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20 November 2020

Corporate Law Update

In this week’s update: the OTS publishes recommendations for simplifying capital gains tax, the FCA publishes new guidance on prospectus disclosures and issuers’ continuing obligations, the IA publishes its 2021 Principles of Remuneration, the Law Commission publishes a scoping paper on intermediated securities, a new power to block listings on national security grounds, changes to notifications under DTR 5, the FRC areas of focus for 2020/21, the IA position on climate change reporting and benchmark policy updates from ISS.

Covid-19 is affecting the way people conduct their business, retain their staff, engage with clients, comply with regulations and the list goes on. Read our thoughts on these issues and many others on our dedicated Covid-19 page.

OTS publishes report on simplifying capital gains tax

The Office of Tax Simplification (OTS) has published its first report on simplifying the UK’s capital gains tax (CGT) regime. It follows a request by the Chancellor of the Exchequer in July 2020 for a review of the regime in relation to individuals and smaller businesses.

The report makes several interesting recommendations that have a bearing on holding shares or interests in corporate entities. These include:

  • more closely aligning CGT rates with income tax rates and reducing the annual CGT exemption;
  • taxing more share-based rewards from employment (such as growth shares) as income, rather than as capital gains;
  • in a similar vein, taxing proceeds from a sale of shares in a small company as income, rather than as capital gains, to the extent those proceeds represent “accumulated earnings”;
  • abolishing business asset disposal relief (previously known as “entrepreneurs’ relief”) and replacing it with some kind of “retirement relief”; and
  • abolishing investors’ relief.

You can read more about the OTS’ recommendations, and our thoughts on them, in this in-depth article by our colleagues, Robin Vos and Edward Reed.

FCA guidance on Prospectus Regulation disclosures and issuers’ continuing obligations

The Financial Conduct Authority (FCA) has published Primary Market Bulletin 31. Most of the Bulletin is dedicated to a recap of previous announcements by the FCA. However, the Bulletin contains the following noteworthy announcements:

  • In July 2020, the European Securities and Markets Authority (ESMA) published new final guidelines on how issuers can comply with the disclosure requirements in the EU Prospectus Regulation. The new guidelines are designed to replace the recommendations issued by the former Committee of European Securities Regulators (CESR) (the CESR Recommendations), which provided guidance on disclosures under the old EU Prospectus Directive. See our previous Corporate Law Update for more information.

    We noted that it was not clear that the new guidelines would form part of UK law or regulation after the end of the UK/EU transition period at 11:00 p.m. UK time on 31 December 2020.

    The FCA has now confirmed that the new guidelines will not apply in the UK when the transition period ends. For the time being, issuers should continue to follow the CESR Recommendations, applying them as appropriate to the Prospectus Regulation as it will form part of UK law.

    The FCA does intend, however, to consult on its approach to the new guidelines in due course.
  • The Bulletin contains guidance on how to deal with enquiries from the FCA in relation to issuers’ continuing obligations under the Market Abuse Regulation, the Listing Rules and the Disclosure Guidance and Transparency Rules (DTRs).

    In particular, the Bulletin clarifies that, where the FCA needs to examine an issuer’s compliance with its continuing obligations, it will contact the issuer directly or its advisers, depending on the issue and who it can establish contact with at the time.

    If the FCA does not have up-to-date details on file, it will simply contact the issuer’s company secretary. However, the Bulletin reminds premium-listed issuers that, under Listing Rule 9.2.11R, at least one person must be nominated to act as a point of first contact with the FCA in relation to the issuer’s compliance with the Listing Rules and the DTRs. That person should be contactable on business days between 7:00 a.m. and 7:00 p.m.

    The Bulletin also notes that, where the FCA deals with an issuer’s advisor, the advisor should speak to the issuer to confirm any response provided to the FCA. The FCA also expects issuers to inform it when they obtain legal advice or guidance in relation to their disclosure obligations.

Investment Association publishes remuneration guidance for 2021

The Investment Association (IA) has published its Principles of Remuneration for 2021, alongside its usual letter to remuneration committee chairs. The IA has made the following changes to its revised Principles:

  • The revised Principles note that more companies are incorporating material environmental, social and governance (ESG) risks and opportunities into their long-term strategy. In these cases, the Principles state that the remuneration committee should consider the management of material ESG risks as performance conditions in the company's variable remuneration.
  • The IA has noted an increasing use of strategic targets and personal objectives in annual bonuses. The Principles remind companies that shareholders expect financial metrics to comprise the significant majority of an overall bonus. Where personal objectives are used, the Principles ask companies to demonstrate how they link to long-term value creation.
  • The revised Principles clarify that shareholders expect “bad leavers” not to receive an annual bonus.
  • The IA expects remuneration committees to set out a credible action plan to align the pension contributions of incumbent directors with the majority of the workforce by the end of 2022. It also says that, in most circumstances, IA members do not consider fixing the monetary value of pension contributions over time to be a credible action plan to bring the pension contributions in line with the majority of the workforce.

The IA states that it will continue to focus on executive pension contributions in 2021 and notes that IVIS will take the following approach:

  • IVIS will “red-top” any company putting forward a new remuneration policy that does not explicitly state that any new executive director appointed will have their pension contribution set in line with the majority of the workforce.
  • IVIS will also “red-top” any company where a new executive director is appointed or an existing director changes role if that director’s pension contribution is not aligned with the level of the majority of the workforce.
  • IVIS will “red-top” a remuneration report if the pension contribution received by an executive director is 15% or more and the remuneration committee has not disclosed a credible action plan to align that director’s contribution to the majority of the workforce rate by the end of 2022.

Separately, the IA has published updated guidance on shareholder expectations of executive remuneration in UK listed companies during the Covid-19 pandemic. This follows the previous guidance published by the IA in April 2020. The guidance makes the following points:

  • Where a company has raised additional capital from shareholders or benefitted from any Government support schemes in relation to Covid-19, the IA expects this to be reflected in the executives’ remuneration outcomes. It expects there to be no payment of annual bonuses for FY2020 or FY2020/21, unless there are truly exceptional circumstances.
  • Where a company has benefitted from indirect Government support (such as business rate relief), the IA expects the remuneration committee to disclose how it has taken the impact of these measures on remuneration outcomes into account.
  • Where a company suspended or cancelled dividend payments for FY 2019 or FY 2019/20, the IA expects a corresponding impact on remuneration outcomes, expressed either by reducing any deferred shares relating to the 2019 annual bonus or reflected in FY 2020 bonus outcomes.
  • The IA does not expect remuneration committees to adjust performance conditions for in-flight annual bonuses or long-term incentive awards to account for Covid-19. However, LTIP grants should not be replaced with other long-term incentive grants, and companies should not be providing higher variable remuneration opportunity in 2021 to compensate for lower remuneration received in 2020 due to the pandemic.
  • The guidance also sets out issues for companies to consider on individual elements of pay, including salary, bonuses, long-term incentives and alternative remuneration schemes.

Law Commission publishes scoping paper on intermediated securities

The Law Commission has published a scoping paper on intermediated securities. The paper follows a consultation issued by the Commission in September 2019. For more information on that consultation, see our previous Corporate Law Update.

What are intermediated securities?

Traditionally, when a UK company issues shares, it provides its shareholder with a share certificate and enters the shareholder’s name on its register of members. The shareholder gains formal title to the shares by virtue of appearing on the register. The share certificate stands as evidence of title.

However, this system is impractical for publicly traded companies, where shareholdings may change hands many times a day between numerous shareholders. As a result, publicly traded companies issue shares in “dematerialised form” through the CREST depositary system.

Under this regime, the company does not provide share certificates to shareholders. A person gains legal title to shares when their name is entered in the CREST system. However, investors in publicly traded companies do not normally hold their shares directly. Rather, the shares are normally held by one or more intermediaries, such as a financial institution or broker.

This creates a legal disconnect. As a matter of law, the person who can exercise the rights attaching to shares (such as to vote at general meetings, receive dividends or participate in a rights issue) is the shareholder of record. In the intermediated system, this is the intermediary, not the ultimate investor.

An ultimate investor who holds shares through an intermediary, therefore, is unable (for example) to exercise their voting rights at general meetings. Instead, they must rely on the intermediary to convey their voting instructions.

What is the Commission recommending?

The Commission was concerned that the intermediated system might not be functioning adequately and may be acting as a barrier to investors participating in voting. It therefore sought views through its consultation on ways to improve the system. The scoping paper is the culmination of that consultation.

The key points arising from the Commission’s scoping paper are set out below. It is worth noting that, at this stage, the Commission has offered potential “solutions” to the perceived problems with intermediated securities, rather than making any recommendations.

  • The Commission considered removing intermediation entirely. However, it has concluded that a more proportionate approach would be to retain the current system and introduce targeted changes to alleviate some of the problems with it. In particular, it notes that intermediation can increase efficiency and speed of transfer, in turn potentially resulting in lower costs for investors.
  • The paper suggests one solution to allow ultimate investors to more effectively exercise rights attaching to their shares would be to require intermediaries to arrange for investors to attend and vote at company meetings and to receive information sent by companies to their members.
  • Another solution would involve extending the scope of SRD II to ultimate investors. SRD II is an EU Directive that requires companies to ensure shareholders are provided with minimum levels of information. In the UK, it applies to shareholders of record but not ultimate investors.
  • The Commission also proposes solutions to address the issue that, where an intermediary holds shares for multiple investors, it may be difficult to satisfy the majority in number test required to approve a scheme of arrangement (for example, on a takeover). Mooted solutions include replacing the test with a “dissenting votes threshold” (as in Hong Kong) and allowing the court to disapply the test in appropriate circumstances (as in Australia).
  • Finally, the paper considers a series of non-legislative solutions for addressing issues with intermediated securities. These include industry-led, voluntary principles of best practice, standard terms and conditions between intermediaries and investors, clearer disclosure to investors that their securities will be held through an intermediated structure, and the use of distributed ledger technology (DLT) to facilitate holding shares.

Also this week…

  • Government to introduce power to block listings on national security grounds. The Government has announced that it intends to introduce a new “precautionary power” to block listings of securities on the UK financial markets on “national security grounds”. This would sit alongside the proposed National Security and Investment Bill, on which we reported last week. The Government has said that the new power will be designed to reinforce the UK’s reputation as a “world-leading financial centre”. The Government expects the Treasury to publish a full consultation on the new power in early 2021.
  • FCA to launch new DTR 5 portal. The Financial Conduct Authority (FCA) has confirmed that it will be launching a new online portal in Q1 2021 for investors to submit major voteholder notifications under DTR 5. Currently, investors must send a completed copy of Form TR-1 to the FCA by email and to the issuer of the shares in question. Under the new portal, investors will instead be required to complete an electronic Form TR-1 within the FCA’s Electronic Submission System (ESS). The update contains details of how to register for the ESS.
  • FRC sets out reporting expectations for 2020/21. The Financial Reporting Council (FRC) has published its annual letter to CEOs, CFOs and audit committee chairs setting out its areas of focus for the 2020/21 reporting season. These include the impact of Covid-19 and the end of the UK/EU transition period, climate change, application of IFRS 15 and 16, cash flow and liquidity, section 172 statements and workforce engagement, and the tenure of a company’s chair.
  • IA publishes position paper on climate change. The Investment Association (IA) has published a paper setting out its position on climate change. Among other things, the IA has proposed that the law be amended to require large companies to report in line with the Taskforce on Climate-related Financial Disclosures (TCFD) Recommendations, and it has committed to working with investee companies to improve the quality of their climate-related disclosures.
  • ISS publishes benchmark policy updates for 2021. Institutional Shareholder Services (ISS) has published its Benchmark Policy Updates for 2021, which will apply to shareholder meetings taking place on or after 1 February 2021. Areas of focus relevant to the UK include board gender diversity and alignment of executive pension contributions with those of the general workforce.
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