The European Confederation of Directors Associations (ecoDa) recognises the importance of the “comply or explain” principle as a method for improving the effectiveness of corporate governance. EcoDa accordingly supports the European Commission’s recommendation of April 2014, which provides guidance to improve the overall quality of corporate governance statements and the application of the “comply or explain” concept.
To this end, ecoDa in close cooperation with Mazars and the European Corporate Governance Codes Network (ECGCN) has taken the initiative to conduct a survey of the corporate governance codes in force,* the monitoring systems developed in the different member states as well as the status of compliance reporting.
Governance and monitoring systems across the EU
Member states usually have one corporate governance (CG) code for listed companies. CG codes are mostly a combined effort between the private and the public sector (with emphasis on private self-regulation). The UK took the lead in developing a code for listed companies based on the concept of “comply or explain” in 1992. The influence of the UK code and the OECD guidelines were important for the other countries when they developed their national CG codes. With the new EU recommendation, all member states now are moving into a more aligned European direction.
The new ecoDa survey shows that in a European context, it is difficult to compare the outcome of compliance with the codes.
Degrees of market capitalization across Europe and shareholders’ structures vary a lot among the member states. The classical example of a stock exchange with widely dispersed shareholding and a high degree of free float is found in the UK. On the other hand, listed companies in continental European countries and, most extremely in Eastern European countries, have a much more stable and concentrated shareholding structure; consequently, they have a free float that is much more limited.
There are also large differences in the legal status of CG codes: they vary considerably in approach with quite different degrees of detail. Codes with detailed provisions should allow for more deviations while codes with high-level principles should make it difficult for companies to explain why they don’t comply with certain principles.
Legal and social cultures differ a lot between the member states too, and this fact has a huge impact on how codes are applied in practice. The initiative to develop a corporate governance code for listed companies has mostly been a combined effort between the private sector and governments/regulators. However, the degree of involvement of governments/regulators is quite different across the states in the survey.
The monitoring approach is also different. The monitoring bodies are different as well as the scope of the monitoring studies (analysis of all parts of the compliance/governance statement or focus on a number of issues; analysis of publicly available information and/or interviews with boards); and the number of companies monitored (covering all listed companies or only a sample and/or a certain category).
As in five other countries, the body responsible for the administering and the development of the CG code in Sweden differs from the body responsible for its implementation and monitoring.
Sweden has clearly defined the cooperation between the two main monitoring bodies by allocating and formalising their specific roles: the Swedish Corporate Governance Board assesses the functioning of the code as such on a macro level, while the stock exchange assesses the individual company’s compliance. An interesting approach has been developed by the Stockholm Stock Exchange; they target the whole set of listed companies but on a rotation basis.
The differences in monitoring among the EU member states poses a problem in the sense that it may create a risk of losing the legitimacy of the “comply or explain” approach. Since codes are not a mandatory regulation in all member countries, it is important to encourage a level playing field in terms of monitoring practices through private initiatives.
As regards “comply or explain”, the overall trend is that compliance is increasing considerably. However, more effort is needed to improve the quality of explanations.
There is still not a uniform approach but there is a clear trend to improve them and to develop additional guidelines in accordance with the recommendations of the EU.
In Sweden, the Corporate Governance Board is wary of such guidelines for fear that they might lead to “boiler-plate” explanations of little information value in each particular case. The governance board considers the actual compliance statistics disquietingly high, fearing that too high a degree of compliance may lead to the code, in reality, becoming a mandatory regulation. In this case, it would risk losing its function as an instrument of continually improving the quality of corporate governance through always being ahead of general practice.
The way forward
The awareness of “comply or explain” should be higher in the capital markets. It is important to show that alternatives to code provisions can serve the same purposes.
Although the “comply or explain” principle allows listed companies the flexibility to deviate from the code provisions, institutional investors, asset managers and proxy advisors often tend to dislike such governance deviations and consider them inferior in quality.
A great deal of persuasive powers are needed to convince the investment society of the advantages of “comply or explain”. Therefore it is important to encourage high-quality explanations when there are deviations from code provisions.
To promote more focus on decision-making on governance matters, and to foster best practices and effective support for governance recommendations for codes, ecoDa will now as a next step in the project conduct a survey of the board’s role in designing an effective framework of corporate governance.
Lars-Erik Forsgårdh is a former chairman of ecoDa and current chairman of the Swedish Academy of Board Directors.
*ecoDa/Mazars study: “Corporate Governance Compliance and Monitoring Systems across the EU”, October 2015.