Key Points:
The UK proposals seek to give shareholders a binding vote on executive remuneration for the current financial year.
Australia has followed the UK in many things – including the current non binding shareholder vote on executive remuneration for listed companies. Recent proposals announced by the UK Secretary of State for Business, which will make the UK shareholder "say on pay" regime binding, signal that there could be more to come for the Australian market in this area.
Currently both the Australian and UK "say on pay" regimes give shareholders the ability to signal their views on historical executive remuneration, but the shareholder vote to approve the remuneration report is non-binding.
The Australian "two strikes" regime, which came into effect on 1 July 2011, includes a rule that, if a remuneration report receives a 25% "no vote" at two successive AGMs, the second AGM will have to vote on a spill motion. If the spill motion receives approval by a simple majority, the company will have to hold a further general meeting within 90 days to vote on whether to keep the existing directors.
The recent UK proposals go even further, and seek to give shareholders a binding vote on executive remuneration for the current financial year.
How will the UK regime operate?
Under the UK proposals, a company would be required to set out its proposed pay policy for the current financial year for approval by a majority of shareholders. If the remuneration policy is approved, the company may implement the policy (and must not make payments outside of it). If the remuneration policy is not approved, the company must continue using its existing policy until a revised policy is subsequently approved by shareholders. The vote would occur annually unless a company leaves its remuneration policy unchanged, in which case the vote would occur at least every three years. The current advisory vote on the remuneration report will stay in place. The targeted date for the implementation of these new UK proposals is no later than October 2013.
This will mean that, for UK listed companies from October 2013, shareholders will be in a position to scrutinise – and control by majority – executive pay packages for the current financial year.
Should Australia follow suit?
Whether the Australian Government will follow the UK's lead and give shareholders a binding say on current year executive pay remains to be seen, but we think that this would be a flawed policy if it were pursued in the Australian context. To do so would allow shareholders to cross over into the management of the company, and place a significant amount of power in the hands of proxy advisory firms, without preserving the flexibility that Boards need to appropriately incentivise their executive team in an uncertain market environment.
Such a proposal may also adversely hinder the regional competitiveness of Australian companies in the market for talented executives. In our view, the existing two strikes regime already provides Boards with indirect accountability and a strong incentive to take the views of shareholders on executive remuneration seriously.
The Productivity Commission considered this issue in its 2009 report that led to the introduction of the two strikes rule, and its view at that time was that given there were other options to improve disclosure and engagement around the advisory vote (such as the two strikes rule), it was not apparent that a binding vote on remuneration policy was required or desirable.
Against this background, the Government would need compelling evidence of Australian companies mismanaging the link between performance and pay to justify such a move.
What does this mean for Australian boards considering their remuneration policy for this financial year?
The strengthening of the UK regime signals to Australian boards that executive remuneration policy will be the key governance issue considered by Boards in the lead-up to AGM and reporting season.
Last year's experience with the two strikes rule has shown that shareholders are not afraid to exercise their existing power over remuneration. The Australian Government passed a Bill last month to allow the chair of the AGM to vote undirected proxies in favour of the remuneration report. This was just in time for the commencement of the coming 2012 AGM season.
All of which is a timely reminder of importance of engagement by listed companies with institutional shareholders in relation to the company's remuneration policy, as well as acknowledging the influential role that proxy advisers have in this area, and actively engaging with them. Now, more than ever, Boards should emphasise the connection between pay and performance, or risk a shareholder backlash. The UK changes suggest that this issue will continue to dominate governance discussions for some time to come.
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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this bulletin. Persons listed may not be admitted in all states and territories.
