Shocking But Not Surprising: 2018 Corporate Governance Code Early Adopter Failings
In the UK the Financial Reporting Council (FRC) published the 2018 UK Corporate Governance Code (2018 Code) in July of that year. The guidance it offered represented a radical change to the earlier version (2016), and it came into effect in January 2019. We will have to wait until the annual reports have been published this year to see how effective the changes have been, but the early indications are not good.
Each year the FRC publishes The Annual Review of the UK Corporate Governance Code. The latest version, covering 2019’s annual reports was published in January. It includes an early assessment of the adoption of the new code by 82 entities. It found, “In relation to early adoption of the 2018 Code, the quality of reporting was mixed”.
Principle B of the 2018 Code states that, ‘the board should establish the company’s purpose, values, and strategy, and satisfy itself that these and its culture are aligned’. The review found, “There was a tendency to conflate mission and vision with purpose; normally, mission and vision rely on a company’s purpose to provide the reasons behind their goals. Too many companies substituted what appeared to be a slogan or marketing line for their purpose or restricted it to achieving shareholder returns and profit”. The report adds, “This approach is not acceptable for the 2018 Code. Reporting in these ways suggests that many companies have not fully considered purpose and its importance in relation to culture and strategy, nor have they sufficiently considered the views of stakeholders in their purpose statements”.
On the topic of corporate culture, the review says “It was disappointing that only a small number of boards disclosed that they already receive reports on culture to aid discussions, especially as the importance of corporate culture was raised by the FRC more than three years ago. Moreover, only a few reported that it had a specific agenda item on alignment of culture with values and strategy. The lack of this level of discussion at board level perhaps links back to some of the poorer articulations or company purpose”.
The review goes on to express concern about the effectiveness of delegating to a committee the role of leading on culture, linking culture to the issue of diversity, and about the choice of metrics being considered to monitor culture. Then, on employee engagement the review says, “It is not clear from this year’s reporting how much thought was given to the effectiveness of the method chosen. There was little analysis of whether the likely method for engagement was the best one for the company to ensure that boards were made aware of key issues raised by the workforce. It was also unclear whether the board were able to feed back their views and decisions once made”.
The review goes on to warn, “the board should understand the views of the company’s other key stakeholders and describe in the annual report how their interests… have been considered in board discussions and decision making’. 2020 reports should make it clear how the methods used have achieved the objective of this Provision and include details or real examples of what a company has done to consider and if appropriate take forward matters raised by the workforce”. In this context the FRC supports advice given from EY which states “boards should clearly establish the strategic issues on which they wish to obtain stakeholder input and feedback. Reporting must cover the concerns raised by stakeholders, how companies have understood the issues, and how they have thought carefully about how these impact on the long-term success of the company”. The report then goes on to discuss issues such as Chair Tenure, Succession Planning, Diversity and Remuneration.
Back in July 2018 when the new code was published, I wrote an article suggesting boards would struggle to meet the new guidelines. My views were later confirmed in conversations with a number of directors, executives and heads of investor relations in large listed businesses. One Chair said not a single company he has ever been on the board of would be able to comply with the new guidelines.
If we take account of both the guidance from the FRC and all the other new reporting initiatives (more than 50) including the integrated reporting projects, it should come as no surprise that boards are daunted by the challenges. Whilst well intentioned all the new demands are causing a good deal of confusion. This confusion extends to investors who tell me they, like boards, are unsure which initiatives to take seriously. Directors have told me that they are guessing what investors are taking seriously. And investors have told me they are guessing what boards are taking seriously.
The current situation does not make for good stewardship by investors, governance by boards or strategic thinking, decision making and execution by executives. As I wrote recently, it sometimes seems like the blind leading the blind, and it is the reason I am starting a new publication On-Board: An Inquiry into Effective Executive, Board, Investor and Stakeholder Dynamics.
In truth, the problems are many, they are systemic and they are interdependent. The quality of management theory and practice, leadership styles and current accounting standards are a few of the factors that need to be addressed. Some are being addressed, but far too slowly and not in an interdisciplinary way. As with the long established concept of integrated reporting (IR), neither CEO’s or Boards have the competencies, capabilities, systems, structure, culture and mindset to do what is being expected of them. For example, how could integrated reporting happen before integrated thinking is a standard practice — which is still not the case.
In addition to the reporting requirements making leadership an increasingly daunting challenge, there are many other Factors as The Economist magazine acknowledges in is 7th February Issue which leads with “What does it take to be a CEO in the 2020's”. And here is my take on that.
All Directors, CEOs and other Executives could benefit from the insights of the 12 world-class speakers who will speak at the conference being run by the Strategic Management Forum on 9th March in London. The topic is “UNDAUNTED: How Successful Leaders Face Up to Wicked Problems and Avoid Predictable Surprises”. Read the details and reserve a place. You might also like to read my other publication on Medium, Undaunted Leaders
