Ashurst Governance and Compliance Update Issue 5

1. GC100 poll: The 2021 AGM season and beyond

The GC100 has carried out a poll of its members and certain FTSE 250 companies to understand how companies have conducted their AGMs in 2021 and provide insight on what approach, if any, they are taking in relation to climate, sustainability and ESG issues generally.

59 FTSE 350 companies responded to the poll comprised of 35 FTSE 100 and 24 FTSE 250 companies. Key findings include:

Trends from the 2021 AGM season

• Almost 30 per cent of respondents categorised their 2021 AGM as a "hybrid" meeting. Three companies conducted fully virtual AGMs.
• 90 per cent invited questions in advance of the meeting, with 75 per cent intending to do the same next year.
• Over half of respondents noticed a decline in attendance compared with that prior to Covid-19

AGMs in 2022

• 88 per cent of respondents had authority to conduct hybrid and, in some cases, virtual AGMs.
• Almost half of respondents suggested that the hybrid model was the preferred format for future meetings. None of the respondents currently intend to hold virtual meetings next year.
• Obstacles to holding hybrid meetings include cost, risk of technology failure, resourcing and shareholder resistance.

Stakeholder engagement

• 59 per cent of respondents felt that the quality of stakeholder engagement had not increased.
• Almost 75 per cent indicated their preference to hold separate stakeholder events during the year rather than encouraging wider stakeholder engagement  (i.e. beyond shareholders) at the AGM.

Climate / ESG issues

• 77 per cent of respondents reported pressure from investors on ESG issues generally, with 57 per cent noting it in relation to climate-related matters.
• 16 per cent have a designated director with responsibility for sustainability issues.
• 88 per cent provide regular board briefings on climate, ESG and sustainability issues.
• Only five respondents (all of them FTSE 100 companies) are planning to offer shareholders a vote on climate transition plans at their next AGM, while 87 per cent do not believe the government should introduce a requirement for mandatory AGM resolutions on climate issues.

2. Interpreting UK MAR – ESMA updated Q&As provide insight on dealing with credit ratings

The European Securities and Markets Authority (ESMA) has published an updated version of its Q&As on the Market Abuse Regulation (Regulation 596/2014) (MAR). Three new Q&As confirm that:

• Credit ratings, rating outlooks and related information are presumed to constitute inside information until they are disclosed to the public.
• When a credit ratings agency discloses ratings and rating outlooks on its website, such disclosure means that the information ceases to be inside as it has been disclosed to the public.
• Where a ratings agency distributes ratings only to a list of subscribers, this still constitutes sufficient disclosure to mean that the information is no longer inside information as it has been made public, enabling those subscribers to trade on the back of it.

While the ESMA Q&As have not been incorporated into UK law post Brexit, the FCA still considers that they remain relevant to market participants when complying with their regulatory obligations, including the UK version of MAR.

3. FR Lab publishes report on risks, uncertainties, opportunities and scenarios

The Financial Reporting Lab (FR Lab) has published a report focused on the reporting of risks, uncertainties, opportunities and scenarios. Alongside the report, the FR Lab has also published a one-page summary and a podcast in which Ben Peters, Fund Manager at Evenlode Investment Management Ltd, and Thomas Toomse-Smith, Head of Innovation and Digital at the Financial Reporting Council (FRC) discuss potential areas for improvement in the disclosure of risks, how an understanding of risks and related topics assists investors in making assessments about a company’s longer-term prospects, how climate risk may reshape risk reporting and the value of business resilience reporting.

The FR Lab finds that there remains a gap between the information users want and the disclosures that organisations provide which it believes will widen with climate-related uncertainty and an increased demand for enhanced environmental, social and governance (ESG) reporting. Specifically, while companies generally communicate opportunities well, they fail to meet investors' needs as regards explaining the integration of opportunities and risks and giving a comprehensive understanding of risks.

The report focuses on what investors want to see and understand as regards: governance and processes; the nature of risks, uncertainties and opportunities; the approach to them – i.e how management are responding; and scenarios and stress testing. In each section, the report provides company-specific examples of disclosures that the FR Lab believes have better met investor needs.

To build on this work, the FR Lab is also inviting companies, investors and others to participate in a new project that seeks to understand the specific process and disclosure areas emerging around cyber, digital & data risk.

4. FRC reviews Streamlined Energy and Carbon Reporting

The FRC has published a thematic review of reporting on emissions, energy consumption and related matters under the Streamlined Energy and Carbon Reporting (SECR) rules which came into effect from 1 April 2019. The review follows the publication of the FRC's Climate Thematic Review in November 2020.

The review considered how a sample of companies and limited liability partnerships had complied with the new SECR requirements, identified examples of emerging good practice and outlined the FRC's expectations for future reporting.

While the sample of reports largely complied with the minimum statutory disclosure requirements, the FRC believes that more needs to be done to make these disclosures understandable and relevant for users. In particular, entities need to explain more clearly how information is calculated, which operations and emissions are included in their reported numbers and the level of third-party assurance obtained over the information. Relevant entities also need to consider how to integrate these disclosures with other narrative reporting on climate change, especially any emission-reduction targets.

5. ESEF: FR Lab publishes survey results and resources for companies

The FR Lab has published the results of a survey which demonstrates that UK companies have begun to put in place the right steps in order to meet the requirements for structured electronic reporting for annual financial reports under Disclosure Guidance and Transparency Rule (DTR) 4.1.14R of the Financial Conduct Authority (FCA) Handbook.

DTR 4.1.14 implements the requirements of the European Single Electronic Format (ESEF) regime in the UK and requires issuers with transferable securities admitted to trading on UK regulated markets to produce their annual financial reports in a structured electronic format for financial years starting on or after 1 January 2021.

While progress is being made, the survey reveals that there are still key outstanding actions for many companies, including testing the approach to ESEF reporting, mapping the annual report and engaging the board.

In order to help companies understand and implement the requirements, the Lab has also published a list of resources. It is also currently reviewing UK and EU ESEF filings of companies which have already reported under the ESEF regime, intending to publish a best practice report in October 2021.

6. The future of corporate reporting – FRC publishes feedback on discussion paper

The FRC has published a feedback statement on its October 2020 future of corporate reporting discussion paper which was issued to stimulate a debate about what the future of corporate reporting should look like. The paper set out a vision for a new principles-based framework for corporate reporting as a whole involving, among other things, a network of interconnected, objective-driven reports.

The statement notes strong support for the role of technology and the importance of non-financial reporting in any future corporate reporting model. There was broad support for a reporting model that accommodates the information needs of investors and wider stakeholders, the concept of a reporting network, the development of standards for non-financial reporting and the importance of businesses providing information on how they view their obligations in respect of the public interest (though support was more muted for achieving this by means of a Public Interest Report).

Respondents expressed mixed views on whether an objective-driven model that was neutral as regards the audience should replace the current model where the annual report prioritises the information needs of primary users, and raised concerns with how to determine materiality in such an objective-driven model. Respondents also called for the FRC to consider the practical challenges of implementing the proposals including the level of audit and assurance that would be needed over the different network reports.

As regards next steps, the FRC intend to progress the initiatives through a number of different channels with short, medium and long-term aspirations. It will also collaborate with other government departments, regulators and standard setters including ensuring that any steps the UK takes are consistent with international developments.

Short to medium-term next steps include: issuing principles for clear communication in corporate reporting; revising the FRC guidance on the strategic report; and promoting best practice in non-financial reporting. Medium to long-term next steps include: reviewing company websites and the key role they play in providing accessibility to corporate information; promoting opportunities to further digitalise reporting including through the development of eXtensible Business Reporting Language (XBRL) technologies; and developing a prototype of the reporting network reports to demonstrate the FRC's vision for them in a practical way.

7. FRC publishes list of signatories to the Stewardship Code

The FRC has published a list of successful signatories to the UK Stewardship Code following a review process which considered each organisations’ investment styles, sizes and types. Ultimately two-thirds of all applications (125 applicants) made the list, representing £20 trillion of assets under management.

The FRC received 189 applications from 147 asset managers, 28 asset owners, including pension funds and insurers, and 14 service providers, including data and information providers and investment consultants. According to the FRC, the successful applicants better demonstrated their commitment to stewardship.

The organisations that did not make the list commonly did not address all Code Principles or sufficiently evidence the practical manifestation of their approach to stewardship, instead relying too heavily on policy statements. Other areas of weakness identified included reporting on the approaches to review and assurance, and monitoring service providers.

Unsuccessful applicants can reapply in future application windows, the next opportunities being 31 October 2021 and 30 April 2022. To remain signatories, organisations will need to continue to improve their reporting as market practice and expectations evolve.

8. DB schemes, contribution notices and "notifiable events"

Groups with defined benefit pension schemes should take note of the changes being made to the regulatory landscape by the Pension Schemes Act 2021.

We have previously commented on the introduction of a number of criminal offences and changes to the contribution notice regime, which come into force on 1 October 2021.

Also from 1 October, the Pensions Regulator will have the power to fine a company or person up to £1m for knowingly or recklessly providing the trustees of a defined benefit scheme with information which is false or misleading in a material particular. While this will not be a criminal offence, it is concerning, and we suggest that extra care, and where appropriate, legal advice, should be taken when engaging with trustees of defined benefit schemes from 1 October.

The Government has also launched a consultation to make changes to the pensions "notifiable events" regime, under which companies with defined benefit pension schemes are required to notify the Pensions Regulator of certain events as soon as reasonably practicable after the event. The Government is proposing to shake up the regime, by requiring companies to notify the Regulator of certain events – including the proposed sale of a company (or its assets) which participates in a DB scheme, and the granting of security in priority to the pension scheme trustees – before the event takes place. Companies will also be required to provide an "accompanying statement" to the Regulator which must include a description of the event, any adverse effects of the event on the pension scheme, the steps taken to mitigate those adverse effects, and details of engagement with the trustees in relation to the event. This statement will also need to be provided to the trustees of the scheme.

The consultation is due to run until 27 October 2021, and the changes are expected to be finalised and come into force in 2022. If they come into force in their current form, companies with defined benefit schemes will, in many cases, need to consider the position of the pension scheme, and engage with the pension scheme trustees and Pensions Regulator, at an earlier stage of any transaction than is usual under current practice.

Item contributed by John Gordon, Head of our Pensions team

9. FRC publishes third Annual Enforcement Review

The FRC has published its third Annual Audit Quality Enforcement Review. The Review aims to provide a baseline for measuring future enforcement performance.

The FRC has also used the Review to highlight key themes identified in past enforcement cases, focusing this year on cases brought against qualified accountants working within companies who are responsible for preparing financial statements. In doing so, the FRC has identified four key themes:

• The fraudulent use of company funds.
• Misleading financial reporting by attempting to make a company appear more profitable, for example by fabricating revenue streams and recognising revenue too early.
• The unjustified inclusion of goodwill in a company's balance sheet.
• Misleading audit committees and auditors by withholding key information or providing false documents.

On a related note, the FRC has announced a consultation on proposals to update and strengthen significantly the Audit Firm Governance Code in support of the FRC’s objectives to promote high-quality audit and audit market resilience. The Code applies to the Big Four and to other firms auditing FTSE 350 companies. Going forward it will also apply to firms that audit significant numbers of other types of public interest entities. The FRC intends to strengthen the Code in the key areas of accountability and audit firm resilience, as well as reflecting recent developments in good governance practice. New provisions include criteria for the composition of audit firm boards and separate the roles of board chair and senior partner/chief executive, aligning the Code with the approach to governance taken in the UK Corporate Governance Code 2018. The FRC intends to publish a final version of the Code in Spring 2022 and anticipates that it will take effect for accounting periods beginning on or after 1 January 2023.

10. Private Members' Bill proposes worker representation on boards

The Employment Bill has been published on the UK Parliament website. It proposes, among other things, to amend the Companies Act 2006 in order to "bring the perspectives of workers to the boardroom" by requiring boards of qualifying companies to have at least one "worker representative director".

The Bill proposes, as regards qualifying companies, that regulations be made which:

• Require boards to have a minimum of worker representative directors comprising at least one third of the board.
• Make provision for the nomination (including by recognised trade unions) and election of workers as worker representative directors.

A qualifying company is one which either has 250 (or more) workers; has 100 (or more) workers who have triggered the right to have worker representative directors through a prescribed regulatory procedure; or, made a pre-tax profit of £2.5 million (or more) in the last year for which accounts are published.

The Bill is in the course of its second reading. Given that the Bill is a Private Members' Bill, it is unlikely to be passed into law. Further updates will be provided depending on the progress the Bill makes.

11. Notification of "uncertain tax treatments" to HMRC

We reported in AGC Issue 2 on the new policy, being introduced from April 2022, that will require large businesses to notify HMRC of "uncertain tax treatments" where the additional tax payable if the uncertain tax treatment ultimately proves to be incorrect exceeds £5 million.

Following further consultation, the government has published draft legislation (with accompanying guidance) on this measure which has made substantial changes to the proposals previously put forward, particularly in terms of the "triggers" for notification, which serve to identify to HMRC potential differences in interpretation or application of tax law.

The same businesses remain in scope, i.e. corporates, partnerships and LLPs, with either a turnover exceeding £200m or a balance sheet total over £2bn. Such businesses will now need to consider tax positions taken in their returns for the following "triggers".

1. A provision is recognised in the accounts in accordance with GAAP to reflect the probability that a different tax treatment will be applied to the transaction.

2. An interpretation or application of the law is not in accordance with how HMRC is known to interpret or apply the law.

3. It is reasonable to conclude that if a tribunal or court were to consider the tax treatment there is a substantial possibility that the treatment would be found to be incorrect in one or more material respects.

The guidance gives some clarification of these triggers, in particular what publications and communications with HMRC will be taken to contain its known positions (e.g. the HMRC manuals and Statements of Practice – although interestingly, submissions HMRC makes in litigation should not be taken to indicate its "known position" on any issue), and factors which indicate that the "substantial possibility" test has been met (e.g. different advisors recommend different tax treatments). Guidance is also given on all other aspects, including the £5 million threshold and exemptions.

Businesses within the scope of these rules will immediately need to put in place processes to identify when these triggers are met and a notification may be required. Any notifications will inevitably increase risk of challenge by HMRC. As far as possible, consideration of these rules should take place as part of the approval process before the relevant transaction is implemented.

While the government has requested feedback on the draft legislation, we would not now expect further significant changes before its inclusion in Finance Act 2022.

Item contributed by Nicholas Gardner, a Partner in our Tax team.

12. Minor amendments to the FCA Handbook proposed

The Financial Conduct Authority (FCA) is currently consulting on various minor amendments to its Handbook, including to the Prospectus Regulation Rules and Listing Rules to align them with changes to the FCA Knowledge Base relating to the prospectus regime that were proposed in its 34th Primary Market Bulletin.

Changes are also proposed to enable issuers to use a wider range of taxonomies for the 2021 and 2022 financial years when preparing annual financial reports in accordance with the European Single Electronic Format reporting regime under Transparency Rules / DTR 4.1.14R and the TD ESEF Regulation.

13. Companies House extends cut off time for using certain same day services

Companies House has updated its "Coronavirus: guidance for Companies House customers" to note that the cut off time for using its same day service for the electronic filing of a change of company name or to incorporate a company (software filing only) has been extended. Applications must be made by 3.00 pm on a particular day (previously 11.00 am). If applications are made after 3.00 pm, they will not be processed until the next working day.