Regulations that apply in respect of financial years starting on or after 1 January 2019 mean quoted companies with more than 250 employees are now required to annually disclose how the pay of their CEO relates to wider employee pay.
The change in the law was prompted because of concerns that some chief executives' pay is out of step with company performance, and is part of an increasing trend requiring transparency around pay.
The government anticipates that the regulations (which are part of a wider package of corporate reforms) will “hold big businesses to account for the salaries they pay, while giving employees a greater voice in the boardroom”.
As part of their directors’ remuneration report, impacted companies will need to publish the ratio of their CEO’s total remuneration to the median (50th), 25th and 75th percentile full-time equivalent remuneration of their UK employees.
Remuneration must include all elements of remuneration. This means salary, fees, benefits, bonuses, share schemes and pension benefits. The obligation to include bonus payments and share-based incentives has the potential to complicate the calculation and skew the ratio from time to time. For example, in years when a long-term incentive vests or when the share value has increased.
Companies will have three options for calculating the ratio, but it is Option A which provides the most statistically accurate method of calculation. Companies are encouraged to use this option where possible. The regulations require companies to explain the reason for their chosen method of calculation as part of their reporting requirements.
The regulations require that the ratios are set out in a table in the directors’ remuneration report. The idea is that the table will be added to incrementally and eventually set out the position over the course of a 10-year period. If a company is exempt from reporting one year the table will simply note that the company was subject to an exemption that year.
The main concern for businesses will be how the published ratio will be perceived by investors and employees and whether there will be any negative PR consequences following publication. Press interest is also likely when ratios begin to be published.
As with gender pay gap reporting, the commentary included in the directors’ remuneration report may help give the figures some context and explanation and could be critical when the report shows a large pay gap or spike.
As this is a new disclosure burden on companies it is advisable to start looking into what your company’s ratio might be now. This should be done not least to discover what information will be needed to calculate the ratio, also to determine the proposed methodology, how long the information will take to collate, and which employees are in the applicable percentiles.
It is anticipated that over time more and more companies (and not just large listed companies) could be required to comply with the executive pay transparency requirements.
What its effects will be and whether it will drive change remain to be seen.
Sarah Gill is a senior associate at CMS