Adrian Cadbury

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ADRIAN CADBURY REPORT

The origin of the report

The Committee on the Financial Aspects of Corporate Governance, forever after known as the CadburyCommittee, was established in May 1991 byte Financial Reporting Council, the London Stock Exchange,

and the accountancy profession. The spur for the Committee's creation was an increasing lack of investorconfidence in the honesty and accountability of listed companies, occasioned in particular by the suddenfinancial collapses of two companies, wallpaper group Chloral and Asil Nadir's Polly Peck consortium:

neither of these sudden failures was at all foreshadowed in their apparently healthy published accounts.Even as the Committee was getting down to business, two further scandals shook the financial world: the

collapse of the Bank of Credit and Commerce International and exposure of its widespread criminalpractices, and the posthumous discovery of Robert Maxwell's appropriation of 440m from hiscompanies' pension funds as the Maxwell Group filed for bankruptcy in 1992. The shockwaves from these

two incidents only heightened the sense of urgency behind the Committee's work, and ensured that all eyes wouldbe on its eventual report. The effect of these multiple blows to the perceived probity and integrity of UK

financial institutions was such that many feared an overly heavy-handed response, perhaps evenlegislation mandating certain boardroom practices. This was not the strategy the Committee ultimatelysuggested, but even so the publication of their draft report in May 1992 met with a degree of criticism andhostility by institution which believed themselves to be under attack. Peter Morgan, Director General ofthe Institute of Directors, described their proposals as divisive', particularly language favoring a two-tier

board structure, of executive directors on the one hand and of non-executives on the other.

Features of the report

Sir Adrian Cadbury was a visionary chairman who energetically promoted thecommittee recommendations

The committee reflected the main shareholders

The investigation produced the draft report followed by an extensive process of consultation

A final report was produced whose recommendations was widely accepted and adopted

Objective of the report

Uplift the low level of confidence

Review the structure, rights and role

Address various aspects of accountancy profession

Raise the standard of corporate governance


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The contents of the ReportThe suggestions which met with such disfavor were considerably toned down come the publication of the

final Report in December 1992, as were proposals that shareholders have the right to directly question theChairs of audit and remuneration committees at AGMs, and that there be a Senior Non-ExecutiveDirector to represent shareholders' interests in the event that the positions of CEO and Chairman arecombined. Nevertheless the broad substance of the Report remained intact, principally its belief that an

approach 'based on compliance with a voluntary code coupled with disclosure, will prove more effectivethan a statutorycode'.The central components of this voluntary code, the Cadbury Code, are:

1. thatthere be a clear division of responsibilities aThe top, primarily that the position of

Chairman ofthe Board be separated fromthatof Chief Executive, orthatthere be a

strong independentelementonthe board;

2. thatthe majority of the Board be comprised of outside directors;

3. thatremuneration committees for Board members be made up inthe majority of

non-executive directors; and

4. thatthe Board should appointan AuditCommittee including atleast threenon-

executive directors.

The recommendations in the Cadbury code of best practices are:-

1. Directors service contracts should not exceed three years without shareholders approval.

2. There should be full and clear disclosure of their total emoluments and those of the Chairman andthe highest-paid Directors, including pension contributions and stock options. Separate figuresshould be given for salary and performance-related elements and the basis on which performance

is measured should be explained.

3. Executive Directors\ pay should be subject to the recommendations of a Remuneration

Committee made up wholly or mainly of Non-Executive Directors.

4. It is the Boards duty to present a balanced and understandable assessment of the companys

position.

5. The Board should establish an Audit Committee of at least three Non-Executive Directors with

written terms of reference, which deal clearly with its authority and duties.

6. The Directors should explain their responsibility for preparing the accounts nextto a statement by

the Auditors about their reporting responsibilities.


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7. The Directors should report on the effectiveness of the companys system of internal control.

The Directors should report that the business is a going concern, withsupporting assumptions or

qualifications as necessary.The report created mixed feelings and with some more frauds emergingin UK,Governance came to mean the extension of Directors responsibility toall relevant control objectivesincluding business risk assessment andminimizing the risk of fraud. The shareholders are surely entitledto ask, if all the significant risks had been reviewed and appropriate actions taken to mitigate them andwhy a wealth destroying event could not be anticipated and acted upon.

The report created mixed feelings and with some more frauds emerging in UK, Governance came to mean

the extension of Directors responsibility tall relevant control objectives including business riskassessment and minimizing the risk of fraud. The shareholders are surely entitled to ask, if all thesignificant risks had been reviewed and appropriate actions taken to mitigate them and why a wealth

destroying event could not be anticipated and acted upon.

The one common denominator behind the corporate failures and frauds was the lack of effective riskmanagement and the role of the Board of Directors. When it became clear that merely reviewing the

internal processes of control were not enough and, therefore, risk management had to be embodiedthroughout the organization, an easy solution was found by passing on this responsibility to the internalaudit.

REACTIONS

TO

THE

CADBURY

REPORT

Much of the initially adverse reaction to the draft of the Cadbury Report published in May 1992 was mollified by

the mellowing of the language in the final report that December. The Reports fits firmly into the Anglo-American corporate tradition of favoring checks and balances to the potentially heavy hand of regulation,

and thus while its recommendations were widely welcomed, there was doubt as to how effective theseprovisions would prove when companies were under no obligation to enforce them. Sir Adrian Cadburyhad two responses to these concerns. Firstly he declared that it was up to shareholders, as the owners ofthese companies, to exert the necessary pressure toward compliance. Added to this was therecommendation for a follow-up committee to evaluate implementation of the Reports findings, with thesuggestion that if companies were not found to be complying, "it is probable that legislation and external

regulation will be sought". This was not a strategy Sir Adrian relished, and he voiced worries that AdrianHiggs would be unable to resist pressures for legislative solutions in his2003 report on the role and effectivenessof non-executive directors (worries that ultimately proved unfounded).The major legacy of the report is the


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widespread acceptance of the division of the roles of Chief Executive and Chairman: almost 90% of listedUK companies had separate individuals fulfilling these positions in 2007, while just over 50% of US

companies did so according to a 2008 survey by the National Association of Corporate Directors. Thishas diminished the cult of personality surrounding such figures, and avoided the domination of boardsand companies by individuals whose agendas all too easily went unchecked. Sir Stuart Rose at Marks andSpencers is one of the few prominent people to have recently combined the two, and despite his stellar

performance M&S shareholders voted against him continuing in both jobs by margin of almost 38% at the 2009 AGM

Documents

Adrian Cadbury