Corporate governance Contents


Is the system working?

75.In her campaign speech before becoming Prime Minister, Theresa May criticised “an irrational, unhealthy and growing gap between what the companies pay their workers and what they pay their bosses.”137 The overwhelming majority of respondents in our inquiry favoured some degree of reform on executive pay. Many considered the current system to be broken.138 There was general agreement that remuneration packages have become too complicated. Many argued that executive pay was simply too high and could not be justified in terms of both the link to levels of performance and the growing gap with the pay of other employees.139 This view chimes with public opinion. Nearly three quarters of employees believe that CEO pay in the UK is generally too high;140 survey evidence also suggests that public anger over pay remains the biggest threat to the reputation of business.141 A number of recent reports have highlighted the pay gap: two thirds of FTSE 100 CEOs are paid over 100 times the average salary in the UK.142 The Government’s Green Paper refers to “a widespread perception that executive pay has become increasingly disconnected from both the pay of ordinary working people and the underlying long-term performance of companies.”143 Even those respondents who were not against the current arrangements in principle thought that the public perception that executive pay is too high had to be addressed in the interests of restoring public trust and the implicit social contract between business and society.144

76.There was an alternative view in submissions to us, mainly advanced by fund managers and remuneration consultants, that the current arrangements were working broadly satisfactorily. It was argued that pay rises for major company chief executives were not out of line with those in other sectors such as private equity, entertainment and sport.145 Others argued that it was unfair to focus attention on only a small number of companies in the listed sector where pay was published146 and that high levels of pay was not just an issue for public companies, but for other organisations too.147 Some warned against any action that would harm the ability of leading companies to attract scarce talent in a highly competitive international market. They argued that the market for top executives was completely different to the employment market as a whole, where supply is generally not such an issue and where the potential impact on company performance is not as high.148

Figure 6 Changing structure and levels of executive pay

Source: HM Government, Green Paper on Corporate Governance

Drivers of pay increases

77.There was a reasonable degree of consensus in the evidence we received on the factors contributing to increasing rates of executive pay. These can be summarised as:

These causes were identified by many witnesses and supported by good evidence, although there were different views as to the degree of influence of each factor. Inevitably, the interaction of these different forces and influences will vary from sector to sector and company to company, but their combined impact on overall levels is inescapable. These different pressures also highlight the tensions between business interests and any wider societal concerns. Extremely high remuneration may well appear justifiable to shareholders on a purely business basis. Executive pay represents a tiny proportion of expenditure for large companies (an estimated 0.6 per cent in the FTSE 100).153 If a CEO is thought to have added £500 million to company value, an additional £5m as a reward may be considered good value by shareholders and the board. It is up to boards to reconcile these tensions in a way which is consistent with company values, competitive drivers, expectations of wider society and internal reward structures.

Figure 7: Executive pay against employee pay

Source: IDS Executive Compensation Review

78.There are also different attitudes to pay in different countries, which large multinationals may not always take into account. Survey evidence suggests that in many countries there is a feeling that it is too high or otherwise unfair.154 International comparisons on pay are difficult to make reliably due to inconsistencies in methods of measurement, but there is consistent evidence that the UK remains amongst the highest payers for CEOs in Europe, along with Switzerland and Germany, some way ahead of the Nordic countries.155 It is argued that the dispersed shareholder structure, such as that in the UK, gives executives more power relative to the board and contributes to higher remuneration.156 All European countries are some distance behind the United States in terms of pay levels.157

79.Under the reforms introduced by the Coalition Government in 2013, quoted companies are required to hold a binding vote on pay policy every three years and an advisory vote on executive pay every year. There is evidence that a combination of the financial crash of 2008 and the reforms of 2013 have seen an element of restraint on pay over the last six years. Figure 6 shows that average CEO pay in the FTSE 100 has come down from the 2011 peak and has risen only modestly since the new regime came into force.158 However, as Figure 7 indicates, over the last 20 years the pay of leading executives has risen sharply while average earnings have been relatively flat, particularly since the financial crisis. Even since the new regime in 2013, a small number of CEOs have received exceptionally large awards, which have not only contributed substantially to the overall increased average, but undermined what might otherwise have been considered to be a fairly static, albeit high, average level.159 More damaging in terms of public perception have been the instances when high rewards have been accompanied by poor company performance, leading to a perception that CEOs are too often being “rewarded for failure.”160 For example, the pay of the Chief Executive of Pearson rose 20 per cent in 2016 while the company suffered its biggest ever loss and its shares fell to a seven year low.161 Some of the reasons for this are related to the structure of pay, which we discuss below, but this has no doubt contributed to an apparent disconnect between performance and reward at times.

Addressing pay concerns

80.In a global and market based economy in which UK companies compete for the best talent, we do not believe that it would be helpful for Government to intervene directly to limit the level of executive pay. Nor do we believe, as some witnesses argued, that the Government should seek to use the tax system to further redistribute income for the highest paid—in all professions, not just in business. High levels of taxation are liable to lead to elaborate avoidance mechanisms which do not result in a significantly higher tax take. They also are likely to act as a disincentive to working in the UK.162

81.In spite of evidence of a flattening in rates of growth over the last few years, executive pay still remains fabulously high and increasingly far removed from the pay of ordinary workers. Total pay for the CEOs of FTSE 100 companies has increased from an average of around £1m in 1998 to £4.3m in 2015.163 The rise in executive pay is a vivid illustration of how “ownerless corporations” have allowed executives to ratchet up pay in the absence of the proper scrutiny and challenge that good corporate governance should provide. The incentives and drivers pushing pay up are strong; those of restraint are weak. This imbalance needs to be corrected, in the interests of business and the broader interests of society. We agree with the Prime Minister that high and unwarranted executive pay is an issue that needs to be addressed for the benefit of society as a whole. It is hardly consistent with her vision of an economy that works for everyone to see levels of pay for those at the top increasing at a rate that vastly exceeds increases for ordinary employees and which seemingly is at odds with the value created in the company.

82.If the causes of high pay are many and varied, the solutions are none the less so. We believe that effective corporate governance is a better means of tackling excessive pay than government intervention. Prevention is better than cure. The tools of corporate governance are more subtle than blunt regulatory instruments, but they can nonetheless be effective. Whilst we acknowledge that self-regulation has a mixed track record, we believe that a combination of heavier and lighter pressures should be applied in order to exert greater control on executive pay. These comprise reforms to:

a) the structure of executive pay,

b)the process by which it is agreed, and

c)reporting on pay.

We address each of these below.

Box 2: Principles of UK Corporate Governance Code relating to remuneration

Main Principle

Executive directors’ remuneration should be designed to promote the long-term success of the company. Performance-related elements should be transparent, stretching and rigorously applied.

Supporting Principles

The remuneration committee should judge where to position their company relative to other companies. But they should use such comparisons with caution, in view of the risk of an upward ratchet of remuneration levels with no corresponding improvement in corporate and individual performance, and should avoid paying more than is necessary.

They should also be sensitive to pay and employment conditions elsewhere in the group, especially when determining annual salary increases.


83.The structure of executive pay has become increasingly complex over the last 30 years, moving from a largely salary-based approach to one comprising of different categories of benefits, including bonuses and Long-term incentive plans (LTIPs), realisable over many years. Figure 8 shows the extent to which incentive-based pay now forms a higher proportion of executive pay than in most European countries. Concerns about pay have been raised on the basis of both level and structure: separate but very much related issues.

Figure 8: Structure of UK executive pay

Source: Willis Towers Watson: CEO Pay in the Eurotop 100


84.There was general consensus that the changing structure has contributed to an overall increase in pay. Such a move, with a greater proportion of total remuneration consisting of bonus and share rights, was designed to align the interests and priorities of shareholders and managers. The TUC argued that public policy since the 1990s had encouraged remuneration committees to increase the proportion of incentive-related pay and that these elements had contributed most to the “growing gap between workforce pay and directors’” pay.164 A few witnesses argued in favour of fixed salary only. The Institute for Business Ethics made the suggestion that where bonuses paid to executive directors exceed a given proportion, all employees should automatically be eligible for a bonus in the same proportion of salary as that paid to the chief executive.165

85.We are supportive of the view expressed by some witnesses that there should be a move away from a heavy reliance on incentive pay back towards basic pay,166 which has the virtue of simplicity and clarity. But we believe that there is a place for bonuses as part of a remuneration package, provided that they are used to incentivise performance, rather than provide an additional reward for routine achievement, and that they do not represent an unjustifiably high proportion of the package as a whole.

86.We agree with witnesses who suggested that bonuses should increasingly be awarded in respect of objectives other than share value, for example, in respect of customer service, safety, employment, or environmental issues.167 These, like all bonuses, should be genuinely stretching though. We were surprised to hear, for example, that the Chief Executive and Chief Finance Officer of Rio Tinto were awarded over 100 per cent of their bonus—which included a safety element—in spite of the fact that there were four fatalities during the year.168 To align stretching bonuses with targets related to section 172 duties or metrics relating to safety or customer service, would send a clear signal to investors and employees that a company took seriously its corporate governance responsibilities. We recommend that companies make it their policy to align bonuses with broader corporate responsibilities and company objectives and take steps to ensure that they are genuinely stretching. Policy in this respect would be considered by the FRC in their corporate governance rating system.

Long-term incentive plans

87.Long-term incentive plans (LTIPs) were originally introduced as a way of linking pay to performance, in the longer term, with a set of metrics relating to different aspects of performance. They typically provide shares instead of pay for executives, which are realisable after a period of three years, although sometimes up to five, with quantity dependent on a number of different performance-related metrics. They have come under growing criticism for not delivering their original purpose, with inappropriate metrics adding both unpredictability and complexity to pay discussions.

88.This complexity of LTIPs has also made the process of negotiating pay awards incredibly difficult for remuneration committees and a whole team of advisors and consultants for the interested parties. We were told that it has become more difficult to understand the link between performance and pay as there are no agreed metrics on what represents good performance. Metrics can relate, not just to share value, but performance relative to a whole set of benchmarks involving industry averages and a range of external factors, the volatility of which can have an impact on reward that outweighs the impact of a CEO’s actual performance. One witness told us that pay was now so complex that executives themselves do not always understand their own remuneration.169

89.There is a concern too that LTIPs have been used to avoid publishing a headline figure for salary which would be widely thought unacceptable. Sir Philip Hampton told us

We have, to some extent, dressed up what we are really paying people through these incentive structures, as a big generalisation—but it is generally true—because a lot of these incentive schemes, frankly are designed to pay, or at least end up paying out, even if performance is quite indifferent.170

We heard that LTIPs have a tendency to distort executive behaviour, with CEOs tailoring decisions to affect the share price around the time their shares are due to vest.171 Tom Gosling, from PwC, argued that academic evidence showed that pay plans with targets operating over 1–3 years “can encourage short-term behaviour or worse”.172 The Investment Association reports their increasing use, with share price appreciation and executive demands for higher compensation to make up for uncertainty and contributing to high annual figures.173 Because of the difficulty in setting meaningful metrics, too often LTIPs did not perform their function.174 Given the extent of the reservations over their effectiveness it is perhaps surprising that they remain so prevalent. Andrew Ninian of the Investment Association explained that the Executive Remuneration Working Group found that “companies felt bound into the LTIP model. That was the FTSE model and they had to follow it” but that investors were in fact willing to support alternative models.175

90.The Code provides guidance only and in general we do not advocate too prescriptive an approach to executive pay. We agree with the many witnesses who argued against a one-size-fits-all approach. Companies should be able to set their own objectives and incentives and explain them. However, given the disquiet within the general public about the issue of executive pay, and the lack of confidence in the effectiveness of attempts at restraint, we believe that more radical action is now needed to start restoring confidence and improving transparency. The guidance in the Code on remuneration has proved ineffective in curbing the trend towards higher pay and in promoting a clear link between pay and performance. LTIPs’ impact on incentivising performance is unproven at best, and, at worst, they can create perverse incentives and encourage short-term decision making. There are signs that some major companies are planning to move away from them.176 We conclude that LTIPs should be phased out as soon as possible. No new LTIPs should be agreed from the start of 2018 and existing agreements should not be renewed.

91.Whilst there was considerable scepticism about the use of LTIPs, there was a general consensus in the evidence that pay incentives should focus on the long term, as is required by the Code.177 Incentive-related pay is valued by many investors as a method of promoting long-termism and we agree with the principle of promoting long-term decision making through remuneration. Our preference is for these incentives instead to be provided by deferred stock options, under which a proportion of remuneration is given in shares which can only be sold after set periods of time. Crucially, the number of shares is not dependent on performance targets; instead a specified number is allocated as part of the remuneration package and their value is determined by share price at the time of vesting.

92.Deferred stock options have the merit of simplicity: there are no complicated performance metrics and they encourage decision making for the long term. They also should be less costly than LTIPs, as there would be less need to discount for the greater degree of uncertainty of most LTIPs. Versions of this approach are outlined in the Government’s Green paper and by the Big Innovation Centre report on executive remuneration.178 Witnesses who commented in evidence to us were supportive of this option.179 The Association of British Insurers has long argued in favour180 and Tom Gosling argued that evidence shows it is positively related to strong long-term performance.181 For example, one study found that CEOs with shareholdings of over £5 million deliver more than double the value to the company of those with shareholdings under this threshold.182

93.The deferred shares should generally vest over a longer period of time than the typical LTIP period of around three years. We suggest this should generally be above five years but companies should decide this, according to the nature of their objectives.183 An oil exploration company will have different time horizons than, say, a design agency. Similarly, the proportion of remuneration allocated by deferred stock will be for individual companies to determine and explain. A phased vesting period (15–20 per cent per year) would avoid the possible cliff edge vesting of LTIPs which have the potential to distort decision making according to a single vesting date.184 But companies should retain some flexibility to explain their preferred schemes, subject to some overarching guidelines.

94.There is a trade off with the length of holdings and the strength of the link to executive performance: external factors may be far more influential on share price than decisions made by the Chief Executive, especially once departed. But the purpose is to incentivise decision making as well as reward performance. On balance, we believe that there are valuable benefits in the longer time horizons that share-based incentives should bring to the culture and mind-set of boards and they should, over time, replace LTIPs.

95.We recommend that the FRC consults with stakeholders with a view to amending the Code to establish deferred stock rather than LTIPs as best practice in terms of incentivising long-term decision making. Overall, we recommend that this consultation should develop guidelines for the structure of executive pay with the following features:

Pay and performance

96.The complex structure of pay is in part a result of attempts to link pay effectively to performance. The success of these efforts has been the subject of much dispute in the business community, and amongst interest groups and academics. We heard from the High Pay Centre, the TUC and individuals that the link was not proven and there have been a number of academic studies which provide evidence in support of that view.185 The TUC states that “There is clear academic evidence that high wage disparities within companies harm productivity and company performance.”186 This is supported by survey evidence on the demotivating impact of high pay differentials on employees throughout an organisation.187

97.Other witnesses disagreed and cited recent research which provided evidence of a link between high pay differentials and good company performance. A recent report by PwC suggests that low pay differentials may not benefit the performance of companies and if anything may work in the opposite direction.188 Professor Alex Edmans argued that there is a connection between performance and pay when wealth is taken into consideration, rather than just annual salary and bonuses.189 One advisory company referred to research that suggests a clear link between realised CEO pay and performance in the UK.190 With regard to the conflicting evidence, Tom Gosling said that “there will not be a one-size-fits-all answer that says high or low pay differentials are good.”191

98.At an overall level, CEO pay has increasingly outstripped performance of the FTSE 100 companies, as indicated by Figure 6. At a company level, the evidence on the link between pay and performance is mixed. Some evidence shows that highly differentiated pay can be linked to good company performance, but a causal link has not been clearly established. Indeed, it may be extremely hard to do so with certainty, given the complexity of pay deals and other influences on performance. Indeed, some witnesses voiced the suspicion that “the complexity is designed to frustrate clear identification of any link between pay and performance by shareholders or other interested parties.”192 What is certain is that, for various reasons, there have been examples of high rewards accompanying apparently poor performance, and it is this that serves to undermine public, if not investor, confidence. Jan du Plessis, Chair of Rio Tinto, acknowledged the importance of perception. He told us that while he would like decisions to be based on the link between performance and pay, “in the real world we live in, perception sometimes becomes the truth… You cannot ignore the perception. If there is a perception issue, that has to be addressed.”193 We agree on the importance of public perception. It is difficult to explain convincingly how the salary of the CEO can reasonably be over 130 times that of the average worker.

99.The debate over the link between pay and performance, and how best the latter is incentivised, will continue as more evidence is produced. But whatever aggregate statistics may or may not demonstrate, it must be for every company to decide what structure and level of remuneration is right for its own circumstances, and explain the rationale clearly to investors and the wider public. In doing so, they must take into account a full range of factors, including levels of pay throughout the company and the wider workforce. We recognise that the job of leading a major company is extremely taxing and requires great skill and commitment. These roles, given their importance, should be appropriately rewarded. But overall pay levels have now been ratcheted up to levels so high that it is impossible to observe a credible link between pay and performance. At a time when average pay has remained relatively stable, these increases have served to undermine public trust in business.

Process of agreement: Shareholder engagement on pay

100.The reforms of 2013 were designed in part to incentivise shareholders to engage on pay by giving them a more meaningful role. In the FTSE 100, only four annual reports on pay have been rejected in advisory votes and only one binding vote on pay policy has been voted down. Average votes in support of the remuneration reports and pay policies have been 93 per cent and 94 per cent respectively.194 Some argued that this high degree of support indicated that “say on pay” was working and the binding policy vote and annual votes had secured better engagement on pay.195 There is also evidence to indicate that companies have taken action following significant votes against in order to avoid problems the following year,196 although this was not true in every case.197 Whilst the reforms are only recent, they do not yet appear to have made a really significant change to attitudes. So far, shareholder opposition to pay awards does not appear to reflect the degree of public disquiet on pay. There remains a fundamental misalignment between the views of ordinary shareholders and the proxy agents and investment companies who exercise influence on their behalf.

101.Engagement does not begin and end at the AGM. In practice, there are, or at least should be, discussions between boards and key investors throughout the year in relation to the agreement on pay policies and remuneration packages. It is up to shareholders to exert influence in these extensive private discussions but, as the UK Shareholders Association asserted, they face difficulties in acting in concert on pay.198 For example, thirty per cent of shareholders voted against the £70m remuneration package for Martin Sorrell, Chief Executive of WPP in 2015, following a similar protest vote the previous year. The Chair of the WPP Remuneration Committee, Sir John Hood, explained that the nature of long-term policies meant that rewards were dependent upon agreements dating back five years and could “create anomalies, as we have just seen.”199

102.There are signs that major investors are beginning to respond, in advance of what will be the second vote on pay policies since the introduction of the current regime in 2013. Since the start of the year there have been regular warnings from shareholders about the tough stance they are prepared to take on remuneration and evidence that some companies are limiting pay awards in response.200 For example, shareholders in Crest Nicholson reportedly voted against a pay deal in March 2017 because of concerns that performance targets were too easy.201 The Head of Blackrock’s stewardship team in Europe, Amra Balic, told us that “We will hold Chairmen of Remuneration Committees directly accountable for what happens with pay, if we feel the pay is not linked to performance, by voting against”202 and, as mentioned earlier, she has since written to over 300 UK companies warning of them of this. Other major investment companies have stressed they are prepared to vote against the chairs of remuneration committees where necessary.203

103.These are positive signs, which we welcome. However, they may not translate into effective action; instead they may prove to be but a temporary response to the current political climate. In the longer term, greater shareholder engagement on pay will not necessarily, of itself, act as a force for restraint. Indeed, some witnesses considered that greater engagement might have the opposite effect, with passive shareholders content to support the board if it is delivering success.204 There is currently limited incentive for shareholders to engage on pay. Foreign investors, who own the majority of shares in UK companies, may not be too exercised about rising disparities of pay here. We also heard that pay is a lessor priority compared to other issues, such as strategic direction, and there was a claim from some witnesses that too much energy is already expended on remuneration. As a result, shareholders may indeed tend to acquiesce in, if not encourage, the ratcheting up of pay by executives and their advisors. Deeper engagement alone may not be a powerful driver of pay restraint. We believe that the most effective remedy lies in the combined impact of the various measures we have outlined in this Report, including driving better stewardship through more transparency, better reporting, more employee involvement and tougher enforcement. If these measures and more responsible shareholder engagement does not have the desired effect, Government may have to consider more direct intervention.

Shareholder votes

104.There are a number of ways to increase the influence of shareholders whilst not unduly impeding the ability of the board to manage the company. Perhaps the most straightforward measure, and one floated in the Green Paper, is to make the vote on executive pay binding rather than advisory. We heard conflicting views on this option. Some witnesses argued that these votes would provide better accountability and greater incentives for Remuneration Committees to consult more effectively in order not to risk a defeat.205 Others maintained that evidence from other countries indicated that such votes had very little effect in practice and were an unnecessary administrative hurdle.206 There may also be legal and practical issues to overcome with contracts being made subject to binding shareholder agreement, one reason why this option was apparently not pursued in 2013.207

105.The average vote in favour of both pay reports and remuneration policies in the FTSE 250 is over 90 per cent. In our view, the current scale of opposition to remuneration reports and policies does not, at present, justify annual binding votes on pay levels. In most cases, a binding vote would serve little purpose but potentially add uncertainty and a source of distraction. Instead, there should be a better focus on those few cases where there are significant concerns. In these cases, shareholders should have more power to not only register opposition but to force remedial action. We therefore agree with the principle of an escalatory process, as proposed in the Green Paper, under which a binding vote is triggered if there is a significant minority of opposition to pay awards in the previous year or previous two consecutive years.

106.To incentivise the engagement of the otherwise uninterested, and to force effective action, we favour a strict approach to implementing this principle. Our preference is for the threshold for triggering a binding vote should be low and that companies should have one chance to resolve concerns, not two. A 25 per cent threshold would be consistent with the threshold for votes on a special resolution and would strike a reasonable balance in terms of the degree of leverage given to a single minority shareholder. It is reasonable to expect companies to address any serious and widespread concerns on remuneration by the following year. We recommend that the FRC revises the Code to include a requirement for a binding vote on executive pay awards the following year in the event of there being a vote against such a vote of over 25 per cent of votes cast. This requirement should be included in legislation at the next opportunity.

Remuneration Committees

107.Remuneration committees are responsible for the formulation of pay policies and remuneration packages and for reporting on them each year as part of the annual report documentation. They are also at the heart of engagement with shareholders. Whilst in the evidence we took there was some recognition of the difficulty of their task, there was some concern that they could be too reliant on consultants and not always able to secure the necessary degree of engagement, including from company Chairs, to ensure board support.208 We heard the view from many witnesses that remuneration committees should take greater account of pay levels across the company, not just senior executives.209

108.The best way of ensuring that the voices of the workforce are heard in pay discussions is to have an employee representative on the remuneration committee itself. This option was advocated by a wide range of witnesses, who pointed to the beneficial effects on challenging debate and, more widely, on the culture of the company and its board.210 The Chair of Rio Tinto, on the other hand, considered this would be unhelpful, on the grounds that it was undesirable to artificially separate discussions on rewards from the delivery of company strategy, as they are intrinsically linked.211 As we discuss further in the next chapter, we do not see it as a disadvantage for there to be greater involvement of workers with company strategy: quite the opposite. We believe that consultation with workers throughout the organisation is a vital element of improving trust and gaining support for proposals. We accept that this option may not work for all companies, particularly multinationals with very diverse workforces, so should not be mandatory. Companies themselves would determine the appointment process, potentially with the help of FRC guidance. Employee representation on remuneration committees would represent a powerful signal on company culture and commitment to fair pay. This option should be included in the Code and we expect leading companies to adopt this approach.

109.The Executive Remuneration Working Group found that “one of the biggest obstacles to change in executive remuneration lies in the breakdown in trust between shareholders and remuneration committees.”212 To rebuild this trust, and if it is to balance the different and sometimes conflicting interests on remuneration,213 any remuneration committee needs strong leadership. We are concerned that members have few incentives to consider wider political context of executive pay, its impact on public trust and levels of inequality. A lack of strong leadership has contributed to the rise in executive pay we have seen. Chairs should be accountable if they fail to deliver on effective engagement. The temptation for committees to take the easy option of working upwards from the median has been well articulated.214 Incentives for restraint may be particularly weak when remuneration committee board members also serve on other boards,215 given this approach based on benchmarking. The Chair should be both independent-minded and experienced enough on matters of pay within the company to ensure the confidence of shareholders and executives alike. To this end the Executive Remuneration Working Group recommended that the chairs should normally have served on the committee for a year prior to taking up the post. We heard that it was not always the case that the Chair had previously been a member of the committee.216 Chairs should also be responsible for driving discussions aimed at delivering simpler structures and justifiable levels of remuneration and shareholders should be prepared to hold them to account if they have not engaged sufficiently to secure support for pay policies and annual reports. We recommend that any Chair of a remuneration committee should normally have served on the committee for at least one year previously. To further incentivise strong engagement, we recommend that the Chair of a remuneration committee be expected to resign if their proposals do not receive the backing of 75 per cent of voting shareholders.

Pay reporting

110.We discussed in the previous chapter the need for high quality and honest reporting in respect of the duties of directors. The same applies to pay. Whilst we recognise that remuneration is far from straightforward, reporting on pay is too complex, unclear and unhelpful for the purposes of wider comparison.217 Reporting requirements were improved in 2013 to require the publication of information on relative pay increases, but we heard companies are complying in a limited way, by presenting information in unhelpful ways.218 Sanctions in respect of poor quality reporting have not proved effective. For example, the FRC reports that not all companies improved the quality of reporting, or engagement, even when subject to significant minority votes against pay resolutions.219 Greater clarity is required to improve comparability and accountability, and in turn to build trust. As mentioned in the previous chapter, reports should include detailed information on the use and remuneration of advisors involved in the process. This will assist shareholder engagement and make it more difficult for companies to hide high remuneration in complex reporting. Statistics should be presented consistently in such a way as to enable year on year comparisons and comparisons with other companies in the same sector.

Reporting on a people policy

111.It is important that reporting does not just focus on the outcome of decisions on remuneration; but that it provides an explanation of the strategy that underpins the remuneration policy for the whole company. It should set out the structure for rewards at all levels, not just at the executive level, setting out the approach to performance incentives as well as benefits, including pension provision. It should also provide assurances on working conditions and engagement. We were impressed on our visit to Sweden with the holistic approach companies took to pay: they considered it to be part of an HR strategy that placed a premium on investing in people. In an employment market that makes it attractive to reduce costs by making use of agency workers and self-employed people, often on very low pay, it is vital that companies explain why they choose the employment models they do, and what steps they take to ensure that all workers—whether direct employees or not—are paid properly and their working conditions reasonable. There have been recent examples where companies have fallen short in this regard.220

112.In an increasingly knowledge-based economy, where value lies more in human than capital assets, companies should be judged on the whole structure of their rewards, workforce and investment in people. Outline information should be provided on the breakdown of the workforce, including the proportion on fixed term contracts and zero hour contracts, the number employed via agencies and other intermediaries such as umbrella companies and personal service companies. We agree with the Chartered Institute of Personnel and Development (CIPD), who outlined a process of “human capital reporting” which includes a narrative on workforce composition, including diversity, recruitment and turnover; investment in training and development and measures of employee engagement and wellbeing.221 As Helena Morrissey argued, there should be an opportunity for companies to set out: “‘This is what we believe in; this works for our company,’ and then sell it in to the shareholders and stakeholders, to earn trust properly.”222 This wider responsibility for overseeing its people strategy might be overseen by the remuneration committee or taken on by the board itself, but it should form an integral part of pay reporting.223 We recommend that companies should set out clearly their people policy, including the rationale for the employment model used, their overall approach to investing in and rewarding employees at all levels throughout the company, as well as reporting clearly on remuneration levels on a consistent basis. The FRC should consult with relevant bodies to work up guidance on implementing this recommendation for inclusion in the Code.

Publication of pay ratios

113.The publication of pay ratios has been advocated by many as a further means of increasing transparency and exerting downward pressure on executive pay. Many submissions to our inquiry were supportive of this proposal.224 In addition, the Investment Association advocated the publication of pay ratios between the CEO and the executive team alongside that between the CEO and median employee pay.225 Others were cautious, on the grounds that CEOs operate in a completely different market to most employees,226 and the results may be misinterpreted, given the different nature of business models and pay structures.227 Some argued that the publication of pay ratios would risk unintended consequences, such as companies with low paid workforces choosing to outsource.228

Figure 9: Shareholder opposition and pay ratios

FTSE 100 CEO (received) to average employee 2002–2014


CEO total remuneration received as multiple of average employee earnings

Shareholder voting
% dissent (abstain + oppose) on remuneration








































Source: Manifest, cited in High Pay Centre Report, Pay Ratios, Just Do It

114.We recognise the potentially limited impact of the mandatory publication of pay ratios on levels of pay inequality. It is already possible to obtain information relating to executive and average pay. The High Pay Centre reports that there is no correlation between CEO pay and shareholder discontent.229 The very different structures of companies may invite meaningless comparisons: a retailer might have relatively high ratios compared to a tax consultancy, but this would reveal little about relative pay levels between the two.

115.On balance, and given that figures are generally readily available and so easily published, we favour the publication of pay ratios, between CEO and both executive team and also median pay. Whilst these ratios need to be treated and interpreted with caution, especially when making comparisons across sectors, they will provide the public and investors with useful information on the direction of travel in terms of pay for individual companies or sectors over time and help to focus attention on those that are moving in what most would see as the wrong direction. To achieve this aim, ratios should be published on a consistent basis each year. In the interests of providing greater context to these ratios and of bearing down on levels of inequality throughout society, we believe that the public and charitable sectors should also be obliged to publish similar statistics. We recommend that the FRC works with other relevant stakeholders on the detail and amends the Code to require the publication of pay ratios between the CEO and both senior executives and all UK employees. We further recommend that the Government requires that equivalent pay ratios should be published by public sector and third sector bodies above a specified size.

Conclusions on pay

116.We agree with the Prime Minister and the majority of respondents that executive pay is causing damage to the generally good reputation of British business. Too often pay awards appear impossible to justify in relation to performance and when set against pay levels lower down. This serves to undermine public trust in business, the engine of economic productivity and prosperity. There is a tension here between competitive businesses making rational business decisions in their own interests and the wider societal impacts of these awards. Government has a duty to monitor this tension and address it when it judges necessary in the public interest. But all parties need to be sensitive, and respond to, the shifting sands of opinion about fairness of rewards. There are some welcome signs that some businesses and investors are seeking to respond, but we do not have confidence that progress will be made without further pressure being exerted through the measures we recommend in this Report. It is now up to businesses to respond positively, in their own interests, to adjust to raised expectations in relation to executive pay.

137 Rt Hon Theresa May MP, speech 11 July 2016

138 Eg IoD (CGV0034), CIPD (CGV0110), Professor John Kay (CGV0174)

139 Institute for Business Ethics (CGV0016), University College London (CGV0032)

140 CIPD Pulse Survey, December 2015. See also, for example data from the last British Social Attitudes Survey showing that 78 per cent considered the gap between high and low incomes to be too large, cited by Charlotte Villiers (CGV0013)

141 IoD survey, quoted in The Modern Corporation Project (CGV0165)

142 The Equality Trust, Pay Tracker, March 2017

144 ICAEW (CGV0116), Modern Corporation Project (CGV0165); Q159

145 New Bridge St (CGV0093)

146 New Bride St (CGV0093), ICSA: The Governance Institute (CGV0111), The Investment Association (CGV0109)

147 ICSA: The Governance Institute (CGV0111)

148 New Bridge St (CGV0093)

149 Qs 166 and 172 [Sir John Hood]

150 Q166 [Helena Morrissey]

151 Q167 [Amra Bilic]; Employment Lawyers’ Association (CGV0065); ICA The Governance Institute (CGV0111), ICAEW (CGV0116)

152 Q431

153 Professor Alex Edmans (CGV0006)

155 See, for example, Bloomberg, Global CEO Pay Index, 2016, CEO index

156 Vlerick Business School, UK has highest paid CEOs in Europe, January 2016

157 Professor Paul Moxey (CGV0041)

158 Most of the increase can be attributed to the pay for Sir Martin Sorrell, Chief Executive of WPP, who was paid £70 million 2015.

159 Manifest (CGV0062)

160 Q434 [Sir Philip Hampton]

161 Financial Times, Pearson chief’s pay rose 20% in 2016 despite record loss, March 24 2017

162 EEF (CGV0142)

164 TUC (CGV0156)

165 Institute for Business Ethics (CGV0016)

166 Q434

167 Sheffield Institute of Corporate and Commercial Law (CGV0037)

168 Q199

169 Q438

170 Q434

171 Q404 [Baroness Hogg]

172 Q402

173 Investment Association (CGV0109); Q160 [Helena Morrissey]

174 Investment Association, Executive Remuneration Working Group, Final Report, July 2016

175 Q437

177 See Box 1

178 Purposeful Company, Executive Remuneration Report, February 2017

179 Q436

180 Association of British Insurers, Principles of Remuneration 2013

183 The Purposeful Company suggests an optimum timeframe of 5–7 years for the vesting and holding of equity awards in its Executive Remuneration Report, February 2017.

184 Q196 [Helena Morrissey], Q404 [Baroness Hogg]; HM Government Green Paper on Corporate Governance, November 2016

185 TUC (CGV0156), High Pay Centre (CGV0040),

186 TUC (CGV0156)

188 PwC, Paying for Performance – Demystifying Executive Pay, 2017

189 Q72

190 Willis Towers Watson (CGV0063)

191 Q401

192 Dr Rodion Skovoroda (CGV0042)

193 Q182

195 Professor Charlotte Villiers (CGV0013), New Bridge St (CGV0093)

196 The Purposeful Company, Executive Remuneration Report, February 2017

197 Railpen (CGV0119)

198 UK Shareholders Association (CGV0080); Sir Martin Sorrell’s pay in 2016 was around £42 million.

199 Q156 [Sir John Hood]

200 See, for example, Financial Times, Safestore backs down over increase to executive pay, 20 March 2017; The Guardian, Anglo American caps bonus payouts after shareholder revolt, 13 March 2017.

201 The Guardian, Crest Nicholson to pay bonuses despite shareholder revolt, 23 March 2017.

202 Q207

203 Eg Legal & General, the Pensions and Lifetime Savings Association, and Institutional Shareholder Services (ISS), Vanguard and State Street.

204 Charlotte Villiers (CGV0013); Deloitte (CGV0145); Stuart Spencer (CGV0091)

205 Railpen (CGV0119), CIPD (CGV0110)

206 New Bridge Street (CGV0093), Prism Cosec (CGV0066)

207 Investment Association, Executive Remuneration Working Group, Final Report, 2016

208 Q221 [Helena Morrissey]

209 TUC (CGV0156)

210 Nestors Advisors Ltd (CGV0117), CIPD (CGV00110), TUC (CGV0156), Modern Corporation (CGV0165), Helena Morrissey (CGV0017), John Lewis Partnership (CGV0099)

211 Q220 [Jan du Plessis]

212 Investment Association, Executive Remuneration Working Group, Final Report, 2016

213 Q251

214 For example, Investment Association, Executive Remuneration Working Group, Final Report, 2016

215 Research for the Trades Union Congress found that two thirds of remuneration committee members share one member with another remuneration committee, A Culture of Excess, February 2015, EEF (CGV0141)

216 Q221 [Helena Morrissey]

217 PIRC Ltd (CGV0154)

218 TUC (CGV0156)

220 Eg The Guardian, Tesco to pay out nearly £10m to staff after payroll errors, 9 March 2017.

221 CIPD (CGV0110)

222 Q196 [Helena Morrissey]

223 Nestor Advisors Ltd (CGV0117)

224 Eg Fidelity (CGV0107)

225 The Investment Association (CGV0109), Manifest (CGV0062)

226 Professor Alex Edmans (CGV0006)

227 New Bridge St (CGV0093), ICA: The Governance Institute (CGV0111)

228 ICAEW (CGV0116)

229 High Pay Centre Pay Ratios, Just Do It, November 2015

4 April 2017