By Mika Klaus

Regarding corporate governance codes and the comply or explain-principle (hereinafter: coe-principle) in Europe, a study shows that not all companies sufficiently follow this principle. For over six years, the European Commission tries to solve this problem in several ways. The question arises if the steps the Commission took in order to solve the coe-problem are sufficient enough.

Corporate governance definition

The Organisation for Economic Cooperation and Development (hereinafter: OECD) describes corporate governance as a set of relationships between a company’s management, its board, its shareholders and other stakeholders. Besides that, corporate governance also defines the structure through which the objectives of the company are set and the means of attaining those objectives and monitoring performance are determined. In order to have a good corporate governance framework, the OECD states that the framework should promote transparent and efficient markets that are consistent with the rule of law and express the division of responsibilities with clarity among different supervisory, regulatory and enforcement authorities. [i]

‘Comply or explain’-principle and its problem

In order to apply corporate governance principles that fit every company, the EU corporate governance codes use the coe-rule. Companies have to decide whether they apply the rules or not. If companies do not apply them, they have to explain why.[ii] In EU countries corporate governance codes are not supported by law but the coe-principle is. Article 20 of Directive 2013/34/EU states that listed companies have to refer in their corporate governance statement that they report on their application of a national code on a coe-principle. It is an interesting technique, because the corporate governance codes are supposed to be self-regulation, but they are in some way regulated by law.[iii] The purpose of this principle is that the corporate governance rules in this way will better fit the situation of a specific company. The flexibility of the principle is its advantage. But it appears that in practice the quality of the explanations by departing from corporate governance provisions is not sufficient. The explanations are general, limited or there even is no explanation provided.[iv] It seems that this kind of system leads to legal problems with regard to the responsibility for disclosure and the legal consequences of non-disclosure.[v] In 2009, a study on monitoring and enforcement practices in corporate governance of the EU member states showed that the deficiencies of the practical implementation consists mainly in the form that companies do not provide enough information on deviations and that the quality of the information is not of a satisfactory level. In over 60% of cases where companies do not apply the corporate governance recommendations, they did not explain this sufficiently. This study mentions as a remedy to strengthen the coe-regime. According to the study, creating a reporting framework that will ensure comprehensive and qualitative disclosure by companies could do this.[vi] What is the situation now, six years later, on this problem?

European Commission solving the problem

In response to the study mentioned above, the European Commission published a Green Paper on the EU corporate governance framework in 2011. The purpose of this Green Paper is to assess a more effective corporate governance framework for European companies and, more particular, to improve the quality of explanations given in corporate governance statements by companies. As a solution for this problem, the European Commission mentions to introduce more detailed requirements for the information to be published by companies departing from the recommendations.[vii]

In this Green Paper the Commission stated there is a gradual improvement in the field of sufficient explanation of the coe-principle since the study of 2009, which I mentioned above.[viii]

In February 2013 the European Commission published a roadmap on enhancing the EU corporate governance framework. The purpose of this roadmap has the same purpose as the Green Paper, namely to improve the quality of corporate governance explanations. The Green Paper mentions also as a solution to provide more detailed guidance on the application of the coe-principle. However, more detailed guidance entails, unfortunately, disadvantages, for example less flexibility for Member States.[ix]

In April 2014 the Commission did a Recommendation on the quality of corporate governance reporting. The purpose of this Recommendation is to guide companies and help them to improve the quality of their corporate governance reporting.[x] The Recommendation with regard to the quality of explanations in case of departure from a code determines that each departure from an individual recommendation companies should (a) explain in what manner the company has departed from a recommendation; (b) describe the reasons for the departure; (c) describe how the decision to depart from the recommendation was taken within the company; (d) where the departure is limited in time, explain when the company envisages complying with a particular recommendation; and (e) where applicable, describe the measure taken instead of compliance and explain how that measure achieves the underlying objective of the specific recommendation or of the code as a whole, or clarify how it contributes to good corporate governance of the company.[xi] So, these recommendations are a good step forward in improving the quality of the departure of corporate governance rules, but they are still recommendations and companies are not obliged to follow them.

As a final provision the Commission recommends to carry out efficient monitoring on national level in order to motivate companies to comply with relevant corporate governance code or to better explain departures from it.[xii] I regard this as a good way to give companies an incentive to improve the quality of their corporate governance, but this remains a recommendation and Member States could disregard it.


In my regards, the real problem of the fact that these rules are not working is the voluntary aspect. In this situation, there are no legal consequences on the companies if they do not sufficiently apply the coe-principle. The Commission is then left behind begging, hoping that European companies follow their recommended rules. The problem will not be solved when the Commission recommends how to use this voluntary rule, because it still does not lead to any consequences for companies. The idea that companies voluntarily can apply and adapt a corporate governance code sounds perfect, but without legal consequences for companies, it just does not work. Concluding, if the corporate governance codes are so important as the European Commission implies, I would recommend that companies do not have to apply it on voluntary basis, but on compulsory basis along with legal consequences in situations when codes are not applied correctly.

[i] OECD Principles of Corporate Governance, Organisation for Economic Co-operation and Development: 2004.

[ii] C. van der Elst, ‘Economic View on Corporate Law and Corporate Governance in Europe’, Department of Business Law, Tilburg University: January 2014.

[iii] K. J. Hopt, ‘Comparative Corporate Governance: The State of the Art and International Regulation’, The American Journal of Comparative Law: Vol. 59-2011.

[iv] European Commisson, ‘Green Paper: The EU Corporate Governance Framework’, April 2011.

[v] Marcus Lutter in Ringler et al., ‘Kommentar zum Deutschen Corporate Governance Kodex’ (4th ed. 2010).

[vi] RiskMetrics Group, ‘Study on Monitoring and Enforcement Practices in Corporate Governance in the Member States’, September 2009.

[vii] European Commisson, ‘Green Paper: The EU Corporate Governance Framework’, April 2011.

[viii] European Commisson, ‘Green Paper: The EU Corporate Governance Framework’, April 2011.

[ix] European Commission, ‘Roadmap: Enhancing the EU Corporate Governance Framework’, February 2013.

[x] Commission Recommendation on the quality of corporate governance reporting (‘comply or explain’), 2014/208/EU.

[xi] Commission Recommendation on the quality of corporate governance reporting (‘comply or explain’), 2014/208/EU, section III.

[xii] Commission Recommendation on the quality of corporate governance reporting (‘comply or explain’), 2014/208/EU, section IV.