In a previous bulletin we looked at some of the changes to the Code which are now kicking – and how boards might get value from responding to the new requirements. But we didn’t go into detail on a major change in the expectations around the Principles. This is, in fact, a fundamental shift that could have a wide-ranging impact on how boards work.
A lot of what follows refers to the detailed wording of the Code, so we’re at risk of being accused of writing for “governance geeks”! (But this is no doubt a large proportion of our readership…) Even though it might be a bit dry, this really is a shift that all directors need to absorb. In this article we focus deliberately on the Annual Report – but some things will need to change if you’re going to have a good story to tell.
“Comply or explain” is often referred to as the basis of the Code – but this has only ever been (and continues to be) the case for the Provisions. For the Main Principles, boards have been expected to apply them and report on how they did so. But the new Code has shifted the balance. As the FRC states: “the 2018 Code focuses on the application of the Principles” (p2) and these are “at the heart of this Code” (p1). The Supporting Principles have gone – and the Principles are given a stronger emphasis. And, crucially, the expectations of how boards explain the way they go about applying the Principles represent a seismic shift (if it’s not over the top to attach this term to corporate governance). Boards need to consider the implications carefully. Here we share a few thoughts on what “good practice” might look like, and what boards might aim to do. We also highlight responses that should be avoided, no matter how strong the temptation may be to hope that nothing much has changed.