The Financial Reporting Council has released an updated corporate governance code, which stresses the flexibility of its underlying “comply or explain” principle and creates new responsibilities for directors to monitor and report on internal controls.

However, concern remains that the code comes while the Financial Reporting Council is still waiting on government to introduce legislation to give it new powers. Reforms for the regulator were last year left out of the King’s Speech—the document that details the government’s legislative agenda.

The code also comes after new FRC chief executive Richard Moriarty cut sizeable proposals that would have seen boards report on how they monitor sustainability issues and narrative reporting.

Reflecting on the 2024 code, Moriarty says the internal controls measures will give boards the “assurance they require to be able to demonstrate good governance to investors and to other stakeholders”.

But he returned to “comply or explain” after the FRC had received complaints that “compliance” with the code was now an expectation among investors.

“Frankly,” says Moriarty, “a good explanation illustrates better governance more than a situation where a board defaults to compliance with a specific Code provision that manifestly doesn’t suit its circumstances but where the board lacks confidence to make the explanation.”

‘Governance burden’

The emphasis on flexibility was welcomed by Julia Hoggett, chief executive of the London Stock Exchange, who spent a good part of last year arguing that governance has become a burden in the UK.

“We particularly welcome the absolute clarity with which the FRC has reiterated its stance on comply or explain,” she says.

“This is an important recognition of the fact that boards are best placed to determine the strategies that are tailored to the specific circumstances of each company.”

Others also welcomed clarity on “comply or explain”. Roger Barker, director of p0licy at the Institute of Directors, says: “Companies should make use of this flexibility. And intermediaries like proxy advisers should accept it. If boards feel that their governance is better arranged differently to the code provisions, they should explain and engage with stakeholders. Blanket compliance with the Code is not necessarily a sign of good governance.”

There are also provisions in the new code that boards should not only monitor corporate culture but also report on how it is “embedded”. Boards are also asked to disclose the details of contractual arrangements to “claw back” pay from directors and audit committees are asked to implement new “minimum standards” finalised by the FRC last year.

The internal control measures, however, remain the code’s biggest new feature. They were welcomed by the Institute of Internal Auditors, although chief executive Anne Kiem revealed concerns that the wider audit reform agenda remains on hold because of the delay in new powers.

“With the new UK Corporate Governance Code now published, we urge the government to accelerate other vital aspects of the audit and corporate governance reform programme, including bringing forward the legislation to put the Financial Reporting Council on a statutory footing with the powers it needs to transition to the new Audit, Governance and Reporting Authority (ARGA).”

Long touted, and long debated, the measures call on boards to monitor internal controls and publish a report.

The board must make a declaration on the “effectiveness” of controls alongside a statement on any which may have failed and the work done to fix them. Boards are left to decide whether “monitoring” requires external assurance.

‘Think carefully’

Carolyn Clarke, co-founder of the Brave Consultancy, a risk advisory firm, notes companies only have to report on “material” controls issues and will have to “think carefully” on what is material to their organisation.

She notes implementation of the new measures is “not straightforward”, a fact recognised by the FRC, which is giving companies until 2026 for implementation (most of the other measures in the revised code are effective from January next year). “Directors can take a deliberate approach and should think carefully about how they do this,” Clarke adds.

Beefed-up requirements on internal controls have long been part of the audit reform debate that followed notable corporate collapses like those of BHS, the department store chain, and construction company Carillion.

Much hinges on the controls, after the government surprised and disappointed many governance observers in October by cancelling new reporting regulations that would have seen audit committees issue a resilience statement, report on their audit and assurance policies, anti-fraud measures and distributable profits. The U-turn followed lobbying by the London Stock Exchange.

Mike Suffield, director of policy and insights at ACCA, a professional body for accountants, reflecting on the revised code, says there was concern before Christmas when it became clear that new proposals for the code would be scaled back, but the internal controls measures will help non-executives “add value to boards” and make it “crystal clear” the resonsibility of boards to monitor controls.

“It’s never a 100% guarantee that Carillion or BHS can’t happen again,” he says, “but better and more transparent information available to the market can only help.

“It will be important for the FRC to track how the disclosures made by companies actually develop, so that we can assess whether the new requirements are truly making a difference.”