Test your knowledge - Part 5

Question 1

1. What principle of the UK Corporate Governance Code sets out the approach in respect of relations with shareholders and what does it recommend?

Answer 1

What principle of the UK Corporate Governance Code sets out the approach in respect of relations with shareholders and what does it recommend?

Principle D states that the board should ensure effective engagement with, and encourage participation from, shareholders and stakeholders in order for the company to meet its responsibilities to these parties.

Question 2

2. Define what institutional investors are and give some examples.

Answer 2

Define what institutional investors are and give some examples?

Organisations that have large amounts of funds to invest and put much of these funds into companies they invest in. Examples are pension funds, insurance companies and collective investment institutions (such as unit trusts).

Question 3

3. Which provision of the UK Corporate Governance Code covers engagement with major shareholders and what does it recommend?

Answer 3

Which provision of the UK Corporate Governance Code covers engagement with major shareholders and what does it recommend?

Provision 3 states….

that in addition to formal general meetings, the chair should seek regular engagement with major shareholders in order to understand their views on governance and performance against the strategy. The chair should ensure that he and the board as a whole has a clear understanding of the view of shareholders.

It also states that committee chairs should seek engagement with shareholders on significant matters related to their areas of responsibility.

The senior independent director, when called upon should meet a sufficient range of major shareholders to develop a balanced understanding of their views

Question 4

4. What are the main rules and regulations in respect of directors’ share dealings under the Market Abuse Regulation?

Answer 4

What are the main rules and regulations in respect of directors’ share dealings under the Market Abuse Regulation?

• Must not deal in shares during Closed Periods
• Must not deal at any time if they are privy to price sensitive information
• Must seek clearance from Chairman
• Exceptional circumstances to deal during prohibited period
• Connected persons (see below) cannot deal during prohibited periods

Section 252 Companies Act 2006 sets out the definitions for connected persons, which includes members of a director’s family.

Section 253 sets out which family members are deemed connected persons:

(a) spouse or civil partner;
(b) any other person (whether of a different sex or the same sex) with whom the director lives as partner in an enduring family relationship (but excluding grandparent or grandchild, sister, brother, aunt or uncle, or nephew or niece)
(c) children or step-children;
(d) any children or step-children of a person within paragraph (b) (and who are not children or step-children of the director) who live with the director and have not attained the age of 18;
(e) the director’s parents.

Question 5

5. What information should an Insider List contain?

Answer 5

What information should an Insider List contain?

• Identity of any person having access to inside information
• The reason for including that person on the insider list
• The date and time at which the person obtained access to inside information
• The date on which the insider list was drawn up

Question 6

6. Which section of the Companies Act 2006 links to relations with shareholders/ stakeholders and how?

Answer 6

Which section of the Companies Act 2006 links to relations with shareholders/ stakeholders and how?

Section 172 of the Companies Act 2006 provides for the directors’ duty to promote the success of the company for the benefit of its members (shareholders) as a whole, and in doing so have regard (amongst other matters) to the interests of employees, business relationships with suppliers, customers and others, the impact of operations on the community and the environment other parties including employees, relationships – in general terms, stakeholders.

Question 7

7. Explain what is meant by ‘shareholder activism’.

Answer 7

Explain what is meant by ‘shareholder activism’.

Activities by institutional investors to influence governance and strategy decisions in companies they invest in.

In most cases, activism is constructive, involving dialogue and discussion, and it is only when a board of directors fails to respond in an acceptable or appropriate way to shareholder concerns that more aggressive action may be considered.

Shareholder activism can attract publicity. Its potential strength is that it brings pressure to bear on companies from negative publicity that shareholder opposition to the board can create.

‘red top’ notices advising members to vote against the resolution may have the effect of persuading shareholders how to vote.

The emergence of ‘wolf packs’ is an example of where hedge funds are joining together with other activists to push through agendas in companies to make short term gains. These activities are not usually in the best interests of the company in the longer term.

Question 8

8. List the main principles of the Stewardship Code 2020.

Answer 8

List the main principles of the Stewardship Code 2020.

Principles for asset owners and asset managers:

A. Purpose and governance:

Consisting of principles 1-5 for service providers

B. Investment approach:

(6) client and beneficiary needs;
(7) stewardship, investment and ESG integration;
(8) monitoring managers and service providers

C. Engagement: (9), (10) collaboration; (11) escalation

D. Exercising rights and responsibilities (12)

Principles for service providers:

1. Purpose, strategy and culture
2. Governance, resources and incentives
3. Conflicts of interest
4. Promoting well-functioning markets
5. Supporting clients’ stewardship
6. Review and assurance

Question 9

9. What types of meetings (as identified in the ABI guidance) can be held between a company and institutional investors?

Answer 9

What types of meetings (as identified in the ABI guidance) can be held between a company and institutional investors?

1. Ongoing meetings – regular updates re strategy, financing, performance and governance
2. Specific meetings – to consult shareholders on a specific issue to obtain their views (e.g. a proposal the board intends to put to a general meeting)
3. Reactive meetings – relating to issues that have emerged unexpectedly, to ask for shareholder views to assist the company in responding in a way acceptable to shareholders
4. Proactive meetings – relating to a shareholder concern re deteriorating trend or change that appears to be happening
5. Systematic meetings – where a shareholder has a system for reviewing its investments and identifies the company as one where it considers closer engagement is needed

Question 10

10. Describe the ways in which a company can make the most effective use of its AGM.

Answer 10

Describe the ways in which a company can make the most effective use of its AGM.

One of the most important ways companies communicate with their shareholders is through the annual general meetings (AGM).

FRC Guidance on Board Effectiveness recommends that companies sent out the shareholders at least 20 working days before the meeting, the notice of the meeting and related papers.

This ensures that shareholders have sufficient time to consider any issues presented by the papers.

CA2006 requires a minimum of 21 calendar days.

Most effective use of its AGM

• Encourage attendance
• Giving shareholders the opportunity to ask questions
• Voting procedures, with separate resolutions for each substantially separate issue
• Proxy voting forms should include a ‘vote withheld’ box, in addition to ‘for’ and ‘against’
• Disclosure of information about proxy votes

OR consider the limitations of AGM’s:

• Only held once a year
• Difficult for shareholders to attend
• Limited duration
• Formal in nature, so limited opportunity for engagement and dialogue

Question 11

11. What is meant by the term “rewards for failure”?

Answer 11

What is meant by the term “rewards for failure”?

The term refers to remuneration packages for senior directors where the size of the reward (often a bonus) does not seem sufficiently linked to performance and large payments are made to outgoing executives (on dismissal) whose contracts have been terminated following poor company or individual performance.

Question 12

12. What are the overall aims of any executive remuneration package?

Answer 12

What are the overall aims of any executive remuneration package?

A remuneration package should attract individuals of a suitable calibre to senior positions, should enable the company to retain them for the mid to long term, and should motivate individuals towards achieving both company and individual performance

Question 13

13. Describe the mixture of elements recommended for executive remuneration packages.

Answer 13

Packages should consist of a combination of fixed pay and variable pay/short and long-term incentives, including:

• basic salary;
• payments into a pension scheme (or payments in lieu);
• annual bonus, usually linked to annual financial performance of the company;
• long-term incentives, usually share options/awards; and
• other benefits and perks, such as free medical insurance, company car or accommodation.

Question 14

14. What is the recommended composition for a Remuneration Committee? List five duties of the Remuneration Committee

Answer 14

What is the recommended composition for a Remuneration Committee? List five duties of the Remuneration Committee

Provision 32 states that the committee should consist of all independent NEDs, with a minimum of 3 (or 2 for smaller companies); the chair of the board can be a member, but not chair the committee; and the committee chair must have served on a remuneration committee for at least 12 months before their appointment.

Duties include:

• Determine and agree (with the board) the remuneration policy, set the remuneration for all executive directors and the chairman
• Recommend and monitor the level and structure of senior management remuneration.
• Decide targets for performance for any performance-related pay schemes
• Responsible for appointing remuneration consultants
• Report to the board and in the annual report on its work

Question 15

15. What are the main principles of the UK Corporate Governance Code in respect of remuneration?

Answer 15

What are the main principles of the UK Corporate Governance Code in respect of remuneration?

Principle P …

states that 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 clearly linked to the successful delivery of the company’s long-term strategy.

Principle Q…

states that there should be a formal and transparent procedure for developing policy on executive remuneration and determining director and senior management remuneration. No director should be involved in deciding his or her own remuneration.

Principle R…

states that directors should exercise independent judgement and discretion when authorising remuneration outcomes, taking account of company and individual performance, and wider circumstances.

Question 16

16. Describe the recommendations that exist in respect of severance payments.

Answer 16

Describe the recommendations that exist in respect of severance payments….

The UK Corporate Governance Code states that the main aim in compensation payments is to avoid rewarding poor performance. The amount of severance pay should reflect a departing director’s obligation to mitigate losses. It is suggested that contracts should provide for a payment of compensation in stages, which would be stopped when the director found employment elsewhere.

The UK Code also states that notice periods in employment contracts of executive directors should be set at 1 year or less.

Provision 37 of the UK Corporate Governance Code provides that remuneration schemes and policies should include provisions that enable a company to recover and/or withhold sums or share awards and specify the circumstances in which it would be appropriate to do so.

The provision effectively requires listed companies to adopt malus and clawback provisions. Malus provisions allow the company to forfeit all or part of a payment/award before it has vested and been paid. Clawback provisions allow a company to recover sums already paid.

The joint statement made by the ABI and PLSA in 2008 sets out principles regarding the level of remuneration providing adequate compensation for the risk associated with an executive role; and that where severance payments arise from poor corporate performance they should not extend beyond basic salary.

Question 17

17. Explain the voting rights that shareholders have in respect of remuneration.

Answer 17

Explain the voting rights that shareholders have in respect of remuneration.

1. Remuneration policy

Shareholders have a binding vote on an ordinary resolution to approve the remuneration policy. This is a binding vote. If the shareholders reject the policy the board may amend the policy and present the revised policy to the shareholders for approval at another general meeting. Alternatively, they may continue with the most recent policy to have received shareholder approval.

If a company wishes to make changes to the remuneration policy it must put the new policy to the shareholders for approval at a general meeting.

A company must put the remuneration policy to the shareholders for a binding vote at least every three years. However, as small changes require formal shareholder approval some companies decide to hold a binding vote on the policy at every AGM.

2. Implementation report

Shareholders also vote on the implementation annually, at the AGM. This is an advisory vote. If shareholders vote against an implementation report, the board will be required to put the remuneration policy to the shareholders in a binding vote at the next AGM.

Question 18

Controls to protect shareholder rights?

Answer 18

Controls to protect shareholder rights…

1. Insider lists and control of inside information
2. ‘Closed periods’ of 30 days prior to publication of interim/full year results in which dealing cannot occur
3. Processes under Market Abuse Regulations for share dealings by directors, Persons Discharging Managerial Responsibilities (PDMRs) and persons closely associated with them (PCAs)
4. Dealing code and policy

Question 19

Directors’ share dealing and acknowlegement and duties

Answer 19

Directors’ share dealing…

Companies must take all reasonable steps to ensure that any ‘Insider’ acknowledges in writing, the legal and regulatory duties entailed and is aware of the sanctions applicable to market abuse, insider dealing and unlawful disclosure of inside information.

Directors’ (and PDMR’s and PCA’s) share dealings to be disclosed via RIS announcement – as required by

Question 20

Insider List?

Answer 20

Insider List…

1. Two types – permanent list and project list.
2. Identity of any person having access to inside information
3. The reason for including that person on the insider list
4. The date and time at which the person obtained access to inside information
5. The date on which the insider list was drawn up

Question 21

Directors’ share dealing code?

Answer 21

Directors’ share dealing code…

1. Must not deal in shares during Closed Periods
2. Must not deal at any time if they are privy to price sensitive information
3. Must seek clearance from Chairman
4. Exceptional circumstances to deal during prohibited period
5. Connected persons cannot deal during prohibited periods

Question 22

Shareholder anonymity?

Answer 22

Shareholder anonymity…

1. Listed companies, in particular, may not know who the owners of their shares are.
2. It is important for identify of shareholders to be known, enabling them to assert their rights, communicate with companies, monitor corporate governance best practice, collaborate with fellow shareholders, react to hostile takeovers
3. Substantial holding (3% trigger and any whole percentage point change (increase of reduction)) must be notified to company; company is required to announce details to stock exchange
4. Public companies can give notice to any person under s. 793, CA2006 with a shareholding requiring them to disclose the underlying beneficial owners of the shares
5. Failure to provide information enables company to obtain court order, imposing restrictions on the shares
6. Failure to comply with court order is a criminal offence

Question 23

Courses of action by concerned shareholders?

Answer 23

Courses of action by concerned shareholders…

1. Voice – try and influence the board to reconsider plans
2. Escalate – try to bring together a larger group of shareholders
3. Vote – express disagreement by voting against resolutions in general meeting; or proposing their own resolutions
4. Exit – if shareholders see actions or plans of directors as detrimental to their interests, they may choose to sell their shares

Question 24

Shareholder representative bodies?

Answer 24

Shareholder representative bodies…

Provide guidance for members on corporate governance issues of listed companies.

In the UK there are two main bodies:

1. The Investment Association
2. Pension and Lifetime Savings Association (PLSA) (formerly the National Association of Pension Funds(NAPF))

The company secretary should be aware of the views of these bodies so they are able to advise their board and management team accordingly

Question 25

RI, ESG and SRI?

Answer 25

RI, ESG and SRI... 1. Responsible investment - explicitly acknowledges the relevance to the investor of environmental, social and governance factors. Driven by financial rather than ethical or moral implications 2. Socially responsible investment – combines investment returns with ethical investing 3. ESG is a term used to describe a group of risks – environmental, social and governance – that are explicitly acknowledged and integrated into the investment research and decision-making process

Question 26

Pursuing an SRI strategy?

Answer 26

Pursuing an SRI strategy... Institutional investors may pursue an SRI strategy by: 1. Engagement – with the board and persuading them to adopt particular CSR policies or make improvements 2. Investment preference – set of guidelines companies should meet; and 3. Screening – certain criteria to be set by companies, or investor identifying companies that fail to meet the, and refuse to buy shares in those. Screening could make use of some of the CSR indices (Dow Jones, FTSE4Good) Investors with an SRI strategy need information about the CSR performance of companies in which they invest

Question 27

UK CG Code - Shareholder engagement?

Answer 27

UK CG Code - Shareholder engagement... Provision 3: In addition to formal general meetings, the chair should seek regular engagement with major shareholders in order to understand their views on governance and performance against the strategy. Committee chairs should seek engagement with shareholders on significant matters related to their areas of responsibility. The chair should ensure that the board as a whole has a clear understanding of the views of shareholders. Provision 4: views to be received from shareholders, and reported on when 20% or more of votes have been cast against a resolution. Provision 12: … the SID … to serve as an intermediary for the other directors and shareholders.

Question 28

UK CG Code - Shareholder engagement continued...

Answer 28

UK CG Code - Shareholder engagement continued.. Provision 40: When determining executive remuneration policy and practices, the remuneration committee should address clarity – remuneration arrangements should be transparent and promote effective engagement with shareholders and the workforce (first bullet point under this provision) Provision 41: There should be a description of the work of the remuneration committee in the annual report, including what engagement has taken place with shareholders and the impact this has had on remuneration policy and outcomes (5th bullet point)

Question 29

FRC Guidance – Shareholder Relations

Answer 29

FRC Guidance – Shareholder Relations... Para 35 The chair has an important role in fostering constructive relations with major shareholders and in conveying their views to the board as a whole. When called upon, the senior independent director should seek to meet a sufficient range of major shareholders in order to develop a balanced understanding of their views. Non-executive directors should take opportunities such as attendance at general and other meetings, to understand the concerns of shareholders. Para 36 It is important that all shareholders are able to discharge their stewardship duties effectively. Formal ways of doing this are shareholder meetings and the annual general meeting (AGM). To ensure there is sufficient time to consider the issues, the notice of the AGM and related papers should be sent at least 20 working days before the AGM.

Question 30

CGI Guidance: Enhancing Stewardship Dialogue

Answer 30

Main elements: 1. Develop an engagement strategy – combination of meetings, regular and ongoing, not driven by events or specific issues 2. Get the housekeeping right – invite the right people to the meetings 3. Voting at the general meeting should reflect the outcome of discussions at the meetings held as part of engagement 4. Strengthen the conversation – discuss matters of direct relevance to the company’s value 5. Provide feedback – in both directions

Question 31

Designing remuneration policies and practices and provision?

Answer 31

Designing remuneration policies and practices and provision? Provision 40: When determining executive director remuneration policy and practices, the remuneration committee should address the following: 1. Clarity … remuneration arrangements should be transparent and promote effective engagement with shareholders and the workforce 2. Simplicity …remuneration structures should avoid complexity and their rationale and operations should be easy to understand 3. Risk … remuneration arrangement should ensure reputational and other risks from excessive rewards, and behavioural risks that arise from target-based incentives plans, are identified and mitigated. 4. Predictability … the range of possible values of rewards to individual directors and any other limits or discretions should be identified and explained at the time of approving the policy. 4. Proportionality …the link between individual awards, the delivery of strategy and the long-term performance of the company should be clear. Outcomes should not reward poor performance and 5. Alignment to culture … incentives schemes should drive behaviours consistent with company purpose, values and strategy

Question 32

Malus and clawback provisions?

Answer 32

Malus and clawback provisions.... Malus (or ‘performance adjustment’) – allow company, in specified circumstances, to forfeit all or part of a bonus or long-term incentive before it has been paid Clawback – allow company to recover sums already paid. Before any awards are made the circumstances in which any of these provisions can be implemented need to be agreed and documented (IA’s Principles of Remuneration, 2020).

Question 33

Compensation for loss of office / rewards for failure?

Answer 33

Compensation for loss of office / rewards for failure.... Provision 39 UK CG Code: - Notice or contract periods should be one year or less - Compensation commitments in terms of appointment should not reward poor performance - Commitments should tie in to directors’ obligations to mitigate loss Provision 37 UK CG Code: - Remuneration schemes should enable the use of discretion to override formulaic outcomes. - Should include malus and clawback provisions

Question 34

Directors’ remuneration and the Shareholder?

Answer 34

Directors’ remuneration and the Shareholder... If the remuneration policy vote is not carried, a company can: 1. call a further general meeting to put the same or a varied policy to another vote, or 2. continue to operate under its last approved policy, seeking separate shareholder approval for specific payments which are not in line with it 3. If the non-binding annual remuneration report vote is not passed, this does not affect any entitlements to remuneration but, if the resolution is voted down in a year when the remuneration policy is not also voted on, the company must put the policy to shareholders the next year, regardless of whether a vote is then due.

Question 35

FRC - The Role of the Remuneration Committee?

Answer 35

Section 5 of the FRC Role of the Remuneration Committee (paras 129 -132). Reviewing workforce remuneration and related policies, including purpose and contents of review. ``` Remuneration Policy (paras 133 – 144) Design, structure, discretion, compension, clawback. ```

Question 36

Why is remuneration a important corporate governance issue?

Answer 36

Why is remuneration a important corporate governance issue.... 1. One of the most important things to help attract and retain talented executives 2. Incentives can be used to motivate executives to achieve better company results 3. Incentives needs to be aligned with shareholders’ interests and promote the success of the company – not an easy thing to do 4. High salaries and performance related pay acceptable to investors if executives are making good returns for shareholders 5. High levels of executive pay undermine public trust in large businesses 6. Excessive remuneration for only moderate performance results in company being run for benefit of management rather than shareholders 7. Directors should not be rewarded for failure, or be able to decide or influence their own remuneration 8. Remuneration committees should take into account the pay and conditions of employees when setting directors’ pay

Question 37

What is a virtual AGM?

Answer 37

What is a virtual AGM and why shareholder representative bodies have concerns about them? Section 360A of the CA 2006 permits a UK company to offer shareholders an electronic means for participating in a general meeting. The electronic means has to be real time, allow for two-way conversation and have a mechanism for shareholders to vote. These electronic meetings are also referred to as virtual AGMs.

Question 38

why shareholder representative bodies have concerns about Virtual AGMs?

Answer 38

The Investor Associations and their position statement: Virtual only AGMs published in December 2017 states: ‘Our members believe that virtual only AGMs are not in the best interests of all shareholders and should not be used by investee companies, as their use could be detrimental to Board accountability. IA members are unlikely to be supportive of amendments to articles of association which allow for virtual only AGMs’. This is because the AGM is seen as the only opportunity that shareholders have to meet and question the whole board of a company. In reality many institutions shareholders do not send representatives to attend AGMs unless there is a controversial issue. It is the retail shareholder in many FTSE 100 companies who would be affected the most by this change in format of AGMs.

Question 39

What things should a company consider when planning to hold a virtual AGM?

Answer 39

What things should a company consider when planning to hold a virtual AGM? * Amendments of Articles of Association * Views of their shareholders * Technological considerations * Notice of meeting * Proxy form * Helpline * Preparing the chair and the board There are many other things to consider.

Question 40

Electronic Communication?

Answer 40

Electronic Communication? The CA 2006 introduced certain provision into law relating to how a company communicates with shareholders. To state but a few….documents and information are now able to be sent by or to companies either in hard copy form or electronic form i.e. email or fax. Under the DTR, listed companies need to obtain a shareholder resolution for communications to be sent via email or fax. Companies are also permitted, if the shareholder has not opted out, to communicate with their shareholders by means of a website. Notifications of any communications will have to sent in hard copies unless the shareholder has agreed to receiving them by email or fax. The use of the company’s website for shareholder communication requires the shareholder resolution or permission in the company’s articles. The shareholder always has the rights to ask for a hard copy of the communication they receive electronically.

Question 41

ICSA guidance on electronic communications

Answer 41

ICSA guidance on electronic communications... Recommendations include the following suggestions: 1. The facility to communicate in electronic form should be offered to all shareholders on equal terms. 2. Shareholders should be able to retain a copy of any document or information sent to them in electronic form. 3. Any electronic communication sent by a company giving notice of a general meeting and proxy voting should not include any electronic address unless the company intends that this address may be used by shareholders to respond to their communication. 4. When information or notifications of availability (of information on the website) are sent to shareholders, the company should use a system for producing a list of recipients or a total number of messages sent, as ‘proof of sending’. 5. Shareholders opting to communicate electronically should be warned that if they file an electronic proxy voting form containing a virus, the company will not accept it. 6. The company should alert shareholders to the fact that the company’s obligation to communicate electronically ends with the transmission of the message, and the company cannot be responsible for failed transmission that are outside their control. However, in the case of failed transmissions, the company should send a written communication to the shareholders with 48 hours of the failure.

Question 42

In what ways does a company know who its interested shareholders are?

Answer 42

In what ways does a company know who its interested shareholders are? Shareholders who have a substantial holding in a company are required to inform the company. This disclosure makes it clear to potential investors who owns the company or who aspires to secure control of the company. It also warns the company and allows them, together with shareholders, to prepare for an impending takeover. In the UK, the initial disclosure is triggered at 3% of total voting rights and a further disclosure is required for each whole percentage point change after that. There are exemptions for market makers holding less than 10% so long as they don’t influence the management of the company or exert influence over the company. At 10% and over the entire holding is disclosable. Listed companies are required to make these notifications public. Public companies can, under CA2006, give notice to any person or entity whom the company believes to have an interest in the company’s shares or to have had an interest at any time in the 3 years immediately proceeding the date of notice was issued. The notice requires the shareholder to disclose whether or not they have had an interest and the nature of that interest. If the shareholder fails to provide the information the company is able to obtain a court order imposing certain restrictions on the shares it believes are held by the shareholder. If the shareholder fails to comply with a court order is a criminal offence.