The blunt instrument of corporate reporting? - FutureValue
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The blunt instrument of corporate reporting?
28/06/2016
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Unacceptable Boardroom behaviour is at the heart of the malaise in the UK economy. Reporting regulation and guidance are seeking to change the culture. Can they succeed?

Poor productivity growth, now at its lowest for more than fifty years, is a direct consequence of the remuneration habits of UK plc. This bonus culture is inhibiting capital investment despite consistently high corporate profits and record low interest rates. A bonus culture encourages ‘short termism’. So, is it a coincidence that then that recent changes to regulatory reporting and guidance seek to focus directors on the longer-term risks to the performance of their company while explicitly linking their remuneration to the longer term? This raises some interesting questions about the wider role of corporate reporting, whether it can or should change Boards’ behaviour and what action will be needed if reporting regulation doesn’t do the trick?

Respected academic and financial commentator Andrew Smithers has been saying for some years that the slump in UK productivity has much to do with the short-term thinking which has infected boardrooms since we began giving senior executives massive bonuses rather than sensible salaries. In his most recent paper co-authored with Norman Eisen he paints a damning picture of how poor productivity growth is the consequence of the bonus culture and of the inevitable impact of this behaviour on the UK economy. He indicates that the short-term nature of these reward systems encourages management to inflate profits unsustainably by increasing prices and limiting capital investment. In the long term a company will then lose market share to more efficient, lower-cost competitors. The wider impact on UK economy and society is more worrying. Smithers talks about damage to the public interest that may well justify government intervention.

Perhaps it is no surprise that more recent reporting regulations by the Financial Reporting Council appear to target this detrimental Boardroom behaviour. The 2014 amendments to the corporate governance code, requiring companies to assess risks to their business model and future performance over a more protracted period, might encourage them to focus on a more distant horizon, and invest accordingly. Equally, linking executive remuneration to the long-term success of a business might make directors more sensitive to, and accountable for prospective performance over a longer period and more attached to the success of that added investment. And if that is not enough the regulator will shortly issue guidance on corporate culture to support the adoption a longer-term perspective in companies. But what impact will these changes have?

There is something very British in all this. Indirect nudges more than prescription and instruction. No wonder the Europeans don’t understand us, just as they find ‘comply or explain’ to be an alien concept. But will this subtle influence of the regulator work? Is it enough? One has to conclude that it may well take much more direct action by government to shift such unacceptable and deleterious Boardroom behaviour that has been driven in part by the comparatively easy profits of the single market. Indeed, government intervention may well become necessary if UK plc is to rise fully to the challenge, competing and succeeding as it should in a post-EU world.