Why every UK premium listed board member must know the UK Corporate Governance Code

The history of the UK Corporate Governance Code

The first version of the UK Corporate Governance Code was published in 1992 by the Cadbury Committee, which was set up a year earlier with the backing of the London Stock Exchange, the Financial Reporting Council and the accountancy profession to assess how UK companies dealt with financial reporting and accountability.

Back in 1992, the Corporate Governance Code defined corporate governance as the way in which companies are directed and controlled. It made clear that boards of directors are responsible for the governance of their companies. And, it emphasised that by appointing the directors and the auditors, shareholders also have a role to play in corporate governance and have a duty to satisfy themselves that an appropriate governance structure has been created.

This still remains the central pillar of the UK Corporate Governance Code, but the latest version of the Code, last updated in July 2018, also takes into account that companies do not exist in isolation and that they must now not only answer to their shareholders, but also develop enduring relationships built on trust and mutual benefit with a variety of stakeholders.

The UK Corporate Governance Code must be adhered to by all companies with a premium listing, whether incorporated in the UK or elsewhere.

The current UK Corporate Governance Code

Board leadership and company purpose

The UK Corporate Governance Code outlines five key principles that boards should use to ensure a company meets its goals:

1. A company with a long-term sustainable future should be led by an effective and entrepreneurial board to generate shareholder value and make a positive contribution to the wider society.
2. The board should establish the company’s purpose, values and strategy, and ensure that company culture aligns with this. The directors should act with integrity, lead by example and promote the company culture.
3. The board should allocate the necessary resources required for the company to meet its objectives and measure performance against them. The board should create a framework of prudent and effective controls to assess and manage risk.
4. The board should engage with, and encourage participation from, its shareholders and stakeholders.
5. The board should ensure that workforce policies and practices are consistent with the company values and support long-term sustainable success and that the workforce can raise concerns when required.

The Annual Report

To demonstrate its commitment to these principles, in the annual report the board should describe how opportunities and risks to the business’s future success have been considered and addressed. It should also discuss the sustainability of its business model and how its governance contributes to the delivery of its strategy. It should detail how it is investing and rewarding its workforce and how the views and interests of the company’s key stakeholders have been considered in board discussions and decisions. If the board finds that policy, practices or business behaviour is not aligned with the company’s ideals, it should seek assurance that management has taken corrective action and detail this in the annual report.

Shareholder communication

The chair must ensure that the board understands the views of shareholders and should seek regular engagement with major shareholders, alongside formal meetings, to understand their views on governance and performance against company strategy. While committee chairs should engage with shareholders on matters related to their areas of responsibility.

The board must quickly identify and manage conflicts of interest, including those resulting from significant shareholdings, and it must take steps to ensure that third parties do not influence judgements.

If directors have concerns about the workings of the board or company management that cannot be resolved, their concerns should be recorded in the board minutes.

Voting

If 20% or more votes are cast against a board recommendation for a resolution, the company should explain, when announcing vote results, how it intends to consult with shareholders to understand the reasons behind the result. An update on shareholders’ views and actions taken should be published no later than six months after the shareholder meeting. The board should then provide a final summary on how this feedback has impacted board decisions, actions or proposed resolutions in the annual report and, if applicable, in explanatory notes to resolutions at the next shareholder meeting.

Workforce engagement

To foster workforce engagement, the board should do one or more of the following: appoint a director from the workforce, create a workforce advisory panel, or designate a non-executive director to work with the workforce. If none of these options are on offer, the board should explain what alternatives are in place and how they are effective.

There should also be a mechanism for workers to raise concerns in confidence and with the option of anonymity and there should be the facility for an independent investigation of these concerns and follow-up action.

Board responsibilities

The UK Corporate Governance Code outlines four key principles covering the duties of board members:

1. The chair should be independent and not hold the role of CEO, without consulting shareholders. The chair leads the board and has overall responsibility for its effectiveness in directing the company. The chair should maintain objective judgement and promote a culture open to debate, foster constructive relationships within the board, ensure that non-executive directors (NEDs) make an effective contribution and that all directors receive accurate, timely and clear information.
2. The board should include a fair mix of executive and NEDs and at least half the board should be NEDs. One of the independent NEDs should be appointed a senior independent director to provide a sounding board for the chair and serve as an intermediary for the other directors and shareholders. The responsibilities of each member of the board should be set out in writing, agreed by the board and made public. The annual report should detail the number of meetings convened by the board and its committees, and the individual attendance by directors.
3. There should be a clear division of responsibilities between the leadership of the board and the executive leadership of the company’s business.
4. NEDs should have time to meet their board responsibilities and meet without the chair at least once a year to assess the chair’s performance and the chair should also hold meetings with the NEDs without the executive directors. NEDs should provide constructive challenges, strategic guidance, offer specialist advice and hold management to account. NEDs should scrutinise and hold to account the management and individual executive directors against agreed performance objectives. All NEDs that the board considers to be independent should be identified in the annual report.
5. The board must have the policies, processes, information, time and resources it needs to function effectively and efficiently.

Composition, succession and evaluation

The UK Corporate Governance Code outlines three key principles covering the performance, make-up and development of the board.

1. Board appointments should be subject to a formal, rigorous and transparent procedure, and an effective succession plan should be maintained for board and senior management. Appointments should be awarded on merit and objective criteria and should promote diversity of gender, social and ethnic backgrounds, cognitive and personal strengths. A nomination committee, made up of a majority of independent NEDs, should oversee appointments and develop succession plans for board and senior management positions, which should be extracted from a diverse pipeline. The chair should stay no longer than nine years and should not chair a committee dealing with the appointment of their successor. Successors should be sought through open advertising or an external search consultancy. All of these appointing procedures should be detailed in the annual report.
2. The board and its committees should have a combination of skills, experience and knowledge.
3. All directors should be subject to annual re-election and annual evaluation of the board should consider its composition, diversity and effectiveness at achieving objectives. Individual evaluation should be used to show whether directors are contributing effectively. In FTSE 350 companies, the chair should have an external board evaluation carried out at least every three years and this should be reported in the annual report. Appropriate action then must be taken when development needs are identified by the external evaluation.

Audit, risk and internal control

The UK Corporate Governance Code outlines three key principles covering these areas:

1. The board should have formal and transparent policies and procedures to ensure the independence and effectiveness of internal and external audit functions and satisfy itself on the integrity of financial and narrative statements. To this end, the board should establish an audit committee of independent NEDs, that doesn’t include the chair. At least one member of this group should have relevant financial experience. The audit committee should monitor the integrity of company financial statements and formal announcements; providing advice on whether the annual report and accounts are fair, balanced and understandable, and provides shareholders with the information required to assess the company’s position and performance, business model and strategy. It should review the company’s internal financial controls and internal control and risk management systems and monitor and review the effectiveness of the company’s internal audit function. The audit committee should also conduct the tender process and make recommendations to the board, about the appointment, reappointment and removal of the external auditor, and approve the remuneration and terms of engagement of the external auditor. It should review and monitor the external auditor’s independence and objectivity; review the effectiveness of the external audit process, taking into consideration relevant UK professional and regulatory requirements; develop and implement policy on the engagement of the external auditor to supply non-audit services, ensuring there is prior approval of non-audit services; and report to the board on any improvement or action required. The work of the Audit Committee should be detailed in the annual report.
2. The board should present a fair, balanced and understandable assessment of the company’s position and prospects. The directors should explain in the annual report their responsibility for preparing the annual report and accounts, and state that they consider these to be fair, balanced and understandable, and to provide the information shareholders need to assess the company’s position, performance, business model and strategy.
3. The board should have procedures to manage risk, oversee the internal control framework, and determine the nature and extent of the main risks the company is willing to take to achieve its long-term strategic objectives. The board should carry out a robust assessment of the company’s emerging and principal risks and confirm in the annual report that it has completed this assessment. Taking account of the company’s position and principal risks, the board should explain in the Annual Report how it has assessed the prospects of the company, over what period it has done so and why it considers that period to be appropriate. The board should also state whether it expects the company to be able to continue in operation and meet its liabilities.

Remuneration

The UK Corporate Governance Code outlines three key principles covering remuneration.

1. Remuneration policies and practices should be designed to support strategy and promote long-term sustainable success. Executive remuneration should be aligned to company purpose and values, and be linked to the successful delivery of the company’s long-term strategy. The board should establish a remuneration committee of independent NEDs. The remuneration committee should be responsible for determining the policy for executive director remuneration and setting remuneration for the chair, executive directors and senior management. It should also review workforce remuneration and related policies and the alignment of incentives and rewards with culture. The remuneration committee should ensure compensation commitments in directors’ terms of appointment do not reward poor performance. There should be a formal and transparent procedure for developing policy on executive remuneration and determining director and senior management remuneration. No director should decide their own remuneration. The remuneration of NEDs should be determined in accordance with the Articles of Association or by the board. Levels of remuneration for the chair and NEDs should reflect the time commitment and responsibilities of the role. Remuneration for NEDs should not include share options or performance-related elements.
2. Directors should exercise independent judgement and discretion when authorising remuneration, taking account of company and individual performance, and wider circumstances. If the remuneration committee appoints a remuneration consultant, the consultant should be identified in the annual report. Remuneration schemes should be designed to promote long-term shareholdings by executive directors that support alignment with long-term shareholder interests and the pension contribution rates for executive directors, or payments in lieu should be aligned with those available to the workforce.

The latest UK Corporate Governance Code can be read in full here.

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