Ellason lens on… strengthening of clawback and malus provisions

The Department for Business, Energy and Industrial Strategy (BEIS) has launched a consultation on proposals to strengthen UK corporate governance, audit and reporting. Amongst the plethora of changes proposed are recommendations to strengthen malus and clawback provisions within executive directors’ remuneration arrangements.

The suggested changes include:

• Introducing a minimum two-year application period for clawback and malus provisions; and
• Setting a minimum list of trigger criteria that must be applied in all cases.

The following list of criteria is proposed: material misstatement of results or an error in performance calculations; material failure of risk management and internal controls; misconduct; conduct leading to financial loss; reputational damage; and unreasonable failure to protect the interests of employees and customers.

Subject to consultation responses, the Government proposes inviting the FRC to implement these through an update to the UK Corporate Governance Code (making them effective, on a comply or explain basis, for all premium-listed companies).

The consultation paper also recommends extending the corporate reporting review remit of the Audit, Reporting and Governance Authority (the successor body to the FRC) to cover the whole of the annual report and accounts; thereby including areas that are not currently within the scope, such as the corporate governance statements and directors’ remuneration and audit committee reports.

The BEIS consultation closes on 8 July 2021.

Ellason commentary: The BEIS Committee has taken a keen interest in the adequacy of clawback powers in recent years following several high-profile corporate collapses. The vast majority of FTSE-listed companies already have clawback and malus provisions in place, and many companies sought to further strengthen the provisions following publication of the FRC’s Guidance on Board Effectiveness in 2018. It is noted that the trigger criteria suggested by BEIS above are slightly different from those recommended by the FRC. Notably, ‘corporate failure’ is missing, to be replaced with more subjective conduct-related matters, such as ‘failure of risk management and internal controls’, ‘conduct leading to financial loss’ and ‘unreasonable failure to protect the interests of employees and customers’; closely resembling the style of clawback provisions already in place in the UK’s regulated financial services sector.

If the guidance on clawback provisions remains within the UK Corporate Governance Code, then companies will be able to adopt any changes on a comply or explain basis, proportional to their business model and likely risks arising. However, the consultation paper also notes the possibility of extending the recommendations to all listed companies through changes to the Listing Rules, which would make the provisions mandatory and bring their enforcement under the jurisdiction of the Financial Conduct Authority. The proposals are only at a consultation stage at the moment, but increased scrutiny on clawback and malus provisions is likely to arise when companies seek to renew shareholder approval for their remuneration policies and/or share plan rules.

Please do not hesitate to contact any of the Ellason team should you wish to discuss this issue further.