5 minutes on...

The ASX Corporate Governance Council released the consultation package for a proposed 5^th Edition of the Corporate Governance Council Principles and Recommendations (“Consultation Draft”) on 27 February 2024.  

The Consultation Draft aims to better enable ASX-listed organisations to respond to evolving investor and community expectations, strengthen corporate governance and increase transparency for investors. The Consultation Draft also seeks to remove duplication with Australian law and regulation. 

Feedback is being sought on 19 specific consultation questions, and submissions are to be made by 6 May 2024. A finalised 5th Edition is expected in early 2025, and it is expected to come into effect on or after 1 July 2025. The consultation package materials can be found here. 

What’s changed? 

Broadly, the eight Principles have been retained, with some changes to expression, reflecting an increased focus on long-term sustainability, management of risk, and transparency. The changes to the Recommendations are substantive and include deletions, additions, and updates.

With regards to remuneration, the most significant changes include: 

• Principle 8: Remunerate fairly and responsibly: A new Recommendation 8.3 for listed entities to (a) implement clawback provisions on performance-based remuneration for senior executives (i.e. provisions which allow the recovery of awarded, paid and vested performance-based remuneration), and (b) disclose the use of those provisions during the reporting period (which may be on a de-identified basis). The disclosures should cover, where appropriate: 
  • Trigger events (e.g. misconduct or material misstatement of the financial statements) 
  • The number of current and previous senior executives impacted, and 
  • The impact on remuneration outcomes for these senior executives (e.g. aggregate $ value, % of performance-based remuneration clawed back, reduced, cancelled or otherwise limited).  

There are exceptions available to the disclosure requirements, including where investigations are not finalised or are under dispute. 

• Principle 3: Instil a culture of acting lawfully, ethically and responsibly: Further transparency on consequence management is provided via a new Recommendation 3.2(c) for listed entities to disclose the outcomes of actions taken by the entity in response to material breaches in its code of conduct, on a de-identified basis. The commentary notes that “appropriate and proportionate disciplinary action reinforces the codes’ significance”, and that this disclosure is intended to “promote a culture of transparency and remediation”.
• Principle 3: Instil a culture of acting lawfully, ethically and responsibly: A new Recommendation 3.3 for listed entities to have regard to the interests of key stakeholders, to support the creation of long-term sustainable value for security holders. The commentary provides quite a broad set of examples regarding who might be key stakeholders, and includes stakeholders such as employees, customers and suppliers, as well as Aboriginal and Torres Strait Islander peoples such as business partners, landowners, host communities, among others. The Recommendation includes having processes to engage with these key stakeholders, and the underlying commentary takes the understanding gained to apply these stakeholder perspectives in decision making, including in “designing remuneration structures which drive appropriate behaviour”.
• Principle 1: Lay solid foundations for management and oversight: New commentary under Recommendation 1.6 that specifies that the performance of a listed entity’s senior executives extends to “whether the individual has acted in accordance with the entity’s values and code of conduct and otherwise demonstrated and promoted the entity’s desired culture”, and that this view of performance “should be reflected in remuneration outcomes”.   

Initial PwC reactions 

We support the focus on long-term sustainable value, risk management, transparency that the proposed 5^th Edition provides.  

The more significant remuneration-related changes outlined above somewhat “catch up” and align to more mature market practices observed at large ASX-listed organisations, and the intent of APRA’s remuneration standard CPS 511 that seeks to align remuneration with financial and non-financial risks, sustainable performance and the entity’s long-term soundness. For example, most large, listed entities include an assessment of values and behaviours as part of the performance assessments and STI outcomes for senior executives. And, particularly in financial services, provide commentary in their Remuneration Reports related to their consequence management framework, and a summary of the outcomes of any consequence decisions applied in year. 

Clawback

In our view, the focus on clawback is too narrow, and may not achieve the desired effect – for example around risk and long-term sustainable performance. While clawback is an important tool, there are several challenges with its implementation.  

This is because clawback provisions take the form of a contractual entitlement to have a payment or other benefit returned in certain circumstances. If the employee did not comply with the obligation the employer would be required to commence legal proceedings claiming damages for breach of contract against the employee in order to effect the clawback. There may be difficulty in recovering amounts from individuals (e.g. if the individual is impecunious), possible legal challenge, and the cost of legal action may be higher than the amount of money due for recovery, among others.  

There are other important mechanisms to support the alignment of remuneration with risk, that are not covered in the Consultation Draft, for example: 

• A balance between both financial and non-financial measures to account for performance and risk 
• Adjustment to performance-based remuneration during the performance period (i.e. “in-period adjustments”) 
• Deferral of performance-based remuneration
• Adjustments to deferred performance-based remuneration prior to payment or vesting (i.e. “malus”). 

These mechanisms are both more practical and with a more timely and direct impact in many cases. And due to the practical (and sometimes legal challenges associated with clawback), entities typically apply adjustment tools in the sequence of in-period adjustments, malus, and lastly clawback. 

Provisions that allow for clawback of awards after award, payment and vesting have typically only been implemented at some of the largest ASX-listed entities, as well as APRA-regulated financial institutions - who have a regulatory requirement to do so for key roles (as per the APRA Prudential Standard CPS 511 Remuneration). 

The APRA Standard requires a combination of risk adjustment tools, in a proportionate way where the simpler requirements apply to smaller, less complex organisations. That is, the new APRA requirements are seen as the ‘gold standard’ and have been adopted by some organisations outside of the financial services sector. 

What to think about now 

1. Determine if your organisation will respond to the consultation by 6 May 2024 
2. Review the alignment of your organisation’s remuneration framework with its risk management framework and, in addition to clawback, consider whether broader remuneration adjustment tools would be more effective (if not already in existence) 
3. Develop or review your organisations consequence management framework, as it relates to remuneration and non-remuneration consequences 
4. Review any existing disclosures on consequence management outcomes, and prepare for the new disclosure requirements by understanding data collection needs, processes and communications  
5. Define who your key stakeholders are and develop processes to engage and understand their perspectives. Build consideration of these perspectives into remuneration design decisions 
6. Review your approach to performance assessments for the senior executives. If not already incorporated, consider incorporating an assessment of whether the senior executive has acted in accordance with the values, code of conduct and desired culture 

If you have any queries about the above or require any assistance, please do not hesitate to contact one of our PwC Reward Advisory specialists.