From the TUC

The EU is asking the right questions on corporate governance

06 Apr 2011, by in International

The European Commission has just published its Green Paper on Corporate Governance (closing date for responses 22 July). It covers three areas: the board of directors, shareholders and the role of comply or explain in corporate governance.

From a UK perspective, the inclusion of this last section is interesting, because the concept of ‘comply or explain’ as a means of ‘enforcing’ codes – in other words, either do what the code says or explain why you haven’t – has had a significant role in UK corporate governance since the 1990s. The UK Code of Corporate Governance is ‘enforced’ using comply or explain, and many in the UK see the Code and the flexibility of its enforcement as a strength of the UK system. However, it is also the case that under ‘comply or explain’, some areas of the Corporate Governance Code have simply been flouted, notably the requirement to take into account pay and conditions elsewhere in the group when setting directors’ pay, which is routinely ignored by companies both in terms of compliance and disclosure. Comply or explain does not always work, and it is good to see the European Commission question the extent to which it should be rolled out further within the EU.

On shareholders, the Green Paper picks up many of the themes raised by Sir David Walker in his review of bank governance in the UK, including short-term investor behaviour, the obstacles to investor engagement and conflicts of interests. It asks questions about disclosure of asset managers’ incentive structures, asset manager governance, and whether EU law should require greater disclosure from proxy advisors about their operations. All good questions to ask.

Some of the proposals on boards would have little impact in the UK (eg, a vote on the remuneration report which is already required by UK law), but there is an interesting discussion of the merits of greater board diversity. As well as gender diversity, the paper raises the issue of the range of skills and experience required by boards, noting that boards need experience of ‘the impact of the business on different stakeholders including employees’, which is welcome.

While the Green Paper looks like a useful contribution to the debate about what kind of corporate governance system best supports sustainable companies that can generate sustainable investment returns, how much impact the EU will have on corporate governance in practice remains unclear. Opinion on the value of EU guidelines on corporate governance is split, with a recent survey finding 64% of UK executives are opposed to EU guidelines on corporate governance, while 65% of Continental European executives were in favour (see the FT 4.4.11). Many of the proposals in the Green Paper are very broad and the road to any form of implementation will be a long one. But the Commission is asking the right questions and appears unwilling to go back to ‘business as usual’, which is a good place to start.