Brunswick Review The Predictions Issue

Rules of the high road

Changes in Hong Kong and the UK improve the corporate governance landscape

Globally, corporate failures, governance weaknesses and the emergence of conduct risk during and since the financial crisis of 2008 have damaged trust and prompted calls for stricter regulation. Recent changes in the UK and Hong Kong corporate governance codes are in part a response to these pressures and seek to push the corporate world toward greater transparency and integrity.

The UK led the development of corporate governance practices with the Cadbury Report in 1992 and significant improvements in governance have been seen since then. The July 2018 Update to the UK Corporate Governance Code aims to create a simpler and clearer set of principles to promote long-term stability and success for a greater range of stakeholders. Key changes include:

 Broadening the definition of governance. An effective and entrepreneurial board should be in place whose mission is to promote long-term sustainable success, generating value for shareholders and contributing to wider society.

 Emphasizing that the board should establish the company’s purpose, values and strategy, and satisfy itself that its culture is aligned with those plans.

 Improving the quality of relationships with a wider range of stakeholders. The annual report should describe how the interests of all have been considered in board decision making.

 Engaging meaningfully with the workers through a formal workforce advisory panel, a director or designated non-executive director appointed from the workforce.

 Emphasizing the necessity for a high-quality board with an appropriate combination of executive and non-executive independent directors to ensure constructive challenge, with no one director dominating the decision making.

 Focusing on diversity, length of tenure of the board as a whole and effective board refreshment including the need for higher quality external board evaluations as well as nomination committee responsibility for more effective succession planning.

 More demanding criteria for remuneration practices including clearer reporting on remuneration, how it delivers company strategy, long-term success and alignment with workforce remuneration.

Hong Kong also started its governance journey in 1992 and published its Code on Corporate Governance Practices in 2005 in place of the previous non-mandatory approach. Last month, the Hong Kong Stock Exchange published the results of its latest consultations on the Code and related Listing Rules. 

The changes are a welcome improvement to address concerns around director independence and board diversity. Among improvements bringing Hong Kong more into alignment with the UK:

 Strengthening the transparency and accountability of the board and nomination committee on election of directors, including Independent Non-Executive Directors (INEDs), who may be over-stretched. The new code requires explanation for how an INED with seven or more directorships could devote sufficient time to the job.

 Improving transparency of INEDs relationships with companies, particularly factors affecting independence. These include extending the cooling off period where an INED is a former adviser, audit partner or has a material interest in the company; taking into account immediate family relationships; as well as considering INEDs cross-directorships.

 Promoting board diversity, including gender diversity, by requiring companies to have a diversity policy and to disclose the policy in the corporate governance report.

 Requiring greater dividend policy transparency by disclosing it in the annual report.

While gaps remain between the two markets with regard to code and practice, these changes should help to improve investor and community confidence in corporate leadership. At a minimum, governance practices help protect against material risk and failure. The greater value, however, comes through underpinning a long-term investment focus that benefits investors, customers, employees and the community. 

 

Jane McAloon is a Senior Adviser for Brunswick and former President of Governance at BHP Billiton.

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