Evidently, the FRC has taken into account widespread feedback that toughening the requirements would burden firms and undermine the UK’s competitiveness. Rather than completely overhaul the 2018 code, they’ve kept changes to a minimum.
Commenting on the code, the Chief Executive of the FRC, Richard Moriarty, said:
“Investors and businesses told us three things. First, the code supports UK plc by attracting investment for good governance. Secondly, we should keep burdens on business to a minimum. Thirdly, we should focus on the key area of internal controls.
That’s exactly what we’ve done with the updates this morning.”
In this article, we outline three of the key changes, and the effect they will have on reporting processes.
Risk management and internal control
Provision 29 is small yet significant addition to the code. It relates to the increasingly important issue of internal controls.
The addition highlights the board’s accountability for internal control processes. At the same time, it provides a stronger basis to evidence their efficacy, thus increasing transparency and investor confidence.
To be specific, when reporting, the board must:
Explain how the monitoring and review of internal controls was carried out.
Declare the effectiveness of material controls, including financial, operational, reporting and compliance controls, as at the date of the balance sheet.
Describe any material controls which have not operated effectively as at that date, the action taken or proposed to improve them, and any action taken in response to issues previously reported.
Boards will need to take their own view on what the material controls are, and their efficiency, and decide what assurance is needed — whether from second-line, third-line or external sources.
The FRC has allowed time for firms to prepare for this internal controls declaration. While most of the code changes are effective from 1 January 2025, the new provision relating to internal controls takes effect from 1 January 2026.
Provision 38 is completely new and again, the overriding theme is transparency.
The addition strengthens the code’s approach to executive pay — in particular, to malus and clawback.
From January 2025, the annual report should describe the company’s malus and clawback arrangements and include:
The circumstances in which they could be used.
The period for malus and clawback, and why the selected period is best suited to the firm.
Whether they have been used in the last financial year, and the reasons why.
Board leadership and company purpose
Throughout the 2024 update, boards are encouraged to move away from the boilerplate approach to reporting and instead, focus on activities and outcomes.
The board should ensure that resources, policies and practices are in place for the company to meet its objectives and measure performance against them.
Governance reporting should focus on board decisions and their outcomes in the context of the company’s strategy and objectives.
Boards should not only assess and monitor culture, but also explain how the desired culture has been embedded.
‘Comply or explain’
Importantly, the well-established principle of `comply or explain’ will stay as it is.
The FRC has emphasised the flexibility afforded by ‘comply or explain’ and that firms should apply the code according to their circumstances.
According to Richard Moriarty:
“I’m keen for businesses and boards to think for themselves. You can comply by either applying the provisions of the code, or by making a cogent explanation for why you’re not applying the code. Either route is equally valid.”
Retaining this approach highlights the FRC’s recognition of individual company circumstances. Where the provisions of the code are not relevant or applicable, the board can and should explain the reasons why.
Overall, what is clear from the 2024 update is that overall, the FRC wants high-quality information in corporate reporting. It wants to retain its principles-based approach and remain proportionate.
Further FRC guidance is to be published on 29 January. We will report back and, at the same time, provide more details on the updated Corporate Governance Code 2024.