HPC, together with other investors and pay analysts, writes to regulator over concerns that companies are not fully complying with regulations on executive pay. Regulator responds to our concerns
A group including the High Pay Centre, plus leading investor groups and pay analysts, wrote to the Financial Reporting Review Panel to express concern that companies do not take pay for ordinary workers into account when setting executive pay. FTSE 100 Chief Executives’ pay has increased from 47 times that of their employees in 1998 to 133 times in 2012. There are a number of regulations aimed at ensuring bosses’ pay does not race away from that of ordinary workers. While the High Pay Centre has consistently argued for improvements to the regulations, it is also important that companies and regulators fully comply and enforce the existing rules.
Update: In a meeting with the High Pay Centre on Tues 25 March, Richard Fleck from the Financial Reporting Review Panel said he was reflecting on the points made in our letter. He agreed to look into the issue and said he would think about the way to handle it, as well as take a holistic view of it within the wider Financial Reporting Council. He said he expected to come back to us before the end of April with some thinking on a way to take it forward.
The full text of our letter is as follows:
Chairman, Financial Reporting Review Panel, Financial Reporting Council,
Aldwych House, 71 – 91 Aldwych,
London, WC2B 4HN
17 March 2014
Dear Mr Fleck
We are writing to you to make a formal complaint regarding compliance with regulations governing the reporting of executive pay policy. Our research suggests that many companies are already breaking The Large and Medium-sized Companies and Groups (Accounts and Reports) (Amendment) Regulations 2013 introduced last year, as well as previous measures contained within the Corporate Governance Code and The Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008.
We believe it is essential that the FRRP takes strong action to ensure that these regulations are effective in protecting the interests of investors and the UK economy by ensuring that top executives are not disproportionately rewarded for their work in comparison with ordinary employees.
The Corporate Governance Code currently requires listed companies to ‘be sensitive to pay and conditions elsewhere in the workforce when setting executive pay.’ This principle is clearly intended to ensure that the pay gap between top executives and ordinary workers does not widen. It is supported by legislation in The Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008 stating that ‘the directors’ remuneration report must contain a statement of how pay and employment conditions of employees of the company and of other undertakings within the same group as the company were taken into account when determining directors’ remuneration for the relevant financial year.’
Research undertaken by the High Pay Centre found that the pay for the average FTSE 100 executive has increased at around double the rate of pay for the average FTSE 100 company employee. This suggests that, in general, companies are failing to show sensitivity to the wider workforce.
‘Boilerplate’ reporting against the Corporate Governance Code and the 2008 regulations has arguably facilitated this process, and may warrant investigation by the FRRP. Analysis of individual annual reports suggests that many firms claim that pay across the workforce is a consideration when setting executive pay, but provide little supporting evidence of how the employees’ perspective is taken into account. Examples of statements that, in our view, do not fully demonstrate how pay and conditions for employees were considered in relation to executive pay include:
- ‘Reviews consider general economic conditions and salary reviews across the rest of the Group.’ (BHP Billiton)
- ‘The committee also considered the level of pay increases for executives below board level, as well as different employee groups across the business.’ (BP)
- ‘In determining remuneration policy, the Remuneration Committee is mindful of… the approach to pay and conditions taken within the Group’(Morrisons)
It is questionable whether bland pronouncements of this kind represent compliance with the Corporate Governance Code or the Large and Medium-sized Companies and Groups (Accounts and Reports) Regulations 2008 – stating that you have shown sensitivity to pay and conditions across the workforce is not the same as actually doing so, or showing how you have done so. Where companies have compared pay for employees and executives, this usually refers only to base salary, even though the 2008 regulations imply that companies should relate to ‘remuneration’ not just salaries, which comprise a fraction of total pay for executives.
The Large and Medium-sized Companies and Groups (Accounts and Reports) (Amendment) Regulations 2013 could help address this problem, as they require companies to compare pay increases for executives with the wider workforce, stating that: The directors’ remuneration report must set out (in a manner which permits comparison) in relation to each of the kinds of remuneration required to be set out in each of the columns headed “a”, “b” and “c” of the single total figure table the following information –
a) the percentage change from the financial year preceding the relevant financial year in respect of the director undertaking the role of the chief executive officer; and
b) the average percentage change from the financial year preceding the relevant financial year in respect of the employees of the company taken as a whole
The regulations also state that ‘where a comparator group comprising the employees taken as a whole is considered by the company as an inappropriate comparator group of employees, the company may use such other comparator group of employees as the company identifies, provided the report contains a statement setting out why that group was chosen.’ However, this should not be exploited as a get-out clause.
There are still a number of concerns regarding compliance that ought to be of interest to the FRRP. Some FTSE 100 firms have already produced reports that are subject to the new regulations, with most recording increases in Chief Executive’s total pay far beyond what ordinary workers might expect. We have identified two firms that have exploited the clause allowing for alternative comparator groups to a point that surely contravenes the spirit of the regulations:
- Sage Group compares the change in executive pay with pay for 1,200 UK managers, less than 10% of total employees
- TUI chose a comparator group of just 94 managers, less than 0.2% of their 55,000 employees
The regulations seem intended to improve transparency regarding the growth of executive pay in relation to wage increases for ordinary workers, and the extent to which a handful of executives take most reward for the achievements of an entire company. Comparisons that exclude 90% or even 99%, of a workforce surely invalidate this aim. The fact that other companies have used their global or UK-wide employee base suggests that Sage and particularly TUI have chosen a needlessly narrow comparator group. Both companies describe senior managers as the most ‘relevant’ comparison, possibly because they also receive generous bonuses and therefore make their CEO’s pay package seem less egregious. This was not the intent of the regulations
A cavalier attitude towards pay differentials and the regulations intended to contain them creates significant risk to employee morale in some of the UK’s key companies and is harmful to trust in business more generally. It also widens the gap between the super-rich and everybody else to socially and economically destructive levels, while research suggests that wide pay dispersal within companies has a detrimental effect on performance. As such, there is a clear responsibility on the FRRP to intervene.
Thank you for taking the time to read this letter. We would welcome a meeting with you to discuss in more detail, if this is of interest.
Director, the High Pay Centre
Chair, Local Authority Pension Fund Forum
Managing Director, Pensions and Investment Research Consultants
Trade Union Share Owners
Chief Executive, ShareAction
Trust Secretary, Joseph Rowntree Charitable Trust
Chair, Friends Provident Foundation
Chair, Barrow Cadbury Trust