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Directions Monthly Special Edition, Autumn 2007

DIRECTIONSMONTHLYSUPPLEMENT

SPECIALEDITIONAUTUMN07

TRENDSAND ISSUES IN THEWORLDOFCORPORATEREPORTING

DISSECTINGBESTPRACTICE INFTSE 100ANNUALREPORTANDACCOUNTS

ASPECIALEDITION INASSOCIATIONWITH

INDEPENDENTAUDIT


Whatwe have set out to do is to look at whatwe see as the key areas of an annual report inthe newworld of the business review and ina climatewhere the verymodel of publicshare ownership has been so fundamentallychallenged by the private equitymodel.

We have brought together a panel to look atthe reports of the FTSE 100 and identify thosecompanies that appear to be ‘getting’ this newworld and responding positively. The idea hasbeen to highlight the beacons so that othersmay look, adapt ideas to their companies andkeep thewhole process evolving.

This is, we believe, what is good about theUKmodel of reportingwherewe’ve largelymanaged to avoid regulatory prescription. Sothere is no absolute guide for ‘good’ reporting inthe box ticking sense – but we think it is possibleto identify the leaders from the followers. Andwhat’s interesting fromour panel’s views is thatit’s often only small details and a bit of extrathought thatmake all the difference.

We hope you find this review of interest. As ever,please give us feedback and if you’d like to beinvolved in future editions of Directions in anyway at all please just let us know.

INTRODUCTION FTSE 100Annual Report andAccounts Analysis 2007 Issue 16

Welcome to this special bumper edition of DirectionsforAutumn – a review of best practice in corporate financialreporting in the FTSE 100.

This edition has been brought to you as a collaborationbetween salterbaxter and IndependentAudit, the experts ingovernance and board performance. The insights and analysisare frompeoplewith interesting views onwhat good reportingshould now look and feel like.

We hope you find this useful and enjoy the read – especiallyif your company is one of those spoken of in glowing terms.

LucieHarrild

PavanAthwal

There have been numerous recentdevelopments in the world of corporatefinancial reporting and themajority of thesehave been technical in nature and left open tothe individual companies to interpret in theirown way. This has added to the complexityof the disclosure requirements and ledcompanies to think about the details andstructures of their reportsmore than everbefore. So how have the FTSE 100 respondedto this constantly shifting landscape andwhat, if anything, can be identified as bestpractice in reporting when somuch is up forinterpretation and debate?

First of all wewant to explain that our approachto this analysis of best practice is verymuchabout highlighting the positives rather thanpointing the finger and finding fault. This isbecausewe know, fromourworkwith ourclients, that it can take a lot of time, energyand persuasion to get the board to focus onwhatcan be seen as quite small details. It’s not alwayseasy to see the strategic benefit. Andwhenthey’re busy running the business, andwith thereporting burden becoming evermore technical,we knowwhy some things are hard to achieve –and that inmany cases it’s not for want of trying.

Having said that, there are a few examplesof companies who really don’t appear to beembracing the new spirit and guidance inreporting, but these really are fewand farbetween.

The big challenge we’ve tried to address is what, if anything,can be identified as best practice in reporting when so much isup for interpretation?

Richard SheathDirector, Independent [email protected]

Nigel SalterDirector, [email protected]


THE PANEL FTSE 100Annual Report andAccounts Analysis 2007 Issue 16

Meet the panelWe’d like to thank our contributors panel for their time and for their valuable insights.

Each panelmember has been given the freedom to approach this task in their ownway and by bringing theirownexpertise andviews tobear, so there is noattemptmade tobeabsolutely uniform inapproachandmethod.

The one thingwehave tried to encourage is a focus onwhether the reports in question serve to enlighten thereader on theway a company ismanaged and is performing.We’ve also encouraged people to try to identifywhere companies go further than box ticking, and ideally even break new ground.

Wemust also point out that each panel member’s views are their own and not necessarily those of thispublication or of the organisations they represent.

The four key areas that we have defined as central to the best practice debate are:

•The description of a company’s strategy – reviewed byNigel Salter of salterbaxter

•The approach to forward-looking statements and risk – reviewed byRobert Bruce, journalist and FT columnist

•The approach to corporate governance reporting – reviewed byRichard Sheath of IndependentAudit

•The remuneration report – reviewed by Dan Perrett of NewBridge Street Consultants

Robert BruceColumnistFinancial Times

Robert Bruce is the UK’s leadingcommentator onaccounting, financialreporting, corporate governanceandmanagement issues. He writesregular articles and columns onaccountancy and financial reportingfor theFinancial Times.Healsowritesamonthly column onmanagementissues for Accountancymagazineas well as writing articles for a widerange of other publications. In2007 he was named IIA Journalistof the Year.

Dan PerrettPartnerNewBridge Street Consultants LLP

Dan Perrett is a partner of NewBridge Street Consultants LLP, theUK’s leading executive remunerationconsultancy. New Bridge StreetConsultants act for over a third ofFTSE 350 companies, as well asother quoted and private companies.Dan works on the design andimplementation of annual bonusand longer term share plansensuring that they support thecorporate strategy and meetHR goals. This often requiresconsultation and communicationwith institutional investors and thepreparation of the remunerationreport is critical in this process.

Nigel SalterDirectorsalterbaxter

Nigel Salter is founding directorof corporate communications anddesign company salterbaxter.He advisesmajor UK and Europeancompanies on a broad range ofcommunications and branding issuesand frequently writes on corporatereporting, corporate responsibilityand corporate governance. His clientscurrently include 11 of the FTSE 100.

Richard SheathDirectorIndependent Audit

Richard Sheath is a Director ofIndependent Audit Limited, agovernance consultancy specialisingin helping boardsmake sure thatstrategic leadership and control areworking well in supporting corporateperformance. He advises boards inthe UK and overseas on board andaudit committee effectiveness,risk oversight, control culture andinternal audit. Richard also advisescompanies on narrative reportingand has authored guides on thebusiness review and governancereporting. He is the audit committeechairman of Eurochem, amajorRussian fertiliser company.


STRATEGY FTSE 100Annual Report andAccounts Analysis 2007 Issue 16

Rather surprisingly, it’s only really in thelast few years with the prompting of firstthe OFR and now the Business Review thatcompanies have really paid attention todescribing their strategy effectively inthe annual report. There were of coursesome leading companies who were veryclear about this but they were actuallyfew and far between.

Today, a description of the strategy is prettymuch standard and so the debate is one ofquality – although I have to say that in a fewcases I still actually struggled to find anythingat all about business strategy, let alone aclearly defined section. And in some caseswhat was labelled strategy was in fact somebland boilerplate that shed no light at all.

The good news is that the good ones arenow genuinely worthwhile.

❝ The key factors that make a fewstand out are actually quite simple: Is thesection clearly demarcated as strategy?Is the reader left knowingmore about thebusiness? Is it written in simple English?Is there some sense of performanceagainst the strategy? ❞My long list of noteworthy companies is:AstraZeneca; Aviva; BHP Billiton; BAESystems; Capita; Friends Provident; HBOS;Kelda; Kingfisher; Marks & Spencer;Reuters; SABMiller; Severn Trent; Shell;Smiths Group and Vodafone.

But the best ones are Aviva, Capita,GlaxoSmithKline and Kingfisher. Capita isslightly different in that the heart of thereport is structured around its four keystrategic points. This is thorough andprovides a real insight into the way thebusiness is run and why, but if anything thehuge amount of detail about the strategyends upmaking it rather hard to understand– or at least it takes a long time read which

means that it probably doesn’t quite passthe ‘keep it simple’ test. But it’s a greatexample of some clear managementthinking. The other three are all similar inthat they dedicate a clear section to thestrategy, (the design demarcates it clearlytoo), they lay out the key points in a simpletabular form and then report progressagainst the objectives. For me this is whatbest practice is all about – simple, straightto the point and informative. I also likeGSK’s as it neatly refers the reader outto other pages for more detail on theparticular strategic point in question. Noclear winner though – these four are idealexamples for any other company looking toget this right. They explain their prioritiesthen say how they’re doing against them –not rocket science, but very convincing.

A few pitfalls to watch out for:• some companies only put the strategycontent in the full report and not in theannual review – I can’t see any goodreason for this.

• I noticed that a number of companieshave an identical approach and structureusing the words ‘Delivering on strategicgoals’ then discovered that all of thesewere being done by the same designcompany. I think this is disappointing –sausage factory strategy strikes me asa bit lame.

• very few companies separate theirstrategy out as a section on their websites.This would be a useful step forward.

Description of Strategy

➜ My favourite(s):

Aviva, Capita, GlaxoSmithKlineand Kingfisher

They explain their prioritiesthen say how they’re doingagainst them – not rocketscience, but very convincing.❝

❝

Nigel SalterDirectorsalterbaxter

Noteworthy reports:➜ AstraZenecaAnnual Report 2006

➜ Aviva Annual Report 2006

➜ BAESystemsAnnual Report 2006

➜ BHPBilliton Annual Report 2006

➜ Capita Annual Report 2006

➜ Friends Provident Annual Report 2006

➜ GlaxoSmithKline Annual ReportandAccounts 2006

➜ HBOSAnnual Report andAccounts 2006

➜ Kelda Annual Report andAccounts 2007

➜ Kingfisher Annual Report 2006

➜ Marks & Spencer Annual Report 2007

➜ Reuters Annual Review 2006

➜ SABMiller Annual Report 2007

➜ Severn Trent Annual Report andAccounts 2006/07

➜ Shell Annual Report 2006

➜ Smiths GroupAnnual Report andAccounts 2006

➜ VodafoneAnnual Report andAccounts 2006

Kingfisher’s strategy overview


something like this, which probably makessense internally, is going to help externally.With hindsight in these troubled times it isthe sentence on page 19 which is the mostsignificant for a mortgage lender. ‘Creditrisk is defined as the potential financial lossif a customer or counterparty fails to meettheir obligations to us as they become due’.Too right.

Too often companies do not use thestraightforward language which their userswould prefer. So it is good to see anothermining group, Xstrata, taking a positiveview of the forward-looking strategysection. Too often such stuff is describedpassively. Xstrata understands, quiterightly, that only verbs will do. They areactive and strategy should be active. Soacross a spread of proposed strategies bysector on page 20 of its 2006 report everysentence starts with a verb.

But, if one was looking for a winner in thecurrent clutch of accounts you would haveto choose Reuters annual review for 2006.The key section here is what it calls its ‘riskradar’ on page 9. Issues are grouped under‘risk’, ‘impact’ and ‘action’. They are clearlyexpressed, and in one thoughtful aspect,which others could do with following, eachone is linked to the section and page wherethe answers will be found. It is a little thing.But it suggests that they are thinking forthemselves in how they present theinformation rather than relying on thelawyer’s template.

FORWARD-LOOKING STATEMENTS &RISK FTSE 100Annual Report andAccounts Analysis 2007 Issue 16

There is a fundamental problem with thesection of any business review which dealswith forward-looking statements and withrisk. And that problem is lawyers. Here isthe standard wording from the 2006 reportof Rio Tinto, the international mining group.It can be found in many other companies,as the legal boilerplate takes control.‘The words “intend”, “aim”, “project”,“anticipate”, “estimate”, “plan”, “believes”,“expects”, “may”, “should”, “will”, orsimilar expressions, commonly identifysuch forward-looking statements’, it says.This is then followed by a statement thatthe group‘ cannot guarantee that itsforward-looking statements will not differmaterially from actual results’.

For the user of a business review this maybe what Monty Python used to refer toas a statement of the ‘bleeding obvious’.It is a shame because forward-lookinginformation is increasing in scope, usageand value. But to have it damned bylegalese boilerplate takes the gloss andsome of the value off it. At least Rio Tintoputs its caveat upfront, on page 7, ratherthan losing it in the depths of moreverbage. And it comes immediately aftera page of serious risk factors. So readers,assuming they work from front to back,will have all these warnings ringing in theirears as theymove forward tomeatier things.

They are probably better suited thanreaders of the 2006 effort from Bradford &Bingley, the building society. This featuresan extensive diagram of the risk reportingstructure but you do wonder whether

Forward-looking statements&Risk

It is a little thing. But it suggeststhat they are thinking forthemselves in how they presentthe information rather thanrelying on the lawyer’s template.


Reuters Annual Review 2006

Robert BruceColumnistFinancial Times

❝

❝

Reuters Annual Review 2006


effectiveness will be brought to life by atleast a few examples to show that this is aboard looking for continuous improvementand not resting on its laurels.

The audit committee will explain what it didto evaluate the effectiveness of the externaland internal auditors – not just tell us thatthey did it. The nomination committee willgive us reassurance that they’ve not justresponded to immediate needs but have alsoactively reviewed success and contingencyplanning from a strategic perspective. Andthe remuneration committeewill explain how,in making sure rewards support strategicgoals, they’vemanaged to tackle the technicalcomplexities and form an independent view.

With a picture like this, the reader can startgetting more comfort that governance isworking well and seeing how the board issupporting strong performance. It’s difficultto get this from a report that reads like atextbook description of what a board does,interspersed with compliance statements.Some are getting there. Reports sticking outfrom the crowd for particular features includeBarclays and Marks & Spencer (for theirinsight into board activity), Imperial Tobaccoand National Grid (for their useful detail onboard evaluation), and J Sainsbury (usefulexamples of board and remunerationcommittee focus).

But it remains a curate’s egg: even thosereports that are strong in some areas providelittle insight in others. And very few havetaken a good step back, well away from theboilerplate, and asked how the real essenceof their governance can be shared.

Two of the FTSE 100 who have made a goodstart in doing this are BAE Systems andReuters so they become my ‘favourites’for the past year. They stand out by usinginterview and letter style to give the readerbetter insight into the role of governanceand how the board works. That little bit ofextra thought goes a long way in bringingboard governance to life.

GOVERNANCE FTSE 100Annual Report andAccounts Analysis 2007 Issue 16

Boards can make a fundamental differenceto corporate performance. Get the mix ofpeople wrong, fail to get them workingtogether well, lose focus or miss crucialdevelopments, and you can soon find that thebusiness is at sea. So you’d think that boardswouldmake a real effort to give shareholdersconfidence that their interests are in thegood hands of a well-functioning board.

The governance section of the annual reportis a good opportunity to get the messageover. But most companies are still missing it.

You have to sympathise (a bit at least).The compliance statements have to be there,and trying to get the chairman interestedin adopting a different style can be an uphillstruggle, especially if time’s running short.But most companies are still missing it.

It’s not all bad news. For the past fouryears since the introduction of the revisedCombined Code we’ve looked at FTSE 100governance reports and inmany cases they’veimproved: there’s more reporting in the pasttense (telling us what was done, not just whatis supposed to be done), clearer explanationsof what’s been done to assess effectiveness,more insight on independence issues and,here and there, examples of particular issuesthat have cropped up and how the boardhas responded. Audit committee reportingin particular has got markedly better.

❝ A good report doesn’t just repeat theReservedMatters. It uses a few examples ofhow the board has focussed its work duringthe year to drive strategic performance orrespond to developing risks or problems.It will explain how the mix of skills on theboard is right for today’s business and insupporting the future strategy. ❞The way the board is driving the rightbehaviour through leadership and throughreward will be discussed. The board willexplain how it has got new insights throughbetter information, briefings ormanagementinteraction. And the improved reportingon what was done to assess the board’s

Governance

…very few have taken a good stepback, well away from the boilerplate,and asked how the real essence oftheir governance can be shared.


BAE Systems and Reuters

They stand out by using interview andletter style to give the reader betterinsight into the role of governanceand how the board works. That littlebit of extra thought goes a long wayin bringing board governance to life.

Noteworthy reports:➜ BAE Systems Annual Report 2006

➜ Barclays Annual Report andFinancial Statements 2006

➜ Imperial Tobacco Annual Report2006/07

➜ J Sainsbury Annual Report 2006

➜ Marks & Spencer Annual Report2006/07

➜ National Grid Annual Report andAccounts 2006

➜ Reuters Annual Review 2006

Richard SheathDirectorIndependent Audit

❝

❝

Reuters Governance spread

Remuneration


REMUNERATION FTSE 100Annual Report andAccounts Analysis 2007 Issue 16

Committee may introduce the advisoryvote on remuneration at the AnnualGeneral Meeting.

• Summarising remuneration policy in asuccinct table. A very good example of thisis National Express’ remuneration report.This clearly shows how the policy supportsthe company’s strategic objectives.

• Using charts to show the balance of aremuneration package. I think the leadingexample of this is WPP’s remunerationreport. However, companies can takedifferent approaches to valuing certainelements of pay, particularly the equityincentives, meaning that it is harder thanyou think to compare pay policies acrossdifferent companies.

• Showing how pay compares to marketrates. An example of this kind of disclosureis the remuneration report of SMG. Whilethe inclusion of this information has beenwelcomed by many institutional investors,I query whether this conflicts with theinvestor criticism that pay is being ratchetedup by companies ‘chasing’ the median.

• Retrospective disclosure of annual bonusoutcome. This is not governed by thelegislation or Combined Code but isincreasingly being asked for by institutionalinvestors. Over the coming years I expectdisclosure on annual bonus plans toincrease. Severn Trent is a good exampleof a company that already does this.

• Giving an update on progress underoutstanding awards. This is a good indicatorof whether or not long term incentivesare achieving their goals. One of the fewcompanies that disclose this in theremuneration report is Wolseley.

• Giving a summary of how employeesshare in a company’s success. StandardLife introduces its remuneration reportby explaining howmany of its employeesparticipate in share plans.

My favourite is the Schroders AnnualReport and Accounts 2006/07. Their 2006remuneration report continues to buildon the fundamental and market leadingre-write done for their 2004 report. It iseasy to read, there is a key developmentsection showing what is new in the year,clear policy statements that avoid clichésand itmakes good use of tables and charts.

Noteworthy reports:➜ National Express Annual Report2006

➜ Schroders Annual Report andAccounts 2006/07

➜ Severn Trent Annual Report andAccounts 2006/07

➜ SMG Annual Report 2006

➜ Standard Life Annual Reports andAccounts 2006

➜ Vodafone Annual Report andAccounts 2006

➜ Wolseley Annual Report andAccounts 2006

➜ WPP Annual Report and Accounts2006/07

Dan PerrettConsultantNewBridge Street Consultants LLP


Schroders Annual Report andAccounts 2006/07

The remuneration report is one of themost important parts of a company’sannual report because:

(a) for quoted companies, shareholders mustbe given the opportunity to vote on it; and

(b) it seems to be the first section sought outby journalists. Whereas they like to remindus of an actor’s age after giving his/hername, with company directors they seemto prefer to quote their pay!

This attention has resulted in the quality ofFTSE 100 remuneration reports improvingconsiderably over the past few years.

Contents of a Remuneration ReportFor a fully quoted company there arestatutory and best practice disclosurerequirements which have led to a fairlystandard structure for a remunerationreport, namely:

– details of the Remuneration Committee’srole and composition;

– the general policy statement on pay;

– descriptions of the individual componentsthat make up total remuneration;

– details of the non-executive directors’ pay;

– explanation of the directors’ servicecontracts; and

– the audited tables of emoluments andrights to shares.

Qualities of a Good Remuneration ReportThe standard format described abovedoes support a clear structure becauseit separates the forward-looking policysections from the backward-looking ‘whathas been paid’ sections.

❝ In previous years, a common criticismof remuneration reports was when theymerged thepolicy and thepreviouspractice;for example, combining the descriptionsof the share plans that the companywill use in future years with the ‘dead’share schemes that are in run-off mode.For FTSE 100 companies, this is muchless prevalent now. ❞Specific qualities from remuneration reportspublished in 2007 that I think are effectiveand can be viewed as market leading are:

• Introducing the remuneration report witha covering letter from the Chairman of theRemuneration Committee. For example,Vodafone used this approach this yearto explain the key principles of theirremuneration policy and the changes thatthey had made during the year. This givesthe report a personal touch and replicateshow the Chairman of the Remuneration

It is easy to read,there is a keydevelopment sectionshowing what is newin the year, clearpolicy statements thatavoid clichés and itmakes good use oftables and charts.❝

❝

ABOUTUSSALTERBAXTERADVISECOMPANIESONSTRATEGY,BRANDING, CORPORATECOMMUNICATIONSANDDESIGN.

Our clients are extremely varied and include FTSE 100 companies; someof the world’s most exclusive brands; independent, entrepreneurialbusinesses; world leading educational establishments; law firms; privateequity firms andmedia companies.

We name companies, re-invent companies, and re-position companies.We help companies communicate with shareholders and advise them onhow to address corporate responsibility. We launch, brand and re-brand.

A key area of our expertise is corporate reporting and we advise leadingUK and European organisations on strategy and design for their financialand CR communications programmes. We currently work with 11 of theUK FTSE 100.

Contact:Lucie Harrild Pavan [email protected] [email protected]: +44 (0)20 7229 5720 Tel: +44 (0)20 7229 5720

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