MPs have sent the City a clear message: Clean up your act on pay or we'll do it for you

Theresa May’s Government might have fought shy of some of the more radical ideas on business reform with the release of its green paper on corporate governance, but MPs on the Business Committee are, it seems, made of sterner stuff.

A report just released says British business must act on governance failings and pay, correctly highlighting the low level of trust in business in this country when compared to many similar developed economies.

A particular bugbear is, of course, the explosion in CEO pay we have witnessed in recent years, despite scant evidence that it has produced any improvement in either corporate or economic performance.

But how to change things, and improve the level of esteem in which business is held?

The report is full of good ideas when it comes to governance reform generally. It's more up and down on the subject of bosses pay.

But first the good stuff. I particularly liked the idea of a traffic light style rating system, which would see the Financial Reporting Council assessing businesses and giving their governance a green, amber or a red light.

That could be fun. You can just imagine the squealing from companies in the latter two categories. Would anyone like to guess who’d be the first to get a red? I’m thinking of a certain sports retailer you may have heard of. But Sports Direct is far from being the only contender.

It is slightly concerning that the committee would like the Financial Reporting Council to run this. In fact many of its recommendations are predicated on the FRC to doing its job properly. Under the leadership of Stephen Haddrill its record has been mixed.

It took, for example, eight years for an investigation to be launched into KPMG’s auditing of HBOS in the run up to the bank's near collapse and rescue by Lloyds. Not a good look. Still, the watchdog’s recent appointment of a panel to investigate its disciplinary system is a hopeful sign.

The report also has good things to say about improving boardroom diversity, urging the setting of targets for hiring women to senior executive positions in addition to non executive directorships. It further calls on the FRC to embed the promotion of the ethnic diversity of boards within a revised governance code.

Under its plans, companies would have to report on progress in both spheres in their annual reports. Again, a good idea, although it is deeply disappointing that the report fails to highlight disability. Why is this so often ignored?

Making non executive directors more accountable, and requiring them to prove convincingly that they are able to devote sufficient time to each company when they serve on multiple boards is another suggestion that merits taking up. Too many NEDs have too many appointments.

On the subject of pay, the most pressing governance issue of the day, the report is less sure footed.

Workers on remuneration committees? Good. “Stakeholder advisory panels”, including workers, consumers, and suppliers, to help collaboration and dialogue. Terrible name, terrific idea.

Requiring companies to publish pay ratios, comparing CEO pay to the pay of the average employee (as John Lewis does) but also to the pay of senior employees generally? Tick.

However, the report rejects annual binding votes on bosses pay. Instead these would only be held if 25 per cent of shareholders who vote first come out against a remuneration report the previous year.

That’s a cop out. If companies actually listened to their shareholders, they wouldn’t need to worry about votes on pay. Boards need to learn to heed the warnings they get in private. A binding annual vote would force them to do that.

The report calls for remuneration committee chairs to be expected to resign if their proposals do not receive the backing of 75 per cent of voting shareholders. Again, that sounds like a good idea, but it might actually serve as a disincentive to big shareholders to vote against executive pay awards.

Institutional shareholders are notoriously reluctant to be seen to be booting directors out and creating “instability” on boards. I worry that they might think twice about voting against pay awards if they were aware that their votes could lead to the remco chair being booted. It needlessly complicates the issue, when an annual binding vote is the simplest answer.

However, despite these misgivings, the report is a welcome contribution to a very necessary debate and it will help send an important message to the City: Sort this out, or we’ll do it for you.