In January 2024, the Financial Reporting Council (FRC) published a new set of governance rules for company directors, watering down its original proposals to protect competitiveness. The reforms, which come into effect from 1 January 2025, align with the overhaul of the UK listings regime by the Financial Conduct Authority (FCA), announced in July 2024.
The move demonstrates the tension between improving governance rules following high-profile corporate failures and addressing the slump in the number of companies listing in the UK.
‘The lighter-touch requirements will require more strategic thinking from boards’
Roger Barker, at the Institute of Directors, says: ‘The listing reform was moving in one direction – making London more competitive – and corporate governance reform was moving in a slightly different direction in response to various scandals.’
Listings boost
Despite the FCA junking its plans for enhanced diversity reporting, new audit committee responsibilities, and shareholder votes on significant transactions, the ability of directors to discharge their responsibilities remains in the spotlight.
In the biggest change to the UK listings regime in over three decades, the FCA introduced a single category for UK or overseas companies with a primary listing in London and streamlined eligibility for companies seeking to list on the London Stock Exchange.
The new FCA rules, which came into force in July 2024, reduce the eligibility requirements for the new equity shares (commercial companies) category, remove the need for shareholder votes on significant or related party transactions, and offer flexibility on enhanced voting rights.
The changes will increase boards’ ‘operational flexibility, tempo and opportunity to make decisions on material deals without having to put it through those very extensive processes’, says Ian Massey, head of corporate intelligence at consultancy S-RM. ‘That objective of stimulating transaction activity is going to enhance the power but also the responsibility of boards of directors.’
Directors’ decision-making around risk assessments ‘will be much more impactful and acute’
Significant transactions
‘The lighter-touch requirements will require more strategic thinking from boards towards shareholders’ perception of management decisions,’ says Sam Meiklejohn, partner in equity capital markets at Gateley Legal. ‘Directors will need to give more thought about whether a transaction will be supported by shareholders, and keep them informed of the transaction, its impact and how the company will fulfil its obligations under the listings rules.’
How significant transactions are governed and directors’ decision-making around risk assessments and the work that should be done around the transactions ‘will be much more impactful and acute’, according to Richard Thornhill, a senior partner in Deloitte’s equity capital markets team.
The reforms take away the FCA document process and a lot of the interaction with lawyers and investment banks for significant transactions. Much of the independent and specialist work that previously had to be undertaken is therefore no longer required.
However, directors still have their responsibilities under the Companies Act and the corporate governance code. ‘Governance around those decisions and how they are documented and therefore directors justifying how they approach a particular transaction will become of greater importance,’ Thornhill says.
As regulation shrinks, new governance expectations may start to emerge
Weighted voting
The FCA has also liberalised the restrictions on weighted voting for premium listed companies by allowing weighted votes to be conferred on employees and other pre-IPO investors in addition to directors.
The new rules also no longer require a company to secure operational independence undertakings from a ‘controlling shareholder’ – one who holds 30% or more of the voting rights in a ‘relationship’ or ‘controlling shareholder’ agreement.
As regulation shrinks, new governance expectations may start to emerge, says Kate Higgins, partner at Mishcon de Reya. ‘Where a company has a controlling shareholder or founder shareholders with weighted voting, there will likely be more investor focus on corporate governance systems.’ For example, there may be greater pressure on independent directors to show they are holding the executive to account.
Likewise, there may be more need for shareholder consultation in relation to the removal of the related party and shareholder approval requirements for class 1 transactions. ‘If you don’t consult your investor base and then go on an acquisition spree that the shareholders don’t like, or it all goes horribly wrong, investors are going to be considering a vote against executive or remuneration resolutions at your AGM,’ Higgins points out.
The concentration of decision-making authority may spur shareholder activism
The combination of a dual-class shareholder structure, weighted voting rights and the relaxation of the significant transaction regime could spur shareholder activism because of the concentration of decision-making authority among a smaller pool of shareholders or directors.
‘You might see a perception that decisions are being made by small groups of people without the checks and balances the London exchanges have become so used to,’ Massey says.
Internal controls
Directors will also need to provide more information about internal control frameworks as part of corporate governance code changes due to come into force on 1 January 2026.
Under the changes, boards should monitor the company’s risk management and internal control framework and, at least annually, review its effectiveness and provide a description in the annual report of how this was done.
Boards must provide a description of how they monitored and reviewed the effectiveness of the framework, a declaration of effectiveness of the material controls at the balance sheet date, and the action taken or proposed to address any deficiencies.
What is material will be different for different subsidiaries and countries
What is material will depend on the scale and complexity of the organisation and will be different for different subsidiaries and countries, says David Duffy, chair of the Corporate Governance Institute. For instance, internal controls around cash management will be material for a life insurance company processing hundreds of thousands of transactions a day, while for a large property company it could be around the rate of return on property .
‘A material internal control is something that could have a significant impact on the business if it isn’t managed properly,’ Duffy says. ‘For a large multinational company with subsidiaries all around the world this is significant.’
Barker says: ‘There has been a subtle shift in language away from directors overseeing implementation of an internal control framework to how they implement them and whether they feel an internal control framework is fit for purpose or not. They have to take ownership.’
More information
See AB's interview with FRC CEO Richard Moriarty, and AB coverage on governance failings, 'Governance lessons from the Post Office', and Can insolvency practitioners to more, as well as some background to the changes in 'Bad timing for reform row-back'
