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Directors’ Pay

Volume 737: debated on Wednesday 20 June 2012


With your Lordships’ permission, I should like to repeat a Statement made by my right honourable friend the Secretary of State for Business, Innovation and Skills in another place today.

“I welcome this opportunity to set out the Government’s proposals on directors’ pay. This follows extensive consultation with business and investors.

Since I first addressed the House on this issue, the Government have initiated a broad, national debate about shareholder activism. This has encouraged shareholders to become more engaged as owners of their companies during the so-called ‘shareholder spring’. We have also seen many companies engaging constructively in the face of this opposition. This is an important step for encouraging improved pay discipline.

As I said then, there is compelling evidence of a disconnect between pay and performance in large UK-listed companies. It is right that the Government act to address this clear market failure. Today, I can therefore announce a far-reaching package of reforms that will strengthen the hand of shareholders to challenge excessive pay while not imposing unnecessary regulatory burdens.

We will give shareholders new powers to hold companies to account on the structure and level of pay, and make it easier to understand what directors are earning and how this links to company strategy and performance. Shareholders will have a binding vote on a company’s pay policy, including their approach to exit payments. Rather than being a one-off vote, for the first time this will be a real, lasting and binding control on pay. A company will be able to make payments only within the limits that have been approved by a majority of shareholders. This binding vote will happen annually unless companies choose to leave their pay policy unchanged, in which case the vote will happen at a minimum every three years. This will encourage companies to set out and stick to a clear, long-term pay strategy, and it will help to put a brake on the annual upward pay ratchet.

The policy should explain clearly how pay supports the strategic objectives of the company and include better information on how directors’ pay relates to that of the wider workforce. This includes increased transparency on employee pay, including information that will show the difference between rises in directors’ pay and those of the employees. Employee views on pay are important. That is why I am proposing that companies report on whether they have taken steps to seek the views of their workforce.

As part of their policy, companies will have to spell out their approach to exit payments. When a director leaves, the company must publish a statement explaining to shareholders exactly what payments the director has received. Companies will not be able to pay more than the shareholders agree.

Alongside the binding vote on policy, there will, as now, be an annual advisory vote on how the policy has been implemented, including all remuneration paid in the previous year. If a company fails the advisory vote, this will automatically trigger a binding vote on policy the following year. Both the binding and advisory votes should be as strong as possible to keep up pressure on companies. I therefore welcome the CBI’s call for the Financial Reporting Council’s corporate governance code to be updated to codify the current best practice that companies make a statement when a significant minority of shareholders vote against a pay resolution. This would publicly hold directors to account. Pay reports will be clearer and more transparent for investors. Companies will have to report a single figure of the total pay that directors received for the year, details of whether they met performance measures and a comparison between company performance and chief executive’s pay.

The Government will bring forward amendments to the Enterprise and Regulatory Reform Bill shortly to introduce these reforms. In tandem, and as good policy-making requires, we will publish, for comment, revised and simplified regulations setting out what companies must report on directors’ pay. Lasting reform is dependent on both business and investors maintaining this activism and developing and adopting good practice.

The best companies and investors are already leading the way and acting as early adopters of these reforms. We welcome the close engagement of institutional shareholders and their willingness to use their voting powers. We want this to be sustained and shall continue to monitor disclosure levels. Evidence suggests that more institutional investors are disclosing their voting records and that up to three-quarters of those investors are now disclosing their votes. We will consider further action if the number of investors volunteering to disclose their voting records does not continue to increase.

This is a strong package of reform. It builds on the United Kingdom’s status as a global leader in corporate governance; it commands wide support from investors and business; and it addresses public concerns about directors’ pay. These proposals restore a stronger, clearer link between pay and performance; reduce rewards for failure; promote better engagement between companies and shareholders; and, overall, empower shareholders to hold companies to account through binding votes. We look forward to discussing these proposals further with the Business, Innovation and Skills Select Committee on 28 June and in the Public Bill Committee that will consider the Enterprise and Regulatory Reform Bill”.

My Lords, that concludes the Statement.

My Lords, I thank the Minister for repeating the Statement made earlier in another place. In January this year, the Prime Minister said on the Marr programme:

“it’s the excessive growth in payment unrelated to success that’s frankly ripping off the shareholder and the customer and is crony capitalism and is wrong. And it’s also—I think a key point—payments for failure, those big rewards when people fail, I think make people’s blood boil and again is actually taking money from the owners of the company, the shareholders and everyone with a pension in Britain … I think you know what we should be doing here is what are the best market tools to try and correct this market failure and I think transparency is a key tool, so we can all see what’s happening, and then clear votes so you’re empowering the shareholder”.

In March, the Secretary of State for Business, Innovation and Skills announced in a Written Ministerial Statement a public consultation,

“that provides more detail on a model which will give shareholders greater influence on the issue of executive remuneration. The main components of this are … An annual binding vote on future remuneration policy … Increasing the level of support required on votes on future remuneration policy … An annual advisory vote on how remuneration policy has been implemented in the previous year … A binding vote on exit payments over one year’s salary”.

We supported this initiative, building as it does on work done by the previous Government in 2002. So, today, we are happy to confirm our support for much of what is in the Statement, including the binding shareholder vote on exit payments, the measures to simplify pay reports to increase transparency, and an annual advisory vote on how remuneration policy has been implemented in the previous year.

What has happened to the brave new world outlined by the Prime Minister in January and echoed by the Secretary of State in March? In March, an annual binding vote on future remuneration was one of the “main components” of the Secretary of State’s plan to give shareholders greater influence. This has been watered down to one vote every three years, unless during that three years there is a change to the policy. But will that not simply incentivise boards to draft policy as broadly as possible so as to avoid anything more than a triennial vote? Who will be the arbiter as to whether there has been a change of policy in each company—the board or the shareholders? Bureaucracy has been raised as an objection to an annual vote, but given that there will still be annual advisory votes on the implementation of remuneration policy in the previous year alongside other annual votes such as the election of directors, surely that objection simply does not hold water.

Secondly, the Government proposed to increase the majority required for the pay policy to be approved, but in the Statement the Government have reverted to a simple majority. We believe that they should have gone for a 75% threshold; as Dominic Rossi, the chief investment officer of Fidelity Worldwide Investment has said, such a threshold would ensure that companies consult widely with shareholders prior to a vote and give companies a clear mandate, and the need for a clear majority would also encourage all shareholders to express their views. Why did the Government not take heed of this advice?

Thirdly, the Statement says that,

“employee views on pay are important”.

If that is the case, why has the proposal been limited to companies reporting,

“on whether they have taken steps to seek the views of their workforce”?

Will the Minister explain why the Government have not introduced the requirement for employee representatives to sit on board remuneration committees?

In the accompanying Directors Pay: Guide to Government Reforms, published today, the Government say:

“Over the last decade, directors’ pay in the UK’s largest listed companies has quadrupled with no clear link to company performance. Business leaders and investors now agree that this is a problem. Key stakeholders have spoken out in favour of action”.

Sir Roger Carr, president of the CBI, is quoted as saying in May 2012:

“In the way we pay ourselves … now is the time to be more transparent, more responsible and more accountable. High pay must be for exceptional performance, not mere attendance”.

Simon Walker, director-general of the IoD, is quoted as saying in March 2012:

“The level of executive pay at the UK’s largest companies has become unjustifiable over the last decade and it’s right that the Government recognises that it is shareholders who have the power to control it”,

and Otto Thoresen, director-general of the ABI, is quoted as saying in April 2012 that,

“the days of gold-plated payouts for failed leaders are coming to an end. We have the chance to agree a new set of rules focused on greater simplicity, greater transparency and genuine reward for performance. It is an opportunity we must take”.

Those are powerful comments, made by key stakeholders, and the Government should take careful heed of what is being said.

I note that the Government are claiming credit for a growth in shareholder activism. Indeed, “success has many fathers”. In the so-called shareholders’ spring, shareholders have been flexing their muscles and exercising their current, albeit restricted, rights with some verve this year. That is very welcome. Change and reform must be shareholder led—it is they who own our businesses—and surely we in Parliament should do what we can to empower and encourage them as much as possible.

There is the whiff of a U-turn in the air. The Government have talked up what they were intending to do in this area, but in the event they have failed to deliver, as the final proposals are, to be frank, a bit limp. They are certainly not the strong package of reforms, but they could become that. As the Statement indicates, this is not the last chance we will have to discuss these topics. We look forward to debating the amendments to the Enterprise and Regulatory Reform Bill, which will give these proposals legislative effect, in your Lordships’ House in the not too distant future.

My Lords, I thank the noble Lord, Lord Stevenson, for his support for some of the things that we have done. Obviously he feels that we have not gone far enough, which is what I expected him to say. Of course, that allows me to say that in all the years that his Government were in power, they did not do any of this. Therefore, I hope that he will feel that we have at least made a decent start and will encourage us as much as he can.

I will answer some of his questions. We consulted extensively with business and investors. The Association of British Insurers today said that the package was practical and workable, and would help investors tackle excessive pay. I know Sir Roger Carr very well. I was on the board of Cadbury Schweppes with him, and we were also—I think—on the Audit Committee and the Remuneration Committee at the same time, so he and I have some history, and I am sure that we will agree over the years.

The noble Lord asked why we had gone for a binding vote and why we had changed the time period from three years. Shareholders will get a binding vote on a company’s pay policy, as we said, including on exit payments. This binding vote will happen annually unless companies choose to leave their pay policy unchanged, in which case the vote will happen at least every three years. The idea on consultation was that it would encourage companies to set out long-term pay policies clearly linked to company strategy rather than short-term, one-year pay policies. We hope that it will put a brake on continuous upward pay ratchets. However, we will watch and see whether it succeeds.

On employee representation, we have acknowledged that employees’ views on pay are important. That is why I proposed that companies should report on whether they have sought the views of the workforce. We will monitor this very carefully. As for employees on boards, nothing stops companies doing this already, but we are not saying that it should be enforced—we do not believe in mandating this across all firms. We hope that the things that we put forward today will give people confidence to go forward, and certainly will give confidence to employees, who have a lot of powers that they have not yet used, which are similar to those of shareholders who have gone forward and said, “Enough is enough”.

My Lords, perhaps I may remind the House of the benefit of short questions to the Minister, in order that she may answer as many as possible.

My Lords, I thank the noble Baroness for introducing this important Statement. I have three questions. First, does she accept that the Statement applies almost entirely to companies owned and run with employees in the UK? What is her view on the large number of FTSE 100 companies that have shareholders and employees primarily outside the United Kingdom? The Statement says that there has been a broad national debate about shareholder activism. Has any consultation taken place with companies run from Kazakhstan or the United States that are UK FTSE 100 companies? How does she think these proposals will go down with them?

Secondly, I will touch on the question of exit payments that was raised by the noble Lord, Lord Stevenson. I support and understand the Government’s position that they do not wish shareholders to have the right to veto the individual contracts of people who are taken on for employment, but I am not entirely sure that that should apply to exit payments. Contrasting the Statement in my left hand with the Explanatory Notes in my right, there seems to be a slight confusion. The Statement says that on exit payments, companies will not be able to pay more than shareholders agree. Will the Minister confirm that that is not exactly true? The proposal is that the company will say something like, “We will never pay more than two years’ salary in an exit payment”, or, “We will never pay more than the contractual entitlement of the employee”, or, “We will reward performance but not lack of performance”. Does the Minister agree that the Statement is slightly misleading in suggesting that shareholders have a right to veto exit payments?

The third point is slightly facetious, and the Minister may well have answered it already. As we know, her Secretary of State has been described in the Daily Telegraph by Mr Adrian Beecroft as a crypto-socialist. The criticism that the noble Lord, Lord Stevenson, has made has probably proved that that is not the case. Will the Minister confirm that, as far as she is aware, the business community broadly welcomes these Statements and regard them as coming from a Secretary of State who is significantly pro-business?

In answer to my noble friend’s first question, company law captures only UK companies. However, overseas companies must comply with the listing rules. We will work with the FSA to consider how the listing rules need to change in view of these reforms. I hope that is a helpful answer. In answer to his second question, companies will be able to make exit payments only within the envelope that shareholders have approved and it will be up to the shareholders to agree.

I cannot imagine that my Secretary of State was ever called a crypto-socialist by anybody—was he? I know that business very much welcomes what we are doing at the moment. Shareholders and business welcome it, and it is with them that we have been talking and negotiating to make sure that we can put this into the Bill that is coming up and that we can introduce secondary legislation so that we can get this moving as soon as possible. Everybody seems to agree that things must change.

My Lords, did the Minister hear the discussion on Radio 4 this morning in which one company chief executive reminded us of the fuss there was 10 years ago when the salary of the chief executive of British Gas reached £460,000? Is she surprised that, 10 years later, when FTSE chief executives have an average salary of 10 times that amount, this Statement smacks somewhat of closing the door after the horse has bolted? It is not sufficient just to deal with the present problem because the proposals that are being made build in the inequity that exists at the present time.

When the Minister talks about pay, precisely what is she talking about? Is she talking about total emoluments, of all sorts—pay, share options, shares, accommodation provided; the whole gamut, everything included—and will that be made absolutely transparent? Can she give us that assurance at least to make sure that there is no progress on the inequity?

I am very happy to reassure the noble Lord that we mean pay—all of it—and that is why we said in the Statement that there would be one figure. One figure means you do not have to work your way through myriad figures and arrangements, et cetera, so that it will be clear to everybody exactly what that person is getting.

I did hear the interview this morning. It was with two businessmen; one from a FTSE 100 company and the other one from a company that was never listed on the Stock Exchange. If you talk about closing the door, in the short time that we have been in government, we have now opened the door—a door that we feel should have been opened a lot longer ago, but we were not in government then.

Does my noble friend agree that small shareholders will take considerable encouragement from this Statement?

My noble friend is right. We are very keen to make sure that shareholders feel that they are getting a fair deal. It is very useful for the very big shareholders to be able to get in and take on the companies for these pay arrangements. I have sat in FTSE 100 company meetings when the room is absolutely full of people who have only got a few shares. Up go all the hands for the vote and we add them up: 1,800 for, 246 against; and then of course we have the other votes that have come in, that are not in the room at the time: 45 million say this, and so on. So yes, the small shareholder will feel that he is in the room, and it is very important that we start to see the dividends grow, if we can, for small shareholders too. We want more shareholders. I thank my noble friend for the question.

My Lords, since the 1980s the multiple between the average earnings in FTSE 100 companies and the earnings of top executives has risen from about 29 times to at least 140 times. If we do not see any improvement in these differentials, they will prove dangerous to social cohesion, as has been widely seen across Europe. Will the Minister be reviewing measures to see if greater effect can be brought to bear?

The right reverend Prelate is right; one of the big worries is the great differential which has gradually opened up between the top pay and that of other employees in the company. As we said in the Statement and as I am happy to repeat now, we will be making sure that companies are looking at the increments and the pay rises that are happening at all levels. I know the right reverend Prelate was in business and it is very nice to have a Bishop in the place who knows something about business.

My Lords, this is the minimum necessary response to a situation in which company directors seem to see their role as driving the cost of everything down except their own remuneration. This is not a strong Statement. The Minister is wrong to suggest the previous Government did nothing. They introduced the Companies Act 2002 which increased disclosure; they introduced obligations for institutional shareholders to publish their votes; they also promoted the Higgs and Walker reviews. So the Minister is simply wrong to say that the previous Government did nothing on this issue. Paragraph 7 of the Secretary of State’s Statement shows that the Government’s policy is both voluntary and binding. When I suggested that earlier this week, the noble Lord, Lord De Mauley, who is in his place, said that he could not envisage a situation which was both voluntary and binding.

However, to questions. First, the Minister says that these reforms will strengthen the hand of shareholders. Can she explain why shareholders could not have introduced these requirements themselves through amendments to the articles of association? I suggest that these reforms do not strengthen the hand of shareholders at all. They already had that power. Secondly, the right honourable Secretary of State said these proposals were introduced in the face of opposition. Can the Minister tell us the opposition to which the Secretary of State was referring in making that comment in paragraph 2 of the Statement? Finally, in her earlier answer the Minister said that employees already have powers to influence company remuneration. Can she tell us what these powers are?

We have engaged extensively with businesses and investors to come up with a robust, workable and enduring package that helps shareholders to sustain the increasing activism which we have seen.

I read that to make sure I was absolutely correct because the noble Lord has been quoting paragraph numbers. I would not like him to say that I had made a mistake or moved a comma. Perhaps he will forgive me on that.

It is a radical package. For the first time companies will be bound by a policy approved by shareholders. As to why shareholders did not do more and do it on their own, as the noble Lord knows very well, changing articles is complicated so we wish to help shareholders on their way. The noble Lord is shaking his head vigorously. He has been a Member of this House and has sat on the Labour Benches a long time. He has also been a Minister. During all that time none of this, no matter how frail or small it seems to him now, was done by his party or by him when he was sitting in this position. Let us be clear; one year ago there was not the same level of recognition on the issue of pay. Now business accepts that there is an issue and has been very good in coming forward to have the conversations with us.

My Lords, I for one on these Benches was very pleased to hear the Secretary of State’s announcement today. The noble Lord, Lord Myners, had a point when he said that shareholders can already veto executive pay. One of problems is that many shareholders are directors themselves and therefore have some considerable interest in seeing that salaries are up there rather than down there. It would be very helpful if it were possible to use the ordinary employees of a company more widely as a blanket on what is finally resolved. The Government should consider how employees who are not at the top of the pay scale can be brought more into the picture. I take it that what is being suggested today applies not just to directors but to executives as well. An executive is not necessarily the chief executive. What he or she is earning will also come under close survey.

The answer to my noble friend’s last assumption is yes. When it comes to employees getting their voices heard, we encourage them to make more use of the tools that they already have, and to which I have already referred, in airing their views on pay, for example. Existing information and consultation arrangements are a potentially powerful mechanism for employees and have been underutilised to date. We will now watch carefully what companies say in directors’ remuneration reports about whether employees’ views have been sought. I agree with my noble friend that we need to hear the views of employees. We want boards to encourage them to use the mechanisms available to them so that we can hear more of what they say.

Does the Minister agree that this is another small and welcome step towards implementing a long-term stewardship code? It is a journey which the previous Government started and which I hope this Government will continue. The Minister spoke about institutional investors, pension funds, insurance companies, active shareholders, savers and investors, all of whom will of course take an interest. However, we are told that these are a minority of shareholders. We are told that short-term traders, overseas investors with different objectives, private equity, hedge funds and those who borrow shares are now in the majority. Will they simply not bother to vote and so render this scheme useless?

Gosh, that is dreary. Private equity is something else again. We have promoted long-term stewardship and continue to do so today. I would not like to give the impression that the previous Government did nothing at all; they did what they could to try to change things. However, in the past few years, it has become increasingly obvious that the stretch of pay across a company has become too much to bear. From the Statement that I have repeated today, I hope that your Lordships will see that we are keen to monitor how our proposals are being implemented. We leave ourselves the opportunity to keep a watching brief, as is right, but not to interfere in companies’ day-to-day workings or set remuneration. Shareholders are becoming more engaged, as results from recent annual general meetings show. Reforms will encourage shareholders to engage by giving them stronger tools that require companies to sit up and take notice. This will help shareholders sustain the increasing activism that we have already witnessed this year and to which the noble Lord referred.

My Lords, I congratulate the Minister on the robustness of this Statement. I was disappointed when there was nothing in the gracious Speech on this subject but what she has announced today was well worth waiting for. I cannot help feeling that some of the contributions from the party opposite are redolent of foxes being shot. This makes a very important start on what is an important issue and I congratulate the Secretary of State and the Minister in this House on this Statement.

I thank my noble friend very much indeed. I am very glad that somebody thinks we have done the right thing today. I hope we will keep it up and that he will continue to be pleased with us.

The Minister, as a former non-executive director, is very much aware that the business model is the key to understanding companies, both in good and bad times. More than anything, it is the professionals—the auditors—who understand the business model. Will the Minister ensure that the Government mandate auditors to talk to shareholders, so that they begin to understand the company? If they do, they can then request a seat on the remuneration committee, along with other stakeholders such as employees, so that we blow open the cartel that is at present called the remuneration committee.

I assume the noble Lord is talking about outside auditors, not the internal audit committee. I do not have an answer for him immediately but I will certainly go back and find out what we are thinking in respect of auditors. I think I have an Oral Question next week on auditors so that might be worth listening to. I apologise that I cannot answer that right now.

Will the Minister explain what she meant when she said that private equity is “something else”?

This is to do with the FTSE-100 companies as opposed to private equity, which is a completely different discipline.

Will my noble friend the Minister confirm that the substance of this Statement will reappear in the form of clauses or amendments to the Enterprise and Regulatory Reform Bill, so we shall all have a further opportunity to examine the various issues?

The answer is yes. Amendments will be laid to the Enterprise and Regulatory Reform Bill. Next week, or soon afterwards, the draft regulations will be published.