As UK companies prepare to resubmit 
their pay policies to binding shareholder votes in 2017, updated reporting guidance provides insight into the issues that are driving investor voting.
The GC100, the voice of general counsel and company secretaries in the FTSE 100, and the Investor Group (together “the Group”) has published an updated version of its Directors’ Remuneration Reporting Guidance, which will replace the guidance published in 2013. The original publication was designed to assist companies and their investors in the interpretation of UK reporting regulations that came into force in 2013, and which prescribed certain elements of disclosure in conjunction with the introduction of binding vote on pay policies at all UK-incorporated companies.
In producing the update, the Group recognised that those disclosures and the binding vote have been somewhat successful in driving engagement between issuers and their shareholders; however, the Group has sought to provide updated guidance to reflect evolving best practice and focus on areas that may need further clarification and direction. As such, it is hardly surprising that the focus of the revisions revolves largely around some of the more contentious topics of the past two years. The guidance reflects widespread investor demands for greater transparency surrounding bonus targets, stating that in the event that companies do not include those targets due to commercial sensitivity (as permitted by the regulations on pay), “particulars of, and reasons for, the omission must be given in the remuneration report and an indication given of when (if at all) the information is to be reported”; many issuers have seen investor backlash over a perceived lack of transparency surrounding bonus hurdles, and it will be interesting to see if they respond to the revised guidance and placate investor concerns.
Similarly, the exercise of discretion has caused regular headaches for issuers and investors alike, and the latest guidance attempts to bridge the gap on this topic. Upon seeking approval of their initial policies, many companies provided the remuneration committee with broad powers to adjust performance targets and vesting outcomes, and even to exceed stated ‘maximum’ limits in relation to recruitment. In some cases, investor concerns over the scope of potential discretion prompted supplementary assurances regarding the committee’s intentions to appear on company websites or the stock exchange shortly in advance of AGMs. The latest guidance accepts that “arithmetic performance targets may lead to anomalies” and that “flexibility, discretion and judgement are crucial for the successful design and implementation of a remuneration policy”; however, in order to provide clarity to investors, the Group recommends that policies should include well thought out and detailed explanations of the possible circumstances under which discretion may be used.
While the topics of bonus targets and discretion have been analysed at length over the past two years, two other areas of focus for the Group are perhaps not as well documented. While the inclusion of a maximum for each element of pay has been almost unanimously complied with in terms of short-and long-term incentives, the revised guidance has brought maximum salary levels into the spotlight, advocating that policies should “also specify the maximum that may be paid in respect of each component, including salary”.
In addition, the Group has identified the linking of pay and strategy as a key area for investors; given that the revised regulations on pay came into force at the same time that UK issuers were required to produce “Strategic Reports”, there may be disappointment in some circles that in many annual reports, these two sections remain largely independent of one another. The guidance certainly alludes to such concerns, and advocates for cross-referencing and alignment between the two reports, in an effort to encourage companies to improve reporting on how remuneration is designed to drive the Company’s strategy.
Despite these changes, the guidance has not been significantly overhauled from its original iteration in 2013, reflecting the stability of pay structures over the period. While some companies have attached increased performance or holding periods to long-term awards, and certain safeguards have become more widespread, most companies feature the same general mix of fixed pay, short-term bonus delivered in a mix of cash and deferred equity, and a larger long-term equity incentive. However the standard model is increasingly under attack; a recent report by the Investment Association appeared to aim some blame at long-term incentives and other best practice features such as clawback and bonus deferral for the state of UK remuneration, reflecting a growing trend of stakeholders questioning whether the current approach remains fit for purpose.
While we expect some companies to veer off-piste as they revise their policies, those looking for sweeping changes across the market probably shouldn’t hold their breath. In the meantime, it will be interesting to see if the number of companies employing the commercial sensitivity exception dwindle, while capping salaries—something we have seen extremely rarely in the UK—may become more common. Moreover, it may be reasonable to expect a more useful discussion of both the use of discretion and the linking of incentive pay and Company strategy. Indeed, with investors, politicians and the general public increasingly sceptical of pay outcomes despite ever-more extensive safeguards intended to mitigate risk and ensure alignment with returns, doing a better job of “telling the story” may be the only card that remuneration committees have left to play.