Background
Financial crises and corporate failures have all contributed to the debate around, and reform of, corporate governance in the UK. The latest debate has been driven by the Government’s White Paper on Restoring Trust in Audit and Corporate Governance which followed a series of corporate failures in the UK including those of Patisserie Valerie, Carillion and BHS.
Following a consultation the Government has proposed reforms that will require changes to legislation and to existing standards and guidance, including the UK Corporate Governance Code. These changes cover the respective responsibilities of:
- Directors and their responsibilities for governance, internal control, and corporate reporting;
- Preparers of financial and non-financial information;
- Auditors and providers of assurance services, and actuaries.
The FRC will transition to becoming the Audit Reporting and Governance Authority (ARGA), to support the Government’s reforms.
Restoring Trust in Audit and Corporate Governance
The Government’s response to its’ consultation on ‘Restoring Trust in Audit and Corporate Governance’ included a proposal for focussed revisions to the UK Corporate Governance Code, and changes to Corporate Reporting. It also confirmed proposals to introduce new reporting requirements for Public Interest Entities (PIEs) and the development of a minimum standard for Audit Committees.
Public Interest Entities
The definition of a Public Interest Entity will include companies with over 750 employees and a turnover of over £750m. The following new requirements will apply to the so called 750:750 Companies:
- Annual Resilience Statement setting out how a company is managing risk over the short, medium and long term;
- Triennial Audit and Assurance Policy (AAP), explaining how the company proposes to assure non-financial reporting over the following 3 years;
- An Annual Statement about distributable profits and the company’s policy on distributions; and
- An Annual Statement on steps taken to prevent and detect material fraud.
Minimum Standards for Audit Committees
The FRC’s Minimum Standards for Audit Committees and the External Audit sets out requirements for the audit committees of all FTSE 350 companies. Sections of the Standard relating to the role and responsibilities of the Audit Committee overlap with the existing UK Corporate Governance Code. The FRC has proposed that they are removed from the Code and that the Code instead refers to the Standard.
Consultation on the UK Corporate Governance Code
In May 2023 the FRC launched its’ consultation on revisions to the UK Corporate Governance Code.
The changes are not a complete overhaul of the 2018 Code; they instead enhance focus on the areas of the Code that do not currently get the attention they deserve. The FRC is sending a message to Boards that this is about demonstrating their good governance through quality explanations, transparency and by providing stakeholders with decision useful information.
Who does this apply to and when?
The Code is to be adopted by companies voluntarily, or because they are required to do so by the Listing Rules. The revised Code will apply to accounting years commencing on or after 1 January 2025.
The FRC has acknowledged the overlap between the Government’s requirements for PIEs and the Code (as not all entities covered by the Code will be PIEs) and sets out how Boards should respond. Further details are given below.
What are the key changes?
The most significant proposed changes relate to Audit, Risk and Internal Control, and the Board’s responsibility for establishing effective risk management and internal control, and robustly reporting on their effectiveness throughout the reporting period.
The Code remains Principles based and its’ structure and sections; Board Leadership & Company Purpose, Division of Responsibilities, Composition, Succession & Evaluation, Audit, Risk & Internal Control, and Remuneration, are unchanged.
What does this all mean for Boards?
The proposed changes will likely require some work by Boards, and management, to implement and report on their good governance arrangements. Boards should be taking action now to assess their governance gaps in relation to the proposed revisions. (Further detail on the revisions is provided below).
Whilst some of the revisions may require fundamental change in how companies are governed (since demonstrably effective risk management and internal control systems do not happen overnight) the changes are also about giving stakeholders the information they need about how the company is governed. Boards should also be focussing on how they communicate effectively with their stakeholders through their reporting.
The key revisions given in more detail below
Associated FRC Guidance:
Separate Guidance will be produced by the FRC to support the revised Code, following the FRC’s engagement with stakeholders:
- Guidance on Audit Committees
- Guidance on Board Effectiveness
- Guidance on Risk Management, Internal Control and Related Financial and Business Reporting
Related requirements
- Economic Crime and Transparency Bill
The Economic Crime and Transparency Bill, tabled by the UK Government in June 2023, has confirmed its’ plans to include a failure-to-prevent fraud offence to hold organisations to account if they profit from fraud committed by their employees. Under the new offence it will not need to be demonstrated that company management knew about the fraud.
Only large organisations will be in scope defined (using the standard Companies Act 2006 definition) as those meeting two out of three of the following criteria: more than 250 employees, more than £36 million turnover and more than £18 million in total assets.
For further information on the steps Boards and management can take to prepare for the proposed reforms, please get in touch.
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