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CEO to median pay ratio reporting means employees knowing where they stand

10 January 2019 #Other

New executive pay ratio reporting regulations came into force this month (in the Companies (Miscellaneous Reporting) Regulations 2018).

These changes affect UK-incorporated companies which are listed on the main London Stock Exchange (so companies listed on AIM are not included), New York Stock Exchange, NASDAQ or major EEA stock exchanges and which have more than 250 UK employees.

The nuts and bolts of it are that, for each financial year starting on or after 1 January 2019, these companies will have to publish an annual statement comparing the pay of the CEO to:

  • pay of the highest earning 25% of employees;
  • median employee pay; and
  • pay of the lowest earning 25% of employees.

These businesses will have to publish an explanation of the reasons for the difference between executive salaries and average annual pay for employees. They will also need to explain how the interests of staff and other stakeholder interests are taken into account when they decide on executive salaries and bonuses.

These changes bring into law some of the pledges in the Conservative manifesto for the May 2017 general election, which were themselves a partial implementation of then Home Secretary Theresa May’s July 2016 Conservative party leadership campaign commitment to have employees represented on company boards.

These proposals will no doubt remind HR professionals of the additional workload generated by gender pay gap reporting requirements. There is also a current government consultation on ethnicity pay reporting, which is likely to lead to regulations mirroring those for gender pay gap reporting.

Although the scope of executive pay ratio reporting is different because gender pay gap reporting is not limited to listed companies, all companies who are affected by the new regulations will now have to carry out an additional exercise of a similar kind.

The first statutory executive pay ratio disclosures will have to be made from the start of 2020, covering CEO and employee pay in 2019.

These pay ratio regulations are part of government efforts to improve transparency around executive remuneration and a lot of the media reaction has focused on controversial high pay awards for senior executives in 2018 at companies including Royal Mail, Persimmon and Unilever.

At first glance then, HR professionals may not see this as something which has an ongoing impact on their work, beyond providing the inevitable support to the company in collating the necessary information. This is in contrast to the effects of mandatory gender (and prospectively ethnicity) pay gap reporting, which has obvious implications in terms of revealing pay disparities which may be discriminatory and in respect of which forward thinking businesses recognise that having a more diverse team of senior employees will tend not only to reduce their exposure to legal and reputational risk but also to enhance their performance and resilience.

HR teams could also be forgiven for giving a higher priority to the other changes in employment law recently announced by the government as the biggest reform of employment law in 20 years.

However, it would be a mistake to overlook what is likely to be the most significant practical consequence of mandatory reporting the ratio of CEO to median pay. This comes about because the companies affected already have to publish their CEO’s total pay package.

As a result, unlike with gender pay gap reporting, employees of these companies will be able to calculate the actual earnings figures for the 25th percentile, median and 75th percentile of employees.

While large companies already have to state in their annual accounts both the total number of employees and the total size of their payroll, that can only be used to generate a mean average. Employees will know that the mean average is distorted by the pay of a small number of highly paid executives.

The new requirement to publish the ratio of median pay to CEO pay will lead to employees and new hires knowing where they sit in the salary pecking order. Employees might not compare themselves to the C-suite but it is natural to compare yourself with your peers.

On the whole, knowing that more than half of your colleagues earn more than you could be demotivating, could affect employee relations and is very likely to lead to requests for higher starting salaries as well as increased demands for pay rises from individuals and trade unions.

HR leaders are therefore well advised to make sure company pay arrangements are future proofed for this challenge.

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Russell Dann

Russell Dann
Senior Solicitor

E: rdann@clarkslegal.com
T: 0118 960 4653
M: 0792 014 4165