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C O R P O R AT E G O V E R N A N C E R E V I E W 2 0 1 2The chemistry of governanceA catalyst for change
2012 highlights    Full compliance plateau with 51%                          New UK Corporate Governance                 A...
ContentsThe regulator’s perspective	2Foreword 	3The Cadbury legacy	6Compliance with the Code 	                            ...
The regulator’s perspectiveThe task of embedding high standards ofgovernance is never completePeter Montagnon, Senior Inve...
Foreword                                          2012 marks the 20th anniversary of the advent of modern                 ...
Foreword                          Seventy five per cent of chairmen now provide     Raising the game                      ...
ForewordInstitutions must foster better practice                The enduring glass ceilingThe ‘shareholder spring’ saw ins...
The Cadbury legacyThe 1992 Cadbury Report               The Cadbury Report – or ‘The Report                               ...
1992                                                        1995                                            1998          ...
Compliance with the CodeAs half of the FTSE 350 comply entirely with the Code and, overall, companies embrace 97%of its pr...
FTSE 100 and Mid 250 companies choosing          While an encouraging trend, of theto ‘comply or explain’                 ...
Compliance with the CodeChallenges to full complianceThe most common non-compliance relates to board balance and committee...
Compliance with the CodeEmerging trends                                 Moving beyond compliance                          ...
LeadershipRecent corporate scandals have heightened the need fora strong and principled tone from the top. Chairmen, along...
The chairman                                                        As we argue in ‘The tone of                           ...
Leadership                                       Independence of chairmen                        Drilling down into detail...
EffectivenessAs companies face pressure to            Board effectivenessachieve a diverse boardroom              Populati...
EffectivenessA question of independence                                           The most frequently given reason for non...
EffectivenessGender diversity (% director positions held by women)                                Female representation in...
EffectivenessDo companies discuss gender diversity?                   This year has seen a significant increase in the num...
EffectivenessA broader definition                                                    Experience of the chairman           ...
EffectivenessEvaluation                                Is information given about                                         ...
EffectivenessWas the board evaluation externally facilitated?              Re-election FTSE 350	     FTSE 100	    Mid 250 ...
AccountabilityCompanies need to give genuine insight into their risk management and control operations,rather than just ti...
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
Grant Thornton - Corporate Governance Review 2012
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Grant Thornton - Corporate Governance Review 2012

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Two decades have passed since the publication of the Cadbury Report which outlined a system for good corporate governance that still endures today. While business practice has evolved considerably over the last twenty years, with more than half of the FTSE 350 now complying with the UK Corporate Governance Code, challenges remain and practices continue to evolve.

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Grant Thornton - Corporate Governance Review 2012

  1. 1. C O R P O R AT E G O V E R N A N C E R E V I E W 2 0 1 2The chemistry of governanceA catalyst for change
  2. 2. 2012 highlights Full compliance plateau with 51% New UK Corporate Governance Average tenure of auditor is choosing to fully comply and Code provisions on annual re- 33 years with three out of four 44% of the 144 companies who election and triennial external companies giving little or no did not comply planning to do so board evaluations had immediate information about past or next year. effect, with 96% and 98%, future intentions. respectively, complying in the 73% (2011: 69%) of companies first year. 25% of chairmen give no insight gave detailed reasons to support into board governance practices. non-compliance but two thirds Increasing numbers of non- of those who did not comply in financial companies, 40% (2011: Emerging practice shows 5% of consecutive years made no change 33%), have a risk committee. chairmen now emphasising the to their explanations. importance of culture as integral 85% (2011: 74%) of companies to effective governance. Almost one in five FTSE 350 gave detailed disclosures to companies had insufficient support their principal risks and Annual reports continue to numbers of non-executive uncertainties, but 21% hardly expand – 16.5% over three years. directors throughout year to changed year on year. 73% (2011: 62%) of companies comply with the UK Corporate now actively seek governance Governance Code. Business model expositions are improving 39% (2011: 27%) but dialogue with investors. for three out of four companies, linking strategy to risk and KPIs is proving more challenging.MethodologyThis review covers the annual reports of 296 of the UK’s FTSE 350 companies with years endingbetween June 2011 and April 2012. Investment trusts are excluded as they are permitted to followthe AIC Code of Corporate Governance.The review assesses compliance with:• the disclosure requirements of the UK Corporate Governance Code Simon Lowe would like to thank Collette Brady,• the requirements for a business review as set out in s417 of the Companies Act 2006. Sajeel Joshi, Ben Langford, Ololade Oyatoye, Sajni Radia, Rebecca Williams and Alex WortersKey findings are discussed in the body of this report with full details in the appendix. for their help in preparing this report.
  3. 3. ContentsThe regulator’s perspective 2Foreword 3The Cadbury legacy 6Compliance with the Code 8Leadership 12– The role of the board– The chairmanEffectiveness 15– Board composition– Board appointments– Evaluation– Re-electionAccountability 22– Risk management and internal control– Audit committeesAssurance 25– External audit– Internal auditRemuneration 28Shareholder relations 31Narrative reporting 32– Financial and business reporting– Principal risks– Key performance indicatorsRecent developments 36Appendix 40 CORPORATE GOVERNANCE REVIEW 2012 2011 1
  4. 4. The regulator’s perspectiveThe task of embedding high standards ofgovernance is never completePeter Montagnon, Senior Investment Adviser, Financial Reporting CouncilThe European Commission’s decision to This year’s successes include progress It seems like a long list, but the startingaffirm the role of comply or explain is on boardroom diversification, achieved point is positive. The UK still has highboth a relief and a challenge. It is a relief without formal quotas, and the widespread rates of compliance and few explanations.because the UK Corporate Governance take-up of annual re-election of directors, It is right that the option to explain shouldCode can still play an important role in which has improved accountability. always be open, but those that chooseraising standards of governance. It is a Looking forward, we have to work on this route must be aware that self-servingchallenge because the Commission has accounting and audit, risk and reporting and weak explanations from a very smallmade clear that the concept could be of business models, not to mention the minority let the whole side down.made to work better. perennial problem of remuneration. On the stewardship front, the quality of dialogueNo doubt its remarks are aimed mostly is improving but we still need to do moreat member states where codes are less to engage asset owners and persuadeeffective because of weak explanations investment decision-makers and corporateand monitoring. Yet the task of embedding governance specialists to be morehigh standards of governance is joined up.never complete, even in the UK. Thecompendium of essays published by theFRC to mark the 20th anniversary of theCadbury Report shows it is a work inprogress, even here.2 CORPORATE GOVERNANCE REVIEW 2011
  5. 5. Foreword 2012 marks the 20th anniversary of the advent of modern corporate governance – the publication of the Cadbury Report. While business practice has evolved significantly since 1992, much of Sir Adrian Cadbury’s landmark analysis still rings true today – not least his definition of effective governance: “Companies … must be free to drive their companies forward, but exercise that freedom within a framework of effective accountability. This is the essence of any system of good corporate governance.”Welcome to Grant Thornton’s Building on Cadbury’s foundations next year. However, it is concerning thatannual analysis of the The Cadbury committee laid the two thirds of those who have explainedgovernance practices of the foundations for today’s largely effective in consecutive years have not changed system of UK governance and provided their explanations.UK’s FTSE 350 companies. the guiding principles for many other 2012 marked the introduction of national codes. Two decades after additional Code requirements. TheSimon Lowe, Chairman, Cadbury, this year’s review of current review shows businesses moved swiftlyThe Grant Thornton Governance Institute corporate governance practice shows in response: provisions on annual how far we have come – and how far director re-election and triennial we still need to go. external board evaluations saw 96% This year, just over half (51%) of and 98%, respectively, complying in all FTSE 350 companies complied the first year. with the UK Corporate Governance Code (the Code) – the latest distillation Chairmen espouse ethical leadership of Cadbury’s voluntary code of best We have identified an emerging practice practice. A further 10% of companies among chairmen: one in 20 now complied for part of the year. emphasise the importance of company The level of full compliance appears culture to effective governance. to have plateaued at around the halfway Although too early to call this a trend, mark: this year’s 51% ratio is 1% up on the role of culture and ethical principles 2011 and the same as 2010. There are in cementing effective governance mixed messages around those companies is gaining credence. This is seen, for who opt to explain. Encouragingly, they example, in statements by Sir David tend to comply in all but one or two Walker, Barclays’ new chairman, as provisions, with an increasing number, he endeavours to effect fundamental 73% (2011: 63%), giving more than a changes in the bank’s culture and basic explanation for non-compliance, thereby governance practice. and 44% saying they plan to comply CORPORATE GOVERNANCE REVIEW 2012 3
  6. 6. Foreword Seventy five per cent of chairmen now provide Raising the game some insights into the governance practices of The governance excellence of the best companies their boards and a growing number, 23% (2011: encourages others to raise their game. It also 10%), use their principal statements to emphasise highlights the poor performance of the few the importance of good governance. This suggests – companies that want the rights of access to chairmen are heeding the Code Preface guidance public capital and market liquidity but shirk to “report personally in their annual statements the responsibilities that come with it. That how the principles relating to the role and said, compliance in itself is no proof of strong effectiveness of the board have been applied”. governance. As Cadbury acknowledged: Many companies still give no clear pointers “The Code is only a framework: compliance alone to their strategic vision: just one in five linked does not constitute good governance or effective strategy to risks and key performance indicators board behaviour. The spirit… is as significant as (KPIs). While the disclosure of risks again the letter”. increased, many companies repeated previous years’ almost verbatim rather than reflecting the Values integral to governance dynamic discussions at boardroom tables. To deliver effective governance, compliance must be underscored by an ethical tone from the top Reports grow ever longer – manifested in strong board leadership and the“To deliver effective governance, The seemingly inexorable establishment – and embedding – of clear values.compliance must be underscored by trend of providing more, This was recognised by Cadbury 20 years agoan ethical tone from the top.” but not necessarily better, and it remains the case today. As the US separates information continued. chairmen and chief executive roles and UK boards While a handful of companies slimmed down their acknowledge the importance of ethical leadership, reports, for the third consecutive year the average the chairman’s part in achieving an effective length grew by almost 4%, to 141 pages. This is governance culture has never been so important. an increase of a mind-numbing 16.5% since 2009. This year, externally-facilitated board The Department for Business, Innovation and effectiveness reviews were embraced by around Skills (BIS) may be asking companies for greater 30% of companies, with 102 board assessments. transparency but, in providing it, the wood may Yet companies remain shy about sharing the be getting lost amongst the trees. output, focus or even the name of the facilitators Two decades after Cadbury called for the of their reviews: just 35% gave a good account separation of the roles of chairmen and chief of review outcomes, up from 24%. The Financial executive, 10 FTSE 350 companies still have Reporting Council (FRC), intent on improving combined posts and a further 21 have executive board effectiveness, clearly believes these reviews chairmen. This pales in comparison with the US, can get better. From next year, all companies will where more than 57% of S&P 500 companies have have to identify their facilitators. combined roles. Yet, the US too is now showing disquiet over joint roles, with recent high profile separations at JC Penney, Avon and Citigroup.4 CORPORATE GOVERNANCE REVIEW 2012
  7. 7. ForewordInstitutions must foster better practice The enduring glass ceilingThe ‘shareholder spring’ saw institutional Finally, although somewhat overshadowed by “It is nowshareholders finding their voice, most notably the gender issue, our review charts the continuing time forabout executive pay and board elections. Once diversity challenge. With little measureable shareholders toagain, Cadbury had articulated this need: “It is for information about diversity on boards, gender act to encouragethe shareholders to call the directors to book if and age provide useful yardsticks. After recent best practicethey appear to be failing in their stewardship and high profile resignations, the gender debate is now across UK plc.”while they cannot be involved in the direction and turning to the heart of the board: the executivemanagement of their company, they can insist on a role. Here we find only one female chairman inhigh standard of corporate governance”. the FTSE 100 and two in the Mid 250. Twenty The number of companies actively seeking one women are in executive positions but onlyengagement with investors increased to 73% (2011: two female chief executives remain. The average62%). However, anecdotal information suggests age of a company chairman, at 63, is 11 yearsthe institutions are more reticent to engage, more experienced than a chief executive. With thecertainly on matters of governance, claiming lack effectiveness of the board being very much theof resource and/or sufficient existing engagement responsibility of the chairman and using age aswith the executive team. If strong governance is a a proxy for experience and gender as part of theproxy for long-term success, this balance needs to answer to diversity, can we afford to wait for overbe addressed urgently. 10 years before we start to see women set the tone from the top?A focus on qualityIt is now time for shareholders to act to‘encourage’ best practice across UK plc. If theydo not ‘call the directors to book’ the regulatorsmay do it for them and, in so doing, threatenthe ‘comply or explain’ cornerstone of UKcorporate governance. While deliberations at theEuropean Commission seem to have backed offfrom wholesale abandonment of the principles-based approach, greater emphasis is being placedon the quality of explanations and shareholderengagement. The FRC’s strengthening of theStewardship Code and the Kay Review on ‘UKequity markets and long-term decision making’,suggest that neither regulators nor the public willwait another 20 years for best practice to take hold. CORPORATE GOVERNANCE REVIEW 2012 5
  8. 8. The Cadbury legacyThe 1992 Cadbury Report The Cadbury Report – or ‘The Report of the Committee on the Financial “It has not stopped companiescontinues to shape corporate Aspects of Corporate Governance’ failing, but nor has it been sogovernance frameworks prescriptive it has prevented – fits firmly into the Anglo-Saxonaround the world, with its core them succeeding.” corporate tradition of favouring checks‘comply or explain’ principle and balances to regulation. Althoughstill exciting debate. The UK Government’s 2010 its interim report was condemned by response, the Stewardship Code, some as divisive, the final toned- brought the role of shareholders into down recommendations, including the spotlight, while being tentative the voluntary code of best practice, in some areas. In its December 2012 were widely welcomed. Action Plan, the EC seemed to accept From the first, however, there was ‘comply or explain’ but turned up some scepticism about the effectiveness the heat on the need for informative of a purely voluntary code. Sir Adrian explanations. The Stewardship Cadbury argued that it was up to Code’s 2012 revisions picked up on shareholders, as company owners, to this and the FRC, while cautious exert the necessary pressure toward about getting sucked into a policing compliance. And, if companies did not role, is considering how further comply “it is probable that legislation oversight could encourage continued and external regulation will be sought”. improvement. In its on-going review of corporate While debate around oversight governance practices, the European continues, Cadbury’s legacy is in Commission focused on the very no doubt. As Sir Adrian explained two areas that Cadbury flagged up: 20 years ago, it has not stopped shareholder engagement in pressuring companies failing, but nor has it been companies to be accountable and the so prescriptive it has prevented them effectiveness of the ‘comply or explain’ succeeding. In this vein, since 1992 it principle in achieving transparency has helped restore battered reputations and accountability. and investor confidence in company management, following notorious corporate scandals in the 80s and 90s, “The report helped restore battered from BCCI to Maxwell. But most reputations and investor confidence notably, the report has effected a quiet in company management, revolution in global governance, with following notorious scandals more than 80 countries now having in the 80s and 90s.” introduced corporate governance codes.6 CORPORATE GOVERNANCE REVIEW 2012
  9. 9. 1992 1995 1998 1999 2003 Cadbury GREENBURY HAMPEL TURNBULL Higgs Report Report Report Report reportIn response to UK In response to public Reviewed To clarify reporting on In response to USgovernance failures anger over executive implementation of internal control corporate failures suchsuch as Polly Peck, pay such as the British Cadbury and Greenbury • Requirement for the as Enron, WorldcomBCCI and Maxwell Gas ‘fat cats’ • Combined Code on board to review the and Tyco• Separation of chairman • Requirement for corporate governance system of internal • Last major Code and chief executive roles remuneration committee issued control and risk revisions• Requirement for two of NEDs • A focus on principles management • Backed the ‘comply or independent NEDs • Long-term performance as opposed to detailed explain’ principle (as• Requirement for audit related pay introduced guidelines opposed to US approach committee of NEDs of regulation through the Sarbanes-Oxley Act) • Requirement for at least half of board to be independent NEDs • Introduced annual board and director evaluation 2005 & 2008 – Code revisions 2010 – Code revision 2012 – Code revision 2003 2009 2010 2011 2012 Smith Walker Stewardship FRC’s Guidance FRC’s report review Code on Board guidance on Effectiveness explanationsIn response to Reviewed governance of Intended to enhance the Replacement for 2003 Report of discussionsconcerns over auditor the UK banking industry quality of engagement Higgs guidance between companiesindependence in response to the global between institutional • Provides guidance on and investors• Provides guidance on financial crisis investors and companies sections A and B of the • Provides guidance on role and responsibilities • Number of Code around leadership quality of explanations of audit committees recommendations and board effectiveness• Focus on independence incorporated into of external auditors the renamed 2010 and level of non-audit UK Corporate services provided Governance Code CORPORATE GOVERNANCE REVIEW 2012 7
  10. 10. Compliance with the CodeAs half of the FTSE 350 comply entirely with the Code and, overall, companies embrace 97%of its provisions, UK plc is increasingly embracing good corporate governance.FTSE 350 companies choosing to ‘comply or explain’100% 7% 16% 12% 16% 14% 16% 16% 20% 26%80% 34% 25% 24% 36% 35% 36% 34%60% 37% 37% 18% 37% 40%40% 58% 47% 51% 50% 51%20% 46% 44% 41% 34% 28%0% 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 Does not discuss compliance Does not comply, explains with ‘more’ detail Does not comply, explains with ‘some’ detail CompliesFor the third successive year, around Compliance with provisions Explanation qualityhalf (51%) of all FTSE 350 companies Although 49% of companies report The Code states that: “an alternativeclaimed full compliance with the non-compliance with the Code, this to following a provision may beUK Code. As this was the first year typically relates to just one or two justified… if good governance can becompanies were required to report provisions. Taking these together with achieved by other means. A conditionagainst the new provisions of the those who cite full compliance, the of doing so is that the reasons for2010 Code, the fact that levels stayed FTSE 350 complies with 97% of the it should be explained clearly andconsistent – whereas previously they Code’s provisions. carefully to shareholders”.have dropped initially – suggests The number of companies providingbusinesses are now more prepared to Number of Code Number of more informative explanations continuesembrace compliance. provisions stated companies to improve, with 72% of those that in non-compliance Compliance levels in the FTSE 100 chose not to comply providing detailed statementsremain around 10% higher than in the reasoning. Of these, 14 gave particularly 1 85Mid 250. While compliance appears to clear, informative explanations that 2 29have plateaued, encouragingly 44% of covered the background and reasons for 3 11the 144 companies that did not comply, their decisions. 4 7state they are planning to do so. It will 5 7be interesting to see if the 2013 resultsreflect this ambition. >5 5 TOTAL 1448 CORPORATE GOVERNANCE REVIEW 2012
  11. 11. FTSE 100 and Mid 250 companies choosing While an encouraging trend, of theto ‘comply or explain’ 73 companies that did not comply in100% consecutive years, two thirds made no changes to their explanations.90% There also remain a hard core of 40 companies that still give a bare minimum of explanation.80% on the FTSE 350: “[A good description] should set70% out the background, provide a The varied complexion clear rationale for the action it is of the FTSE reinforces how, when it comes to60% taking and describe any mitigating governance, ‘one size actions taken. The explanation cannot fit all’:50% should indicate whether the • The three largest deviation from the Code’s FTSE 100 companies40% provisions is limited in time and, have a higher market if so, when the company intends capitalisation than the to return to conformity with the whole Mid 25030% 2008 2009 2010 2011 2012 Code’s provisions.” • Market capitalisation (UK Corporate Governance Code) of FTSE 350 FTSE 100: Complies companies ranges Mid 250: Complies In February 2012, the FRC paper from £330 million FTSE 100: Explains in ‘more’ detail ‘What constitutes an explanation to £100 billion Mid 250: Explains in ‘more’ detail under “comply or explain”?’ identified • FTSE 350 features of a meaningful explanation, a membership is fluid: summary of which is included within only half of the current“Compliance levels in the list were members a the 2012 Code revision. The FRC saidFTSE 100 remain around 10% the most informative explanations decade agohigher than in the Mid 250.” include: areas of non-compliance; • The top 20 companies reasons for deviation from the Code; are larger than the planned actions to overcome non- rest of the FTSE 350 compliance, and whether the company combined intended to comply in future. • The largest FTSE 350 has more than 650,000 staff, the smallest just 14 CORPORATE GOVERNANCE REVIEW 2012 9
  12. 12. Compliance with the CodeChallenges to full complianceThe most common non-compliance relates to board balance and committee membership. Only 14 companies failed to comply with the new Code provision for annual directorre-election and, of these, almost half committed to introduce it within 12 months.Most common non-compliance from FTSE 350 companies (2012) 18.6% Insufficient independent directors on the board 11.1% Failure to meet remuneration committee membership criteria 10.8% Failure to meet audit committee membership criteria 6.4% 6.4% Failure to meet Non-independent nomination committee chairman appointed membership criteria in the year** 5.1% Role of chairman and chief executive combined “Encouragingly, 44% of the 144 companies that did not comply, state they are planning 4.7% to do so.” Directors not subject to annual re-election* * This Code provision first became effective this year. **Of the 19 companies that reported non-compliance, 10 did not appoint their chairmen during the year and were not, therefore, required to report against this provision.10 CORPORATE GOVERNANCE REVIEW 2012
  13. 13. Compliance with the CodeEmerging trends Moving beyond compliance There has been a notable improvement Do committee chairs introduce their reports? (Yes %)Governance insight in the quality and presentation of board“Chairmen are encouraged governance disclosures within annualto report personally in theirannual statements how the reports, with many companies going beyond mere statements of compliance. 50% Remunerationprinciples relating to the role and As explored in our report ‘The tone committeeeffectiveness of the board (in of governance’1, more chairmen areSections A and B of the new Code) establishing their personal governance 23% 15%have been applied.” credentials. However, there is a Audit committee disparity between chairmen who used(UK Corporate Governance Code, Preface) Nominations their primary statement to give this committee insight and those who left it to theTo what extent are the features ofboard governance discussed in the corporate governance statement: thechairman’s primary statement? latter can suggest compliance box- Remuneration committee chairmen, ticking. perhaps spurred on by the intense and In all, three quarters of chairmen widespread interest in executive reward, 23% 10% referred to governance in their primary statements or the corporate are increasingly putting their names to their reports, with more personal 2012 2011 governance report. More than half accounts of committee activities. Such (58%) emphasised its importance ‘by-lining’ is also growing among Yes, detailed commentary through their primary statement. On chairmen of audit and nomination closer scrutiny, the majority kept committees but, at 23% and 15% respectively, at a slower rate. 35% 33% their explanations to a minimum but 23% (2011: 10%) of chairmen truly Indeed, personal accountability 2012 2011 embraced the Code’s Preface and used is one of this year’s emerging trends: their primary statement to enable seen in both the personalising of sub- Yes, basic commentary valuable insight into board practices. In committee reports and in company contrast, 25% of chairmen still give no chairmen taking responsibility insight into board governance practices. for governance and values. As 42% 57% shareholders and regulators demand more information and sub-committees 2012 2011 Increasing personal ownership The improvement in disclosures around receive increased guidance on how and board committee activity is another what they should report to boards, this No notable trend. An increasing number of pattern is likely to continue. Whether company reports now include personal this will lead to sub-committee overviews from committee chairs on chairmen reporting at AGMs remains the key issues and priorities for the to be seen but the momentum towards following year. greater accountability is clear.1 Governance insights: The tone of governance,Grant Thornton, October 2012. CORPORATE GOVERNANCE REVIEW 2012 11
  14. 14. LeadershipRecent corporate scandals have heightened the need fora strong and principled tone from the top. Chairmen, alongwith the two other members of the ‘governance holy trinity’ –CEOs and company secretaries – have a crucial role to play.The role of the board How much detail is provided on how the board operates and discharges With mounting scrutiny of the leadership and operation of boards, it is its duties? (More/outstanding %)“The board should set the encouraging to see increasing coveragecompany’s values and standards of the way they work.and ensure that its obligations toits shareholders and others are 64% Meeting frequency 2012understood and met.” The Code does not advise on the(UK Corporate Governance Code, 53 % frequency of board and committeesupporting principle A.1)There is increasing emphasis on 2011 76% meetings, merely specifying that “the board should meet sufficiently regularly 2012 to discharge its duties effectively”.the way boards carry out their role, This year, the average number of 71%the behaviours they display and the board meetings was 8.5, with a range ofculture they promote. This messagewas reinforced in the 2011 FRC 57 % 2011 between two and 25. (When Cadbury published his report, 20 years ago,Guidance on Board Effectiveness: 2012 the average number was six.) Helpful“An effective board develops andpromotes its collective vision of 42% disclosures explained both how many meetings were originally plannedthe company’s purpose, its culture, 2011 and the number of, and reasons for,its values and the behaviours it unscheduled meetings.wishes to promote in conductingits business.” Average number of board and committee meetings(FRC Guidance on Board Effectiveness, 101.2) 9 8 8.5 8.5 8.4 7 6 5 5.0 5.1 4 4.6 4.4 4.4 4.1 3 3.5 2 2.8 2.5 1 0 Board Audit Remuneration Nomination Committee Committee Committee FTSE 350 FTSE 100 Mid 25012 CORPORATE GOVERNANCE REVIEW 2012
  15. 15. The chairman As we argue in ‘The tone of governance’1, the regulator could help“The chairman is responsible convert such exceptional practice intofor leadership of the board and the norm: “As the external investors’ensuring its effectiveness on all primary representative inside theaspects of its role.” boardroom, the chairman has a crucial(UK Corporate Governance Code, main role in standard setting and embeddingprinciple A.3) the tone. Perhaps now is the time for the FRC to pick up on this emerging“The chairman should promote a practice of the few and expand itsculture of openness and debate.” Preface to the Code to encourage the(UK Corporate Governance Code, many to recognise the importancesupporting principle A.3) of values in establishing the rightThe chairman has a crucial role in governance culture in an organisation”.establishing a positive company culture. However, even the most determinedCorporate scandals, from Barclays’ chairman cannot steer a company in theLibor-fixing to RBS and Olympus, right direction alone. A growing pre-are potent reminders of what can go requisite to success is the governancewrong when leaders fail to instil a ‘holy trinity’ of the CEO, chairmanprincipled tone from the top. And this and company secretary. This wastone should not just be demonstrated recognised by the FRC in its 2010in the chairman’s statement and the Board Effectiveness guidance, whereboardroom but in all actions within it increased the emphasis on theand outside the company – including importance of company secretariesinteraction with shareholders. in supporting chairmen on In a positive emerging practice, governance issues.a small number of chairmen are nowtaking overt responsibility for setting “Executive chairmen are typicallythe right tone. This year, 5% embraced former CEOs or foundingA.1 of the Code, reinforced by the shareholders, a backgroundFRC Guidance on Board Effectiveness that can lead to them retaining1.2, and firmly turned the spotlight on significant influence on the board.”the importance of culture and valuesin underpinning effective governancepractice.1 Governance insights: The tone of governance, Grant Thornton, October 2012. CORPORATE GOVERNANCE REVIEW 2012 13
  16. 16. Leadership Independence of chairmen Drilling down into detail: 10 UK During the year, 39 companies companies had a joint chairman and appointed a new chairman. Of these, chief executive, with another seven 20 disclosed they were independent combining the roles at some point on appointment (a Code requirement) during the year. In a further 21, the and eight reported they were not roles of chairman and CEO were independent and so non-compliant. not combined, but the chairman held on Chairmen: The remaining 11 failed to state whether executive powers and was actively • Four chairman head the new chairman was independent, involved in running the business. While three FTSE 350 in breach of the Code. this is not a technical breach, it strains boards, 24 chair two the spirit of the Code. • There are 31 Division of responsibilities Executive chairmen are typically executive chairmen in “There should be a clear division former CEOs or founding shareholders: the FTSE 350 of responsibilities at the head of a background that can lead to them • One in four FTSE the company between the running retaining significant influence on the chairs have sat on the of the board and the executive board. In several cases, a review of the board for more than responsibility for the running of division of responsibilities suggests the nine years and six for the company’s business.” chairman is CEO in all but name. over 25 years When assessing whether a board (UK Corporate Governance Code, main • The average FTSE principle A.2) meets the Code’s independence 350 chairman is 11 requirements, the chairman is excluded, years older than the One of the most significant changes whether or not they hold executive executive to come out of the Code, in marked responsibilities. For boards with contrast to the traditional US model, • 78% of chairman in executive chairmen, a board with equal the FTSE 100 have is the separation of the role of chairman numbers of executive and non-executive held executive roles and chief executive. Although more directors will be deemed in compliance previously, 42% as than 10% of UK companies still with the Code, despite the fact that the chief executive either combine the roles or blur executive team forms a majority with • There are only three the responsibilities, in the US it the executive chairman holding the female chairs in the remains the case for 57% of S&P casting vote – an apparent anomaly and FTSE 350 500 companies. one that several shareholder groups are presently seeking to address. “There is increasing emphasis on the way boards carry out their role, the behaviours they display and the culture they promote.”14 CORPORATE GOVERNANCE REVIEW 2012
  17. 17. EffectivenessAs companies face pressure to Board effectivenessachieve a diverse boardroom Populating boards is proving a growingspread, female directors challenge, particularly outside the FTSE 100 where approximately 22%remain under-represented of companies failed to either maintainacross the FTSE 350. or achieve the required balance of independent non-executive directorsBoard composition at some time in the year. As the natural on Board numbers:“The board and its committees cycle of retirement is planned, thisshould have the appropriate • Almost one in five suggests that unplanned retirements (18.6%) of FTSE 350balance of skills, experience, are on the increase or it is taking longer boards had too fewindependence and knowledge of to find the right candidates. Either independent NEDsthe company to enable them to way, sourcing independent NEDs and • All companies haddischarge their respective duties addressing the growing demand for at least two non-and responsibilities effectively.” greater diversity should be moving up executives, with one(UK Corporate Governance Code, main the agenda of chairmen and nomination having 14principle B.1) committees. • Three boards had noIncreasing non-executive presence Of the 55 companies without executive directorsBoards seem to have reached their sufficient independent members, a third • Four FTSE 100‘natural size’ with the average FTSE (18) were compliant for part of the year. companies had 16350 board having 5.5 non-executive directorsdirectors (NEDs) (2011: 5.3), a • The average FTSEchairman and three executive directors 100 board had(as last year). 11 members, the average Mid 250 board had 8.4 FTSE rank Number of Insufficient Independent NEDs companies independent NED on board (average) • The smallest board, in group membership with four directors, 1–100 99 12% 6.7 is in the Mid 250 101–200 91 22% 5.1 • Around 15% of 201–350 106 22% 3.9 directors have TOTAL 296 18.6 5.2 multiple FTSE 350 directorships“Chairs of nomination committees may wish to work with their companychairmen to identify potential candidates from inside and outside thebusiness, to meet long term needs.” CORPORATE GOVERNANCE REVIEW 2012 15
  18. 18. EffectivenessA question of independence The most frequently given reason for non-complianceAcross the FTSE 350, 83 non-executive directors (5%) (see page 41) relates to insufficient numbers of NEDs.were not considered independent. Of these, 27 represented This – along with pressure to address the gender imbalance,significant shareholders and 39 were recent employees or particularly among executive board members – is likely toboard members of more than nine years’ standing. push succession up the institutional agenda. In anticipation, chairs of nomination committees may wish to work with their FTSE 350 FTSE 100 Mid 250 company chairmen to identify potential candidates, from Total number of NEDs 1,629 692 937 inside and outside the business, to meet long term needs. Number of NEDs who 83 25 58 John Kay’s July 2012 review, ‘UK equity markets and were not independent long-term decision making’ recommends that companies % non-independent NEDs 5% 4% 6% consult major shareholders around key board appointments such as chairmen and important non-executive appointments.A further 39 NEDs were considered independent by the While this is not mentioned in the Code, it is another pointboard despite not meeting the independence criteria set out in that nomination committee chairs may wish to consider.provision B.1.1 of the Code. Of these, the majority (30) hadserved on the board for more than nine years. Diversity “The search for board candidates should beBoard appointments conducted, and appointments made, on merit, against“There should be a formal, rigorous and transparent objective criteria and with due regard for the benefitsprocedure for the appointment of new directors to of diversity on the board, including gender.”the board.” (UK Corporate Governance Code, supporting principle B.2)(UK Corporate Governance Code, main principle B.2) The Davies Report on Women on Boards focused attentionWith the growing focus on the need for greater diversity, on the lack of female directors – and the need to rectify thiscoupled with the apparent shortage of candidates, imbalance. Lord Davies’ recommendation that 25% of boardnomination committees are coming under increased scrutiny members should be female by 2015 has prompted action.from shareholders. Encouragingly, the number of recent female appointments, Despite this, nomination committee disclosures were at least among non-executives, has increased significantly.relatively poor with more than half of all companies, 55%, However, Mid 250 female representation still lags the FTSE(2011: 63%) providing only basic information. This is often 100 by some margin. While many companies are confidentlimited to a commentary on appointments with little or no of achieving the 25% target, it raises a fundamental issuediscussion around board composition, succession planning or around the short-to-medium term availability of femaledesirable characteristics. executive talent. With the recent high profile departures of There is a noticeable difference between the largest Anglo American’s Cynthia Carroll, WH Smith’s Kate Swann,companies in the FTSE 100, where 62% (2011: 59%) provide and Pearson’s Dame Marjorie Scardino, female executiveinformative disclosures, and the Mid 250 where only 37% representation is at risk of, at best, remaining static.(2011: 26%) gave similar detail. Most companies have a long way to go to providemeaningful disclosures in this area, although there are signsof improvement. That only 15% of nomination committeechairmen contributed a commentary to their report suggeststhat the drive has to come from the chairs themselves.16 CORPORATE GOVERNANCE REVIEW 2012
  19. 19. EffectivenessGender diversity (% director positions held by women) Female representation in the boardroom has grown to 10.8%2012 FTSE 350 FTSE 100 Mid 250 (2011: 9.8%) with a marked penetration among the FTSE 100Chairman 1.0 NEDs, where 21% of positions (2011: 18.2%) are held by 1.0 women. 1.0 The number of female executive directors remains lowExecutive 5.1 at 5.1% (2011: 4.9%) and has taken a step backwards in theDirector 6.8 Mid 250 at 4.2% (2011: 4.3%). 4.2 Despite 38% of FTSE 100 and 36% of Mid 250 directorNED 14.4 appointments from March 1 to November 15, 2012 being 21.0 female3, a significant number of all-male boards endure. Eight 13.0 FTSE 100 boards and 79 of Mid 250 companies have noTotal 10.8 women around the table. As FTSE 100 directors often ‘cut 16.7 their teeth’ in the Mid 250, the low female representation on 9.8 the latter’s boards suggests FTSE 100 recruitment of women2011 directors – already challenging – will become even tougher. As the obvious sources dry up and the experience path forChairman 0.7 1.0 executive appointments remains long and intensive, achieving 0.5 greater female representation at the heart of the UK’s largestExecutive 4.9 companies is likely to remain a distant goal.Director 5.9 “[The annual report] should include a description of 4.3 the board’s policy on diversity, including gender, anyNED 14.4 measurable objectives that it has set for implementing 18.2 11.5 the policy, and progress on achieving the objectives.” (UK Corporate Governance Code 2012, provision B.2.4)Total 9.8 13.0 7.72010 “Twenty two per cent of companiesChairman 1.3 failed to maintain/achieve the required 2.0 1.0 balance of independent non-executive directors at some time in the year.”Executive 4.4Director 4.9 4.1NED 12.9 17.2 9.8Total 8.8 12.2 6.7Professional Boards Forum BoardWatch. http://www.boardsforum.co.uk/boardwatch.html3 CORPORATE GOVERNANCE REVIEW 2012 17
  20. 20. EffectivenessDo companies discuss gender diversity? This year has seen a significant increase in the number of FTSE 350 companies discussing their approach to gender diversity, driven largely by the Davies Report. Seventy eight per cent (2011: 28%) now provide at least a basic outline, with 16% (2011: 6%) setting out detailed disclosures. Only 13% of companies (FTSE 100: 23%, Mid 250: 22% 7%) committed to, and disclosed, a target for female 16% 62 % representation in the boardrooms by 2015, with a handful setting more ambitious goals than 25%. In our experience, disclosure practices take four to five years to evolve, so forYes, detailed disclosure Yes, some discussion No 84% of the FTSE 350 evolution has some way to go. FTSE 100 27% on gender diversity: 61 % 12% • At the time of our review, just 268 of 2,484 FTSE 350Yes, detailed disclosure Yes, some discussion No directorships were held by women Mid 250 • 36% of companies had exclusively male boards (FTSE 100: 13%, Mid 250: 47%,) • 47 companies met Lord Davies’ 25% criteria (FTSE 100: 25, Mid 250: 22) with three companies having boards made up of more than 40% women 26% • More directorships are held by women in the FTSE 100 11% 63% (147) than the whole Mid 250 (121) • The number of female executive directors on Mid 250 boards fell to 23 from 25Yes, detailed disclosure Yes, some discussion No“While the spotlight on women on boards can onlybe positive, attention should not be diverted from theneed to reflect breadth in other areas, including age,ethnicity, nationality, background, profession andpersonality type.”18 CORPORATE GOVERNANCE REVIEW 2012
  21. 21. EffectivenessA broader definition Experience of the chairman The average age of a chairman is 63, 4.5 yearsof diversity older than a non-executive and 11 years older than an executive director. Interestingly, 63 is almostWhile the spotlight on women on identical to the average age of a member of theboards can only be positive, attention US Senate, perhaps confirming at what point ageshould not be diverted from the need to and experience come together. Where experiencereflect breadth in other areas, including on Directors’ age is concerned, 78% of FTSE 100 chairs previouslyage, ethnicity, nationality, background, and tenure: held executive main board positions, 43% of themprofession and personality type. • FTSE 100 executives as chief executive.Age and experience have two years more Average age of directors experience than in theAverage age Mid 250 25% FTSE Mid FTSE • Mid 250 chairs have 100 250 350 22.7 been in post for more 20% 21.0 Exec 52.7 50.9 51.5 than 7.5 years on 19.9 Non Exec 59.0 58.6 58.7 average, two years 15% Chair 63.5 62.5 62.9 longer than in the FTSE 100 13.2 12.9 10%Average tenure • NEDs have an average tenure of 4.5 years, FTSE Mid FTSE suggesting nine 5% 100 250 350 5.3 years of full service 1.4 Exec 6.7 6.8 6.8 (in line with the 3.0 0.6 0 Non Exec 4.6 4.5 4.5 Code’s recommended 0 44 49 54 9 4 9 4 5 minimum) <4 –5 –6 –6 –7 >7 Chair 5.6 7.6 6.9 – – – 40 45 50 55 60 65 70 • Eight per cent ofWith little information available other NEDs have more thanthan the directors’ biographies to nine years’ tenure,assess diversity among the FTSE, most of whom are not classified asage is the only readily available independentproxy for experience. • The average age of an NED is 59 • The oldest NED is 86, with 12 over 75 and one in six over retirement age CORPORATE GOVERNANCE REVIEW 2012 19
  22. 22. EffectivenessEvaluation Is information given about evaluation findings? Externally-facilitated board evaluations“The board should undertake FTSE 350 FTSE 100 Mid 250 “Evaluation of the board ofa formal and rigorous annual FTSE 350 companies should beevaluation of its own performance externally facilitated at least everyand that of its committees and three years.”individual directors.” (UK Corporate Governance Code, B.6.2)(UK Corporate Governance Code, The Code provision for FTSE 350main principle B.6) 44% companies to have externally facilitatedMore than half of companies, 52% 35% board evaluations at least triennially(2011: 37%), provide good descriptions 30% became effective this year. Evaluationsaround their board evaluation process. were undertaken by 102 companiesEncouragingly, a former reticence to (2011: 74), with 40 more announcingshare output from reviews is easing plans to do so next year.with 35% (2011: 24%) now giving To help improve the quality ofsome insight into the findings. 2012 (%) evaluations, in its 2012 Code revisions, the FRC introduced a requirementLevel of explanation of board to name external facilitators. Moreevaluations (More descriptionof process) than two thirds (71) of the 102 that had been externally evaluated gave FTSE 350 FTSE 100 Mid 250 this information. Twenty eight different organisations were used, 52% 24 % 31% with three being engaged by more than 10 companies and 18 being 2012 21% involved with just one. Anecdotal 37% evidence suggests a wide variation 73% in review quality and approaches, 2011 ranging from questionnaires and 2012 2011 (%) attendance observations to the use of psychometrics. Although the format, focus and 41 % 52% style will continue to be heavily influenced by the chairman, this greater 2011 2012 transparency will hopefully raise the bar of expectation among investors, participants and the consultants 29% themselves. 201120 CORPORATE GOVERNANCE REVIEW 2012
  23. 23. EffectivenessWas the board evaluation externally facilitated? Re-election FTSE 350 FTSE 100 Mid 250 “All directors of FTSE 350 companies should be subject to annual election by shareholders.” 25 % (UK Corporate Governance Code, B.7.1) In the first year following the introduction of this provision, it 35% 2011 was adopted by 96% of FTSE 350 17 % companies. Twelve suggested that it discouraged the taking of a long-term view. 2012 2010 Prior to the 2010 FRC consultation, only 6% of companies had annual re- elections. This immediate uptake of 27% a new provision is a clear example of the Code’s ability to change practice, particularly in areas where shareholder 2010 engagement is more evident. With such a clear impact, the temptation may be to resort to legislation to drive change but care must be taken not to dilute 34% or undermine the Code’s founding principle of comply or explain. 2011 42% 2012 12 % 31% 2012 2010 20% 2011 CORPORATE GOVERNANCE REVIEW 2012 21
  24. 24. AccountabilityCompanies need to give genuine insight into their risk management and control operations,rather than just ticking the compliance boxes for these crucial areas. Assessing internal control With a growing focus on riskRisk management and effectiveness management and both the FRC andinternal control The Turnbull guidance put the spotlight BIS seeking greater transparency, on both risk management and internal the emphasis needs to move from“The board is responsible for control. Since then the emphasis acknowledging that the annual internaldetermining the nature and extent on these two aspects of governance controls review took place towardsof the significant risks it is willing has gathered momentum. While all revealing actual risk managementto take in achieving its strategic companies now claim full compliance practices and the role internal controlobjectives. The board should with Turnbull, many offer little insight plays in mitigating risks. The FRCmaintain sound risk management to readers. Reports tend toward the will be commencing its consultationand internal control systems.” boilerplate, merely confirming the in early 2013.(UK Corporate Governance Code, main existence of appropriate systems andprinciple C.2) practices. Only one in four companiesThe Turnbull report, ‘Internal control: enable real understanding of theirguidance to directors’, was issued in systems and how their boards measure “Thirty three FTSE 3501999 and revised in 2005. While interim their effectiveness. This figure has companies claimed their smallconsultations supported the FRC’s barely altered in five years. size, lack of complexity, andbelief that it was still fit for purpose, the proximity of senior management toregulator is expected to begin a formal operations precluded the need forreview in 2013. internal audit.”Good quality disclosures on risk management and internal control FTSE 350 FTSE 100 Mid 250 66% 74% 78% 87% 59% 68% 2012 2011 2012 2011 2012 2011 Strong internal control disclosures Strong internal control disclosures Strong internal control disclosures 44% 35% 2012 55% 63% 68% 2012 48% 2011 2012 2011 2011 Strong risk management disclosures Strong risk management disclosures Strong risk management disclosures22 CORPORATE GOVERNANCE REVIEW 2012

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