does Not Fit All, After All: Evidence from Corporate Governance' (2007)SSRN
• Alan Dignam, 'A Principled Approach to Self-regulation? The Report of the Hampel Committee on Corporate Governance' [1998] Company Lawyer 140
• E McGaughey, 'Votes at Work in Britain: Shareholder Monopolisation and the ‘Single Channel’' (2017)46(4) Industrial Law Journal 444

External links

• Full text UK Corporate Governance Code 2018
• Earlier revisions and consultation papers
• The Financial Services AuthorityListing Rulesonlineand inpdf format,under which there is an obligation to comply with the Combined Code, or explain why it is not complied with, under LR 9.8.6(6).
• TheFinancial Reporting Council'swebsite