CEO pay ratio reporting is now a legal requirement for certain employers. Ben McCarthy, employment law writer at Croner-i, explores this in more detail.
In an attempt to provide further transparency to pay arrangements in larger organisations, the Government has introduced CEO pay ratio reporting. It hopes that this disclosure, and the required information that also needs to accompany the figures, will allow interested parties both inside and outside the organisation to understand how pay is processed within it. This increased level of transparency is one of several steps being taken in order to tackle low levels of employee productivity at work by improving working conditions overall.
The requirement to produce a report
UK quoted companies which have more than 250 UK employees on average in a year are now required to produce CEO pay ratio reports. The definition of “quoted” is set out within the Companies Act 2006 and covers UK-incorporated organisations who are quoted on the:
UK Official List
New York Stock Exchange
a recognised stock exchange in the European Economic Area.
Even where the UK quoted and incorporated organisation is a subsidiary of a non-UK incorporated parent, the UK organisation must produce the pay ratio report for its CEO if it meets the employee threshold. As a legal requirement falling within the Corporate Governance Code, a failure by the directors of an organisation to disclose CEO pay ratios, the required information or the explanatory information, will be deemed an offence.
How to produce a report
In July 2018, the final version of the Companies (Miscellaneous Reporting) Regulations 2018 was published by the Government. It required organisations to use their annual directors’ remuneration report to disclose the ratio of their Chief Executive Officer’s (CEO) most recent total remuneration figure as a ratio against:
the 25th percentile of full-time equivalent remuneration of the organisation’s employees
the 50th percentile (the median) of full-time equivalent remuneration of employees
the 75th percentile of full-time equivalent remuneration of employees.
The regulations set out three different methods of calculation and organisations can choose their preferred option. The Government’s preferred option, as being the most statistically accurate, is for employers to calculate the total full-time remuneration of all UK employees within the financial year and then rank them in order from lowest to highest. When determining employee remuneration, employers are advised to use, wherever possible, the total pay and benefits of employees. This must include, as a minimum, employee wages and salary but may also other benefits, where these are offered, such as:
share based or other performance incentive plans
The regulations have an implementation date of 1 January 2019 and apply to financial years which start on or after this date. As such, the first CEO pay ratio information need to be included in directors’ remuneration reports from 1 January 2020 onwards.
Supporting and explanatory information
Alongside the ratio figures, eligible employers are also required to disclose specific supporting information to help aid understanding of their ratio calculations. This required information includes, but is not limited to:
an explanation of why the specific calculating option was chosen and a reason for changing methods, if a different option was used in the previous year
whether a remuneration factor was removed from the calculation, the reasons for the removal and whether this will apply in subsequent years
the total employee pay and benefits figure used within the pay ratios, and the salary and wages component of each total pay and benefits figure.
Once the organisation has calculated its pay ratios and outlined its supporting information, it is further required to include explanatory information within the report. The regulations do not specify how long this explanation should be, however it must include information which explains:
any increase or reduction in the pay ratios compared to the ratios disclosed in a previous financial year
whether the median pay ratio shows any specific trend
whether the median pay ratio is consistent with the organisation’s policies on pay, reward and progression as apply to their UK employees.
whether an increase or reduction has been caused by:
pay and benefits changing for the CEO or employees
employment models changing within the organisation
a different calculation method being used for the current financial year.
Impact of the reporting requirement
It should be noted that this new legal requirement does not place any obligation on employers to pay management less, and their staff more. Provided they comply with the latest minimum wage rates, which are set to increase in April, businesses are generally free to pay their staff how they please. Despite this, continued scrutiny continues to be placed on employee remuneration when compared to that of management or business CEOs. While it is be expected that higher positions within a company will have increased levels of pay due to the level of responsibility, skill and prior experience required, employers should not underestimate how mismanagement of this can impact upon employee productivity and morale. It is one thing to pay a director a high salary that is deemed suitable to their role; it is another for this salary to regularly increase while general employee wages remain stagnant.
Although not all employers are going to have to follow this reporting requirement, its introduction does send a message that the Government remains committed to increased workplace transparency. As we’ve seen with gender pay gap reporting, many employers who do not have to produce a CEO ratio report have considered doing so anyway in the hope that this can reassure current members of staff while also helping the business to attract external interest. If this is an option that an employer wishes to explore, it should take steps to ensure all members of staff are aware of it and, if a significant pay discrepancy is highlighted, outline any steps that are going to be taken to tackle it.
It remains to be seen what the ongoing impact of this will be, with many companies who need to produce a report yet to reach their financial year-end. However, the issue of CEO pay, and pay inequality in general, continues to receive much scrutiny and doesn’t look to be going anywhere anytime soon. With this in mind, employers should remember that increased pay transparency is likely to remain a priority going forward.
Last reviewed 12 February 2020