EMPLOYEE ENGAGEMENT: HAS IT JUST GROWN TEETH?

Employee engagement has long been a buzzword in the HR sphere. Much of the focus on the subject has been on annually taking the pulse of the workforce via some form of employee engagement survey. But just as attending an annual check-up with your doctor may do nothing for your fitness if it doesn’t accompany a strategy of healthy eating and exercise, an annual survey in a strategic vacuum is unlikely to improve employee engagement or contribute in any meaningful way in the success of the company. S.172 of the Companies Act 2006 together with recent changes to the legal and governance playing field may mean that the issue has not only grown teeth but has finally come of age.

Let’s start with s.172. What is it all about?

S.172 of the Companies Act 2006 has long placed a duty on directors to ‘promote the success of the company’. According to the Act, compliance with that obligation required that every director ‘have regard to’ a long (but non-exclusive) list of factors. Importantly, the duty applies to all decisions taken by a director, not just ones taken in the context of a Board meeting.

For the purpose of this blog, the most important of s.172 factors is probably the need to “have regard to the interests of the company’s employees.” While clearly falling short of a requirement to implement an employee engagement strategy, the concept of taking the interests of a wider group of stakeholders into account was a sound one. In essence, the thinking was that a company which takes the interests of its key stakeholders (such as its employees) into account in its decision making (and engages with that wider group on those interests) is more likely to be successful. This is because a wider diversity of ideas and feedback can ensure that all of the factors that feed into the success of a company may be considered but also because the exercise of engaging your stakeholders is, of itself, likely to engage more people in the company’s success.

Has s.172 been successful?

Unfortunately, up to now, S.172 has been criticised by both the commentators and the courts for lacking teeth. Probably as a result, it has been largely ignored by those who are theoretically obliged to implement it.

In R (on the application of People & Planet) v HM Treasury [2009] EWHC 3020 Admin, for example, the Court essentially acknowledged that recourse to s.172 by shareholders in any attempt to force directors to take the factors (to which they are obliged to have regard) into account was unlikely to be fruitful. Without any sanction for a failure to implement the provision, s.172 has, in practice, long been ignored.

What has changed then?

There has been a recent flurry of activity in the area including a new statutory instrument, a code of practice and an official set of guidance which was produced at the government’s request. We’ll take a look at them in more detail but, in summary, they are:

Companies (Miscellaneous Reporting) Regulations 2018, a statutory instrument which made various changes to company reporting requirements here
The new Corporate Governance Code from the Financial Reporting Council here; and
The new Guidance on Directors’ Duties produced by GC100 here.

Companies (Miscellaneous Reporting) Regulations 2018

In essence the 2018 Regulations have made various changes to company reporting requirements. For our purposes the key requirement is that, each financial year, directors of companies in which the average number of persons employed is 250 or more must report on how they have engaged with a range of stakeholders (included in this is a requirement to report on their employee engagement) and how they have taken account of their interests. Failure to report will be a criminal offence. As the Regulations operate in respect of financial years starting on or after 1 January 2019, these new reporting requirements will begin in 2020.

Let’s look at the employee engagement requirement in more detail

Part 4 of the Regulations require “engagement with employees, suppliers, customers and others”. In respect of employee engagement specifically, the annual report must explain what has been done to:

provide employees systematically with information on matters of concern to them as employees,
consult employees or their representatives on a regular basis so that the views of employees can be taken into account in making decisions which are likely to affect their interests,
encourage the involvement of employees in the company’s performance through an employees’ share scheme or by some other means, and
achieve a common awareness on the part of all employees of the financial and economic factors affecting the performance of the company,

In addition the report must summarise

how the directors have engaged with employees, and
how the directors have had regard to employee interests, and the effect of that regard, including on the principal decisions taken by the company during the financial year.

Clearly it is impossible to report effectively on this without a significant level of employee engagement.

Are there any more requirements?

It should also be noted that where a company meets at least 2 out of 3 of the following:

a turnover of more than £36 million,
a balance sheet total of more than £18 million,
more than 250 employees,

a statement summarising engagement with other stakeholders is also required. As non-employee ‘workers’ likely fall under the category of others in a business relationship with the company, they should probably be considered as stakeholders.

How about the new Corporate Governance Code?

The 2018 UK Corporate Governance Code applies to companies with a premium listing, regardless of where they are incorporated. The Code’s principles include a requirement to ensure effective engagement with, and the encouragement of participation from, stakeholders. Provision 5 of the Code requires the board to understand the views of the company’s key stakeholders and to describe in the annual report how their interests and the other matters set out in s. 172 CA 2006 have been considered in board discussions and decision-making.

The Code specifically provides that, in respect of employee engagement, one or a combination of the following methods should be used:

a director appointed from the workforce,
a formal workforce advisory panel,
a designated non-executive director.

The Code requires that if the board has not chosen one or more of these methods of employee engagement, it should explain what other arrangements are in place and why the board considers those arrangements to be effective. It should be noted that the Code also takes a wider approach to employee engagement as it requires consideration of the broader ‘workforce’.

So how do we actually embed s.172 in decision making?

In October 2018, at the Government’s request, the GC100 (a group of general counsel representing the UK’s top 100 companies) provided guidance on how to embed s.172 into decision making in a company. In essence it suggests five areas of focus:

Strategy – reflect the s. 172 duty when you set and update the company’s strategy and consider risk issues by considering your overall duties and the stakeholder and other factors that will contribute to the company’s success or will be affected by its activities;
Training – establish and attend training courses on induction to the board, with ongoing updates and the s. 172 duty in the context of a director’s wider duties and responsibilities. Consider what training is appropriate for managers, and for directors and managers of subsidiaries;
Information – arrange to receive and consider sufficient information to help directors carry out the role and satisfy the duty, considering who is best placed provide the correct information and whether the information is sufficient to take the required factors into account and make the decision;
Policies and process – put in place policies and processes appropriate to support the company’s operating strategy and to ensure fulfilment of the s. 172 duty at board level and management level;
Engagement – consider what the company’s approach to employee engagement and on engagement with other stakeholders should be, whether through board engagement or wider corporate engagement, also consider whether the company is achieving its aims in relation to stakeholders and how this can be determined

Do we have to document consideration of each of the factors in respect of each decision?

While there is a requirement to ‘have regard to’ the non-exclusive list of factors in respect of every director’s decision, it is clear that documenting the factors in every case would be an onerous task indeed. It may, however, be worth minuting that consideration in any decision of importance, particularly where there may be conflicting interests amongst the various stakeholders. This may also be useful in a world in which you must report annually on manner in which stakeholder considerations have been taken into account.

What specific points must be included in the s. 172 statement?

There is little guidance on the expectations of the s.172 statement itself. Points that could be addressed include the following:

How directors have had regard to the likely consequences of decisions in the long-term, for example the long-term success of the company, and the long-term impact of company activity on the community or environment
How key stakeholders have been identified and the importance of those stakeholders to the long-term success of the company
Identify the impacts the business has on these key stakeholders and the impacts the stakeholders have on the business
Information explaining the benefits created for other stakeholders
Information about stakeholders not listed in s. 172(1), for example companies’ relationships with pension schemes, pensioners and their entire workforce (this may include people who are workers or independent contractors, not just employees)
An explanation of how the company engages with its stakeholders, i.e. the main methods of communication from employee engagement to key client engagement, and how it seeks to understand the key issues affecting those stakeholders
Explain the outcomes of employee engagement and engagement with other key stakeholders and the impact on the board’s decision making
Identify the principal decisions taken by the board during the year and how regard was had to the matters set out in s. 172(1) when making those decisions
Where the interests of different stakeholders do not align, and one group’s interests have been prioritised, the statement could explain how the directors have considered the different interests and the factors considered when making the decision to prefer certain interests over others
Capital allocation decisions, including the decision of whether or not to pay a dividend, and how the directors have had regard to the long term effects and the interests of stakeholders
identify the desired culture, for example values and behaviours, and explain how they have been nurtured and supported in order to maintain the desired reputation for high standards

Are there any penalties other than the offence of failure to report?

While the key is that the reporting requirement opens the company to more scrutiny which can affect company success in a number of ways from the value/share price of the company to the manner in which potential talent might perceive the company, come commentators are already saying that the published guidance could amount to soft law, a failure of which to follow could open the way to directors being sued by disgruntled shareholders if they cannot show that they acted in a way most likely to promote the success of the company.

Conclusion

Employee engagement, long a subject which has occupied the minds of the HR community, may finally have come of age. A combination of the criminal sanctions available against a company who fails to report and the future potential for derivative actions by disgruntled shareholders against companies who fail to engage, means they ignore the evolving law and practise at their peril.

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