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Australia – The 3rd Edition Of The ASX Corporate Governance Council Principles And Recommendations Released.

1 April, 2014

 


What You Need To Know

 

  • On 27 March 2014, the ASX Corporate Governance Council published the 3rd edition of its Corporate Governance Principles and Recommendations.
  • In addition, the ASX Listing Rules will be amended to enable entities to publish their corporate governance statements on their websites rather than in their annual reports. If the statement is not in the annual report, a copy of the statement must be lodged with ASX each year at the time the annual report is lodged.
  • The 3rd edition of the Principles and Recommendations take effect for a listed entity’s first full financial year commencing on or after 1 July 2014. The governance-related Listing Rule changes to allow entities to publish their corporate governance statements on their websites are also expected to take effect at the same time. Entities will be able to choose to early adopt.

 
What You Need To Do

 

  • Consider your existing governance practices and disclosures in light of the new 3rd edition of the Principles and Recommendations, in particular having regard to the recommendations relating to risk processes and sustainability risk disclosure.

 
Background

 
On 27 March 2014, the ASX Corporate Governance Council (Council) released the final form of the 3rd edition of its Corporate Governance Principles and Recommendations (Principles and Recommendations) (a copy is available on the ASX website here).

 
The 3rd edition has been issued by the Council having regard to feedback provided on the consultation draft issued on 16 August 2013. 

 
Key Differences Between The Consultation Draft And Final 3rd Edition

 
For the most part, the approach outlined by the Council in the consultation draft has been reflected in the final form of the 3rd edition. However, the Council has had regard to feedback and made a number of changes to the proposals it initially raised in the consultation draft. Some of the key changes are discussed below.

 

Recommendation 2.3 – Director Independence – Time In Office

 
The re-numbered Box 2.3 (previously Box 2.1) sets out the factors to consider when assessing a director’s independence.

 
The consultation draft proposed that a tenure of more than 9 years would cause a director to no longer be independent. This has been replaced so that independence is to be assessed by considering whether the director has served for “such a period that his or her independence may have been compromised.”

 
This approach is a more flexible one, recognising that whilst tenure is relevant to the assessment of independence it is somewhat arbitrary to prescribe a fixed period.

 
Council has also included the following guidance in the commentary:

 

“… the Council recognises that the interests of a listed entity and its security holders are likely to be well served by having a mix of directors, some with a longer tenure with a deep understanding of the entity and its business and some with a shorter tenure with fresh ideas and perspective. It also recognises that the chair of the board will frequently fall into the former category rather than the latter.

 

The mere fact that a director has served on a board for a substantial period does not mean that he or she has become too close to management to be considered independent. However, the board should regularly assess whether that might be the case for any director who has served in that position for more than 10 years.”

 
Entities with independent directors who have been in office for 10 or more years, might consider specifically addressing in their corporate governance statement the reasons why they consider the director’s status is not affected by their length of time in office.

 
Recommendation 7.1 – Risk Committees

 
Principle 7 – “Recognise and manage risk” – has been a part of the Principles and Recommendations since the first edition was released in 2003. What was significant about the consultation draft was that it proposed a number of new recommendations relating to risk oversight and management.

 
New recommendation 7.1 provides that the board of an entity should “have a risk committee or committees to oversee risk… or… if it does not have a risk committee or committees [it should] disclose that fact and the processes it employees for overseeing the entity’s risk management framework.”

 
The final form of the recommendation differs from that proposed in the consultation draft in recognising that a listed entity may have a single board committee to oversee risk (eg a dedicated risk committee or a combined audit and risk committee) or a group of committees overseeing different aspects of risk.

 
Recommendation 7.1 recognises that it is a matter for the board of an entity to structure its governance arrangements in respect of risk oversight. The board may delegate overseeing the entity’s risk management framework to a committee or committees, or adopt some other process for board oversight. The critical element remains that the board must have developed a framework in respect of risk management for the entity.

 
The commentary has also been amended to note that members of a risk committee between them should have the “necessary technical knowledge” as well as a sufficient understanding of the industry in which the entity operates to be able to discharge the committees mandate effectively.

 
Recommendation 7.4 – Sustainability Risks

 
A new recommendation 7.4 concerning sustainability risks is included in the 3rd edition (the proposal to include a new recommendation 7.4 was foreshadowed in the consultation draft).

 
The final form of recommendation 7.4 is that an entity “should disclose whether it has any material exposure to economic, environmental and social sustainability risks and, if it does, how it manages or intends to manage those risks.”

 
The inclusion of this recommendation recognises that the disclosure of sustainability risks is increasing in importance to assist investors to make longer term investment decisions.

 
The key change from the recommendation proposed in the consultation draft is that the recommended disclosures are now limited to situations where an entity has a “material exposure” to sustainability risks.

 
The glossary to the 3rd edition (unlike the consultation draft) now includes the following definitions of the key concepts used in recommendation 7.4:

 

  • economic sustainability – the ability of a listed entity to continue operating at a particular level of economic production over the long term;
  • environmental sustainability – the ability of a listed entity to continue operating in a manner that does not compromise the health of the ecosystems in which it operates over the long term;
  • social sustainability – the ability of a listed entity to continue operating in a manner that meets accepted social norms and needs over the long term.

 
Whether an entity has a “material exposure” to any sustainability risk is to be assessed by the entity. Material exposure, as explained in the commentary to recommendation 7.4, means a “real possibility that the risk in question could substantively impact the listed entity’s ability to create or preserve value for security holders over the short, medium or long term”. The definitions of economic, environmental and social sustainability risk, however, all focus on the ability of the entity to continue to operate “over the long term” having regard to the specific subject matter of the risk.

 
When the broad nature of the above definitions is considered together with the concept of “material exposure” used in the recommendation, an entity will need to reflect on whether it is exposed to sustainability risks that have a “real possibility” of substantively impacting the entity over the relevant periods.

 
The commentary for recommendation 7.4 notes that for those entities that publish a sustainability report, the recommendation can be satisfied by simply cross-referring to that report. For those entities that do not publish sustainability reports and have not previously disclosed their exposure to sustainability risks, consideration should be given to addressing the new recommendation. For example, do the entity’s existing disclosures (eg risks disclosures for the purpose of the operations and financial review section 299A) sufficiently address the recommendation or is additional disclosure required in the corporate governance statement?

 
Recommendation 8.3 – Remuneration “Clawback” Policies

 
Draft recommendation 8.3 proposed that entities develop and disclose a “clawback” policy setting out the circumstances in which the entity can claw back performance based remuneration from its senior executives. The final form of the 3rd edition has omitted that draft recommendation due to concerns, among other things, about how an entity would implement a clawback policy and the other significant remuneration regulation that already exists.

 
Reference to “clawback” policies is not completely absent from the 3rd edition. Recommendation 8.2 relates to disclosure of the practices and policies regarding the remuneration of non-executive directors, executive directors and other senior executives. The commentary to that recommendation now states that the disclosures regarding the remuneration of executive directors and other senior executives should include a summary of, among other things, any clawback of performance-based remuneration in the event of serious misconduct or a material misstatement in the listed entity’s financial statements.

 
Recommendation 1.4 – Role Of The Company Secretary

 
New recommendation 1.4 has been introduced into the 3rd edition and provides that “the company secretary of an entity should be accountable directly to the board, through the chair, on all matters to do with the proper functioning of the board”.

 
The final form of the recommendation differs from that in the consultation draft. The draft had proposed that the company secretary have a “direct reporting line” to the chair. The change to the form of recommendation was made to recognise that, in most cases, the company secretary will have dual reporting roles.

 
Recommendation 1.4 reflects some of the commentary currently in the 2nd edition of the Principles and Recommendation. The elevation of the commentary to a recommendation emphasises the important role of the company secretary in supporting the effectiveness of the board and its committees.

 
The commentary to recommendation 1.4 also sets out a number of the key elements of the role of a company secretary, including advising the board and its committees on governance matters and monitoring that board and committee policy and procedures are followed.

 
Timing

 
The 3rd edition of the Principles and Recommendations take effect for an entity’s first full financial year commencing on or after 1 July 2014.

 
Therefore, entities with a 30 June or 31 December balance date will be expected to first measure their governance practices against the recommendations in the 3rd edition for the financial year ending 30 June 2015 and 31 December 2015, respectively.

 
The Council encourages early adoption of the 3rd edition of the Principles and Recommendations.

 
Format Of The Corporate Governance Statement

 
In conjunction with the release of the 3rd edition, the ASX has foreshadowed governance-related amendments to the Listing Rules.

 
Under these changes, an entity must include in its annual report either a corporate governance statement or the URL of the page on its website where the corporate governance statement can be found.

 
In addition, when an entity lodges its annual report with ASX it must also lodge with ASX:

 

  • a completed “Appendix 4G” which contains a key to where the various corporate governance disclosures for the entity can be found; and
  • a copy of its corporate governance statement, if the entity has chosen to include its statement on its website rather than in its annual report.

 
These changes to the Listing Rules are expected to first take effect at the same time as the 3rd edition first applies. However, the Listing Rule changes are expected to make it clear that an entity can choose to adopt these changes in an earlier financial year, if it so wishes.

 

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For further information, please contact:

 

Sarah Dulhunty, Partner, Ashurst
sarah.dulhunty@ashurst.com

 

Corey Lewis, Ashurst
corey.lewis@ashurst.com

 

Lisa d’Oliveyra, Ashurst
lisa.d’oliveyra@ashurst.com

 
Lily Zhang, Ashurst
lily.zhang@ashurst.com

 

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