CLS Holdings

INTRODUCTION
The principal corporate governance rules which applied to the Company in the year under review were those set out in the UK Corporate Governance Code published by the Financial Reporting Council (“FRC”) in June 2010 (the “Code”), the UK Financial Services Authority (“FSA”) Listing Rules and the FSA’s Disclosure and Transparency Rules.

Responsibility
The Board has overall responsibility for corporate governance and is accountable to the Company’s shareholders for good governance. It is committed to achieving a high standard of corporate governance which best fits the Group, as it recognises that this contributes to better performance by assisting the Board to discharge its duties in the best interests of shareholders. The Board fully supports the principles of good governance as set out in the Code, which is publicly available on the FRC’s website(www.frc.org.uk).

Changes in the Year
During the year, the Company made some important enhancements to its governance structure following feedback received from institutional shareholders and trade associations, which are explained in more detail below. The Board considers that these changes have better aligned the Company to corporate governance best practice requirements which in turn reassures all stakeholders that their investment is properly safeguarded.

Compliance with the Code
The Code contains a number of additional requirements applicable to FTSE 350 companies. At the date of this report the Company is not a constituent of the FTSE 350, however, in demonstrating its commitment to good corporate governance the Board has adopted a number of these requirements, as explained below. Save as identified and explained below, the Board considers that throughout 2011 it complied with the Main Principles and the supporting principles as set out in Section 1 of the Code.

The Role of the Board
The Board, which met four times during the year, is responsible to the shareholders of the Company for the strategy and future development of the Group and the management of its resources. The Board’s primary objective is to add value to the assets of the Group by identifying and assessing business opportunities as they arise and ensuring that associated risks are identified, monitored and controlled. The Board has a formal schedule of matters specifically reserved to it for decision. Matters reserved for Board decisions include identifying strategic long-term objectives and the capital structure of major transactions. The implementation of Board decisions and the day-to-day operations of the Group are delegated to the Executive Directors.

Strategy
Strategy is determined after having taken due regard of relevant forecasts, and domestic and international developments. The views of shareholders are sought by the Executive Directors and are reported back to the Board. The Board is also appraised of the views of shareholders, analysts and potential investors by the Company’s advisers.

Performance Monitoring
Group and divisional performance, budgets and quarterly financial forecasts including net assets and cash flow projections are formally reviewed by the Board on a quarterly basis. In addition the Executive Directors monitor cash flows and the performance of the investment portfolio weekly.

Conflicts of Interest
The Company’s Articles of Association contain procedures to deal with Directors’ conflicts of interest. The Board considers that these have operated effectively during the year.

Meetings
The attendance of Directors at meetings during the year is set out below:

(1) Appointed Member of the Remuneration Committee on 1 July 2011
(2) Stepped down as a member of the Remuneration Committee on 1 July 2011
(3) Appointed Chairman of the Remuneration Committee on 1 July 2011
(4) Stepped down as a member of the Audit Committee and Chairman of the Remuneration Committee on 1 July 2011
(5) Appointed to the Board on 16 August 2011

In addition to attending Board meetings, senior management meet regularly to discuss management issues relating to the Group both formally and informally.

Insurance
The Company has arranged insurance cover in respect of legal action against its directors and officers. The Company has granted indemnities to each of the Directors and other senior executives, uncapped in amount but subject to applicable law, in relation to certain losses and liabilities which they may incur in the course of acting as directors or employees of the Company or of one or more of its subsidiaries or associates.

Division of Responsibilities
There is a division of responsibilities between the Executive Chairman, who is responsible for the overall strategy of the Group, the Executive Vice Chairman who supports the Executive Chairman, and the Chief Executive Officer, who is responsible for implementing the strategy and for the day-to-day running of the Group. The Chief Executive Officer is assisted by the senior management team. The Board has approved a written statement of the division of responsibilities between the Executive Chairman and the Chief Executive Officer.

A separate statement on the responsibilities of the Executive Vice Chairman and his role alongside the Executive Chairman and Chief Executive Officer has been reviewed by the Board.

The Company does not comply with provision A3.1 of the Code, as the Executive Chairman was not independent on appointment.

There have been no significant changes to the commitments of the Executive Chairman during the year.

Non-Executive Directors
Mr Cooper is the Senior Independent Non-Executive Director and he is available to shareholders who do not wish to approach the Executive Chairman, the Executive Vice Chairman or the Chief Executive Officer about a Company matter.

During the year the Executive Chairman conferred with the Non-Executive Directors without the other Executive Directors present. A formal meeting of the Non-Executives took place during the year, without the Executive Directors or the Chairman present, and at which a thorough review of the performance of the Executive Chairman took place. The appointment of Mrs Terry as an independent Non-Executive Director has further strengthened the depth of knowledge and experience of the Board, and her biography can be found in the 2011 Annual Report.

The Board was satisfied with the experience, expertise and performance of each board member; they continue to add significant value to the operation of the Company through their combined knowledge and experience, and exercise objectivity in decision-making and proper control of the Company’s business.

Composition of the Board
The Board comprises four Executive Directors, including the Executive Chairman, and seven Non-Executive Directors, three of which the Board has determined to be independent for the purposes of the Code.

Their biographies can be found in the 2011 Annual Report.

On 1 January 2011 Richard Tice became Chief Executive Officer and Henry Klotz became Executive Vice Chairman. In addition, Thomas Lundqvist stepped down as Vice Chairman but remained a Non-Executive Director.

The Board is assisted by the Audit and Remuneration Committees, the Terms of Reference for which can be obtained from the Company Secretary.

Independence
Guidance to the Code recommends that for FTSE 350 companies at least half the Board, excluding the chairman, should comprise independent Non-Executive Directors. As the Company was not a constituent of the FTSE 350 and had three independent non-executive directors, it was compliant in the year with provision B.1.2, which states that companies outside the FTSE 350 should have two independent non-executive directors.

As the Executive Chairman is beneficially interested in over half of the shares in the Company, the Board is fully aware of the need for independent non-executive directors to challenge the views of the executive team and contribute to the Company’s overall strategy. On 16 August 2011, Brigith Terry was appointed as a third independent Non-Executive Director. Mrs Terry brings with her a wealth of international real estate bank financing experience.

The Board has determined that, under the Code Guidance, Brigith Terry, Malcolm Cooper and Christopher Jarvis were independent in character and judgement and that there were no relationships or circumstances which could materially affect or interfere with the exercise of their independent judgement.

The Board further determined that, under the Code Guidance, four Non-Executive Directors, Joseph Crawley, Thomas Lundqvist, Jennica Mortstedt and Thomas Thomson, were not independent. Mr Lundqvist has served on the Board for more than nine years. Miss Mortstedt is the niece of the Executive Chairman and Mr Lundqvist is the Vice Chairman of the Sten Mortstedt Family and Charity Trust. Mr Crawley has a close family tie with the Executive Chairman by way of marriage. Mr Thomson has been an employee of the Group within the last five years and has served on the Board for more than nine years from the date of his first election.

Appointments to the Board
The Board considered the setting up of a separate Nomination Committee, as recommended by the Code, but due to the size and nature of the Company, decided that this function was better carried out by the Executive Chairman and other Directors, Non-Executive and Executive, as appropriate for each appointment. Given that there is no formal Nomination Committee, the Company is not compliant with provision B.2.1 of the Code.

Following its annual board evaluation and having regard to stakeholder feedback the Board reviewed its balance of skills, knowledge and experience. It considered that an appointment of an additional independent Non-Executive Director with related industry and bank financing experience would be beneficial to the Board.

Rather than use the services of an external search consultancy, or openly advertise the position, the Company decided to use its own extensive network base. Mrs Terry was identified from a list of potential candidates who had the relevant and requisite experience that the Board was seeking. Following interviews with the Executive Board members, the Senior Independent Non-Executive Director and other Non-Executive Directors, it was agreed that Mrs Terry would be a valued addition to the Board.

Revision to the Code
A revision of the Code, to be issued in 2012 and apply to financial years beginning on or after 1 October 2012, will address board diversity, including gender. Whilst the Board does not intend to pre-empt the provisions of the revised Code, it is the Board’s policy to review the balance of skills, knowledge and experience on the Board regularly, and to make changes to its composition irrespective of gender or any other form of discrimination.

Board Evaluation
During the year, the Board undertook its annual performance evaluation survey led by the Senior Independent Non-Executive Director, with assistance from the Company Secretary. The evaluation was based on an extensive questionnaire which addressed three key areas: membership of the board, board performance and board operation. The questionnaire enabled the Directors to score performance in each of these key areas and also provided an opportunity to raise any other issues outside of these. The confidential responses were compiled into a non-attributable report by the Senior Independent Non-Executive Director and provided to the Executive Chairman.

From the evaluation, the Directors considered that the Board and its committees were effective and that improvements had been made during the year to their composition and diversity, which had been identified in the 2010 evaluation survey. Further, improvements had been made to increase the Non-Executive’s interaction with staff at all levels within the Company. The key themes arising from the evaluation which will form an action plan for 2012 are succession planning, future strategy and greater involvement with key employees.

In addition, the Senior Independent Non-Executive Director led a separate performance review of the Executive Chairman which involved a comprehensive review involving all of the Non-Executive Directors. The results were subsequently fed back to the Executive Chairman.

The Board notes provision B.6.2 of the Code, requiring an externally facilitated evaluation for FTSE 350 companies every three years. As the Company is not a constituent of the FTSE 350, this provision does not apply, but the Board has considered such an evaluation. Due to the prohibitive cost of an externally facilitated evaluation and the current structure of the Board, the Company intends to continue to undertake an annual performance evaluation survey internally.

Information, Support and Development
Board members are given appropriate documentation in advance of each Board and Committee meeting and senior executives attend Board meetings to present and discuss their areas of speciality. In making commercial assessments the Directors review detailed plans including financial viability reports which, among other things, detail the impact of proposals on return on capital, return on cash and the likely impact on the income statement, cash flows and gearing.

Directors are able to obtain independent professional advice at the Company’s expense and have access to the services of the Company Secretary. They are given appropriate training and assistance on appointment to the Board and later, if and when required.

The Company offers all directors the opportunity to update their skills and knowledge, and familiarity with the Company in order to fulfil their role on the Board. During the year, members of the Board have attended seminars on, inter alia, executive remuneration and the responsibilities of directors. In addition, meetings with senior managers within the Company have been arranged to further familiarise Non-Executive Directors with the Company.

Re-election
Under the Articles of Association, which can be amended by a special resolution of the shareholders, the Board has the power to appoint directors and, where notice is given signed by all the other directors, to remove a director from office.

All Directors are subject to election by shareholders at the first Annual General Meeting following their appointment. Provision B.7.1 of the Code requires all Directors of FTSE 350 companies to seek re-election by shareholders annually. As it is not a constituent of the FTSE 350, this does not apply to the Company, but nevertheless the Board has implemented this provision. Accordingly, all Directors will be seeking election or re-election, as appropriate, at the forthcoming Annual General Meeting and their details are contained in the Directors’ Report in the 2011 Annual Report.

The terms and conditions of appointment of Non-Executive Directors are set out in a letter of appointment, which provides for their removal in certain circumstances, including under s168 Companies Act 2006. Their letters of appointment also set out what is expected of them and the time expected for them to meet their commitment. Non-Executive Directors are expected to serve two three-year terms, although the Board may invite them to serve for an additional period, subject to a rigorous review. The terms of appointment of the Non-Executive Directors can be obtained on request to the Company Secretary.

The Board is required to present a balanced and understandable assessment of the Company’s position and prospects, which are explained in this Annual Report.

The Audit Committee
The Board has established an Audit Committee to monitor the formal and transparent arrangements for its corporate reporting and risk management and internal control principles, and for maintaining an appropriate relationship with the Company’s Auditor.

The Audit Committee comprises Malcolm Cooper (Chairman) and Christopher Jarvis. The Board was satisfied that Mr Cooper and Mr Jarvis were independent and Mr Cooper was regarded as having recent and relevant accounting and financial experience. Mr Lundqvist stepped down as a member of the Committee on 1 July 2011. As a result of this change, the Committee complied with the recommendation contained in C.3.1 of the Code.

The Committee met three times during the year. Certain senior management and the Company’s Auditor are normally invited to attend the meetings.

Duties of the Audit Committee
The principal duties of the Committee are to review the half yearly and annual financial reports before their submission to the Board and to consider any matters raised by the Company’s Auditor. The Committee also reviews the Interim Management Statements of the Company and the independence and objectivity of the Company’s Auditor, taking into account relevant professional and regulatory requirements and the relationship with the Company’s Auditor as a whole.

The Committee is also responsible for the development, implementation and monitoring of the policy on the provision by the Company’s Auditor of any non-audit services, so as to ensure the objectivity and independence of the Company’s Auditor. The policy, which is based on the FRC’s Guidance on Audit Committees (December 2010) and reviewed annually, categorises non-audit services as: excluded; permitted without approval from the Committee but subject to approval by the Chief Financial Officer of up to 10% of the annual aggregate Group audit fee (or £20,000 whichever is smaller); and permitted with approval from the Committee over and above this figure. Individual projects with a fee in excess of £30,000 require the pre-approval of at least one member of the Committee.

The terms of reference of the Committee reflect current best practice, including authority to:

• recommend the appointment, re-appointment and removal of the external auditor;
• ensure the objectivity and independence of the auditor including occasions when, in accordance with the specific policy, non-audit services are provided, by monitoring fees and letters of engagement; and
• ensure appropriate “whistle-blowing” arrangements are in place.

Activities of the Audit Committee
During the year the Committee formally reviewed the annual financial report and the half-yearly financial report, focusing on key areas of judgement and complexity, critical accounting policies and any changes required to them. It also reviewed the audit strategy and the findings of the external auditor from their review of the half yearly financial report and their audit of the annual financial report. In accordance with the Audit Committee Guidance 2008, the Committee reviewed and endorsed the internal controls and risk management systems of the Group. The Committee also reviewed the whistle-blowing procedures, which had not been utilised during the year and were deemed to be appropriate.

The Committee also met with the Group’s valuers, Lambert Smith Hampton, Colliers International and Jones Lang LaSalle, to discuss the methodology used for the bi-annual valuations of the Group’s properties.

The external audit was last put out to tender in 2007 when the current auditor, Deloitte LLP, was appointed, and the lead audit partner has been in place since that time. There are no contractual obligations to restrict the Company’s choice of external auditor.

The Company adopts best practice with regard to audit partner rotation and the lead audit partner will rotate in 2012.

Internal Audit
Due to the relatively low number of personnel employed within the Group, the nature of the business and the current control and review systems in place, the Committee recommended, and the Board decided, not to establish an internal audit department.

Risk Management and Internal Control
The Company has internal control and risk management systems in place for the Company’s financial reporting process and the preparation of the Group accounts.

It is the Company’s aim to manage risk and to control its business and financial affairs economically, efficiently and effectively so as to be able to exploit profitable business opportunities in a disciplined way, avoid or mitigate risks that can cause loss, reputational damage or business failure, and enhance resilience to external events. The Board acknowledges that the Directors are responsible for the Group’s system of internal control and risk management and has established procedures which are designed to provide reasonable assurance against material misstatement or loss. These procedures have operated for the entire financial year and up to the date of approval of the Annual Financial Report.

The Audit Committee has reviewed the effectiveness of the system of internal control and risk management for the period and, as reported to the Board, has not identified any significant weaknesses during the financial year and therefore no remedial action has been necessary. The Directors recognise that such a system can only provide a reasonable and not absolute assurance that there has been no material misstatement or loss.

The key elements of the process by which the system of internal control and risk management is monitored are as follows:

Internal Control
The Company has an established framework for internal financial controls, which is regularly reviewed by the executive management and the Audit Committee, who update the Board on its effectiveness.

The Board is responsible for the Company’s overall strategy, for approving budgets and major investment decisions, and for determining the financial structure of the Group.

The Audit Committee assists the Board in the discharge of its duties regarding the Group’s financial reports and provides a direct link between the Board and the Company’s Auditor through regular meetings.

There is an established organisational structure which has clearly defined lines of reporting and responsibility. The Group has in place control processes in relation to all aspects of its financial dealings, such as the authorisation of banking transactions, capital expenditure and treasury investment decisions.

The Group has a comprehensive system for budgeting and planning whereby quarterly and annual budgets are prepared, monitored and reported to the Board at each meeting. Three-yearly rolling cash flows are updated and distributed to the Executive Directors on a weekly basis to ensure the Group has sufficient cash resources for the short and medium term.

Set out in the 2011 Annual Report is the description of the Group’s operations and the strategy which it employs to maximise returns and minimise risks.

Risks
In line with the revised Turnbull Guidance, the risks which the Group faces are reviewed in Board and executive meetings on an ongoing basis throughout the financial year.

Each business area maintains a process to ensure that key risks are identified, evaluated, managed and reviewed appropriately. This process is also applied at Board level to major business decisions and significant strategy implementations. Furthermore, a fortnightly property activity portfolio update is circulated to the Board which identifies key business risks, developments and opportunities. Additional risk management processes, which include health and safety and environmental risk management, are employed within the businesses.

The Company’s key risks, the areas which they impact and how they are mitigated are described in the 2011 Annual Report.

The Remuneration Committee
The Board has established a Remuneration Committee which develops the Company’s policies on executive remuneration and sets the remuneration packages of individual Directors.

The Remuneration Committee comprises Christopher Jarvis (Chairman) and Malcolm Cooper. The Remuneration Committee met formally six times during the year and held other informal discussions. The Committee considers the employment and performance of individual Executive Directors and determines their terms of service and remuneration in the context of business and personal performance. It also has authority to grant options under the Company’s Executive Share Option Scheme and Company Share Option Plan. No awards were made during the year. Mr Lundqvist and Mr Crawley stepped down as Chairman and member of the Committee on 1 July 2011. As a result of the changes the Company complied with the composition of the Committee recommended in provision D.2.1 of the Code. Full details of the Committee’s work are given in the Remuneration Report in the 2011 Annual Report.

The Company values its dialogue with both institutional and private investors. The Board’s primary contact with institutional shareholders is through the Chief Executive Officer and the Chief Financial Officer, who have regular meetings with institutional shareholders. They also undertake analyst presentations following the Company’s half-yearly and annual financial results, and investor seminars during the year. They are supported by a financial relations adviser and two corporate brokers, all of whom are in regular contact with institutional and retail shareholders, and analysts. Coverage of the Company by analysts is circulated to the Board which in turn ensures that all Directors develop an understanding of the views of institutional shareholders and commentators.

Investor seminars and analyst presentations, including those following the announcement of half yearly and annual financial results are webcast and available on the Company’s website.

The Group issues its annual financial report to each of its shareholders. In accordance with the UK company disclosure regulations the Group does not distribute its half-yearly financial report to shareholders but makes it available on its website. Copies are available on request.

All financial reports and press releases are also included on the Group’s website at www.clsholdings.com.

All shareholders have at least 20 working days’ notice of the Annual General Meeting at which all Directors who are available to attend are introduced and are available for questions. All shareholders are welcome to attend the Company’s Annual General Meeting and to arrange individual meetings by appointment. The views received at such meetings are fed back to the Board.

Proxy Voting
The proxy forms for the Annual General Meeting and General Meetings which were held in 2011 included a “vote withheld” box. Details of the proxies lodged for these meetings were announced to the London Stock Exchange and are on the Company’s website at www.clsholdings.com. Shareholders may also choose to register their vote by electronic proxy on the Company’s website.

The interests of the Directors in the share capital of the Company at the beginning and end of the year are detailed in the Directors’ Remuneration Report in the 2011 Annual Report.

Other than Mr Mortstedt’s 53.34% interest referred to in note 8 of the Directors’ Remuneration Report, as at 2 March 2012 the Company has been notified of the following interests above 3% in the Company’s issued share capital:

There are no shareholders who carry special rights with regard to control of the Company and there are no restrictions on voting rights. The Company knows of no agreements between holders of securities which would result in restrictions on the transfer of securities or on voting rights.

A change of control of the Company following a takeover bid may cause a number of agreements to which the Company or its active subsidiaries is party, such as commercial trading contracts, banking arrangements, property leases and licence agreements, to take effect, alter or terminate. In the context of the Group as a whole, only the banking arrangements are considered to be significant. There are no agreements between the Company and its Directors or employees providing for compensation for loss of office or employment that occur because of a change of control or takeover bid.

This Corporate Governance report applies to the Company and its subsidiaries. It does not include joint ventures or associates.

The Directors are responsible for preparing the Annual Report, Directors’ Remuneration Report and the financial statements in accordance with applicable law and regulations.

Company law requires the Directors to prepare financial statements for each financial year. The Directors are required by the IAS Regulation to prepare the group financial statements under those International Financial Reporting Standards (IFRSs) adopted by the European Union. The group financial statements are also required by law to be properly prepared in accordance with the Companies Act 2006 and Article 4 of the IAS Regulation.

International Accounting Standard 1 requires that financial statements prepared under IFRS present fairly for each financial year the Group’s financial performance and cash flows, and closing financial position. This requires the faithful representation of the effects of transactions, other events, and conditions in accordance with the definitions and recognition criteria for assets, liabilities, income and expenses set out in the International Accounting Standards Board’s “Framework for the preparation and presentation of financial statements”. In virtually all circumstances, a fair presentation will be achieved by compliance with all applicable IFRSs. However Directors are also required to:

• properly select and apply accounting policies;
• present information, including accounting policies, in a manner which provides relevant, reliable, comparable and understandable information;
• provide additional disclosures when compliance with the specific requirements in IFRSs is insufficient to enable users to understand the impact of particular transactions, other events or conditions on the entity’s financial position and financial performance; and
• make an assessment of the ability of the Company and of the Group to continue as a going concern.

The Directors have elected to prepare the parent company financial statements in accordance with United Kingdom Generally Accepted Accounting Practice (UK Accounting Standards and applicable law). The parent company financial statements are required by law to give a true and fair view of the state of affairs of the Company. In preparing these financial statements, the Directors are required to:

• select suitable accounting policies and apply them consistently;
• make judgements and estimates which are reasonable and prudent;
• state whether applicable UK Accounting Standards have been followed, subject to any material departures disclosed and explained in the financial statements; and
• prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Company will continue in business.

Under company law the Directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the Company and of the profit or loss of the Company for the period.

The Directors confirm that to the best of their knowledge the financial statements comply with the above requirements.

The Directors are responsible for keeping proper accounting records which are sufficient to show and explain the Company’s transactions and disclose with reasonable accuracy at any time the financial position of the Company and enable them to ensure that the financial statements comply with the Companies Act 2006. They are also responsible for safeguarding the assets of the Company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities.

The Directors are also responsible for the maintenance and integrity of the corporate and financial information included on the Company’s website. Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions.

Statement of Directors’ responsibilities
We confirm to the best of our knowledge that:

• the financial statements, prepared in accordance with the relevant financial reporting framework, give a true and fair view of the assets, liabilities, financial position and profit of the Company and the undertakings included in the consolidation as a whole; and
• the Business Review, which is incorporated into the Directors’ Report, includes a fair review of the development and performance of the business and the position of the Company and the undertakings included in the consolidation taken as a whole, together with a description of the principal risks and uncertainties they face.

This statement of responsibilities was approved by the Board on 5 March 2012.

By order of the Board

David Fuller BA FCIS
Company Secretary
5 March 2012