Comment | Autumn 2016
Stefan Stern forecasts that GCs will be forced to address a renewed
attempt to fix what ails governance in UK plc
Who knew that the staid term ‘corporate governance’ could create so much excitement? That Latinate phrase seems designed to reassure: ‘governance’ suggests order, calm, and mastery. But the chaps in the boardroom – and they still are mostly chaps for all the progress on appointing women directors – had better brace themselves for an interesting few months.
Politics has intervened. On 11 July this year, the then Conservative Party leadership candidate Theresa May said this: ‘The people who run big businesses are supposed to be accountable to outsiders, to non-executive directors, who are supposed to ask the difficult questions, think about the long term and defend the interests of shareholders. In practice, they are drawn from the same narrow social and professional circles as the executive team and the scrutiny they provide is just not good enough. So if I’m prime minister, we’re going to change that system – and we’re going to have not just consumers represented on company boards, but employees as well.’
That was not all. ‘There is an irrational, unhealthy and growing gap between what these companies pay their workers and what they pay their bosses,’ she went on. ‘I want to make shareholder votes on corporate pay not just advisory but binding. I want to see more transparency, including the full disclosure of bonus targets and the publication of “pay multiple” data: that is, the ratio between the CEO’s pay and the average company worker’s pay. And I want to simplify the way bonuses are paid so that the bosses’ incentives are better aligned with the long-term interests of the company and its shareholders.’
Just hours after these words were spoken Mrs May’s only remaining challenger (her name was Andrea Leadsom, in case you have forgotten) withdrew, and we had our new prime minister. So a speech that perhaps had been intended primarily to mark out new territory and differentiate herself as a candidate became a serious statement of intent from a new prime minister. This is how unexpected change can happen – almost by accident. In a tweet, one City journalist mused that if only Mrs Leadsom had pulled out a few hours earlier Mrs May wouldn’t have had to make ‘Ed Miliband-style pledges’.
But make them she did, and boards will have to get ready to engage with whatever is coming next. Exactly what that will be is unclear. The House of Commons Business, Innovation and Skills select committee has launched an inquiry into corporate governance (closing date for submissions is 26 October). The government also seems likely to launch its own consultation. And, slowly but surely, and quietly, a push-back from vested interests in business and finance will emerge.
Traditional British methods of denial, bluff and inertia will be deployed to block change. ‘This sort of worker representation stuff has never happened here,’ people will say. ‘Binding votes won’t change anything. And if the regulatory regime becomes too severe we will scare off businesses and foreign investors.’ It will be pointed out that since the late Sir Adrian Cadbury published his report on corporate governance in 1992 we have been through a quarter of a century of consultation and reform, ending up with the ‘combined code’ and the familiar ‘comply or explain’ mechanism. Why upset the governance apple cart after all that?
And yet Mrs May’s challenge from July was largely correct. Corporate governance too often is, as she put it, ‘just not good enough’. Executive pay has been out of control for years. The current system is not working well and something has to change.
The wise board will move first and not wait for change to be imposed. They will choose to publish the pay ratio between the top and the middle before it becomes compulsory to do so. They will investigate sensible and effective worker representation at the highest level – if not a seat on the full board, then at least participation in relevant committees, including the remuneration committee.
The growing focus on corporate governance looks set to combine with broader types of reputational risk and expanding liabilities facing companies – risks that boards will increasingly expect general counsel to learn to handle. That will be a new skill for legal heads more focused on traditional legal risks.
The new prime minister may not get everything she wants. Indeed, it seems possible that even her chancellor is unconvinced by the need for radical reform and may be the unofficial leader of business opposition. But Mrs May cannot afford to suffer an embarrassing reverse so early in her premiership, especially while speculation over Brexit remains intense. At this moment of uncertainty, boards should take the initiative and push through their own changes now.