Five clear principles for governance reform

The Government will shortly publish its long-awaited consultation paper on the reform of the UK’s corporate governance regime and audit market, heralding the most fundamental reform of corporate governance this century. This is a generational opportunity to develop a corporate governance system underpinned by sound principles that will remain fit for purpose until 2050, result in a high level of confidence in our capital markets, and reinforce the UK's reputation as a destination for international listings.

For real long-term success, governance reform must be:

Balanced

First and foremost, the UK’s corporate governance regime must be balanced in its emphasis on enterprise and accountability. Promoting enterprise alone is akin to a trapeze artist performing without a safety net: with good fortune the performance may go well but the risk of catastrophic accidents is ever-present. Conversely, accountability on its own is the road to bureaucracy: balance is critical.

Proportionate

To generate trust and respect, a governance system must be proportionate in its scope. This is particularly relevant to the anticipated extension of the definition of Public Interest Entity (PIE) to some large private companies. Similarly, it relates to the nature of a likely UK version of Sarbanes-Oxley requiring directors of some companies to ‘attest’ reporting controls. To avoid an unwieldy increase in the number of PIEs, private companies should only be brought within the definition where there is a significant public interest dimension. For example, factors to consider might include companies being very large employers, having a significant legacy pension scheme or a crucial national or regional role rather than being solely determined by reference to their size based on financial criteria. Similarly, new rules on reporting controls should, at least initially, only apply to our largest listed companies and be introduced in a practical manner consistent with our UK corporate governance system which differs significantly from its US counterpart.

Preventative

We must also ensure our new corporate governance approach is more preventative in nature than at present. This should be supported by a new duty of alert, with the auditors mandated to inform the board, and in some circumstances the regulator, where they have concerns on the company’s direction. The regulator should also be able to intervene when necessary, though this would not be expected to occur very often, to prevent major problems occurring rather than having to wait until the train has left the tracks. A preventative approach also calls for a learning and improvement culture across the corporate and financial sectors.

Improvement orientated

As this year has shown like no other in living memory, an effective corporate governance model must also be dynamic and capable of responding to change. There is no doubt that change will be a constant, whether due to the impact of the pandemic, the ongoing impact of technology or shifts in attitudes towards sustainability. Governance must anticipate and adapt to remain relevant. Equally it is important that lessons are learned when governance, including audit, problems are identified in particular cases. 

Integrated

Moreover, there should be an integrated approach to corporate governance in which directors, auditors, investors and regulators each have clearly defined responsibilities. Furthermore, the optimum interlocking nature of these responsibilities should be fully considered and with a regular and fair assessment on how each is performing and of any improvements which are needed.

Full application of the above principles will generate widespread confidence in our reformed system of corporate governance and secure the wholehearted commitment of the most talented board members and auditors. This will be critical to its success. Much has been made of the UK’s world-class corporate governance system, but this largely relates to the well-drafted corporate governance code which exists only as text on a page. The challenge of the reform process will now be to bring it to life and to ensure the UK is also at the top of the international league table of corporate governance practice in the real world.