Government calls for UK public companies to disclose pay ratios

11th June 2018

As part of a series of corporate governance reforms announced last year, the Government disclosed plans to extend pay gap reporting further by requiring listed companies to publish and justify pay ratios between Chief Executives (CEOs) and their staff.

Today, draft regulations are published which aim to bring those reporting requirements into effect next year. The employee relations consequences could prove significant for public companies affected by these changes. What is less clear is how these changes might affect firms’ reputations and what the reaction of customers, workers, investors and other stakeholders might be in the court of public opinion.

Background

A gender pay gap is not the only aspect of pay differentials to have drawn significant attention and criticism in recent years; so too has the rising difference in pay between senior employees at the very top of organisations and those in more junior roles.  In one analysis published by the Equality Trust in 2017, it was suggested that the average FTSE CEO earns 386 times more than a worker on the national living wage.

The Financial Reporting Council noted in its proposed revisions to the Corporate Governance Code that rising levels of executive pay have contributed to public mistrust in business and it is this concern that the Government is attempting to tackle with these new regulations. Together with the remuneration proposals in the revised Corporate Governance Code (which will apply to accounting periods on or after 1 January 2019) it is hoped that there will be more robust scrutiny of executive pay.

In August 2017, in response to a Green Paper consultation, the Government published a package of corporate governance reforms, aimed principally at enhancing “transparency of big business to shareholders, employees and the public”. Specifically as regards pay, it proposed a new requirement that quoted companies should report annually the ratio of CEO pay to the average pay of their UK workforce, its context within the organisation and an explanation of changes to that ratio from year to year.

It seems that last year’s gender pay gap reporting regulations have provided a model for the Government to pursue its stated ambitions for extending pay gap reporting into this area.

Which companies will need to comply?

If today’s draft regulations are approved, which seems highly likely (in principle, if not in precise form), they will apply pay ratio reporting requirements to listed companies who are required by UK companies legislation to publish a directors’ remuneration report and who have an average number of UK 250+ employees in a financial year. Where the listed company is a parent company, the average number of UK employees means the number of UK employees within the group, which will require an aggregation of UK employees across subsidiary companies. This is the opposite approach to that taken by the recent gender pay gap reporting regulations, which measured the 250 employee threshold on a company-by-company basis.  It also appears that AIM-listed companies will not need to comply.

UK employee is defined in the draft regulations as “a person employed under a contract of service by the company, other than a person employed to work wholly or mainly outside the United Kingdom”.

The new regulations are expected to come into effect in early 2019, with pay ratios being included in directors’ remuneration reports published during 2020.

What will need to be reported?

Where the regulations apply, the director’s remuneration report for that company must include a table (in prescribed form), identifying:

  • the year in which the financial year ends
  • the method used to determine the disclosed figure for pay and benefits of those employees on the 25th, 50th and 75th percentile of pay and benefits in that year
  • its pay ratios.


The report must then go on to provide:

  • an explanation of why the company chose a particular method for calculating the pay ratios for the relevant financial year
  • clarification of any deliberate omissions and the reasons for them
  • a brief explanation of any assumptions or statistical modelling used to determiner full-time equivalent remuneration
  • an explanation for any increase or decrease in pay ratios from a previous year


From this information, published annually, the pay difference between the CEO and average workers will be apparent.

Finally, the directors’ remuneration report will need to set out specific information regarding company directors, including performance targets and an indication of maximum remuneration receivable (on certain assumptions). 

When will the new regulations be in force?

The new regulations are expected to come into effect in early 2019, with pay ratios being included in directors’ remuneration reports published during 2020.

A double-edged sword?

Although the pay information itself will be readily available to companies, the scale of reporting and need for calculation and explanation will inevitably prove time-consuming and need careful resourcing. If the information is to be meaningful, however, it is important that it is consistent and that pay comparisons can be made on a like for like basis.

It is estimated that some 900 listed companies will need to publish and justify pay ratios between their CEOs and workers as a result of these regulations. In principle, the reporting of this information has been well-received by many quarters. Even so, the eventual impact of publication remains to be seen. There are, after all, important differences between the nature and significance of this pay ratio information from other pay gap reporting. For a start, the degree of pay gap will affect an even greater percentage of an organisation’s workers, with a huge majority coming to realise a significant pay disparity with their bosses. While top salaries of the directors of these companies are already publicly available information and information must be provided in the company’s remuneration report about how pay is set, it has not been possible to easily identify the gap between the rates of pay for other workers. Managing a negative response, including a drop in morale by workers, may prove a considerable challenge for many organisations. 

Conversely, high-profile publication of this information also creates the potential risk of reputational kudos for some high flyers with senior executives being more aware of rival salary rates and earning opportunities.

The draft regulations may be viewed here:
The Companies (Miscellaneous Reporting) Regulations 2018

For more information and to discuss further, please contact Elizabeth Graves.

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