In its response to its Green Paper on Corporate Governance (see this blog post for more), the government invited the FRC and several other bodies to create a group that would work on a set of corporate governance principles for private companies. On the 30th January 2018, the FRC announced that this group, known as the Coalition Group would be chaired by James Wates CBE, Chairman of the Wates Group. On the 13th June 2018, the Coalition Group published a consultation document on the Wates Corporate Governance Principles for Large Private Companies. The final Principles were published on the 10th December 2018.
Reporting requirements and scope of the Principles
In its response to the Green Paper, the government stated that it would pass subordinate legislation requiring all companies of a significant size that do not currently provide a corporate governance statement to disclose their corporate governance arrangements. A few days before the Coalition Group published its consultation paper, the Companies (Miscellaneous Reporting) Regulations 2018 were laid before Parliament. These regulations which, if approved, will apply to financial years starting on of after the 1 January 2019, insert new provisions into the Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008 that will apply to any company that:
- has more than 2,000 employees, and/or;
- has a turnover of more than £200 million and a balance sheet total of more than £2 billion.
Such companies must include in their directors’ report a ‘statement of corporate governance arrangements’ that states:
- which corporate governance code, if any, the company applied in that financial year;
- how the company applied this code, and
- if the company departed from that code, its reasons for doing so.
Companies will be able to adopt the Wates Principles and report on them as required under these new provisions.
The core of the Wates Principles consists of six Principles, which appear to be split into three hierarchical categories (see image at the end of the post). The six Principles are:
- Purpose and Leadership: An effective board develops and promotes the purpose of a company, and ensures that its values, strategy and culture align with that purpose.
- Board Composition: Effective board composition requires an effective chair and a balance of skills, backgrounds, experience and knowledge, with individual directors having sufficient capacity to make a valuable contribution. The size of a board should be guided by the scale and complexity of the company.
- Director Responsibilities: The board and individual directors should have a clear understanding of their accountability and responsibilities. The board’s policies and procedures should support effective decision-making and independent challenge.
- Opportunity and risk: A board should promote the long-term sustainable success of the company by identifying opportunities to create and preserve value, and establishing oversight for the identification and mitigation of risks.
- Remuneration: A board should promote executive remuneration structures aligned to the sustainable long-term success of a company, taking into account pay and conditions elsewhere in the company.
- Stakeholder Relationships and Engagement: Directors should foster effective stakeholder relationships aligned to the company’s purpose. The board is responsible for overseeing meaningful engagement with stakeholders, including the workforce, and having regard to their views when taking decisions.
Each Principle is accompanied by brief guidance on how the Principle should be applied. It is clear to see that the Principles are written in a ‘high-level’ manner and provide companies with considerable flexibility in terms of their application. The consultation document itself provides an example of this, noting that Principle 3 could be applied in several different ways including:
- A large family owned company might seek to appoint an independent director to its board to introduce independent challenge. It could explain how the appointment of this director has delivered improved outcomes to its board’s decision-making processes by identifying an example where the provision of independent challenge from the independent director has improved board decision-making.
- A private equity-owned company with a small shareholder board might appoint an external consultant to provide independent advice on its corporate strategy. It could describe the value that independent insight has had on refining the company’s purpose.
A large subsidiary of a UK-listed company may establish an advisory committee to seek independent, objective advice as to the effectiveness of the board’s decision- making. It could explain how this appointment demonstrates the directors’ commitment to accountability and acknowledgement of their duties under the Companies Act 2006.
Apply and explain
The UK Corporate Governance Code operates on a ‘comply or explain’ basis, meaning that companies to whom the Code applies can either comply with the Code’s recommendations or explain their reasons for any non-compliance. The Wates Principles operate on an ‘apply and explain basis,’ as follows:
- Any company that adopts the Wates Principles should apply each Principle by considering them individually within the context of the company’s specific circumstances. They should then be able to explain in their own words how they have addressed them in their governance practices. Companies should provide a supporting statement that gives an understanding of how their corporate governance policies and processes operate to achieve the desired outcome for each Principle.
- The guidance that accompanies each Principle is provided to assist companies in explaining their approach to applying each Principle appropriate to their circumstances. As a result, the company does not need to report on whether it has applied the guidance.
The UK Corporate Governance Code operates on a comply or explain basis because a one-size-fits-all approach would not work, and so companies are allowed to depart from the Code’s recommendations. The Wates Principles also recognise that, in large private companies, ‘[d]iffering management and ownership structures means that a one-size-fits-all approach to corporate governance in large private companies is not appropriate.’ However, the Wates Principles provide companies with the requisite flexibility through the Principles themselves, which are very broad and provide companies with significant flexibility in terms of their application.
Companies that adopt the Wates Principles can start reporting on them from the 1 January 2019. We will then be in a position to see whether the Wates Principles have had any effect on the governance of large private companies. Stephen Martin, the Director General of the Institute of Directors, has described the Wates Principles as representing ‘the start of a new chapter for UK corporate governance.’ Time will tell whether the chapter improves on those that came before it.