CEO, Financial Reporting Council
Speech at International Integrated Reporting Council
27 May 2015
Ladies and Gentlemen,
Five years ago when I joinedthe FRC I was surprised to hear both companies and investors say that the Annual Report was a chore to prepare and use and added little value to the pursuit of enterprise. I will not pretend that I never hear the same today. But certainly amongst investors and many others the story is changing. And the fact that it is doing so owes much to the leadership shown by the IIRC and organisations involved in promoting a common vision for corporate reporting.
Why is the tide turning? I would suggest there are three reasons:
Firstly, investor stewardship has strengthened. Fund managers stimulated by the Stewardship Code have increasingly committed to engaging with the businesses their clients own. Owners too, such as the major pension funds, have started to do more.
Secondly, good engagement, engagement that is recognized as such by both sides, needs a good narrative from the company to set the agenda for the discussion. If the company reports clearly on its business model and strategy, if it links its key policies on remuneration and risk management to its strategy, the engagement will be forward-looking and fruitful, not reactive and even aggressive.
Directors complain from time to time that investors are too short-termist in their outlook. Some undoubtedly are and that is ultimately their right. But unless the company provides the information required for a strategic, longer-term discussion, we cannot fairly blame investors for taking a short-term view.
Nowhere is that more apparent than on remuneration reporting. Pages of complex data are produced. Much of it almost unfathomable. Both sides complain about the quality of the dialogue between them. The public is bemused by huge numbers that apparently lack justification. What is needed, and what the Corporate Governance Code now requires and integrated reporting stresses is a description of how remuneration policies contribute to strategy and are designed to create long-term growth in shareholder value.
Which brings me to my third point. Corporate reporting and accounting has traditionally been about the past. An historic account of the year just gone. But what investors are most interested in is the strategy for the years to come. They want to hear about the opportunities and also how the risks will be managed. They want a balanced assessment of prospects, and they have responded proactively to companies talking more openly and honestly about the future.
This conjuncture of enhanced stewardship, strategic reporting and a focus on the longer term is no accident. The IIRC has done much to create an environment in which the need for such change is recognized; in which cynicism about reporting could give way to innovation.
In the UK, the Government and, I believe, the FRC, have played a major part. The introduction of a Strategic Report has done much to provide a framework for the company to set out its strategy, be innovative and tell its story.
The Financial Reporting Lab has helped companies and investors come together and take forward innovation in reporting.
The Corporate Governance Code has been changed to ensure that the report is fair, balanced and understandable. And it promotes reporting that gives new insight into significant areas of risk.
It requires audit committees to report on all significant matters they have discussed. It requires directors not just to provide a one year going concern statement, but to report whether they have a reasonable expectation of remaining solvent over a longer period – a period they choose to reflect the nature of their business. This, we hope, will address the bemusement and anger felt by shareholders after companies collapsed in the crisis so soon after giving a clean going concern assessment.
I hope we have started to turn the vicious circle of cynicism about the annual report into a story of increasing value to investors. But it is fair to say that change is strongest amongst large listed companies. Smaller quoted companies with limited resources have yet to embrace change. Many still tell us that investors are not interested in their reporting so why make the effort. We have consulted investors extensively over the last year and have repeatedly heard the opposite point of view. They stress that they are most dependent on the annual report in this smaller company sector because the analysts do not support them to anything like the same extent.
So I would encourage the IIRC not to forget this sector and consider how we can stimulate learning, in a cost-effective way, from the large to the small. We will be publishing our paper on how this might be done and how smaller companies might be supported – and I stress supported, not chastised – next week.
My final point is that companies do not exist in an economic bubble. They exist in society. Their strategy cannot ignore that. The IIRC has done much to encourage companies to consider how they work within society at large and the risks from failing to do so. The challenge is, however, not to report on every possible interest in the company’s work, but to report on those aspects that are of material significance to shareholders. Integrated reporting must remain strategic and relevant to shareholders, not a vehicle for more bloated reports. The IIRC and the FRC are alive to this risk and will continue to champion clear and concise information.
We use different words in the UK. Strategic Report, not Integrated Report, but we are on the same journey with the same purpose. The principles in a UK strategic report are consistent with an integrated report. And we look forward to continuing to work closely with the IIRC as it pursues its mission in the years ahead.