Corporate Governance Overhaul

Earlier this month the Government’s department for Business, Energy and Industrial Strategy (“BEIS”) Corporate Governance Overhaul consultation period came to a close, and the feedback from UK businesses is currently being analysed. In this blog we will summarise the changes that have been predicted since the consultation was announced in March 2021.

Arguably the biggest change to the UK’s corporate ecosystem in the last 30+ years, this reform is planned to improve the UK’s corporate positioning following on from Brexit and the pandemic, but also some high profile corporate failures in recent years (Carillion, Patisserie Valerie, BHS).

Firstly, we’re not expecting any sweeping changes to come in immediately. Businesses are still trying to recover in a difficult climate. We expect gradual changes towards a goal will be planned on a carefully considered timescale. And, of course, any proposals must pass through parliament first so this is not expected all at once or in the very near future.

Public Interest Entities (PIE)

The reform will apply to ‘public companies’, however it is proposed that the definition of a public company, or Public Interest Entity (PIE), will be expanded to include more small and medium sized businesses. Currently a company is considered a PIE if it’s listed on an EU-regulated market, such as FSE or Aim. However, the Government is proposing expanding this definition to also cover large private companies and large Alternative Investment Market-quoted (AIM) companies.

The clue is in the name. A larger company, even one which isn’t market-listed, will be of public interest and could have a significant impact on the public should it fail. By ‘larger companies’ they are referring to:

• Either; private companies with over 2,000 employees / turnover higher than £200m / assets above £2bn
• Or; companies with over 500 employees and a turnover of more than £500m
• And AIM companies with market capitalisation over £171m (EURO 200m)
• And Lloyds syndicates
• Not a charity or trust

“The largest private businesses have wide economic significance — often much greater than some listed companies — so designating them as public interest entities allows appropriate oversight to mitigate the risk of avoidable company failures and safeguard British jobs.” UK Government statement.

This important update could mean that many more businesses are affected by these regulations in the future – most of whom would not have experience of this area previously. But there is growing concern that this expansion could stifle company growth and innovation.

Managed Shared Audit

The proposals to overhaul auditing include the requirement to perform a Managed Shared Audit. Currently PIEs tend to use only he “Big Four ” accounting firms (KPMG, Deloite, PwC and EY). The changes would require smaller accounting firms to carry out a significant part of the audit. The “Big Four” would also be required to separate out their consulting and auditing businesses to reduce the risk of conflict of interest.

In addition, there is a new authority being set up, the Audit, Reporting and Governance Authority, to replace the Financial Reporting Council and regulate the auditing firms.

Director Accountability

The proposals will see more personal responsibility placed on company directors, and this is causing a bit of a stir. Most companies’ actions are controlled by shareholders, and so directors are accountable to them. But with more companies coming under the PIE umbrella it follows that directors would need to be accountable to shareholders and the public, if the company is really a Public Interest Entity.

Directors of failing companies could find themselves facing fines or suspensions if they have been negligent in carrying out their directorial duties. There are, of course, directors who deliberately withhold information from auditors, but for the most part we believe errors are accidental. The threat of being held personally responsible is likely to numbers of directors in the future.

Director and Shareholder Remuneration

We’ve all seen the shocking headlines detailing the bonuses paid to directors immediately before the company failed. Of course, this doesn’t sit well with anyone, as directors may take a huge bonus even knowing the company is mismanaged and about to go under.

The new regulations propose that the company could claim back up to 2 years worth of bonuses paid to directors in the event that the company fails. The aim being to crack down on the “reward for failure” opportunity that exists in large companies.

In addition, directors’ dividends and bonuses could be held back should the company be facing insolvency.