Directors' know how: what you should know about the upcoming changes

Directors' know how is a monthly article, which highlights key rule changes, proposed changes and market updates so that you know what is coming down the track.

FRC’s Financial Reporting Lab publishes implementation study on the disclosure of dividends

The FRC’s Financial Reporting Lab has published an implementation study, examining how companies have responded to investor calls for better disclosure of dividends, as highlighted in its November 2015 project report.

It found that, of the 177 FTSE 350 companies that published an annual report between November 2015 and July 2016, 28 companies improved their disclosure of dividends. The Lab identified four key areas where companies had enhanced disclosure:

1. Explaining the details of the dividend policy and how it is intended to operate;
2. Adding context on factors considered in adopting the policy, including the approach to capital management;
3. Explaining the relevance of dividend resources by either providing a distributable profits figure for the parent company, confirming the sufficiency of distributable profits (and for some cash) for dividends, or providing insight on the availability of distributable profits at the level of significant operations below the parent; and
4. Bringing together disclosure related to dividends.

This notwithstanding, the Lab advised companies seeking to improve their communication with investors to:

• Provide more detailed disclosure on how dividend policies operate in practice, with more clarity on factors considered in both the setting of the policy and in the dividend declaration; and
• Disclose the risks and constraints where they affect dividend policy and declaration decisions, especially regarding pension deficits, Brexit and any factor relating to capital management.

ESMA sets out new digital format for EU issuers’ financial reporting

ESMA has published its proposals for a new digital format, which issuers in the EU must use to report their company information from 1 January 2020.

Writing in its Feedback Statement to its European Single Electronic Format (ESEF) consultation paper, ESMA has determined that Inline XBRL is the most suitable technology for ESEF because it enables both machine and human readability in one document. This digital format will enable users to conduct software-supported analysis, as well as compare large amounts of financial information at one time.

Furthermore, ESMA concluded that:

• Issuers must prepare their annual financial reports in the human readable XHTML (Extensible Hyper Text Mark-up Language) format, which can be read by standard browsers without the need for specialised tools;
• Only where annual financial reports contain IFRS consolidated financial statements must issuers label this information using XBRL (Extensible Business Reporting Language), which is machine-readable. The XBRL data is embedded directly into the XHTML document through the Inline XBRL format; and
• The IFRS Foundation’s Taxonomy should be used to transfer financial information into structured data for the electronic reporting of IFRS financial statements.

In the meantime, ESMA will develop technical rules and field test its proposed solution, before submitting the technical standard to the European Commission for endorsement by the end of 2017.

FRC publishes developments in corporate governance and stewardship

The FRC has published a report on the impact and implementation of the UK Corporate Governance and Stewardship Codes during the last twelve months. The report found that UK Corporate Governance Code compliance remains high, with 90% of FTSE 350 companies complying with all, or all but one or two, of the Code’s 54 provisions. Full compliance also rose from 57% in 2015 to 62% in 2016.

Nonetheless, the FRC’s report contained the following messages:

• Independent non-executive directors still do not often compose at least 50% of boards – This was the provision most frequently not complied with. This has subsequent effects on a company’s ability to comply with provisions relating to committee memberships.
• Too many explanations regarding the principle of comply or explain were of poor quality – Companies should explain how an alternative approach is consistent with the relevant Code provision and whether it is time limited.
• Investors remain concerned about a lack of transparency regarding the link between executive pay and performance – However the majority of FTSE 350 companies now have arrangements to enable them to recover or with old variable pay; 91% have some form of malus and/or clawback provisions on the annual bonus and 78% on long-term plans.
• Regarding board succession planning, most companies are providing basic descriptions of their policy and practice with little further elaboration – This could indicate that companies are not spending enough time considering board and senior management succession.
• Nomination committees should play a more active role in the alignment of board composition with company strategy – This will ensure that the board has the necessary skills to ensure its long-term success.
• Boards need to be better informed about the link between diversity, strategy and business values – Diversity should be considered as a broad concept to encourage diverse thinking and avoid the dangers of ‘group-think’.
• Annual general meetings are still too focussed on remuneration – This can overshadow broader discussions around performance and strategy.
• Some investors seek more disclosure on a broader range of risks where these are relevant to the company – These include cybersecurity and climate change. Where cybersecurity poses a material risk, companies should report this in its statement of principal risks, along with details of mitigating action taken.

In light of the Government’s Green Paper on corporate governance reform, the FRC confirmed that it will consult on changes to the UK Corporate Governance Code during 2017. It will also consider changes to its guidance on Board Effectiveness and the Strategic Report.